6 Location Decisions

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Federal Express

 Central hub concept (Memphis)

 Enables service to more locations with
fewer aircraft
 Located in the middle of the US
 Location has very few bad weather closures
 Enables matching of aircraft flights with
package loads
 Reduces mishandling and delay in transit
because there is total control of packages
from pickup to delivery
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Location Strategy

The objective of location strategy is

to maximize the benefit of location
to the firm

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 Location Strategy
 One of the most important decisions a firm makes
 Increasingly global in nature
 Significant impact on fixed and variable costs
 Transportation alone can be upto 25% of the product’s selling
price
 Decisions made relatively infrequently
 Because demand has outgrown the current capacity, change in
labor productivity, exchange rates, costs, local attitudes
 The objective is to maximize the benefit of location to the
firm
 Location options include 1) expanding existing facility, 2)
maintaining current site while adding facility elsewhere, 3)
closing the existing facility and moving to another location

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Location and Costs

 Location decisions based on low cost

require careful consideration
 Once in place, location-related costs
are fixed in place and difficult to
reduce
 Determining optimal facility location is
a good investment

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 Location and Innovation
 Cost is not always the most important aspect
of a strategic decision
 Four key attributes when strategy is based on
innovation
 High-quality and specialized inputs
 An environment that encourages investment
and local rivalry
 A sophisticated local market
 Local presence of related and supporting
industries

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Location Decisions

 Long-term decisions
 Decisions made infrequently
 Decision greatly affects both fixed
and variable costs
 Once committed to a location, many
resource and cost issues are difficult
to change

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 Location Decisions
Country Decision Key Success Factors
1. Political risks, government rules,
attitudes, incentives
2. Cultural and economic issues
3. Location of markets
4. Labor talent, attitudes, productivity,
costs
5. Availability of supplies,
communications, energy
6. Exchange rates and currency risks

Figure 8.1
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 Location Decisions
Region/ Key Success Factors
Community 1. Corporate desires
Decision 2. Attractiveness of region
3. Labor availability and costs
MN 4. Costs and availability of utilities
WI 5. Environmental regulations

MI
6. Government incentives and fiscal policies
7. Proximity to raw materials and customers
IL OH 8. Land/construction costs
IN

Figure 8.1
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publishing as Prentice Hall 1-9
 Location Decisions
Site Decision Key Success Factors
1. Site size and cost
2. Air, rail, highway, and waterway
systems
3. Zoning restrictions
4. Proximity of services/ supplies
needed
5. Environmental impact issues

Figure 8.1
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Global Competitiveness Index
of Countries
Country 2009 Rank 2005 Rank

Switzerland 1 4
USA 2 1

Japan 8 10
Canada 9 13

UK 13 9

Israel 27 23
China 29 48
Italy 48 38
India 49 22
Mexico 60 59
Russia 63 53 Table 8.1
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Factors That Affect Location Decisions

 Labor productivity
 Wage rates are not the only cost
 Lower productivity may increase total cost

Labor cost per day

= Cost per unit
Productivity (units per day)

Connecticut Juarez

$70 $25
= $1.17 per unit = $1.25 per unit
60 units 20 units

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Factors That Affect Location Decisions
 Exchange rates and currency risks
 Can have a significant impact on costs
 Rates change over time

 Costs
 Tangible - easily measured costs such as utilities,
labor, materials, taxes
 Intangible - less easy to quantify and include
education, public transportation, community, quality-
of-life
Location decisions
based on costs
alone can create
difficult ethical
situations
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Factors That Affect Location Decisions
 Political risk, values, and culture
 National, state, local governments attitudes toward
private and intellectual property, zoning, pollution,
employment stability- may be in flux
 Worker attitudes towards turnover, unions,
absenteeism
 Globally cultures have different attitudes towards
punctuality, legal, and ethical issues
 Proximity to markets
 Very important to services
 JIT systems or high transportation costs may make it
important to manufacturers

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 Ranking Corruption
Rank Country 2009 CPI Score (out of 10)
1 New Zealand 9.4 Least
2 Demark 9.3 Corrupt
3 Singapore, Sweden 9.2
5 Switzerland 9.0
8 Australia, Canada, Iceland 8.7
12 Hong Kong 8.2
14 Germany 8.0
17 Japan, UK 7.7
19 USA 7.5
37 Taiwan 5.6
39 South Korea 5.5
56 Malaysia 4.5
79 China 3.6 Most
89 Mexico 3.3 Corrupt
146 Russia 2.2
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Cambodia

