Professional Documents
Culture Documents
Chinenye Nwangwu
Memo
The R.U. Reddie Corporation which manufactures clothing for stuffed cartoon animals has projected the
market demand in the following years to be substantially greater than current plant capacity. To be more
profitable, the company is considering opening a new plant to produce more units to satisfy the market
demand. Two specific locations for the new plant are under consideration: St. Louis and Denver.
The two locations have its own specification in terms of market demand, labor, environmental regulations
and different level of proximity to the suppliers. Nevertheless, the most important factors for R.U. Reddie
Corp are the combination of production cost and shipping cost for each option. The company wants to
know between St. Louis and Denver, which one is a better location to achieve its objective of minimizing
the total variable costs.
Model Description
We built a linear model using the data gathered for R.U.Reddie which indicates different production
costs, plant capacity and the road mileage between the cities. The objective of our model was to minimize
total variable costs, which are the combination of production cost and transportation costs, while
satisfying the market demand. We’ve built 2 models, one for Denver and one for St. Louis, incorporating
20 variables and 9 constraints for each one. We’ve also compute the NPV for each alternative, using the
COGS derived from our linear model to evaluate the new plant project.
Optimal distribution plan for plant in St. Louis and in Denver with the project NPV
From our analysis, in the scenario where the new plant locates in St. Louis, the calculated NPV is
$585,630 and the optimal distribution plan for R.U. Reddie and the corresponding COGS is:
1
Jeanne Yi-Chun Hsieh
Chinenye Nwangwu
● The plant in Chicago should produce 500,000 units, among which 290,000 should be kept to
satisfy Chicago market and 210,000 units should be shipped to Denver.
● The plant in St. Louis should produce 900,000 units, among which 500,000 should be kept to
satisfy St. Louis market and 400,000 should be shipped to Denver.
In the scenario where the new plant locates in Denver, the calculated NPV is $419,740 and the optimal
distribution plan for R.U. Reddie and the corresponding COGS is:
Recommendation
Based on our finding above, we can conclude that St Louis would be the best location to build the new
plant. This recommendation is based on the fact that St Louis yielded higher NPVs in the base case;
therefore building the new plant in St Louis is more profitable than building in Denver.
2
Plant in St Louis
Shipping cost (per mile) $0.0005
Revenue (per outfit) $8.0000
City Y1 demand Y2-10 demand Building&Equipment cost Fix cost production costs/unit Land B&E&L
Boston 80 140 $9,500 $600 $3.80 $500
Cleveland 200 260 $7,700 $300 $3.00 $400
Chicago 370 430 $8,600 $400 $3.25 $600
St. Louis 440 500 $12,100 $550 $3.05 $1,200
Denver 610 670
