Chapter 5: Network Design in the Supply Chain

Exercise Solutions

1. SC Consulting, a supply chain consulting firm, must decide on the location of its home
offices. Its clients are located primarily in the 16 states listed in Table 5-5. There are four
potential sites for home offices: Los Angeles, Tulsa, Denver, and Seattle. The annual fixed
cost of locating an office in Los Angeles is $165,428, Tulsa is $131,230, Denver is
$140,000, and Seattle is $145,000. The expected number of trips to each state and the travel
costs from each potential site are shown in Table 5-5. Each consultant is expected to take
at most 25 trips each year

(a) If there are no restrictions on the number of consultants at a site and the goal is to
minimize costs, where should the home offices be located and how many consultants
should be assigned to each office? What is the annual cost in terms of the facility and
travel?
Answers:
The objective of this model is to decide optimal locations of home offices, and number of
trips from each home office, so as to minimize the overall network cost. The overall
network cost is a combination of fixed costs of setting up home offices and the total trip
costs.
There are two constraint sets in the model. The first constraint set requires that a specified
number of trips be completed to each state j and the second constraint set prevents trips
from a home office i unless it is open. Also, note that there is no capacity restriction at
each of the home offices. While a feasible solution can be achieved by locating a single
home office for all trips to all states, it is easy to see that this might not save on trip costs,
since trip rates vary between home offices and states. We need to identify better ways to
plan trips from different home offices to different states so that the trip costs are at a
minimum. Thus, we need an optimization model to handle this.
Optimization model:
n = 4: possible home office locations.
m = 16: number of states.
Dj = Annual trips needed to state j
Ki = number of trips that can be handled from a home office
As explained, in this model there is no restriction
fi = Annualized fixed cost of setting up a home office
cij = Cost of a trip from home office i to state j
yi = 1 if home office i is open, 0 otherwise
xij = Number of trips from home office i to state j.
It should be integral and non-negative
n n m
Min f y c x
i 1
i i
i 1 j 1
ij ij

Subject to
n

x
i 1
ij D j for j 1,...,m (5.1)
m

x
j1
ij K i yi for i 1,...,n (5.2)

yi {0,1} for i 1,...n (5.3)

Please note that (5.2) is not active in this model since K is as large as needed. However, it
will be used in answering (b).
SYMBOL INPUT CELL
Dj Annual trips needed to state j E7:E22
G7:G22,I7:I22,
cij Transportation cost from office i to state j K7:K22,M7:M2
2
fixed cost of setting up office i G26,I26,K26,M2
fi
6
F7:F22,H7:H22,
xij number of consultants from office i to state j.
J7:J22,L7:L22
 obj. objective function M31
5.1 demand constraints N7:N22
(Sheet SC consulting in workbook exercise5.1.xls)

With this we solve the model to obtain the following results:

Total Trips Cost Trips Cost Trips Cost Trips Cost
State # of from from from from from From from from
trips LA LA Tulsa Tulsa Denver Denver Seattle Seattle
Washington 40 - 150 - 250 - 200 40 25
Oregon 35 - 150 - 250 - 200 35 75
California 100 100 75 - 200 - 150 - 125
Idaho 25 - 150 - 200 - 125 25 125
Nevada 40 40 100 - 200 - 125 - 150
Montana 25 - 175 - 175 - 125 25 125
Wyoming 50 - 150 - 175 50 100 - 150
Utah 30 - 150 - 150 30 100 - 200
Arizona 50 50 75 - 200 - 100 - 250
Colorado 65 - 150 - 125 65 25 - 250
New Mexico 40 - 125 - 125 40 75 - 300
North Dakota 30 - 300 - 200 30 150 - 200
South Dakota 20 0 300 - 175 20 125 - 200
Nebraska 30 - 250 30 100 - 125 - 250
Kansas 40 - 250 25 75 15 75 - 300
Oklahoma 55 - 250 55 25 - 125 - 300
# of trips 675 190 - 110 - 250 - 125
# of Consultants 8 5 10 5
Fixed Cost of office 165,428 131,230 140,000 `145,000
Cost of Trips 15,250 6,250 20,750 9,875
Total Office Cost 180,678 137,480 160,750 154,875
The number of consultants is calculated based on the constraint of 25 trips per consultant.
As trips to Kansas cost the same from Tulsa or Denver there are many other solutions
possible by distributing the trips to Kansas between these two offices.
(b) If 10 consultants are to be assigned to a home office, at most, where should the offices
be set up? How many consultants should be assigned to each office? What is the annual
cost of this network?
Answers:
If at most 10 consultants are allowed at each home office, then we need to add one more
constraint i.e. the total number of trips from an office may not exceed 250. Or in terms of
the optimization model, Ki, for all i, should have a value of 250. We can revise constraint
(5.2) with this Ki value and resolve the model. The new model will answer (b).
However in this specific case, it is clear that only the Denver office violates this new
condition. As trips to Kansas can be offloaded from Denver to Tulsa without any
incremental cost, that is a good solution and still optimal.
Hence we just allocate 5 of the Denver-Kansas trips to Tulsa. This reduces the number of
consultants at Denver to 10 while maintaining 5 consultants at Tulsa.

