Rotman Case Book

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#29 – New Rubber Plant Investment Analysis Structure Overall

Boston Consulting Group Hard Hard Hard

Case Tracker Case Stem


Industry Industrial Goods The federal government of a country in a certain part of the world is investigating whether to
restart a rubber factory. The factory was operational in the past but has not been used for 7
Type Value Chain years. The plant was closed due to terrorism in the area which has now come down significantly
though there are still issues and skirmishes reported in the area. All the equipment is considered
usable but the government still estimates to spend $12M to rejuvenate the plant which would
Leader Interviewee enable the plant to produce up to 10M lbs of rubber per month. The demand of rubber
worldwide is strong but rubber must be exported via trains. Due to current high traffic on the
Operations Process Analysis, route, only up to 2 trains per day can be used for this.
Concepts
Bottleneck

Interview Guidance

Since this is an advanced case, try to provide as little guidance as possible as the interviewer. Push the candidate to include non-profitability elements into
their structure if they don’t naturally do so.

It may prove beneficial to use the discussion around risk as a brainstorming question to be conducted either before the recommendation was given or
after. The candidate should be able to provide at least 5 risks and ideally put them into a MECE structure (this is not straightforward and will require some
time).

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#29 – New Rubber Plant Investment (II of VII)

Information provided upon request


Clarifying Questions:
How many suppliers are there?
We have identified one supplier.
Who are our customers?
We would be selling the rubber in the commodity market to the entire world.
What is the demand of rubber in the market?
The market demand is strong. We can assume that whatever the plant produces can be sold.
What is the payback period / timeline they are considering?
The government expects a payback period of 1 year due to high risks.
What are the raw materials?
Gum resin, 3 lb. of gum resin needed to produce 1 lb. of rubber.
Where are the resins coming from?
They need to be transported from the capital. Up to 6 trains can be used for to transport them (this is a key question, a candidate not asking the
question misses out a key element of the case).
Information to be provided upon request during the case:
What price can rubber be sold at?
Sell the rubber at $20 per lb., gum resin costs $5 per lb.

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#29 – New Rubber Plant Investment (III of VII)

Sample Framework
This is an operations case mixed with cost-benefit analysis. The analysis may include, but is not limited to, the following areas:

Basic Structure:
Analyze the financial benefits of the investment:
• Analyze ROI [revenues vs costs (upfront investment, recurring costs such as transportation, materials, etc.]
• Other non-financial considerations:
• Risks: threat of terrorism, timely delivery, labour shortage, etc.
• Non-financial benefits: economic development, employment
Advanced Structure:
• Analyze the financial benefits of the investment:
• Analyze ROI [revenues vs costs (upfront investment, recurring costs such as transportation, materials, etc.]
• Examine value chain for the rubber plant and identify the bottleneck:
• Raw Materials → Manufacturing → Distribution
• Analyze production capacity of plant. Given the equipment capacity is 10M lb. per month, production is probably limited by supply and
distribution
• After drawing the value chain, the candidate should clearly identify that there is a transportation element
• Identify the other benefits associated with this investment considering this is a government investment:
• Employment
• Economic development
• Identification of risks
• Assess risks in the investment (timely delivery, terrorism, labour shortage, etc.)
After the candidate lays out the plan, ask the candidate to calculate the payback period, if not already identified.
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#29 – New Rubber Plant Investment (IV of VII)

First Step: Identify Bottleneck Second step: Identify revenue and cost
A common mistake is to assume 10M lb per month as production level Information to be provided upon request
(10M lb per month is the maximum production capacity, but not • Labour: $8M per month
necessarily the plant’s production level)
• Fixed overhead costs: $10M per month
Ask the candidate to calculate on monthly basis. Assume 25 days in a • Cost per train round trip: $40K (both inbound and outbound)
month. Show exhibit #1 upon request for train information
• Sell the rubber at $20 per lb.
Outgoing Train Calculation • Gum resin costs $5 per lb.

