Chapter 8

Facility Location

Meaning of Plant Location

Plant location refers to the specific place where plant is located. Location may be defined as a
particular area/site/place selected for setting a manufacturing unit or plant or service unit.
Location is one of the factors which determine efficiency, stability and profitability of a
business unit.

Problems that can arise if the facility location is inappropriate:

 High production cost, marketing difficulties, dissatisfaction among employees
 Costly to shift to another location

Therefore, before setting up a plant, proper location analysis should be carried out.

When does a Location Decision Arise?

 When the business is newly started
 The existing business unit has outgrown its original facilities and expansion is not
possible; hence a new location has to be found
 The volume of business or the extent of market necessitates the establishment of
branches
 A lease expires and the landlord does not renew the lease
 There is emergence of new social or economic conditions which suggest a change of
location of the existing plant
 The product developments have outweighed the advantages of the existing plant
 The changes in the Industrial Policy of the Government, favoring decentralization and
dispersal of industries to achieve overall development of the country, do not permit
expansion of the existing plant

Whatever the reason, the selection of the location has to be made considering all economic
factors which have a bearing on it. The guiding principle in the search should be for a place
where the cost of the raw material and fabrication, plus the cost of marketing of the finished
product, will be minimum.

Factors Governing Plant Location:

Proximity to market:
Locating a plant nearer to the market is preferred if:
 The product is fragile
 The product is susceptible to spoilage
 The promptness of service is required
 The product is relatively inexpensive and transportation costs add significantly to the
cost
 If the product is to be exported, location near ports is desirable
 Nearness to market not only lowers transportation costs but also gives many other
benefits namely:
 • A good many administrative problems which cause perpetual headaches and
add to costs are avoided
• Liaison with dealers or wholesalers can be maintained economically and easily
• Other costs such as commissions to middlemen which at times run as high as 20 to
50 percent can be reduced significantly
• Customers’ accounts do not remain outstanding for settlement.
• Their recovery is easy and time saving which itself reduces selling costs

Proximity to Sources of Raw Materials:

This factor assumes still greater importance if raw materials are of perishable nature or if they
are expensive to transport, or if their weight is substantially reduced by processing

Besides transport costs, distance can pose other problems:

• Follow up with suppliers becomes costlier
• The buyer is unable to keep track of what is being dispatched by the supplier

Infrastructural facilities:
• Infrastructural facilities consider availability of utilities like power, water, disposal of waste,
etc.
• Certain industries are power intensive (e.g. aluminum, steel, etc.) and must be located close
to the sites of power generation
• Similarly, chemical process industries like paper and pulp, cement etc. require perennial
source of water
• Drainage facilities are important for process industries otherwise disposal of waste can
create lot of difficulties

Transport facilities:.
Transportation cost to value added is a key determinant of the plant location The structure of the
transportation cost depends on
• (i) characteristics of the commodity
• (ii) average distance of shipment
• (iii) medium of shipment: rail, road, air, sea etc

Transport facilities:
The need for transport arises because raw materials and fuel are to be moved to factory site and
finished goods are to be transported from factory to markets. Other things being equal, since
transport cost has a major effect on product cost, the regions well served by transport facilities are
most suitable for industrial locations.

Labor and wages:

The required labor should be easily available in the neighborhood. Training facility should also be
available in the neighborhood. Skilled employees are easily available if ITIs, or Engineering colleges
are there in the neighborhood. Productivity of labor is a factor of equal importance. Inhabitants of
certain areas are more productive than others. Prevailing wage pattern, living costs and industrial
relations also need to be taken into account

Legislation and Taxation:

The policies of the State Government and Local Bodies relating to issue of licenses, building codes,
labor laws, etc. are the factors in selecting / rejecting a particular site. Since taxes and duties levied
by the State Government and Local bodies substantially influence product cost, the incidence of such
taxes/levies must be taken into account while selecting a site.
Climatic conditions:
Climatic factors may not have major influence these days because of modern air-conditioning
facilities available today. However, it may be important factor for certain industries like textile mills
which require high humidity. For example, textile mills require high humidity. So they are located in
places where there is humidity.

Industrial and labor attitudes:

Locating facilities in a certain region/community may not be desirable as frequent labor problems
and interruptions are harmful to the plant in the long run. Political situation in the state and attitude
of the Government towards labor activities also influence selection of site for the plant.

Safety requirements:
Safety factor may be important for certain industries such as:
• Nuclear power plants
• Explosive factories
Location of such industries in remote areas is preferable.

Community facilities (or social infrastructure):

Community facilities imply accommodation, educational, entertainment and transport facilities.
Accommodation is needed unless the employees are local residents. Accommodation should be
easily available, comparatively cheap and near some public transport stop. The area should be
accessible by road and have an efficient public transport system for employees, officials, customers,
and suppliers to make easy trips for their work. Communication is another important infrastructure.
Availability of post office, telegraph office, efficient telephone service is very important. Other
infrastructure includes proximity to railhead or highway, availability of medical, educational,
entertainment facilities etc.

Community Attitudes:
Community attitudes towards work are very important in locational decisions which must take such
factors into account particularly while setting up labor intensive units.

Supporting Industries and Services:

Locational factors should also include proximity of services needed by the firm. A firm desirous of
getting some parts or some operations done from outside must see that such subcontractors are
located in the neighborhood.

Suitability of Land:
Site selection should also take into account topography and soil structure of the land. The soil
structure must be capable of bearing loads.

