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Strategic Capacity

Management

Dr. Ron LembkeOperations Management

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Ideal Capacity of a Process

What is the capacity of the system?

Should we add any capacity?

How should we run the system? Where should we keep inventory?

50/hr 20/hr 10/hr40/hr

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Ideal Capacity of a Process

What is the capacity of the system?

6 min 5 min 4 min 5 min

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Productivity

Productivity = Outputs / Inputs

Partial: Output/Labor or Output/Capital

Multifactor:

Output / (Labor + Capital + Energy )

Total Measure:

Output / Inputs

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Automotive Productivity

Book Data:

Jaguar: 14 cars/employee

Volvo: 29 cars/employee

Mini: 39 cars/employee

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Growth of Service Economy

0

1020

30

40

50

60

70

80

185

0 75

190

0 25 50 75

200

0

Services

Industry

Farming

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US Productivity Growth

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Improving Productivity

Develop productivity measurements youcant improve what you cant measure

Identify and Improve bottleneck operationsfirst

Establish goals, document and publicize

improvements

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U.S. Work and Productivity

0

500

1000

1500

2000

2500

US Japan France Germany Norway

0%

5%

10%

15%

20%

25%

30%

35%

40%

Hours

Prod Growth

Source: International Labor Organization, 1999

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What Would Henry Say?

Ford introduced the $5 (per day) wage in 1914

He introduced the 40 hour work week

so people would have more time to buy It also meant more output: 3*8 > 2*10

Now we know from our experience in changing fromsix to five days and back again that we can get at

least as great production in five days as we can in six,and we shall probably get a greater, for the pressurewill bring better methods.

Crowther, Worlds Work, 1926

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Forty Hour Week

Ernst Abbe, Karl Zeissoptics

1896: as much done in9 as in 8.

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Marginal Output of Time

As you work more hours, your productivityper hour goes down

Eventually, it goes negative.

Chapman, 1909

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Crunch Mode

Ea_spouse: 12/04Pre-crunch

SO was working 7 * 13: 91 per week!Maybe time off at 6pm Saturday

$5k signing bonus, couldnt quit

Class action: April 06 $14.9m

Igda.org Why Crunch Mode DoesntWork: 6 Lessons

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Learning Curves

time/unit goes down consistently

Down by 10% as output doubles

We can use Logarithms to approximatethis

If you ever need this, email me, and wecan talk as much as you want

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Example 3.3

Pauls 1 2 3 4 5

Bottles 60 100 150 200 250

Bags 100 200 300 400 500

Newmans

Bottles 75 85 95 97 98

Bags 200 400 600 650 680

0

100

200

300

400

500

600

1 2 3 4 5

Bottles

Bags

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Example 3.3

Bottles 135 185 245 297 348

Bags 300 600 900 1,050 1,180

3 bottle machines 150k each/yr = 450k

5 bag machines, 250k each/yr = 1,250k

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Example 3.3

Bottles 135 185 245 297 348 Machines 1 2 2 2 3 Mach. usage 0.9 1.23 1.63 1.98 2.32 Workers 1.8 2.46 3.27 3.96 4.64

Bags 300 600 900 1,050 1,180

Machines 2 3 4 5 5 Mach Usage 1.2 2.4 3.6 4.2 4.7 Workers 3.6 7.2 10.8 12.6 14.1

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Capacity Tradeoffs

Can we make combinations in between?

150,000

Two-door cars

120,000

4-door

cars

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How much do we have?

We can only sustain so much effort.

Best Operating Level

Output level process designed for

Lowest cost per unit

Capacity utilization = capacity used

best operating level

Hard to run > 1.0 for long

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Time Horizons

Long-Range: over a year acquiring,disposing of production resources

Intermediate Range: Monthly or quarterlyplans, hiring, firing, layoffs

Short Range less than a month, daily or

weekly scheduling process, overtime,worker scheduling, etc.

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Service Differences

Arrival Rate very variable

Cant store the products - yesterdays

flight? Service times variable

Serve me Right Now!

Rates change quickly Schedule capacity in 10 minute intervals,

not months

How much capacity do we need?

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Capacity Levels in Service

Zone of non-service

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Adding Capacity

Expensive to add capacity

A few large expansions are cheaper (per

unit) than many small additions

Large expansions allow of clean sheet ofpaper thinking, re-design of processes

Carry unused overhead for a long time

May never be needed

Small expansions may pave the cow path

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Capacity Planning How much capacity should we add? Conservative Optimistic

Forecast possible demand scenarios(Chapter 10)

Determine capacity needed for likely levels

Determine capacity cushion desired

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Reengineering Business Process Reengineering

(Hammer and Champy)

Companies grow over time, adding plants,lines, facilities, etc.

