this is a video on capacity utilization including how we make the calculation for capacity utilization the problems a business could find with over and under utilization of capacity and how they might address those problems so one thing that people can get confused about quite commonly is the difference between a business's capacity and their capacity utilization so let's just clear that one up straight away a business's capacity is their maximum total output that they can produce in a given time period so if you've got a cinema with 500 seats then the capacity of that cinema is 500 people or 500 seats if you've got a car manufacturer that can produce 300 cars in a day then their capacity is 300 cars per day maximum that they can produce in a given period the capacity utilization is the percentage of that total capacity which is actually being used so if you've only got 60 of the seats full in that cinema then the capacity utilization would be 60 the calculation for working that out would be to take your actual output divided by your maximum possible output your your output of full capacity and multiply that by a hundred so you're essentially doing your actual output what you're producing as a percentage of what you could produce okay quick example of that if you've got that cinema example and you've got 500 seats in the cinema and there are 499 people there or your actual output is 499 you've sold 499 tickets your maximum possible output is the 500 seats in the cinema multiplied by 100 99.8 would be your capacity utilization so that'll be very very high capacity utilization if you only had 30 people in that cinema you would be doing 30 divided by your 500 seats your maximum possible output multiplied by 100 which would be six percent very very low capacity utilization most businesses then are going to look to operate at relatively high levels of capacity utilization and that's because if their capacity utilization is too low or if they've got an utilization of capacity would be another way of looking at that would be would mean that their fixed costs will be spread over fewer units of output which means that their cost per unit will then be driven up so remember fixed costs are costs that do not change depending on output so think about that cinema it's still got to pay its rent electricity and actually most of its labor costs they've still got to pay their cleaners and the people working on the tills whether they sell one ticket or 500 tickets in each of those screens so a higher level of capacity utilization means the cost per unit is lower and that's really going to be key for most businesses to to making any sort of profit on each sale that they make the other side to that is that over utilization of capacity is going to make it difficult to service and maintain machinery so if you think about a manufacturing business working at absolutely full capacity they've got 100 capacity utilization then yes that will be good probably for a while because demand is high and as we've said those co those costs per unit are going to be lowered but they've never got any time to service or maintain their machinery they might start to break down over over a period of time and then customers might then get let down and could negatively affect the reputation of your business and the other thing about capacity utilization that's really high up towards or around 100 percent is that ultimately you're going to have to turn away customers so you might have people coming wanting to use your business but you just don't have the capacity in order to serve them and if you're turning customers away then you're turning them away towards competitors and so for that reason most businesses look to around 90 to 95 percent capacity utilization as a good level for them to aim for too high and they've got those problems with servicing and maintaining machinery and turning away demand too low and that's going to drive up their cost per unit of production now there are strategies that businesses could put in place to try and address these problems with overall underutilization of capacity so if the problem was was under utilization of capacity what they might look to do would be to try and increase demand increase sales would be probably the most obvious way to try and increase capacity utilization but that is easier said than done it's going to be the challenge for all businesses is going to be to try and encourage more people to buy their products and to try and achieve more sales how would they do that they would generally look towards the marketing department so they'll be looking at things like promotions special offers potentially cutting prices to try and make their product more affordable and attract more customers in that way or possibly improvements to the product which might attract more customers as well they could look at cutting back on their capacity if they've got an under utilization of capacity the other approach would be to reduce their overall capacity and that would then increase capacity utilization as well and the main way a business would look to do this is through what we call rationalization which is a good business term for reorganizing production usually by cutting back on the scale of our operations and so imagine that cinema again we've got 10 screens and if they're all operating at 30 capacity utilization well that's really too low so they might look to reduce the number of screens and actually um one of the cinemas in cambridge has done something quite similar they were struggling with quite low capacity utilization and they stripped out all of their seats in all of their screens and replaced them with bigger really comfortable reclining seats and so that's kind of combined both of these two approaches to addressing underutilization of capacity because it helped to increase demand there by improving the product and making the seats more comfortable and attracting more customers but at the same time it's also cut back on their capacity because the seats are much bigger and so they've got a smaller capacity to fill in each of those screens the problems over utilization of capacity then the strategies are going to be a bit different and i would say the most obvious one would be increasing the overall capacity so if your capacity utilization is too high you could look to invest expand increase your capacity open more screens open more cinemas and that would then help to bring capacity utilization back to a more reasonable level the problem you'd have with that is that you've got to be sure that demand is going to be maintained over a period of time because if you expand and increase your capacity it's just a short surge in demand that then goes down again in the future you're going to end up with the other problem of underutilization of capacity in the future and so for that reason businesses sometimes look to what we call subcontracting which is tendering out part of the production process or the production of some products to another company and so you still take on the orders but you're paying another company to deliver on them or to deliver some part of that process and then you don't have that problem of over investment if demand then does dip you can just cut back on some of the the subcontracting that you're doing the problem with subcontracting is that you're then relying on another company to produce some of your output and if they let you down or they produce lower quality products then it's going to be your reputation which is going to be damaged by that