Scott Miracle Grow Speader; Make or Buy

Scotts Miracle-Gro has a plant in Temecula, CA that produces seed spreaders. Management is deciding if it should discover the Temecula plant open or if it should source manufacturing either to mainland chinaware or offshore China. Before Miracle-Gro became Scotts Miracle-Gro, they outsourced to contract manufacturers for production. Scotts manufactured their spreaders since it acquired Republic Tool and Manufacturing. Scotts Miracle-Gro manufacturing facilities have a plant in Temecula, CA. The Temecula plant improved productivity, efficiencies, and also different innovations including a new assembly process for their hand spreader.Also, they invented an in-mold labeling process that produced a label that did not fade, scratch, or peel off. Despite what the Temecula plant had done, management was looking to see if they could save money by outsourcing the full operation. The plant tutor wanted to keep the Temecula plant open and felt that if the production was moved to China that there would be quality problems along with high shipping salutes, and tautological administrative cost could erase any economic benefit from outsourcing to China. Another alternative to outsourcing to China was building a Scotts-owned facility plant in China.This filling would help keep the proprietary processes in the hands of Scotts Miracle-G ro. However, the disadvantages associated with moving to China stated above (poorer quality, high shipping cost), would still be a negative. The problem is what should Scotts Miracle-Gro do. We did a NPV analysis focusing on the 4 Cost drivers for the Temecula plants which are raw materials, labor cost, electricity costs, and overhead costs and compared them to what it would cost in China. The NPV for the Temecula plant is $94,826,678 (screenshot of spreadsheet in appendix).The NPV for China mainland (offshore NPV would be close to mainland China except for initial start-up costs, etc.. ) is $90,070,804 (screenshot of spreadsheet in appe ndix). We analyzed the entropy by using the poetry provided in the case. For example, for analyzing the Temecula plant, we used the information in Exhibit 4. However, some of the data (number of employees in China) we based the information on what the Temecula plant was using. Based just on the NPV, it seems that closing the Temecula plant and moving to China would be the best option.However, important the potential cost savings (in labor and energy costs) might be, it is also necessity to look at other factors. Some of the other factors would include the production quality, control over their own products, proprietary rights, longer lead times, having to carry synthetic rubber stock, and their image to stakeholders and employees. Also, management needs to look at problems that might arise if Chinas government changes laws, problems in cases of ports closing, and the training and productivity of new employees. Next, we leave analyze the 4 cost drivers more in depth.Cost Drivers There were four main cost drivers examined in this case Raw Materials, Labor, electrical energy (Energy), and Overhead. Scotts essential evaluate these cost drivers to determine whether outsourcing the manufacturing of their spreader will improve the accompanys profitability and/or useable efficiency. Although, in some instances the decision to outsource send packing be very clear based on the numbers alone, there are also other not so quantitative risks such as loss of control, loss of inventory flexibility, and loss of ones competitive advantage. Raw MaterialsPlastic resin is the main component in the manufacturing of the spreader bucket, and the costs are comparable whether its purchased in China or in the US. However, the Temecula plant did invest in a re-grind process which saves them an additional $100,000 per year. However, this savings has critical impact on the overall operating expenses at the Temecula plant. Labor Costs Labor rates are one of the main driving force s in whether or not a company should make or buy a product or service. For s Scotts labor costs associated with manufacturing the spreader in the US is initially $6M vs. 350K in China, see attached appendix , which is 17X more costly to produce the spreader at the Temecula plant. Even if the plant rump improve their operational efficiency in the out age and reduce labor costs it would still be difficult to compete with China during this 10 year period. Electricity (Energy) Costs Energy costs are still cheaper in China, by more than half the cost. However, the majority of energy which China uses is from coal plants and not environmentally friendly, more and more companies and US consumers are becoming keen to the issue of reducing ones carbon footprint.Outsourcing based on energy costs is typically not