Operations Management: Planning for Capacity

by Greg DePersio

2 min read

Capacity planning is the study of allocating resources to satisfy changing demand. Every business, small and large, in every industry, has a capacity that limits how much it can produce. Whether a business produces physical goods or is in the service sector, capacity limits the amount of work it can do. An accounting firm can conduct only so many audits in a given time based on its staff, technology, and other limiting factors. An automobile manufacturer has a limit to how many cars it can put together in a specific time period. An airline, based on its fleet size, can only fly so many miles in a day. Capacity affects all businesses, but capacity planning enables companies to use their resources in the most efficient way possible.

Capacity Planning Defined

Capacity planning involves determining the level of resource needed to satisfy future demand for a company’s goods or services. It seeks to identify potential inefficiencies that emerge in two scenarios: when the company lacks the capacity to produce enough goods to satisfy demand, or when lagging demand results in resources not being utilized to their full potential. Both situations are problematic. Unfulfilled demand results in an opportunity cost, as unsatisfied demand equals revenue on which the company loses out. With underutilized resources, the company loses money by not getting the most out of its production expenses. Effective capacity planning strives to preempt either scenario.

Capacity Timelines

Capacity affects both the short term and the long term. Short-term capacity refers to hiring workers, scheduling hours, and planning for temporary spikes and lulls in demand. This type of capacity, typically, refers to time frames that range from less than a week to six months. Long-term capacity involves major production issues that generally take months or even years to implement, and have permanent or at least long-lasting effects on the company’s operations. Examples of increasing long-term capacity include building a new plant or manufacturing facility, or opening a new business location in another city.

Factors Affecting Capacity

Producing goods or delivering services is hampered by capacity, and capacity is a function of the number of workers or machines a company has, the number of hours or shifts those workers are on the job, at what rate they are utilized, and how efficiently they perform their job duties. To measure capacity, worker efficiency and utilization rate are quantified, and along with number of workers and number of hours or shifts, these numbers are multiplied to arrive at total capacity. Therefore, increasing any component of capacity increases total capacity, while decreasing a component decreases capacity.

Capacity vs. Demand

The relationship between capacity and demand is an important one for businesses to monitor. Demand exceeding capacity for a sustained period of time signals to a business that external assistance is needed to avoid continuing to leave money on the table. Depending on the business, this help may come in the form of new workers, new facilities, or improved efficiency through greater utilization. When demand persistently lags behind capacity, a business may be faced with the tough decision to reduce production, which often means layoffs or reduced hours. Capacity affects all businesses, but smart capacity planning lets a business know when it needs to make adjustments based on changing demand.

References & Resources

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