Liquid Chemical Company Case Study

Executive Summary

Identifying all of the information relevant to a particular business decision is a challenging task because relevance is a broad concept. The process requires an understanding of quantitative and qualitative information, a grasp of legal issues, sensitivity to ethical concerns and an ability to discern fact from decision.

Virtually all business decisions involve choosing among alternative courses of action. The only information relevant to a decision is that which varies among the possible courses of action being considered. Costs, revenues, and other factors that do not vary among possible courses of action are not relevant to the decision.

In addition to quantitative information, many non-financial factors must be taken into consideration. It would be irresponsible and short- sighted for managers to seek solutions and base decisions entirely on revenue and cost figures. Most business decisions also require an examination of legal issues, sensitivity to ethical implications, and an ability to distinguish fact from opinion. Thus, while incremental analysis is an excellent tool for evaluating alternative courses of action, managers should not automatically follow the first course of action that holds a promise of increased profitability. Rather, they should always be alert to the possibility that a more satisfactory, and perhaps more creative, solution exists.

Case Context

– Liquid Chemical Company manufactured and sold a range of high- grade products throughout Great Britain.

– They had a special patented lining, made from a material known as GHL, and the firm operated a department especially to maintain its containers in good condition and to make new ones to replace those that were beyond repair.

– Dale Walsh, the general manager, had suspected for some time that the firm might save money and get equally good service by buying its containers from Packages, Ltd.

– Packages, Ltd. was prepared to supply all the new containers required- at the time running at the rate of 3,000 a year- for 0,000 a year.

Problem Definition

1. Should Dale Walsh accept the quotation from Packages, Ltd? Would it be a sound decision?

2. What addition information is required/ necessary in order to assure win- win situation?

Framework for Analysis

– Irrespective of whether the contract was entered into or not, Packages, Ltd., would undertake to carry out purely maintenance work on containers, short of replacement, for a sum of $90,000 a year.

– the machine costs 0,000 four years ago and will be good in the next five years of so.

– the remaining stock of GHL costs 5,000 and will last in the next four years or so.

– the company is paying, 840 a year in rent for warehouse; if the packaging department would be closed, its existing building would be used as storage space.

Analysis

In many manufacturing operations, a company must decide whether to produce a certain part required in the assembly of its finished products or to buy the part from outside suppliers. If the company is currently producing a part that could be purchased at a lower cost from outsiders, profits may be increased by a decision to buy the part and utilize the company’s own manufacturing resources for other purposes.

In the above comparison table, it can be seen that the cost of operation would be reduced by only a small amount if the packaging materials would be sourced from Packaging, Ltd.

Decision and Basic Justification of Decision

The small amount of reduction in cost should not be a factor for the company to decide to outsource the packaging materials and close down its packaging department. Remember that they have a patent for their lining which indicates that their containers are of good quality. It would generally be opportunity lost for them if they would give up the patented material of their containers. Getting the packaging materials from outside source would mean helping their competitors to penetrate the market in which they should have enjoyed royalty as a result of their patent. In a way, they are creating a market for their competitors. Moreover, they would be terminating their loyal employees who had worked hard for the company in the last 40 years. It would be unkind for the company to do such decision in exchange for a small amount of savings.

In addition to evaluating the opportunity costs associated with a make or buy decision, managers must evaluate other important concerns. For instance, does the decision to make or buy involve issues of product quality? Are there questions regarding the decision’s impact on production scheduling and flexibility? Have certain long- term implications been considered such as product availability and maintaining reliable supplier relationship? Ignoring important questions such as these is a common source of error in incremental analyses.