Re: Making Versus Outsourcing Kronks

1750 Finch Avenue East

North York, ON M2J 2X5

January 25, 2019

President

ABC Widgets Inc.

North Bay, ON

Re: Making Versus Outsourcing Kronks

Dear Ms. Kali St. Laurent,

Thank you for your confidence in DATTA Consultancy Group, to help you make this important decision in deciding between outsourcing or making the kronks in house.

Through our extensive research and analysis, we highly recommend that ABC Widgets outsource the manufacturing of kronks to Meighen Kronks Corp. due to the following immediate advantages:

• Production savings of $1,880,000 in the first year (refer to Table 1)
• Savings of $1,760,000 in the second year (refer to Table 1: savings less severance cost)
• Given one month’s notice, Meighen Kronks Corp. can adapt to making design changes at no additional costs
• Meighen Kronks Corp. is well known for making better than average kronks in large quantities
• Meighen Kronks Corp. has been in business for 20 years which means they are a stable business that will be able to supply kronks for the foreseeable future

Essentially the savings would be achieved through the following:

• Price savings from buying versus making kronks (see attached table on following page)
• Savings on factory heating and lighting for space used to produce kronks
• Savings on employee wages
• Savings due to proceeds from sale of production machinery used to make kronks

While the advantages are numerous, some consideration must be given to the disadvantages of outsourcing.  Below we describe the notable disadvantages while considering the impact and, in some cases, provide mitigation:

• A one-time cost of severance to the employees that will be laid off will need to be paid. This will impact the savings in the first year only by a relatively small amount compared to the savings.
• Meighen Kronks Corp. can ship kronks within one week of an order.  ABC Widgets offers delivery of the assembled widgets within two days of the order.  This could be mitigated by storing a minimal amount of kronks, possibly in the freed-up factory space.  This would be an opportunity cost, since this factory could be put to another use.
• After the first two years, there is no certainty as to how much it will cost to purchase kronks from Meighen Kronks Corp.  Although highly unlikely, unless Meighen Kronks Corp. charges a substantial amount for each kronk, ABC Widgets Inc. would still have savings.  At this point, ABC Widgets Inc. could consider other kronk suppliers if necessary.
• Meighen Kronks Corp only offer a 2-year warranty on the kronk component, will ABC Widgets supplies a 5-year warranty on the complete widget.  This can be addressed through budgeting additional warranty provisions where required.

In conclusion, the advantages of outsourcing the production of kronks greatly outweigh the disadvantages. For the reasons stated above, we would recommend choosing to outsource the production of the kronks versus making them in-house.