1. State the business case for option #3, the PCB In-sourcing proposal. What is the benefit? What is the risk? How do you compare this proposal to option #1 and #2? Benefit: a. Better performance in management, quality and delivery. When PCB is in-souring facility, the management team of Stryker Corporation can directly control the production process, which is more efficient and could obtain better quality in products. Secondly, when the production of PCB is in-sourcing, it will be much easier for Stryker Corporation to make a delivery plan of PCB. This will considerably reduce the logistic losses. b. More flexible in outputs.
Under current sourcing, the flexibility of PCB’s outputs depends on the frequency of order, resulting in some unavoidable differences between the actual demands of Stryker Corporation and the actual outputs. When the PCB’s production is in-sourcing, Stryker Corporation can change the amount of production quickly and efficiently. c. In-sourcing can lower the cost and achieve greater benefit than contract manufacturers could provide. Generally, the outsourcing policy can effectively reduce costs in a short period. In this case, Stryker Corporation was considering an in-sourcing change in 2001. At that time, the proposal was executed.
We believed that the decision must include concerning about raising costs. In 2003, the situation began to change. At least from the current estimates, the costs of purchasing PCB from contract manufacturers are larger than the costs for Stryker Corporation to manufacture PCB itself. If the future development of the situation and the estimate are consistent, there will be a large costs reduction. d. Meeting Stryker Instruments’ future growth needs. Even if the outsourcing policy can meet the Stryker Corporation’s demand to PCB now, it’s hard to say Stryker Corporation can satisfy its gradual growing needs to PCB in the future.
A facility in its own hands is more likely to keep up with increasing demands of the Stryker Corporation which is growing rapidly. e. Reduce the risk of information leakage. Sourcing will allow the access for contract manufacturers to customer data and information with Stryker Corporation, resulting in potential risks of information leakage. If the PCB in-sourcing plan works, a well-built internal control system can reduce the outflow of secret information. Risk: a. Lack of skilled worker and efficient management may lead the in-sourcing plan to failure.
There is no reliable analysis to tell about how to employ and train a lot of staffs to use this facility cost-efficiently. Companies which are in a high-speed expansion stage often lag in human resource. In order to obtain an efficient in-sourcing, Stryker Corporation needs not only a large number of skilled workers, but also professionals who are able to manage the factory. It always takes some time and money to train the workers and searching for the professionals. b. Cost saving is uncertain. There is no guarantee that company’s production costs will decrease as estimated.
Canceling purchasing from contract manufacturers and take in-sourcing instead may cause a huge cost, temporary or long-lasting. This will give the manage team a lot of pressure and make the price of Stryker’s products less competitive. Comparison: a. Option 1 is like a temporary measure rather than long-term solution to current problem. It’s difficult to decide how many safety stocks Stryker Instruments should keep. Too few inventory of PCB will lead to a restricted production because of tight supply. In the other side, an excessive purchase of inventory will affect liquidity and decrease the operation efficiency.
Therefore, we don’t think that option 1 is a good choice. b. Option 2 suggests a single contract supplier. It’s very risky. Because the single contract supplier may not be that loyal to Stryker Corporation. A supply monopoly has more bargain power. Once this manufacturer renegotiate about the supply contract or even cease the contract with Stryker Corporation, Stryker will face an increasing out-sourcing cost or spent more transaction cost in changing another supplier. Even that manufacturer is able to maintain a low supply; it will take long time for Stryker Corporation to strengthen it by increased business and partnership.
For the long run, everything is precarious. c. Comparing these two options above, option 3 is much more reliable. Having an in-sourcing facility will bring more flexibility as we mentioned before. With a developed in-sourcing proposal, there are a lot of detail estimations about the Option 3. It’s easier for Stryker Corporation to implement this plan step by step. 2. Use the projections provided in the case to compute the incremental cash flows for the PCB project. Provide a reasonable estimate for cash flows after 2009 as well. The explanations and details are presented in “640 case appendix”.
There are 4 explanations on how to predict the data after 2009 as below: a. Decrease in purchases from contract manufacturers: Setting up the new project will gradually bring more free cash flow to the corporate. However, at the very beginning, the corporate must continue buying products from the former suppliers. The company stopped purchasing PCB from out-sourcing in 2006. Therefore, it is reasonable to suppose that Stryker will not buy PCBs from contract manufacturers anymore. Through linear regression, we use Least Square Method to predict the “Projected PCB purchases under current sourcing” in 2010 and 2011.
We realize that the yield of PCBs is roughly in a linear shape. b. Manufacturing costs for Stryker facility: We decide to use “Least square method” again because the variable cost and fixed cost have constant- speed increases in these 6 years. We use all the data from 2004 to 2009 in predicting the variable and fixed cost as well as variable cost. c. Depreciations: The Exhibit 3 shows that all the depreciations began at the third quarter of 2004. Because the fixed cost of the first quarter of 2004 is equal to that of the second quarter, the depreciations must have not been included into the accounts of these two periods.
The depreciation for building, IT equipment and capital equipment began at the third quarter of 2004. The depreciation of IT equipment ended at the middle of 2007; the depreciation for capital equipment was done at the middle of 2011. The depreciation of building will last until 2034. d. Change in net working capital: The only data we get which related to net working capital is the change in Account Payable. Exhibit 3 shows the difference between new A/P and the old one. 3. What is the NPV of the PCB In-sourcing project?
We use excel to calculate that the NPV of the PCB In-sourcing project is $2,652,282. The explanations and details are presented in “640 case appendix”. 4. What is the IRR of the PCB In-sourcing project? The IRR of the PCB In-sourcing project is 23. 59%. The explanations and details are presented in “640 case appendix”. 5. Based on your analysis, would you recommend that Stryker Instruments to fund this project? Yes. Based on a positive NPV (2,652,282>0) and an IRR which is greater than the hurdle rate (23. 59%>15%), we recommend this project to Stryker.