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ASEAN

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Factors That Affect Location Decisions

 Proximity to suppliers
 Perishable goods, high transportation costs,
bulky products

 Proximity to competitors
 Called clustering
 Often driven by resources such as natural,
information, capital, talent
 Found in both manufacturing and service
industries
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Clustering of Companies
Industry Locations Reason for clustering
Wine making Napa Valley (US) Natural resources of land
Bordeaux region and climate
(France)
Software firms Silicon Valley, Boston, Talent resources of bright
Bangalore (India) graduates in
scientific/technical areas,
venture capitalists nearby
Race car builders Huntington/North Critical mass of talent and
Hampton region information
(England)
Theme parks Orlando, Florida A hot spot for
(Disney World, entertainment, warm
Universal Studios) weather, tourists, and
inexpensive labor
Electronics firms Northern Mexico NAFTA, duty free export to
US
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Clustering of Companies
Industry Locations Reason for clustering
Computer hardware Singapore, Taiwan High technological
manufacturers penetration rate and per
capita GDP,
skilled/educated workforce
with large pool of engineers
Fast food chains Sites within 1 mile of Stimulate food sales, high
(Wendy’s, each other traffic flows
McDonald’s, Burger
King, and Pizza Hut)
General aviation Wichita, Kansas Mass of aviation skills
aircraft (Cessna,
Learjet, Boeing)

Orthopedic device Warsaw, Indiana Ready supply of skilled

manufacturing workers, strong U.S.
market
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Factor-Rating Method
 Popular because a wide variety of factors
can be included in the analysis
 Six steps in the method
1. Develop a list of relevant factors called key success
factors
2. Assign a weight to each factor
3. Develop a scale for each factor
4. Score each location for each factor
5. Multiply score by weights for each factor for each
location
6. Recommend the location with the highest point score

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 Factor-Rating Example
Key Scores
Success (out of 100) Weighted Scores
Factor Weight France Denmark France Denmark
Labor
availability
and attitude .25 70 60 (.25)(70) = 17.5 (.25)(60) = 15.0
People-to-
car ratio .05 50 60 (.05)(50) = 2.5 (.05)(60) = 3.0
Per capita
income .10 85 80 (.10)(85) = 8.5 (.10)(80) = 8.0
Tax structure .39 75 70 (.39)(75) = 29.3 (.39)(70) = 27.3
Education
and health .21 60 70 (.21)(60) = 12.6 (.21)(70) = 14.7
Totals 1.00 70.4 68.0

Table 8.4
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Locational Break-Even Analysis

 Method of cost-volume analysis used for

industrial locations
 Three steps in the method
1. Determine fixed and variable costs for each
location
2. Plot the cost for each location
3. Select location with lowest total cost for
expected production volume

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Locational Break-Even Analysis
Example
Three locations:

Selling price = $120

Expected volume = 2,000 units

Fixed Variable Total

City Cost Cost Cost

Akron $30,000 $75 $180,000

Bowling Green $60,000 $45 $150,000
Chicago $110,000 $25 $160,000

Total Cost = Fixed Cost + (Variable Cost x Volume)

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 Locational Break-Even
Analysis Example
–
$180,000 –
–
$160,000 –
$150,000 –
–
$130,000 –
Annual cost

–
$110,000 –
–
–
$80,000 –
–
$60,000 –
–
–
Akron Chicago
$30,000 – lowest
Bowling Green
lowest
– cost
lowest cost
cost
$10,000 –
| | | | | | |
–
0 500 1,000 1,500 2,000 2,500 3,000
Figure 8.2
Volume
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Center-of-Gravity Method
 Finds location of distribution center that minimizes
distribution costs
 Considers
 Location of markets
 Volume of goods shipped to those markets
 Shipping cost (or distance)
 Place existing locations on a coordinate grid
 Grid origin and scale is arbitrary
 Maintain relative distances
 Calculate X and Y coordinates for ‘center of
gravity’
 Assumes cost is directly proportional to distance 1 - 26
and volume shipped
Center-of-Gravity Method
∑dixQi
i
x - coordinate =
∑Qi
i