(c) What do you think of a rule by which all consulting projects out of a given state are
assigned to one home office? How much is this policy likely to add to cost compared to
allowing multiple offices to handle a single state?
Answers:
Just like the situation in (b), though in general we need a new constraint to model the new
requirement, it is not necessary in this specific case. We note that in the optimal solution
of (b), each state is uniquely served by an office except for Kansas where the load is divided
between Denver and Tulsa. The cost to serve Kansas is the same from either office. Hence
we can meet the new constraint by making Tulsa fully responsible for Kansas. This brings
the trips out of Tulsa to 125 and those out of Denver to 235. Again the number of
consultants remains at 5 and 10 in Tulsa and Denver, respectively.
2. DryIce, Inc., is a manufacturer of air conditioners that has seen its demand grow
significantly. The company anticipates nationwide demand for the next year to be 180,000
units in the South, 120,000 units in the Midwest, 110,000 units in the East, and 100,000
units in the West. Managers at DryIce are designing the manufacturing network and have
selected four potential sitesNew York, Atlanta, Chicago, and San Diego. Plants could
have a capacity of either 200,000 or 400,000 units. The annual fixed costs at the four
locations are shown in Table 5-6, along with the cost of producing and shipping an air
conditioner to each of the four markets. Where should DryIce build its factories and how
large should they be?
Answers:
DryIce Inc. faces the tradeoff between fixed cost (that is lower per item in a larger plant)
versus the cost of shipping and manufacturing. The typical scenarios that need to be
considered are either having regional manufacturing if the shipping costs are significant or
have a centralized facility if the fixed costs show significant economies to scale.
We keep the units shipped from each plant to every region as variable and choose the fixed
cost based on the emerging production quantities in each plant location. The total system
cost is then minimized with the following constraints:
a. All shipment numbers need to be positive integers.
b. The maximum production capacity is 400,000
c. All shipments to a region should add up to the requirement for 2006 .

Optimization model:
n = 4: potential sites.
m = 4: number of regional markets.
Dj = Annual units needed of regional market j
Ki = maximum possible capacity of potential sites.
Each Ki is assigned value 400000. If actually needed
capacity is less than or equal to 200000, we choose fixed cost accordingly.
fi = Annualized fixed cost of setting up a potential site.
cij = Cost of producing and shipping an air conditioner from site i to regional market
j
 yi = 1 if site i is open, 0 otherwise
xij = Number of air conditioners from site i to regional market j.
It should be integral and non-negative
n n m
Min i 1
fi yi cij xij
i 1 j 1

Subject to
n

x
i 1
ij D j for j 1,...,m (5.1)
m

x
j1
ij K i yi for i 1,...,n (5.2)

SYMBOL INPUT CELL

Dj requirement at market j K10:K13
C10:C13,E10:E1
cij Variable cost from plant i to market j 3
G10:G13,I10:I13
fixed cost of setting up plant i C7:C8,E7:E8
fi
G7:G8,I7:I8
D10:D13,F10:F1
3
xij number of consultants from office i to state j.
H10:H13,J10:J1
3
obj. objective function K21
5.1 demand constraints L10:L13
(Sheet DryIce in workbook exercise5.2.xls)
We get the following results:

The optimal solution suggests setting up 4 regional plants with each serving the needs of
its own region. New York, Atlanta, Chicago and San Diego should each have a 200,000
capacity plant with production levels of 110000, 180000, 120000, 100000, respectively.

3. Sunchem, a manufacturer of printing inks, has five manufacturing plants worldwide.

Their locations and capacities are shown in Table 5-7 along with the cost of producing 1
ton of ink at each facility. The production costs are in the local currency of the country
where the plant is located. The major markets for the inks are North America, South
America, Europe, Japan, and the rest of Asia. Demand at each market is shown in Table 5-
7. Transportation costs from each plant to each market in U.S. dollars are shown in Table
5-7. Management must come up with a production plan for the next year.

(a) If exchange rates are expected as in Table 5-8, and no plant can run below 50 percent
of capacity, how much should each plant produce and which markets should each plant
supply?
Answers:
Sunchem can use the projections to build an optimization model as shown below. In this
case, the shipments from each plant to every market are assumed to be variable and solved
to find the minimum total cost. This is done by utilizing the following constraints:
Each plant runs at least at half capacity.
Sum of all shipments from the plant needs to be less than or equal to the capacity in
that plant.
All production volumes are non-negative.
All calculations are performed at the exchange rates provided.
Optimization model:
n = 5: five manufacturing plants
m = 5: number of regional markets.
Dj = Annual tons of ink needed for regional market j
Ki = Maximum possible capacity of manufacturing plants.
Especially for (a) lower limit for capacity is 50%*Ki .
cij = Cost of shipping one ton of printing ink from plant i to regional market j
pi = Cost of producing one ton of printing ink at plant i
xij = Tons of printing ink shipped from site i to regional market j.
It should be integral and non-negative
n m
Min (c
i 1 j 1
ij pi ) xij

Subject to
n

x
i 1
ij D j for j 1,...,m (5.1)
m

x
j1
ij K i for i 1,...,n (5.2)

x
j1
ij 0.5K i for i 1,...,n (5.3)

