1. BUAD 306 Chapter 5 - Capacity Planning
If needed: Chapter 8 – Location Planning (Cost Volume ONLY)

2. Daily Capacity “There’s only so many hours in a day…”
“I can’t take it anymore”
“If I eat one more piece, I am going to explode”

3. Capacity Planning
The upper limit or ceiling on the load that an operating unit can handle.
Establishes the overall level of productive resources for a firm.
Enables managers to quantify production capabilities for a firm and make plans accordingly.

4. What to Ask? The basic questions in capacity handling are:
What kind of capacity is needed? (equipment/resources/facility)
How much is needed? (add to existing or build new?)
When is it needed?
WHO / WHAT / WHERE / WHEN / WHY

5. Why Does it Matter? Should meet future demand Affects operating costs
Determines initial cost
Involves long-term commitment (requires lots of $$$)
Affects competitiveness

6. Developing Capacity Alternatives
Design flexibility into systems
Take a “big picture” approach to capacity changes
Prepare to deal with capacity “chunks”
Attempt to smooth out capacity requirements
Must identify the optimal operating level

7. Service Capacity Considerations
Need to be near the customer
Can’t inventory services
Volatility in demand

8. Definitions Design Capacity Effective Capacity Actual output
Maximum obtainable output
Effective Capacity
Maximum capacity given product mix, scheduling difficulties, and other doses of reality.
Actual output
Rate of output actually achieved--cannot exceed effective capacity.

9. Determinants of Effective Capacity
Facilities
Location / layout
Products or services
Standard vs. customized
Processes
Design and execution
Human considerations
Operations
External forces
Design: Planned
Effective: Reality
Actual: Realized

10. Cost-Volume Analysis
Relationships between cost, revenue, and volume of output.
Variable costs vary directly with volume of output.
Break-even point - the volume of output at which total cost and total revenue are equal.

11. Assumptions of Cost-Volume Analysis
One product is involved
Everything produced can be sold
The variable cost per unit is the same regardless of the volume
Fixed costs do not change with volume changes
The revenue per unit is the same regardless of volume

12. Cost-Volume Relationships
Amount ($)
Q (volume in units)
Total cost = VC + FC
Total variable cost (VC)
Fixed cost (FC)

13. Cost-Volume Relationships
Amount ($)
Q (volume in units)
Total revenue

14. Cost-Volume Relationships
Amount ($)
Q (volume in units)
BEP units
Profit
Total revenue
Total cost
Loss

15. BEP Calculations To calculate a break-even point: QBEP = FC R - VC
To calculate Total Profit:
P = Q(R - VC) - FC
To calculate the required volume, Q, needed to generate a specified profit, P :
Q = P + FC
R – VC
where
Q = Quantity
R = Revenue/unit
VC = Variable cost/unit
FC = Fixed Cost

16. Example A Process Fixed Variable A 250,000 15 B 350,000 10 C 100,00030
What is the breakeven point for each if revenue = 50?
Which would you choose?

17. Example A – Part 2 Process Fixed Variable Capacity A 250,000 15 12,000
350,000 10
10,000 C
100,000 30
4,000
Are you still comfortable with your selections from before given the capacities above?
What if demand was expected to be 20,000 for ever?

18. FACTORY EXAMPLE Location Fixed Variable Capacity South 30,000 5 15,000
North
50,000 2
9,000
West
10,000 6
4,000
BEP given revenue = 10, which do you choose?
Are you still comfortable with your selections from before given the capacities above?
If demand is to range from 7,000–9,000?
If demand was expected to be 14,000-20,000?
If demand was to be around 5,000 steadily?

19. Total Cost Analysis Comparisons between 2 or more alternatives:
TC = FC + Q (VC)

20. Example B Process Fixed Variable A 250,000 15 B 350,000 10
Which process to use at low volumes?
Which process to use at very high volumes?
Point of indifference between the two processes?

21. Example B – Part 2 Process Fixed Variable A 250,000 15 B 350,000 10 C
100,000 30

22. Example B – Part 3 Process Fixed Variable Capacity A 250,000 15 25,000
350,000 10
50,000 C
100,000 30
8,000

23. Example C Machine Fixed Variable Capacity X 100,000 10 50,000 Y
300,000 5
60,000 Z
500,000 2
80,000

24. HW #7
A firms plans to begin production of a new small appliance. The manager must decide whether to purchase the motors for the item from a vendor for $7 each or produce in house. If produced in house, it would use one of 2 processes: One has an annual FC = $160,000 and VC = $5/unit. The other has an annual FC = $190,000 and a VC = $4/unit.
Determine the range of annual volume for which each alternative would be best.