REICHARD MASCHINEN, GMBH

1. REICHARD MASCHINEN, GMBH Group 5 Nguyen ThiThanhThao - M987Z237 Nong Hong Sa – M987Z231

2. COMPANY PROFILE • Grinding Machines Division (GMD) is one part of Reichard Machines Company. • Headquarter located in Frankfurt, operated mainly as a holding company. • For almost 100 years, Reichard had manufactured industrial machines which it sold throughout Europe and North America. It enjoyed a reputation for high quality, technology leadership, and excellent customer service.

3. BUSINESS SITUATIONS • In recent years many other manufacturers had entered Reichard's markets with lower priced spareparts. Other companies had entered with lower quality and lower priced machines and parts. • Biggest competitor is Bruggeman Grinders, SA in Belgium, which manufacturing the plastic rings (one part of the machine) to take the place of steel rings (currently Reichard is using) • Mr. Kurtz (Managing Director) felt sure that competition would continue to intensify in the future. But, he was fully committed to Reichard's strategy of high quality, innovation and excellent service, at a price.

4. BUSINESS SITUATIONS • At another level, when the marketing and manufacturing issues are considered, the complexity of the decision becomes apparent. • The main dilemma of the case is "How long can the firm stay with the substantially more profitable, but technologically obsolete, steel rings while still holding to its strategy of being a top quality producer at a fair price?"

5. Steel ring Plastic ring • Useful life: 2 months • average was four rings per machine. • Price: 325/100 • Big quantity in stock • 4 times wearing properties than steel ring • The factory already had a plastics injection molding department. • the factory could be ready to produce plastic rings by mid- • September • The additional molds and tooling necessary could be produced for about $10,000, but would have to be specially designed which would take a few months • Surely get 10% market share

7. What should be considered? • This case deals with cost analysis for assessing the economics of a product transition facing ReichardMaschinen. • also involves the broader spectrum of business issues related to the transition. • At one level, the economics of the situation need to be brought into focus; fixed costs, marginal costs, and sunk costs must be separated and evaluated for their "relevance" to the decision.

8. What should be considered? • The concept of eliminating applied fixed overhead in a short run, relevant cost analysis. • The concept of sunk costs in a relevant cost analysis. • The concept of the "product substitution" aspects of contribution analysis. • The use of the above analysis as a numerical framework for a partial view of the pricing decision.

9. What should be done? • Mr. Kurtz must decide what to produce in the future and what to do with his current inventories. He needs a short- and a long-term strategy. • Facing the introduction of plastics rings by one competitor, Bruggeman, RMG needs to decide: • 1) whether they will start to produce plastic rings • 2) when to start the production, if needed.

10. Incremental cost analysis For the short run

11. Alternative 1: Sell steel rings which are already in inventory and do not produce steel rings • Because they will not incur any production cost and the finished goods to be sold are already in inventory, the incremental cost will be $0 as shown in the right table. • One can also point out that the 70% of wages will be incurred during the summer, but it is common to the three alternatives and will not be included in the incremental costs.

12. Alternative 2: Produce next 34,500 steel rings • The special steel used in the manufacture of the rings has already been purchased and there is no alternative market for the raw steel. Since the scrap value of the steel used to make the rings is zero, the opportunity cost of the raw material is also zero. Thus, there is no further raw material cost • They will incur the direct labor cost in this period and the wages that will additionally paid will be 30% of the regular wages = 46,8 *30% = 14.04 • The variable OH cost is 80% of direct labor costs = 14.04*80% = 11.23

13. Alternative 3: Start to produce plastic rings in September • Because RMG needs to prepare for the plastics production until September. For the short run, we assume no capacity expansion, so we will exclude the fixed OH costs estimated by the controller and include the additional fixed OH incurred by the acquisition of molds and tooling • To calculate the additional fixed OH, i. e. molds and tooling, we assume the useful life of this equipment is 5 years. One can also assume that the demand for the plastic rings will start with 10% of the current demand for steel rings. • The variable OH cost is 80% of direct labor costs = 15.60*80% = 12.48 • The annual demand for the plastic rings: Annual demand for the plastic rings = 690units/wk * 53wks * 10% =3657 units  • The additional OH cost per 100 plastic Cost per 100 units = (Acquisition cost/( useful life*annual demand )) * 100 =10,000*100/(5*3657) =$54.69

14. Question 3: • This question asks for the differential cost of the 25,450 steel rings which already are in inventory at the end of May. The idea here is to see that the 25,450 finished steel rings already in inventory have zero differential cost. No additional work needs to be done on these rings.

15. Question 4:This question asks which ring is more profitable, steel or plastic.

17. Question 4: Con’t 1. For the next of 25,450 rings, steel rings are much more profitable than plastic rings. 2. For the next 34,500 rings after that, steel rings are still much more profitable than plastic rings. 3. For all rings beyond 59,950 units: teel rings are more profitable than plastic on a marginal contribution basis but plastic rings are more profitable than steel on a full cost basis.

18. Question 5: Long term cost analysis • The decision based on the incremental cost analysis is that the company do not produce any rings. However, we strongly recommend to analyse the profitability of producing plastic rings in the long run, because the analysis above does not include all the costs that will be incurred in the long run. For the long term analysis, we will take the full costing calculation made by the controller.

19. For the long run, the cost per 100 plastic rings is far less than that of steel rings. If the prices of both rings are the same, the plastic rings are profitable. It is clear that in the long run, steel rings will not take any share because of its high production cost. • However, even though the company shift to the plastic rings production and drop the steal rings, it still poses 3 concerns as below. • Further price reduction • Overhead cost on plastic rings • Demand decrease

20. Price reduction • At the very beginning, we can expect high price and high margin on plastic rings. • However, the price of the plastic rings can be lowered to $82 per 100 units in the long run.

21. Demand decrease • We can expect the increasing demand for the plastic rings at the beginning, because there would be replacement demand from steel rings. • However, the demand will be ¼ of the current demand for the steel rings, because of its durability. • At the same time, the demand for the steel rings will be 0 in two and half years, assuming 10% decrease in three months.

22. Question 6: Recommendation Qualitative Analysis • Competitive Market: Given the plastic rings production is not very difficult (as RMG is trying to shift to plastic ring production soon) and it brings higher margin than steel rings, the market will be very competitive. Even if RMG does not produce the plastic rings, the plastic rings will be produced by other companies and the market will shift to plastic rings naturally. • Reichard Maschinen’s market leadership: By introducing the plastic rings into market earlier, the company will maintain their position as a leading industrial machine producer of high quality and technology. • Global Penetration: Given plastic rings’ higher OH cost structure and decreasing demand prospect, the company should expand their client base by global penetration. Since their competitor, Bruggeman, is only selling the plastic rings within Belgium, through this expansion, Reichard Maschinen GmbH could justify their plastic rings production. • Steel Rings are no longer feasible: The steel rings’ higher costs do not justify the continuous manufacturing under the competition.

23. Question 6: Recommendations Quantitative Analysis In conclusion, considering all the aspects of short term incremental cost analysis, long term prospects of demand, price, profitability and quantitative analysis, we suggest followings • Shift to plastics rings within a year • Price at first, around $325 • Cut price as competition goes • Differentiate • Go global and expand the customer base