Design, Re-Design or Outsource Manufacturing

Group Members:

Kishan Kumar

Jivagaran Varatharajoo

Uma Devi Krishnan

MBA

Management Accounting for Managers

Pricing & Product Related Decisions

Milwaukee Electric Tool Corporation

• Founder: A.H. Petersen

• Bought over by A.F.Siebert, friend of Petersen, after WW2.

• Since 1924, has been an industry leader in power tool innovation.

• Pioneer in innovating power tools, introduced world’s first adjustable handle circular saw – Tilt-Lok.

• Very flexible & able to customize their products to meet market requirement.

• By 1960s, had become a market leader. Expanded into new product lines & built up manufacturing capabilities to keep up with demand.

• Change of ownership in 1970’s – no impact in its growth, only continued introducing new tools.

• With mission of producing high-quality heavy-duty products for professional users, Milwaukee branched into hand tool market in 2007 by purchasing Stiletto Tool Company.

Problem Statement Design companies are looking to China for both assembly & manufacturing. Focusing on

relationship between western product design practices & outsourcing trends - typically

Asia.

So NOW, Is sending a product design for offshore manufacturing really cost-effective solution?

Would Milwaukee benefit from redesigning products & keep manufacturing locally?

Problem Factors Factor: • Low labor cost- (Direct Material + Direct Labor + Manufacturing Overhead = COGM)

Average hourly compensation costs of manufacturing employees in China, U.S. Dollars, 2002-2009

Country Hourly wage in ($U.S.) 2002 United States $21.33 Hong Kong $5.83 Singapore $7.27 Taiwan $5.41

Discarded Factors: • Overlook potential cost savings during design phase of a product • Involves Prime Cost (DM& DL) & Conversion Cost (DL & MO) Cost Saving Method: • Terms such as Design for Manufacture & Assembly (DFMA) defines most cost

of a product is fixed during design. • The best time to find cost reductions, is during design stage, NOT during

manufacturing.

Reduction Of Production Cost Over Time

Costs Associated with Outsourcing • Analyse total cost of offshore manufacturing.

• Many tangible & intangible factors must be considered.

Major factors to be considered:

• Shipping Cost

• Travel/Time Zone

• Vendor Selection

• Quality Issues

• Material Cost

• Labor Cost

Other Issues and Costs to Recognize Naturally, costs depend upon the product and industry structure. The list below details a few but is not all-inclusive:

• Legal Issues

• Theft/Piracy

• Shipping losses

• Cost of additional paperwork

• Cost of employee morale

• Cultural/Communication difficulties

• Loss of manufacturing control and flexibility

• Training costs

• Underestimation of start-up costs

• Increasing labor costs once a vendor relationship is established

• Cost of transition

• Cost of layoffs and severance

• Cost of inventory carry due to shipping

• Cost of managing offshore

• Cost of bringing a project back to the U.S.

Overseas Manufacturing Costs • With mentioned costs, both tangible & intangible, sum to 24% of total product cost as

below.

• This number is based on experiences with various suppliers & product development

companies.

• This is a conservative estimation, to avoid argument over particular intangible costs

relevant to a particular product or firm.

• However, analysis should quantify all of the relevant intangible costs for the product.

Baseline adder for shipping and logistics 17% Finding a vendor 1% Quality issues 4%

Travel and communications 1% All others 1% Total adder 24%

Costs Associated with Manufacturing Products in US & China.

Power Drill 1

• Manufactured with a cost breakdown as follows:

• This model then underwent some redesign using DFMA in an attempt to improve the design & reduce the cost.

Power Drill 2

• The cost breakdown for the redesigned drill in as follows:

Model Material Labour Cost

Power Drill 1 52.26 47.77 $100.3

Model Material Labour Cost

Power Drill 2 61.25 31.34 $92.59

Material & Labor Cost for Power Drill 1 Model

Material & Labor Cost for Power Drill 2 Model

Cost Comparison of Power Drill 1 vs. Power Drill 2.

• Redesign effort results in a savings of $7.43 per unit while still supplying a better product than the Power Drill 1 model.

• However, the push now is to lower costs more. The lure of very inexpensive labor overseas is difficult to ignore, especially with $31.34 of labor still left in the current design.

• The challenge for Milwaukee is first to eliminate the hidden costs that remain in their products and then to see whether it still makes sense to send manufacturing offshore.

• The significant costs, such as shipping, that are rarely included in the product bottom line must be traded off against the potential for cost reduction from redesign.

Model Material Labour Cost Cost Saving

Power Drill 2 61.25 31.34 92.59

Power Drill 1 52.26 47.77 100.03

$7.43

• For outsourcing purpose, redesign for cost effective & remain its value, quality & performance Power Drill 3 introduced.

• Its associated cost saving as following after redesigning using cheaper but competitive material & reduce labor cost for irrelevant assemblies.

•

• The comparison of all models are as below:

• Now we should investigate whether sending the current design of the Power Drill 2 model to China for manufacture would result in at least savings of $14.73.

Cost Saving

Model Material Labour

Power Drill 3 13.55 1.88

Model Material Labour Cost Cost Saving

Power Drill 3 47.7 30.16 77.86

Power Drill 2 61.25 31.34 92.59 Power Drill 1 52.26 47.77 100.03

$7.43

$14.73

• Labor rate in China is approximately $5.10 per hour and in assumptions of no changes in other cost involved including shipping

• The lure of cheap labor alone gives the illusion of savings of $14.24 per unit.

• We must make allowances for all the costs involved in the outsourcing of this design. When we add to the product cost our conservative cost-adder estimate of 24%,which takes into account both tangible and intangible costs, the comparison becomes:

• The bottom line is that there is an actual increase in the amount of $1.03 per unit to produce this drill in China, compared to redesigning the product with DFMA and manufacturing it in the U.S

Model Manufacturer Material Labour Total Cost

Power Drill 3

China 61.25 2.37 63.62

U.S 47.77 30.16 77.86

Model Manufacturer Material Labour Total Cost 24% adder

Power Drill 3

China 61.25 2.37 63.62 78.89

U.S 47.77 30.16 77.86

$14.24

$1.03

• Industry spokespeople say that companies looking to outsource manufacturing to China will typically seek at least a 30% reduction in cost before consider it worth the “Leap to China.”

• For the sake of argument, the 24% adder is an overestimate. Even if its half (12%), the cost savings of outsourcing to China is only $6.61, or 8.5%, still below the 30% usually required to pursue an outsourcing venture.

• You could also make the argument that our $5.10 labor cost is very high. But even if you use the labor rate of 33 cents an hour, the numbers for making this tool in China become:

• Here we see that the resulting saving for Chinese manufacture is $1.72, a savings of only 2.2% over manufacturing in the U.S.

Outsourced Cost Savings:

• ($77.86 – $76.14) X 100% = $1.72 @ 2.2%

$77.86

Model Manufacturer Material Labour Total Cost with 24% adder

Power Drill 3

China 61.25 0.16 61.41 76.14

U.S 47.77 30.16 77.86

Conclusion • With this, the results doesn’t show cost-effectiveness in outsourcing, it makes

more sense to manufacture products in the U.S.

• Milwaukee has benefits to remain its manufacturing locally with the DFMA

approach by re-designing with more cost-effectiveness.

• Only Sales & Service are provided over 800 authorized service stations & 21

company operated branch located in US, Canada & Mexico.