Chapter 2: Network Design in Supply Chain

1. Introduction to Network Design

¨ Decisions, Roles, Influenced Factors
¨ The Offshoring Decision: Global Supply Chain
¨ Risk Management
2. Framework for Making Network Design Decisions.
3. Supply Chain Design Evaluation.

Reference: Chapter 5 and 6 - Sunil Chopra, Peter Meindl – Supply chain

management: Strategy, Planning and Operation, 6th ed, Pearson.
1. Introduction to Network Design:
Decisions
Assignment of facility role
Supply chain network design

Location of manufacturing,
storage, or transportation
decisions

related facilities

Allocation of capacity and

markets to each facility
 Roles in SC Network Design

¨ Facility role
¨ What role, what processes?
¨ Facility location
¨ Where should facilities be located?
¨ Capacity allocation
¨ How much capacity at each facility?
¨ Market and supply allocation
¨ What markets? Which supply sources?
 Influence Factors
¨ Strategic factors: low-cost, response time, raw materials, etc.
¨ Technological factors: bottling plants (coca-cola), IC
packaging (Intel), labor intensive (Nike, Adidas),…
¨ Macroeconomic factors: Tariffs and tax, Exchange-rate and
demand risk, Freight and fuel costs
¨ Political condition
¨ Infrastructure factors, logistics, and facility costs
¨ Customer response time and local presence
¨ Competitive factors
¨ Positive externalities between firms
¨ Locating to split the market
 Competitive Factors
¨ Positive externalities between firms: collocation benefits all

¨ Locating to split the market: locate to capture largest

market share
1– b – a 1+ b – a
d1 = a + and d 2 =
2 2
 Example
¨ Both firms maximize their market share if they move closer to each other and
locate at a = b = 1/2.
¨ Observe that when both firms locate in the middle of the line segment (a = b =
1/2), the average distance that customers have to travel is 1/4. If one firm
locates at 1/4 and the other at 3/4, the average distance customers have to
travel drops to 1/8 (customers between 0 and 1/2 come to Firm 1, located at
1/4, whereas customers between 1/2 and 1 come to Firm 2, located at 3/4). This
set of locations, however, is not an equilibrium because it gives both firms an
incentive to try to increase market share by moving to the middle (closer to 1/2).
The result of competition is for both firms to locate close together, even though
doing so increases the average distance to the customer.
¨ If the firms compete on price and the customer incurs the transportation cost, it
may be optimal for the two firms to locate as far apart as possible, with Firm 1
locating at 0 and Firm 2 locating at 1. Locating far from each other minimizes
price competition and helps the firms split the market and maximize profits.
1.2. The Offshoring Decision: Global SC
¨ Comparative advantage in global supply chains
¨ Quantify the benefits of offshore production along with the reasons
¨ Two reasons offshoring fails
1. Focusing exclusively on unit costs (COGS) rather than total cost
2. Ignoring critical risk factors
¨ A global supply chain with offshoring increases the length and duration of
information, product, and cash flows
¨ The complexity and cost of managing the supply chain can be significantly
higher than anticipated
¨ Quantify factors and track them over time.
¨ Big challenges with offshoring is increased risk and its potential impact on
cost
 The Offshoring Decision (cont.)
Performance Dimension Activity Impacting Performance Impact of Offshoring

Order communication Order placement More difficult communication

Supply chain visibility Scheduling and expediting Poorer visibility

Raw material costs Sourcing of raw material Could go either way depending on
raw material sourcing
Unit cost Production, quality (production and Labor/fixed costs decrease; quality
transportation) may suffer
Freight costs Transportation modes and quantity Higher freight costs

Taxes and tariffs Border crossing Could go either way

Supply lead time Order communication, supplier Lead time increase results in poorer
production scheduling, production time, forecasts and higher inventories
customs, transportation, receiving
 The Offshoring Decision (Cont.)
Performance Dimension Activity Impacting Performance Impact of Offshoring

On-time delivery/lead time Production, quality, customs, Poorer on-time delivery and
uncertainty transportation, receiving increased uncertainty resulting in
higher inventory and lower product
availability
Minimum order quantity Production, transportation Larger minimum quantities increase
inventory
Product returns Quality Increased returns likely

Inventories Lead times, inventory in transit and Increase

production
Working capital Inventories and financial reconciliation Increase

Hidden costs Order communication, invoicing errors, Higher hidden costs

managing exchange rate risk
Stock-outs Ordering, production, transportation with Increase
poorer visibility
 The Offshoring Decision: Total Cost
¨ Key elements of total cost
1. Supplier price
2. Terms: shipment terms, financial terms (payment terms,
penalty,…)
3. Delivery costs
4. Inventory and warehousing
5. Cost of quality
6. Customer duties, value added-taxes, local tax incentives
7. Cost of risk, procurement staff, broker fees, infrastructure, and
tooling and mold costs
8. Exchange rate trends and their impact on cost
 2. Risks Management

¨ Risks include supply disruption, supply delays,

demand fluctuations, price fluctuations, and
exchange-rate fluctuations
¨ Be aware of the relevant risk factors and build in
suitable mitigation strategies

Identify what? Wake up late Reasons: why?

Longer traveling time Actions: how?
 Impact of Risks
Risk Factors Percentage of Supply Chains Impacted
Natural disasters 35
Shortage of skilled resources 24
Geopolitical uncertainty 20
Terrorist infiltration of cargo 13
Volatility of fuel prices 37
Currency fluctuation 29
Port operations/custom delays 23
Customer/consumer preference shifts 23
Performance of supply chain partners 38
Logistics capacity/complexity 33
Forecasting/planning accuracy 30
Supplier planning/communication issues 27
Inflexible supply chain technology 21
 Risk Drivers
Category Risk Drivers
Disruptions Natural disaster, war, terrorism, disease
Labor disputes
Supplier bankruptcy 30%, 60%, 10%
Delays High capacity utilization at supply source
Inflexibility of supply source
Poor quality or yield at supply source
Systems risk Information infrastructure breakdown
System integration or extent of systems being
networked
Forecast risk Inaccurate forecasts due to long lead times,
seasonality, product variety, short life cycles,
small customer base
Information distortion
 Risk Drivers
Category Risk Drivers
Intellectual property risk Vertical integration of supply chain
Global outsourcing and markets
Procurement risk Exchange-rate risk
Price of inputs
Fraction purchased from a single source
Industry-wide capacity utilization
Receivables risk Number of customers
Financial strength of customers
Inventory risk Rate of product obsolescence
Inventory holding cost
Product value
Demand and supply uncertainty
Capacity risk Cost of capacity
Capacity flexibility
 Risk Mitigation Strategies
¨ Good network design can play a significant role in
mitigating supply chain risk
¨ Every mitigation strategy comes at a price and may
increase other risks
¨ Global supply chains should generally use a
combination of rigorously evaluated mitigation
strategies along with financial strategies to hedge
uncovered risks
 Risk Mitigation Strategies
Risk Mitigation Strategy Tailored Strategies
Increase capacity Focus on low-cost, decentralized capacity for
predictable demand. Build centralized capacity
for unpredictable demand. Increase
decentralization as cost of capacity drops.
Get redundant suppliers More redundant supply for high-volume products,
less redundancy for low-volume products.
Centralize redundancy for low-volume products in
a few flexible suppliers.
Increase responsiveness Favor cost over responsiveness for commodity
products. Favor responsiveness over cost for
short–life cycle products.
 Risk Mitigation Strategies
Risk Mitigation Strategy Tailored Strategies
Increase inventory Decentralize inventory of predictable, lower value
products. Centralize inventory of less predictable,
higher value products.
Increase flexibility Favor cost over flexibility for predictable, high-
volume products. Favor flexibility for
unpredictable, low-volume products. Centralize
flexibility in a few locations if it is expensive.
Pool or aggregate demand Increase aggregation as unpredictability grows.
Increase source capability Prefer capability over cost for high-value, high-
risk products. Favor cost over capability for low-
value commodity products. Centralize high
capability in flexible source if possible.
 Flexibility
¨ Three broad categories of flexibility
¨ New product flexibility: ability to introduce new products into the market at a
rapid rate
¨ Mix flexibility: ability to produce a variety of products within a short period of
time
¨ Volume flexibility: ability to operate profitably at different levels of output
¨ As flexibility is increased, the marginal benefit decreases
¨ With demand uncertainty, longer chains pool available capacity à bullwhip
¨ Long chains may have higher fixed cost than multiple smaller chains
¨ Coordination more difficult across with a single long chain
¨ Flexibility and chaining are effective when dealing with demand fluctuation but
less effective when dealing with supply disruption
2. Framework for SC Network Design
 Phase I: Define a Supply Chain
Strategy/Design

