The TEMKO Company encountered the problem of defects in some of itspur- chased tractor short-block castings. The short-block castingsare used to build the R-208 tractor engines. TEMKO installs theheads, manifold, carburetor, and other engine parts, which consistof approximately 13 percent of the short-block casting purchaseprice. When the defects are discovered, the short blocks have to bedisas- sembled and repaired. It takes approximately eight hours perrepair. Even with this process, almost 4 percent of the incomingshort blocks end up as scrap. In other words, approximately 10 outof every 100 units are repaired and 40 percent of the repairedshort blocks are scrapped. Each short-block casting costs between$1,550 and $1,700 depending on the supplier. There is also a costof downtime as- sociated with interruptions on the shopfloor.
The internal labor cost of assembling each incoming short-blockcasting and repair as necessary is approximately $878 per shortblock. The estimated overhead, which is 150 percent of directlabor, consists of 33 percent variable and 67 percent fixed costs;the shop floor disruption cost is estimated to be $500 perdisruption.
Recently, James Sun, the purchasing manager, released a request forquote (RFQ) for the short blocks to three prequalified suppliers ofassembled tractor en- gines. However, only one supplier, ACEManufacturing, Inc., showed an interest. ACE was a small startupcompany that was looking for work. In order to produce assembledR-208 engines, an investment in precision machinery of more than$1,500,000 would need to be made. ACE was willing to both invest inthe neces- sary machine and guarantee at least 100 engines permonth—provided TEMKO would contract with it as a sole source forthe engines for the next three years. The price per engine would be$3,500 the first year, with an annual increase of 3 per- cent.TEMKO anticipated that they would need at least 1,000 finishedengine as- semblies per year for the next five years. As thepurchasing manager for TEMKO, how would you analyze thisoutsourcing decision? (Make sure your analysis is complete.)
1. Develop a unit cost breakdown for R-208 tractor enginesutilizing both available current
data and assumptions in the process of calculations. State allassumptions
2. What would the estimated probable cost resulting from poorquality of incoming shortblocks
castings? Suggest probable solutions to this qualityproblem.
5. According to ACE Manufacturing, what would the resulting costreduction from
outsourcing to ACE Manufacturing be? Discuss the probablesources of this cost reduction.
What would be the consequence of exploiting these sources toTEMKO and ACE
Manufacturing?
