Overcapacity, or how to lose money from the beginning of the project

At the beginning of a project (whether it's a new client or a new project, including setting up a company), everyone calculates capacity to determine the necessary machinery to deliver the requested quantity to the client. At this stage, when production sizing begins, exaggerations usually start: instead of taking 2 machines, we take 3 machines, just to be sure we can deliver. This happens even if the investment is made from own funds (or credit) or if it is made totally or partially by the client.

Everyone is satisfied and feels confident that "we definitely won't have delivery delays anymore." However, this sense of satisfaction begins to erode after the project is launched when it becomes apparent that, although everything looks good on paper, the profit is "completely missing." Still, there is hope: to get through the startup period (ramp-up), and then things will stabilize, and profit will return to the calculated level.

After a few months when profit shows no signs of recovery, a visit to the client follows for a price increase (usually the client does not accept or accept a very small price increase). Where is the calculated profit? It was "eaten up" by the desired overcapacity.

How can overcapacity affect profit margins?

From a financial point of view, if 3 machines are bought instead of 2 (50% more machines), the expense is 50% higher (interest with 50% higher) and the depreciation of the machines is 50% higher. If the client pays for these machines, the amount deducted from the product price will be 50% higher.

Here is the financial loss, which is known and perhaps assumed. This loss is added to the operational loss. It requires 50% more operators to work on the machines, 50% more tools and devices for the machines, and last but not least, additional personnel for maintenance. And, the icing on the cake, as in the case of overproduction, more defects and longer downtimes will occur because everyone knows there is excess capacity.

Moreover, if an attempt is made to use the entire capacity, overproduction will be reached, with all the problems that derive from it. Thus, at the end of the month, it is found that there are orders, there is capacity, but ... there is NO profit.

So, be very careful with overcapacity; it doesn't solve problems but creates them.