¨ Clear definition of the firm’s competitive strategy

¨ Forecast the likely evolution of global competition
¨ Identify constraints on available capital
¨ Determine growth strategy
Phase II: Define the Regional Facility
Configuration
¨ Forecast of the demand by country or region
¨ Economies of scale or scope
¨ Identify demand risk, exchange-rate risk, political risk,
tariffs, requirements for local production, tax incentives,
and export or import restrictions
¨ Identify competitors
Case: McDonald’s in Moscow
 McDonald’s in Moscow (cont.)
¨ In 1990 the world’s largest McDonald’s hamburger restaurant with 700 seats opened just
off Pushkin Square in Moscow. This is operated jointly by McDonald’s of Canada and
local Russian companies. McDonald’s has opened branches through out the world, but
this was one of the most difficult, with negotiations starting twenty years previously with
the Soviet Union. The inside of the restaurant is exactly as you would expect, with the
standard menu, color scheme and decor, staff training, levels of cleanliness and cooking.

¨ Everything follows the standard McDonald's pattern, but this was only achieved after
considerable effort. As well as the initial political difficulties, there were major practical
problems. Beef in Moscow was not readily available and the quality was variable.
McDonald’s had to import breeding cattle and start a beef farm to supply the restaurant.
Potatoes were plentiful, but they were the wrong type to make McDonald's fries. Seed
potatoes were imported and grown. Russian cheese was not suitable for cheeseburgers,
so a dairy plant was opened to make processed cheese.
 McDonald’s in Moscow (cont.)
¨ When the restaurant opened it was a huge success, with 27,000 people applying for a
single job, 50,000 people served a day and queues half a mile long outside the
restaurant. Now there are 58 outlets in Russia and a workforce of 450. But the path
instill not easy. Russia suffered an economic collapse in 1998, and this has affected
wages, sales and profits. The initial set up cost was so high that the restaurant doesn't
expect to make a profit in the foreseeable future.

¨ Summarize the case

¨ The case can tell you what ?
 Solution
¨ Summarize the case:
¨ Open 1990, negotiate 1970 à SU à political
system
¨ Raw materials: beef, potato, cheese à invest more
¨ Labor, huge demand à 58 sites, 450 employees
¨ Economic crisis à limited profit

¨ Lessons learnt:
¨ Problems: political system, raw materials, risk of
economic conditions
¨ study/ collect all factors carefully before
investment --> invest more à figure some
solutions à evaluate !
 Capacitated Plant Location Model
n = number of potential plant locations/capacity
m = number of markets or demand points yi = 1 if plant i is open, 0 otherwise
D j = annual demand from market j xij = quantity shipped from plant i to
market j
Ki = potential capacity of plant i
f i = annualized fixed cost of keeping plant i open
cij = cost of producing and shipping one unit from plant i to market j (cost includes production,
inventory, transportation, and tariffs)

n n m
Min∑ f i yi + ∑
NP-hard
∑ cij xij
subject to i=1 i=1 j=1

∑x ij
= D j for j = 1,...,m
i=1
m

∑ x =< K y ij i i
for i = 1,...,n
j=1

yi ∈ {0,1} for i = 1,...,n, x ij ≥ 0

 Capacitated Plant Location Model

Low – capacity
plans? How many Minimize the total
SunOil
units are cost
Manufacturer
High – capacity shipped?
plans?
Capacitated Plant Location Model
Capacitated Plant Location Model
 Capacitated Plant Location Model

Cell Cell Formula Equation Copied to

B28 =B9 - SUM(B14:B18) 5.1 B28:F28
B22 =G14*H4 + H14*J4 - SUM(B14:F14) 5.2 B22:B26
B31 =SUMPRODUCT(B14:F18,B4:F8) + Objective —
SUMPRODUCT(G14:G18,G4:G8) + Function
SUMPRODUCT(H14:H18,I4:I8)

FIGURE 5-5 Spreadsheet Area for Constraints and Objective Function for SunOil

Europe for strategic reasons, we can modify the model by adding a constraint that requires one
plant to be located in Europe. At this stage, the costs associated with a variety of options incor-
porating different combinations of strategic concerns such as local presence should be evaluated.
A suitable regional configuration is then selected.
Next we consider a model that can be useful during Phase III.

Phase III: Gravity Location Models

 Phase III: Select a Set of Desirable
Potential Sites
1. Infinite set approach –finds the best location in
principle and then looks for a site nearby.
¨ Gravity Location Model
¨ Variances: Heuristic procedure, Centre of Gravity
2. Feasible set approach –compares sites that are
currently available and chooses the best
¨ Costing model: load-distance
¨ Scoring model
¨ Single median Problem
¨ Capacitated P-median Problem
¨ Set Covering Problem
 1. Gravity Location Model
xn, yn: coordinate location of either a market or supply
source n
Fn: cost of shipping one unit for one km between the
facility and either market or supply source n
Dn: quantity to be shipped between facility and market
or supply source n

(x, y) is the location selected for the facility, the distance

dn between the facility at location (x, y) and the supply
source or market n is given by Total transportation cost
2 2
dn = (x – x ) + ( y – y )
n n
 Gravity Location Model
Transportation Cost Quantity in Tons Coordinates
Sources/Markets $/Ton Mile (Fn) (Dn) xn yn
Supply sources
Buffalo 0.90 500 700 1,200
Memphis 0.95 300 250 600
St. Louis 0.85 700 225 825
Markets
Atlanta 1.50 225 600 500
Boston 1.50 150 1,050 1,200
Jacksonville 1.50 250 800 300
Philadelphia 1.50 175 925 975
New York 1.50 300 1,000 1,080

k
Total transportation cost TC = ∑ d n Dn Fn
n=1
Gravity Location Model
Gravity Location Model
Gravity Location Model
 Gravity Location Model

