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APPLICHEM

Case Analysis
Presented to
Professor D. Krishna Sundar
Indian Institute of Management, Bangalore

On
December 20th, 2005

In Partial Fulfilment of the


Requirements of the course

Operations Management

Submitted By

Abhishek Singh Rana (0511071)


Ajit Phadnis (0511074)
Alok Pande (0512003)
Bhanu Pathak (0511081)
Rahul Mehta (0511112)

Section B
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Applichem

Introduction

Applichem is a manufacturer of speciality chemicals, one of its unique products being


Release- ease. The company has 6 manufacturing plants: 3 in North America (Gary,
Canada and Mexico), 1 in Western Europe (Frankfurt), 1 in Latin America (Venezuela)
and 1 in Pacific and Rest of the world (Sunchem). Each of these plants has unique
characteristics of number of product lines manufactured, number of packaging varieties,
capacities of plants, plant redesigns and regional laws. Due to these differences, the
overall performances of the plants differ in terms of average yield of raw material and
profitability.
In this report we have analysed the effects of these differences between the plants and
we recommend a model that Applichem can use to minimise its total costs.

Figure 1: Current Production status in Plants


Market Designed 1982 Idle Yield Last update in
capacity Production capacity Equipment
Gary 18.5 14 4.5 94.7% 1964
Canada 3.7 2.6 1.1 91.1% 1955
Mexico North America 22 17.2 4.8 91.7% 1978
Western
Frankfurt Europe 47 38 9 98.9% 1974
Venezuela Latin America 4.5 4.1 0.4 90.4% 1964
Pacific and
Sunchem ROW 5 4 1 98.8% 1969

Process Flow

The figure below illustrates the process flow followed by Applichem for manufacturing
Release- ease.

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Figure 2: Process flow for Production of Release-Ease

Case Analysis

As per the case facts, we have listed the following factors affecting the performance of
the manufacturing plants:
• Laws in Japan which increase the number of employees on the plant

• Worker productivity potential which can be assumed to be a result of


educational levels and training of staff
• Higher number of product lines (other than Release- ease) may result in
sharing of resources both physical and financial
• Number of packaging types which results in additional setup costs.

• Improvements in plants and machinery/ Process redesign completed/


Automation of processes/ Good Maintenance of plant and machinery
• Emphasis on Quality

Factors influencing the performance of plants:


There are two factors which have an overwhelming influence on overall performance of
two plants Gary and Sunchem:

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• Gary was designed to manufacture prototype samples for customers and thus for
development purposes spent 0.97 U.S. dollars per hundred pounds (second
highest) of Release- ease(as indicated in Exhibit 2 of the case) and has the
highest Number of people working for development as a percentage of total
people of 3.77 %.
• Due to Japanese regulations Sunchem has a very large number of direct and
indirect labour (from Exhibit 3 of the case) i.e. 310 much more than the second
largest 86.1 of Frankfurt even though Frankfurt produces nearly 10 times the
amount of Sunchem.

(a)Labour Productivity

We have used the level of education, skill and training as a measure of labour
productivity. A highly skilled labour is more likely to be paid a higher wage. In line with
this data we have analysed the wage/per hour in USD of the plants as per 1982 data.

Plant Mexico Canada Venezuela Frankfurt Gary Sunchem


Average Gross Money Wages/
hour in USD as per 1982 figures 1.03 8.33 3.34 6.15 8.50 6.06
Figure 3: Wages at Various Plants

We find that as expected, due to lower skilled labour in Mexico and Venezuela their
corresponding wages are also lower. Lower skilled labour can be one of the causes of
lower yield in plants such as Mexico and Venezuela.
As opposed to them, the Frankfurt plant has skilled labour which can be a reason for its
high yield.

(b)No. of package types

With 80 package sizes and a cost of 13.78 US dollars per hundred pounds of Release-
ease, Gary’s number of packages could have an effect on yield. As mentioned in the
case “Changing the size of a bag in the packaging line frequently took a day.” With
such high setup costs for packaging, the yield is likely to reduce.

