Capacity Planning – An Essential Guide for Manufacturers

Capacity planning is a strategic process aimed at determining the production capacity required to meet forecasted demand. It is a prerequisite for efficient production scheduling, supply chain planning, and inventory management.

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What is Capacity Planning?

Capacity planning is a process that aims to determine the amount of production capacity that is needed to meet forecasted customer demand. It involves deep insight into a company’s resource planning and encompasses a range of decision-making processes and metrics. 

There are three main methodologies that are most often used in the capacity planning process. These are lead strategy, lag strategy, and match strategy. Whichever is used, the capacity planning process affects many facets of a business, including its financial health, inventory and manufacturing management, supply chain, resource allocation, market penetration, etc. 

The capacity planning process considers the number of workstations and the workforce needed, along with available shifts, the product mix, equipment utilization, etc. All these are calculated to enable insight into whether an operation has the required capacity to meet the demanded forecast. 

Capacity Planning’s Impact on Key Budget Costs

Capacity planning impacts many costs within a company.  And it is important that a company not only understand those costs, but that they use that understanding to accept the constraints to determine a path that allows them to meet service goals.  This may include extra shifts, overtime, increased capex purchasing, subcontracting of work and many other tactics that allow them to stay ahead of the curve.

Capacity planning impacts cost areas including:

• Operating Costs – If the demand for product is out of sync with capacity, a company may find itself needing to schedule overtime or add shifts.  Likewise, it could mean that they need to reduce labor and idle facilities quickly.  Miscalculating either can drive up operational costs and increase cost per unit.
• Fixed Costs – If capacity is not known, items such as warehousing costs can impact the fixed cost line.  This could be the result of too much warehouse space that may not be required.  Because these arrangements are often handled with leased space and equipment, misjudging capacity will force companies to carry increased fixed costs when they are not being utilized.
• CapEx Costs – If a company does not understand the capacity required for specific demand levels, they may underbuy capital equipment needed to produce, forcing them to utilize overtime or to subcontract production.  They may also invest in the wrong type of equipment leading them stuck with idle equipment that is not needed while equipment required for hot product lines is strained.

Aggregate vs. disaggregated Capacity Planning

Capacity planning should take place at multiple time levels.  Starting with longer time periods and subsequently adjusting factors into shorter time buckets, companies can narrow down their requirements and increase accuracy of the plan as the timeframe becomes smaller and reflective of near date requirements.

Aggregate capacity planning is a planning method where the medium-term requirements are determined over a 2- to 18-month period.  The goal is to determine the kind of capacity needed, the quantity needed and the time it is needed by.  By mapping out capacity plans using accurate data, companies can determine a course that allows them time to react and add – or remove – resources as indicated by demand. 

Aggregate capacity planning also requires that a company determine a strategy for their capacity plan.  There are several modes of strategy, depending on the nature of the operation and its market.  Aggregate strategies include:

1. Lead Strategy – In this strategy, capacity is added prior to demand.  This helps company leaders meet demand before it hits.  If a company has a stable production demand curve with little or no seasonality, this strategy will allow them to plan capacity tightly with confidence.
2. Lag Strategy – In this method, capacity is added after demand has occurred.  This strategy may be useful for companies with production that requires few production steps, or those where equipment needed to increase capacity is readily available “off-the-shelf” and can be added to the production stream quickly.  It requires a high degree of agility and is a risk because investment is withheld until after the demand curve has occurred. 
3. Match Strategy – This capacity planning strategy is a “pay-as-you-go” strategy because capacity is only increased incrementally as volume requirements are increased.  It also requires that a company be very agile and quick to respond and is a good choice for SMBs who are sensitive to constraints caused by limited cash flow.

Disaggregate capacity planning is more focused at the operations level.  The disaggregated plan uses smaller time buckets based on the aggregate plan to develop a schedule for capacity that can be expressed in hours, shifts, days, weeks and months.  If the data and analysis used in the aggregate plan is accurate, the disaggregated plan will result in schedules that allow the company to meet its production targets.

Gauging the capacity of an operation

To determine capacity, it must be measured.  Companies can use these capacity measurements to determine efficiency and utilization numbers to track progress against the plan.

1. Design Capacity – This is the ideal state of production.  It expresses a capacity maximum given the machine speeds as set by OEMs as well as ideal labor and material flow.  While it is not possible to achieve the ideal max output for many reasons, this number serves as a benchmark for measuring other variables.
2. Effective Capacity – Even though equipment has a top-rated speed, many factors will influence the actual output.  These factors include product mix, schedule and order changes, disruptions in supply chain, unplanned maintenance and labor factors such as absenteeism.  In most companies, these factors are also measured to create a formulation which means that the effective capacity is the maximum output when considering the impact of these factors over time.
3. Actual Output – Actual output is the production rate achieved. 

With these measurements, a company can determine two states for production – production efficiency and utilization.  Efficiency is a function of the actual output divided by effective capacity.  Utilization is a function of actual output over design capacity.  These measurements allow a company to understand the effectiveness of its system in terms of capacity.

Read more about Production Capacity and How to Calculate It.

