AGGREGATE PLANNING :

MANAGING PREDICTABLE
VARIABILITY

Preetam Basu
Assistant Professor
Operations Management
IIM Calcutta
Role of Aggregate Planning

 Aggregate planning:
 processby which a company determines levels of
capacity, production, subcontracting, inventory, stockouts,
and pricing over a specified time horizon

 how can a firm best use the facilities it has?

Information Needed for an Aggregate Plan

 Demand forecast in each period

 Production costs
 labor costs, regular time (Rs./hr) and overtime (Rs./hr)
 subcontracting costs (Rs./hr or Rs./unit)
 cost of changing capacity: hiring or layoff (Rs./worker) and
cost of adding or reducing machine capacity (Rs./machine)
 Labor/machine hours required per unit
 Inventory holding cost (Rs./unit/period)
 Stockout or backlog cost (Rs./unit/period)
 Constraints: limits on overtime, layoffs, capital available,
stockouts and backlogs
Outputs of Aggregate Plan

 Production quantity from regular time, overtime, and subcontracted

time: used to determine number of workers and overall capacity
levels
 Inventory held: used to determine how much warehouse space and
working capital is needed
 Backlog/stockout quantity: used to determine what customer
service levels will be
 Machine capacity increase/decrease: used to determine if new
production equipment needs to be purchased

 A poor aggregate plan can result in lost sales, lost profits, excess
inventory, or excess capacity
 Aggregate Planning Strategies

 Trade-off between capacity, inventory,

backlog/lost sales

 Chase strategy – using capacity as the lever

 Level strategy – using inventory as the lever

 Mixed strategy – a combination of one or more of these

two strategies
 Chase Strategy
 Production rate is synchronized with demand by varying machine
capacity or hiring and laying off workers as the demand rate
varies
 However, in practice, it is often difficult to vary capacity and
workforce on short notice
 Expensive if cost of varying capacity is high
 Negative effect on workforce morale
 Results in low levels of inventory
 Should be used when inventory holding costs are high and costs of
changing capacity are low
Chase Strategy

Demand

Production
Units

Time
 Level Strategy
 Maintain stable machine capacity and workforce levels with a
constant output rate
 Shortages and surpluses result in fluctuations in inventory levels
over time
 Inventories that are built up in anticipation of future demand or
backlogs are carried over from high to low demand periods
 Better for worker morale
 Large inventories and backlogs may accumulate
 Should be used when inventory holding and backlog costs are
relatively low
Level Strategy

Demand

Production
Units

Time
Example: Aggregate Production Planning

QUARTER SALES FORECAST (LB)

Spring 80,000
Summer 50,000
Fall 120,000
Winter 150,000

Hiring cost = $100 per worker

Firing cost = $500 per worker
Inventory carrying cost = $0.50 pound per quarter
Regular production cost per pound = $2.00
Production per employee = 1,000 pounds per quarter
Beginning work force = 100 workers
Level Production Strategy
Level production
(50,000 + 120,000 + 150,000 + 80,000)
= 100,000 pounds
4

SALES PRODUCTION
QUARTER FORECAST PLAN INVENTORY
Spring 80,000 100,000 20,000
Summer 50,000 100,000 70,000
Fall 120,000 100,000 50,000
Winter 150,000 100,000 0
400,000 140,000
Cost of Level Production Strategy
(400,000 X $2.00) + (140,000 X $.50) = $870,000
 Chase Demand Strategy

SALES PRODUCTION WORKERS WORKERS WORKERS

QUARTER FORECAST PLAN NEEDED HIRED FIRED
Spring 80,000 80,000 80 0 20
Summer 50,000 50,000 50 0 30
Fall 120,000 120,000 120 70 0
Winter 150,000 150,000 150 30 0
100 50

Cost of Chase Demand Strategy

(400,000 X $2.00) + (100 x $100) + (50 x $500) = $835,000
Responding to Predictable Variability

 Predictable variability is change in demand that can be

forecasted
 Can cause increased costs and decreased responsiveness
 A firm can handle predictable variability using two broad
approaches:
 Manage supply using capacity, inventory, subcontracting, and
backlogs
 Manage demand using short-term price discounts and trade
promotions
 Managing Supply

 Managing capacity
 Use of seasonal workforce
 Use of subcontracting

 Use of dual facilities – dedicated and flexible

 Designing production flexibility into production processes

 Managing inventory
 Using common components across multiple products
 Building inventory of high demand or predictable demand
products
 Inventory/Capacity Trade-off
 Leveling capacity forces inventory to build up in
anticipation of seasonal variation in demand

 Carrying low levels of inventory requires capacity to

vary with seasonal variation in demand or enough
capacity to cover peak demand during season
 Managing Demand

 Promotion
 Timing of promotion and pricing changes is important

 Demand increases can result from :

 Market growth (increased sales, increased market
size)
 Forward buying (same sales, same market)