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Case Summary

Introduction: Wellington Chemicals is major UK based chemical manufacturing firm and

sells ‘hard to hold’ chemical products throughout Great Britain. These products require
specialized packaging and these needs are taken care of in house by the company. The
company has a separate drum manufacturing and maintenance department. The firm
required 3000 new containers each year and 4000 containers need repairs. The total
number of containers in circulation are 12000 and each container on average takes 3 round
trips per year. During its lifetime each container is used 12 times and repaired 1.33 times.

Dilemma: Mr. Walsh the general manager at the firm thinks that the firm might be able to
save money by outsourcing the manufacturing and maintenance if the drums. He has
approached a company specializing in making the required drums Packages Ltd. and asked
them for a quotation. He has also asked the firm’s accountant to prepare a report detailing
up to date expenses the firm incurs in running the Drum department.

Proposal: Packages Ltd. Has proposed to supply the required number of drums (3000 per
year) for £125,000 per year. The contract will run for a guaranteed term of 5 years after
which it will be subject to renewal each year. The company will also take care of any
additional requirement of drums for a proportional increase in payment. Packages Ltd. will
undertake maintenance work on the drums on the same contract terms for an additional
£37,500 per year.

Mr. Walsh estimates that Packages Ltd. will make a profit margin of about 15% and
undertake maintenance work only if it also manufacturing new drums.

Options: Wellington is currently considering three options:

1. Keep running its own Drum Manufacturing and Maintenance Department

2. Outsource the manufacturing and maintenance of Drums to Packages Ltd.
3. Outsource the manufacturing of Drums to Packages Ltd. and downsize the
Drums Department to carry out maintenance work

Challenges:

1. If Wellington opts for completely shutting down its Drum department then it
will have to retrench workers and sell the existing equipment
2. The Drum department has already purchased materials required for
maintenance for the next 5 years. This stock will have to disposed
3. The company has to carefully consider the overheads and administrative costs
assigned to the Drums department and ensure that assigned expenses don’t
inflate the expenses of running the Drum Department.

Similar Situations:

Strategic Cost Management

 1. Apple and Foxconn: Most of the electronics on apple phones and tablets
including the assembly is carried out by Foxconn in multiple factories located
across the world. This relationship has allowed Apple to reduce manufacturing
costs and provide cutting edge technology at relatively affordable prices in
large numbers.
2. AMD: AMD outsources the manufacturing of its processors and graphics cards
to foundries located in Taiwan and China. Previously AMD used to own its own
Foundries but it decided to spin these foundries into a single company called
Global Foundries and sell it off. Now AMD uses Global Foundries as well as a
competitor TSMC to manufacture its chips. Increased competition has led to
better prices for AMD and being asset light has allowed the company to be
more agile.

Inter-disciplinary and strategic issues that need to be considered:

1. Loss of a competency: By shutting down the Drum Manufacturing department

the company will lose its expertise and competency in this process.
2. Supply Chain issues: The company may face issues with supply chain while
integrating a new supplier in their manufacturing process
3. Quality Control: The company will need to set up or shore up its existing
quality department to deal with the new supplier. This may incur additional
expenses
4. Labour Issues: The company may face issues with the labour unions if it
decides to let go of so many employees at the same time.
5. Impact of inflation on the cost of materials as well as on the wages of the
workers needs to be considered while evaluating the cash flows of the Drum
Manufacturing Department

Strategic Cost Management