Innovative Distribution Company:

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Innovative Distribution Company:
A Total Cost Approach to Understanding
Supply Chain Risk
This case illustrates the use of the total cost of ownership concept to analyze and
compare three supply chains. Your team must calculate economic order quantity
and safety stock quantities then combine purchase price, shipping costs, and
inventory carrying costs to quantify the differences between the three supply
chains.
Questions may be emailed to SMC@unt.edu or visit
http://www.cob.unt.edu/mktg/faculty/farris/idc case.htm for responses to questions
from other participants and links regarding this case and AllianceTexas®.
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“Arrrgh!” exclaimed James L. Heskett, President of Innovative Distribution
Company (IDC), “pirates have struck again off the coast of Somalia. It seems like
every time we turn around there is another piracy on the High Seas.”
“Unfortunately that is nothing new,” replied John L. Hazard, VP of Supply Chain
Excellence, “piracy has been going on for centuries and is still going on today. In
2005 there were 276 piracy incidents1 and in 2010 there were 445 incidents
worldwide?2 While efforts have been made to eliminate piracy, there were still 245
incidents in 2014!3
“Wow! That has got to cost someone a bundle. Who pays for that?” asked Heskett.
“I read a segment on MSN about that,4” responded Hazard, “the cost of insuring
ships has gone up. Insurance premiums increased by 10 times in 2009. Some
companies are spending more time training their crews, others are avoiding the
area altogether — taking long trips around Africa’s southern tip that can adds
2,700 miles to each trip and increases fuel costs by $3.5 million annually. And,
since the ships take can only make 5 round trips per year instead of 6, delivery
capacity has dropped by 26%. Who pays? The customer!”
“Gee, I never thought of those costs. The supply chain really takes a hit. It is a
good thing we do not ship anywhere around Somalia,” exclaimed Heskett.
“But there is risk everywhere,” challenged Hazard, “Piracy occurs around the world.
They have piracy problems in Malaysia and off the coast of Brazil as well. And
there are lots of other risks in the supply chain that need to be mitigated. We have
embraced off-shoring because of lower unit prices but we need to consider the
total cost of ownership of the supply chain. Longer transit times, fluctuating
exchange rates, uncertain delivery schedules, disruptive weather patterns, multilanguage
requirements, political turmoil, unique tariffs and duties, all add to the
cost of doing business internationally. I’m not sure we understand the true cost of
our supply chain.”
“You have a great point. We ought to take a look at all the costs of sourcing IDC’s
next new product and consider the entire supply chain costs,” pondered Heskett,
“see what numbers you can gather and we’ll take an all-in look at the numbers.”
A few days later Hazard and Heskett met to review all of the information they had
gathered about the new product. “What did you find?” asked Heskett.
New Product Sourcing Details
“There are only three possible sources of supply for IDC’s new product. Suppliers
are located in Wahoo, Nebraska, Freising, Germany, and Chengdu, China. We
cannot buy or hold fractional units of a product and we have a projected annual
demand (based on a 365 day year) of 11,225 units with a deviation in daily sales
of 11 units. Our goal is to maintain an in-stock probability of 97.7% for our
customers” replied Hazard.
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“All product (regardless of supplier) will be shipped by rail utilizing twenty-foot
equivalent units (TEUs) to IDC’s distribution center in AllianceTexas® where we
will service all of IDC’s customer’s needs. A single TEU container can hold up to
600 units of the new product. Due to the nature of the product, no other product
may be loaded into the same container. IDC’s inventory carrying cost throughout
the supply chain is 31.1%.”
Hazard and Heskett recognize it will cost $94 to place each order with the
Nebraska supplier and due to the complexity of international trade will cost $151 to
place each order with the German supplier and $171 to place each order with the
Chinese supplier.
Nebraska Supplier Details
One of the possible sources of supply is CousinsAg, located in Wahoo, Nebraska.
The US Department of Labor reported that in 2002, 88,000 of Nebraska’s wage
and salary workers are members of unions.5 CousinsAg is a union shop with an
average labor rate in their Wahoo, Nebraska facility of $25.30 per hour. In
responding to IDC’s Request for Quote (RFQ), CousinsAg’s price is $77.25 per
unit.
Figure One
Nebraska-AllianceTexas® Supply Chain
As shown in Figure One, when an order is placed with CousinsAg it will take 9
days for them to process and manufacture the order, and an additional 7 days to
ship it FOB Origin Prepaid to IDC’s AllianceTexas® Distribution Center. Rail
shipping cost from CousinsAg to AllianceTexas® is $1,905 per TEU. Based on
similar rail shipments from that part of the country, Hazard assumes the standard
deviation of the shipping time from Wahoo will be 1.14 days.
Chengdu, China Supplier Details
There are two other possible sources of supply. The first is Dong Hai Supply, in
Chengdu, Sichuan, China. Over the past decade, China aggressively developed
their transportation and logistics infrastructure inland from the coast. The Chinese
government is now actively promoting trade in areas such as Chengdu. Located
2,107 kilometers from the port of Shanghai, the Sichuan Administration of Price
Control, Sichuan Department of Finance, and the Sichuan Labor Department have
maintained strict wage controls to help develop manufacturing for export. The
average labor rate in Chengdu is 10.36 Yuan per hour. Assume the current
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exchange rate for use in this case is 1 CNY China Yuan Renminbi (¥) = 0.1585 US
Dollar. In responding to IDC’s Request for Quote (RFQ), Dong Hai Supply’s price
is 517 ¥ per unit.
