Capacity Planning: What it is, The Benefits, and How to Implement Your Strategy
In a vacuum, we all know how supply chain planning works.
You ensure supply meets demand across a multitude of factors, including market demand, internal and external forces, and your own ability to manage the chaos.
But if life were that simple, thermodynamics could be boiled down to the phrase “ouch, fire hot.”
Unfortunately, capacity planning comes with restraints.
How much material do you have on hand?
How much manpower do you have to turn that material into a product?
How long will it take?
When do you have to ship it all out?
These questions, and numerous others, coalesce together into supply chain pressures that all need to be managed in perfect harmony in order to meet that demand target.
It’s high-pressure feng shui.
Or, as supply planners like to call it, “capacity planning.”
What is Capacity Planning?
Capacity planning, at its simplest level, is the way you determine the production capacity you’ll need to fulfill market demand.
Since no organization has an unlimited capacity for production, a lot of this planning involves the management and allocation of resources: how much you’ll need, when you’ll need it, and how you’ll deliver it.
From scheduling production, ordering materials, utilizing resources, navigating process bottlenecks, and identifying opportunities for increased efficiencies, capacity planning involves a lot of moving pieces.
And, like a puzzle, these pieces need to be placed just right so organizations can meet the forecasted demand in a set period of time, whether that’s weeks, months, or even years.
The goal of capacity planning is to make the most of your production capabilities, while minimizing costs and maximizing profit.
You can’t produce an infinite amount of goods, nor can you house an infinite amount of materials. These are the constraints we talked about earlier.
Types of Capacity Planning
The three types of capacity planning aligning to the three major resources whose constraints you have to manage.
An ideal capacity plan means you have just enough of each resource to deliver to your demand requirements – anything beyond that becomes a wasted resource.
Think of it like The Price is Right; you’re trying to get as close as you can to the target without going over.
1. Product Capacity Planning
Do I have enough product?
Here, your goal is simple: Ensure your organization has enough product – or raw materials required to make the product – in order to meet customer demand.
For example, let’s say you run a pizza shop.
Product capacity planning would be how you ensure you have enough cheese, sauce, and dough to create all the pizzas customers order each day.
The better your planning, the fewer lost sales (“We’re outta sauce!”) you have and the less waste (“The cheese spoiled!”) you produce.
2. Workforce Capacity Planning
Do I have the right mix of employees?
Just as product capacity planning manages product, here you’re managing people.
The goal is similar: Ensure you have enough workers, and the right kind of workers, to meet demand.
To go back to the pizza shop example – you need people to take the orders, make the pizza, and then deliver the food.
An efficient use of capacity means that you have just enough of each kind of worker at any one time so that everyone is busy and there are no lulls in the process, such as delivery staff waiting on pizzas due to a shortage of cooks on that particular day.
3. Tool Capacity Planning
Do I have enough equipment and am I utilizing it effectively?
Tool capacity planning focuses on the tangible equipment you need to be able to complete the production process.
Staying with the pizza shop example, this would be stuff like the pizza ovens and the delivery vehicles.
An ideal tool capacity plan has every pizza oven constantly in use to churn out pies, while every delivery vehicle is on the road delivering as much as possible.
Got a pizza oven not cooking a pizza, or a delivery vehicle sitting in the parking lot? That’s wasted capacity and (potentially) a lost sale!
Bonus: Production Capacity
What’s the maximum amount that I can produce at peak efficiency?
I know we only said three, but production capacity is an important metric to think about holistically for your capacity plan.
This reflects the peak production you can deliver at any one time, assuming maximum efficiency of product, workforce, and tool capacities.
Should this not be enough, your organization needs to look at opportunities for scaling your business to deliver additional capacity across all three areas.
This is where production planning (and production planning software) come into play.
Utilizing your production capacity as a key metric, you’re able to build out process improvements focused around improving efficiency and accuracy, all while orchestrating the production process from beginning to end.
Capacity Planning vs. Resource Planning
Many people tend to conflate capacity planning with resource planning. While the two are very much related – both find ways to fully utilize available resources and maximize efficiency – resource planning can be considered the micro to capacity planning’s more macro approach.
While capacity planning ensures you have the resources you require, resource planning involves coordinating how, exactly, you will put those resources to use.
We’ll go back, once again, to the pizza shop example.
Capacity planning ensures you have all the raw materials to make the pizza, all the tools you need to cook and deliver the pizza, and all the people you need to do the actual cooking and delivering.
