Planning Aggregate Production, Workforce, and Inventory Levels

Nature of Aggregate Planning

Most managers want to plan and control operations at the broadest level through
some kind of aggregate planning that bypasses the details of individual products and the
detailed scheduling of facilities and personnel. Management must be able to forecast for
some reasonable planning period, perhaps up to a year, in these aggregate terms. Finally,
management must be able to isolate and measure the relevant costs. These costs may be
reconstructed in the form of a model that will permit near-optimal decisions for the
sequence of planning periods in the planning horizon.
What is aggregate planning?
Aggregate planning can involve complex mathematical formulas to predict demand for
businesses with perishable services or a more relaxed strategy of trial and error for
manufacturers that can stockpile inventory.
Aggregate planning is a method for analyzing, developing, and maintaining a
manufacturing plan with an emphasis on uninterrupted, consistent production. Aggregate
planning is most often focused on targeted sales forecasts, inventory management, and
production levels in the mid-term (3-to-18-month) future.
Note that production planning is not just goods, but services as well. Aggregate planning
defines the necessary production inputs for a good or service (including facilities, workforce,
raw materials, and inventory levels) to maintain consistent delivery dates, all while keeping
costs down. Aggregate planning is a process that helps businesses plan the quantity and
timing of output over a medium-term period to minimize costs and meet demand:
Goal: To minimize costs by matching supply and demand
Time horizon: Typically 3 months to 1 year
Benefits: Helps businesses approach inventory and staffing, assess and minimize risks, and
build more efficient systems
Strategies: Includes building up inventory ahead of rising demand, laying off or
furloughing workers during lulls, and subcontracting production or hiring temporary workers
to cover short-term peaks
Considerations: Highly efficient forecasting is a key
input to the planning cycle, and minimizing cost is a
key consideration
How to Create an Aggregate Plan
To create an aggregate plan, you must first
determine the number of units that are produced
over a specific time frame, which is the capacity, and
the number of units needed, which is the customer
demand.
Here are some of the factors to consider when trying
to create consistency in your process:
Pricing Strategies: When demand is low, reduce the price to match capacity. You can also
do the reverse; when demand is high, increase the price.
Advertising/Promotion: Marketing and promotional activities can impact the demand for
your product or service.
Back Ordering: Delay delivery until demand catches up with capacity.
New Demand Creation: Create another demand to supplement an existing one.
Workforce: You can lay off or hire employees to meet the demand or respond to a lack of
it. Overtime, subcontracting, or use of a temporary workforce is also an option.

What’s the Purpose of Aggregate Planning?

As stated, the goal of aggregate planning is figuring out the level of production, inventory
and workforce required to respond to fluctuating demand in the medium term. With this
information, a business can assess when demand will spike or wane, and ensure it has
enough product to meet the moment. Aggregate production planning also lets
manufacturers know what staff, materials, output rates, timeline estimates, and budget
costs they need.
Making forecasts saves the company from changing its production schedule quickly, which is
not only expensive but also creates insecurity and uncertainty. With aggregate planning, you
can make a fairly accurate forecast of demand and capacity in the medium term.

Resource Management
In other words, you’re working on short-term resource allocation. This reduces the risk of
overproduction, which wastes resources, depresses prices, and can lead to oversaturation of
your product in the market. By reducing production during periods of weak demand, you
save money on labor and materials.
Costs
The choices concerning aggregate production, workforce, and inventory levels
influence several relevant costs. These costs need to be identified and measured so that the
alternative aggregate plans can be evaluated on a total cost criterion. Some of the cost
items that may be relevant are:
 Payroll costs
 Costs of overtime, second shift, and subcontracting
 Costs of hiring and laying off workers
 Costs of excess inventory and backlog
 Costs of production rate changes

The selected cost items that are included in the model should vary with changes in
the decision variables. If a cost item, such as the salary of a manufacturing manager, is
incurred no matter which aggregate plan is chosen, then this cost is excluded from
consideration.