Cell Cell Formula Equation Copied to

G5 =SQRT(($B$16-E5)^2+($B$17-F5)^2) 5.1 G5:G12
B19 =SUMPRODUCT(G5:G12,D5:D12,C5: 5.2 —
C12)

FIGURE 5-8 Using Solver to Optimize Location for Steel Appliances

enter the problem data as shown in cells B5:F12. Next, we set the decision variables (x, y) corre-
ponding to the location of the new facility in cells B16 and B17, respectively. In cells G5:G12,
we then calculate the distance dn from the facility location (x, y) to each source or market using
Equation 5.4. The total TC is then calculated in cell B19 using Equation 5.5.
The next step is to use the Data ƒ Solver to invoke Solver. Within the Solver Parameters
dialog box (see Figure 5-8), the following information is entered to represent the problem:
 1.1. Heuristic Procedure
1. For each supply source or market n, evaluate dn
2. Obtain a new location (x’, y’) for the facility, where

k k
Dn Fn xn Dn Fn yn
∑ d ∑ d
n=1 n=1
x! = k
n
and y! = k
n

Dn Fn Dn Fn
∑ d ∑ d
n=1 n n=1 n

3. If the new location (x’ , y’ ) is almost the same as

(x, y) stop. Otherwise, set (x, y) = (x’ , y’ ) and go to step 1
 1.2. Center of Gravity Technique
¨ A simple way of finding the best compromise location calculates the
centre of gravity of supply and demand.
¨ The co-ordinates of the centre of gravity are

(X0, Y0 ) are the co-ordinates of the centre of gravity which gives the facility
location
(Xi, Yi) are co-ordinates of each customer and supplier, i
Wi is expected demand at customer i, or expected supply from supplier i
Grid-Map Coordinates
 Example

¨ Van Hendrick Industries is building a central logistics centre that

will collect components from three suppliers, and send finished
goods to six regional warehouses. The locations of these and the
amounts supplied or demanded are shown in the following table.
Where should they start looking for a site?
 Example (Cont.)
Location X,Y co-ordinates Supply or demand
Supplier 1 91,8.0 40
Supplier 2 93,35 60
Supplier 3 3.0,86 80
Warehouse 1 83,26 24
Warehouse 2 89,54 16
Warehouse 3 63,87 22
Warehouse 4 11,85 38
Warehouse 5 9.0,16 52
Warehouse 6 44,48 28
Solution
 Solution
¨ The centre of gravity is
X0 = 45.5
Yo = 50.3,
you can check by calculating:
Solution
 Weaknesses of the COG Method
Example:
¨ Suppose you work in Alberta, Canada and want to deliver 20 tons of
materials a day to Edmonton and 40 tons a day to Calgary. These two cities
are connected by a straight road 300 km long. If the costs of getting deliveries
from suppliers are the same regardless of location, where would you build a
warehouse?
¨ The centre of gravity is
(40 × 300 + 20 × 0)/60 = 200 km from Edmonton.

¨ A warehouse at the centre of gravity would have to deliver 20 tons to

Edmonton for 200kms with 200x20 unit cost and to 40 tons to Calgary for
100kms with 100x40 unit cost àThe total is 8000 unit cost
¨ But if you built the warehouse in Calgary, you would only have to move 20
tons to Edmonton with total cost is 6000 units cost.
 2. Feasible Set Approach
¨ Feasible set approaches identify available sites, compare them,
and find the best à total cost of working à Total variable cost
= Operating cost + Inward transport cost + Outward transport
cost of a facility
¨ Locations near to customers have higher costs of inward
transport, and those near to suppliers have higher costs of
outward transport, so the best location is likely to be somewhere
in between.
¨ Models:
¨ Load-Distance Model
¨ Scoring Model
¨ Single Median Problem
¨ Capacitated P-Median Problem
¨ Set Covering Problem
2.1. Costing Model: Load-Distance
¨ Load-distance technique:
¨ Compute (Load x Distance) for each site
¨ Choose site with lowest (Load x Distance)
¨ Distance can be actual or straight-line
n
LD = å
i=1
ld i i

where,
LD = load-distance value
l = load expressed as a weight, number of trips or units
i
being shipped from proposed site and location i
di = distance between proposed site and location i
Euclidean Distance: { ( X1 – X2)2 + ( Y1 - Y2 )2 }1 / 2
Where: Rectilinear Distance: | X1 - X2 | + | Y1 – Y2 |
(x,y) = coordinates of proposed site
(xi , yi) = coordinates of existing facility
 Example
Potential Sites Suppliers
Site X Y A B C D
1 360 180 X 200 100 250 500
2 420 450 Y 200 500 600 300
3 250 400 Wt 75 105 135 60

Compute distance from each site to each supplier

Site 1
dA = SQRT((xA - x1)2 + (yA - y1)2)= SQRT((200-360)2 + (200-180)2) = 161.2
dB = 412.3

dC = 434.2 dD = 184.4
 Example (Cont.)
Site 2 dA = 333 dB = 323.9 dC = 226.7 dD = 170
Site 3 dA = 206.2 dB = 180.4 dC = 200 dD = 269.3

Compute load-distance
n
LD = ål d i i
i=1
Site 1 = (75)(161.2) + (105)(412.3) + (135)(434.2) + (60)(434.4) = 125,063
Site 2 = (75)(333) + (105)(323.9) + (135)(226.7) + (60)(170) = 99,791
Site 3 = (75)(206.2) + (105)(180.3) + (135)(200) + (60)(269.3) = 77,555*

* Choose site 3
 Practice: Rectilinear distance
¨ Bannerman Industries want to build a depot to serve seven
major customers located at coordinates (100, 110), (120,130),
(220, 150), (180, 210), (140, 170), (130, 180) and (170, 80).
¨ Average weekly demands, in vehicle loads, are 20, 5, 9, 12, 24,
11 and 8 respectively.
¨ Three alternative locations are available at (120, 90), (160, 170)
and (180,130).
¨ Which is the best site if operating costs and inward transport
costs are the same for each location?
 Solution

¨ As operating and transport inward costs are the same for all three
locations, we only need a way of comparing the costs of local
deliveries from each. For simplicity we will use the rectilinear
distance to customers. Then the distance from A to customer 1 is:

Difference in X + Difference in Y =|120-100|+|90-110| = 40

Solution (Cont.)

Comparison of sites
 2.2. Scoring Model
Step 1
— decide the relevant factors in a decision

Step 2
— give each factor a maximum possible score that shows its importance (usually 0-
100) and weight for each factor (0.00-1.00)

Step 3
— consider each location in turn and give an actual score for each factor, up to this
maximum

Step 4
— add the total weighted score (= Site Score x Factor Weight) for each location and
find the highest

Step 5
— discuss the result and make a final decision.
 Example
¨ Samson Ltd. is considering three alternative sites for its new
facility.

