Expansion of finite lifetime capacity under random demand shocks
Journal
International Journal of Advanced Manufacturing Technology
Journal Volume
89
Journal Issue
5-8
Pages
1901-1913
Date Issued
2017
Author(s)
Abstract
Two degrees of demand uncertainty can be discerned: demand variation and demand shock. Demand shocks, being much larger in scale than demand variations, represent significant risk to capacity investment in many high-tech industries wherein equipment has short and finite lifetime. However, in the literature, demand shocks are usually treated as part of demand variations and are not adequately addressed. The objective of this paper is to determine whether or not demand shock and demand variation should be distinguished in capacity planning. This paper starts with an analysis of demand variations and shocks by using data of a major high-tech manufacturing firm. A model of demand shock on growth trend is proposed. Simulation is then used to compare the performance of a shock-conscientious model and a variation-conscientious model of capacity expansion by using stylized industry data. Two important findings are drawn from simulation results. Demand shock and demand variation have the opposite effects on the optimal capacity level. They are best treated as separate elements of the uncertainty. It is also found that the recovery rate after a demand shock is a major aspect of the shock that should be taken into consideration in capacity planning.
Type
journal article