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Cumberland Metal Industries Essay

I.BACKGROUND

CMI has developed a new technology using curled metal to create pile driving pads. Compared to existing products on the market, these pad offer several benefits: •Faster pile driving saves contractors rental fees, labor expense , and spreads overhead over more feet driven in a given period of time •Longer life of pads save contractors additional cost in reducing changeover time •Heat resistance further reduces changeover time, saving additional expenses •Safety – CMI pads do not expose workers to the extreme heat and carcinogens that asbestos does

II.MARKET AND CUSTOMER

Total pile feet driven is assumed to be between 290-390 million feet annually given the number of hammers in existence and assuming hammers drive at an average rate of 20 feet per hour, 30 hours per week, and 25 weeks a year. It is projected that one set of six CMI pads will last for 10,000 feet, meaning there is a potential market for between 29-39 thousand sets or 175-234 thousand individual pads annually, 14.6-19.5 thousand pads per month. Since only 6,500 to 13,000 of hammers are leased, the target market is 9,750 to 19,500 sets annually if CMI targets only contractors who lease equipment and incur the monthly and weekly rental costs given in the case.

We have assumed that the opportunity cost of operating a hammer, after accounting for capital costs, are similar for and recognized by both owners and renters given a competitive market, so we have added both segments together in an effort to size the market for this analysis. In setting a price for the new CMI pads, it is important to understand the economic value created (EVC) for the customer. We will do this through a hypothetical 10,000 foot pile drive contract extrapolating from the results of the two tests CMI already performed. The table below calculates the EVC experienced by Colerick and Fazio as well as an estimate of EVC in the future given management’s assumptions that, on average, a set of CMI pads will last 10,000 feet, or 10X longer, and perform 20% faster than traditional asbestos pads.

The table shows that while Colerick and Fazio received a surplus EVC of between $1,420-1,587 per CMI pad used, this is likely to come down to EVC of $640/pad given management assumptions on average performance over time and various sizes. We assume that the cost to operate of $238/hr applies to both renters and owners of hammers. While this figure was estimated using cost to rent and a measure of overhead, the market is competitive enough that this measure is roughly equivalent to the cost of ownership after adjusting for cost of capital. If we assume the cost of ownership is zero and the only hourly expense is labor and allocated overhead of $100, the EVC would decrease to $420 per pad. Given a competitive market we believe $640 per pad is a more accurate measure of long term EVC.

III.ENTRY

Given the EVC calculated above , CMI should price the initial run of 11.5” pads at $450 apiece, or $2700 per 6-pad set. This leaves substantial value on the table for contractors in an effort to build penetration in a highly fragmented market. And will ensure enough demand to achieve scale unit costs. In marketing this new product, CMI should focus on conveying the cost saving benefits of their pads to large contractors that were involved in both driving piles as well as job design and material specification, such as Conmaco and Raymond International. In doing this, Simpson will ensure enough demand in wining these contracts to rationalize capacity as well as establish CMI pads as an industry standard. Given the size and sophistication of these companies it is likely they will not balk at the idea of paying 11.25X per set of pads ($450/$40) in order to generate long term savings.

To establish CMI pads as an industry standard in performance and safety, CMI should also solicit pile hammer manufacturers to be included as the recommend supplier of pads as it allows their hammers to operate at peak performance. The fragmented market and distribution makes it difficult to market directly to independent contractors, but CMI should continue to build its network, like with Colerick and Fazio, in an effort to create pull through demand for equipment renters to begin stocking CMI pads. Given the much higher cost per pad set, we expect this to be a difficult method to convey to independent contractors without broader industry support which is why we propose targeting large cost focused design and contracting firms first. CMI must decide if it makes sense to retool for $50k or use existing plant capacity.

This decision ignores the normal fixed factory overhead calculation as that is expense that is incurred under both decisions so the only relevant cost to determining the payback period of retooling. The table below shows that the payback on retooling the plant occurs in 11.65 months assuming full production, highlighting that retooling the plant is generates attractive cost savings and should be undertaken. Similarly, given the large potential market size, 14,000 pads a month at the low end, it is equally attractive to add additional capacity for $75,000 per 250 pads up to the point where market demand is met. It is not clear how long the lead time is to add additional capacity, but given the fragmented distribution it will take some time to build penetration in the market, thus there is not enough info provided to determine when additional capacity will actually need to be installed. Full production is a reasonable assumption given that it represents only 250 units in a market size of at least 14,000 pads, or 1.8%.


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