(c)Volumes/ Capacity

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Canada has the lowest annual design capacity of 3.7 million pounds and a capacity
utilisation of 70.27 %. On the other hand the Frankfurt plant has the largest capacity of
47 million pounds and a capacity utilisation of 80.85 %. Therefore the larger the
capacity of the plant and its utilisation, the higher the average yield for the plant
(Given in the case). Deducing from this, the Frankfurt plant should have a higher yield
than average while the Canada plant will have a lower than average yield.

(d)Plant Redesign/ Maintenance and Automation

Among the plants Mexico, Canada, Venezuela and Frankfurt; Canada spends the
highest i.e. 2.75 USD per hundred pounds of Release- ease. Also processes in the
Frankfurt plant have a high level of automation (mentioned in the case). A high level of
maintenance and automation will have a positive effect on the overall yield.

(e)Emphasis on Quality

As mentioned in the case, the Canada plant was well-regarded for the quality of its
products. Also the large expenditure of the Canada plant of 1.30 USD per hundred
pounds of the product shows an emphasis on quality. An increase in quality control
requires more number of checks in the process thereby reducing overall yield.

The effects of the number of product lines, though present are not substantial to change
the yield.

We have summarised all the factors that affect the average yield and overall
performance of the firm in figure 4 (Following page).

Each of these characteristics has been rated as Low (L), Medium (M) and High (H)
relative to the other plants:

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Plant Worker No. of No. of Volumes/ Plant Product Emphasis Laws
Productivity/ product package Capacity Redesign/ Development on Quality
Training lines types Maintenance
Mexico L M L M M L M M
Canada M M L L H M H L
Venezuela L L L L L L H M
Frankfurt M H L H H M M M
Gary M H H M M H H M
Sunchem H L M L H H H H
Figure 4: Factors affecting average yield and overall performance

Measures of Performance

On the basis of our evaluation of the parameters we can separate the Sunchem plant
and the Gary plant in our comparative analysis. They should have a lower measure of
performance due to a batch operation for research and development in Gary and the
Japanese laws in Sunchem.
Among the four other plants, Frankfurt is the most efficient, followed by Mexico (high
capacity), Venezuela or Canada

We have taken two parameters to evaluate our analysis:

Plant Mexico Canada Venezuela Frankfurt Gary Sunchem


No. of pounds/ per worker 1061 257 470 1209 658 35
Average Yield 94.7% 91.l% 91.7% 98.9% 90.4% 98.8%
Figure 5: Efficiency at the plants

Based on the above analysis, we find that:


Factors within the control of management-No of package types, Plant
Redesign/Maintenance and Automation, Emphasis on quality
Factors outside the control of management-Labour productivity,
Volumes/Capacity

HANDLING THE OVER CAPACITY AT DIFFERENT PLANTS


The learning from Goldratt’s book “The Goal” is that having idle capacity is preferable to
locking money in inventory. We find that in the present case, the six plants are producing
exactly as per the demand and therefore there is no finished goods inventory. Also,
since demand for Release ease is expected to remain constant for the next five years,

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we recommend that the plants with excess capacity may explore the possibility of
exporting and meeting demands of other plants where the cost of production is higher
than the production plus the transportation costs of these plants. The table below brings
out the cost of producing and importing from plants with excess capacity.

COSTS OF IMPORTING RELEASE-EASE VS. LOCAL PRODUCTION

From / To Mexico Rank Canada Rank Venezuela Rank Frankfurt Rank Gary Rank Sunchem Rank
Mexico 95.0 1 106.4 3 153.0 3 116.1 2 110.8 4 115.6 2
Canada 173.4 3 93.3 2 159.5 4 119.2 3 108.0 3 117.0 3
Venezuela 197.3 5 126.3 5 116.3 1 141.6 5 132.4 5 138.5 5
Frankfurt 138.7 2 88.2 1 133.8 2 76.7 1 91.8 1 95.4 1
Gary 180.7 4 108.9 4 170.9 5 123.7 4 102.9 2 122.4 4
Sunchem 268.5 6 166.8 6 249.5 6 184.0 6 174.3 6 153.8 6
Figure 6: Cost of Importing vs Producing at various plants (In cents)

Plants which are the cheapest to procure from have been ranked as 1.

