Capacity is the maximum level of output that can be produced by a company in a certain time period. But do businesses operate in full capacity? What is the significance of capacity and how can it be increased? Let's find it out.
What is the importance of capacity?
Capacity is the highest total level of output that can be produced by a company in a certain time period.
Capacity is essential as it allows the company to match the demands of the customers. Nonetheless, expanding capacity generally needs additional resources and thus it is vital to prevent excess capacity which will increase the unit costs of the organization.
Capacity is essential to an organization for the reasons below:
It allows the business to fulfill the level of demand for a product. If there is increasing demand then a large capacity will enable a business to match customer demands. Likewise, inadequate capacity would mean that the organization might lose some of its customers in the short term.
Efficient management of capacity makes sure that the organization is not spending additional money on equipment and can decrease its unit costs, facilitating the organization to accomplish greater profit margins.
An organization's capacity should provide flexibility to make diverse products so that it is easier to match supply with demand if there is a swift increase in demand for a certain product. The capacity for a certain product can be enlarged by shifting resources from the production of not-so-popular products.
Specific industries have seasonal products or demand such as farming and tourism. Therefore, these industries should have sufficient capacity to manage high periods of production/demand.
Types of capacity planning
Let's take a look at the different types of capacity planning.
Product capacity planning
This type of plan will make sure that there are sufficient products/ingredients for the company's deliverables. For instance, for a florist, this will be flowers, cards, containers, and vases.
Workforce capacity planning
This plan makes sure that there are sufficient workers available to accomplish a job. This form of planning assist communication in the company, as the resource and workforce needs will be communicated directly to related stakeholders. This planning also shows if the company requires more workers and support. It can help in determining how far in advance the company will have to begin the recruiting process depending on their onboarding process.
Tool capacity planning
This type of planning will ensure that there are adequate tools to accomplish jobs.
This may include manufacturing machinery, trucks, components needed for assembly lines, etc.
The following are the general steps of capacity planning:
Measures
A business is first required to measure its resource capacity. For instance, the number of deliveries that can be made by each driver in a certain period of time or the number of orders that can fit in each truck. It is essential to accurately measure these, as the rest of the plan is dependent on these numbers.
Figure 1. Steps of Capacity Planning, StudySmarter
Analysis
Once the business has precise measurements, it can then analyze the information to determine if there is an inadequate capacity or surplus capacity, or if the available resources are being utilized to full capacity.
Forms
The last stage is to formulate a plan from all the information collected. Calculations can be made to know the cost for funding new projects or hiring full-time or seasonal workers.
Let's assume there is a flower shop called Daisey Co., and their busiest time is on Valentine's Day. They will utilize capacity planning to identify if they require more employees, need to hire seasonal workers or increase the stock of flowers prior to the 14th of February (Valentine's Day).
Once the company has identified the number of workers needed and the stock of flowers, it would then utilize resource planning to assign those resources. Hence, if the majority of demand is for bouquets of red and pink flowers, the distribution of the larger portion of the resources will be used to create this floral arrangement.
What is capacity analysis?
A capacity analysis aims to identify how capacity can be utilized and optimized to achieve maximum efficiency.
The capacity analysis presents information about the demand for resources in comparison to their actual capacity. This approach allows the business to find bottlenecks in an initial phase and to improve them over time. C apacity analysis can also be explained as a process to determine the capacity of an operation.
An inclusive capacity analysis will assess the following:
Physical capacity
Physical capacity is defined as the physical space and can include inventory, systems, and processes in an operation. This part of the analysis is usually completed with modeling software, with the aim to identify methods in which space can be utilized more efficiently.
Production capacity
This denotes the peak quantity of all the processes in an operation. It can be increased with various methods, from adding to replacing labor with restructuring processes and automation, in order to make them more efficient.
Mechanical capacity
This denotes the capacity of a particular machine in an operation. It can be increased through the optimization of existing equipment by revamping or improving them, or by replacing old equipment with the latest machines that are more efficient and can produce more output.
What is the capacity utilization rate?