SYMBOL INPUT CELL

Dj Annual demand at market j N4:N8
D4:D8,F4:F8,H4:H8,
cij shipping cost from plant i to regional market j
J4:J8, L4:L8
production cost of at plant i
pi D12,F12,H12,J12,L12
E4:E8,G4:G8,I4:I8,
xij printing ink shipped from site i to regional market j
K4:K8, M4:M8
obj. objective function N18
5.1 demand constraints O4:O8
E10,G10,I10,K10,M1
5.2 capacity constraints
0
E10,G10,I10,K10,M1
5.3 50% capacity constraints
0
(Sheet capacity_constraints in workbook exercise5.3.xls)
The optimal result is summarized in the following table:

US ShipmentGermany Shipment
Japan Shipment Brazil Shipment India Shipment Demand(ton/yr)
N. America 600 100 1,300 160 2,000 - 1,200 10 2,200 - 270 -
S. America 1,200 - 1,400 - 2,100 - 800 190 2,300 - 190 0
Europe 1,300 - 600 200 1,400 - 1,400 - 1,300 - 200 -
Japan 2,000 - 1,400 95 300 25 2,100 - 1,000 - 120 0
Asia 1,700 - 1,300 20 900 - 2,100 - 800 80 100 -
Capacity (ton/yr) 185 100 475 475 50 25 200 200 80 80
Minimum Run Rate 93 238 25 100 40
$ Mark Yen Real Rs.
Production Cost per Ton 10,000 15,000 1,800,000 13,000 400,000
Exch Rate 1.000 0.502 0.009 0.562 0.023
Prod Cost per Ton(US$) 10,000 7,530 16,740 7,306 9,200
Production Cost In US$ 1,000,000 3,576,750 418,500 1,461,200 736,000
Tpt Cost in US$ 60,000 487,000 7,500 164,000 64,000

Total 1,060,000 4,063,750 426,000 1,625,200 800,000 7,974,950

This is clearly influenced by the production cost per ton and the local market demand. Low
cost structure plants need to operate at capacity.

(b) If there are no limits on the amount produced in a plant, how much should each plant
produce?
If there are no limits on production we can perform the same exercise as in (a) but without
the capacity constraints (5.2) and (5.3). This gives us the following results:

US ShipmentGermany Shipment
Japan Shipment Brazil Shipment India Shipment Demand(ton/yr)
N. America 600 - 1,300 - 2,000 - 1,200 270 2,200 - 270 -
S. America 1,200 - 1,400 - 2,100 - 800 190 2,300 - 190 0
Europe 1,300 - 600 200 1,400 - 1,400 - 1,300 - 200 -
Japan 2,000 - 1,400 120 300 - 2,100 - 1,000 - 120 0
Asia 1,700 - 1,300 100 900 - 2,100 - 800 - 100 -
Capacity (ton/yr) 185 - 475 420 50 - 200 460 80 -
Minimum Run Rate 93 238 25 100 40
$ Mark Yen Real Rs.
Production Cost per Ton 10,000 15,000 1,800,000 13,000 400,000
Exch Rate 1.000 0.502 0.009 0.562 0.023
Prod Cost per Ton(US$) 10,000 7,530 16,740 7,306 9,200
Production Cost In US$ - 3,162,600 - 3,360,760 -
Tpt Cost in US$ - 418,000 - 476,000 -

Total - 3,580,600 - 3,836,760 - 7,417,360

Clearly by having no restrictions on capacity SunChem can reduce costs by $557,590. The
analysis shows that there are gains from shifting a significant portion of production to
Brazil and having no production in Japan, US and India.
(c) Can adding 10 tons of capacity in any plant reduce costs?
From the scenario in (a) we see that two of the plants are producing at full capacity. And
in (b), we see that it is more economical to produce higher volumes in Brazil. Once we add
10 tons/year to Brazil, the cost reduces to $7,795,510.

US ShipmentGermany Shipment
Japan Shipment Brazil Shipment India Shipment Demand(ton/yr)
N. America 600 115 1,300 135 2,000 - 1,200 20 2,200 0 270 (0)
S. America 1,200 - 1,400 - 2,100 - 800 190 2,300 - 190 -
Europe 1,300 - 600 200 1,400 - 1,400 - 1,300 - 200 -
Japan 2,000 - 1,400 120 300 - 2,100 - 1,000 - 120 -
Asia 1,700 - 1,300 20 900 - 2,100 - 800 80 100 -
Capacity (ton/yr) 185 115 475 475 50 - 210 210 80 80
Minimum Run Rate 93 238 25 105 40
$ Mark Yen Real Rs.
Production Cost per Ton 10,000 15,000 1,800,000 13,000 400,000
Exch Rate 1.000 0.502 0.009 0.562 0.023
Prod Cost per Ton(US$) 10,000 7,530 16,740 7,306 9,200
Production Cost In US$ 1,150,000 3,576,750 - 1,534,260 736,000
Tpt Cost in US$ 69,000 489,500 - 176,000 64,000

Total 1,219,000 4,066,250 - 1,710,260 800,000 7,795,510

(d) How should Sunchem account for the fact that exchange rates fluctuate over time?
It is clear that fluctuations in exchange rates will change the cost structure of each plant. If
the cost at a plant becomes too high, there is merit in shifting some of the production to
another plant. Similarly if a plants cost structure becomes more favorable, there is merit
in shifting some of the production from other plants to this plant. Either of these scenarios
requires that the plants have built in excess capacity. Sunchem should plan on making
excess capacity available at its plants.