Cost Savings

Aggregate planning helps companies achieve their financial goals and improve the bottom
line. It allows for maximum utilization of the available production capabilities while meeting
customer demand and reducing their wait time, as well as reducing the cost of stocking
excess inventory

Good Data is Required

Aggregate planning forecasting is not a magic bullet, though. It’s only as good as the data
you collect (and the people you use) to forecast. People have biases, and they can misread
economic indicators or use faulty forecast models. There are always unknowns, too, such as
material price spikes, implementation of new policies, changing interest rates. Not to
mention labor; alterations in labor conditions can cause unrest in your workforce.

3 Types of Aggregate Planning Strategies

Success depends on having the following inputs: an aggregate demand forecast for the
period you’re planning for, evaluating capacity management (including using subcontractors,
outsourcing, etc.), and the existing operational status of your workforce. All this will lead to
greater accuracy, and therefore, a greater likelihood of success.

You can achieve this by applying a variety of aggregate planning strategies. There are three
main ones that organizations have used:

Level Strategy: The goal of an aggregate planning strategy is to keep the production rate
and the workforce level. This requires strong forecasting of demand to know if production
levels must be increased or decreased as customer demands grow and shrink. This
aggregate production planning strategy will keep your workforce steady but can increase
your inventory and backlog.

Chase Strategy: As the name implies, you are chasing market demand. The production
matches demand, and excess inventory isn’t held over. This is part of a larger lean
production strategy, which saves money by waiting until an order is placed. However,
productivity and quality can be reduced, and it can negatively impact the morale of your
workforce.

Hybrid Strategy: There is a third alternative, which is a hybrid of the previous two
strategies. This keeps the balance between the production rate, workforce and inventory
levels, while still responding to demand as it changes. This alternative offers a bit of
flexibility that can satisfy demand while working to keep production costs low.

Decision Process for Aggregate Planning

The aggregate planning problem is the production planning problem of an

organization seeking to meet a varying pattern of demand over an intermediate span of
time. Specifically, the managerial decisions in the aggregate planning problem are to set
aggregate production rates and workforce levels for each period within the planning horizon.

The Linear Decision Rule

The LDR was developed in 1955 by Holt, Modigliani, Muth, and Simon as a quadratic
programming approach for making aggregate employment and production rate decisions.
The LDR is based on the development of (1) regular payroll, (2) hiring and layoff, (3)
overtime, and (4) inventory holding, back ordering, and machine set-up costs. The quadratic
cost function is then used to derive two linear decision rules for computing workforce level
and production rate for the upcoming period based on forecasts of aggregate sales for a
preset planning horizon.

Linear Programming Methods

The aggregate planning problem has been developed in the context of the
distribution model (Bowman, 1956) as well as more general models of linear programming.
Methods of linear programming developed for distribution problems have some limitations
when they are applied to aggregate planning problems. The distribution model does not
account for production change costs, such as those incurred in hiring and laying off
personnel. Thus, the resulting programs may call for changes in production levels in one
period that require an expanded workforce, only to call for the layoff of these workers in the
future period.

Search Decision Rule (SDR)

When using this procedure, it is hoped that an optimum value may be eventually
found, but there is no guarantee. In direct search methods, the cost criterion function is
evaluated at a point, the result is compared with previous trial results, and the move is
determined on the basis of a set of heuristics (rules of thumb).

Comparative Performance of Aggregate Planning Decision Processes

 Lee and Khumawala (1974) report a comparative study carried out in the
environment of a firm in the capital goods industry having annual sales of
approximately $11 million. The plan was a typical closed job manufacturing
facility in which parts were produced for inventory and were then assembled
into finished products either for inventory or for customer orders.
 The four decision processes used were LDR, SDR, Parametric Production
Planning, and the Management Coefficient model. Parametric Production
Planning is a decision process proposed by Jones (1967) that uses a coarse grid
search procedure to evaluate four possible parameters associated with minimum
cost performance in the firm’s cost structure.
 The Management Coefficient model was proposed by Bowman (1963); it
establishes the form of the decision rules through rigorous analysis, but it
determines the coefficients for the decision rules through the statistical analysis
of management’s own past decisions.