¨ After evaluating the firm’s needs, the Managers have narrowed

the list of important Selection Criteria down into three major
factors.
- Availability of skilled labor
- Availability of Raw materials, and
- Proximity to the firm’s markets.
 Example (Cont.)
¨ Based on these criteria, the three Alternative sites were scored between 0 and
100 points:
 Example (Cont.)

¨ Weights of each factor have been assigned as follows:

 Example (Cont.)
— Now we will multiply each score by its corresponding factor weight
— Weighted scores are calculated as: (Site Score) x (Factor Weight)
FACTOR Factor Site A Site B Site C
Weight
(Total=1)
Score Weighted Score Weighted Score Weighted
Score Score Score

Skilled labor 0.5 70 35 70 35 50 25

Raw materials 0.3 60 18 40 12 90 27

Market Prox. 0.2 70 14 95 19 60 13

Total Weighted Score 67 66 64

— From these results, the largest total weight is for Site A. It appears to be the best
location.
 2.3. Single Median Problem
¨ Finds the location of one facility on a network that minimize total cost is
called the single median problem

¨ The easiest way to find the single median

- Starts with a matrix of the shortest distances between current locations.

- To find the shortest average distance, we have to combine these

distances with the loads carried.

- Multiply the distances by the demands at each location, to get a matrix of

the weight-distances.

- Add these for each location, and find the lowest overall value.
Single Median Problem (Cont.)
¨ P-median – 1 facility planar solution, weighted demand

Minimize the average distance to the facility

 Example

¨ Ian Bruce delivers goods to eight towns, with locations and

demands as shown in next slide. He wants to find the location for
a logistics centre that minimizes the average delivery time to
these towns. Where should he start looking?
 Example (Cont.)
20
10 8 10
15 15 9 DI
AL GO
BE
7 14
8
22 EN
HT
20 5
Distance between CP 6 15
AL and CP

25 6 FR
Facility CP
10
Demand at CP

Map of Ian Bruce’s problem

 Example (Cont.)
20
10 8 10
15 15 9 DI
AL GO
BE
7 14
8
22 EN
HT
20 5
CP 6 15
Ways from AL to EN 25 6 FR
RED= 15+9+7= 31 (smallest)
GREEN= 15+8+6+6= 35
10
YELLOW= 22+6+6= 34

Map of Ian Bruce’s problem

 Solution

Weight-distance of a centre at AL = (10 × 0) + (15 × 15) + (25 × 22) +

(20 × 24) + (20 × 31) + (10 × 28) + (10 × 32) + (15 × 36) = 3015.

Town EN has the lowest total cost, and is the single median
Program on line

http://www.hyuan.com/java/Spots.html
 2.4. Capacitated P-Median Problem
¨ The Problem: Given is a set of 𝑛 objects denoted as 𝐼 = {1,…, 𝑛}. Each object
𝑖 ∈ 𝐼 corresponds to an 𝑚-dimensional feature vector 𝑣𝑖 ∈ R𝑚 and is associated
with a weight 𝑞𝑖. Based on these feature vectors, a distance 𝑑(𝑣𝑖, 𝑣𝑗 ) can be
computed for each pair of objects 𝑖, 𝑗 ∈ 𝐼 (e.g., Euclidean distance). Note that the
distances do not constitute an input to the problem as they must be calculated
based on the feature vectors. The goal is to partition the objects into a prescribed
number of clusters by selecting 𝑝 objects as cluster centers (medians) and by
assigning the objects to these medians such that the total distance between the
medians and their assigned objects is minimized. In doing so, the total weight in
each cluster must not exceed a given capacity limit 𝑄.
¨ Applications:
¨ facility location
¨ the consolidation of customer orders into truckload shipments (LTL)
¨ E-delivery
The Capacitated P-Median Model
NP-
hard
 Example
¨ The coffeehouse chain has 𝑛 = 15 stores that must be grouped into 𝑝
= 4 clusters. The coordinates (feature vectors) and the number of
employees (weights) of the stores are given in following table. The
total number of employees within a cluster is limited to 𝑄 = 8. The
pairwise distances between the stores are calculated as Euclidean
distances.
 Optimal Solution
¨ An optimal solution for the
illustrative example is depicted;
the objective function value
(OFV) of the depicted solution is
provided in the bottom-right
corner. The size of a point in the
figure represents the number of
employees of the corresponding
store. Stores that are selected
as medians are indicated with a
red circle, and the assignments
of the stores to the medians are
indicated with green lines.
 2.5. Set Covering Problem
¨ Locate facilities that provide some service required by customers

¨ If customers are positioned within a certain predefined critical distance d

from any of the facilities, then they are considered served or ”cover”

¨ Two types:
1. Look for the single location that gives the best service to all towns
2. Find the number of facilities needed to achieved a level of service and
their best locations.
¨ Two objectives:
cover all customers in the network with the smallest number of facilities, or
cover as many customer as possible with the given number of facilities
 Example

¨ The following figure shows part of a road network, with the

travel time (in minutes) shown on each link. Where would
you locate a depot to give best customer service? How many
depots would be needed to give a maximum journey of 11
minutes?
 Example (Cont.)
4
E
15 G 3
6
B 10
10
14 J
5 F
A C 3
6
15 I
10
Travel time (min.) D
between A and D 15
10 H
Facility D

Road network showing travel time in minutes between location

 Example (Cont.)
4
E
15 G 3
6
B 10
10
14 J
5 F
A C 3
6
15 I
10
Travel time (min.) D
between A and D 15
10 H
Facility D

Road network showing travel time in minutes between location

Solution
Phase IV: Network Optimization Models

Demand City
Monthly
Production and Transportation Cost
Capacity Monthly
per Thousand Units (Thousand $) Fixed Cost
(1000 Units)
Supply City Atlanta Boston Chicago Denver Omaha Portland K (1000 $) f
Baltimore 1,675 400 985 1,630 1,160 2,800 18 7,650
Cheyenne 1,460 1,940 970 100 495 1,200 24 3,500
Salt Lake 1,925 2,400 1,450 500 950 800 27 5,000
City
Memphis 380 1,355 543 1,045 665 2,321 22 4,100
Wichita 922 1,646 700 508 311 1,797 31 2,200
Monthly 10 8 14 6 7 11
demand
(1000 units)
Dj
 Network Optimization Models
¨ Allocating demand to production facilities
n = number of factory locations
m = number of markets or demand points xij = quantity shipped from
D j = annual demand from market j factory i to market j

