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Chapter 9– Capacity Planning & Facility Location

Operations Managementby

R. Dan Reid & Nada R. Sanders4th Edition © Wiley 2010

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Learning Objectives Define capacity planning Define location analysis Describe relationship between capacity planning and location, and their importance

Explain the steps involved in capacity planning and location analysis

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Learning Objectives – con’t

Describe the decision support tools used for capacity planning

Identify key factors in location analysis

Describe the decision support tools used for location analysis

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Capacity planning Capacity is the maximum output rate of a facility

Capacity planning is the process of establishing the output rate that can be achieved at a facility: Capacity is usually purchased in “chunks” Strategic issues: how much and when to spend capital for additional facility & equipment

Tactical issues: workforce & inventory levels, & day-to-day use of equipment

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Measuring Capacity Examples

There is no one best way to measure capacity Output measures like kegs per day are easier to understand With multiple products, inputs measures work better

Type of Business Input M easures of Capacity

Output M easures of Capacity

Car m anufacturer Labor hours Cars per shiftHospital Available beds Patients per m onthPizza parlor Labor hours Pizzas per day

Retail store Floor space in square feet Revenue per foot

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Measuring Available Capacity

Design capacity: Maximum output rate under ideal conditions

A bakery can make 30 custom cakes per day when pushed at holiday time

Effective capacity: Maximum output rate under normal (realistic) conditions

On the average this bakery can make 20 custom cakes per day

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Measuring Effectiveness of Capacity Use Measures how much of the available capacity is actually being used:

Measures effectiveness Use either effective or design capacity in denominator

100%capacityrateoutput actualnUtilizatio

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Example of Computing Capacity Utilization: A bakery’s design capacity is 30 custom cakes per day. Currently the bakery is producing 28 cakes per day. What is the bakery’s capacity utilization relative to both design and effective capacity?

93%(100%)3028(100%)capacity design

output actual nUtilizatio

140%(100%)2028(100%)capacity effective

output actual nUtilizatio

design

effective

The current utilization is only slightly below its design capacity and considerably above its effective capacity

The bakery can only operate at this level for a short period of time

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Capacity Considerations

The Best Operating Level is the output that results in the lowest average unit cost

Economies of Scale: Where the cost per unit of output drops as volume of output increases

Spread the fixed costs of buildings & equipment over multiple units, allow bulk purchasing & handling of material

Diseconomies of Scale: Where the cost per unit rises as volume increases Often caused by congestion (overwhelming the process with too much work-in-process) and scheduling complexity

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Best Operating Level and Size

Alternative 1: Purchase one large facility, requiring one large initial investment Alternative 2: Add capacity incrementally in smaller chunks as needed

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Other Capacity Considerations Focused factories:

Small, specialized facilities with limited objectives

Plant within a plant (PWP): Segmenting larger operations into smaller operating units with focused objectives

Subcontractor networks: Outsource non-core items to free up capacity for what you do well

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Making Capacity Planning Decisions

The three-step procedure for making capacity planning decisions is as follows:

1. Identify Capacity Requirements2. Develop Capacity Alternatives3. Evaluate Capacity Alternatives

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Identifying capacity requirements

Forecasting Capacity: Long-term capacity requirements based on future demand Identifying future demand based on forecasting Forecasting, at this level, relies on qualitative forecast models

Executive opinion Delphi method

Forecast and capacity decision must included strategic implications

Capacity cushions Plan to underutilize capacity to provide flexibility

Strategic Implications How much capacity a competitor might have Potential for overcapacity in industry a possible hazard

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Developing & Evaluating Capacity Alternatives

Capacity alternatives include Could do nothing, expand large now (may included capacity cushion), or

expand small now with option to add later

Use decision support aids to evaluate decisions (decision tree most popular)

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Decision treesDiagramming technique which uses

Decision points – points in time when decisions are made, squares called nodes

Decision alternatives – branches of the tree off the decision nodes

Chance events – events that could affect a decision, branches or arrows leaving circular chance nodes

