Chapter 23 Capacity utilisation

Question 1

What is Capacity utilisation?

Answer 1

Capacity utiliation is the proportion of maximum output capacity currently being achieved.

Question 2

How to calculate capacity utilisation?

Answer 2

current output level X 100
__________________
maximum output level

Question 3

What happens when capacity utilisation is at a high rate?

Answer 3

When capacity utilisation is at a high rate, average fixed costs will be spread out over a large number of units – unit fixed costs will be relatively low.

Question 4

What happens when capacity utilisation is low?

Answer 4

When capacity utilisation is low, average fixed costs will be spread out over a fewer number of units – unit fixed costs will rise.

Question 5

Advantages of full capacity?

Answer 5

1 Average fixed costs will be at their lowest level and this should help to lift profits

Question 6

Disadvantages of full capacity?

Answer 6

1 Staff may feel under pressure due to the workload and this could raise stress levels
2 Regular customers who wish to increase their orders will have to be turned away or kept waiting for long periods
3 Machinery will be working flat out and there may be insufficient time for maintenance and preventive repairs

Question 7

What is Excess capacity?

Answer 7

Excess capacity exists when the current levels of demand are less than the full capacity output of a business – also known as spare capacity.

Question 8

What happens with low levels of capacity utilisation?

Answer 8

Low levels of capacity utilisation lead to high unit fixed costs – so what options do firms have when attempting to reduce excess capacity? Before this question can be answered, the time factor needs to be considered.

Question 9

Dealing with short-term excess capacity what are the options?

Answer 9

Option 1. Maintain output and produce for stocks
Option 2. Introduce greater flexibility into the production process:
1 part-time or temporary labour contracts
2 flexible equipment that can be switched to making other products
3 short-term working, e.g. all staff on three-day week.

Question 10

Dealing with short-term excess capacity: Option 1. Maintain output and produce for stocks advantages?

Answer 10

1 no part-time working for staff
2 job security for staff
3 stocks may be sold at times of rising demand

Question 11

Dealing with short-term excess capacity: Option 1. Maintain output and produce for stocks disadvantages?

Answer 11

1 unsuitable for perishable stocks or those that go out-of-date quickly
2 stockholding costs can be very substantial.

Question 12

Dealing with short-term excess capacity: Option 2. Introduce greater flexibility into the production process Advantages?

Answer 12

1 production can be reduced during slack periods and increased when demand is high
2 avoids stocks build-up

Question 13

Dealing with short-term excess capacity: Option 2. Introduce greater flexibility into the production process disadvantages?

Answer 13

1 staff may be de-motivated by not having full-time, permanent contracts
2 fully flexible and adaptable equipment can be expensive.

Question 14

Dealing with long-term excess capacity what are the options?

Answer 14

Option 1. Rationalise existing operations and cut capacity, e.g. by closing factories/offices
Option 2. Research and development into new products

Question 15

Dealing with long-term excess capacity: Option 1. Rationalise existing operations and cut capacity advantages?

Answer 15

1 reduces overheads

2 higher capacity utilisation

Question 16

Dealing with long-term excess capacity: Option 1. Rationalise existing operations and cut capacity disadvantages?

Answer 16

1 redundancy costs for staff payments

2 capacity may be needed later if economy picks up or if firm develops new products.

Question 17

Dealing with long-term excess capacity: Option 2. Research and development into new products advantages?

Answer 17

1 will replace existing products and make business more competitive.
2 if introduced quickly enough, might prevent rationalisation and the problems associated with this.

Question 18

Dealing with long-term excess capacity: Option 2. Research and development into new products disadvantages?

Answer 18

1 may prove to be expensive

2 may take too long to prevent cutbacks in capacity and rationalisation.

Question 19

How to overcome long-term capacity shortage problems, what are the options?

Answer 19

Option 1. Use subcontractors or outsourcing of supplies, components or even finished goods
Option 2. Capital investment in expansion of production facilities

Question 20

How to overcome long-term capacity shortage problems: Option 1. Use subcontractors or outsourcing of supplies, components or even finished goods advantages?

Answer 20

1 no major capital investment is required
2 offers much greater flexibility than expansion of facilities – if demand falls back, then the contracts with other firms can be ended.

Question 21

How to overcome long-term capacity shortage problems: Option 1. Use subcontractors or outsourcing of supplies, components or even finished goods disadvantages?

Answer 21

1 less control over quality of output may add to administration and transport costs
2 may be uncertainty over delivery times and reliability of delivery

Question 22

How to overcome long-term capacity shortage problems: Option 2. Capital investment in expansion of production facilities advantages?

Answer 22

1 long-term increase in capacity
2 firm is in control of quality and final delivery times
3 new facilities should be able to use latest equipment and methods.

Question 23

How to overcome long-term capacity shortage problems: Option 2. Capital investment in expansion of production facilities disadvantages?

Answer 23

1 capital cost may be high
2 problems with raising capital
3 increases total capacity, but problems could occur if demand should fall for a long period
4 takes time to build and equip a new facility.

Question 24

Outsourcing: what is Capacity shortage?

Answer 24

A capacity shortage occurs when the demand for a business’s products exceeds production capacity.

Question 25

Outsourcing: what is Outsourcing?

Answer 25

Outsourcing means using another business (a ‘third party’) to undertake a part of the production process rather than doing it within the business using the firm’s own employees.

Question 26

Outsourcing: what is Business-process outsourcing?

Answer 26

Business-process outsourcing is a form of outsourcing that uses a third party to take responsibility for certain business functions, such as HR and finance.

Question 27

What are the major reasons for outsourcing?

Answer 27

1 Reduction and control of operating costs
2 Increased flexibility
3 Improved company focus
4 Access to quality service or resources
5 Freed-up internal resources

Question 28

Explain how Outsourcing Reduces and control of operating costs?

Answer 28

It could be cheaper to ‘buy in’ specialist services as and when needed than employing expensive specialists that might not be fully used at all times.

Question 29

Explain how Outsourcing Increases flexibility?

Answer 29

By removing departments from the staff payroll and buying in services when needed, fixed costs are converted into variable costs.

Question 30

Explain how Outsourcing Improves company focus?

Answer 30

By outsourcing ‘peripheral’ activities, the management of a business can concentrate on the main core aims and tasks of the business.

Question 31

Explain how Outsourcing allows Access to quality service or resources

Answer 31

Many outsourcing firms employ quality specialists that small to medium-sized businesses could not afford to employ directly.

Question 32

Explain how Outsourcing can Freed-up internal resources

Answer 32

If the HR department of an insurance company is closed and the functions bought in, then the office space and computer facilities could be made available to improve customer service.

Question 33

What are the potential draw backs to out sourcing?

Answer 33

1 Loss of jobs within the business
2 Quality issues
3 Customer resistance
4 Security

Question 34

Explain how Outsourcing affects the Loss of jobs within the business?

Answer 34

This can have a negative impact on motivation. Workers who remain directly employed by the organisation may experience a lack of job security.

Question 35

Explain how Outsourcing creates quality issues?

Answer 35

Internal processes will be monitored by the firm’s own quality-assurance system. This will not be so easy when outside contractors are performing important functions.

Question 36

Explain how Outsourcing creates Customer resistance ?

Answer 36

Overseas telephone call centres have led to criticism about inability to understand foreign operators

Question 37

Explain how Outsourcing creates security risks?

Answer 37

Using outside businesses to perform important IT functions may be a security risk?