In order to stay competitive in an industry with an increasing number of players, companies have to be able to stay on top of their costs, as well as that of their competitors. Costing is a very tricky business in itself. Companies are wont to making costing mistakes by going with the wrong assumptions. The case of Tork versus LG shows how Tork conducts its breakdown of competitor costs in order to come up with strategies that will eliminate the costing advantage of LG. Tork is also burdened by an additional dilemma of continuing to produce low-end units or buying from LG, as well as deciding whether to pursue a legal battle against LG for dumping - that is, selling its products below cost.
LG Electronics, a competitor of Tork Corporation in the air conditioning industry, has faxed a proposal to produce low-end units for Tork to sell under its own brand name. This proposal gave Stan Lerner, VP for North American Operations at Tork, something to think about. This deal could potentially benefit T ork in reducing costs, thereby, increasing margins. On the other hand, it could help LG gain entry into the North American market by its association with an already established brand name.
In this analysis, we aim to present our recommendations to address the following issues that Stan Lerner is faced with:
Is Tork correct in its analysis of LG’s cost, especially with some based only on assumptions? If, in fact, LG’s costs are much higher than their quoted selling price to Tork, should Tork go ahead with a lawsuit against LG?
Should Tork go ahead and buy from LG for its low-end AC’s? What are the chances of LG gaining a competitive ground in the high-end models? What strategies can Tork adopt to remain competitive?
These are only some of the apparent issues that the case presents. Tork has to get a better idea of the actual costs incurred by LG in order to come up with a more comprehensive strategy, not only for competitiveness but also for growth and continuous improvement of materials, processes and business.
FRAMEWORK FOR ANALYSIS
The case will be analyzed both quantitatively and qualitatively. Given the dearth in information, specifically with regards to outright costs of LG’s other models, we will assume some parameters in the cost estimates for LG’s other units.
The analysis will go as follows:
THP Group 2
Case Study on Make-or-Buy Decisions: Tork Corporation
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o Calculation of LG’s cost advantage vis-à-vis the four (4) categories of cost driver: Design, Geography, Facility and Operations
o Comparison of Tork and LG’s costs based on basic cost accounting elements and materials cost components
o Make or buy cost analysis
o Calculation of costs for LG’s other models with the following assumptions: Materials Cost = (weight x cost of material (e.g. plastic or steel)) + cost of other components.
Cost of other components for both LG and Tork are the same from models B to F.
Percent increase in Overhead cost (as separated into Labor Related and Fixed costs) and percent increase in Direct Labor for Tork is taken to be the same increase in percentage for LG.
Qualitative – SWOT analysis for both Tork and LG
We checked the cost analysis done by Tork on LG’s Model A based on two formats – 1) grouping the cost elements into the four (4) categories and; 2) based on basic accounting elements as presented in Appendix 1 (Tables 1 & 2). We found out that the cost savings of LG per unit varied by about $10 per unit for both calculations. There was a significant difference in the material costs as broken down per component, versus the material costs as mentioned in the text. Assuming the cost analysis of Tork is correct (with cost advantage of $ 71 less for LG, as presented in Table 1), we determined that for Model A alone, buying from LG would be more cost efficient for Tork as shown in...