Ki = capacity of factory i
cij = cost of producing and shipping one unit from factory i to market j
n m
Min∑ ∑ cij xij
i=1 j=1

subject to n
= D j for j = 1,...,m
∑x ij
i=1
m

∑x ij
< K i for i = 1,...,n
=
j=1
 Network Optimization Models

¨ Optimal demand allocation

Atlanta Boston Chicago Denver Omaha Portland

TelecomOne Baltimore 0 8 2

Memphis 10 0 12

Wichita 0 0 0

HighOptic Salt Lake 0 0 11

Cheyenne 6 7 0
 Practice
TelecomOne and HighOptic have decided to merge the two
companies into a single entity called TelecomOptic. TelecomOne
will have 5 factories to serve 6 markets. The manager wonders if
all 5 factories are needed. Determine how many factories they
should open and where? Assign the demand from 6 markets to
the factories (if any) so that TelecomOptic can minimize their
total cost.
Single Sourced Model

Atlanta Boston Chicago Denver Omaha Portland

Baltimore 0 0 0 0 0 0
Cheyenne 0 0 0 6 7 11

Salt Lake 0 0 0 0 0 0

Memphis 10 8 14 0 0 0

Wichita 0 0 0 0 0 0
 Multi – echelon network design

l n
m
t
 Model inputs
m =
number of markets or demand points
n =
number of potential factory locations
l =
number of suppliers
t =
number of potential warehouse locations
Dj =
annual demand from customer j
Ki =
potential capacity of factory at site i
Sh =
supply capacity at supplier h
We =
potential warehouse capacity at site e
Fi =
fixed cost of locating a plant at site i
fe =
fixed cost of locating a warehouse at site e
chi =
cost of shipping one unit from supply source h to factory i
cie =
cost of producing and shipping one unit from factory i to
warehouse e
cej = cost of shipping one unit from warehouse e to customer j
 Model
¨ Goal is to identify plant and warehouse locations and
quantities shipped that minimize the total fixed and variable
costs
Yi = 1 if factory is located at site i, 0 otherwise
Ye = 1 if warehouse is located at site e, 0 otherwise
xej = quantity shipped from warehouse e to market j
xie = quantity shipped from factory at site i to warehouse e
xhi = quantity shipped from supplier h to factory at site i

$ & ( $ $ & & *

𝑀𝑖𝑛 - 𝐹! 𝑦! + - 𝑓% 𝑦% + - - 𝑐'! 𝑥'! + - - 𝑐!% 𝑥!% + - - 𝑐%) 𝑥%)

!"# %"# '"# !"# !"# %"# %"# )"#
 Constraints
subject to

n m

∑x hi
≤ Sh for h = 1,...,l ∑x ej
≤ We ye for e = 1,...,t
i=1 j=1
l t t

∑x – ∑x
hi ie
≥ 0 for i = 1,...,n ∑x ej
= D j for j = 1,...,m
h=1 e=1 e=1
t

∑x ie
≤ Ki yi for i = 1,...,n yi , ye ∈ {0,1}, xej , xie , xhi ≥ 0
e=1
n m

∑x – ∑x
ie ej
≥ 0 for e = 1,...,t
i=1 j=1
3. Supply Chain Design
Evaluation
 Discounted Cash Flow Analysis

¨ Supply chain decisions should be evaluated as a

sequence of cash flows over time
¨ Discounted cash flow (DCF) analysis evaluates the
present value of any stream of future cash flows and
allows managers to compare different cash flow
streams in terms of their financial value
¨ Based on the time value of money – a dollar today is
worth more than a dollar tomorrow
 Discounted Cash Flow Analysis
1
discount factor =
1+ k
T ! t
1 $
NPV = C0 + ∑# & Ct
t=1 " 1+ k %
where
C0, C1,…,CT is stream of cash flows over T periods
NPV = net present value of this stream
k = rate of return, interest rate, inflation rate

• Compare NPV of different supply chain design options

• The option with the highest NPV will provide the greatest financial
return
 Trips Logistics Example

¨ Demand = 100,000 units/year à 100,000 sq.ft.

¨ 1,000 sq. ft. of space for every 1,000 units of demand
¨ Revenue = $1.22 per unit of demand
¨ Sign a three-year lease or obtain warehousing space
on the spot market?
¨ Three-year lease cost = $1 per sq. ft.
¨ Spot market cost = $1.20 per sq. ft.
¨ k = 0.1
 Trips Logistics Example

Expected annual profit if warehouse = 100,000 x $1.22

space is obtained from the spot – 100,000 x $1.20
market = $2,000

C1 C2
NPV(No lease) = C0 + +
1+ k (1+ k)2
2,000 2,000
= 2,000 + + 2
= $5,471
1.1 1.1
 Trips Logistics Example

Expected annual profit with three = 100,000 x $1.22

years lease – 100,000 x $1.00
= $22,000

C1 C2
NPV(Lease) = C0 + +
1+ k (1+ k)2
22,000 22,000
= 22,000 + + 2
= $60,182
1.1 1.1

• NPV of signing lease is $60,182 – $5,471 = $54,711 higher than

spot market
 Using Decision Trees

• Many different decisions

– Should the firm sign a long-term contract for
warehousing space or get space from the spot market
as needed?
– What should the firm’s mix of long-term and spot
 Using Decision Trees

¨ During network design, managers need a

methodology that allows them to estimate the
uncertainty in demand and price forecast and
incorporate this in the decision-making process
¨ Most important for network design decisions
because they are hard to change in the short
term
 Basics of Decision Tree Analysis
¨ A decision tree is a graphic device used to evaluate
decisions under uncertainty
¨ Identify the number and duration of time periods
that will be considered
¨ Identify factors that will affect the value of the
decision and are likely to fluctuate over the time
periods
¨ Evaluate decision using a decision tree
 Decision Tree Methodology
1. Identify the duration of each period (month, quarter, etc.) and
the number of periods T over which the decision is to be
evaluated
2. Identify factors whose fluctuation will be considered
3. Identify representations of uncertainty for each factor
4. Identify the periodic discount rate k for each period
5. Represent the decision tree with defined states in each
period as well as the transition probabilities between states in
successive periods
6. Starting at period T, work back to Period 0, identifying the
optimal decision and the expected cash flows at each step
 Decision Tree – Trips Logistics
• Three warehouse lease options
1. Get all warehousing space from the spot market
as needed
2. Sign a three-year lease for a fixed amount of
warehouse space and get additional
requirements from the spot market
3. Sign a flexible lease with a minimum charge that
allows variable usage of warehouse space up to
a limit with additional requirement from the spot
market
 Decision Tree – Trips Logistics
• 1000 sq. ft. of warehouse space needed for 1000 units of
demand à 100,000sq.ft.
• Current demand = 100,000 units per year
• Binomial uncertainty: Demand can go up by 20% with
p = 0.5 or down by 20% with 1 – p = 0.5
• Lease price = $1.00 per sq. ft. per year
• Current spot market price = $1.20 per sq. ft. per year
• Spot prices can go up by 10% with p = 0.5 or down by 10%
with 1 – p = 0.5
• Revenue = $1.22 per unit of demand
• k = 0.1
Decision
Tree
 Decision Tree – Trips Logistics:
Spot Market
• Analyze the option of not signing a lease and using the
spot market
• Start with Period 2 and calculate the profit at each node
For D = 144, p = $1.45, in Period 2:
C(D = 144, p = 1.45,2) = 144,000 x 1.45
= $208,800
P(D = 144, p = 1.45,2) = (144,000 x 1.22) – C(D = 144, p = 1.45, 2)
= 175,680 – 208,800 = –$33,120
 Decision Tree – Trips Logistics
Cost Profit
Revenue C(D =, p =, 2) P(D =, p =, 2)
D = 144, p = 1.45 144,000 × 1.22 144,000 × 1.45 –$33,120
D = 144, p = 1.19 144,000 × 1.22 144,000 × 1.19 $4,320
D = 144, p = 0.97 144,000 × 1.22 144,000 × 0.97 $36,000
D = 96, p = 1.45 96,000 × 1.22 96,000 × 1.45 –$22,080
D = 96, p = 1.19 96,000 × 1.22 96,000 × 1.19 $2,880
D = 96, p = 0.97 96,000 × 1.22 96,000 × 0.97 $24,000
D = 64, p = 1.45 64,000 × 1.22 64,000 × 1.45 –$14,720
D = 64, p = 1.19 64,000 × 1.22 64,000 × 1.19 $1,920
D = 64, p = 0.97 64,000 × 1.22 64,000 × 0.97 $16,000
 Decision Tree – Trips Logistics

