Chapter 8 Aggregate Planning in the Supply Chain

1. Chapter 8Aggregate Planningin the Supply Chain Supply Chain Management

2. Production System • In a broader sense, a production system is anything that takes inputs and transforms them into outputs. • Production system is the collection of people, equipment, and procedures organized to accomplish the operations of a company (or other organization). • Manufacturing • Service

3. Production Planning • Production Planning is the analysis, design and management of production systems. Objective: Transform a variety of inputs (such as raw material, labor, capital, etc.) into outputs (goods and services) in a manner that is both efficient in using resources and effective in achieving high customer satisfaction. • In today’s competitive business environment it is important to know methods and specific analysis tools for operational decisions to effectively manage these systems.

4. Production Planning Decisions • Long-term (Strategic) Decisions: • Top Management Decisions • 3-10 years • Decisions: Capacity, Product, Supplier needs, Quality Policy • Intermediate-term (Tactical) Decisions: • Middle Management Decisions • 6 months - 3 years • Decisions: Work-force levels, processes, production rates, inventory levels, contracts with suppliers, quality level, quality costs • Short-term (Operational) Decisions: • Operational Management Decisions • 1 week - 6 months • Decisions: Allocation of jobs to machines, overtime, undertime, subcontracting, delivery dates for suppliers, product quality

5. Resources Aggregate Demand Planning Planning Management Rough - cut Master Production Capacity Scheduling Planning Detailed Detailed M a terial C apacity Planning Planning Material and Capac ity Plans Shop Floor Purchasing Systems Production Planning and ControlGeneral Framework

6. Role of Aggregate Planning in a Supply Chain • Aggregate planning: • process by which a company determines levels of capacity, production, subcontracting, inventory, stockouts, and pricing over a specified time horizon • goal is to maximize profit • decisions made at a product family level • time frame of 3 to 18 months • how can a firm best use the facilities it has?

7. Role of Aggregate Planning in a Supply Chain • Specify operational parameters over the time horizon: • production rate • workforce • overtime • machine capacity level • subcontracting • backlog • inventory on hand • All supply chain stages should work together on an aggregate plan that will optimize supply chain performance

8. The Aggregate Planning Problem • Given the demand forecast for each period in the planning horizon, determine the production level, inventory level, and the capacity level for each period that maximizes the firm’s (supply chain’s) profit over the planning horizon • Specify the planning horizon (typically 3-18 months) • Specify the duration of each period • Specify key information required to develop an aggregate plan

9. Information Needed foran Aggregate Plan • Demand forecast in each period • Production costs • labor costs, regular time ($/hr) and overtime ($/hr) • subcontracting costs ($/hr or $/unit) • cost of changing capacity: hiring or layoff ($/worker) and cost of adding or reducing machine capacity ($/machine) • Labor/machine hours required per unit • Inventory holding cost ($/unit/period) • Stockout or backlog cost ($/unit/period) • Constraints: limits on overtime, layoffs, capital available, stockouts and backlogs

10. Outputs of Aggregate Plan • Production quantity from regular time, overtime, and subcontracted time: used to determine number of workers and supplier purchase 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

11. Fundamental Tradeoffs in Aggregate Planning • Capacity (regular time, overtime, subcontract) • Inventory • Backlog / lost sales Basic Strategies • Chase strategy • Time flexibility from workforce or capacity • Level strategy

12. Aggregate Planning Strategies • Trade-off between capacity, inventory, backlog/lost sales • Chase strategy – using capacity as the lever • Time flexibility from workforce or capacity strategy – using utilization as the lever • Level strategy – using inventory as the lever • Mixed strategy – a combination of one or more of the first three strategies

13. 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

14. 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

15. Time Flexibility Strategy • Can be used if there is excess machine capacity • Workforce is kept stable, but the number of hours worked is varied over time to synchronize production and demand • Can use overtime or a flexible work schedule • Requires flexible workforce, but avoids morale problems of the chase strategy • Low levels of inventory, lower utilization • Should be used when inventory holding costs are high and capacity is relatively inexpensive

16. Comparison of production planning strategies

17. Aggregate Planning Problem Costs in Aggregate Planning: • Material Cost • Inventory Holding Cost • Shortage cost • Regular Time Costs • Overtime and Subcontracting Costs • Hiring and Firing Costs • Idle Time Costs • Backlogging costs • Costs associated with lost sales • Control system cost.

