CHAPTER 3 AGGREGATE PLANNING

LEARNING OBJECTIVES Define aggregate planning and how it is useful Identify optional strategies for developing an aggregate plan. Prepare and solve an aggregate plan via graphical and quantitative method. Understand and Solve a yield management problem.

Aggregate Planning Intermediate-range capacity planning, usually covering 3 to 18 months. Determine the quantity and timing of production for the immediate future Short range Intermediate range Long range Now2 months1 Year

Aggregate Planning Objective is to minimize cost over the planning period by adjusting  Production rates  Labor levels  Inventory levels  Overtime work  Subcontracting rates  Other controllable variables

Planning Sequence Business Plan Establishes operations and capacity strategies Aggregate plan Establishes operations capacity Master schedule Establishes schedules for specific products Corporate strategies and policies Economic, competitive, and political conditions Aggregate demand forecasts

Aggregate Planning Begin with forecast of aggregate demand Forecast intermediate range General plan to meet demand by setting  Output levels  Employment  Finished goods inventory level Production plan is the output of aggregate planning

Aggregate Planning Inputs Resources  Workforce  Facilities Demand forecast Policies  Subcontracting  Overtime  Inventory levels  Back orders Costs  Inventory carrying  Back orders  Hiring/firing  Overtime  Inventory changes  Subcontracting

Aggregate Planning Outputs Total cost of a plan Projected levels of inventory  Inventory  Output  Employment  Subcontracting  Backordering

Aggregate Planning Strategies Proactive  Alter demand to match capacity Reactive  Alter capacity to match demand Mixed  Some of each

Demand Options Pricing Promotion Back orders Counterseasonal

Capacity Options Inventories Hire and layoff workers Overtime/slack time Subcontracting Part-time workers

Aggregate Planning Options OptionAdvantagesDisadvantagesSome Comments Changing inventory levels Changes in human resources are gradual or none; no abrupt production changes. Inventory holding cost may increase. Shortages may result in lost sales. Applies mainly to production, not service, operations. Varying workforce size by hiring or layoffs Avoids the costs of other alternatives. Hiring, layoff, and training costs may be significant. Used where size of labor pool is large.

Aggregate Planning Options OptionAdvantagesDisadvantagesSome Comments Varying production rates through overtime or idle time Matches seasonal fluctuations without hiring/ training costs. Overtime premiums; tired workers; may not meet demand. Allows flexibility within the aggregate plan. Sub- contracting Permits flexibility and smoothing of the firm’s output. Loss of quality control; reduced profits; loss of future business. Applies mainly in production settings.

Aggregate Planning Options OptionAdvantagesDisadvantagesSome Comments Using part- time workers Is less costly and more flexible than full-time workers. High turnover/ training costs; quality suffers; scheduling difficult. Good for unskilled jobs in areas with large temporary labor pools. Influencing demand Tries to use excess capacity. Discounts draw new customers. Uncertainty in demand. Hard to match demand to supply exactly. Creates marketing ideas. Overbooking used in some businesses.

Aggregate Planning Options OptionAdvantagesDisadvantagesSome Comments Back ordering during high- demand periods May avoid overtime. Keeps capacity constant. Customer must be willing to wait, but goodwill is lost. Many companies back order. Counter- seasonal product and service mixing Fully utilizes resources; allows stable workforce. May require skills or equipment outside the firm’s areas of expertise. Risky finding products or services with opposite demand patterns.

Mixing Options Chase demand strategy:  Matching capacity to demand; the planned output for a period is set at the expected demand for that period Level capacity strategy:  Maintaining a steady rate of regular-time output while meeting variations in demand by a combination of options.

Chase Approach Advantages  Investment in inventory is low  Labor utilization in high Disadvantages  The cost of adjusting output rates and/or workforce levels

Level Approach Advantages  Stable output rates and workforce Disadvantages  Greater inventory costs  Increased overtime and idle time  Resource utilizations vary over time

Graphical Methods Popular techniques Easy to understand and use Trial-and-error approaches that do not guarantee an optimal solution Require only limited computations

Techniques for Aggregate Planning 1. Determine demand for each period 2. Determine capacities for each period 3. Determine units costs 4. Identify policies that are pertinent 5. Develop alternative plans and costs 6. Select the best plan that satisfies objectives. Otherwise return to step 5.