¨ Expected profit at each node in Period 1 is the profit during

Period 1 plus the present value of the expected profit in Period 2
¨ Expected profit EP(D =, p =, 1) at a node is the expected profit
over all four nodes in Period 2 that may result from this node
¨ PVEP(D =, p =, 1) is the present value of this expected profit
and P(D =, p =, 1), and the total expected profit, is the sum of
the profit in Period 1 and the present value of the expected profit
in Period 2
 Decision Tree – Trips Logistics
¨ From node D = 120, p = $1.32 in Period 1, there are four possible
states in Period 2
¨ Evaluate the expected profit in Period 2 over all four states possible
from node D = 120, p = $1.32 in Period 1 to be
EP(D = 120, p = 1.32,1) = 0.25 x [P(D = 144, p = 1.45,2) +
P(D = 144, p = 1.19,2) +
P(D = 96, p = 1.45,2) +
P(D = 96, p = 1.19,2)
= 0.25 x [–33,120 + 4,320 – 22,080 + 2,880]
= –$12,000
 Decision Tree – Trips Logistics
¨ The present value of this expected value in Period 1 is
PVEP(D = 120, p = 1.32,1) = EP(D = 120, p = 1.32,1) / (1 + k)
= –$12,000 / (1.1)
= –$10,909
¨ The total expected profit P(D = 120, p = 1.32,1) at node D = 120, p
= 1.32 in Period 1 is the sum of the profit in Period 1 at this node,
plus the present value of future expected profits possible from this
node
P(D = 120, p = 1.32,1) = (120,000 x 1.22 – 120,000 x 1.32) +PVEP(D = 120, p =
1.32,1) = –$12,000 – $10,909 = –$22,909
 Period 1

P(D =, p =, 1)
= D x 1.22 – D x p +
Node EP(D =, p =, 1) EP(D =, p =, 1) / (1 + k)
D = 120, p = 1.32 100,000 sq. ft. –$22,909
D = 120, p = 1.08 100,000 sq. ft. $32,073
D = 80, p = 1.32 100,000 sq. ft. –$15,273
D = 80, p = 1.08 100,000 sq. ft. $21,382
 Decision Tree – Trips Logistics

¨ For Period 0, the total profit P(D = 100, p = 1.20,0) is the sum
of the profit in Period 0 and the present value of the expected
profit over the four nodes in Period 1
EP(D = 100, p = 1.20,0) = 0.25 x [P(D = 120, p = 1.32,1) +
P(D = 120, p = 1.08,1) +
P(D = 96, p = 1.32,1) +
P(D = 96, p = 1.08,1)]
= 0.25 x [–22,909 + 32,073 – 15,273 + 21,382]
= $3,818
 Decision Tree – Trips Logistics
PVEP(D = 100, p = 1.20,1) = EP(D = 100, p = 1.20,0) / (1 + k)
= $3,818 / (1.1) = $3,471

P(D = 100, p = 1.20,0) = 100,000 x 1.22 – 100,000 x 1.20 +

PVEP(D = 100, p = 1.20,0)
= $2,000 + $3,471 = $5,471

¨ Therefore, the expected NPV of not signing the lease and obtaining
all warehouse space from the spot market is given by NPV(Spot
Market) = $5,471
 Decision Tree – Trips Logistics

• Fixed Lease Option: 3-year contract

 Decision Tree – Trips Logistics:
flexible case with 3 year of 100k sq ft
Profit P(D =, p =, 2)
Warehouse Space = D x 1.22 – (100,000 x 1 +
Node Leased Space at Spot Price (S) S x p)
D = 144, p = 1.45 100,000 sq. ft. 44,000 sq. ft. $11,880
D = 144, p = 1.19 100,000 sq. ft. 44,000 sq. ft. $23,320
D = 144, p = 0.97 100,000 sq. ft. 44,000 sq. ft. $33,000
D = 96, p = 1.45 100,000 sq. ft. 0 sq. ft. $17,120
D = 96, p = 1.19 100,000 sq. ft. 0 sq. ft. $17,120
D = 96, p = 0.97 100,000 sq. ft. 0 sq. ft. $17,120
D = 64, p = 1.45 100,000 sq. ft. 0 sq. ft. –$21,920
D = 64, p = 1.19 100,000 sq. ft. 0 sq. ft. –$21,920
D = 64, p = 0.97 100,000 sq. ft. 0 sq. ft. –$21,920

P(D=144, p=1.45) = 144,000*1.22-(100,000*1 +44,000*1.45)

 Decision Tree – Trips Logistics
Warehouse P(D =, p =, 1)
Space = D x 1.22 – (100,000 x
at Spot Price 1 + S x p) + EP(D =, p
Node EP(D =, p =, 1) (S) = ,1)/(1 + k)
D = 120, p = 1.32 0.25 x [P(D = 144, p = 1.45,2) + 20,000 $35,782
P(D = 144, p = 1.19,2) + P(D =
96, p = 1.45,2) + P(D = 96, p =
1.19,2)] = 0.25 x (11,880 +
23,320 + 17,120 + 17,120) =
$17,360
D = 120, p = 1.08 0.25 x (23,320 + 33,000 + 20,000 $45,382
17,120 + 17,120) = $22,640
D = 80, p = 1.32 0.25 x (17,120 + 17,120 – 0 –$4,582
21,920 – 21,920) = –$2,400
D = 80, p = 1.08 0.25 x (17,120 + 17,120 – 0 –$4,582
21,920 – 21,920) = –$2,400

P(D =120, p =1.32, 1)= [120,000x 1.22 – (100,000 x 1 + 20,000 x 1.32) ]+ 17,360/1.1 =35,782
 Decision Tree – Trips Logistics