The capacity utilization rate measures the level to which the maximum potential output is being reached.
It may provide insights into how efficiently the company is reaching its potential.
The formula is:
A number below 100% signifies that the company is producing less in comparison to its full potential. It is the main metric for a company that indicates slack in a certain period of production. A business that has a capacity utilization rate below 100% can boost its production with no extra overhead costs that are linked with buying new equipment, machinery, or property. producing at full capacity or 100% is important for companies as it reduces production costs and increases output
The capacity utilization rate is utilized by businesses to evaluate their present operating efficiency . It also offers insights into the cost structure of the company both in the short and long term. It can be used to identify the point at which the unit cost will increase with an increase in production.
How to use capacity efficiently?
Concerning capacity utilization, there are two kinds of situations that an organization has to manage:
Excess capacity (under-utilized capacity)
Capacity deficiency
Excess capacity
There are many reasons why an organization might not be functioning to its maximum output possible:
New rivals/products appearing in the market. For instance, the increasing demand for a particular product would mean that more of those businesses that carry the product are emerging. Nonetheless, the growth of competition in certain places would signify that there is spare capacity in the market, hence reducing the average turnover for each restaurant.
Decrease in demand for a product/service because of fluctuations in the taste of consumers. For instance, McDonald's was compelled to shut down certain outlets due to a decrease in demand as several consumers shifted to healthy food or wanted variety in their food.
Seasonal demand. In order to accommodate tourists in high-demand seasons, the tourist industry needs to hire more employees in the summer months, for instance.
A merger or even a takeover can lead to the doubling of several resources. It is possible that a merger can create excess capacity.
Advantages of excess capacity:
In a period of excess capacity, an organization may have time to enhance its efficiency as well as its processes.
Lower pressure and tension for workers who may be overburdened at full capacity.
Underutilization lets an organization manage with the unexpected rise in demand.
An organization can use calculations of excess capacity to predict the potential maximum sales that it could achieve prior to expanding its capacity.
Disadvantages of excess capacity:
Excess capacity would mean that there are increased fixed costs per unit.
The increased unit costs can decrease profit per unit or there will be a need to increase price in order to maintain the profit per unit, which may result in fewer sales.
Excess capacity could also present an adverse image of an organization, signifying that it is unsuccessful. For example, a fitness club, where minimal utilization can be evidently seen, like an empty gym, could put off customers and lead to lower sales.
Capacity deficiency
The major reason for a capacity deficiency is a high demand, overtaking the organization's ability to boost production levels. In order to overcome capacity deficiency an organization should increase its capacity through the following ways:
Building or expanding outlets/plants. A retailer like Primark has expanded to match demand by increasing the number and size of its outlets.
Staff working overtime. Several organizations propose overtime pay at increased rates or offer contracts that let employees work longer hours in high-demand periods.
Recruitment of new employees. Hiring full-time employees is essential if there is a need for high output production in the long term.
Subcontracting. An organization can boost its production by outsourcing some of its activities.
In order to make informed decisions about expanding capacity, businesses must consider the costs involved in the process , such as equipment, facilities , and labour.
Capacity - Key takeaways
- Capacity is the highest total level of output that can be produced by a company in a certain time period.
- The importance of capacity is that it allows the business to fulfill demand levels and provides flexibility to make diverse products. Efficient capacity management ensures that no extra money is spent.
- Capacity planning is a form of production planning that determines the production capacity and employees' needs to ensure that the supply chain is set to meet demand.
- Capacity planning allows a business to identify in what way and when to scale , recognize bottlenecks, develop improved design capacity, and lessen risk in a certain period of time.
- The types include product capacity planning, workforce capacity planning, and tool capacity planning.
- the steps include measuring, analyzing and formulating.
- The capacity analysis presents information about the demand for resources in comparison to their real capacities.
- The capacity analysis will assess physical, production and mechanical capacity.
- The capacity utilization rate measures the level to which the maximum potential output is being reached.
- There are two types of capacity utilizations including excess capacity and capacity deficiency.
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