Resource planning is about allocating those resources to be as effective as possible. You wouldn’t want a delivery driver handling the pizza oven anymore than you’d want the cooking stations lined with an abundance of tomato sauce, but not a single piece of cheese.
The Benefits of Capacity Planning
Capacity planning is ultimately an exercise in strategic management of resources.
The strategy part is key: If successful, your supply chain is better equipped to ensure you can meet forecasted demand. The benefits speak for themselves: fewer lost sales due to stock-outs, better customer service, more revenue, and a more effectively scaled business.
There are two words no company wants to hear: customer churn.
And yet, this is the reality that faces many companies who – as a result of poor capacity planning – aren’t able to deliver adequate supply to meet demand, which leads to stock-outs.
This customer churn isn’t necessarily a one-time lost sale, either. According to Harvard Business Review, when customers can’t get the product they want, when they want them, they don’t just look for a substitute product. In some cases, they look for a substitute store.
We’ll go back to the pizza store example one more time.
Imagine a customer comes in asking for a pepperoni pizza.
Unfortunately, you’re all out of pepperoni.
If the customer is set on getting that pepperoni pizza, they’ll simply go to another restaurant.
This counts as a single lost sale, but you’ve now opened yourself to the possibility of that substitute store winning their future business as well.
One bad buying experience is enough to drive anyone to look for something better – and it’s a lot harder to win someone back than to keep them in the first place.
With proper capacity planning – optimizing your ordering processes so that they’ll meet your store’s unique demand requirements – you’ll reduce your risk of stock-outs, improve your ability to retain business, and have a lot more happy customers.
Improved Customer Service
Happy customers are key to the long-term survival of any organization.
In supply chain planning, the ability to keep customers happy by providing the right product, in the right place, at the right time, is often referred to as service level.
It’s the goal of any organization to sell as much as possible to as many customers as financially feasible.
In terms of capacity planning, that means maximizing the number of happy customers without creating undue stresses on your supply chain.
Pivoting away from our pizza shop example, let’s talk technology. Specifically, smartphones.
Corporations could theoretically produce an infinite number of the newest models, ensuring everyone who wants one can get one.
But they would then run the risk of over-producing and having leftover inventory.
In addition to the potential that the phones may never be sold at all, the excess inventory results in both literal and figurative costs.
Literally, the space holding the unsold phones comes at a cost.
Figuratively, there is an opportunity cost: That shelf space is now displaying the unwanted phones, instead of other products with more demand – and revenue potential.
Effective capacity planning allows you the best of both worlds – by accurately producing towards your planned demand, you maximize the amount of satisfied customers while minimizing costs.
Increased Efficiencies and Lower Costs
One of the core tenants of capacity planning is getting the most out of every resource at your disposal.
However, this process isn’t as simple as it may seem – identifying inefficiencies in how your resources are used, where they are used, and when they are used can often be complicated, as bottlenecks can often pop up when you least expect them.
Let’s go back to the pizza shop (again). Imagine, as the shop owner, that you are open eight hours every day.
However, in examining how long your drivers are out making deliveries, you notice that, on Wednesdays, many of them are often sitting around for hours at a time.
You look into this inefficiency and realize that Wednesdays are actually the slowest ordering day of the week, thus fewer pizzas are being produced and, thus, less deliveries are needed.
The solution – trimming payroll for that particular day and/or reallocating those delivery resources for days when you might need more drivers – allows you to cut down on costs, more effectively allocate resources to where they can best be used, and best of all doesn’t impact your service level to customers. In other words – effective capacity planning!
Capacity Planning Strategies
In designing your business’ plan , there are typically three capacity planning strategies to choose from. Each is based around how aggressive you want your strategy to be, and the subsequent risk you’re willing to take on as a result.
The most aggressive approach to capacity planning, lead strategy focuses on investing upfront to maximize your capacity in anticipation of high demand.
This may include expanding your workforce, adding additional sources of production – anything that can be done to maximize the amount of immediate product you can get to market.
Think of companies that try to capitalize on a popular trend – they want to maximize sales quickly and take advantage over competitors who are facing stock shortages.
If successful, this puts them at a huge advantage especially when demand is highest.
Of course, this level of aggression can come at a significant cost.
If demand underperforms compared to expectation, these companies could end up with large amounts of excess inventories and, subsequently, stock holding costs.
Peloton is a great example of how this strategy can play out in both directions – a strong initial push allowed them to become the name in at-home connected fitness equipment, but aggressive over-production has ultimately left them with a lot of excess stock facing a flooded market segment.
