Locating Facilities

Importance of Location

Location Decisions Facilities Location finds the best geographic locations for the different elements in a supply chain. Location decisions are needed whenever an organization opens new facilities. These are important decisions that affect the organization’s performance for many years.

If an organization makes a mistake and opens facilities in a poor location, it cannot simply close down and move to a better place. Working in the wrong location can give very poor performance, but moving can be equally difficult. The right location does not guarantee success, but the wrong location will certainly guarantee failure. Location decisions are invariably difficult, and organizations have to consider many factors.

Reasons why companies need to consider location The end of a lease on existing premises Expansion into new geographic areas Changes in the location of customers or suppliers Changes to operations (i.e. electricity company moving from coal generators to gas) Upgrading facilities Changes to transport Changes in the transport network Mergers or acquisitions giving duplicate operations that must be rationalized

Alternatives to locating new facilities Licensing or Franchising ◦Local organizations make and supply the company’s products in return for a share of the profit. Exporting ◦The company makes the product in its existing facilities and sells it to a distributor working in the new market.

Local Distribution and Sales ◦The company makes the product in its existing facilities, but sets up its own distribution and sales force in the new market. Local Assembly and Finishing ◦The company makes most of the product in existing facilities, but opens limited facilities in the new market to finish or assemble the final product. Full Local Production ◦The company opens complete facilities in the new market.

Sample Problem Warwick Suppliers is planning to expand into Europe. It is considering a number of options, each of which has a fixed annual payment (for rent, electricity, and other overheads) and a variable cost that depends on throughput (handling, depreciation, staff, and so on). The following table shows a simplified view of these costs.

AlternativeFixed CostVariable Cost Exporting from existing facilities €800,000€900 Using a local distributor €2,400,000€700 Open a facility for local finishing €9,000,000€520 Open limited production facilities €8,000,000€360 Open larger production facilities €12,000,000€440

Alternatively, Warwick can avoid entering the market by licensing a local manufacturer to make the product in return for a royalty of about 2% of sales. How might it approach this decision, if it is planning on selling about 10,000 units a year with a contribution to profit of 10%?

Solution Alternative A is the cheapest for throughput, X, from 0 up to ◦800, x =2,400, x => 8,000 After this Alternative B is cheapest until ◦2,400, x = 8,000, x =>16,471 After this point, Alternative D remains the cheapest

With production of 10,000 units a year, alternative B, using a local distributor, is cheapest with costs of €9.4M (2.4M + 10K x 700) Alternative A, exporting directly with existing facilities is not much more expensive at €9.8M (800K + 10K x 900), and is probably easier to organize.

Option B has an average cost of €940, and adding a contribution to profit of 10% gives a selling price of 940 x 1.1 = €1034, and total profit of €940,000. If Warwick negotiated a royalty of 2% of sales, they would get a profit of only 1034 x ,000 = €206,800. Take note that Warwick still has to look at the more detailed costs, their aims, longer term plans, amount of control they want, and a whole series of other factors.

Choosing the Geographic Region

Hierarchy of Decisions for Locations Business Strategy Available Sites Local Conditions Culture, Costs, Customers, Suppliers, etc Individual Sites Cities and Towns Countries and Areas Geographical Regions for Locations

Overall Approach Facility location involves a hierarchy of decisions. At the top of this are the broad decisions about at which geographic regions to work in. Then come more local views that consider alternative countries or areas within this region. Then we look more closely at alternative towns and cities within this area.

The broad decisions about geographical regions and countries come from the business strategy. An organization with a strategy of global operations or expansion must continually look for new locations. Obvious choices for location are to get close to customers, or close to suppliers.

Another option is to open facilities in areas that give lower operating costs. Manufacturers move to areas with low production costs, even when these are some way from both their customers and suppliers. This puts more pressure on logistics. The supply chains become more complicated, but logistics has to be so efficient that lower production costs are not swamped by higher logistics costs.

A problem with moving to areas with low cost operations is that they might give higher total costs than expected. Another problem is that transport costs change quickly, and rises can make them more important than operating costs. Perhaps the overriding consideration is that costs may not be a dominant factor in location. A logistics strategy might focus on quality, flexibility, speed of response, reliability, customer service and so forth, rather than lowest cost.

Considerations in Choosing Regions Location of Customers Location of Suppliers and Materials Cultures Government Attitudes Direct Costs Indirect Costs Exchange Rates Social Attitudes Organization Operations

Infinite Set Approaches

After making a decision about the geographical region and country, an organization has to look in more detail at the areas, towns, cities, and individual sites. There are several ways they can approach these decisions, and the best depends on specific circumstances. One approach that is NOT recommended is PERSONAL PREFERENCE.

Two Distinct Approaches to Location Decisions Infinite Set Approach ◦Which uses geometric arguments to find the best location, assuming that there are not restrictions on site availability. Feasible Set Approach ◦Where there are only a small number of feasible sites, and an organization has to choose the best.

Simple Methods (Infinite Set) A facility can be located near to customers It can be located near to suppliers It can be located at some point between suppliers and customers

NEAR TO CUSTOMERS NEAR TO SUPPLIERS COMPROMISE POSITION

Costing Models (Feasible Set) Feasible set approaches identify available sites, compare them, and find the best. An obvious analysis calculates the total cost of working from each location and finds the cheapest. In practice, many of the costs of running a facility are fixed regardless of its location.

Arguments (For Costing Models) If an organization concentrates activities in a few key locations – such as main logistics centers – inward transport consists of large deliveries made to a few facilities and the cost is low. However, the few facilities are, on average, further away from customers and the outward transport cost is high.

If there are a large number of spread-out facilities – such as retail shops – inward transport consists of small deliveries to more destinations and the cost is high. The facilities are, on average, nearer to customers, so they have the benefits of higher customer service and lower outward transport cost.

Operating costs also vary with facility size, with larger facilities generally more efficient and giving economies of scale. Remember, though, that larger facilities do not necessarily give economies of scale, and there can be real ‘diseconomies’ caused by higher cost of supervision, coordination, communication, etc.

Few facilities give low cost for inward transport, but high cost for outward transport More facilities give high cost for inward transport, but low cost for outward transport

Scoring Models (Feasible Set) Scoring models emphasize the factors that are important for locations, but which cannot easily be costed or quantified. Even if we cannot quantify the important factors, we still need to identify them.

In the region and country… Availability, skills and productivity of workforce Local and national government policies, regulations, grants and attitudes Political stability Economic strength and trends Climate and attractiveness of locations Quality of life – including health, education, welfare and culture Location of major suppliers and markets Infrastructure – particularly transport and communications Culture and attitudes of people

In the city or area… Population and population trends Availability of sites and development issues Number, size and location of competitors Local regulations and restrictions on operations Community feelings Local services, including transport and utilities

In the site… Amount and type of passing traffic Ease of access and parking Access to public transport Organizations working nearby Total costs of the site Potential for expansion or changes

Important Factors for Scoring Models For manufacturing businesses ◦Availability of a workforce with appropriate skills ◦Labor relations and community attitudes ◦Environment and quality of life for employees ◦Closeness of suppliers and services ◦Quality of infrastructure ◦Government policies toward industry

For services ◦Population density ◦Socio-economic characteristics of the nearby population ◦Location of competitors and other services ◦Location of other attractions such as retail shops ◦Convenience for passing traffic and public transport ◦Ease of access and convenient parking ◦Visibility of site

Network Models Sometimes it is difficult to relate the two approaches to actual road layout and geographic features. There are, however, many databases of road networks that automatically find the best routes between two points, such as Microsoft AutoRoute Express and Softkey Journey Planner.