POSSIBILITY 1: Assumption: Frankfurt has the packaging facility required to pack half a
kg and one kg material.

The cost of production at Sunchem is high due to its high overhead costs and energy
costs. From the above table, we can observe that it is cheaper to produce and export
from Frankfurt rather than produce at Canada, Gary and Sunchem. The differential
features of the Frankfurt plant that make it such a low cost of production have been
outlined earlier in the report.

We can also observe that it is cheaper to produce at any plant and export to Sunchem
than produce there. Frankfurt, which has an excess capacity of 9 Mn pounds, is best
suited to export to Sunchem. However, shifting of production to Frankfurt would lead to
additional packaging costs for half a kg and one kg packs, which sizes are currently not
available in Frankfurt. Our analysis does not incorporate these costs for want of data
from the case.

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POSSIBILITY 2: Assumption: Production process is such that packaging capability in
the plants is limited and hence half a kg and one kg are either produced or imported from
plants which have packaging facility of the desired size

The sales in Pacific are 11.9 Mn pounds while the production in Sunchem is only 4 Mn
pounds. The balance is being imported from other plants. Since Sunchem and Gary are
the only plants which have 0.5 and 1 kg packages, it can be inferred that Gary exports
the remaining (11.9 less 4 Mn pounds) to the Pacific region.

The total exports of North America are 14.2 out of which 7.9 is exported to Pacific. The
balance cannot be exported to Europe whose requirements are already being satisfied
by the Frankfurt plant. Hence, the balance 6.3 Mn pounds are exported to Latin America
which has an excess demand of 11.9.

The remaining import requirements to the tune of 5.6 Mn pounds of Latin America are
met by Europe (Frankfurt plant)

Total
From / To North Am. W Europe Latin Am. Pacific production

North Am. 19.6 0 6.3 7.9 33.8

W Europe 12.4 20 5.6 0 38

Latin Am. 0 0 4.1 0 4.1

Pacific 0 0 0 4 4

Total sales 32 20 16 11.9 79.9


Figure 7: Consumption and Export by plants

POSSIBILITY 3: Assumption: Production process is such that each plant has the
capability of producing different varieties of release ease and in every possible package
size and also there is no additional cost involved in such packaging then what the plants
are currently spending.
In such a case we have developed a Linear Programming model as follows:

A linear programming model was made minimizing the total Cost of production across all
plants such that the total demand across all plants is satisfied. The Cost function

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includes the cost of production in each plant as well as the cost of exports from one plant
to another. For example suppose Frankfurt is producing 100 units while exporting 30 to
Mexico. The cost function will include the cost of producing 100 units in Frankfurt and
also the cost of exporting 30 units to Mexico. This is done with all possible combinations
of productions and exports among the plants and the cost function is minimized.

While developing the Linear programming model, certain assumptions were made:
1. All the different varieties of release ease can be manufactured in any of the six
plants without any significant increase in the total cost of production. This is
based on the assumption that the existing plants and machinery at every location
can be used to manufacture Release Ease of different formulations and
packaging without a major redesigning.
2. The exchange rates and inflation does not affect the production costs
significantly.
3. Production costs are independent of capacity utilization.

The LP formulation is as follows:


VARIABLES
 Cap i = The capacity of plant i ( i = 1 for Mexico, 2 for Canada, 3 for
Venezuela, 4 for Frankfurt, 5 for Gary, 6 for Sunchem)
 Pi = Amount of release ease produced in pounds at Plant i
 Tij = Amount of release ease exported in pounds from plant i to Plant j.
 Cpi= Cost of production at Plant i
 CTij= Cost of transportation from plant i to Plant j.
 Cdj= Duty Cost at Place j
 Binary Variables are:
Xi= 1 if Release Ease has to be produced at plant i
0 If no Release Ease need to be produced at plant i
Yij= 1 If Release Ease has to be exported from plant i to plant j
0 if no Release Ease needs to be exported from plant I to plant j
amount is being exported from plant i to place j

