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Unit 3: Capacity Planning

are available under the given circumstances. At that volume the unit cost of production can be Notes
reduced, but very often it cannot be minimized.

The expansionist strategy or economic approach generally results in economies of scale and a
faster rate of learning. This, with supporting strategies, often helps a firm reduce its costs and
compete on price. It also can help increase the firm's market share by preempting competition.
Competing firms must sacrifice some of their market share or risk burdening the industry with
over capacity. To be successful, however, the preempting firm must have credibility and signal
its plans before the competition can act.

Capacity addition is based either on economics or demand.

Notes The economic approach is the basis for the success of Reliance Industries. RIL
created world-scale capacity ahead of actual demand, on the basis of the latent demand.
This preempted competitors from expanding their capacities. Then RIL went about
systematically removing the barriers that were constraining demand. This continuing
capacity growth allowed Reliance to dominate the markets in which it competed and also
emerge as a low cost manufacturer. RIL emerged as the lowest cost polyester producer in
the world. In 1994, its conversion cost for polyester was 18 cents per pound, over 60 per
cent lower than its West European, North American and Far Eastern competitors.

Capacity Planning through Decision Trees

Decision Trees are most commonly used in capacity planning. They are excellent tools for
helping choose between several courses of action. They provide a highly effective structure
within which you can lay out options and investigate the possible outcomes of choosing those
options. They also provide a balanced picture of the risks and rewards associated with each
possible course of action.

Drawing a Decision Tree

You start a decision tree with a decision that you need to make. Draw a small square to represent
this towards the left and draw out lines towards the right for each possible solution. Write that
solution along the line, and at the end of each line, consider the results. If the result of taking that
decision is uncertain, draw a small circle. If the result is another decision that you need to make,
draw another square. Squares represent decisions, and circles represent uncertain outcomes.
Starting from the decision squares on your diagram, draw out lines representing the options
that you could select. From the circles draw lines representing possible outcomes. Extend the
tree until you have drawn out as many of the possible outcomes and decisions as you can see
leading on from the original decisions. An example is shown in Figure 3.3.
Assign a rupee value or score to each possible outcome by estimating its value. Next, look at
each circle (representing an uncertainty point) and estimate the probability of each outcome. If
you use percentages, the total must come to 100 per cent at each circle. If you have data on past
events, you may be able to make rigorous estimates of the probabilities. Otherwise, it can be a
best guess. You can also use fractions, but these must add upto 1. Once these values are specified,
it is possible to calculate the values that will help you make your decision.
Figure 3.3 also reflects the story of Mr. Raj Kumar Mehta. Mr. Mehta started Mehta Stores in
Gurunanak Market in Greater Kailash, primarily selling groceries. His business is growing and

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