A Process Flow value Chain

Regional Dairy Branded OJ

Milk OJ MM/CHTropicana

Consumer Pays 1.16 1.50 1.89 2.26

Store Pays 1.04 1.20 1.42 1.79

Store Margin 0.12 0.30 0.47 0.47

Dairy/etc Pays 0.75 0.80 0.64

shrinkage 0.06 0.06 0.11
pasturising/ advertising 0.06 0.06 0.36
0.87 0.92 1.11
Carton cost 0.08 0.08 0.06
Cost to dairy 0.95 1.00 1.17

Dairy/Juice margin 0.09 0.20 0.25

Mill SP to customer 530
cost
Pulp 319
Machining 105
Freight to customer 47 471
Mill Margin 59

Extruder Cost Extruder SP

Tranfer cost: SP to customer 577
Mill Cost adjustment for freight
Pulp 319 to Converter
Machining 105 add frt to converter 35
Freight to extruder 3 less frt to customer -19
Mill margin 59 486
Other costs 94
Freight to converter 35
615 593
Extruder Margin -22

Converter Cost Converter SP-Dairy SP-Branded OJ

Transfer cost 593 14400*.08 1152
other cost 231 14400*.06 864
freight to customer 10 834 1152 864
Converter Margin 318 30
Return on Assets per Ton of board

Regional Dairy Branded OJ

Milk OJ
Margin Assets ROA Margin Assets ROA Margin Assets ROA

Stores 1728 1800 96% 4320 1800 240% 6768 1800 376%
Dairy/Juicer 1296 5400 24% 2880 2890 100% 3600 2890 125%
Converter 318 830 38% 318 830 38% 30 830 4%
Extruder -22 190 -12% -22 190 -12% -22 190 -12%
Mill 59 2800 2% 59 2800 2% 59 2800 2%
Total 3379 11020 31% 7555 8510 89% 10435 8510 123%
 Choice of market segments
A Commodity Dairies

Overall size of the market 375000 tons

150/.40 table 3
new volume in 1988 nil

Opportunities ?

1 The total market declinin 3% a year but had been always their main customer
2 Uncertain supply of plastics. (by-product for the oil companies
3 Environmental indignation over plastics
4 Nutritionally , paper is better than plastics
5 Potential to realise price premium for cartons by working with dairies to create
differtiated milk just like branded OJ

B Branded OJ segment
1 Low mkt share in differentiated segment , reflected status as a "backup" supplier
2 Technologically obsolescent manufacturing
Most plant and equipment had been bought in the 1960's
nagging problems with the quality of the board, caused by lack of up-to date m/c
$43m needed to upgrade its primary manu facility to improve board strength, printing
and smoothness.$17m needed to add new extruder to compete in multilayered coating
application
3 Lack of rotogravure printing in the conversion plants.
$1.5m rqrd to purchase a rotogravure printing m/c. It seems operating costs also
will go up with the new tech.

C Export Market

Overall size of the market 1112000 tons

page 336
Annual growth page 339 16%
New volume in 1988 180,000 tons

How about spending $1.75m to participate in 180,000 tons of new potential business?
Convetional Capital Investment Analysis for DairyPak Projects
(Per Internal Documents)

All Numbers Disguised

Differentiated Segment

Capital investments needed in year 0:

Primary manufacturing $43 million
Third extruder 17 million
Rotogravure printing 1.5 million
Total $61.5 million

Annual Cash Flows Per Ton

Revenue (assumes a 30% price increase
due to a better quality board 7.7¢ x 14,400) $1,109 (Per carton price
almost matches “standard”
price of $.08

Costs (per Exhibit 2)

(319 + 105 + 94+ 35 + 231+3 + 10) -797

Plus additional printing costs

(due to rotogravure printing) -10 -807

Profit per ton 302

Total market (differentiated segment = 400,000 tons

Projected market growth 14%
Additional volume next year (400,000 c 14%) = 56,000
Assume we can capture 50% of this additional volume = 28,000
Plus a 5% increase in our share of the existing market
(400,000 x 5%) = 20,000
Additional Volume 48,000 tons *

*(We ignore additional growth beyond 1 year, to be conservative).