OBJECTIVE FUNCION: Min (Total production cost + Total Transportation cost)

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= Min. ( ∑ [Pi - { ∑ (Tij * Yij)}] Pi*Xi + ∑ Tij*(CTij + CPij) * (1+Cdj) * Yij)
(For i=1 to 6) For j=1 to 6) (For i,j=1 to 6)

CONSTRAINTS
 Production constraint: Total production <= The capacity of the plant
Therefore, Pi <= Cap i
 Demand constraint: The demand for Release ease in any region is equal to
(Total production in the region + the total import to the region – the total export
form the region)
The demand constraint for Western Europe is formulated below for illustration,
X4*P4 + ∑ (Ti4 * Yi4) - ∑ (T4j * Y4j) = 20, 000,000.
Similarly, we formulated demand constraints for each region.
 Export/Import Constraints
o Total export from a plant cannot exceed the total production at that plant.
For example the constraint for Mexico plant is:
∑ T1j <= P1
o A plant cannot both export as well as import from the same plant
Therefore, Yij + Yji <= 1 When, i≠j
Yij + Yji = 0 When, i=j

We have simulated the linear programming model to get minimum costs. This cost
includes Production cost, transportation cost as well as duty cost.
The results of the linear program are part of the Appendix.

Exchange rates and their impact on make/buy decision:

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USD has been steadily appreciating vis-à-vis the yen since 1978. The exchange rate
was 194.6 yen / one USD in 1978 which has increased to 235 yen / one USD in 1982.
This has had a negative impact on the attractiveness of exporting from Gary to
Sunchem. This corroborates the statement made by Tom Schultz.

As we observed from figure 6, the cost incurred by Sunchem in importing from Gary is
1.224 USD and the corresponding cost of manufacturing in Sunchem is 1.538 USD.

In yen terms, this works out to be 1.224*235 = 287.536 for importing from Gary along
with transportation costs and 1.538*235 = 361.43 for production at Sunchem.

Hence under this condition, it is advisable to import from Gary than to produce at
Sunchem.

FUTURE STRATEGY FOR THE GARY PLANT

Our above analysis brings out that if the Frankfurt plant is not capable of meeting
Sunchem’s packaging requirements, the Gary plant can be used to produce for
Sunchem. This would ensure that out of the excess capacity if 4.5 Mn pounds at Gary, 4
Mn pounds will be utilized leaving only 0.5 Mn pounds of excess capacity.

However, if Frankfurt plant meets the requirements of Sunchem, other alternatives need
to be evaluated for Gary plant:

Shifting Gary’s production facility for Release ease to Frankfurt

This option does not appear viable to us for the following reasons:

• Frankfurt has excess capacity of only 5 Mn pounds (after meeting Sunchem’s


demands) whereas the demand from the Gary plant is 14 Mn pounds.

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• The research and Development facility will also have to be shifted to Frankfurt.
Due to its R&D facility the efficiency is lower and labour requirement is higher at
Gary than Frankfurt.

• There is also an issue of relocating labour involved in production of Release-ease


from the Gary plant.

Recommendations:

• The management needs to decide on the operability of Sunchem, as operating


there does not seem viable at current costs
Improvement in processes and Technology
• Have a centralized R&D team which works on product improvement, rather than
having a team in each area
• Improve the information exchange between plants & enable the
implementation of best practices in process execution across plants.
– The process improvements made in Frankfurt plant should be
implemented everywhere.
• Frankfurt uses computer control in reaction step, this should be used
everywhere.
• Also, Frankfurt does extensive solids recovery & waste treatment, this should be
taken everywhere.
• According to the management’s expectations, any machinery in this field has an
expected life of 20 years. However there are cases where machinery installed in
1959 continues to be used in 1982. This is impacting the productivity and
efficiency of these plants.
• The yield increases with volumes, small plants should be scaled up.
• The volumes at many plants (e.g. Sunchem) were constrained by low drier
capacity, such bottlenecks should be removed