4. Sleekfon and Sturdyfon are two major cell phone manufacturers that have recently
merged. Their current market sizes are as shown in Table 5-9. All demand is in millions of
units. Sleekfon has three production facilities in Europe (EU), North America, and South
America. Sturdyfon also has three production facilities in Europe (EU), North America,
and the rest of Asia/Australia. The capacity (in millions of units), annual fixed cost (in
millions of $), and variable production costs ($ per unit) for each plant are as shown in
Table 5-10. Transportation costs between regions are as shown in Table 5-11. All
transportation costs are shown in dollars per unit. Duties are applied on each unit based on
the fixed cost per unit capacity, variable cost per unit, and transportation cost. Thus, a unit
currently shipped from North America to Africa has a fixed cost per unit of capacity of
$5.00, a variable production cost of $5.50, and a transportation cost of $2.20. The 25
percent import duty is thus applied on $12.70 (5.00 + 5.50 + 2.20) to give a total cost on
import of $15.88. For the questions that follow, assume that market demand is as in Table
5-9. The merged company has estimated that scaling back a 20-million-unit plant to 10
million units saves 30 percent in fixed costs. Variable costs at a scaled-back plant are
unaffected. Shutting a plant down (either 10 million or 20 million units) saves 80 percent
in fixed costs. Fixed costs are only partially recovered because of severance and other costs
associated with a shutdown.

(a) What is the lowest cost achievable for the production and distribution network
prior to the merger? Which plants serve which markets?
Starting from the basic models in (a), we will build more advanced models in the
subsequent parts of this question. Prior to merger, Sleekfon and Sturdyfon operate
independently, and so we need to build separate models for each of them.

Optimization model for Sleekfon:

n = 3: Sleekfon production facilities.
m = 7: number of regional markets.
Dj = Annual market size of regional market j
Ki = maximum possible capacity of production facility i
cij = Variable cost of producing, transporting and duty from facility i to market j
fi = Annual fixed cost of facility i
xij = Number of units from facility i to regional market j.
It should be integral and non-negative.
n n m
Min i 1
fi cij xij
i 1 j 1

Subject to
n

x
i 1
ij D j for j 1,...,m (5.1)
m

x
j1
ij K i for i 1,...,n (5.2)

Please note that we need to calculate the variable cost cij before we plug it into the
optimization model. Variable cost cij is calculated as follows:
cij = production cost per unit at facility i + transportation cost per unit from facility i to
market j + duty*( production cost per unit at facility i + transportation cost per unit from
facility i to market j + fixed cost per unit of capacity)
SYMBOL INPUT CELL
Dj Annual market size of regional market j B4:H4
Ki maximum possible capacity of production facility i C12:C14
Variable cost of producing, transporting and duty from facility i
cij B22:H28
to market j
Annual fixed cost of facility i
fi D12:D17
xij Number of units from facility i to regional market j. C43:I45
obj. objective function D48
5.1 demand constraints J43:J45
5.2 capacity constraints C46:I46
(Sheet sleekfon in workbook problem5.4)

The above model gives optimal result as in following table:

N. S. Europe Europe Japan Rest of Africa Capacity

Quantity Shipped America America (EU) (Non EU) Asia/Australia

Europe
(EU) 0.00 0.00 20.00 0.00 0.00 0.00 0.00 0.00
Sleekfon N.
America 10.00 0.00 0.00 3.00 2.00 2.00 0.00 3.00
S.
America 0.00 4.00 0.00 0.00 0.00 0.00 1.00 5.00
Demand 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Total Cost for Sleekfon = $ 564.39

And we use the same model but with data from Sturdyfon to get following optimal
production and distribution plan for Sturdyfon:
 N. S. Europe Europe Japan Rest of Africa Capacity
Quantity Shipped America America (EU) (Non EU) Asia/Australia

Europe
(EU) 0.00 0.00 4.00 8.00 0.00 0.00 1.00 7.00
Sturdyfon N.
America 12.00 1.00 0.00 0.00 0.00 0.00 0.00 7.00
Rest of
Asia 0.00 0.00 0.00 0.00 7.00 3.00 0.00 0.00
Demand 0 0 0 0 0 0 0

Total cost for Sturdyfon = 512.68

(b) What is the lowest cost achievable for the production and distribution network
after the merger if none of the plants is shut down? Which plants serve which
markets?
Under conditions of no plant shutdowns, the previous model is still applicable. However,
we need to increase the number of facilities to 6, i.e., 3 from Sleekfon and 3 from Sturdyfon.
And the market demand at a region needs revised by combining the demands from the two
companies. Decision maker has more facilities and greater market share in each region,
and hence has more choices for production and distribution plans. The optimal result is
summarized in the following table.

N. S. Europe Europe Japan Rest of Africa Capacity

America America (EU) (Non EU) Asia/Australia

Europe
(EU) 0.00 0.00 4.00 11.00 0.00 0.00 2.00 3.00
Sleekfon N.
America 16.00 0.00 0.00 0.00 4.00 0.00 0.00 0.00
S.
America 0.00 5.00 0.00 0.00 0.00 0.00 0.00 5.00
Europe
(EU) 0.00 0.00 20.00 0.00 0.00 0.00 0.00 0.00
Sturdyfon N.
America 6.00 0.00 0.00 0.00 0.00 0.00 0.00 14.00
Rest of
Asia 0.00 0.00 0.00 0.00 5.00 5.00 0.00 0.00
Demand 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Total Cost for Merged Network = 1066.82

(c) What is the lowest cost achievable for the production and distribution network
after the merger if plants can be scaled back or shut down in batches of 10 million
units of capacity? Which plants serve which markets?

