# Chapter 9– Capacity Planning & Facility Location

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Chapter 9– Capacity Planning & Facility Location
COURAGE IS BEING SCARED, BUT MOUNTING UP ANYWAY - John Wayne 5 Problems recommended with this chapter 3 - Capacity 7 - Decision Tree 12 or 13. Site Selection (factor rating method) 15. Load-Distance Model 16. Grid (gravity) site selection (builds on #15. Why are capacity & Location discussed in the same chapter?

Learning Objectives Define capacity planning and location analysis
Describe relationship between capacity planning and location, and their importance to the organization Explain the steps involved in capacity planning and location analysis Describe the decision support tools used for capacity planning Identify key factors in location analysis Describe the decision support tools used for location analysis

Capacity planning Capacity is the maximum output rate of a production or service facility Capacity planning is the process of establishing the output rate that may be needed 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

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 What was productivity? Output measures of capacity have a lot of the same features as productivity.

Capacity Information Needed
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 - Need to know this……..

Calculating Capacity Utilization
Measures how much of the available capacity is actually being used: Measures effectiveness Use either effective or design capacity in denominator

Example of Computing Capacity Utilization: In the bakery example the 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? 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

How Much Capacity Is Best?
The Best Operating Level is the output than 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

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

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 Facilities can respond more efficiently if they are small, specialized operations focused on narrow set of objectives (Focused Factories) This slightly conflicts with the economies of scale rationale – current trend is more flexible. Concept can be expanded to large facilities to produce PWP.

Making Capacity Planning Decisions
The three-step procedure for making capacity planning decisions is as follows: Step 1: Identify Capacity Requirements Step 2: Develop Capacity Alternatives Step 3: Evaluate Capacity Alternatives

Identifying capacity requirements
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

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

Evaluating Capacity Alternatives
Many tools exist to assist in evaluating alternatives Most popular tool is Decision Trees Decision Trees analysis tool is: a modeling tool for evaluating sequential decisions which, identifies the alternatives at each point in time (decision points), estimate probable consequences of each decision (chance events) & the ultimate outcomes (e.g.: profit or loss)

Decision tree diagrams
Diagramming 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

Decision tree diagrams
Decision 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

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? The likelihood of demand being high is .70 The likelihood of demand being low is .30 Large expansion yields profits of \$300K(high dem.) or \$50k(low dem.) Small expansion yields profits of \$80K if demand is low Small expansion followed by high demand and later expansion yield a profit of \$200K at that point. No expansion at that point yields profit of \$150K (.70)(200,000) + (.30)(80,000) = \$164,000 (.70)(300,000) + (.30)(80,000) = \$225,000 Pursue large expansion.

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 Figure 9-3 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) (\$200,000) = \$164,000

Evaluating the Decision Tree - continued
Calculate expected value of large expansion: EVlarge = 0.30(\$50,000) (\$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!

Facility Location Three most important factors in real estate:
Facility location is the process of identifying the best geographic location for a service or production facility Important because they are: long term commitments & they are expensive. Rarely is there only one “best” location - some locations satisfy some factors - another may be better for other factors. What kinds of factors are we looking at? (next slide)

Location Factors Proximity to suppliers: Proximity to customers:
Reduce transportation costs of perishable or bulky raw materials Proximity to customers: E.g.: high population areas, close to JIT partners Proximity to labor: Local wage rates, attitude toward unions, availability of special skills (e.g.: silicon valley)

More Location Factors Community considerations: Site considerations:
Local community’s attitude toward the facility (e.g.: 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.

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: Language barriers, different laws & regulations, different business cultures

Location Analysis Methods
Analysis should follow 3 step process: Step 1: Identify dominant location factors Step 2: Develop location alternatives Step 3: Evaluate locations alternatives Procedures for evaluating location alternatives include Factor rating method Load-distance model Center of gravity approach Break-even analysis Transportation method

Factor Rating Example 1. ID dominant factors.
2. Assign weights to each factor representing relative importance (must = 100) 3. Select a rating scale (ie: ) 4. Evaluate each alternative for each factor 5. Multiply rating (location scores) times factor weight 6. Add the results for total score for the location

Calculate the rectilinear distance:
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 Rectilinear Distance = sum of the line segments identifying the location ( ) + ( ) = = 45 miles Multiply time number of trips. Center of Gravity (put on the Board) Sum all Products of Multiplying X coordinates times loads then divide by # of loads (X= 7.9) Do the same for Y coordinates. (Y = 10.6) Break-even analysis calculate total cost & total revenue (where they are equal is the Break even Quantity). Transportation Model - linear programming - won’t do it.

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.

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? 100 48 12

Calculate the rectilinear distance:
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 Rectilinear Distance = sum of the line segments identifying the location ( ) + ( ) = = 45 miles Multiply time number of trips. Center of Gravity (put on the Board) Sum all Products of Multiplying X coordinates times loads then divide by # of loads (X= 7.9) Do the same for Y coordinates. (Y = 10.6) Break-even analysis calculate total cost & total revenue (where they are equal is the Break even Quantity). Transportation Model - linear programming - won’t do it.

Break-Even Analysis 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 costs Step 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 cost Step 4: Solve algebraically for the break-even points over the identified ranges 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

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. From the graph you can see that the two lowest cost intersections occur between C & B (4667 units) and B & A (9000 units) The best alternative up to 4667 units is C, between 4667 and 9000 units the best is B, and above 9000 units the best site is A

The Transportation Method
The transportation method of linear programming can be used to solve specific location problems It is discussed in detail in the supplement to this text It could be used to evaluate the cost impact of adding potential location sites to the network of existing facilities It could also be used to evaluate adding multiple new sites or completely redesigning the network Skip This Slide

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

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 decisions are often made at the same time because they are inter-related. The analysis steps for both capacity and location analysis are assessing needs, developing alternatives, and evaluating alternatives. 1. Capacity Planning - the process of establishing the output rate that can be achieved by a facility. Deciding the maximum output rate of a facility. 2. Location Analysis - determining the best location for a facility 3. Size of a facility, hence capacity, of facility is tied to its location. 4. Capacity --- decision tree Location --- Factor Rating - Load-Distance Model - Center of Gravity - Break-even Analysis - Transportation Model

Chapter 9 Highlights (continued)
To choose between capacity planning alternatives managers may use a modeling tool like decision trees Key factors in location analysis include proximity to customers, transportation, source of labor, community attitude, and proximity to supplies. Location analysis tools include factor ratings, the load-distance model, the center of gravity approach, break-even analysis, and the transportation method. 3 steps: assess need - identify alternatives -- evaluate alternatives Location is usually related to capacity If an expand decision is made it surfaces the issue of where to locate Long-term High cost impact Affects ability to support customer service.

Chapter 9 Highlights - continued
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.

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