Locational decisions and factors governing plant locations

Locational decisions generally arise when:

  • A new manufacturing (or servicing) unit is to be set up.
  • Existing plant operations are difficult to expand due to poor selection of site earlier.
  • The growth of the business makes it advisable to establish additional facilities in new territories.
  • The product development has over weighted the advantages of the existing plant.
  • There is emergence of new social (chronic labor problems) political (political instability or economic conditions that suggest a change in the location of the existing plant.
  • The changes in the industrial Policy of the Government, favoring decentralizing and dispersal of industries to achieve overall development of the country, do not permit expansion of the existing plant.

Factors governing plant location:

Plant location studies are conducted in three phases:

  • General territory selection
  • Community selection
  • Site selection

Proximity to market: Every company is in business to market and it can survive only if their product reaches the consumers on time and at the competitive price. The ratio of selling costs to sales generally increases with distance.  Therefore, in the choice of location o the plant, the factor of “proximity to the market” is given the highest priority.  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.

Bread, soap factories, etc. require the market to be nearby. If the product is exported, location near ports is desirable.  This is particularly important for producers who sell bulky commodities, which incur high transportation costs. 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 whole sellers can be maintained economically and easily
  • Other costs such as commission to middlemen, which at times run as high as 20 to 50 percent can be reduced significantly.
  • Customer’s accounts do not remain outstanding for settlement.  This recovery is easy and less time saving which itself reduces selling costs.

Proximity to source of raw materials: Since raw materials usually constitute 50 to 60 percent of the total product cost, it is important that the firm gets its requirements of raw materials at the right time and at the reasonable price for which the plant must be located in the neighborhood of some source which can meet the raw materials requirement of the unit “Proximity to supply of raw materials” 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. Proximity to sources of raw materials is equally important for small units.  This is because usually small units are not considered important customers.  They get least priority and in the event of scarcity are the one to be struck off first from the list.  The availability of materials to small units to a large extent thus depends on their follow up and personal visits to the supplier’s plant which is possible only if the buyer’s plant is close by.

Infrastructure facilities: Infrastructure facilities consider availability of utilities like power water, disposal of waste etc.  These form the life-blood of many types of industries without which there facilities may come to a stand still.  Underestimating the need of any one of the utilities can be extremely costly and inconvenient. Certain industries, for example, aluminium, steel, etc are power intensive and must be located close to the sites of power generation failing which the shortage of, or increase in cost of generating power may spell problems for their survival. Similarly, chemical process industries like paper and pulp, cement, steel, sugar laundries, metal plating, food preparation etc. requires perennial source of water.  Mineral content of water may also be an important factor.  Treatment of water is an expense to be considered while comparing economics of different locations. Drainage facilities are important for process industries otherwise disposal of process waster can create lot of difficulties.

Transport facilities: Transportation cost to the 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, and air sea. 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: Plant location should be such that required labor is easily available in the neighborhood. Importing labor from outside is usually costly and it causes lot of administrative problems.  Availability of required labor locally is better since problem of arranging accommodation and other related problems do not arise.  Since normally workers with specific skills are required, some sort of training facility should also be available in the neighborhood.  Skilled employees are easily available if ITI’s, or Engineering colleges are there in the neighborhood.

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 community/site. In order to disperse industries and ensure balanced economic growth, both Central and State government offer a package of incentives for setting up industries in particular locations.  Exemption from excise duty, sales tax and octroi, soft loans from financial institutions, subsidy in electricity charges, etc. are some of the incentives offered. 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 community/site.

Climatic conditions: Climatic factors may not have a 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.

Industrial and labor attitudes: Community attitudes towards supporting hostile trade union activities are an important factor.  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 influences selection of the site for the plant.

Safety requirement: Safety factor may be important for certain industries such as: Nuclear power plants and Explosive factories. Location of such industries close to border areas is undesirable.

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 location area should be fully developed, be accessible by road and should have a convenient and efficient public transport system operating between the area and the township to enable employees, officials, customers and suppliers to make easy trips for their work

Community attitudes: Community attitudes towards work (i.e. whether the people in the location are hard working or otherwise) as well as their attitudes towards the incoming entrepreneurs (helpful and cooperative or otherwise) can make or mar an industry.  Location decisions, therefore, must take such factors also into account particularly while setting up labor-intensive units.

Supporting industries and services: Location factors should also include proximity of services needed by the firm.  A firm desirous of getting some or all parts made from outside or some of the operations done from outside must see that such sub-contractors are located in the neighborhood.  Getting a job done from units located at far off places will mean not only additional transportation cost but also time consuming and costly.  Also if units are too far off, the control on quality of work done by them cannot be exercised.

Suitability of the land: Site selection should also take into account topography and soil structure of the land.  The soil structure must be capable of bearing loads of foundations.  Though modern building techniques can overcome the limitations of the soil, but if considerable improvement is required then selection of a low cost and may ultimately turn out to be expensive.

Availability and cost of the land: Site size (Plot size) must be large enough to accommodate the present production facilities, parking and access facilities but also leave sufficient room for future expansion.  As a general rule, a site five times the actual plant size is considered minimum for all these things including future expansion.

Economy survey of the site selection: An ideal location is one where the cost of obtaining materials and processing them into finished product plus the cost of distributing the finished product to customers is minimum.

One of the most commonly used approaches consists of following steps:

  • Prepare a list of all relevant factors.
  • Estimate expenses on materials, transport, wages, power etc for each location on each of the above factors.
  • Collect data on intangible factors like community facilities, community attitudes etc.
  • Analyze the tangible data for each location and calculate rate of return on investment.
  • Select provisionally a locational based on financial data.
  • Compare the intangible data for the different locations and select the optimal location considering intangible data.

About Abey Francis

Abey Francis is the founder of MBAKnol - A Blog about Management Theories and Practices - and he's always happy to share his passion for innovative management practices. You can found him on Google+ and Facebook. If you’d like to reach him, send him an email to: [email protected]
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