This model is more advanced since it allows facilities to be scaled down or shutdown.
Accordingly we need more variables to reflect this new complexity.

Optimization model for Sleekfon:

n = 6: Sleekfon and Sturdyfon production facilities.
m = 7: number of regional markets.
Dj = Annual market size of regional market j, sum of the Sleekfon and Sturdyfon market
share.
Ki =capacity of production facility i
Li =capacity of production facility if it is scaled back
cij = Variable cost of producing, transporting and duty from facility i to market j
fi = Annual fixed cost of facility i
gi = Annual fixed cost of facility i if it is scaled back
hi = Shutdown cost of facility i
xij = Number of units from facility i to regional market j.
It should be integral and non-negative.
yi = Binary variable indicating whether to scale back facility i. yi = 1 means to scale it
back, 0 otherwise.
Since two facilities, Sleekfon S America and Sturdyfon Rest of Asia, can not be
scaled back, the index i
doesnt include these two facilities.
zi = Binary variable indicating whether to shutdown facility i. zi =1 means to shutdown
it, 0 otherwise.
(1-yi zi) would be the binary variable indicating whether the facility is unaffected.
 n n m
Min ( f (1 y z ) g y h z ) c x
i 1
i i i i i i i
i 1 j 1
ij ij

Subject to
n

x
i 1
ij D j for j 1,..., m (5.1)
m

x
j 1
ij K i (1 yi zi ) Li yi for i 1,..., n (5.2)

1 yi zi 0 for i 1,..., n (5.3)

yi , zi are binary for i 1,..., n (5.4)

Please note that we need to calculate the variable cost cij before we plug it into the
optimization model. Variable cost cij is calculated as following:
cij = production cost per unit at facility i + transportation cost per unit from facility i to
market j + duty*( production cost per unit at facility i + transportation cost per unit from
facility i to market j + fixed cost per unit of capacity)

And we also need to prepare fixed cost data for the two new scenarios: shutdown and scale
back. As explained in the problem description, fixed cost for a scaled back facility is 70%
of the original one; and it costs 20% of the original annual fixed cost to shutdown it.

Above model gives optimal solution as summarized in the following table. The lowest cost
possible in this model is $988.93, much lower than the result we got in (b) $1066.82. As
shown in the result, the Sleekfon N.America facility is shutdown, and the market is mainly
served by Sturdyfon N.America facility. The N.America market share is 22, and there are
40 in terms of production capacity, hence it is wise to shutdown one facility whichever is
more expensive.
 N. S. Europe Europe Japan Rest of Africa Scale back Shut down Plant Capacity
Quantity Shipped America America (EU) (Non EU) Asia/Australia unaffected

Europe
(EU) 0.00 0.00 5.00 11.00 0.00 0.00 2.00 0.00 0.00 1.00 2.00
Sleekfon N.
America 20.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1.00 0.00
S.
America 2.00 5.00 0.00 0.00 3.00 0.00 0.00 0 0.00 1.00 0.00
Europe
(EU) 0.00 0.00 19.00 0.00 1.00 0.00 0.00 0.00 0.00 1.00 0.00
Sturdyfon N.
America 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1.00 0.00 0.00
Rest of
Asia 0.00 0.00 0.00 0.00 5.00 5.00 0.00 0.00 0.00 1.00 0.00
Demand 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Total Cost for Merged Network = 988.93

For questions (d) and (e), we need to change the duty to zero and run the optimization
model again to get the result.

5. Return to the Sleekfon and Sturdyfon data in Exercise 4. Management has estimated that
demand in global markets is likely to grow. North America, Japan, and Europe (EU) are
relatively saturated and expect no growth. South America, Africa, and Europe (Non-EU)
markets expect a growth of 20 percent. The rest of Asia/Australia anticipates a growth of
200 percent.
a. How should the merged company configure its network to accommodate the anticipated
growth? What is the annual cost of operating the network?
b. There is an option of adding capacity at the plant in the rest of Asia/Australia. Adding
10 million units of capacity incurs an additional fixed cost of $40 million per year. Adding
20 million units of additional capacity incurs an additional fixed cost of $70 million per
year. If shutdown costs and duties are as in Exercise 4, how should the merged company
configure its network to accommodate anticipated growth? What is the annual cost of
operating the new network?
c. If all duties are reduced to 0, how does your answer to Exercise 5(b) change?
d. How should the merged network be configured giventhe option of adding to the plant in
the rest of Asia/ Australia?
Answers:
(a)
The model we developed in 4.d is applicable to this question. We only need to update the
demand data accordingly. And the new demand structure yields a quite different optimal
configuration of the network.