If lead strategy is the equivalent of a bull charging through a china shop, lag strategy would be considered the cautious window-shopper.
As the name implies, the strategy is to only expand capacity once you’re sure demand exists and requires additional resources and production.
It’s ultra-conservative and reactive – you’re letting the market decide when and how you increase capacity, with your business chugging along all the while.
The strategy is ultimately low-risk but can be low-reward.
It’s very unlikely that you’ll have to swallow extra costs from holding stock and excess inventory.
However, you could face shortages and stock-outs if demand increases and your inventory levels can’t match it.
And if a big demand spike should suddenly hit out of nowhere? You’re going to be playing catch-up to your more-aggressive competitors.
If Lead is too aggressive and lag is too conservative, then the match strategy finds the middle ground.
Rather than anticipating sudden spikes in demand, or conservatively waiting to see market trends and adjusting as needed, match strategy increases capacity incrementally based on market demand.
It’s ultimately complex – you don’t want to increase too fast and over-deliver on demand, but you also don’t want to be too slow and fall behind your competitors.
The match strategy is ultimately a careful balancing act that requires constant vigilance on the business’ part, in order to ensure that they don’t stray too far in one direction or the other.
Although lead, lag, and match are the three traditional capacity planning strategies, there is a fourth – adjustment strategy – that has gained steam with the rise of demand planning software.
Here, you’re anticipating demand similar to the lead strategy. However, rather than attempting to “outsmart” the market, you’re increasing capacity based on actual demand and sales forecasts.
It’s entirely driven by data, and more often than not, outperforms all three of the previous strategies when looked at from a macro scale.
For this strategy to be used effectively, it requires the business to have effective capacity planning tools that can deliver these accurate forecasts.
The Capacity Planning Process
There are eight generally accepted steps in the capacity planning process:
Step 1: Estimate Upcoming Capacity Needs
The capacity planning process starts by analyzing your current production needs in accordance to changes in the market.
This holds true regardless of the industry you’re in or the capacity planning strategy you’ve chosen.
What changes, based on your capacity planning strategy, is how early on in the process you do this estimation.
Typically, companies following a lead strategy expand their capacity early to meet demand.
Lag, on the other hand, will wait until the demand actually occurs before starting this estimation.
Match and adjustment will do this at various strategic points – either on a regular recurring basis in the case of the former, or as an ever-updating data-driven demand forecast in the case of the latter.
Step 2: Evaluate Current Capacity
Once you’ve determined the capacity required to meet upcoming demand, it’s time to evaluate how your current production capacity is situated to answer it.
This is a multi-tiered approach, focused on answering three key questions:
- What’s the maximum capacity my business can produce?
- Does it meet current demand needs?
- Am I already producing at maximum capacity?
Question One: What’s My Maximum Capacity?
The first question is arguably the most complicated – working at maximum efficiency, what can your various capacity factors produce? These factors break down into the following areas:
- Facility Factors (Number of production locations, strategic positioning, etc.)
- Product & Service Factors (The quality and consistency of the product itself)
- Process Factors (The efficiency of your equipment)
- Human Factors (How efficient your workers are)
- Policy Factors (How your business is structured and how it empowers efficiency)
- Operational Factors (How efficient your current production schedule is, your ordering processes, etc.)
- Supply Chain Factors (How efficient your distributors are, the ways you communicate with them, overcoming supply chain shortages, etc.) External Factors (Any outside influences – such as extreme weather – that could hinder overall quality and performance)
If assuming each factor is working at maximum efficiency, you have effectively hit maximum capacity.
However, measuring this out is different for every organization and often involves stringent measurement throughout the production process in order to properly evaluate each factor.
Question Two: Does My Capacity Meet Current Demand?
In contrast, the second question – does this meet current demand needs – is fairly straightforward.
When compared to the capacity required by the market, does it meet or exceed those needs? In any ideal capacity plan, you want these two numbers to be as close as possible.
Again, it’s similar to the Price Is Right – except that being a dollar over doesn’t lose you a car.
Question Three: Is My Business Producing at Maximum Capacity?
The third question is probably the most important when it comes to planning out the remaining steps in the capacity planning process.
If there is a factor that isn’t working at maximum efficiency, it is a bottleneck on your production capabilities – a bottleneck that will need to be addressed.
