Case 4

As per the case, 20 units of T178 are required to produce Z101. As annual demand of Z101 is 40 units,
the annual demand of T178 = 20*40 = 800 units

The process flow and the appropriate cost breakup is also given which is displayed below:

Assumption: It is assumed that the parts/processes mentioned in the table above are required to make
T178. This is not clearly mentioned in the case.

The decision to be taken is to manufacture it in-house or outsource it to Supper Suppliers. The costs
associated with both the scenarios is analysed below:

a. In-House Manufacturing
 Cost of each item = $150.1
 Fixed cost = 20% of total produced

Scenario 1: Ideal Case:

Assumptions made: No uncertainty, Zero breakdowns, Zero quality losses, Zero production losses, JIT
manufacturing, Zero safety / buffer stock.

Total Cost = (150.1*800) + (0.2*800*150.1) = $ 1,44,096

Scenario 2: Regular Case

Assumptions made: 10% of total volume taken as buffer stock to compensate for quality losses,
breakdown losses and production losses

Total production = Demand + Buffer = 800 + (0.1*800) = 880

Total Cost = (150.1*880) + (0.2*880*150.1) = $ 158,506

b. Outsourcing
 Cost of each item = $108.2
 Annual demand (D) = 800 units
 Ordering cost(S) = $75
 Holding Cost (H) = 20% of 108.2 = $21.64 / unit / year
Assumptions: No fixed cost for outsourcing, no safety stock required

Using the concept of Economic Order Quantity (EOQ) to calculate the optimum order quantity:

In this case: Economic Order Quantity (Q) = sqrt(2*800*75)/21.64) ≈ 75 units

Therefore total cost = Purchase Cost + Inventory Cost = (108.2*800) + (0.2*108.2)*75/2 + 800*75/75
= $ 88172

Recommendation:
Using these 2 options, it is better to outsource the parts rather than to make it In-House. It will
give a savings of $70334.

There is a 3rd option that is mentioned below. It is a little unorthodox but some organizations
do practice it under certain circumstances.
c. Mixed model
The mixed model entails using the best of both worlds (in-house and outsource) depending on the cost
of each part (T67, T75, T69, T77, T70) required to make T178. There are some major assumptions being
made here as the data provided to consider this option is not available.

Assumptions:

 The logistics cost for transporting the part to-and-fro is negligible

 The supplier will agree to the strategy of XYZ supplying certain parts to them with which they will
make T178
 The lead time to transport the parts from XYZ to Supper is negligible. We are assuming that the
lead time mentioned is majorly contributed by the production activities.
 The costs remain the same and finally the rules of outsource have to be applied

Under these assumptions, the parts that need to made in-house and those need to be outsourced are as
follows:

Part XYZ Company Supper Suppliers Method Mixed Model

T67 17.92 14.6 Outsource 14.6
T75 17.92 21.1 In-House 17.92
T69 45.2 18.5 Outsource 18.5
T77 10.37 13 In-House 10.37
T70 58.69 41 Outsource 41
Total
Cost 150.1 108.2 102.4

 Cost of each item = $102.4

 Annual demand (D) = 800 units
 Ordering cost(S) = $75
 Holding Cost (H) = 20% of 102.4 = $20.48 / unit / year

Assumptions: No fixed cost for outsourcing, no safety stock required

Using the concept of Economic Order Quantity (EOQ) to calculate the optimum order quantity:

In this case: Economic Order Quantity (Q) = sqrt(2*800*75)/20.48) ≈ 77 units

Therefore total cost = Purchase Cost + Inventory Cost = (102.4*800) + (0.2*102.4)*77/2 + 800*75/77
= $ 83487

Conclusion: As can be seen, if al the assumptions provided can be met, the lowest cost comes out to be
the 3rd option of a mixed model.