N. S. Europe Europe Japan Rest of Africa Scale back Shut down Plant Small Large Capacity
Quantity Shipped America America (EU) (Non EU) Asia/Australia unaffected addition Addition

Europe
(EU) 0.00 0.00 20.00 0.00 0.00 0.00 0.00 0.00 0.00 1.00 0.00
Sleekfon N.
America 15.60 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1.00 4.40
S.
America 0.00 6.00 0.00 0.00 0.00 0.00 0.00 0 0.00 1.00 4.00
Europe
(EU) 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1.00 0.00 0.00
Sturdyfon N.
America 6.40 0.00 4.00 9.60 0.00 0.00 0.00 0.00 0.00 1.00 0.00
Rest of
Asia 0.00 0.00 0.00 3.60 9.00 15.00 2.40 0.00 0.00 1.00 0.00 1.00 0.00
Demand 0.00 0.00 0.00 0.00 0.00 0.00 0.00 1.00

Total Cost for Merged Network 1141.77

As shown in the table, Sturdyfon N.America is not shutdown in this optimal result. Instead,
Sturdyfon EU facility is shutdown.

For questions (b), (c) and (d), we need to update Excel sheet data accordingly and rerun
the optimization model.

6. StayFresh, a manufacturer of refrigerators in India, has two plants -- one in Mumbai and
the other in Chennai. Each plant has a capilcity of 300,000 units. The two plants serve the
entire country, which is divided into four regional markets: the North, with a demand of
100,000 units; the West, with a demand of 150,000 units; the South, with a demand of
150,000 units; and the East, with a demand of 50,000 units. Two other potential sites for
plants include Delhi and Kolkata. The variable production and transport costs (in thousands
of rupees: 1 U.S. dollar is worth about 45 rupees) per refrigerator from each potential
production site to each market are as shown in Table 5.12
 Table 5.12
To North South East West

From Delhi Kolkata Delhi Kolkata Delhi Kolkata Delhi Kolkata

Up to 250 258 270 260 255 250 250 270

150K
Above 230 240 250 245 240 230 238 250
150K
but less
than
300K

Questions:
a. How should the production network for the company evolve over the next five
years?
b. How does your answer change if the anticipated growth is 15 %? 25 %?
c. How does your decision change for a discount factor of 0.25? 0.15?
d. What investment strategy do you recommend for the company?

Answers:
(a)The production network for the company evolution over the next five years
The case study says that the growth in demand is expected to be 20 percent per year for the
next five years and Stay Fresh plans to meet this demand. The table below shows the
demand schedule for the next 5 years and the demand is anticipated to stabilize after the 5
years of growth.
Year South(S) West(W) North(N) East(E) Total Demand (S+W+N+E)
0 150,000 150,000 100,000 50,000 450,000
1 180,000 180,000 120,000 60,000 540,000
2 216,000 216,000 144,000 72,000 648,000
3 259,200 259,200 172,800 86,400 777,600
4 311,040 311,040 207,360 103,680 933,120
5 373,248 373,248 248,832 124,416 11,19,744
Stay fresh already has an installed capacity of 600,000 units (300,000 in Mumbai and
300,00 in Chennai). Total planned capacity addition for the next 5 years is 5, 19,744 units
(11, 19,744 - 600,000). In order to match to this demand, Stay Fresh can increase their
production capacity by either 300,000 units or 150,000 units in Delhi and/or Kolkata. Thus,
Stay Fresh will need an additional capacity of 600,000 units in the next 5 years.
Now, capacity addition of 150,000 units incurs a one time cost of Rs. 2 Billion and that of
300,000 units costs Rs. 3.4 Billion as per the given information. We have to assume a
discount rate of 0.2. As we do not have the information about the cash inflows or revenue,
it is not possible to find out the profitability of the investment. However, using the NPV
(Net Present Value) concept we can find out the investment which costs least to the
company or least capital outflow. We will also have to make sure that the capacity for each
year is in place before the beginning of the year. To start with we have to analyze various
scenarios in which these capacity additions can be made. We will discuss the profitability
of the location later.
1. Adding 150,000 units every year,
NPV= 2/ (1.2) +2/ (1.2) (1.2) +2/ (1.2) (1.2) (1.2) +2/ (1.2) (1.2) (1.2) (1.2) = (5.177) Billion
Rs.
2. Adding 600,000 (2*300,000) in the first year,
NPV= 2*3.4/1.2= (5.67) Billion Rs.
3. Adding 300,000 units in first and the third year,
NPV= 3.4/ (1.2) +3.4 / (1.2) (1.2) = (4.8) Billion Rs.
Thus, it is clear that the third option has the least cost outflow or highest NPV.

We now know that we have to add 300,000 units in the first and the third year, but it is
important to find out which location will be more economical in terms of transportation
cost. The capacity addition is to be done in either Delhi and/or Kolkata. As per the demand
schedule Delhi has a higher demand than Kolkata so there could be two scenarios here,
adding both these capacities of 300,000 units in Delhi in the first and the third year or we
can add first 300,000 units in Delhi and the next 300,000 units in Kolkata.
To North South East West

From Delhi Kolkata Delhi Kolkata Delhi Kolkata Delhi Kolkata

Up to 250 258 270 260 255 250 250 270

150K
Above 230 240 250 245 240 230 238 250
150K but
less than
300K

As the cost for the fifth year will continue for the next 10 years, we will find out
transportation cost for the 5th year in both of these scenarios.