Step 3: Identify Solutions
Based on your answers in step two, you know what problem (or problems) your capacity planning process needs to solve for:
Problem 1: You’re producing at maximum capacity, but not satisfying demand
Problem 2: You’re producing at maximum capacity, which exceeds demand
Problem 3: You’re not producing at maximum capacity due to bottlenecks
The answer to the first problem is simple: increase your capacity.
This involves adding additional workers, materials, or tools to your production process, then aligning them across all capacity factors to ensure a net gain in your overall capacity.
The second problem also has a simple answer: you’re producing too much. Ergo, cut back on capacity, ideally in ways that will save your organization the most amount of time, resources, and money.
The third problem is, unfortunately, not simple.
With bottlenecks, the problem always lies somewhere along the production process.
They can sometimes be quickly identified – issues we addressed before such as pizza delivery drivers not having any deliveries to make.
Strategies such as production schedule optimization can be useful here, as it helps you readily identify ways to make the most out of your available capacity (and is a key part of overall production planning)
Sometimes, however, these problems can take a lot longer, such as if you have certain machines in your organization that produce faster than others, which ends up causing delays and stoppages along the production pipeline.
In cases like this, it becomes a question of evaluating the problem, identifying the value in solving it, and making a decision on whether to move forward. Which happens to be our next step.
Step 4: Assess Viable Solutions
So you’ve identified whatever problem your capacity planning process needs to solve. Great!
New question: Can you afford to solve it? And would the net gain you receive be enough to offset the costs?
The truth is that many companies deal with inefficient capacity planning – even when they know exactly what those inefficiencies are – because solving for them just isn’t worth the cost.
The example from step three,replacing underproducing machines, is a prime example.
If you have a machine that is suddenly causing bottlenecks in your process, but the bottlenecks only account for a .001% decrease in maximum capacity, you’re most likely not going to spend an excessive amount to fix it, especially for minimal ROI.
However, if those bottlenecks suddenly account for a 10% decrease in maximum capacity…well, then you might need to start browsing for replacements.
There’s also the possibility that numerous solutions are available: instead of replacing a machine, it may be possible to make repairs.
In situations such as that, you can use this step in the process to evaluate each solution on their own merit.
Step 5: Select and Implement Solution
Once you’ve decided on your solution, effective capacity planning dictates that you put it into action quickly.
This means building out an action plan, creating your timeline, determining your roadmap (or step-by-step action plan), and ensuring it will meet the capacity needs identified in step one.
If your solution involves fixing a major bottleneck, such as a large, expensive, and malfunctioning machine, then you will need to ensure that you have the resources – including time and money – when implementing your roadmap.
Step 6: Monitor Results
Congratulations: You’ve worked your way through the capacity planning process. You’ve identified what changes are needed, assessed how you are equipped to handle those changes, identified ways to improve your capacity, and implemented those changes.
Great! Now it’s time to measure and assess the results.
There is always room for improvement, particularly as technology and consumer demand continue to evolve. Company needs will also change as the business grows.
As a result, continuous monitoring and refinement are required to ensure efficient capacity planning.
Capacity Planning Video
We know — capacity planning isn’t easy, and there are plenty of elements involved in maximizing the capacity of your resources, no matter what business you’re in.
The following video summarizes the points we’ve discussed, including what capacity planning is, it’s benefits, the elements of capacity planning, and steps to implement the process.
Capacity Planning Tips and Best Practices
Capacity planning is an extensive process – one integral to building efficiencies and maximizing revenue opportunities.
Given its in-depth nature, here are some additional tips and best practices to help you make the most out of your capacity planning processes:
You can’t solve everything at once. When determining where to focus your capacity planning energies, identify projects that have the highest importance for your business. What has the most ROI? Are there any quick wins, where minimal input will see short-term gains?
Capacity planning is not a one-man (or woman) job. Keep all major stakeholders, from executives to production leaders, informed every step of the way. The same applies to communication with external vendors and supply chain providers.
Hope for the best; plan for the worst.
The idea of “cautious optimism” is especially relevant in capacity planning. Predicting demand means it’s near impossible to be right 100% of the time. Plan ahead – what can you do if you end up having too much capacity? Too little? How can you readjust?
Remember that capacity planning is an ongoing process.
Capacity planning in a complex and in-depth but extremely crucial process. Having tools designed to help you accomplish it efficiently and effectively is tantamount to improving the efficiency of the most important resource you have: your time.
Although the process can be difficult, the investment is worth the results. Don’t be discouraged, a continuous “measure and refine” approach means it can take time to see maximum gains. Maximize your time – and results – with capacity planning software.