Outcomes – each possible alternative listed

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Decision tree diagramsDecision trees developed by

Drawing from left to right Use squares to indicate decision points Use circles to indicate chance events Write the probability of each chance by the chance (sum of associated chances = 100%)

Write each alternative outcome in the right margin

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Example Using Decision Trees: A restaurant owner has determined that she needs to expand her facility. The alternatives are to expand large now and risk smaller demand, or expand on a smaller scale now knowing that she might need to expand again in three years. Which alternative would be most attractive? (see notes)

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Evaluating the Decision Tree

Decision tree analysis utilizes expected value analysis (EVA)

EVA is a weighted average of the chance events Probability of occurrence * chance event outcome

Refer to previous slide At decision point 2, choose to expand to maximize profits ($200,000 > $150,000)

Calculate expected value of small expansion: EVsmall = 0.30($80,000) + 0.70($200,000) = $164,000

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Evaluating the Decision Tree con’t

Calculate expected value of large expansion: EVlarge = 0.30($50,000) + 0.70($300,000) = $225,000

At decision point 1, compare alternatives & choose the large expansion to maximize the expected profit: $225,000 > $164,000

Choose large expansion despite the fact that there is a 30% chance it’s the worst decision: Take the calculated risk!

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Location Analysis Three most important factors in real

estate:1. Location2. Location3. Location

Facility location is the process of identifying the best geographic location for a service or production facility

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Factors Affecting Location Decisions Proximity to source of supply:

Reduce transportation costs of perishable or bulky raw materials

Proximity to customers: High population areas, close to JIT partners

Proximity to labor: Local wage rates, attitude toward unions, availability of special skills (silicon valley)

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More Location Factors Community considerations:

Local community’s attitude toward the facility (prisons, utility plants, etc.)

Site considerations: Local zoning & taxes, access to utilities, etc.

Quality-of-life issues: Climate, cultural attractions, commuting time, etc.

Other considerations: Options for future expansion, local competition, etc.

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Globalization – Should Firm Go Global?

Globalization is the process of locating facilities around the world

Potential advantages: Inside track to foreign markets, avoid trade barriers, gain access to cheaper labor

Potential disadvantages: Political risks may increase, loss of control of proprietary technology, local infrastructure (roads & utilities) may be inadequate, high inflation

Other issues to consider: Language barriers, different laws & regulations, different business cultures

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Making Location Decisions

Analysis should follow 3 step process:1. Identify dominant location factors2. Develop location alternatives3. Evaluate locations alternatives

Procedures for evaluation location alternatives include

Factor rating method Load-distance model Center of gravity approach Break-even analysis Transportation method

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Factor Rating Example

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A Load-Distance Model Example: Matrix Manufacturing is considering where to locate its warehouse in order to service its four Ohio stores located in Cleveland, Cincinnati, Columbus, Dayton. Two sites are being considered; Mansfield and Springfield, Ohio. Use the load-distance model to make the decision.

Calculate the rectilinear distance:

Multiply by the number of loads between each site and

the four cities

miles 4515401030dAB

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Calculating the Load-Distance Score for Springfield vs. Mansfield

The load-distance score for Mansfield is higher than for Springfield. The warehouse should be located in Springfield.

Com puting the Load-Distance Score for SpringfieldCity Load Distance ld

Cleveland 15 20.5 307.5Colum bus 10 4.5 45Cincinnati 12 7.5 90Dayton 4 3.5 14

Total Load-Distance Score(456.5)

Com puting the Load-Distance Score for M ansfieldCity Load Distance ld

Cleveland 15 8 120Colum bus 10 8 80Cincinnati 12 20 240Dayton 4 16 64

Total Load-Distance Score(504)

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The Center of Gravity Approach

This approach requires that the analyst find the center of gravity of the geographic area being considered

Computing the Center of Gravity for Matrix Manufacturing

Is there another possible warehouse location closer to the C.G. that should be considered?? Why?

10.641436

lYlY ; 7.941

325lXlX

i

iic.g.

i

iic.g.