¨ Using the same approach for the lease option,

NPV(Lease) = $38,364 (3-year contract)
¨ Recall that when uncertainty was ignored, the
NPV for the lease option was $60,182
¨ However, the manager would probably still
prefer to sign the three-year lease for 100,000
sq. ft. because this option has the higher
expected profit
 Decision Tree – Trips Logistics
• Flexible Lease Option à supplier agreement
Profit P(D =, p =, 2)
Warehouse Space Warehouse Space = D x 1.22 – (W x 1 + S x
Node at $1 (W) at Spot Price (S) p)
D = 144, p = 1.45 100,000 sq. ft. 44,000 sq. ft. $11,880
D = 144, p = 1.19 100,000 sq. ft. 44,000 sq. ft. $23,320
D = 144, p = 0.97 100,000 sq. ft. 44,000 sq. ft. $33,000
D = 96, p = 1.45 96,000 sq. ft. 0 sq. ft. $21,120
D = 96, p = 1.19 96,000 sq. ft. 0 sq. ft. $21,120
D = 96, p = 0.97 96,000 sq. ft. 0 sq. ft. $21,120
D = 64, p = 1.45 64,000 sq. ft. 0 sq. ft. $14,080
D = 64, p = 1.19 64,000 sq. ft. 0 sq. ft. $14,080
D = 64, p = 0.97 64,000 sq. ft. 0 sq. ft. $14,080
 Decision Tree – Trips Logistics
Warehouse P(D =, p =, 1)
Warehouse Space = D x 1.22 – (W x 1 +
Space at $1 at Spot Price S x p) + EP(D =, p =
Node EP(D =, p =, 1) (W) (S) ,1)(1 + k)
D = 120, 0.25 x (11,880 + 23,320 + 100,000 20,000 $37,600
p = 1.32 21,120 + 21,120) =
$19,360
D = 120, 0.25 x (23,320 + 33,000 + 100,000 20,000 $47,200
p = 1.08 21,120 + 21,120) =
$24,640
D = 80, 0.25 x (21,120 + 21,120 + 80,000 0 $33,600
p = 1.32 14,080 + 14,080) =
$17,600
D = 80, 0.25 x (21,920 + 21,920 + 80,000 0 $33,600
p = 1.08 14,080 + 14,080) =
$17,600
 Decision Tree – Trips Logistics

Option Value
All warehouse space from the spot market $5,471
Lease 100,000 sq. ft. for three years (3-year) $38,364
Flexible lease to use between 60,000 and 100,000 sq. ft. $46,545
 Onshore or Offshore
¨ D-Solar demand in Europe = 100,000 panels per
year
¨ Each panel sells for €70
¨ Annual demand may increase by 20 percent with
probability 0.8 or decrease by 20 percent with
probability 0.2 à mean
¨ Build a plant in Europe (onshore) or China (offshore)
with a rated capacity of 120,000 panels
 D-Solar Decision

European Plant Chinese Plant

Fixed Cost Variable Cost Fixed Cost Variable Cost
(euro) (euro) (yuan) (yuan)
1 million/year 40/panel 8 million/year 340/panel
 D-Solar Decision
• European plant has greater volume flexibility
• Increase or decrease production between 60,000 to 150,000
panels
• Chinese plant has limited volume flexibility
• Can produce between 100,000 and 130,000 panels
• Chinese plant will have a variable cost for 100,000 panels and
will lose sales if demand increases above 130,000 panels
• Yuan, currently 9 yuan/euro, expected to rise 10%, probability of
0.7 or drop 10%, probability of 0.3 à mean
• Sourcing decision over the next three years
• Discount rate k = 0.1
 Average Estimation

¨ On average, demand is expected to increase by 12

percent = [(20 x 0.8) - (20 x 0.2) = 12]
¨ On average, the yuan is expected to strengthen by 4
percent [(10 x 0.7) - (10 x 0.3) = 4] each year.

Period 1 Period 2
Demand Exchange Rate Demand Exchange Rate
112,000 8.64 yuan/euro 125,440 8.2944 yuan/euro
 D-Solar Decision
Period 0 profits = 100,000 x 70 – 1,000,000 – 100,000 x 40 = €2,000,000
Period 1 profits = 112,000 x 70 – 1,000,000 – 112,000 x 40 = €2,360,000
Period 2 profits = 125,440 x 70 – 1,000,000 – 125,440 x 40 = €2,763,200
Expected profit from onshoring = 2,000,000 + 2,360,000/1.1 + 2,763,200/1.21
= €6,429,091 (Europe)

Period 0 profits = 100,000 x 70 – 8,000,000/9 – 100,000 x 340/9

= €2,333,333
Period 1 profits = 112,000 x 70 – 8,000,000/8.64 – 112,000 x 340/8.64
= €2,506,667
Period 2 profits = 125,440 x 70 – 8,000,000/8.2944 – 125,440 x 340/8.2944
= €2,674,319
Expected profit from off-shoring = 2,333,333 + 2,506,667/1.1 + 2,674,319/1.21
= €6,822,302 (China)
Chapter 6 • Designing Global Supply Chain Networks

Period 0 Period 1 Period 2

Decision Tree
D = 144
E = 10.89
0.8 × 0.3

Approach
D = 144
.7 E = 8.91
×0
0.8

D = 120 0.2 × 0.3 D = 96

E = 9.90 3 E = 10.89
0.
×
8
.3 0.
3
0. 0
8× 0.2
×
0. ×0 D = 96
8

.7
0.

D = 120 0.2 × 0.3 E = 8.91

8×0
.7 E = 8.10 0.7
0. .8 ×
0.8 × 0
D = 100 0.7 D = 144
E = 9.00 0.2 × E = 7.29
0.3 0.2
D = 80 ×0

3
.7

0.
E = 9.90

×
D = 96

8
0.
E = 7.29
0.

0.7
0.8 ×
2
×
0.

0.2 × 0.3
7

D = 80 D = 64
E = 8.10 E = 10.89
0.
0.2
× 0.
2
×
3
0.
7 D = 64
E = 8.91
0.2
×
0.7
D = 64
E = 7.29

FIGURE 6-3 Decision Tree for D-Solar

 D-Solar Decision: on-shore
• Period 2 evaluation – onshore
Revenue from the manufacture
and sale of 144,000 panels = 144,000 x 70
= €10,080,000

Fixed + variable cost

of onshore plant = 1,000,000 + 144,000 x 40
= €6,760,000

P(D = 144, E = 10.89,2) = 10,080,000 – 6,760,000

= €3,320,000
 D-Solar Decision
D Production Revenue
E Sales Cost Quantity (euro) Cost (euro) Profit (euro)
144 10.89 144,000 144,000 10,080,000 6,760,000 3,320,000

