Case 2-3 Stedmann Technologies As Cynthia Clark, manufacturing engineering specialist at Stedmann Technologies (Stedmann), in Jacksonville, Florida, conneeted her computer to the conference room projector, she commented to Jonathan Anderson, senior buyer, who was sitting across the table: "Our presentation to the senior executive team is next Tuesday morning. I think we have all the financial data, but I want to make sure we can address any questions about our ability to effectively insource production if that is the way we decide to go." It was Tuesday. January 9 , and Cynthia and Jonathan were preparing for an important meeting on January 16 , when they would report their recommendations regarding manufacturing of a new product. Stedmann was a leading manufacturer of custom-designed hybrid industrial cooling systems. The company was planning to launch a new product the following year, and Cynthia and Jonathan had been asked to evaluate the company's current strategy of outsoureing in favor of insoureing manufacturing. STEDMANN TECHNOLOGIES For more than 50 years, Stedman had specialized in custom-designed hybrid industrial cooling systems. It had annual sales of approximately $150 million and employed more than 300 people. Stedmann was owned by Geist Corporation (Geist), a global multi-industry science and iechnology company with more than 30,000 employees and sales of approximately $8 billion. Management used the Gicist Business System (GBS) of continuous improvement to guide company culture and business mprovement activities. Developed in the mid.1980s the SIEDMANN TECHNOLOGIES For more than 50 years, Stedman had specialized in custom-designed hybrid industrial cooling systems. It had annual sales of approximately $150 million and cmployed more than 300 pcople. Stedmann was owned by Geist Corporation (Geist), a global multi-industry seience and technology company with more than 30,000 employees and sales of approximately $8 billion. Management used the Geist Business System (GBS) of continuous improvement to guide company culture and business improvement activities. Developed in the mid-1980s the GBS was used to drive improvement in all parts of the company, including manufacturing operations and business processes such as new product development and global soureing. Industrial cooling systems were used in a wide variety of applications, such as refrigeration of food and pharmaccuticals and dissipating heat from machinery. These systems used either air or liquids to absorb and dispel the heat. There were four general types of industrial cooling systems; once-through, cvaporative, dry, and hybrid. Oncethough systems. commonly used in mills and power generation stations, pumped water from an adjoining river or lake through a system of tubes as means of controlling the temperature of the equipment. While evaporative systems worked by spraying water on tubes carrying coolants to reduee the temperature, dry systems used fans to channel cold air over the tubes. Most manufacturers of once-through, evaporative, and dry systems offered standard product lines that differed mainly in size (e,g, capacity) and industry application (c.g,oil and gas versus manufacturing). In contrast, hybrid systems were used when operating conditions required some combination of the three technologies and were typically custom designed The global market for industrial cooling systems was estimated at $17 billion. Stedmann specialized in the designed, engincering, and manuficturing of hybrid cooling systems for remote, arid The global market for industrial cooling systems was estimated at $17 billion. Stedmann specialized in the designed, engineering, and manufacturing of hybrid cooling systems for remote, arid locations for mining, oil, and gas and military applications. Its systems offered a compact design with a small footprint, easy installation and maintenance, and energy efficiency. In the most reeent fiseal year, the company sold approximately 1,600 units, ranging from $50,000 to $250,000 per system. THE INSOURCING ALTERNATIVE In recent years, the company had increasingly received requests from customers regarding availability of Stedmann systems in the onee-through, evaporative, and dry market segments. Denis Belanger, Stedmann's president, believed this represented an opportunity: "For more than half a century, we have designed solutions for our customers that leveraged our engineering capabilities and experience with multiple technologies. Stedmann has a reputation in the market for quality and an excellent brand image. Although we have experience with oncethrough, evaporative, and dry technologies, we have chosen not to compete in these markets, which tend to be characterized by standard products. However, we have reconsidered this strategy. Our plans are to expand our product line, starting with the launch of a new system that uses dry cooling technology-the Stedmann DC1000. The DC 1000 would