the sole driver. However, if energy cost between China and the US become more competitive, such as in the case of the US using natural gas (i. e. fracking) to supply electricity to their plants the argument to bring manufacturing back to the US may become more compelling. Overhead The cost of overhead or Governance at the Temecula Plant is approximately $5M annually vs. China $500K (excluding $1M in year one for start-up costs) these are costs associated with Scotts management to monitor, caterpillar track and visit China to oversee operations. Sensitivity AnalysisDue to the uncertainty in the future economic trends, there are three uncertain factors playing important roles in the decision making. They are labor cost in China, electricity price in China and exchange rate between Yuan and Dollars. The NPV model is sensitive to the how those three factors change over the future(a) decade. A careful analysis on the sensitivity is necessary in order to make sound credit line decisions. 1. Labor Cost According to the case we know that labor costs in china may have a big increase in the next 10 years, from 40% totally to 10% annual increase to even 40% annual inc rease.If the labor cost will increase 40% in the next 10 years, that content itll increase 3. 4% annually, so the NPV of costs will be $73,751,039. If the labor cost will increase 10% annually in the next 10 years, the NPV of costs will be $74,998,037. If the labor cost will increase 40% annually in the next 10 years, the NPV of costs will be $91,424,835. We can see from previous analysis, NPV of Temecula is $94,826,678. So if labor cost will increase differently, well get different NVP. nevertheless no matter how big increase itll be, our decision will still be outsourcing to china. 2. Electricity Price The current electricity cost in China is 0. 65USD per kilo-watt hour. It is estimated to increase by 20% over the next 10 years. Assuming the electricity cost increase at a certain rate severally year, we get the annual increase rate 1. 8% (1. 8% =(1+20%)(1/10)-1). This estimated rate is probably lower than the actually annual increase because of increasing closet on environment al records and fuel costs. Thus how much does electricity cost may increase is important and the NPV model output is sensitive to it. However, since the electricity cost in China is so low when converted into USDs, the growth rate doesnt influence the NPV that much.For example, experimenting with 5% annual growth, since 5% is significantly larger than 1. 8%, we get NPV = 74,968,548 USDs, whereas 74,376,968 USDs with 1. 8% annual growth. The difference would be 591,580 USDs, which isnt that significant when putting it in a bigger scope. Also, 5% is an unlikely assumption abandoned the fact that the Chinese is heavily investing in infrastructure to generate more energy. Thus, we think NPV model is not very sensitive to the electricity price. 3. qualify Rate According to the case, we know that the market expectation was the yuan would appreciate by 20% in next five years.Since this datum is just an expectation, which means it is inaccurate and uncertain, so that we need to analyze th e sensitivity of it. We assume that the annual increase in value of Yuan is 3. 6%, we can get the NPV of costs is $74,376,968. However, if we decrease the rate, say 2%, the NPV of costs turns to be $69,099,021, which means the cost decreases on the other hand, if we change the rate to 6%, the NPV of costs increases to $81,500,203. So we can conclude that the lower the annual increase in value of Yuan, the lower the NPV of costs. ConclusionAs we stated in the beginning we feel Scotts Miracle Gro should outsource the manufacturing of their to spreaders to China, this is based on the data and sensitivity analysis the group conducted. In addition, one of the questions that we had to examine was whether or not the technology to have in-mold labeling was a competitive advantage, and should it be a considered a core capability. Although, Scotts Miracle Gro manufactures spreaders, the brand name is about the quality of seed and fertilizers for the do-it-yourself lawn and garden consumer, an d not the spreader.The consumers primarily purchases those products which enhance the look of the garden and lawn, selling spreaders which can disburse their product is ancillary, Scotts wants consumers to buy their seed and fertilizers every season (repeat customer) where as the purchase of a spreader is a one-time purchase every 10 years or more. Therefore, if Scotts can outsource the production of approximately 3 million spreaders to China at a significant cost savings then the company should do so. Cost savings realized should be re-invested into research and development so Scotts can maintain their competitive edge is this home and garden market.