We cannot but accept this fact of life as Singapore matures into a developed country. To compete in an increasing cost environment, some businessmen have turned to increasing sales, starting new businesses or taking other cost cutting measures. Whatever measure you may embark on, a key question to ask is this - will what you are going to do make your business more competitive?

I am going to share with you in this article one way you can compete, which is to control cost through capacity management. This basically boils down to controlling the increase in per unit cost rather than the total costs per se, which many businessmen seem to be more concerned with.

The per unit cost is the sum of the fixed costs and variable costs divided by the number of units produced:

Fixed cost + Variable Cost No of units produced

=

Cost per unit of product

The minimum we can do is to slow down the rate of increase in the per unit cost; the ultimate is to reduce it. Looking at the formula, one obvious way to reducing the cost per unit is to increase production. You may ask - how can you increase production without a corresponding increase in costs? The trick is in working your factors of production more efficiently and effectively. This can lead to either an increase in production or a reduction in the consumption of inputs, both of which will reduce the per unit cost.

Tackling the increase in per unit cost entails a continuous exercise in measuring, planning and controlling your capacity. We propose the following business model:

Measure Present Capacity
You need to know the maximum units your business can produce a day, a week, a month and a year. This allows for a better understanding of the cost structures so that you can then know the true cost per unit of item produced.

Measure Capacity Utilisation
Knowing your maximum capacity, you should then determine how much of it is being used. In production, this is to know the actual number of units produced, which can be easily derived from sales or production records. In the service line, this is to know how much of your available man-hours are charged.

A very important benefit from this exercise is that bottlenecks, if any, can be uncovered and steps can be taken to enhance capacity by adjusting the production flow, work processes or machine utilisation. It also allows you to examine if you are working your resources in an optimal way to produce what they are best suited to do. On a macro scale, it poses you a very important question - are you producing what you are good at, and what would differentiate you from your competitors? For example, if your machinery is tailored to produce very high quality products and your staff are using it for mass production quality items, then you are certainly not using your resources effectively to give you the competitive edge.

Utilise unused capacity
In the above exercise, you may uncover unused capacity, which can be caused by several factors, and not just insufficient sales alone. Steps must be taken to increase the utilisation of your resources. You can adopt one or more of the following:

If you are unable to use the unutilised capacity, you would have to either scale it down or mothball some portion of it until such time when it can be utilised.

Prepare a Business Plan
After obtaining an idea of your available capacity, how it is being used, and how you may work your resources more efficiently to utilise the capacity, you can reach some ballpark figures for a business plan. Essentially, your business plan will map out the sales that your business can do based on your capacity in order to generate a positive return, and how you can go about achieving it.

Right-sizing Capacity (to fit Business Plan)
Having reached a business plan is not an end. It is a means to an end. Your business plan will typically contain several simulations for various rates of returns to your business. As business conditions change, you would need to continuously adjust your capacity utilisation to ensure that the rate of return to the business remains positive. In other words, you adjust until you get the "right size" for your desired level of operations.

What if it fails?
The process of adjusting your capacity and its utilisation to yield positive returns is a never-ending task. It forces you to focus on the objective of the business - to yield a positive return with existing resources.

If after doing all the above, you still cannot reasonably expect to yield a positive return, then you should consider various alternatives, including:

Conclusion
By increasing the efficiency and effectiveness of your factors of production, you can increase production, and through the formula mentioned above, accordingly reduce your per unit cost, or slow down its increase. To work your factors of production better, I have recommended an exercise in capacity management, which can be summarised as follows:

In your journey through the processes of determining how best you can compete in an increasing cost environment, we would be most pleased to be your sparring partners.

Year published : 1997