Figure Two
China- AllianceTexas® Supply Chain
The China- AllianceTexas® global supply chain is shown in Figure Two. When an
order is placed with Dong Hai Supply (EXW Chengdu, China) it will take 14.5 days
for them to process, manufacture, and stuff the order into a TEU container. Dong
Hai Supply will use the Interface Exporting Company (IEC) to ship the container
FCA Long Beach. As a part of China’s aggressive development in infrastructure,
the high-speed Shanghai-Chengdu Railroad has recently been completed,6 and
will take IEC 2 days to move the container by rail from Chengdu to Shanghai. It
will wait 4 days at the Port of Shanghai waiting to be loaded onto a ship, 18.5 days
to cross the Pacific Ocean to the Port of Long Beach, and 3 days waiting to clear
customs and be unloaded onto a dockside rail spur in Long Beach. IEC charges
12,431 ¥ for each TEU shipped. Import tariffs and duties are $325 per TEU are
incurred at Long Beach U.S. Customs and charged separately to IDC on a
monthly basis. Once the shipment clears customs and is offloaded to railcar in
Long Beach it will take an additional 4 days to ship it FOB Origin Prepaid to IDC’s
AllianceTexas® Distribution Center. Rail shipping cost from Long Beach to
AllianceTexas® is $2,250 per TEU. Based on similar mini-landbridge shipments
from inland China, Hazard assumes the standard deviation of the shipping time
will be 3.45 days.
Freising, Germany Supplier Details
The second international source of supply is Staberhofer Supply, located in
Freising, Germany, just outside of Munich. The German transportation and
logistics infrastructure is well developed and supports trade throughout the
European Union. Located 649 kilometers from the port of Rotterdam, wages in
Freising have been strictly controlled by the German Bundestag and Bundesrat to
help stabilize the EU economy. The average labor rate in Freising is 15.68 euros
per hour. Assume the current exchange rate for use in this case is 1 EUR Euro (€)
= 1.1585 US Dollar. In responding to IDC’s Request for Quote (RFQ), Staberhofer
Supply’s price is 62.8 € per unit.
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Figure Three
Freising- AllianceTexas® Supply Chain
The Freising- AllianceTexas® global supply chain is shown in Figure Three. When
an order is placed with Staberhofer Supply (EXW Freising, Germany) it will take 11
days for them to process, manufacture, and stuff the order into a TEU container.
Staberhofer Supply will use the Engelhardt GmbH to ship the container FCA
Jacksonville. It will take Engelhardt 1 day to move the container by rail from
Freising to Rotterdam. It will wait 4 days at the Port of Rotterdam waiting to be
loaded onto a ship, 15 days to cross the Atlantic Ocean to the Port of Jacksonville,
and 3 days waiting to clear customs and be unloaded onto a dockside rail spur in
Jacksonville. Engelhardt charges 1,036 € for each TEU shipped. Import tariffs
and duties are $277 per TEU are incurred at Jacksonville U.S. Customs and
charged separately to IDC on a monthly basis. Once the shipment clears customs
and is offloaded to railcar in Jacksonville it will take an additional 5 days to ship it
FOB Origin Prepaid to IDC’s AllianceTexas® Distribution Center. Rail shipping
cost from Jacksonville to AllianceTexas® is $2,500 per TEU. Based on similar
mini-landbridge shipments from inland Europe, Hazard assumes the standard
deviation of the shipping time will be 3.15 days.
Faced with this information Heskett has asked Hazard the following questions:
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QUESTIONS:
Q1: Using the exchange rates cited in the case, what is the INITIAL PURCHASE
COST PER UNIT (in US Dollars; do not include transportation costs) paid to:
a. Dong Hai Supply in Chengdu, China?
b. CousinsAg in Wahoo, Nebraska?
c. Staberhofer Supply in Freising, Germany?
Q2: What is the AVERAGE TIME for an order filling a TEU container to come
from:
a. Dong Hai Supply in Chengdu, China to IDC’s AllianceTexas®
Distribution Center?
b. CousinsAg in Wahoo, Nebraska to IDC’s AllianceTexas® Distribution
Center?
c. Staberhofer Supply in Freising, Germany to IDC’s AllianceTexas®
Distribution Center?
Q3: Using the exchange rates cited in the case, what is the COST (in US Dollars
including tariffs and duties) to ship a TEU container from:
a. Dong Hai Supply in Chengdu, China to IDC’s AllianceTexas®
Distribution Center?
b. Staberhofer Supply in Freising, Germany to IDC’s AllianceTexas®
Distribution Center?
