Questions:
What could be inferred about the supplier market conditions from the response for the request for quote? How would the supplier market conditions influence the decision to expand outsourcing policy?
TEMKO Earthmovers1
The TEMKO Company encountered the problem of defects in some of its purchased tractor short-block castings. The short-block castings are used to build the R-208 tractor engines. TEMKO installs the heads, manifold, carburetor, and other engine parts, which consist of approximately 13 percent of the short-block casting purchase price. When the defects are discovered, the short blocks have to be disassembled and repaired. It takes approximately eight hours per repair. Even with this process, almost 4 percent of the incoming short blocks end up as scrap. In other words, approximately 10 out of every 100 units are repaired and 40 percent of the repaired short blocks are scrapped. Each short-block casting costs between $1,550 and $1,700 depending on the supplier. There is also a cost of downtime associated with interruptions on the shop floor.
The internal labor cost of assembling each incoming short-block casting and repair as necessary is approximately $878 per short block. The estimated overhead, which is 150 percent of direct labor, consists of 33 percent variable and 67 percent fixed costs; the shop floor disruption cost is estimated to be $500 per disruption.
Recently, James Sun, the purchasing manager, released a request for quote (RFQ) for the short blocks to three prequalified suppliers of assembled tractor engines. However, only one supplier, ACE Manufacturing, Inc., showed an interest. ACE was a small startup company that was looking for work. In order to produce assembled R-208 engines, an investment in precision machinery of more than $1,500,000 would need to be made. ACE was willing to both invest in the necessary machine and guarantee at least 100 engines per month—provided TEMKO would contract with it as a sole source for the engines for the next three years. The price per engine would be $3,500 the first year, with an annual increase of 3 percent. TEMKO anticipated that they would need at least 1,000 finished engine assemblies per year for the next five years.