1. Gaurav Ashok Manoj Shiv Sujit

2.  The Montclair Paper Mill, opened since 1892, is the oldest and smallest of the ten mills owned and operated by General Paper Company.  1500 different products.  Buy dry pulp and convert it into coated and uncoated finepapers used in brochures,catalogues,magazines etc.

3.  Operates 5 paper machines with trim ranging from 124 to 154 inches and run speed from 1500 to 2000 feet per minute.  These machines can produce different colors, weights and finished products.  Machines runs- 3shifts and 365 days a year.  Loss due to waste while changing product, color etc is almost 30% of the overall mill cost.

4. Dry Pulp Paper M/c Coated & Uncoated paper Converting Finished Goods

5.  Process of changing large rolls of paper that comes of the paper machines into finished goods.  In premium segment converting is essential for a mill to provide each customer exactly what they need.  WIP is huge in Converting making it very costly process.

6.  Country largest premium paper warehouses.  Sells 80K tons per year through DC and 85K tons in manufacturing orders.

7. Selling Paper rolls or Finished Products Merchant Printer Shop Customers

8.  1000 different uncoated products produced  Mainly sold through merchants to job shop printers.

9.  One of the niche believed to be vital in the premium segment to be considered a serious player.  Produced on #2 M/c with frequent grade changes to produce the large variety of weights, colors and Textures.  Annual demand- 4 to 6 tons.  Very costly production.

10.  Target costing is based on price-based cost rather than the traditional way of cost-based pricing  Montclair’s Value Chain is made up of ◦ Mill => DC => Merchant => Printer => Customer  First step: Estimate a Selling Price ◦ Use Ajax’ SP ($1466) from Exhibit 1  Second step: Use the Freight & Normal Sales Returns ◦ Use Ajax’ ($30 + $60) from Exhibit 1  Third Step: Residual Income/EVA concept ◦ RI = NOPAT – Capital Charge where Capital Charge = Capital Investments * WACC ◦ From Exhibit 2, Capital Investments of $160m ~ $800/T, assuming a reqd rate of return of 15%, capital charge = 800 * 15% or $120/T  Fourth Step ◦ Calculate Montclair Target Cost ◦ 1466 – 30 – 60 – 120 = $1256

11.  Fifth Step: Different from Ajax since DC is to be considered to calculate the target manufacturing cost for the Mill ◦ Shipping cost to DC (from Exhibit 2) = 11 ◦ Operating Cost of DC (from Exhibit 2) = 25 ◦ Target Cost = 1256 – 11 – 25 = $1220 ◦ DC capital charge calculation  Mill Inventory turns 3 times during a year  Using the “simultaneous equation” concept which is used to apportion the costs between diff dept’s we can use the same equation used for RI/EVA to get X = 1220 – ( X/3 * 15%) or X = $1162  Montclair Target Cost to the Mill = $1162  Ajax Target Cost to the Mill = $1376

12.  Ideal Cost: It is that cost where we consider no space for any waste, scrap or inefficiency, where everything works upto 100% efficiency.  Standard cost :is the amount the firm thinks a product or the operation of the process for a period of time should cost, based upon certain assumed conditions of efficiency, economic conditions and other factors

13.  According to Exhibit 2 we have standard costing on the Basis of Yield of Paper Machine and Converting.  Paper M/c – 46%  Converting – 88% In order to find out the Ideal Cost we need to take the Yield as 100% in all cases.

14. ProcessTypeOriginalTotal Ideal Cost Fiber Virgin Hardwood 63% x $425267.75 Virgin Softwood 15% x $47571.25 Purchased Scrap 22% x $6013.20 Total$352 Paper Fiber$352 @ 100%352 Dyes$550 @ 100%550 Conversion$520 /3 @100%173.30 Total1075.30 Conversion Paper$1075.3 @ 100%1075.3 Sheet & Packing $600/2.25 @ 100% 266.6 Total Ideal Cost=1341.9

15. Materials(perfect yield)352+550902 Paper Machine520/3173 Converting(perfect Yield)600/2.25267 Ideal CostTotal1342 Waste Cost: Material lost2159-9021257 Lost paper machine time427-173254 Conversion time lost303-26736 Ship to DC11 Unnecessary CostTotal1558

