Alternatives for Adjusting Capacity

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  • 00:00 Production and Demand
  • 00:47 Level Production and…
  • 2:07 Overtime and Undertime
  • 3:07 Subcontracting and…
  • 3:56 Backlogs, Backorders,…
  • 4:25 Lesson Summary
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Lesson Transcript
Instructor: Kevin Newton

Kevin has edited encyclopedias, taught middle and high school history, and has a master's degree in Islamic law.

When demand changes, companies have a number of alternatives to making long-run changes to their productivity. In this lesson, we look at how companies can quickly adjust their capacity.

Production and Demand

In a perfect world, you could tell your manufacturing division to produce an exact amount of goods every period and your sales department would simply make them disappear. However, it's not a perfect world. As a result, demand for your goods is always changing. Just like any challenge, it's what you do with that change in demand that helps define if your business is going to be successful.

Of course, you could always adjust capacity when trying to keep up with demand. By adjusting capacity, I mean making long-run changes to your ability to produce goods; however, these are often more harmful than helpful. Demand simply is too fickle to do that every time there is a fluctuation. In this lesson, we'll look at different ways to match production with demand, without making such drastic changes.

Level Production and Chasing Demand

The first option, level production, is the least responsive. In fact, it is ideal but it rarely happens. The idea is simple - always produce the same amount of a good. By giving up flexibility, you're making sure that you don't have any wasted resources. Ideally, this is coupled with a sales technique that helps to keep demand relatively predictable. However, demand rarely stays the same for a good amount of time so as to allow level production.

The opposite of level production is chasing demand. By chasing demand, firms are constantly trying to catch up with wherever demand is. While a level production firm doesn't have much waste because it is always producing the same amount, a chasing demand company makes up for waste by making sure that it is constantly selling as close to full demand as possible. This means a higher amount of overall sales, but those sales are much more likely to fluctuate. Also, there is the fact that despite chasing demand, a firm will never quite catch up with it. This can have some pretty disastrous consequences.

Think about it like this: let's say you were a stringed light manufacturer. You made plenty of lights in November and December because demand was going up every week. However, you ignored that after the holidays demand for stringed lights plummets. Now, you are left with a lot of lights and no way to sell them for quite some time.

Overtime and Undertime

Okay, so you think that the appeal of chasing demand is simply too much to ignore. That's fine, a surprising large number of companies agree with you. After all, it's mainly large firms, like car companies, that are able to keep to level production. So, how do you chase demand without leasing new equipment, or returning it every time that demand changes?

One way that is often used is to offer overtime, or using undertime. Overtime occurs when companies offer their employees extra work for a given period. Note that by federal law any hours over 40 must be paid at a higher rate. This means that there can be a greater utilization of existing capacity to manufacture the desired goods.

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