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    Case Study 2: Blanchard Importing and Distributing Co., Inc

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    Mansi Mundhra
    The EOQ model is not a good fit for Blanchard's production planning because Blanchard's demand is not constant and it lacks sufficient storage space. [1] The correct setup cost per production run is $6.25, which only includes direct labor costs for label changes. [2] The correct unit cost calculation only includes variable costs like materials, direct labor, taxes, and variable overhead, while excluding fixed overhead and taxes not realized until sale. [3] The true cost of capital for Blanchard is 22.5%, which accounts for the 20% opportunity cost of alternative investments as well as 2.5% for other carrying costs.

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    Case Study 2: Blanchard Importing and Distributing Co., Inc

    Uploaded by

    Mansi Mundhra
    256 views3 pages
    The EOQ model is not a good fit for Blanchard's production planning because Blanchard's demand is not constant and it lacks sufficient storage space. [1] The correct setup cost per production run is $6.25, which only includes direct labor costs for label changes. [2] The correct unit cost calculation only includes variable costs like materials, direct labor, taxes, and variable overhead, while excluding fixed overhead and taxes not realized until sale. [3] The true cost of capital for Blanchard is 22.5%, which accounts for the 20% opportunity cost of alternative investments as well as 2.5% for other carrying costs.

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    The EOQ model is not a good fit for Blanchard's production planning because Blanchard's demand is not constant and it lacks sufficient storage space. [1] The correct setup cost per production run is $6.25, which only includes direct labor costs for label changes. [2] The correct unit cost calculation only includes variable costs like materials, direct labor, taxes, and variable overhead, while excluding fixed overhead and taxes not realized until sale. [3] The true cost of capital for Blanchard is 22.5%, which accounts for the 20% opportunity cost of alternative investments as well as 2.5% for other carrying costs.

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    256 views3 pages

    Case Study 2: Blanchard Importing and Distributing Co., Inc

    Uploaded by

    Mansi Mundhra
    The EOQ model is not a good fit for Blanchard's production planning because Blanchard's demand is not constant and it lacks sufficient storage space. [1] The correct setup cost per production run is $6.25, which only includes direct labor costs for label changes. [2] The correct unit cost calculation only includes variable costs like materials, direct labor, taxes, and variable overhead, while excluding fixed overhead and taxes not realized until sale. [3] The true cost of capital for Blanchard is 22.5%, which accounts for the 20% opportunity cost of alternative investments as well as 2.5% for other carrying costs.

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    OBA 613 | Operations Management

    Case Study 2: Blanchard Importing and Distributing Co., Inc.

    I. Do you think EOQ model is a good fit for choosing the lot size of Blanchard’s
    production? Why? Please articulate your reason(s)? (Hint: Please examine
    whether the assumptions for EOQ model fit Blanchard’s business environment).

    Blanchard’s business environment is setup so that when there is a big change in


    demand or the 3 ½ week ROP stock-level has lapsed a production run is triggered.
    Since Blanchard’s demand is not constant, any large order will cause production
    instability. No safety net in inventory is available because of a lack of space to store
    inventory as a result of wine distribution expansion. Additionally, each type of product
    has the ability to trigger a production run depending on demand. Stock-outs may occur
    if actual demand does not meet the sales predictions or the 3 ½ week ROP.

    The EOQ model would have been a good model had Blanchard recalculated its EOQ
    and ROP. Since following these methods would have led to lower reordering costs and
    more factory space for Bob and Elliot to pursue new ventures.

    II. In the current EOQ calculation, the setup cost per bottle-run is incorrectly
    estimated. You are invited to correct the calculation. In Exhibit 2, Blanchard
    currently calculates the setup cost per bottle-run 𝑆 using this formula:

    𝑆​= ​(blending setup cost) + (size changeover cost) + (label changeover


    cost) + (order processing cost).

    Please correct the calculation for the setup cost for a bottle run, 𝑆. (Hint: To your
    information, this formula ​over-estimates the true setup cost per bottle run by
    including unnecessary labor cost items in the calculation​.)

    The correct setup costs per production run would be $6.25. Blending setup costs, size
    changeover and order processing costs are all accounted for by the predetermined
    salaries and are therefore, not included in the setup costs.

    Setup costs do include: label change over costs (5 part time workers are hired =
    $2.50/hour per worker) and the idle time during the label change over time (30 min/0.5
    hrs). Therefore, total setup cost is:

    S = (5)x(2.50)x(0.5) = $6.25 per setup

    III. The inventory holding cost is 𝐻 = 𝐶 × 𝐾 per (unit, year), where 𝐶 is the cost of
    producing one unit of product and 𝐾 is carrying cost percentage (i.e., cost of
    capital). However, the ​estimation of the value of both ​𝑪 ​and ​𝑲 ​are inaccurate
    OBA 613 | Operations Management

    due to misconception in the original rationale behind the current formula. Let’s
    correct the calculation of 𝐶 and 𝐾.

    A. Blanchard currently calculates 𝐶 using the following formula (in Exhibit 2):

    𝐶 = (materials cost) + (bottling labor) + (fixed overhead allocation) +


    (variable overhead) + (customs duty) + (federal distilled spirits tax) +
    (federal rectification tax).

    The detailed explanation to each cost category therein is also provided in


    Exhibit 2. Please discuss your recommendations for correcting this
    formula and explain your reasoning. (Hint: To your information, ​some cost
    items in the formula above should not have been included​.)

    The unit cost (C) of each product includes the following costs:

    ● Materials
    ● Direct labour
    ● Federal rectification tax
    ● Customs duty
    ● Variable overhead

    Federal distilled spirits tax is not included since it is not realized until after sale, nor is
    fixed overhead allocation since it is fixed and not variable cost. The calculations below
    are based off of exhibit 3:

    Product Unit Cost (C)


    (materials + direct labour + fed.
    rectification tax + customs duty + variable
    overhead)

    Vodka $2.80

    Gin $2.95

    Scotch $7.88

    Whiskey $5.15

    Rum $4.61

    B. Currently, Blanchard set the carrying cost percentage 𝐾 to be the cost of


    capital (in percentage) for financing the production and inventory. While it
    is valid to do so, Blanchard believes that the cost of capital (%) arises from
    OBA 613 | Operations Management

    the interest rate of capital (i.e., bank credit), which is 9%. Please discuss
    what you think should be the true cost of capital (in %) and explain why.
    (Hint: To your information, ​Blanchard fails to recognize the true cost of
    the capital​, given the financial condition and alternative investment
    opportunity of the company.)

    The 9% interest rate does not consider the opportunity cost of capital available to
    Blanchard. The correct carrying cost (K) is 22.5% and is broken down into two types of
    costs. First, the opportunity cost is set at 20%, which is the percent Blanchard would
    earn if it invested in Wine Merchandising. Second, the other carrying costs are 2.5%,
    which included estimated costs of obsolescence, shrinkage, insurance, and year-end
    inventory tax. Therefore,

    K = opportunity cost + other carrying costs = 20% + 2.5% = 22.5%

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