Q4: What is the ECONOMIC ORDER QUANTITY (use unit price only; do not
include transportation costs when you calculate economic order quantity) if
we purchase everything from:
a. Dong Hai Supply in Chengdu, China?
b. CousinsAg in Wahoo, Nebraska?
c. Staberhofer Supply in Freising, Germany?
Q5: How many units of SAFETY STOCK will we need to hold if we purchase
everything from:
a. Dong Hai Supply in Chengdu, China?
b. CousinsAg in Wahoo, Nebraska?
c. Staberhofer Supply in Freising, Germany?
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Q6: Inventory Carrying Costs are based on the value of the product at the time it
is held in inventory. What is the IN-TRANSIT CARRYING COST PER UNIT
(in dollars and cents) if we purchase everything from:
a. Dong Hai Supply in Chengdu, China?
b. CousinsAg in Wahoo, Nebraska?
c. Staberhofer Supply in Freising, Germany?
Q7: What AVERAGE INVENTORY LEVEL (in units; be sure to consider both
safety stock and cycle stock) will we hold at the IDC’s AllianceTexas®
Distribution Center if we purchase everything from:
a. Dong Hai Supply in Chengdu, China?
b. CousinsAg in Wahoo, Nebraska?
c. Staberhofer Supply in Freising, Germany?
Q8: Inventory Carrying Costs are based on the value of the product at the time it
is held in inventory. When the product is sitting in the IDC AllianceTexas®
Distribution Center, its value is a combination of purchase price PLUS any
transportation costs to get it from the supplier to the DC PLUS in-transit
carrying costs. What is the TOTAL ANNUAL INVENTORY CARRYING
COST (in dollars) for the safety stock and cycle stock inventory held at the
AllianceTexas® Distribution Center if we purchase everything from:
a. Dong Hai Supply in Chengdu, China?
b. CousinsAg in Wahoo, Nebraska?
c. Staberhofer Supply in Freising, Germany?
Q9: Inventory Carrying Costs are based on the value of the product at the time it
is held in inventory. When the product is sitting at IDC’s AllianceTexas®
Distribution Center, its value is a combination of purchase price PLUS any
transportation costs to get it from the supplier to the DC plus in-transit
carrying costs. ON A PER-UNIT BASIS (in dollars) what is the TOTAL
ANNUAL INVENTORY CARRYING COST for the safety stock and cycle
stock inventory held at IDC’s AllianceTexas® Distribution Center if we
purchase everything from:
a. Dong Hai Supply in Chengdu, China?
b. CousinsAg in Wahoo, Nebraska?
c. Staberhofer Supply in Freising, Germany?
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Q10: Let’s put it all together to determine the total cost of ownership. We have
determined the unit price, the in-transit carrying cost, the transportation
costs, and the IDC AllianceTexas® Distribution Center’s inventory carrying
cost. If we also consider the Annual Ordering Cost, what is the TOTAL
LANDED COST OF OWNERSHIP PER UNIT (in dollars) if we purchase
everything from:
a. Dong Hai Supply in Chengdu, China?
b. CousinsAg in Wahoo, Nebraska?
c. Staberhofer Supply in Freising, Germany?
Q11: After you incorporate all the risk costs, which supplier is the LEAST TOTAL
LANDED COST PROVIDER of the new product?
Q12: There are additional risks which must be considered to better evaluate
IDC’s decision for the three supply chain choices.
Each member must individually present a unique answer. If there are
four team members you will need to identify four new additional risks:
a. Identify ONE ADDITIONAL RISK which should be considered, and
b. Provide at least two realistic QUANTITATIVE MEASURES for the
additional risk which will enable you to quantitatively evaluate the
risk.
Q13: RECOMMEND AND SUPPORT IMPROVEMENTS to the supply chain
process to reduce total landed cost.
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Innovative Distribution Company:
ANSWER SHEET
Dong Hai
Supply
Cousins
Ag
Staberhofer
Supply
Q1: Initial purchase cost per unit $ $ $
Q2: Average lead time days days days
Q3: Cost to ship a TEU container $ $ $
Q4: Economic order quantity units units units
Q5: Safety stock units units units
Q6: In-transit carrying cost per unit $ $ $
Q7: Average inventory level units units units
Q8: Total annual inventory carrying cost $ $ $
Q9: Total ICC per unit $ $ $
Q10: Total landed cost of ownership per unit $ $ $
Q11: Least cost (check appropriate box)
Q12: Additional risk #1 & two quantitative measures
One unique additional risk and two
quantitative measures for that risk
to be presented by each team
member
Q12: Additional risk #2 & two quantitative measures
Q12: Additional risk #3 & two quantitative measures
Q12: Additional risk #4 & two quantitative measures
Q13: Improvements (supported) to supply chain
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1 “Modern High Seas Piracy,” 20 November 2000 presentation by Michael S. McDaniel to
the Propeller Club of the United States At Port of Chicago with November 2005 update.
www.cargolaw.com/presentations_pirates.html accessed 8 February 2010.
2 International Chamber of Commerce International Maritime Bureau (IMB) Piracy and
Armed Robbery Against Ships Annual Report 1 January – 31 December 2014. p. 5.
3 http://www.icc-ccs.org/piracy-reporting-centre/piracynewsafigures

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