1. Capacity addition of 600,000 (300,000 in first and 300,000 in second year) in Delhi.
Then transportation cost as per the table will be, (73248*270)+ (73248*250) +
(124416*255) + (248832*230) = 5.72 Billion Rs.
2. Capacity addition of 300,000 in Delhi and 300,000 in Kolkata. Then, the
transportation cost would be,(73248*260)+ (73248*250) + (124416*250) +
(248832*230) = 5.66 Billion Rs.
The second option is clearly more economical.
Thus, the production network of Stay Fresh will be most economical if they install a
capacity of 300,000 units in the first year in Delhi and subsequently another 300,000 unit
capacity in the third year in Kolkata.
Change if the anticipated growth is 15 %? 25 %
a. When the anticipated yearly growth is 15%.
The case study says that the growth in demand is expected to be 15 percent per year for
the next five years and Stay Fresh plans to meet this demand. The table below shows the
demand schedule for the next 5 years and the demand is anticipated to stabilize after the 5
years of growth.
Year South(S) West(W) North(N) East(E) Total
Demand
(S+W+N+E)
0 150,000 150,000 100,000 50,000 450,000
1 172,500 172,500 115,000 57,500 517,500
2 198,375 198,375 132,250 66,125 595,485
3 228,132 228,132 152,088 76,044 684,396
4 262,352 262,352 174,902 87,451 787,057
5 301,705 301,705 201,138 100,569 905,117

Stay fresh already has an installed capacity of 600,000 units (300,000 in Mumbai and
300,00 in Chennai). Total planned capacity addition for the next 5 years is 305,117 units
(905,117 - 600,000). In order to match to this demand, Stay Fresh can increase their
production capacity by either 300,000 units or 150,000 units in Delhi and/or Kolkata. Thus,
Stay Fresh will need an additional capacity of 600,000 units in the next 5 years.
Now, capacity addition of 150,000 units incurs a one time cost of Rs. 2 Billion and that of
300,000 units costs Rs. 3.4 Billion as per the given information. We have to assume a
discount rate of 0.2. As we do not have the information about the cash inflows or revenue,
it is not possible to find out the profitability of the investment. However, using the NPV
(Net Present Value) concept we can find out the investment which costs least to the
company or least capital outflow. We will also have to make sure that the capacity for each
year is in place before the beginning of the year. To start with we have to analyze various
scenarios in which these capacity additions can be made. We will discuss the profitability
of the location later.
 1. Adding 150,000 units every year, NPV= 2/ (1.2) +2/ (1.2) (1.2) +2/ (1.2) (1.2) (1.2)
+2/ (1.2) (1.2) (1.2) (1.2) = (5.177) Billion Rs.
2. Adding 600,000 (2*300,000) in the first year, NPV= 2*3.4/1.2= (5.67) Billion Rs.
3. Adding 300,000 units in first and the third year, NPV= 3.4/ (1.2) +3.4 / (1.2) (1.2)
= (4.8) Billion Rs.

Thus, it is clear that the third option has the least cost outflow or highest NPV.
We now know that we have to add 300,000 units in the first and the third year, but it is
important to find out which location will be more economical in terms of transportation
cost. The capacity addition is to be done in either Delhi and/or Kolkata. As per the demand
schedule Delhi has a higher demand than Kolkata so there could be two scenarios here,
adding both these capacities of 300,000 units in Delhi in the first and the third year or we
can add first 300,000 units in Delhi and the next 300,000 units in Kolkata.

To North South East West

From Delhi Kolkata Delhi Kolkata Delhi Kolkata Delhi Kolkata

Up to 250 258 270 260 255 250 250 270

150K
Above 230 240 250 245 240 230 238 250
150K
but less
than
300K
As the cost for the fifth year will continue for the next 10 years, we will find out
transportation cost for the 5th year in both of these scenarios.
1. Capacity addition of 600,000 (300,000 in first and 300,000 in second year) in Delhi.
Then transportation cost as per the table will be, (1705*270)+ (1705*250) +
(100,569*255) + (201,138*230) = Billion Rs.
2. Capacity addition of 300,000 in Delhi and 300,000 in Kolkata. Then, the
transportation cost would be, (1705*260)+ (1705*250) + (100,569*250) +
(201,138*230) = Billion Rs.
The second option is clearly more economical.
Thus, the production network of Stay Fresh will be most economical if they install a
capacity of 300,000 units in the first year in Delhi and subsequently another 300,000 unit
capacity in the third year in Kolkata.

b. When the anticipated yearly growth is 25%.

The case study says that the growth in demand is expected to be 25 percent per year for
the next five years and Stay Fresh plans to meet this demand. The table below shows the
demand schedule for the next 5 years and the demand is anticipated to stabilize after the 5
years of growth.
Year South(S) West(W) North(N) East(E) Total
Demand
(S+W+N+E)
0 150,000 150,000 100,000 50,000 450,000
1 187,500 187,500 125,000 62,500 562,500
2 234,375 234,375 156,250 78,125 703,125
3 292,969 292,969 195,313 97,657 878,908
4 366,212 366,212 244,142 122,072 10,98,638
5 457,765 457,765 305,178 152,590 13,73,298