Roofing Supplier Example 1 Table 13.2 MonthExpected DemandProduction Days Demand Per Day (computed) Jan Feb Mar Apr1, May1, June1, , = = 50 units per day 6, Average requirement = Total expected demand Number of production days

Figure – – – – – 0 0 – JanFebMarAprMayJune=Month  =Number of working days Production rate per working day Level production using average monthly forecast demand Forecast demand Roofing Supplier Example 1

Table 13.3 Cost Information Inventory carrying cost $ 5 per unit per month Subcontracting cost per unit $10 per unit Average pay rate $ 5 per hour ($40 per day) Overtime pay rate $ 7 per hour (above 8 hours per day) Labor-hours to produce a unit 1.6 hours per unit Cost of increasing daily production rate (hiring and training) $300 per unit Cost of decreasing daily production rate (layoffs) $600 per unit Plan 1 – constant workforce Roofing Supplier Example 2

Table 13.3 Cost Information Inventory carry cost $ 5 per unit per month Subcontracting cost per unit $10 per unit Average pay rate $ 5 per hour ($40 per day) Overtime pay rate $ 7 per hour (above 8 hours per day) Labor-hours to produce a unit 1.6 hours per unit Cost of increasing daily production rate (hiring and training) $300 per unit Cost of decreasing daily production rate (layoffs) $600 per unit Plan 1 – constant workforce Month Production at 50 Units per Day Demand Forecast Monthly Inventory Change Ending Inventory Jan1, Feb Mar1, Apr1,0501, May1,1001, June1,0001, ,850 Total units of inventory carried over from one month to the next= 1,850 units Workforce required to produce 50 units per day= 10 workers Roofing Supplier Example 2

Table 13.3 Cost Information Inventory carry cost $ 5 per unit per month Subcontracting cost per unit $10 per unit Average pay rate $ 5 per hour ($40 per day) Overtime pay rate $ 7 per hour (above 8 hours per day) Labor-hours to produce a unit 1.6 hours per unit Cost of increasing daily production rate (hiring and training) $300 per unit Cost of decreasing daily production rate (layoffs) $600 per unit Month Production at 50 Units per Day Demand Forecast Monthly Inventory Change Ending Inventory Jan1, Feb Mar1, Apr1,0501, May1,1001, June1,0001, ,850 Total units of inventory carried over from one month to the next= 1,850 units Workforce required to produce 50 units per day= 10 workers CostsCalculations Inventory carrying$9,250(= 1,850 units carried x $5 per unit) Regular-time labor49,600(= 10 workers x $40 per day x 124 days) Other costs (overtime, hiring, layoffs, subcontracting)0 Total cost$58,850 Roofing Supplier Example 2

Figure 13.4 Cumulative demand units 7,000 7,000 – 6,000 6,000 – 5,000 5,000 – 4,000 4,000 – 3,000 3,000 – 2,000 – 1,000 – – JanFebMarAprMayJune Cumulative forecast requirements Cumulative level production using average monthly forecast requirements Reduction of inventory Excess inventory 6,200 units Roofing Supplier Example 2

Table 13.2 MonthExpected DemandProduction Days Demand Per Day (computed) Jan Feb Mar Apr1, May1, June1, , Minimum requirement = 38 units per day Plan 2 – subcontracting Roofing Supplier Example 3

70 70 – – – – – 0 0 – JanFebMarAprMayJune=Month  =Number of working days Production rate per working day Level production using lowest monthly forecast demand Forecast demand Roofing Supplier Example 3

Table 13.3 Cost Information Inventory carrying cost $ 5 per unit per month Subcontracting cost per unit $10 per unit Average pay rate $ 5 per hour ($40 per day) Overtime pay rate $ 7 per hour (above 8 hours per day) Labor-hours to produce a unit 1.6 hours per unit Cost of increasing daily production rate (hiring and training) $300 per unit Cost of decreasing daily production rate (layoffs) $600 per unit Roofing Supplier Example 3

Table 13.3 Cost Information Inventory carry cost $ 5 per unit per month Subcontracting cost per unit $10 per unit Average pay rate $ 5 per hour ($40 per day) Overtime pay rate $ 7 per hour (above 8 hours per day) Labor-hours to produce a unit 1.6 hours per unit Cost of increasing daily production rate (hiring and training) $300 per unit Cost of decreasing daily production rate (layoffs) $600 per unit In-house production=38 units per day x 124 days =4,712 units Subcontract units=6, ,712 =1,488 units Roofing Supplier Example 3

Table 13.3 Cost Information Inventory carry cost $ 5 per unit per month Subcontracting cost per unit $10 per unit Average pay rate $ 5 per hour ($40 per day) Overtime pay rate $ 7 per hour (above 8 hours per day) Labor-hours to produce a unit 1.6 hours per unit Cost of increasing daily production rate (hiring and training) $300 per unit Cost of decreasing daily production rate (layoffs) $600 per unit In-house production=38 units per day x 124 days =4,712 units Subcontract units=6, ,712 =1,488 units CostsCalculations Regular-time labor$37,696(= 7.6 workers x $40 per day x 124 days) Subcontracting14,880(= 1,488 units x $10 per unit) Total cost$52,576 Roofing Supplier Example 3