In addition to aggregate planning, managers use a number of policies to cope with

the problems that result from seasonality; among them are the adaptation of counter-
seasonal products, influencing demand, some interesting organizational adaptations, and
legal coordination with other organizations.

Aggregate Planning for Nonmanufacturing Systems

The general nature of aggregate planning and scheduling problems in

nonmanufacturing settings is similar to that of manufacturing settings in that we are
attempting to build a cost or profit model in terms of key decision variables for short-term
capacity. The degrees of freedom in adjusting short-term capacity in nonmanufacturing
settings are likely to be fewer, however, because of the absence of inventories and
subcontractors as sources of capacity. The result is that the manager is more likely to
attempt to control demand through techniques like reservations or to absorb fluctuations in
demand rather directly by varying workforce size, hours worked, and overtime.
Aggregate Planning Under Uncertainty
In many realistic situations, there is considerable uncertainty in demand estimates.
Usually, the uncertainty is greater for time periods that are further into the future. If actual
demand does not turn out to be close to what was expected when the aggregate production
plan was formulated, excess inventories or stockouts could occur.
IMPLICATIONS FOR THE MANAGER
The aggregate planning problem is one of the major important to managers because
it is through these plans that major resources are deployed. Through the mechanisms of
aggregate planning, management’s interest is focused on the most important aspects of this
deployment process; basic employment levels and activity rates are set, and where
inventories are available as a part of the strategy, their levels are also set. Given the
managerial approval of these broad-level plans, the detailed planning and scheduling of
operations can proceed within the operating constraints established by the aggregate
planning model.
Presently, the computer search methods seem to offer the most promise. Although
some of the analytical methods do produce optimum solutions, we must remember that it is
the model that is being optimized. The real-world counterpart of the model is also optimized
only if the mathematical model duplicates reality. The computer search methods are only
optimum seeking by their nature, but they do not suffer from the need to adhere to strict
mathematical forms in the model and can therefore more nearly duplicate reality I cost and
profit models.
The extension of aggregate planning models to joint decisions among the
production, marketing, and finance functions is most encouraging and demonstrates
progress in our ability to employ systems concepts.
Perhaps the greatest single contribution of formal models to aggregate planning is
that they provide insight for the manager into the nature of the resource problem faced.
Managers need to understand that good solutions ordinarily involve a mixed strategy that
uses more than one of the available options of hiring layoff, overtime, inventories, outside
processing, and so forth. The particular balance for the given organization will depend on
the balance of cost in that organization. Even if formal models are not used for decision-
making, they may be useful as managerial learning devices concerning the short-term
capacity economics of the enterprise. Judgment about the advantageous combination of
strategies at any particular point in the seasonal cycle can be developed through a gaming
process.
The managerial must be concerned not only with the direct economic factors that
enter the aggregate planning problem but also with the human and social effects of
alternative plans. These kinds of variables are not included in formal models; however, by
considering a range of alternate plans that meet human and social requirements to varying
degrees, managers can make trade-offs between costs and more subjective values. Thus,
the formal models can help managers generate aggregate plans that are acceptable based
on broadly based criteria.
Inventories are not available to absorb demand fluctuations in the service and non-
manufacturing situations. Although this variable is not available as a managerial strategy,
the aggregate planning problem in such organizations is conceptually similar to that in
manufacturing organizations. Thus, managers must focus their strategies on hiring and
layoff, on the astute use of normal labor turnover, and on the allocation of overtime and
undertime. In service-oriented situations, the use of part-time workers is often an effective
strategy.