Prashant Khorana - ES1 - Zumwald
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Transcript of Prashant Khorana - ES1 - Zumwald
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ES1 Prashant Khorana Assignment #3 - Zumwald Corp.
In 2001, ISD designed a new piece of ultra-sound equipment called the X73. The new system offered advantages in processing speed and costs, and took up less space i.e. all in, a much better piece of equipment. Hiedelberg engineers took up the task of participating in the design process of the equipment. Hiedelberg was compensated for the cost of design engineering but did not benefit from the profitability associated with designing the new equipment. Also, it is worth noting that, ISD is the end manufacturer of the product, but it procures parts that can be either procured from outside the firm, or internal vendors. Thus, that is the relationship between the three internal parties. As can be seen in the appendix the competitive bids for all firms (internal/external) are different. The source of conflict comes from the fact that Hiedelbergs bid as an internal party is not competitive enough, in comparison to other external parties. This conflict also arises from the fact that - each party is thinking about their own personal incentives (most likely bonuses which are tied to margin generation), rather than thinking about the company as a whole. If transfer pricing is taken into account the problem of sub-optimization of individual department is resolved. Also, it seems like fixed costs are being taken into account at the sub-entity level, but they should be taken into account at the company level. If only contribution margin was considered, then we observe that the cumulative contribution margin of procuring internally is larger than procuring externally. Thus management should incentivize group P&L, rather than departmental P&L or ROIC.
Zumwald ECD Hiedelberg ISD
Parts moved over at transfer price agreed upon b/w parties
Purchase of inputs from vendors upstream in the value chain Sale of finished products downstream in the value chain
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ES1 Prashant Khorana Assignment #3 - Zumwald Corp.
APPENDIX PROFIT MARGINS OF ALL FIRMS: Item Bidding Supplier
Heidelberd Bogardus Display Tech
Price X 73 340,000 340,000 340,000
Direct Material 140,000 120,000 100,500
Other Component 72,000 72,000 72,000
Conversion cost
Variable overhead 27,000 27,000 27,000
Fixed cost 117,000 117,000 117,000
Total cost 356,000 336,000 316,500
Profit Margin (16,000) 4,000 23,500 PROFIT MARGIN DETERMINATION BY HEIDELBERG: Item Heidelberg
Current Bid Competitive Bid
Direct Material 21,600 21,600
Conversion cost
Variable overhead 28,400 28,400
Fixed cost 55,000
Total cost 105,000 50,000
Markup (@ 33% of
Cost)
35,000 16,500
Price to Offer 140,000 66,500
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ES1 Prashant Khorana Assignment #3 - Zumwald Corp.
BIDS OF ALL FIRMS: Supplier Cost per X73 System ()
Heidelberg Division 140,000
Bogardus NV 120,000
Display Technologies Plc 100,500