16.  Ideal cost ($1342) > Target Cost ($1162) ◦ Means at 100% efficiency also the cost is high by $180/ton. ◦ Indicates that the target cost obtained is good  If its argued that Ajax is charging a low unrealistic price of $1466 then it can be said unless its operating at a much lower cost, RoI will be –ve and since its RoI is +ve and Ajax is doing well, then it just means that Ajax too (more importantly a competitor) is using a different cost structure  Montclair should change its way of costing

17.  Target Costing involves revisiting the process design. Lets say if Montclair decides to change the mix by changing ◦ VH => from 63% to 20% ◦ VS => from 15% to 5% ◦ Scrap => from 22% to 75% ◦ Use green scrap rather than white scrap (cheaper) ◦ Increase machine efficiency to 75%  The changes brings downs the standard cost. How?

18. ProcessTypeOriginalRevised Fiber Virgin Hardwood 63% x $42520% x $425 Virgin Softwood15% x $4755% x $475 Purchased Scrap 22% x $6075% x $45 Total =$352$143 Paper Fiber$352 @ 46%$143 @ 75% Dyes$550 @ 46%$300 @75% Conversion$520 /3 @46%$520/3 @ 75% Total =$2276$820 Conversio n Paper$2276 @ 88%$820 @ 88% Conversion$600/hour$300/hour Total= $2900=$1162

19.  If Montclair changes to using the new product mix as discussed then the Standard cost reduces drastically from $2900/ton to $1162/ton.  The reduction in the cost of the product will improve the profitability of the company which earlier was having a loss of $1020/T to achieve profits of 2200 – 1466 = $734/T

20.  Standard Cost = $2900/T  Selling Price = $2200/T  Net Loss = $700/T  DC costs = $320/T  Net Loss incl DC costs = $1020/T  Target Cost = $1162  Ideal Cost = $1342  Ajax Target Cost = $1356

21.  “Solid Cost Construction” Illusions ◦ comparable labor costs ◦ standard yield rates ◦ following std practice to build cost of scrap ◦ best practices being followed  Management confusion ◦ Skeptical about further reduction in costs ◦ Everybody was thinking about the price being too low ◦ Each dept was passing the buck. Sales didn’t believe it was their problem, manufacturing thought costs were based on best practices, accounting didn’t think it was an accounting problem ◦ Prices could only be raised to a certain extent and that too for certain customers

22.  Aim to reduce cost from $2900 to $1162, reduction of 60%. How ?  Use Target Costing concepts ◦ Process Design Modifications ◦ Product Design Modifications ◦ Value Engineering  From Q4 we can derive the changes needed

23. ProcessTypeOriginalRevised Fiber Virgin Hardwood 63% x $42520% x $425 Virgin Softwood15% x $4755% x $475 Purchased Scrap 22% x $6075% x $45 Total =$352$143 Paper Fiber$352 @ 46%$143 @ 75% Dyes$550 @ 46%$300 @75% Conversion$520 /3 @46%$520/3 @ 75% Total =$2276$820 Conversio n Paper$2276 @ 88%$820 @ 88% Conversion$600/hour$300/hour Total= $2900=$1162

24.  Current Montclair Value Chain Mill (produces 80000) => DC (distributes 80000) => Merchant (stocks the product) => Printer => Customer By streamlining, Montclair can avoid the Merchants to stock the product. For Ajax this cost is almost 20% of revenue earned by the Merchant. This 20% need not be spent by the Merchant making his cost 20% lesser Montclair can actually charge higher prices to the merchants But the only issue is that the Merchants should agree to this

25.  Stocking Business ◦ Sales = $23m ◦ Profit = $5.1 – ($5.5 - $1.0) = $0.6 ◦ Margin = 2% ◦ Assets = 23/6 + 23 + 4.7 + 1.1 = $32 ◦ RoA= 1.87%

26.  Mill Direct Business ◦ Sales = $23m ◦ Profit = $1.6 - 1 = $0.6 ◦ Margin = 2% ◦ Assets = 23/12 = $1.92 ◦ RoA= 3.13%  Hence merchants should be involved only in Mill Direct Business. Montclair should streamline its operations and carry the inventory