Com puting the Center of Gravity for M atrix M anufacturingCoordinates Load

Location (X,Y) (li) lixi liyiCleveland (11,22) 15 165 330Colum bus (10,7) 10 165 70Cincinnati (4,1) 12 165 12Dayton (3,6) 4 165 24Total 41 325 436

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Break-Even Analysis Break-even analysis computes the amount of goods

required to be sold to just cover costs Break-even analysis includes fixed and variable costs Break-even analysis can be used for location analysis

especially when the costs of each location are known

Step 1: For each location, determine the fixed and variable costsStep 2: Plot the total costs for each location on one graph

Step 3: Identify ranges of output for which each location

has the lowest total costStep 4: Solve algebraically for the break-even points over the identified ranges

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Break-Even Analysis Remember the break even equations used for

calculation total cost of each location and for calculating the breakeven quantity Q.

Total cost = F + cQ Total revenue = pQ Break-even is where Total Revenue = Total Cost

Q = F/(p-c)Q = break-even quantityp = price/unitc = variable cost/unitF = fixed cost

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Example using Break-even Analysis: Clean-Clothes Cleaners is considering four possible sites for its new operation. They expect to clean 10,000 garments. The table and graph below are used for the analysis.

Exam ple 9.6 Using Break-Even AnalysisLocation Fixed Cost Variable Cost Total Cost

A $350,000 $ 5(10,000) $400,000B $170,000 $25(10,000) $420,000C $100,000 $40(10,000) $500,000D $250,000 $20(10,000) $450,000

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The Transportation Method

Can be used to solve specific location problems

Is discussed in detail in the supplement to this text

Could be used to evaluate the cost impact of adding potential location sites to the network of existing facilities

Could also be used to evaluate adding multiple new sites or completely redesigning the network

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Capacity Planning & Facility Location within OM Decisions about capacity and location are highly dependent on forecasts of demand (Ch 8).

Capacity is also affected by operations strategy (Ch 2), as size of capacity is a key element of organizational structure.

Other operations decisions that are affected by capacity and location are issues of job design and labor skills (Ch 11), choice on the mix of labor and technology, as well as choices on technology and automation (Ch 3).

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Capacity Planning and Facility Location Across the Organization

Capacity planning and location analysis affect operations management and are important to many others Finance provides input to finalize capacity decisions

Marketing impacted by the organizational capacity and location to customers

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Chapter 9 Highlights Capacity planning is deciding on the maximum output rate of a facility

Location analysis is deciding on the best location for a facility

Capacity planning and location analysis decision are often made simultaneously because the location of the facility is usually related to its capacity.

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Chapter 9 Highlights – con’t

In both capacity planning and location analysis, managers must follow three-step process to make good decision. The steps are assessing needs, developing alternatives, and evaluating alternatives.

To choose between capacity planning alternatives managers may use decision trees, which are a modeling tool for evaluating independent decisions that must be made in sequence.

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Chapter 9 Highlights – con’t

Key factors in location analysis included proximity to customers, transportation, source of labor, community attitude, and proximity to supplies. Service and manufacturing firms focus on different factors. Profit-making and nonprofit organizations also focus on different factors.

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Chapter 9 Highlights – con’t

Several tools can be used to facilitate location analysis. Factor rating is a tool that helps managers evaluate qualitative factors. The load-distance model and center of gravity approach evaluate the location decision based on distance. Break-even analysis is used to evaluate location decisions based on cost values. The transportation method is an excellent tool for evaluating the cost impact of adding sites to the network of current facilities.

Chapter 9 Homework Hints

Problem 9.5: calculate utilizations based on design and effective capacities (see example 9.1). Present conclusions.

Problem 9.14: use factor rating method to compare the possible locations (see example 9.3).

Problem 9.15: use load-distance model to compare locations (see example 9.4).

Problem 9.16: use center-of-gravity method. Use data from problem 15 (e.g. load between city and warehouse) to determine desired coordinates for the new warehouse.