Benefits of Capacity Planning

Capacity planning can help manufacturing companies plan for demand and to understand what resources and costs will be required for that demand.  It provides a structure and roadmap so that other plans such as supply chain planning, maintenance planning, scheduling and even sales can know what is currently possible and what can be done over time to meet service level goals now and in the future.  Benefits of capacity planning include:

• Monitor and Reduce Costs – By knowing current capacity and understanding what is required to add or reduce capacity, companies can both monitor and reduce costs.  Because the production variables such as labor, equipment speed and product line mix are measured, managers can use variances between the aggregated and disaggregated plans to control costs and make changes to stay on track over time.
• Plan for Growth – Most companies want to grow over time.  But it is best if that growth is controllable and can be done incrementally in a way that doesn’t affect cash flow or outstrip capex plans.  Knowing your factory capacity helps plan that growth in measured and cost-effective ways.
• Human Resources – As labor is a big part of production capabilities, it is then part of capacity planning.  With accurate capacity plans, human resource managers can plan hiring, training and other staff related tasks in a way that optimizes the cost of bringing staff onboard (or reducing them in a downturn).  This means that staff levels will be correct when demand shifts.
• Greater Profitability – When capacity planning is absent, gaps may occur in production as demand shifts.  Managers may not know what resources are needed and how to adjust.  By utilizing capacity planning, these gaps are eliminated.  This results in less overtime, better trained employees and optimized equipment utilization. 
• Continuous Improvement – Accurate capacity planning demands measurement of key factors of production as mentioned earlier.  Because these variables are measured, areas for improvement can be identified and proactive measures taken to adjust or change a process.  These changes may improve efficiency and create additional capacity through use of existing resources.

Capacity Planning Without an MRP

Many small and medium-sized businesses, (SMBs) operate their manufacturing with software.  However, many still utilize an ad hoc mixture of spreadsheets, assumptions, product history and gut feeling for planning.  This is true for all types of planning within those enterprises.  It is critical for manufacturers to enact capacity planning, especially for SMBs where a miscalculation in capacity can mean missed orders during high demand or high cost during idle times. 

To plan for capacity without the use of an MRP system, companies must restrict themselves to rough-cut capacity.  Generally, rough-cut capacity uses manual methods to analyze production, equipment and staffing factors to identify potential bottlenecks.  Those tasked with planning must compare master schedule requirements available with available capacity in various work centers.  As previously discussed, these contributing factors should be measured even if not using an MRP so decision-makers can determine if the master production schedule should be changed to adjust future workloads in the work centers.

For rough-cut planning that can be done without an MRP, there are several options:

1. Capacity Using Overall Factors –   All that is required for this technique of rough-cut capacity planning is the master production schedule and pre-measured production standards.  By analyzing these two elements against the order position, planners can convert finished goods requirements to determine work center loading.  Capacity using overall factors is a manual process.
2. Capacity Bills – Capacity bills are time centered and are used by those who have accurate and specific Bills of Materials (BOMs).  In Bills of Capacity, these BOMS are used in conjunction with routing sheets.  This allows planners to specify where it is made and what the run time of the work center will be.  If this is done manually, it is more likely that the BOM will be a single level BOM, or at most only explodable to one or two additional levels due to product complexity involved in manual processes.
3. Resource Profiles – Like Capacity Bills, this technique uses BOMs and routing sheets.  The difference is that lead time is factored in as well.

Examples of Capacity Planning without an MRP system

Examples of using capacity planning without an MRP system show both that it can be done but also highlight its room for error.  For example:  For a factory making screen-printed vinyl signs to supply a large and consistent customer base, Capacity Using Overall Factors may mean that they need no true BOM and can simply schedule established designs in predictable quantities in a schedule with confidence that volume and process changes are minimal.  However, should the process require rapid or new wording regularly, or if new iterations would require a true BOM to include more than just vinyl and ink, capacity would become more difficult to predict.

Another example using Capacity Bills could use the same product, screen-printed vinyl signs, but utilize a true BOM for a more complicated product.  This product would use a true BOM that includes vinyl, ink, hemming for edges, installation of grommets, hanging and mounting media and other components.  Again, because these processes can be measured accurately, routing sheets and times for each component required for completion could accompany the BOM to determine time and set up the work center.  

And finally, the same scenario could be done manually, without an MRP, using Resource Profiles.  It would be essentially the same as the example above.  However, once the location and time of the run was established, lead time could be used to set up a priority order for completion.

Rough-cut capacity planning techniques such as these are used by many manufacturers.  However, these techniques are prone to human error and rely on historical data for their success.  They are not forward-looking and do not take into account benefits of modern MRP systems such as inventory optimization, ABC analysis, automated routings, change order management and many other features which are simply not manageable by human planners in today’s complex manufacturing environments.

Capacity Requirements Planning and MRP

The above three techniques can be used without MRP but also with an MRP system.  However, the only technique for capacity planning that absolutely requires an MRP system is also the most accurate and flexible.  Capacity requirements planning (CRP) compares the capacity available across the enterprise in all its work centers to material requirements plans.  CRP can help create achievable workloads and can also improve utilization in the face of limited resources.

