ISyE 6203 The HDT Case Vande Vate Fall, 2011 1

Cash Flow This case combines two aspects The operational issues associated with international trade Cash Flow calculations The operational issues are intellectually straightforward, but prove difficult in practice because they are numerous, changing and require lots of experience, a network of contacts, etc. The Cash Flow calculations are very similar to “inventory”, but different. Just recognize it’s better to be paid today than tomorrow. 2

Chicago vs Bal’more Everyone got as far as calculating the total expenditures to ship the trucks via the two options 3

But,… Although Chicago appears cheaper, it takes longer, which means we will be paid later How can we assess the impact of the delay? First, both methods will produce the vehicles on the same schedule and so we can ignore the timing of the investments in parts and labor – they will be the same in both cases So, we can focus our attention on the timing of the revenues (and, if we are really careful, the timing of the components of the shipping expenses – Remember, just as it is better to get paid today, it’s better to be able to pay tomorrow) 4

Keep it Simple First, we will ignore the timing of the shipping expenses and just focus on the timing of revenues. To translate the timing of payments into a $ value we will need some estimate of the time value of money. Just as with the capital charge associated with inventory, there are (at least) two ways to do this: The opportunity cost associated with money, i.e., if we had more cash today, what profits could we generate with it? The cost of capital. 5

“Cost of Capital” The best information we have is that the company relies on an 8% line of credit to fund its short term cash needs. So, it is natural to use this as an estimate of the cost of capital. This value is probably low. It doesn’t include any cost of equity, which is probably higher and it doesn’t consider the opportunity value of money. But, it is what we have so let’s use it. Time value of money = 8%/year 6

Cash Flow Impacts Now we can compute the cash flow impacts of the two alternatives. (Or we could just calculate the differences, but let’s compute the two separately) Chicago is easy. Starting from April 1st, 2003 (or any arbitrary date before the first truck is delivered by either alternative) we won’t get paid until June 1, 2003 (61 days later) Waiting 61 days to for $8.6 million translates into 8%/year*61/365years*8.6 million=$114,981 (using simple interest, which is probably appropriate in this context) This means that at 8%, we would be equally happy receiving $8,485,019 today vs $8,600,000 in two months 7

Cash Flow Impacts Baltimore is a little more complicated, but not much. We will start receiving income 22 days after the first trucks come off the line and we will deliver the last trucks 22 days after the last trucks come off the line. One way to think of the difference is to compute the consignees inventory of trucks (at 8%) between April 1st, 2003 and June 1st, 2003. We can subtract that from $114,981 we calculated for Chicago, because if the consignee has the trucks, we have the money. 8

Bal’more The first trucks complete on April 2nd and we receive cash for them on about April 25th. So, about 24 days after April 1st. The last trucks complete on April 29th and we receive cash for them on about May 22nd. So about 50 days after April 1st. Some of the cash will come in earlier and some later, but the average truck will be paid for in about 37 days. Waiting 37 days for $8.6 million translates into 8%/year*37/365years*8.6 million = about $70,000 9

Conclusions Including the cash flow impacts we see that So Baltimore is the better option Chicago costs $105,470 transport $114,981 interest $220,461 total Bal’more costs $137,300 transport $ 70,000 interest $206,100 total 10

Expenses To do this more completely, we should also include the cash flow impacts from the timing of transport expenses. Chicago has the benefit of delaying these expense But these effects are second order. 11

Risks There are different ways to think about this. The two options include about the same handling. So that’s probably a wash. There may be advantages to the charter in terms of the focus we can put on loading and unloading, but the major risk the charter faces is time and the possibility of a major loss – all our trucks are on the same vessel. 12

Overtime? At 12% we are clearly going via Bal’more. If we build the trucks faster, we complete them faster and so get our money faster. Today, with no overtime, we are completing 50 trucks in about 28 days. An effective rate of 1.79 trucks per day (not per working day) Let’s use overtime to increase this to 1.79*(1+x) trucks per day. Then the last truck will be ready in 50/(1.79*(1+x)) days and the average truck will be ready in about 26/(1.79*(1+x)) days and so will be delivered in 22+ 26/(1.79*(1+x)) days So the interest impact is the difference between today’s 37 days and the 22+26/(1.79*(1+x)) days we get with overtime. Actually, to be fair when x = 0, we get 36.5 days so the difference between 36.5 and 22+26/(1.79*(1+x)). 13

What is x? Suppose we add a shift and so make 50% more trucks, i.e., 3.75 trucks/day, each weekday That will take 50/3.75 or 14 working days to complete all 50 trucks So the last truck will be available April 21st, or 20 calendar days later So our rate will be 50/20 = 2.5 trucks/calendar day 1.79(1+x) = 2.5 or x  0.4 14

Overtime 15

Overtime? Running 10% faster cuts about 1 day off the average delivery time and saves about $3,700 in interest expense Running 50% faster (adding a third shift) cuts 5 days and about $14K in interest expense. Running twice as fast cuts about 7 days and on the average delivery time which translates into about $20K in interest savings Does, for example, running a 3rd shift for 3 weeks Cost more or less than $13K or about $108/hour Are regular wages less than ~$72/hour (for a full crew)? 16