Availability and Cost of the Land:

Site size (plot size) must be large enough to accommodate present production facilities, and also
leave room for future expansion. As a general rule, a site five times the actual plant size is
considered minimum for all these things.

Plant Location Methods

Many techniques are available for identifying potential sites for plants or other types of facilities.
The process required to narrow the decision down to a particular area can vary depending on the
type of business and the competitive pressures. Many different criteria need to be considered when
selecting from the set of feasible sites. We will discuss the following three different types of
techniques for selecting the best site:

Factor-rating method and point rating method,

• Transportation method, and
• Centroid method.

Factor Rating Method:

First, list all favorable factors for evaluating the location. Then each factor is rated from high value to
low, usually from 1 to 10. This rating is according to relative importance of the factor. Then, rating of
location according to characteristics and merits of each location. Finally, factor rating is multiplied by
location rating to obtain final result. The total of the product of factor rating and location rating
specifies the most appropriate location.

Example of Factor Rating Method

Point Rating Method:

This method involves importance of each factor. Each factor is assigned relative weight out
of maximum of 100 points. Potential location is evaluated according to every factor
considered by the management. A number of points are assigned to each factor. The location
having the highest score is selected as the most suitable location.
 Example of Point-rating Method

Factor Rating Method

A major problem with point-rating schemes is that they do not account for the wide range of
costs that may occur within each factor. For example, there may be only a few hundred
rupees difference between best and worst locations for one factor but several thousands of
rupees difference between the best and worst on another. The first factor may have most
points available to it but provide little help in making location decision. The second factor
may have few points available but potentially show real difference in the value of locations.
To deal with this problem, it is suggested that points possible for each factor be derived using
a weighting scale based on standard deviations of costs rather than simply total cost amounts.
In this way, relative costs can be considered.

Transportation Method
This is a special case of linear programming method. The name is derived from its
applications to problems involving transporting products from several sources to several
destinations. The two common objectives of such problems are either:
• Minimize the cost of shipping n units to m destinations or
• Maximize the profit of shipping n units to m destinations.

Transportation Problem Formulation

State the problem mathematically as follows:

Let ai = quantity of product available at origin i.

• bj = quantity of product required at destination j.
• cij = the cost transporting one unit of product from source/origin i to destination j
• xij = the quantity transported from source/origin i to destination j.
Assume that which means that the total quantity available at the origins is
precisely equal to the total quantity required at the destinations.

With these, the problem can be stated as a linear programming problem as:

Minimize Total Cost

Subject to for i = 1, 2, …, m

for j = 1, 2, …, n

And for all i = 1, 2, …, m, and j = 1, 2. …, n.

The transportation problem can also be portrayed in a tabular form by means of a

transportation tableau, as shown below:

The tableau can be thought of as a matrix within a matrix, of dimension m x n. One matrix is
the per unit cost matrix which represents unit transportation costs for each possible
transportation routes. Cij, indicating cost of shipping a unit from ith origin to j th destination.
Superimposed on this matrix is the matrix in which each cell contains a transportation
variable –the number of units shipped from the row-designated origin to the column-
designated destination. Each such variable is represented by xij, the amount shipped from ith
source to jth destination.
Right and bottom sides of the transportation tableau show, respectively, the amount of
supplies ai available at source i and the amount demanded bj at each destination j. The ai’s
and bj’s represent the supply and demand constraints. The aggregate transportation cost is
determined by multiplying the various xij’s with corresponding cij’s and then adding them all.
The solution to the transportation problem calls for determining the values of xij’s as would
yield the minimum aggregate transportation cost.

Centroid Method
Centroid method is a technique for locating single facilities that considers existing facilities,
the distances between them and the volume of goods to be shipped. This technique is used to
locate intermediate or distribution warehouses. It assumes that inbound and outbound
transportation costs are equal. It does not include special shipping costs for less than full
loads. Another major application is the location of communication towers in urban areas,
such as Radio, TV, and cell phone towers. In this application, the goal is to find sites that are
near clusters of customers.

The centroid method begins by placing the existing locations on a coordinate grid system.
The choice of the coordinate system is entirely arbitrary. The purpose is to establish relative
distances between locations. The centroid (center of gravity of a geographical location) can
be identified by calculating the X and Y coordinate values of the location that would
minimize transportation costs. The coordinates of the center of gravity can be identified by

Where Xc and Yc are the coordinates of the center of gravity, Vi is the volume of items
transported to and from location i, and Xi and Yi are the coordinates of location i.

Example:
The table below shows the X and Y coordinates of seven retail locations of a retail chain.
Information regarding the quantity to be shipped to each of the seven locations is given in the
table. Using the center of gravity method, identify the coordinates of the optimal location for
the warehouse.
Solution

From the table, we get the values as under:

Substituting these values in the equation, we get

Volume-weighted X coordinate = Xc =

Volume-weighted Y coordinate = Yc =

The X and Y coordinates of the point of center of gravity are 8.45 and 7.53

The graph below shows that the location of the warehouse is closest to retail outlet F.

Locating Service Facilities

Because of the variety in service firms, and relatively low cost of establishing a service
facility compared to manufacturing, new service facilities are more common. Services
typically have multiple sites to maintain close contact with customers. The location decision
is closely tied to market selection decision. For example, if the target market is college
groups, location decisions in retirement communities – despite low cost, resource availability,
etc. – are not viable. Market needs also affect number of sites to be built and the size and
characteristics of the sites. Many service location decision techniques maximize the profit
potential of various sites. .