An MRP system allows a company to use data not just in a historical sense to compare with measurements.  It also provides a dynamic framework of near real-time data as well as historical transactions to improve capacity planning to make it more accurate and more predictable.  Instead of using rough-cut capacity to gauge a range of what its needed, CRP uses the depth of functionality of an MRP to make it a truly predictive tool and unlock additional capacity through proactive planning with the MRP.

Examples of how capacity planning is made easier with an MRP include:

Production Planning

All MRPs have production planning modules that are central to their success.  This production planning of course includes functionality such as manufacturing order records and the production schedule.  But it also includes workstations, workstation groups, BOMS and routings.  These are all elements required for rough-cut capacity planning.  By using the accuracy and analytics of the MRP system, capacity planning is easier.  Capacity planners can see maintenance schedules and any edits done to the workstation that upgrades or downgrades its performance. 

The same is true of BOMs and routings, both crucial to capacity planning.  With an MRP, BOMs are not only up to date and accurate.  Any process changes made that affect the BOMs are automatically updated through the entire system.  They can also be exploded to a multi-level BOM reducing complexity for capacity plans and eliminating redundancy required to manually calculate the different BOM level requirements.  The same goes for routings where changes, including engineering change notices are pushed through the whole system so capacity planners don’t miss crucial information.

ABC Analysis

As important as capacity planning is, its importance runs parallel to other critical areas of business management such as cost control, optimized purchasing and inventory purchase and valuation.  MRP systems can help perform ABC analysis, where the Pareto principal is used to assign weighted valuation to material and components that measure their use and importance to the finished goods, and BOMs, they are used in. 

ABC analysis helps decision-makers craft optimized stock levels and purchase plans to maximize the value of the dollar spent.  These purchasing plans can be automated to include any changes in BOMs due to substitutes or other issues.  These changes are immediately available systemwide and can be applied against capacity plans to improve their accuracy based on the value of inventory relative to their weighted importance.

Read more about ABC Analysis (80/20 Rule) in Inventory Management.

Human Resources

Today’s MRP systems carry deep functionality that brings production orders, workloads at all workstations and other factors down to the staff level.  This means that HR can calculate the staff needed at each workstation down to the number of employees required.  Labor and staffing are an integral part of capacity planning.  By utilizing an MRP system’s native functionality for labor within HR, capacity planning can include exact staffing requirements that make their plan more accurate.

Production Scheduling

An MRP system will also have a production planning module for scheduling the shop floor.  This means that production scheduling tasks are automated, and errors are reduced.  Production planners can utilize both forward and backward scheduling to have manufacturing orders scheduled at the first available time and with assurance that the resources will be there to make the finished good.  They can also see and edit workstations and even schedule subcontracted services. 

Because most manufacturers operate machinery made by many different OEMs, not all machines are alike.  Production planning within MRP systems can show manufacturing orders (MO) as single operations as well as seeing them as a block.  This allows them to optimize setups by groups or schedule individually based on order size or priority.  This optimization directly impacts capacity planning where the visualization of work orders to reduce changeover times for like items can unlock capacity that was hidden previously.  Most of these systems have dynamic drag and drop functionality that considers material availability and capacity.

Read more about Forward Scheduling vs. Backward Scheduling in Production Planning.

The Value of MRP in Capacity Planning

While rough-cut capacity planning is achievable without an MRP system, the value of the functionality discussed above, as well as additional functionality, not only makes capacity planning easier.  It also makes it more accurate, more agile, and more flexible.  When capacity planning is done in conjunction with an MRP system, the deep functionality, advanced analytics, and the native use and calculation of many of the elements required for reliable capacity plans make it senseless to plan capacity without the use of capacity planning software.

Key takeaways

• Capacity Planning determines the necessary capacity required to meet demand and as such, it is a prerequisite for efficient planning and scheduling throughout a manufacturing business.
• Capacity planning considers the number of machines and employees needed to operate those machines, available hours or shifts, the mix of products to be made, equipment utilization and overall efficiency.
• Capacity planning also impacts financial areas such as operating costs, fixed costs, and capital expenditure costs.
• Capacity planning should take place at both the aggregate and the disaggregated level. Aggregate capacity planning looks at a longer timeframe – from 2 to 18 months – while disaggregated capacity planning focuses smaller time buckets based on the longer aggregate plan.
• In order to plan capacity, first it must be determined. This can be done by measuring your throughput when your plant is running at full capacity; by using rough-cut capacity planning; or by utilizing an MRP system.
• Capacity planning can help companies to monitor and reduce costs, plan for sustainable growth, plan out human resource requirements, increase productivity and profits, and set the basis for continuous improvement throughout the company.
• Even though capacity planning can be done manually, by using rough-cut capacity planning, this method is prone to errors and do not provide the benefits that an ERP/MRP system does.
• ERP/MRP systems make capacity planning much easier for manufacturers thanks to keeping the inputs necessary for capacity planning up-to-date. Software also helps companies conduct ABC analyses to optimize stock levels and improve capacity plan accuracy, better plan staffing requirements, automatically create production schedules using both forward and backward scheduling, and bring advanced analytics to the decision-making process.

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