$37,900 $1,850 $2,700 $40,600
Mileage
Plant\Market Boston Cleveland Chicago St. Louis Denver
Boston - 650 1,000 1,200 2,000
Cleveland 650 - 350 600 1,400
Chicago 1,000 350 - 300 1,000
St. Louis 1,200 600 300 - 850
Denver 2,000 1,400 1,000 850 -
Total Demand Total Revenue Annual Production cost Shipping cost COGS
Y1 1700 $13,600 $5,490.00 $445.50 $5,935.50
Y2-Y10 2000 $16,000 $6,330.00 $359.50 $6,689.50
$12,625
Plant in St Louis
Tax rate 40%
WACC 11%
Terminal Value 50% 0f PP&E & Land
Land $ 800.00
Investment in PP&E $ 10,800.00
Number of years 10
StraightLine Depreciation rate 0.10
Salvage Value $ 5,800.00
1 2 3 4 5 6 7 8 9 10
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10
SALES REVENUE $ - $ 3,200.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00
COGS $ - $ 1,243.50 $ 2,135.50 $ 2,135.50 $ 2,135.50 $ 2,135.50 $ 2,135.50 $ 2,135.50 $ 2,135.50 $ 2,135.50 $ 2,135.50
GROSS PROFIT $ - $ 1,956.50 $ 3,464.50 $ 3,464.50 $ 3,464.50 $ 3,464.50 $ 3,464.50 $ 3,464.50 $ 3,464.50 $ 3,464.50 $ 3,464.50
SG&A $ - $ 750.00 $ 750.00 $ 750.00 $ 750.00 $ 750.00 $ 750.00 $ 750.00 $ 750.00 $ 750.00 $ 750.00
EBITDA $ - $ 1,206.50 $ 2,714.50 $ 2,714.50 $ 2,714.50 $ 2,714.50 $ 2,714.50 $ 2,714.50 $ 2,714.50 $ 2,714.50 $ 2,714.50
DEPRECIATION $ - $ 580.00 $ 580.00 $ 580.00 $ 580.00 $ 580.00 $ 580.00 $ 580.00 $ 580.00 $ 580.00 $ 580.00
EBIT $ - $ 626.50 $ 2,134.50 $ 2,134.50 $ 2,134.50 $ 2,134.50 $ 2,134.50 $ 2,134.50 $ 2,134.50 $ 2,134.50 $ 2,134.50
INTEREST EXPENSE $ - $ - $ - $ - $ - $ - $ - $ - $ - $ - $ -
TAXABLE INCOME $ - $626.50 $2,134.50 $2,134.50 $2,134.50 $2,134.50 $2,134.50 $2,134.50 $2,134.50 $2,134.50 $2,134.50
INCOME TAX EXPENSE $ - $ 250.60 $ 853.80 $ 853.80 $ 853.80 $ 853.80 $ 853.80 $ 853.80 $ 853.80 $ 853.80 $ 853.80
NET INCOME $ - $ 375.90 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70
NOPLAT $ - $ 375.90 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70 $ 1,280.70
Operating Cashflow $ - $ 955.90 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70
Financing Cashflow $ - $ - $ - $ - $ - $ - $ -
$ - $ -
$ - $ -
CAP EXPENDITURE $ 11,600.00 $ - $ - $ - $ - $ - $ -
$ - $ -
$ - $ -
Investing Cashflow $ (11,600.00) $ - $ - $ - $ - $ - $ -
$ - $ -
$ - $ -
UFCF $ (11,600.00) $ 955.90 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70 $ 1,860.70
$ 1,860.70 $ 1,860.70 $ 1,860.70
TV $ 5,800.00
PV CFs $ 861.17 $ 1,510.19 $ 1,360.53 $ 1,225.70 $ 1,104.23 $ 994.81 $ 896.22 $ 807.41 $ 727.39 $ 655.31
PV TV $ 2,042.67
NPV $ 585.63
City Y1 demand Y2-10 demand Building&Equipment cost Fix cost production costs/unit Land
Boston 80 140 $9,500 $600 $3.80 $500
Cleveland 200 260 $7,700 $300 $3.00 $400
Chicago 370 430 $8,600 $400 $3.25 $600
Denver 610 670 $10,800 $750 $3.15 $800
St. Louis 440 500 $12,100 $550 $3.05 $1,200
Mileage
Plant\Market Boston Cleveland Chicago St. Louis Denver
Boston - 650 1,000 1,200 2,000
Cleveland 650 - 350 600 1,400
Chicago 1,000 350 - 300 1,000
Denver 2,000 1,400 1,000 850 -