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Appendix

Costs per plant

Mexico Canada Venezuela Frankfurt Gary Sunchem


Fixed Costs (per hundred
pounds) 17.58 24.55 25.02 20.34 25.67 57.38
Production in 1982 17,200,000 2,600,000 4,100,000 38,000,000 14,000,000 4,000,000
Total Fixed Cost 3,023,760 638300 1025820 7729200 3593800 2295200

Variable Costs (cents per


pound) 77.43 72.8 91.32 56.35 77.26 96.42

Analysis with Linear Programming on Excel


Transport data
(cents/
pound)
Ctij Mexico Canada Venezuela Frankfurt Gary Sunchem
Mexico 0.0 11.4 7.0 11.0 11.0 14.0
Canada 11.0 0.0 9.0 11.5 6.0 13.0
Venezuela 7.0 10.0 0.0 13.0 10.4 14.3
Frankfurt 10.0 11.5 12.5 0.0 11.2 13.3
Gary 10.0 6.0 11.0 10.0 0.0 12.5
Sunchem 14.0 13.0 12.5 14.2 13.0 0.0

(percentage)
Duty Cost Mexico Canada Venezuela Frankfurt Gary Sunchem
1+ Cdj 1.600 1.000 1.500 1.095 1.045 1.060

Plant Mexico Canada Venezuela Frankfurt Gary Sunchem


Variable cost 77.43 72.8 91.32 56.35 77.26 96.42
Fixed Costs 3,023,760 638,300 1,025,820 7,729,200 3,593,800 2,295,200

Production
Decision Mexico Canada Venezuela Frankfurt Gary Sunchem
Xi= 1 1 1 0.573412838 1 1

Optimal Prod. Mexico Canada Venezuela Frankfurt Gary Sunchem


Pi 22000022 3700000 4500000 26950403.39 18500018.5 5000000

(pounds)
Plant Capacity Mexico Canada Venezuela Frankfurt Gary Sunchem
Capi 22,000,000 3,700,000 4,500,000 47,000,000 18,500,000 5,000,000
Capacity
Constraint 22,000,000 3,700,000 4,500,000 26,950,403 18,500,000 5,000,000

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Optimal export
Tij Mexico Canada Venezuela Frankfurt Gary Sunchem
Mexico 0 0 614360264.5 344112673.6 93443884.92 159794103.5
Canada 145847117.9 0 5371.683933 5371.683933 64550204.69 4434837.382
Venezuela 136161311.6 0 0 0 92808062.84 2274780.514
Frankfurt 138928704.9 19181572.35 0 0 106110533 9387069.369
Gary 153883385 0 7477340.783 0 0 4434837.381
Sunchem 629234575.5 0 0 0 0 0
Total Imports 1204055095 19181572.35 621842977 344118045.3 356912685.4 180325628.2
Total Exports 1211710927 214842903.3 231244154.9 273607879.6 165795563.2 629234575.5

Cost of Production and Transportation of Exports


Mexico Canada Venezuela Frankfurt Gary Sunchem
Mexico 77.4 88.8 84.4 88.4 88.4 91.4
Canada 83.8 72.8 81.8 84.3 78.8 85.8
Venezuela 98.3 101.3 91.3 104.3 101.7 105.6
Frankfurt 66.4 67.9 68.9 56.4 67.6 69.7
Gary 87.3 83.3 88.3 87.3 77.3 89.8
Sunchem 110.4 109.4 108.9 110.6 109.4 96.4

Constraints NA WE LA Pacific
Demand 32,000,000 97,460,569 395,098,822 -443,908,947
Demand Constraint 32,000,000 20,000,000 16,000,000 11,900,000

Plant wise Costs


Costs Mexico Canada Venezuela Frankfurt Gary Sunchem
- - -
Same region -92119315344 -1.5371E+10 20706276226 13899148782 -1.138E+10 60188697771
Exports 1.35248E+11 25275127268 31539742080 24233494932 22896463091 1.11168E+11

Objective Function 136,711,312,363

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