Capacity Utilisation

Capacity Utilisation Defined: The proportion of maximum output capacity currently being achieved Dependent on? Machinery and equipment Technology Number and skills of it’s employees

The CAPACITY UTILISATION of a firm is: the % of capacity which is being used. Capacity Utilisation = Actual level of production x 100 Capacity e.g. company capable of producing 3,500 units but actually produces 2,800 is working at …… 2,800 / 3,500 x 100 = 80%

Capacity Utilisation and Average Fixed Costs What should happen to AFC if the Capacity Utilisation is running high? The AFC will be spread over a larger number of units, being more cost effective to a business How does it look for a business to run at full capacity? How do consumers respond to products that are hard to come by? How does it reflect on the reputation of the business? What is the impact on the workers of this situation?

Optimum is slightly below 100% at 90% - Why? Need to be able to accommodate short term changes – some “slack” is needed where the other 10% can be used! … Breakdowns Urgent orders Demand ALWAYS varies over the year Staff problems (e.g. flu epidemics, sicknotes! etc) Unforseen events (Snow in the UK last winter! Leaves on the lines for British Rail!)

Dangers of working at 100% capacity are ... Staff pressures – no room for error by workers or supervisors! Scheduling has to be strict (consider production and service scenarios!) Quality could go down – pressure of production and no room for rework Staff morale/motivation drops – resulting in illness and time off = inefficiency Unhappy customers – not able to meet any additional orders – will look elsewhere for all products Machines under maintained or overworked produces breakdowns – unreliability for the future

Excess Capacity Definition: The current levels of demand are less than the full capacity output ... Spare Capacity - high unit fixed costs You will need to consider if the spare capacity is a short term or a long term situation, because this will have an impact on how you deal with it!

Short Term Excess Capacity So, what can be done? Stockpile! Keep high stocks and still produce at full capacity until demand increases again BUT - expensive what if sales don’t recover? Alter production systems – be more seasonal BUT – skilling, resources and materials – do you have the flexibility to do this? Change Contract of Employment – flexible working BUT – unreliable staff and low motivation

Long Term Excess Capacity So, what if there is a long term fashion change? What if there is a major technological development from rivals? What if there is a recession? How will a business try to raise demand to meet capacity? Marketing Mix analysis? or consideration for RATIONALISATION What implications will rationalisation have? Cost savings (perhaps? – redundancy payouts might be needed!) Industrial Relations ... What we discussed last week ... No staffing for surges in demand Low staff morale – insecurity of jobs (Maslow) Poor PR?

Ways of reducing capacity? Selling off parts of production area Changing to a shorter working week Laying off workers Transferring resources to another area. Ways of increasing capacity Building or extending factories Asking staff to work longer hours Recruiting new staff.

So, what if there is a LONG TERM capacity shortage So, what if there is a LONG TERM capacity shortage? … (demand > supply!) Firstly, what might the reasons be? Why can’t you produce enough to satisfy demand? Perhaps a faulty machine that can be repaired next month? No drastic action is needed But, if the company has been working to 100% capacity and needs to be able to meet an increase in demand, what are the options?

Option 1 … Outsource No capital investment needed Quick to arrange Flexibility – just end and start contracts Quality could drop – no control Additional costs? Admin/tranportation Reliability of delivery Will unit costs be lower than “in house”? Suppliers want to make a profit too!

Option 2 … Invest! Expand or Capex Long Term capacity abilities Control Newest methods/machinery Economies of Scale Costs Where will the funds come from? Future economic climate Time to sort out – customers are fickle!

Evaluating the options … The precise cause of the capacity issues is important ... It could indicate the solutions that are available to the business Ask yourself ... Are the products outdated? Is there a recession? The TIME of any likely excess capacity is also important – short term or long term implications will have different solutions (we have discussed these!) Weigh up advantages and disadvantages of the options available APPLY to the situation or case study Consider other EXTERNAL factors - uncertainty of economy, market, changing fashions, competitors moves etc... Outsourcing? Advantageous or not to the case study? Cost Benefit Analysis (BPO? Business Process O’soucing)