Annual Cash Profits (48,000 x $302) = $14.5 million

After-tax profits (40% tax rate) = $ 8.7 million
Plus depreciation tax shield (straight-line depreciation
for 10 years) $6.15 million x 40%) = $ 2.46 million

Total annual after-tax cash flows = $11.16 million

Time horizon for the project = 10 years

Salvage value of the plant and equipment in year 10 (after
= $3tax)
million

All cash flows are in “real” dollars; inflation is not incorporated

Internal Rate of Return = approximately 13% (after tax, “real” return)

 Buyer Power Analysis

Commodity Dairies Branded OJ Products

Number of Buyers 1,000 3
(buyer concentration)

Size of Buyer, as a Relatively Small Same size as the

Corporation paperboard
manufacturers
Average Customer 375 Tons Tropicana 15,000 tons
Value (375,000 tons/1,000) M/M 10,000 tons
C-OH 7,000 tons

Buyer Switching Low. Buy commodity High. Buy differentiated

Costs board board

Ability to backward Nil. Do not buy volume Nil. do not buy in volume
integrate
paperboard into for a scale efficient plant for a scale efficient plant

Substitutes products Plastic, other? Plastic, glass, others?

relative to
paperboard

Cost of Carton/Total 8.5% (8¢/95¢) 5% (6¢/117¢)

Cost
Buyers’ Margin 8.6% (9¢/104¢) 17.6% (25¢/142¢)

Value Extracted by segments

Champion’s share of 11% 0.60%

margins
%of Totalas
Margins

Champion’s ROA 9% 2%
Strategic Analysis - A value Chain Perspective

Refer to buyer power analysis

· There are few buyers in the differentiated segment—fewer than ten versus .
more than 1,000 in the commodity segment.
· Buyers are very large.
· The average order size tends to be quite large.
· Differentiators typically keep two or more sources of supply. Poor service,
quality or uncompetitive prices are punished by cuts in order size.
· Plastic has several attractive features as a packaging material—break resistance,
design versatility, eye-appeal, printability. Plastic poses a more significant threat
to coated board in the differentiated segment since this segment values more highly
the marketing appeal of the package. This substitution threat sets a cap on paperboard
carton prices and a corresponding cap on investment returns, once the overwhelming
buyer power is factored into the analysis.

Summary

It appears to be an industry where the closer one gets to the end-use customer and the more
one creates product differentiation , the more money will be made. Dairy Pak seems to lose
on both counts. They lack the ability to forward integrate into the processor and supermarket
segment. Further they lack the product quality to successfully compete as a supplier to
the differentiated processor segment.

Instead of de-emphasizing the commodity segment as would be recommended by the traditinal

analysis they need to find ways to effectively compete in the commodity segment by being
the low cost producer.

They need to understand the structural and executional drivers of cost behavior for the major
cost items in the mill, extruder, and converter operations. They then need to manager these drivers
better than the competitors. Staying in the commodity segment is the only logical choice.
The attractiveness of this option is further enhanced by possible significant growth in commodity
carton demand in export markets. Their manufacturing system is geared to this market, and
their reputation has been made in this market. They have low investment baseto support this
business , sinsce most plant and equipment were bought before 1970. Major new investment are
not required to compete here.

Looking at the economics of the mill, extruder, and converting operations, DairyPak is currently
destroying value (rather than creating value) by selling in the differentiated segment. Also, the
profitability at the mill is well below satisfactory levels. A cost driver analysis at the mill and
extruder stages might go a long way in identifying profit improvement opportunities. Such
analysis is beyond the scope of this case.
The SMC-value chain perspective thus extends our ability to achieve meaningful cost analysis.
 Traditional
Management Accounting
Focus Internal
Perspective Value-added
raw material suppliers to
ultimate
Cost Driver •A single fundamental cost
Concept driver pervades the
literature—Cost is a
function of volume
• Applied too often, only at
the overall firm level
Cost • Cost reduction approached • Cost containment is a function of the
Containmen via responsibility centers or cost
driver(s) regulating each value activity
tPhilosophy via product cost issues
• Exploit linkages with suppliers
Insights for None are readily apparent.
Strategic This
is a major reason why the
Decisions strategic consulting firms
typically throw away the
conventional reports as the
begin
their cost analyses
Value Chain Analysis
in the SCM Framework
External
Entire set of linked activities
from end use customers
•Multiple cost drivers
Structural drivers (examples: scale,
scope, experience, technology,
complexity)
Executional drivers (examples:
Participative management, total
quality management, plant layout)
• Each value activity has a set of unique
cost drivers
• Exploit linkages with customers
• “spend to save”
• Identify cost drivers at the individual
activity level: develop cost
differentiation
advantage either by controlling those
drivers better than competitors or by
reconfiguring the value chain (examples:
Federal Express in mail delivery, MCI in
long distance telephone)
• For each value activity, ask strategic
questions pertaining to:
• make versus buy
• forward/backward integration
• Quantify and assess “supplier power”
and
“buyer power’, exploit linkages with
suppliers and buyers