Elephant Company for valves – What would the productivity of the plant become if the new equipment were purchased and implemented

Elephant Company for valves



Elephant Co. is a manufacturing company engaged in the manufacture of valves. They have been in the business for 3 years and have been manufacturing only one type of valves. They started their business initially with the sales of 10,000 valves per month and now they have grown the volume to about 50,000 valves per month.  They have been buying all the raw materials for the valves and were doing all the manufacturing in house.

Now they have established themselves in the market and are planning to expand and produce different types of valves. Mr. Michel is the production manager of Elephant Co. and has been successful with the production and the level is continuously increasing. But in recent times, he is finding that there is a high level of dissatisfaction among the workers regarding workload as well as salary levels. The workers are regularly complaining about the over work.

For completing the work and delivering the products on time, he has to employ workers on overtime and his overtime cost has also increased 3 times. Mr. Michel is worried about the new expansion plan of the management and is worried where the new workers would come from as he is already suffering from shortage of workers in the existing job. He has requested the management not to go for expansion immediately and look at improving and consolidating the existing set up. He has sent his request to Mr. Loay, the Board Chairman.


GOOD LUCK                                                                                                                                                             pg. 1


At the same time, the plant manager, Miss Nourhan, agrees with Mr. Michel and is contemplating a plant modernization to upgrade the technology in the plant which should increase the plant’s output while lowering energy costs. While the plant performs well enough now, modernizing equipment would allow the plant to increase capacity per hour, which is particularly advantageous because the factory has enough demand to cover the additional capacity.

Mr. Loay has gone through the request of Mr. Michel and Miss. Nourhan and called for a meeting of all the department heads and explained the situation to all concerned. Miss Nadine, the marketing manager has expressed very bullish prospect about the company’s growth and said that the company should take advantage of growing economy and established brand image of the company and definitely go for expansion. Miss. Molka, the finance manager also expressed that this will result in economies of scale for the products and will further increase the profitability of the products. Mr. Michel again expressed his problems regarding availability of manpower as well as production control and effect on quality and productivity. The Marketing manager asked the Production manager about the option of outsourcing some parts. Mr. Michel is skeptical about the outsourcing option as he felt that the outsourcing agency will always charge more as he will try to make his profit as well and also is worried about the possible problems of deliveries. Mr. Loay asked Miss. Alia, the Purchase manager, about his views. She said that since the suppliers would also be interested in doing the business, they would not like to delay as with delay they also incur loss.

Miss.Molka said that we can look at cost comparison for buying against in-house manufacturing.


After listening to all the views, Mr. Loay told Mr. Michel to work out the cost of production for future sales as per the forecast given by the Marketing department. He also told Miss. Alia to collect the details of the future requirements to get the purchase cost details for the components of the valve that can be outsourced.

All the managers have collected their data and they have presented the data in the meeting called by Mr. Loay to review the plan.



Miss. Nourhan has presented the following data:


Currently, the plant operates 5 days a week, in two shifts of 30 workers per shift. The workers are paid $10 per hour. Adding a third shift is not possible because the plant needs to be cleaned during this time.

Using the current equipment, around 1,500 valves can be processed each hour, while the new plant would be able to process 2,000 valves per hour. The updated equipment is made by the same manufacturer as the existing equipment, and the production personnel feel that they will be able to learn to use the new equipment quickly. For this reason, costs to train personnel are assumed to be negligible.

The financial manager, Miss. Molka, is skeptical about the benefit of the plant modernization. The older equipment, he argues, is already paid for, and new equipment would cost L.E 10,000 per week. This cost includes both principal and interest, as well as manufacturer installation of the equipment.

She cautions that all decisions related to costs should be included in the analysis and that the different energy consumption of the new equipment must also be accounted for in the decision. Energy costs are presently L.E 10 per unit, and the existing plant uses 1,000 units of energy per week. With the modernized plant, the consumption of energy would fall by 50%.



  1. What is the productivity of the processing facility, with the equipment currently in use?
  2. What would the productivity of the plant become if the new equipment were purchased and implemented?
  3. What would be the amount of additional expense on equipment that would make productivity of the two systems equal?
  4. What might happen if energy costs increase in the future?

                                                                                                                                                    pg. 3



Mr. Michel and Miss. Alia have collected their data and they have presented the data in the meeting called by Mr. Loay to review the plan. First the marketing head Miss Nadin presented his market forecast and then Mr. Michel presented his report and explained the details as follows:

  • One supervisor with monthly salary of E. 5000 with expected increase of 10 % per year.
  • Direct wages of worker as E. 4 per unit. With 10 % reduction in second year, no change in 3rd year and increase of 10 % every subsequent year.
  • Material cost of E. 14 per unit with an increase of 10 % every year.
  • Power and fuel cost of E. 2 per unit with increase of 10 % every year.
  • Indirect labor as 50 % of direct
  • They will have to buy a new machine with a cost of E. 500,000. With usable life of 5 years.


Miss. Alia explained his details as follows:

  • Component price from supplier at E. 20 for the first 2 years with an increase of 10 % every subsequent year.
  • Transportation cost of E. 2 per unit for the first year with increase of L.E. 0.20 every subsequent year.
  • Inventory cost (storage cost) as 5 % per year of the basic material



The Marketing manager has given the sales forecast for next 5 years as follows according to the following equation;




Y = 100000+200000 t


1- Use the trend-projection method to forecast demand in years 1 through 5.

  1. Based on this data, is it economical for Elephant to go for buying the part from market or manufacturing in house.
  2. What other factors should Elephant look at for making this decision?



Elephant co. imports and uses the WX-81 chip in some of its valves. It suffers from the volatility of the chip price. The prices for the chip during the past 12 months were as follows:



  1. Use a 2-month moving average on all the data and plot the averages and the
  2. Use a 3-month moving average and add the 3-month plot to the graph created in part (a).
  3. Which is better (using the mean absolute deviation): the 2-month average or the 3- month average?
  4. Compute the forecasts for each month using exponential smoothing, with an initial forecast for January of $1.80.


α = 0.1, then α = 0.3, and finally α = 0.5. Using MAD, which α is the best?

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