Table 13.2 MonthExpected DemandProduction Days Demand Per Day (computed) Jan Feb Mar Apr1, May1, June1, , Production = Expected Demand Plan 3 – hiring and firing Roofing Supplier Example 4

70 70 – – – – – 0 0 – JanFebMarAprMayJune=Month  =Number of working days Production rate per working day Forecast demand and monthly production Roofing Supplier Example 4

Table 13.3 Cost Information Inventory carrying cost $ 5 per unit per month Subcontracting cost per unit $10 per unit Average pay rate $ 5 per hour ($40 per day) Overtime pay rate $ 7 per hour (above 8 hours per day) Labor-hours to produce a unit 1.6 hours per unit Cost of increasing daily production rate (hiring and training) $300 per unit Cost of decreasing daily production rate (layoffs) $600 per unit Roofing Supplier Example 4

Table 13.3 Cost Information Inventory carrying cost $ 5 per unit per month Subcontracting cost per unit $10 per unit Average pay rate $ 5 per hour ($40 per day) Overtime pay rate $ 7 per hour (above 8 hours per day) Labor-hours to produce a unit 1.6 hours per unit Cost of increasing daily production rate (hiring and training) $300 per unit Cost of decreasing daily production rate (layoffs) $600 per unit Month Forecast (units) Daily Prod Rate Basic Production Cost (demand x 1.6 hrs/unit x $5/hr) Extra Cost of Increasing Production (hiring cost) Extra Cost of Decreasing Production (layoff cost)Total Cost Jan90041$ 7,200—— Feb700395,600— $1,200 (= 2 x $600) 6,800 Mar800386,400— $600 (= 1 x $600) 7,000 Apr1,200579,600 $5,700 (= 19 x $300) —15,300 May1, ,000 $3,300 (= 11 x $300) —15,300 June1,100558,800— $7,800 (= 13 x $600) 16,600 $49,600$9,000$9,600$68,200 Table 13.4 Roofing Supplier Example 4

Comparison of Three Plans Table 13.5 CostPlan 1Plan 2Plan 3 Inventory carrying$ 9,250$ 0 Regular labor49,60037,69649,600 Overtime labor000 Hiring009,000 Layoffs009,600 Subcontracting014,8800 Total cost$58,850$52,576$68,200 Plan 2 is the lowest cost option

Mathematical Approaches Transportation Method of Linear Programming Management Coefficients Model Other Models oLinear Decision Rule oSimulation

Transportation Method Table 13.6 Costs Regular time$40per tire Overtime$50per tire Subcontracting$70per tire Carrying$ 2per tire per month Sales Period Sales Period MarAprMay Demand8001, Capacity: Regular Regular Overtime Overtime Subcontracting Subcontracting Beginning inventory100 tires

Important points 1.Carrying costs are $2/tire/month. If goods are made in one period and held over to the next, holding costs are incurred 2.Supply must equal demand, so a dummy column called “unused capacity” is added 3.Because back ordering is not viable in this example, cells that might be used to satisfy earlier demand are not available Transportation Example

Important points 4.Quantities in each column designate the levels of inventory needed to meet demand requirements 5.In general, production should be allocated to the lowest cost cell available without exceeding unused capacity in the row or demand in the column Transportation Example

Table 13.7 Transportation Example

Yield Management Allocating company scarce resources to customers at prices that will maximize yield or revenue. Charging different prices Discount

Passed-up contribution Money left on the table Yield Management Example Demand Curve Potential customers exist who are willing to pay more than the $15 variable cost of the room Some customers who paid $150 were actually willing to pay more for the room Total $ contribution =(Price) x (50 =(Price) x (50 rooms) =($150 - $15) x (50) =$6,750 Price Room sales $150 Price charged for room $15 Variable cost of room

Yield Management Example Total $ contribution = (1st price) x 30 rooms + (2nd price) x 30 rooms = ($100 - $15) x 30 + ($200 - $15) x 30 = $2,550 + $5,550 = $8,100 Demand Curve Price Room sales $100 Price 1 for room $200 Price 2 for room $15 Variable cost of room

Yield Management Matrix Duration of use Unpredictable Predictable Price Tend to be fixedTend to be variable Quadrant 1:Quadrant 2: MoviesHotels Stadiums/arenasAirlines Convention centersRental cars Hotel meeting spaceCruise lines Quadrant 3:Quadrant 4: RestaurantsContinuing care Golf courseshospitals Internet service providers

Making Yield Management Work Multiple pricing structures must be feasible and appear logical to the customer Forecasts of the use and duration of use Changes in demand

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