• Daily capacity: 2 x 8 x 25 x 500 = 200K lb


• Monthly capacity: 200K x 25 = 5M lb
Expected calculation
Incoming Train Calculation • Transportation cost per month: $40K x 6 trains x 25 days = $6M per
month
• Daily capacity: 6 x 10 x 25 x 640 = 960K lb
• Important information: we need all 2 outbound trains, but only
• Monthly capacity: 960K x 25 = 24M lb
4 inbound trains per day to transport 15M lb of resin (2+4 = 6
• Conversion to rubber: 24M / 3 = 8M lb (resin:rubber ratio)
trains / day)
• Revenue: 5M lb x $20 / lb = $100M
Expected key insights
• Material costs: 15M x $15 = $75M
• Bottleneck is the outgoing train capacity; production level is limited by
distribution capacity
• Therefore, monthly rubber production is 5M lb
• Quantity of resin needed is 15M lb (5M lb x 3)

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#29 – New Rubber Plant Investment (V of VII)

Third step: Identify payback period Non-Financial Considerations


Rough income statement A strong candidate will immediately offer to brainstorm non-financial
• Revenue: $100M considerations (both benefits and risks). If they don’t, interviewer should
• Material costs: ($75M) prompt them.

• Labour costs: ($8M)


If the candidate asks any of the questions below, provide answers given.
• Transportation cost: ($6M)
• Fixed overhead costs: ($10M) Q: We are limited by our outgoing capacity. Do we have market demand
• Profit: $1M per month for 5M lbs. of rubber?
$12M per year A: Yes, we have demand for a lot more.

Q: Can we increase the number of trains incoming or outgoing? We have


Expected key insight
additional production capacity.
The candidate is expected to state that the payback period is one year A: Not right now, but a good thing to explore in the future.
($12M investment, $12M profit in year 1). However the profit margin is
very thin at 1%
Expected key insights
A great candidate will note that small fluctuations in prices and cost and
The candidate should identify non-financial benefits:
incorrect assumptions can make the project unprofitable which is a
significant risk and should prompt further analysis into input price and • Increasing employment in the area ($8M per month in labour costs
market price analyses, hedging opportunities. indicates a labour intensive process)
• Increasing economic development in the area

[see following page for risks]

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#29 – New Rubber Plant Investment (VI of VII)

Non-Financial Considerations: Risks and Mitigation Recommendation


• Low margin, exposure to price fluctuations of resin and rubber • Recommendation: go ahead with investment in the plant; it is
• Mitigation: forward contract purchases of resin profitable
• Forward contract sale of rubber
• Rationale/Analytical Support: With production at 5M lbs. of rubber,
• Labour risks
we make a profit of $12M per year. Production is limited by
• Introduce automation
transportation, an area that can be looked at and addressed. This
• Facilitate migration of labour from other areas should further increase our profits in the future.
• Terrorism risk
• Involve community leaders in the process • Risks and considerations: We have highlighted a lot of the risks
(candidate can summarize their brainstorming), key is that the
• Look at getting government or private security for the plant
government takes steps to mitigate the risks, the government can take
• Supply chain risk - sole dependency on trains
some steps based on our analysis of the mitigation. Some of the steps
• Maintain enough safety stock of resins and rubber could mean a long-term investment.
• Ensure the rail tracks are protected sufficiently in sensitive areas • E.g., terrorism risk, supply chain risk, single supplier
• Crucial to diversify into other modes of transportation, invest in
building roads and if applicable pursue waterways • Next steps: Assess how plant can be staffed, whether transportation
• Single supplier bottleneck can be alleviated, the level of terrorism threat and steps to
• Diversify supplier base mitigate.
• E.g., should explore finding security for the plant, diversify
transportation modes, diversify supplier base

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#29 – New Rubber Plant Investment (VII of VII)

Exhibit – Train Information

Outgoing Incoming

# of trains available per day 2 6

Bogies/train 8 10

Containers/bogie 25 25

Lb/container 500 640

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