Growth may not end in optimal form

Re-design processes from ground up

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Capacity Sources

In addition to expanding facilities:

Two or three shifts

Outsourcing non-core activitiesTraining or acquisition of faster equipment

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Decision Trees

Consider different possible decisions, anddifferent possible outcomes

Compute expected profits of each decision

Choose decision with highest expectedprofits, work your way back up the tree.

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Decision Trees Example 3.4, p.65

Computer store thinks demand may grow. Expansion costs $87k, new site $210k, and would cost same if

wait a year New site:

55% chance of profits of $195k. 45% chance of $115k profits.

Expand Current 55% chance of $190k profits 45% chance of $100k profits

Wait and see- enlarge store next year if demand grows If high demand, $190k with expanded store If high demand, $170 with current store If weak demand, $105k with current store

Find the expected profits over 5 years, choose best one.

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Decision Trees

Decision point

Chance events

Outcomes

Calculate expected value of each chanceevent, starting at far right

Working our way back toward thebeginning, choosing highest expectedoutcome at each decision

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Decision Trees

Revenue - Move Cost

Revenue - Move Cost

Revenue Expand Cost

Revenue Expand CostWeak Growth

Weak Growth

Strong Growth

Strong Growth

Move

Expand

Revenue

Rev Expand Cost

Rev - Expand Cost

0.45

0.55

0.55

0.45

WaitandSee

Weak Growth

Strong Growth0.55

0.45

Expand

Do nothing

HackersComputerStore

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Possible 5 year Revenues

New, growth: 195*5 210 = 765

New, low: 115*5 210 = 365 Expand, growth: 190*5 87 = 863

Expand, low: 100*5 87 = 413

Wait, strong, expand: 170+190*4-87=843 Wait, strong, do nothing: 170*5 = 850

Wait, low, do nothing: 105*5 = 525

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Decision Trees

765

365

863

413Weak Growth

Weak Growth

Strong Growth

Strong Growth

Move

Expand

525

843

850

0.45

0.55

0.55

0.45

WaitandSee

Weak Growth

Strong Growth0.55

0.45

Expand

Do nothing

HackersComputerStore

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Making the Decision

Starting at the far right, look at the Waitand See option. If demand is strong, we

would obviously not expand. $850k is better than $843.

Eliminate the Expand option

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Decision Trees

765

365

863

413Weak Growth

Weak Growth

Strong Growth

Strong Growth

Move

Expand

525

843

850

0.45

0.55

0.55

0.45

WaitandSee

Weak Growth

Strong Growth0.55

0.45

Expand

Do nothing

HackersComputerStore

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Expected Values

Move:

0.55* 765 + 0.45*365 = $585,000

Wait and See:0.55*850 + 0.45*525 = $703,750

Expand:

0.55 * 863 + 0.45 * 413 = $660,500

Highest expected value is to Wait and see,and either way, do nothing!

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Decision Trees

765

365

863

413Weak Growth

Weak Growth

Strong Growth

Strong Growth

Move

Expand

525

843

850

0.45

0.55

0.55

0.45

WaitandSee

Weak Growth

Strong Growth0.55

0.45

Expand

Do nothing

HackersComputerStore

$585,000

660,500

703,750

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Other considerations

Another criteria to use is to pick the onewith the highest down side.

Under this, do nothing still wins.

We could also consider the expectedvalue of the future cash streams.

PV = $100/(1+r) = $100/(1.16)=$86.27

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Present Values - p.377

At 16%, Next year is worth 0.862

=(1+rate)^(-years)

Year 2: 0.743Year 3: 0.641

Year 4: 0.552

Year 5: 0.476 195 per year for 5 years: 195 * (3.274)

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Decision Tree-NPV

428,487

166,544

535,116

240,429Weak Growth

Weak Growth

Strong Growth

Strong Growth

Move

Expand

343,801

529,874

556,630

0.45

0.55

0.55

0.45

WaitandSee

Weak Growth

Strong Growth0.55

0.45

Expand

Do nothing

HackersComputerStore

$310,613

402,507

460,857

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Real Options

Assess the value to me of being able tochange my mind in the future

Changed problem slightly -Reduced benefit doing nothing, high demand

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Decision Trees765

365

863

413

Weak

StrongMove

Expand

525

843

820

0.25

0.75

Wait and See

Expand

Do nothing

Hackers

ComputerStore

Weak

Strong0.25

0.75

Weak

Strong0.25

0.75

$465,000

533,000

604,500

820

525Weak

Strong0.25

0.75

Do Nothing

598,750

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Real Options

If we didnt have the wait and see option,we would Do Nothing.

Option to wait and see is worth $5,750

Move

Expand

Wait and See

465,000

533,000

604,500

Do Nothing 598,750$5,750