Types of Capacity
The capacity of a work center can be categorized in one of the following three ways:
- Productive capacity. This is the amount of work center capacity required to process all production work that is currently stated in the production schedule.
- Protective capacity. This is an additional layer of production capacity that is maintained to provide additional units as needed to keep the bottleneck operation from running out of work.
- Idle capacity. All remaining unused capacity is considered idle. Only this layer of production capacity can be safely eliminated without impacting the ability of a work center to meet all anticipated needs.
If management decides to reduce the capacity of a work center, and the result is a reduction in protective capacity, it is likely that the bottleneck operation will eventually run out of material inputs, and so will stop production. The result is a decline in the throughput of the entire manufacturing facility that relates to the bottleneck operation, and therefore a reduction of total company profits.
Thus, any decision to reduce work centers should first consider the type of capacity that is to be eliminated, and how the reduction can impact the throughput of the business. In many cases, the cost reduction to be achieved does not offset the risk of reduced throughput.
A discussion of throughput concepts is available on Episodes 43 through 47 of the Accounting Best Practices podcast.