Capacity Utilization Rate

Updated on May 8, 2024
Article byWallstreetmojo Team
Edited byWallstreetmojo Team
Reviewed byDheeraj Vaidya, CFA, FRM

What is the Capacity Utilization Rate?

The capacity utilization rate is useful to assess a company’s operational efficiency and, in a broader perspective, to measure the realized potential output. It is important because it shows the company how much it can utilize.

Here is the capacity utilization rate formula: –

Key Takeaways

  • The capacity utilization rate helps determine a company’s operational efficiency from a broader perspective to estimate the realized potential output. It is crucial as it demonstrates how much it can use.
  • It has a significant effect on economic policies. While making economic policies, policymakers analyze capacity utilization to know how to stimulate capacity utilization in the economy.
  • Suppose the capacity utilization of a company is less than 100%; then, the company may raise its production.
Capacity-Utilization-Rate-Formula

You are free to use this image on your website, templates, etc, Please provide us with an attribution linkHow to Provide Attribution?Article Link to be Hyperlinked
For eg:
Source: Capacity Utilization Rate (wallstreetmojo.com)

Explanation

The ratio talks about two separate components.

  • The first one is the actual output produced by the company.
  • The second is the maximum output a company can make in a given period.

For example, if we look at a manufacturing company for a month, we would be able to discover how much the company has produced during the month. Then, we can check how much the company can deliver. Comparing these two will hint at how much capacity the company has utilized during the month.

  • If the capacity utilization of a company is less than 100%, then the company can increase its production.
  • If we look at it from another point of view, we will also see that this utilization rate talks about how much slack a company is doing in a particular period.

For example, if we see that the capacity utilization is 56% of a company in a given month, we would also discover how much the company could not utilize during that particular month. The percentage of capacity the company could not use is called “slack.” So, in the above example, the company’s monthly slack is = (100% – 56%) = 44%.

–>> Learn Professionally and Unleash Financial Insights! Join our ​Ratio Analysis Course​ for a dynamic 5+ hours packed with essential skills! From Profitability to Liquidity Ratios, dive into real-world case studies like Colgate. Elevate your financial prowess today!.

Video on Capacity Utilization Formula

Example of Capacity Utilization Rate

Let us take a simple example to illustrate this concept.

Funny Stickers Co. can produce 60,000 stickers a month. However, during the last year of 2017, they could only create 40,000 stickers due to the absence of laborers. Find out the capacity utilization of Funny Stickers Co.

We already know the actual output of Funny Stickers Co. during the last month of 2017, i.e., 40,000 stickers. The potential production is 60,000 stickers.

By using the formula of capacity utilization, we get: –

  • Capacity Utilization = Actual Output / Potential Output * 100
  • Capacity Utilization = 40,000 / 60,000 * 100 = 66.67%.

From the above, we can also find the slack of Funny Stickers Co. during the last month of 2017.

  •  = (100% – 66.67%) = 33.33% slack.

Uses

We need to take an example to understand the application of capacity utilization.

Suppose a pen manufacturing company has produced 80,000 pens per month at $1 per unit. If the pen manufacturing company’s potential output is 170,000 pens at the same cost per unit in a given month, the company is running at 47.06% (80,000 / 170,000 * 100) capacity.

The above example clearly states that capacity utilization talks about operational efficiency. The higher the utilization rate, the higher the company’s operational efficiency.

Even capacity utilization has a great effect on economic policies. When policymakers make economic policies, they look at capacity utilization to determine how to stimulate the utilization of capacity in the economy.

Capacity Utilization Rate Formula Calculator

You can use the following calculator.

Actual Output
Potential Output
Capacity Utilization Rate Formula =
 

Capacity Utilization Rate Formula ==
Actual Output
X100
Potential Output
0
X100= 0
0

Capacity Utilization Rate Formula in Excel (with Excel template)

Let us now do the same example above in Excel. It is very simple. You need to provide the two inputs of actual output and potential output.

You can easily calculate the ratio in the template provided.

Capacity Utilization Rate in excel

You can download this capacity utilization rate template here – Capacity Utilization Rate Excel Template.

Frequently Asked Question (FAQs)

What is a good capacity utilization rate?

Usually, a capacity utilization rate between 85% and 100% is agreeable for significant economic and corporate operations. For example, suppose the company has a 44% rate which displays that it is working significantly below total capacity by underutilizing its resources, inefficiently allocating resources, or needing to enhance productivity.

Can capacity utilization be more than 100?

Yes. The rates above 100% mean operations are over capacity. Normally, a capacity utilization rate between 85% and 100% is acceptable for most economical and corporate functions.

What is low capacity utilization?

A low capacity utilization rate may reduce the price as there is overcapacity and inadequate demand for the generated output. Economies with a much less than 100% capacity ratio can increase production without impacting costs.

Why is capacity utilization a useful inflation indicator?

Economists prefer the capacity utilization rate as an inflation pressure indicator. That is why a low capacity utilization rate diminishes price. After all, there needs to be more capacity and demand for the output produced.

Recommended Articles:

This article is a guide to the Capacity Utilization Rate definition. Here, we discuss the capital utilization rate formula to calculate with examples and uses. Here are the other suggested articles: –