Strategic Capacity

&
Capacity Decisions
These slides are only for the learning purposes of the
Operations Management course. Do not distribute these
slides. Slides are not a substitute for readings / textbook
and are only meant to complement the textbook and
readings.

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Capacity Management in Operations Management
◼ Capacity: the ability to hold, receive, store, or accommodate

◼ In business, viewed as the amount of output that a system is

capable of achieving over a specific period of time

◼ Capacity management needs to consider both inputs and outputs

◼ Many industries measure and report capacity in terms of output

◼ Industries whose product mix is very uncertain, like hospitals, often

express capacity in terms of inputs

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Capacity Planning Time Durations

Long range

• Greater than one year

Intermediate range

• Monthly or quarterly plans covering the next 6

to 18 months

Short range

• Less than one month

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Strategic Capacity Planning
◼ Determining the overall level of capacity-intensive resources that
best supports the company’s long-range competitive strategy
◼ Facilities
◼ Equipment
◼ Labor force size

◼ Capacity level selected has a critical impact on response rate, cost

structure, inventory policies, and management and staff support
requirements
◼ Too low and the firm will lose customers and encourage competitors
◼ Too high and firm may have to cut costs or underutilize its capacity

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Capacity Planning - Concepts
◼ Capacity can be defined as the output that a system is capable of achieving
over a period of time

◼ Capacity utilization rate: a measure of how close the firm is to its best possible
operating level

Capacity used
Capacity utilization rate =
Best operating level
◼ Capacity used
◼ rate of output actually achieved

◼ Best operating level

◼ capacity for which the process was designed

◼ Economies of scale: the idea that as a planet gets larger and volume
increases, the average cost per unit tends to drop

◼ Diseconomies of scale: at some point, the plant becomes too large and
average cost per unit begins to increase
 Best Operating Level

For Example: Engineers design engines and assembly lines to

operate at an ideal or “best operating level” to maximize
output and minimize wear

Average
unit cost
of output
Under utilization Over utilization

Best Operating
Level

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 Economies & Diseconomies of Scale

Economies of Scale and the Experience Curve working

100-unit
Average plant
unit cost 200-unit
of output plant 400-unit
300-unit
plant
plant

Diseconomies of Scale start working

Volume
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 Capacity Utilization - Problems
The DD Medical Center has 30 labor rooms, 15 combination labor and delivery
rooms, 3 delivery rooms, and 1 special delivery room reserved for complicated
births. All of these facilities operate around the clock. Time spent in labor rooms
varies from hours to days, with an average of about a day. The average
uncomplicated delivery requires about 1 hour in a delivery room.
During an exceptionally busy 3-day period, 109 healthy babies were born at DD
Medical Center. Sixty babies were born in separate labor and delivery rooms, 45
were born in combined labor and delivery rooms, and only 4 babies required a labor
room and the complicated delivery room. Which of the facilities (labor rooms,
combination labor and delivery rooms, or delivery rooms) had the greatest
utilization rate?

A sandwich manufacturing firm makes sandwich platters with 20 pieces per platter. Each
platter takes 30 minutes to prepare and pack. After 12 platters, the surface is cleaned and
sanitized, which requires a 1-hour changeover. The company operates 7.5 hour shifts, 3 shifts
per day, 220 days per year. If the firm manufactures 7000 platters per year, what is its
capacity utilization?

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Problems for Practice
A process currently services an average of 50 customers per day. Observations in
recent weeks show that its utilization is about 90 percent, allowing for just a 10
percent capacity cushion. If demand is expected to be 75 percent of the current level
in 5 years and management wants to have a capacity cushion of just 5 percent, what
capacity requirement should be planned?

Hoosier Manufacturing operates a production shop that is designed to have the

lowest unit production cost at an output rate of 100 units per hour. In the month of
July, the company operated the production line for a total of 175 hours and produced
16,900 units of output. What was its capacity utilization rate for the month?

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Focus & Flexibility

◼ Capacity focus – the idea that a production facility works best when
it is concentrated on a limited set of production objectives
◼ Focused factory or plant within a plant (PWP) concept

◼ Capacity flexibility – the ability to rapidly increase or decrease

product levels or the ability to shift rapidly from one product or
service to another
◼ Comes from the plant, processes, and workers or from strategies that
use the capacity of other organizations

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Planning Service Capacity vs. Manufacturing Capacity
◼ Time: Goods can not be stored for later use
and capacity must be available to provide a
service when it is needed
◼ Location: Service goods must be at the
customer demand point and capacity must be
located near the customer
◼ Volatility of Demand: Much greater than in
manufacturing

◼ Capacity Utilization & Service Quality

◼ Best operating point is near 70% of capacity

◼ From 70% to 100% of service capacity, what do

you think happens to service quality?
 Making Long Term Capacity Decisions
◼ Decision Theory – Alternatives & Uncertainty
◼ Decision tree - valuable for evaluating different capacity expansion alternatives:
◼ Uncertainty (for example, in demand)

◼ Sequence of decisions (for example, over multiple years)

◼ Decision Process
◼ List the feasible alternatives
◼ List the events
◼ Calculate the payoff for each alternative in each event
◼ Estimate the likelihood of each event (use past data, experience, etc.) - Express it as a
probability
◼ Select a decision rule to evaluate the alternatives

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Macon Controls

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Thank you

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