Total Demand Total revenue Annual Production cost Shipping cost COGS
Y1 1700 $13,600 $5,540.00 $250.00 $5,790.00
Y2-Y10 2000 $16,000 $6,420.00 $186.25 $6,606.25
$12,396
Plant in Denver
Tax rate 40%
WACC 11%
Terminal Value 50% 0f PP&E & Land
Land $ 1,200.00
Investment in PP&E $ 12,100.00
Number of years 10
StraightLine Depreciation rate 0.10
Salvage Value $ 6,650.00
1 2 3 4 5 6 7 8 9 10
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10
SALES REVENUE $ - $ 3,200.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00 $ 5,600.00
COGS $ - $ 1,098.00 $ 2,052.25 $ 2,052.25 $ 2,052.25 $ 2,052.25 $ 2,052.25 $ 2,052.25 $ 2,052.25 $ 2,052.25 $ 2,052.25
GROSS PROFIT $ - $ 2,102.00 $ 3,547.75 $ 3,547.75 $ 3,547.75 $ 3,547.75 $ 3,547.75 $ 3,547.75 $ 3,547.75 $ 3,547.75 $ 3,547.75
SG&A $ - $ 550.00 $ 550.00 $ 550.00 $ 550.00 $ 550.00 $ 550.00 $ 550.00 $ 550.00 $ 550.00 $ 550.00
EBITDA $ - $ 1,552.00 $ 2,997.75 $ 2,997.75 $ 2,997.75 $ 2,997.75 $ 2,997.75 $ 2,997.75 $ 2,997.75 $ 2,997.75 $ 2,997.75
DEPRECIATION $ - $ 665.00 $ 665.00 $ 665.00 $ 665.00 $ 665.00 $ 665.00 $ 665.00 $ 665.00 $ 665.00 $ 665.00
EBIT $ - $ 887.00 $ 2,332.75 $ 2,332.75 $ 2,332.75 $ 2,332.75 $ 2,332.75 $ 2,332.75 $ 2,332.75 $ 2,332.75 $ 2,332.75
INTEREST EXPENSE $ - $ - $ - $ - $ - $ - $ - $ - $ - $ - $ -
TAXABLE INCOME $ - $887.00 $2,332.75 $2,332.75 $2,332.75 $2,332.75 $2,332.75 $2,332.75 $2,332.75 $2,332.75 $2,332.75
INCOME TAX EXPENSE $ - $ 354.80 $ 933.10 $ 933.10 $ 933.10 $ 933.10 $ 933.10 $ 933.10 $ 933.10 $ 933.10 $ 933.10
NET INCOME $ - $ 532.20 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65
NOPLAT $ - $ 532.20 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65 $ 1,399.65
Operating Cashflow $ - $ 1,197.20 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65
Financing Cashflow $ - $ - $ - $ - $ - $ - $ -
$ - $ -
$ - $ -
CAP EXPENDITURE $ 13,300.00 $ - $ - $ - $ - $ - $ -
$ - $ -
$ - $ -
Investing Cashflow $ (13,300.00) $ - $ - $ - $ - $ - $ -
$ - $ -
$ - $ -
UFCF $ (13,300.00) $ 1,197.20 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65 $ 2,064.65
$ 2,064.65 $ 2,064.65 $ 2,064.65
TV $ 6,650.00
PV CFs $ 1,078.56 $ 1,675.72 $ 1,509.65 $ 1,360.05 $ 1,225.27 $ 1,103.85 $ 994.46 $ 895.91 $ 807.12 $ 727.14
PV TV $ 2,342.03
NPV $ 419.74
continued
continued
DATA b. The company presently has the following capacity
constraints:
The following data have been gathered for Rhonda:
a. The per-unit shipping cost based on the average CAPACITY1
ton-mile rates for the most efficient carriers is
$0.0005 per mile. The average revenue per outfit is (i) Boston 400
$8.00. (ii) Cleveland 400
(iii) Chicago 500
MOST
MOST LIKELY ANNUAL
LIKELY DEMAND1 CURRENT COSTS FIXED VARIABLE
DEMAND1 AFTER BUILDING & COSTS PRODUCTION
CITY 1ST YEAR YEARS 2 – 10 EQUIPMENT1,2 (SGA)1,3 COSTS/UNIT LAND1
ANNUAL
FIXED VARIABLE
BUILDING & COSTS PRODUCTION
ALTERNATIVE EQUIPMENT1 (SGA)1,3 COSTS/UNIT LAND1
1In 000s.
2Net book value of plant and equipment with remaining depreciable life of 10 years.