144 8.91 144,000 144,000 10,080,000 6,760,000 3,320,000

96 10.89 96,000 96,000 6,720,000 4,840,000 1,880,000

96 8.91 96,000 96,000 6,720,000 4,840,000 1,880,000

144 7.29 144,000 144,000 10,080,000 6,760,000 3,320,000

96 7.29 96,000 96,000 6,720,000 4,840,000 1,880,000

64 10.89 64,000 64,000 4,480,000 3,560,000 920,000

64 8.91 64,000 64,000 4,480,000 3,560,000 920,000

64 7.29 64,000 64,000 4,480,000 3,560,000 920,000

 D-Solar Decision
• Period 1 evaluation – onshore
EP(D = 120, E = 9.90, 1) = 0.24 x P(D = 144, E = 10.89, 2) +
0.56 x P(D = 144, E = 8.91, 2) +
0.06 x P(D = 96, E = 10.89, 2) +
0.14 x P(D = 96, E = 8.91, 2)
= 0.24 x 3,320,000 + 0.56 x 3,320,000 +
0.06 x 1,880,000 + 0.14 x 1,880,000
= €3,032,000

PVEP(D = 120, E = 9.90,1) = EP(D = 120, E = 9.90,1)/(1 + k)

= 3,032,000/1.1 = €2,756,364
 D-Solar Decision
• Period 1 evaluation – onshore
Revenue from manufacture
and sale of 120,000 panels = 120,000 x 70 = €8,400,000

Fixed + variable cost of onshore plant = 1,000,000 + 120,000 x 40

= €5,800,000

P(D = 120, E = 9.90, 1) = 8,400,000 – 5,800,000 +

PVEP(D = 120, E = 9.90, 1)
= 2,600,000 + 2,756,364
= €5,356,364
 D-Solar Decision

D Production Revenue
E Sales Cost Quantity (euro) Cost (euro) Profit (euro)
120 9.90 120,000 120,000 8,400,000 5,800,000 5,356,364

120 8.10 120,000 120,000 8,400,000 5,800,000 5,356,364

80 9.90 80,000 80,000 5,600,000 4,200,000 2,934,545

80 8.10 80,000 80,000 5,600,000 4,200,000 2,934,545

 D-Solar Decision

• Period 0 evaluation – onshore

EP(D = 100, E = 9.00, 1) = 0.24 x P(D = 120, E = 9.90, 1) +
0.56 x P(D = 120, E = 8.10, 1) +
0.06 x P(D = 80, E = 9.90, 1) +
0.14 x P(D = 80, E = 8.10, 1)
= 0.24 x 5,356,364 + 0.56 x 5,5356,364 +
0.06 x 2,934,545 + 0.14 x 2,934,545
= € 4,872,000
PVEP(D = 100, E = 9.00,1) = EP(D = 100, E = 9.00,1)/(1 + k)
= 4,872,000/1.1 = €4,429,091
 D-Solar Decision
• Period 0 evaluation – onshore
Revenue from manufacture and sale of 100,000 panels = 100,000 x 70 = €7,000,000

Fixed + variable cost of onshore plant = 1,000,000 + 100,000 x 40 = €5,000,000

P(D = 100, E = 9.00, 1) = 8,400,000 – 5,800,000 + PVEP(D = 100, E = 9.00, 1)

= 2,000,000 + 4,429,091
= €6,429,091
D-Solar Decision: off-shore (China)
• Period 2 evaluation – offshore
Revenue from the manufacture
and sale of 130,000 panels = 130,000 x 70
= €9,100,000

Fixed + variable cost

of offshore plant = 8,000,000 + 130,000 x 340
= 52,200,000 yuan

P(D = 144, E = 10.89,2) = 9,100,000 – 52,200,000/10.89

= €4,306,612
 D-Solar Decision
D Production Revenue
E Sales Cost Quantity (euro) Cost (yuan) Profit (euro)
144 10.89 130,000 130,000 9,100,000 52,200,000 4,306,612

144 8.91 130,000 130,000 9,100,000 52,200,000 3,241,414

96 10.89 96,000 100,000 6,720,000 42,000,000 2,863,251

96 8.91 96,000 100,000 6,720,000 42,000,000 2,006,195

144 7.29 130,000 130,000 9,100,000 52,200,000 1,939,506

96 7.29 96,000 100,000 6,720,000 42,000,000 958,683

64 10.89 64,000 100,000 4,480,000 42,000,000 623,251

64 8.91 64,000 100,000 4,480,000 42,000,000 –233,805

64 7.29 64,000 10,000 4,480,000 3,560,000 –1,281,317

 D-Solar Decision

• Period 1 evaluation – offshore

EP(D = 120, E = 9.90, 1) = 0.24 x P(D = 144, E = 10.89, 2) +
0.56 x P(D = 144, E = 8.91, 2) +
0.06 x P(D = 96, E = 10.89, 2) +
0.14 x P(D = 96, E = 8.91, 2)
= 0.24 x 4,306,612 + 0.56 x 3,241,414 +
0.06 x 2,863,251 + 0.14 x 2,006,195
= € 3,301,441
PVEP(D = 120, E = 9.90,1) = EP(D = 120, E = 9.90,1)/(1 + k)
= 3,301,441/1.1 = €3,001,310
 D-Solar Decision

• Period 1 evaluation – offshore

Revenue from manufacture
and sale of 120,000 panels = 120,000 x 70 = €8,400,000

Fixed + variable cost of offshore plant = 8,000,000 + 120,000 x 340

= 48,800,000 yuan

P(D = 120, E = 9.90, 1) = 8,400,000 – 48,800,000/9.90 +

PVEP(D = 120, E = 9.90, 1)
= 3,470,707 + 3,001,310
= €6,472,017
 D-Solar Decision

D Production Revenue Expected Profit

E Sales Cost Quantity (euro) Cost (yuan) (euro)
120 9.90 120,000 120,000 8,400,000 48,800,000 6,472,017

120 8.10 120,000 120,000 8,400,000 48,800,000 4,301,354

80 9.90 80,000 100,000 5,600,000 42,000,000 3,007,859

80 8.10 80,000 100,000 5,600,000 42,000,000 1,164,757

 D-Solar Decision

• Period 0 evaluation – offshore

EP(D = 100, E = 9.00, 1) = 0.24 x P(D = 120, E = 9.90, 1) +
0.56 x P(D = 120, E = 8.10, 1) +
0.06 x P(D = 80, E = 9.90, 1) +
0.14 x P(D = 80, E = 8.10, 1)
= 0.24 x 6,472,017 + 0.56 x 4,301,354
+ 0.06 x 3,007,859 + 0.14 x 1,164,757
= € 4,305,580

PVEP(D = 100, E = 9.00,1) = EP(D = 100, E = 9.00,1)/(1 + k)

= 4,305,580/1.1 = €3,914,164
 D-Solar Decision
• Period 0 evaluation – offshore

Revenue from manufacture

and sale of 100,000 panels = 100,000 x 70 = €7,000,000

Fixed + variable cost of onshore plant = 8,000,000 + 100,000 x 340

= €42,000,000

P(D = 100, E = 9.00, 1) = 7,000,000 – 42,000,000/9.00 +

PVEP(D = 100, E = 9.00, 1)
= 2,333,333 + 3,914,164
= €6,247,497
 Decisions Under Uncertainty
1. Combine strategic planning and financial planning
during global network design
2. Use multiple metrics to evaluate global supply
chain networks
3. Use financial analysis as an input to decision
making, not as the decision-making process
4. Use estimates along with sensitivity analysis