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1

OperationsManagement

Capacity Design

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2

Capacity and Strategy

Capacity decisions must be integrated into

the mission and strategy of organization

All 10 OM decisions as well as marketingand finance are impacted by changes in

capacity

Investments in capacity not to be isolatedbut a coordinated step to achieve

organizations objective

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3

Types of Planning Over a TimeHorizon

Add Facilities

Schedule Jobs SchedulePersonnelAllocateMachinery

Sub-ContractAdd EquipmentAdd Shifts

Add PersonnelBuild or UseInventory

LongRange

PlanningIntermediate RangePlanning

ShortRangePlanning Modify

Capacity

Use

Capacity

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Definition and Measures of Capacity

DesignCapacity:

The maximum throughput, ornumber of units a facility canproduce in a period of time.

Utilization: Actual output as a percent of designcapacity.

Effectivecapacity:

Capacity a firm can expect toachieve given its product mix,methods of scheduling,maintenance, and standards ofquality.

Efficiency:

Actual output as a percent of effectivecapacity.

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Measure of planned or actual capacityusage of a facility, work center, ormachine

UtilizationActual Output

Design Capacity=

Utilization

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Measure of how well a facility ormachine is performing when used

Efficiency Actual outputEffective Capacity=

Efficiency

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Facility produces breakfast rolls

Last week, produced 148,000 rolls

Effective capacity is 175,000 rolls

Line operates 7 days a week with three8-hour shifts per day

Line designed to produce 1200 rolls per

hourDetermine

Design Capacity

Utilization

Efficiency

Example

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Same facility adding one more line due to

increase in demand for deluxe rolls

Effective capacity is 175,000 rolls of this

line

Efficiency of this second line will be 75%

What is the expected output?

Calculating actual output

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Requirements for Making GoodCapacity Decisions

Forecast demand accurately

Understand the technology and

capacity increments

Find the optimal operating level

(volume)

Build for change

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10

Breakeven Analysis

Technique for evaluating process &

equipment alternatives

Objective: Find the point ($ or units)at which total cost equals total

revenue

Assumptions Revenue & costs are related linearly to

volume

All information is known with certainty

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Break-Even Analysis

Fixed costs: costs that continue

even if no units are produced:

depreciation, taxes, debt, mortgage

payments, salaries, etc

Variable costs: costs that vary withthe volume of units produced: labor

wages, materials, portion of utilities

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Breakeven Chart

Fixed cost

Variable cost

Total cost line

Total revenue line

ProfitBreakeven point

Total cost = Total revenue

Volume (units/period)

Costin

Dollars

Loss

Profit

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13

Crossover Chart

Fixed cost - Process A

Fixed cost - Process B

Fixed cost - Process C

Totalcos

t-Proce

ssCTotalcos

t-Pro

cessB

Totalc

ost

-Pro

cess

A

Process A: low volume, high variety

Process B: Repetitive

Process C: High volume, low variety

Process CProcess BProcess A Lowest cost process

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Break Even Contd..

BEPx= FC (units)

P-V

BEPrs.= FC (amount)

1-(V/P)BEPrs.= FC (multi product)

[(1-Vi/Pi)*(Wi)]

P=Selling price, V=variable cost

FC=fixed cost

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BEP Calc.

A company has fixed costs of10000/- this period. Direct costs are1.5/- per unit and material cost is

0.75/- per unit. The selling price is4/- per unit. Calculate the BEPs.

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BEP Calc. in multi product case

ITEM PRICE COST FORECASTEDSALES ANNUALLY

Sandwic

h

2.95 1.25 7000

Cola 0.80 0.30 7000

Burger 1.55 0.47 5000

Tea .75 0.25 5000

Salad 2.85 1.00 3000

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Item P V V/P 1-(V/P) Forecastedsales

% ofsales

wghtd.contribution

sandwich 2.95 1.25 .42 .58 20650 .446 .259

Cola 0.80 .30 .38 .62 5600 .121 .075

Burger 1.55 .47 .30 .70 7750 .167 .117

Tea 0.75 .25 .33 .67 3750 .081 .054

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If the fixed costs are 3500,

BEPrs.= FC[(1-Vi/Pi)*(Wi)]

3500*12 = 67200

0.625

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Decision trees application

A company is considering capacity expansion.it has 3 alternatives. the new facility wouldproduce new type of product and currently themarketability of the product is unknown.

Types of plant favorable mkt.unfavorable mkt.

Large plant 100 k -90k

Medium plant 60k -10k Small plant 40k -5k

The probability of fav and unfav. Markets are0.4 and 0.6 respectively.

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EMV (large plant)=0.4(100k)+(.6)(-90k)=-14k

EMV (medium plant)=0.4(60k)+(.6)(-10k)=18k

EMV (small plant)=0.4(40k)+(.6)(-5k)=13k

Based on Expected market value, the companyshould build a medium plant

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Net Present value

A co. having two capacity expansionalternatives A and B have useful lives of 4years. Initial outlay for A is 25k and that

for B is 26k. The cost of capital is 8%.thecash flow pattern is as follows.

year A B

1 10k 9k

2 9k 9k

3 8k 9k

4 7k 9k