be a standard product, not eustom designed like our hybrid systems. We feel there is a strong market for this product with our established customer base." In anticipation of launch of the DC1000, Denis Belanger asked Cynthia and Jonathan in July to cvaluate Page 45 manufacturing and sourcing alternatives. Cynthia deseribed the situation: "Stedmann's traditional approach has been to outsouree manufacturing and handle final product assembly in-house at our Jacksonville plant: Our In anticipation of launch of the DC1000, Denis Belanger asked Cynthia and Jonathan in July to evaluate manufacturing and sourcing alternatives. Cynthia described the situation: "Stedmann's traditional approach Page 45 has been to outsouree manufacturing and handle final product assembly in-house at our Jacksonville plant. Our expertise is in product design and enginecring, marketing, and global sourcing. However, with the potential to access a large market for dry cooling systems, it made sense to consider in-house manufacturing and assembly. We felt this could provide a number of advantages, including greater control of product quality. shorter lead times, and lower total costs. " As a first step, sales estimates were provided by the marketing department. This forecast estimated sales of 500 units in the first year, increasing to 1,000 units per year thereafter. Cynthia and Jonathan used the forecast provided by marketing to establish costs for outsoureing and insourcing production. 1 Exhibit 1 provides differences in production costs between the two options and Exhibit 2 provides an estimate of the capital costs for insourcing. No additional capital costs would be required if Stedmann continued under the current outsourcing arrangement. EXIIBTT I DC 1000 Production Costs (\$ per unit) EXIIIBIT 1 DC 1000 Production Costs (\$ per unit) - Variable overhedd rates wece 10% for eutsource and 20% for imource EXIIBTT 2 Capital Costs EXIIIBTT 2 Capital Costs The company currently sourced most of the components for its hybrid systems from suppliers in China. Jonathan negotiated pricing with suppliers based on the expected volumes provided by marketing for the DC1000. Since purchases represented consistent volumes of standard components over several years, he was able to negotiate price reductions of approximately 25 pereent compared to similar components for hybeid systems. The estimates provided in Exhibit 1 show costs per unit, including assembly labor, FOB Stedmann's plant. Working with equipment and raw material suppliers, Cynthia and Jonathan developed a manufacturing cell configuration and facility plan for the DC 1000 . Cell design was based on a capacity of 500 units per year, or two units per day. based on a one shift operation. Two shifts would double capacity, and additional capital would be required to increase capacity beyond 1,000 units per year. Cynthia cstimated insourcing would require an 80,000 -square-foot facility. including space for the cell, inventory storage, and an office, Since the existing Stedmann plant was at full capacity. Working with equipment and raw material suppliers, Cynthia and Jonathan developed a manufacturing cell configuration and facility plan for the DC 1000 . Cell design was based on a capacity of 500 units per year, or two units per day, based on a one shift operation. Two shifts would double capacity, and additional capital would be required to increase capacity beyond 1,000 units per year. Cynthia estimated insourcing would require an 80,000 -squarefoot facility. including space for the cell, inventory storage, and an office. Since the existing Stedmann plant was at full capacity. additional space would need to be leased in another building. The cost estimates for insourcing provided in [9 Exhibit 1 included an estimate of variable manufacturing costs to cover expenses such as building lease, power, energy, and indirect labor costs. New employees would be hired under the insoureing option. Each shift would be staffed with 15 production workers. including CNC operators, welders, and assemblers. Indirect labor would consist of a total of 10 people: three engineers; two production leaders, buyer, production planner, material handler, quality assurance technician, and shipper/recerver. Indirect labor costs were estimated at $650,000 per year, including benefits. FINALIZING RECOMMENDATIONS As Cynthia and Jonathan reviewed the information they had collected and began preparing for the meeting the Page 46 following week, the two discussed the reasons for the difference between the outsourcing and insoureing cost estimates. Jonathan stated, "I belicve the savings are coming from four areas: transportation costs and supplicr cverhead, ineificicncies, and profit margins. Although the payback looks pretty convincing, the capital costs are significant. We need to make sure to address any potential risks if we are going to recommend a change from our current operations strategy