3Annual fixed costs do not include depreciation on plant and equipment.
f. Basic assumptions you should follow: 2. Model the location decision as a linear model. The
objective function should be to minimize the total vari-
❐ Terminal value (in 10 years) of the new invest-
able costs (production plus transportation costs). The
ment is 50% of plant, equipment, and land
variables should be the quantity to ship from each of
cost.
the plants (including one of the alternative new plants)
❐ Tax rate of 40%. to each of the warehouses. You should have 20 vari-
❐ Straight-line depreciation for all assets over a ables (four plants and five warehouses). You should
10-year life. also have 9 constraints (four plant capacity constraints
and five warehouse demand constraints). See the
❐ R. U. Reddie is a 100% equity company with
addendum for hints. You will need two models — one
all equity financing and a weighted average cost
for Denver and one for St. Louis.
of capital (WACC) of 11%.
3. Use the Linear Programming Solver or the Trans-
❐ Capacity of the new plant production for the portation Method Solver in OM Explorer to solve for
first year will be 500 (000) units. the optimal distribution plan for each alternative (i.e.,
❐ Capacity of the new plant production thereafter Denver and St. Louis).
will be 900 (000) units. 4. Compute the NPV of each alternative. Use the results
❐ Cost of goods sold (COGS) equals variable from the linear models for the COGS for each alterna-
costs of production plus total transportation tive. Hint: Your analysis will be simplified if you think
costs. in terms of incremental cash flows. Create an easy-to-
read spreadsheet for each alternative.
❐ There is no cost to ship from a plant to its own
5. Do a sensitivity analysis of the quantitative factors
warehouse. There is a production cost, how-
mentioned in the case: Forecast errors (across the board
ever.
and market shift), errors in COGS estimate, and errors
g. R. U. Reddie operations and logistics managers in fixed cost estimates. Do each factor independent of
determined the shipping plan and cost of goods the others and use the “most likely” projections as the
sold for the option of not building a new plant and base case. Summarize the results in one table.
simply using the existing capacities to their fullest 6. Use the analysis in (5) to identify the key quantitative
extent (Status Quo solution): variables that determine the superiority of one alternative
over another. Rationalize your final recommendation in
Year 1 COGS ! $4,692,000 light of all the considerations R. U. Reddie must make.
Boston to Boston 80
Boston to St. Louis 320 ADDENDUM
Cleveland to Chicago 80 Here are some hints for your model.
Cleveland to Cleveland 200
a. The capacity constraint for Boston would look like
Cleveland to St. Louis 120
this:
Chicago to Chicago 290
1B-B " 1B-CL " 1B-CH " 1B-D " 1B-SL # 400
Chicago to Denver 210
The variable B-CH means Boston to Chicago in this
Years 2 – 10 COGS ! $4,554,000 example. You will need a total of four capacity con-
straints, one for each of the existing sites and one
Boston to Boston 140
for the alternative site you are evaluating.
Boston to St. Louis 260 Remember that the new site will have a capacity
Cleveland to Cleveland 260 limit of 500 in the first year, and 900 in the second
Cleveland to St. Louis 140 year.
Chicago to Chicago 430 b. The demand constraint for Boston would look like
Chicago to St. Louis 70 this:
1B-B " 1CL-B " 1CH-B " 1D-B ! 140
Questions
The Denver location alternative is depicted in this
Your team has been asked to determine whether or not example (D-B represents the number of units pro-
R. U. Reddie should build a new plant and, if so, where it duced in Denver and shipped to Boston). You will
should be located. Your report should consist of six parts. need a total of five demand constraints, one for
1. A memo from your team to R. U. Reddie indicating each warehouse location. Notice that the demand
your recommendation and a brief overview of the sup- constraints have “!” signs to indicate that exactly
porting evidence. that quantity must be received at each warehouse.
continued
continued
c. There is no need to put three zeros after each d. Since the capacity and demand changes from year 1
demand and capacity value. Define your variables to year 2, you will have to run your model twice for
to be “thousands of units shipped.” Remember to each location to get the data you need. You will
multiply your final decisions and total variable also need to run the model and spreadsheets multi-
costs by a thousand after you get your solution ple times to do part (5) of the report.
from the model.