18. Data for the aggregate planning problem

19. Production Plan 1: Exact Production; Vary Workforce

21. Production Plan 3: Constant Low Workforce; Subcontract

22. Production Plan 4: Constant Low Workforce; Overtime

23. Aggregate Planning at Red Tomato Tools

24. Aggregate Planning

25. Aggregate Planning (Define Decision Variables) Wt = Workforce size for month t, t = 1, ..., 6 Ht = Number of employees hired at the beginning of month t, t = 1, ..., 6 Lt = Number of employees laid off at the beginning of month t, t = 1, ..., 6 Pt = Production in month t, t = 1, ..., 6 It = Inventory at the end of month t, t = 1, ..., 6 St = Number of units stocked out at the end of month t, t = 1, ..., 6 Ct = Number of units subcontracted for month t, t = 1, ..., 6 Ot = Number of overtime hours worked in month t, t = 1, ..., 6

26. Aggregate Planning(Define Objective Function)

27. Aggregate Planning (Define Constraints Linking Variables) • Workforce size for each month is based on hiring and layoffs

28. Aggregate Planning (Constraints) • Production for each month cannot exceed capacity

29. Aggregate Planning (Constraints) • Inventory balance for each month

30. Aggregate Planning (Constraints) • Over time for each month

31. Scenarios • Increase in holding cost (from $2 to $6) • Overtime cost drops to $4.1 per hour • Increased demand fluctuation

32. Increased Demand Fluctuation

33. Aggregate Planning in Practice • Think beyond the enterprise to the entire supply chain • Make plans flexible because forecasts are always wrong • Rerun the aggregate plan as new information emerges • Use aggregate planning as capacity utilization increases

34. Resources Aggregate Demand Planning Planning Management Rough - cut Master Production Capacity Scheduling Planning Detailed Detailed M a terial C apacity Planning Planning Material and Capac ity Plans Shop Floor Purchasing Systems Production Planning and ControlGeneral Framework

35. Aggregate Production Plan and Master Production Schedule • Actual production plan should consider individual products, smaller time units, production sequence etc. • Aggregate production plan is disaggregated to form the master production schedule(MPS).

36. Aggregate Production Plan and Master Production Schedule

37. Capacity Planning and Material Requirements Planning • Rough-cut Capacity Planning: To check feasibility of MPS. • Quick check on capacity of key resources • Use Bill of Resource (BOR) for each item in MPS • Infeasibilities addressed by altering MPS or adding capacity (e.g., overtime) • Material Requirements Planning(MRP): Breaking the MPS into a production schedule for each component of an end-item. Determines the material requirements and timings for each phase of production. • Detailed Capacity Planning: To check feasibility of MRP. Supplements the process of checking material shortage. • Uses routing data (work centers and times) for all items • Generates usage profile of all work centers • Identifies overload conditions • More detailed than RCCP

38. Materials Requirements Planning (MRP) • Materials Requirements Planning (MRP) determines time-phased requirements (period-by-period) for all purchased and manufactured parts such as raw materials, components, parts, subassemblies, etc. • Three major inputs are MPS, Inventory Status and Bill of Materials (BOM), also called the Product Structure. • The major output of MRP is planned-order releases: Purchase orders and work orders(production plan).

39. Product Structure Example

40. Product and Part Complexity

41. Steps in MRP • Explosion: Evaluating the gross requirements of each component • Netting: Adjusting gross requirements to account for on-hand inventory or quantity on order. • Offsetting:Determining the timing of order releases • Lot Sizing: Determining the batch size to be purchased or produced

42. MRP Example Trumpet Bell Assembly (1) Lead Time=2 wks Valve Casing Assembly (1) Lead Time=4 wks Slide Assemblies (3) Lead Time=2 wks Valves (3) Lead Time=3 wks Total Lead Time= 7 wks

43. Product Structure Example Valve Casing Assembly: Valves: (Assume an inventory of 282 at hand at week 3)

44. Lot Sizing Setup/Ordering Costs: Every time a new production is started, a setup of machines/labor is required and there is an associated cost with it. Similarly, every timean order is given for a product, there is an ordering costfor transportation, managerial issues etc. Thus, every time we start a new production or give a new order, we want it to be for high quantities. However, if we order for high quantities, we have to carry high levels of inventory. Thus, there is a tradeoff between inventory costs and setup costs. Question: What is the optimal time and amount to order?

