Aggregate Planning: Meaning, Strategies and Cost
Aggregate planning is the process of developing, analyzing, and maintaining a preliminary, approximate schedule of the overall operations of an organization. The aggregate plan generally contains targeted sales forecasts, production levels, inventory levels, and customer backlogs. This schedule is intended to satisfy the demand forecast at a minimum cost. Properly done, aggregate planning should minimize the effects of shortsighted, day-to-day scheduling, in which small amounts of material may be ordered one week, with an accompanying layoff of workers, followed by ordering larger amounts and rehiring workers the next week. This longer-term perspective on resource use can help minimize short-term requirements changes with a resulting cost savings.
In simple terms, aggregate planning is an attempt to balance capacity and demand in such a way that costs are minimized. The term “aggregate” is used because planning at this level includes all resources “in the aggregate;” for example, as a product line or family. Aggregate resources could be total number of workers, hours of machine time, or tons of raw materials. Aggregate units of output could include gallons, feet, pounds of output, as well as aggregate units appearing in service industries such as hours of service delivered, number of patients seen, etc.
Aggregate planning does not distinguish among sizes, colors, features, and so forth. For example, with automobile manufacturing, aggregate planning would consider the total number of cars planned for not the individual models, colors, or options. When units of aggregation are difficult to determine (for example, when the variation in output is extreme) equivalent units are usually determined. These equivalent units could be based on value, cost, worker hours, or some similar measure.
Aggregate planning is considered to be intermediate-term (as opposed to long- or short-term) in nature. Hence, most aggregate plans cover a period of three to 18 months. Aggregate plans serve as a foundation for future short-range type planning, such as production scheduling, sequencing, and loading. The master production schedule (MPS) used in material requirements planning (MRP) has been described as the aggregate plan “disaggregated.”
Steps taken to produce an aggregate plan begin with the determination of demand and the determination of current capacity. Capacity is expressed as total number of units per time period that can be produced (this requires that an average number of units be computed since the total may include a product mix utilizing distinctly different production times). Demand is expressed as total number of units needed. If the two are not in balance (equal), the firm must decide whether to increase or decrease capacity to meet demand or increase or decrease demand to meet capacity. In order to accomplish this, a number of options are available.
Options for situations in which demand needs to be increased in order to match capacity include:
- Varying pricing to increase demand in periods when demand is less than peak. For example, matinee prices for movie theaters, off-season rates for hotels, weekend rates for telephone service, and pricing for items that experience seasonal demand.
- Advertising, direct marketing, and other forms of promotion are used to shift demand.
- Back ordering. By postponing delivery on current orders demand is shifted to period when capacity is not fully utilized. This is really just a form of smoothing demand. Service industries are able to smooth demand by taking reservations or by making appointments in an attempt to avoid walk-in customers. Some refer to this as “partitioning” demand.
- New demand creation. A new, but complementary demand is created for a product or service. When restaurant customers have to wait, they are frequently diverted into a complementary (but not complimentary) service, the bar. Other examples include the addition of video arcades within movie theaters, and the expansion of services at convenience stores.
Options which can be used to increase or decrease capacity to match current demand include:
- Hire/lay off. By hiring additional workers as needed or by laying off workers not currently required to meet demand, firms can maintain a balance between capacity and demand.
- By asking or requiring workers to work extra hours a day or an extra day per week, firms can create a temporary increase in capacity without the added expense of hiring additional workers.
- Part-time or casual labor. By utilizing temporary workers or casual labor (workers who are considered permanent but only work when needed, on an on-call basis, and typically without the benefits given to full-time workers).
- Finished-goods inventory can be built up in periods of slack demand and then used to fill demand during periods of high demand. In this way no new workers have to be hired, no temporary or casual labor is needed, and no overtime is incurred.
- Frequently firms choose to allow another manufacturer or service provider to provide the product or service to the subcontracting firm’s customers. By subcontracting work to an alternative source, additional capacity is temporarily obtained.
- Cross-training. Cross-trained employees may be able to perform tasks in several operations, creating some flexibility when scheduling capacity.
- Other methods. While varying workforce size and utilization, inventory buildup/backlogging, and subcontracting are well-known alternatives, there are other, more novel ways that find use in industry. Among these options are sharing employees with counter-cyclical companies and attempting to find interesting and meaningful projects for employees to do during slack times.