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Capacity Planning – Outline

Estimate capacity required

Capacity and scale

Make-or-buy analysis

Sizing and timing

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Fundamentals of Capacity Planning

Capacity (or capacity rate): the maximum rate of output of a resource (a process or a system)

Capacity decisions Make or buy Sizing and timing of capacity expansion

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A Systematic Approach

1. Estimate future capacity requirements

2. Identify gaps by comparing requirements with available capacity

3. Develop alternative plans for reducing the gaps

4. Evaluate each alternative, and make a final choice

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Determine Capacity Required

To meet future demand over an appropriate planning horizon

Utilization =

Capacity cushions are the amount of reserved capacity a process uses to handle sudden changes Capacity cushion = 100% – Utilization rate (%)

Average output rateCapacity rate

100%

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Requirement for a resource over a period of one year, M D = demand forecast for the year p = processing time (in hours) per unit of demand N = total # operation hours per year C = capacity cushion (expressed as a percent)

Capacity Required – Single Product/Service

Capacity requirement =

M =D p

N[1 – (C/100)]

Total hours required for a year’s demand

Total hours available from a resource per year, excluding capacity cushion

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Setup times may be required between production lots

Multiple Products/Services

whereQ =number of units in each lots =setup time (in hours) per lot

M =[D p + (D/Q)*s]product 1 + [D p + (D/Q)*s]product 2 + … + [D p + (D/Q)*s]product n

N[1 – (C/100)]

Capacity requirement =

Processing and setup hours required for year’s demand, summed over all services or products

Hours available from a single resource per year, excluding capacity cushion

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Example: Estimating Capacity Required

A copy center in an office building prepares bound reports for two clients. The center makes multiple copies (the lot size) of each report. The processing time to run, collate, and bind each copy depends on, among other factors, the number of pages. The center operates 250 days per year, with one 8-hour shift. Management believes that a capacity cushion of 15 percent (beyond the allowance built into time standards) is best. It currently has three copy machines. Based on the following table of information, determine how many machines are needed at the copy center.

Item Client X Client Y

Annual demand forecast (D) 2,000 6,000

Standard processing time (p) 0.5 0.7

Average lot size (Q) 20 30

Standard setup time (s, in hours) 0.25 0.40

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Make or Buy

If a given increment of capacity must be added “make” – add in-house production capacity “buy” – outsource production

Factors that affect make-buy decision Costs Quality Intellectual property, core competencies, strategic direction Uncertainty in financial markets, Supply chain (risk of disruption, coordination effort, etc.) Flexibility (quantity, technology) Market perception (labeling v. production) Union considerations

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Break-even Analysis

To find the break-even quantity, Q, at which the total “make” cost equals the total “buy” cost cb = variable cost (per unit) of the buy option

cm = variable cost (per unit) of the make option

F = fixed cost of capacity expansion

Cost

Number of units, x

F

0

Cost to make = F + cmx

Cost to buy = cbx

Q

m bF c Q c Q

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(cont’d)

The break-even quantity is

If capacity required < Q, then “buy”

If capacity require > Q, then “make”

b m

QF

c c

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Exercise: Laptop Computer Production

A manufacturer is planning to introduce a new laptop computer. The manufacturer has two options: (i) upgrading an existing capacity and produce in-house (MAKE), and (ii) outsourcing to a supplier (BUY). The costs of the two options are MAKE: $1.2M for upgrading the capacity; $400 per unit for production BUY: the cost per computer (including shipping) will be $500.

1) What is the minimum demand, Q1, that will justify production in-house at unit price $500?

Now, suppose the manufacturer negotiates a price of $450 per unit supplied by the supplier, but with a promise of buying 25,000 or more

2) What’s the manufacturer’s break-even Q2 if the manufacturer were not constrained by this promise? Under this promise, will the manufacturer make or buy if the estimate of the demand is 23,000?

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Capacity and Scale

Economies of scale Spreading fixed costs Reducing construction costs Cutting costs of purchased materials Finding process advantages

Diseconomies of scale Complexity Loss of focus Inefficiencies

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250-bed hospital 500-bed

hospital

750-bed hospital

Output rate (patients per week)

Ave

rage

uni

t cos

t (d

olla

rs p

er p

atie

nt)

Economies of scale

Diseconomies of scale

Example: Hospital Capacity Alternatives

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Capacity Timing and Sizing

Wait-and-see Strategy

Time

Cap

acity

Planned use of short-term options

Time between increments

Capacity increment

Forecast of capacity required

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(cont’d) Timing and Sizing

Expansionist Strategies

Planned unused capacity

Time

Cap

acity

Forecast of capacity required

Time between increments

Capacity increment