Study Notes: Capacity Planning
1. Planning Capacity Across the Organization
Capacity is the upper limit or ceiling on the load that an operating unit can handle. It isn't just
about machines; it involves equipment, space, and employee skills.
● The Goal: To achieve a match between long-term capabilities and long-term demand.
● The Risk of Mismatch:
○ Overcapacity: High operating costs (paying for empty space/idle machines).
○ Under-capacity: Strained resources and loss of customers to competitors.
Real-Life Example: Imagine a Coffee Shop.
● Capacity: How many coffees the shop can make in an hour.
● Factors: Number of espresso machines (equipment), size of the counter (space), and
how fast the baristas are (skills).
● Mismatch: If they have 5 machines but only 1 barista, they have "idle capacity"
(overcapacity in equipment). If they have 100 customers waiting but only 1 machine, they
have "under-capacity."
2. Design Capacity vs. Systems (Effective) Capacity
This is a critical distinction in operations management.
A. Design Capacity
The maximum theoretical output of a system under ideal conditions. It assumes nothing
goes wrong—no breaks, no maintenance, no power cuts.
● Example: A car factory designed to produce 1,000 cars a week if it runs 24/7 without
stopping.
B. Effective Capacity (Systems Capacity)
The output a firm expects to achieve given current operating constraints. It is always lower
than design capacity because of:
● Scheduled maintenance.
● Shift changes and breaks.
● Product mix changes (changing a machine to make a different product).
● Example: The same car factory expects to produce 800 cars because they don't run on
Sundays and machines need oiling.
C. Actual Output
The rate of output actually achieved. It cannot exceed effective capacity. It is often lower due
to unplanned events like machine breakdowns or employee absenteeism.
3. Capacity Timing and Sizing Strategies
Organizations must decide when to add capacity and how much to add.
Strategy 1: Capacity Lead Strategy (Proactive)
Adding capacity in anticipation of an increase in demand.
● Pros: Ensures you don't lose customers; keeps competitors out.
● Cons: Expensive if the demand doesn't actually show up.
Strategy 2: Capacity Lag Strategy (Reactive)
Adding capacity only after demand has already increased.
● Pros: High capacity utilization; low risk of "wasted" investment.
● Cons: You lose customers while they wait for you to expand.
Strategy 3: Average Capacity Strategy
Adding capacity to match the average expected demand.
Real-Life Example:
● Lead Strategy: A video streaming service buying extra servers before a hit show like
"Stranger Things" premieres.
● Lag Strategy: A local restaurant adding more tables only after there has been a line out
the door every night for a month.
4. Planning Long-Term Capacity
Long-term capacity decisions involve major capital investments (buildings, expensive tech).
Key Considerations:
1. Economies of Scale: As a plant gets larger, the average cost per unit drops (up to a
certain point) because fixed costs are spread over more units.
2. Diseconomies of Scale: If a plant gets too big, costs start rising again due to complexity,
communication issues, and bureaucracy.
3. Flexibility: Can the capacity be used for other products? (e.g., a bakery that can make
bread and cakes).
5. Numerical Problems: Capacity Measurement
To solve these, you need three formulas:
1. Utilization = (Actual Output / Design Capacity) × 100%
2. Efficiency = (Actual Output / Effective Capacity) × 100%
3. Expected Output = (Effective Capacity) × (Efficiency)
Worked Example 1:
Data: * Design Capacity = 50 units/day
● Effective Capacity = 40 units/day
● Actual Output = 36 units/day
Step 1: Calculate Utilization
$$\text{Utilization} = \frac{36}{50} = 72\%$$
(This tells us how much of our "perfect world" potential we are using.)
Step 2: Calculate Efficiency
$$\text{Efficiency} = \frac{36}{40} = 90\%$$
(This tells us how well we are doing against our "realistic" plan.)
Worked Example 2 (Solving for Expected Output):
Problem: A department has an effective capacity of 80 units per day. Their efficiency is 85%.
What is their expected output?
Solution:
$$\text{Expected Output} = \text{Effective Capacity} \times \text{Efficiency}$$$$\text{Expected
Output} = 80 \times 0.85 = 68 \text{ units/day}$$
6. Factors Affecting Location Decisions
(From the PDF: Often linked to capacity expansion)
● Proximity to Markets: To reduce transport costs of finished goods.
● Proximity to Raw Materials: Important for "weight-losing" industries (like steel).
● Labor Availability: Cost and skill level of workers.
● Government Influence: Subsidies or restrictions.