∑diyQi
i
y - coordinate =
∑Qi
i

where dix = x-coordinate of location i

diy = y-coordinate of location i
Qi = Quantity of goods moved to or from
location i

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Center-of-Gravity Method
North-South
New York (130, 130)
Chicago (30, 120)
120 –
Pittsburgh (90, 110)
90 –

60 –

30 –
Atlanta (60, 40)

–
| | | | | |
East-West
30 60 90 120 150
Arbitrary
origin
Figure 8.3
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 Center-of-Gravity Method
Number of Containers
Store Location Shipped per Month

Chicago (30, 120) 2,000

Pittsburgh (90, 110) 1,000
New York (130, 130) 1,000
Atlanta (60, 40) 2,000

(30)(2000) + (90)(1000) + (130)(1000) + (60)(2000)

x-coordinate =
2000 + 1000 + 1000 + 2000
= 66.7
(120)(2000) + (110)(1000) + (130)(1000) + (40)(2000)
y-coordinate =
2000 + 1000 + 1000 + 2000
= 93.3
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Center-of-Gravity Method
North-South
New York (130, 130)
Chicago (30, 120)
120 –
Pittsburgh (90, 110)
90 – + Center of gravity (66.7, 93.3)

60 –

30 –
Atlanta (60, 40)

–
| | | | | |
East-West
30 60 90 120 150
Arbitrary
origin
Figure 8.3
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Transportation Model

 Finds amount to be shipped from

several points of supply to several
points of demand
 Solution will minimize total production
and shipping costs
 A special class of linear programming
problems

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Worldwide Distribution of
Volkswagens and Parts

Figure 8.4
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Service Location Strategy
Eight Major Determinants of Volume and Revenue
1. Purchasing power of customer-drawing area
2. Service and image compatibility with demographics
of the customer-drawing area
3. Competition in the area
4. Quality of the competition
5. Uniqueness of the firm’s and competitors’ locations
6. Physical qualities of facilities and neighboring
businesses
7. Operating policies of the firm
8. Quality of management

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Location Strategies

Service/Retail/Professional Location Goods-Producing Location

Revenue Focus Cost Focus
Volume/revenue Tangible costs
Drawing area; purchasing power Transportation cost of raw material
Competition; advertising/pricing Shipment cost of finished goods
Energy and utility cost; labor; raw
Physical quality material; taxes, and so on
Parking/access; security/lighting;
appearance/image Intangible and future costs
Attitude toward union
Cost determinants Quality of life
Rent Education expenditures by state
Management caliber Quality of state and local
Operations policies (hours, wage government
rates)

Table 8.6
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 Location Strategies
Service/Retail/Professional Location Goods-Producing Location
Techniques Techniques
Regression models to determine Transportation method
importance of various factors Factor-rating method
Factor-rating method Locational break-even analysis
Traffic counts Crossover charts
Demographic analysis of drawing area
Purchasing power analysis of area
Center-of-gravity method
Geographic information systems

Assumptions Assumptions

Location is a major determinant of Location is a major determinant of

revenue cost
High customer-contact issues are Most major costs can be identified
critical explicitly for each site
Costs are relatively constant for a Low customer contact allows focus
given area; therefore, the revenue on the identifiable costs
function is critical Intangible costs can be evaluated
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How Hotel Chains Select Sites
 Location is a strategically important
decision in the hospitality industry
 La Quinta started with 35 independent
variables and worked to refine a regression
model to predict profitability
 The final model had only four variables
 Price of the inn
r2 = .51
 Median income levels
51% of the
 State population per inn profitability is
predicted by just
 Location of nearby colleges these four
variables!

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The Call Center Industry

 Requires neither face-to-face contact

nor movement of materials
 Has very broad location options
 Traditional variables are no longer
relevant
 Cost and availability of labor may
drive location decisions

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Geographic Information Systems
(GIS)
 Important tool to help in location analysis
 Enables more complex demographic analysis
 Available data bases include
 Detailed census data
 Detailed maps
 Utilities
 Geographic features
 Locations of major services
 Addresses 5 elements for each city
 1) residential areas, 2) retail shops, 3) cultural &
entertainment centers, 4) crime incidence, 5)
transportation options 1 - 38
Geographic Information Systems
(GIS)

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