45. Lot Sizing Parameters: h(t):unit inventory holding cost in period t. A(t): setup/ordering cost in period t. Decision variables: X(t): Amount ordered in period t. O(t) = 1 if an order is given in period t = 0 otherwise I(t): Inventory level at the end of period t. Min ∑(h(t)I(t) + A(t)O(t)) s.t. I(t) = I(t-1)+X(t)-D(t) X(t) ≤ O(t).M I(t), X(t)≥0, O(t) = 0 or 1

46. Lot Sizing Ex: Over the next 5 weeks, the net requirement of our company for a product is 18, 30, 20, 5, 20. The holding cost is $2 per unit per week and the ordering cost is $80. What are the optimal times and amounts to order? • Simple Rules • Lot for Lot (L4L): Order 1 period of future demand • Fixed period demand: Order m periods of future demand • Fixed Order Quantity: Order fixed amounts • Heuristic Methods • Silver-Meal Method: Decision based on average cost per period • Least unit cost: Decision based on average cost per unit • Part-Period Balancing: Decision based on total variable cost per order • Exact Methods: • Wagner-Whitin Algorithm • Integer Programming

47. Lot Sizing Example Ex: Over the next 5 weeks, the net requirement of our company for a product is 18, 30, 20, 5, 20. The holding cost is $2 per unit per week and the ordering cost is $80. What are the optimal times and amounts to order? Silver-Meal Heuristic: C(T)=Average cost per period if the current order is for the next T periods. Evaluate C(T) for T=1,2… and stop when C(T)>C(T-1). C(1)=80/1=80 C(2)=(80+2*30)/2=70 C(3)=(80+2*30+2*2*20)/3=73.33 Stop Order 48 units at week 1.

48. Lot Sizing Example Now go to week 3 and start over. C(1)=80/1=80 C(2)=(80+2*5)/2=45 C(3)=(80+2*5+2*2*20)/3=56.67 Stop Order 25 units at week 3. Go to week 5. Since week 5 is the final week, order 20 units at week 5. Total Cost=80+2*30+80+2*5+80=310 Is it optimal? No, because If we consider ordering 18 at week 1, 55 at week 2 and 20 at week 5. Then, Total Cost=80+80+2*20+2*2*5+80=300<310

49. Lot Sizing Example Least Unit Cost Heuristic: C(T)=Average cost per unit if the current order is for the next T periods. Evaluate C(T) for T=1,2… and stop when C(T)>C(T-1). C(1)=80/18=4.4 C(2)=(80+2*30)/48=2.9 C(3)=(80+2*30+2*2*20)/68=3.23 Stop Order 48 units at week 1. Now go to week 3 and start over. C(1)=80/20=4 C(2)=(80+2*5)/25=3.6 C(3)=(80+2*5+2*2*20)/45=3.77 Stop Order 25 units at week 3. Go to week 5. Since week 5 is the final week, order20 units at week 5. Total Cost=80+2*30+80+2*5+80=310

50. Lot Sizing Example Part Period Balancing C(T)=Total inventory costfor the current order if the order is for the next T periods. Evaluate C(T) for T=1,2… and stop when C(T)>A=80. C(1)=0 C(2)=2*30<80 C(3)=(2*30+2*2*20)>80 Stop Order 48 units at week 1. Now go to week 3 and start over. C(1)=0 C(2)=2*5<80 C(3)=(2*5+2*2*20)>80 Stop Order 25 units at week 3. Go to week 5. Since week 5 is the final week, order20 units at week 5. Total Cost=80+2*30+80+2*5+80=310