Stay fresh already has an installed capacity of 600,000 units (300,000 in Mumbai and
300,00 in Chennai). Total planned capacity addition for the next 5 years is 773,298 units
(13,73298 - 600,000). In order to match to this demand, Stay Fresh can increase their
production capacity by either 300,000 units or 150,000 units in Delhi and/or Kolkata. Thus,
Stay Fresh will need an additional capacity of 600,000 units in the next 5 years.
Now, capacity addition of 150,000 units incurs a one time cost of Rs. 2 Billion and that of
300,000 units costs Rs. 3.4 Billion as per the given information. We have to assume a
discount rate of 0.2. As we do not have the information about the cash inflows or revenue,
it is not possible to find out the profitability of the investment. However, using the NPV
(Net Present Value) concept we can find out the investment which costs least to the
company or least capital outflow. We will also have to make sure that the capacity for each
year is in place before the beginning of the year. To start with we have to analyze various
scenarios in which these capacity additions can be made. We will discuss the profitability
of the location later.
1. Adding 150,000 units every year, NPV= 2/ (1.2) +2/ (1.2) (1.2) +2/ (1.2) (1.2) (1.2)
+2/ (1.2) (1.2) (1.2) (1.2) = (5.177) Billion Rs.
2. Adding 600,000 (2*300,000) in the first year, NPV= 2*3.4/1.2= (5.67) Billion Rs.
3. Adding 300,000 units in first and the third year, NPV= 3.4/ (1.2) +3.4 / (1.2) (1.2)
= (4.8) Billion Rs.

Thus, it is clear that the third option has the least cost outflow or highest NPV.
We now know that we have to add 300,000 units in the first and the third year, but it is
important to find out which location will be more economical in terms of transportation
cost. The capacity addition is to be done in either Delhi and/or Kolkata. As per the demand
schedule Delhi has a higher demand than Kolkata so there could be two scenarios here,
adding both these capacities of 300,000 units in Delhi in the first and the third year or we
can add first 300,000 units in Delhi and the next 300,000 units in Kolkata.
To North South East West

From Delhi Kolkata Delhi Kolkata Delhi Kolkata Delhi Kolkata

Up to 250 258 270 260 255 250 250 270

150K
Above 230 240 250 245 240 230 238 250
150K
but less
than
300K

As the cost for the fifth year will continue for the next 10 years, we will find out
transportation cost for the 5th year in both of these scenarios.
1. Capacity addition of 600,000 (300,000 in first and 300,000 in second year) in Delhi.
Then transportation cost as per the table will be, (157,765*270)+ (157765*250) +
(152,590*255) + (5,178*230) = Billion Rs.
2. Capacity addition of 300,000 in Delhi and 300,000 in Kolkata. Then, the
transportation cost would be, (157,765*260)+ (157765*250) + (152,590*250) +
(5,178*230) = Billion Rs.
The second option is clearly more economical.
Thus, the production network of Stay Fresh will be most economical if they install a
capacity of 300,000 units in the first year in Delhi and subsequently another 300,000 unit
capacity in the third year in Kolkata.

3. Decision change when the discount factor changes to 0.25 or 0.15?

In this case study we have assumed a discount rate of 0.2 or 20%. Now, in this case we
have used discounted cash flow technique of investment appraisal which involves
calculation of the present value of all the cash flows associated with a project. However, in
this case we are not aware of the inflows; we only have information about the cash
outflows. Thus, we have used the Net Present Value concept to find out the investment
strategy which would cost least instead of using it for investment appraisal. Net Present
Value can be interpreted as,
NPV> 0: project earns more than the discount rate.
NPV< 0: project earns less than the discount rate.
NPV= 0: project earns the same as the discount rate.
As in this case we have only compared the cash outflows instead of appraising it, change
in discount rate to 0.25 or 0.15 would not change our strategy or decision.
What investment strategy do you recommend for the company?
Investment strategy
There is no universal investment strategy for deciding which one of the alternatives is the
best. Sometimes, a choice can be obvious, and at other times not so clear, depending on the
companys circumstances such as:
Whether capital is available or whether it needs to be borrowed
The ability to pay rate of interest
General Liquidity
Quality of market research and demand forecast
Vision and Goal of the company
Uncertainty of estimated flows
All other factors which are part of the Value Chain
So, a generic strategy would not work for Stay Fresh. However, we have seen in this case
that the most significant thing for this company is the transportation charge. It is seen that
the yearly transportation charge in some of the questions discussed above is more than
the total installation charges of the project. When we were preparing the demand
schedule for various anticipated growth rate of 20%, 15% and 25%, we increased the
capacity only in Delhi and Kolkata. Thus, it is imperative for this company to install more
capacity in relevant zones as per the demand schedule to reduce the transportation charges.
We have used the concept of Net Present Value to find out the investment strategy in this
case. However, we do not know if the project is profitable as the value of cash inflows or
revenue wasnt available. It is seen that some of the locations have idle capacity just to
meet little extra demand. So, we would need some more information to precisely comment
on the financial feasibility of this project.

7 Blue Computers, a major PC manufacturer in the United States, currently has plants in
Kentucky, Pennsylvania, N. Carolina, and California.The firmdivided United States into
five markets: Northeast, Southeast, Midwest, South, West. Production and shipping cost
per unit, current regional demand,plant capacities are shown in the table below.What is the
optimal shipping pattern to minimize the total production and shipping cost? The firm
divides the United States into five markets: northeast, southeast, midwest, south, and west.
Each server sells for $1,000. The firm anticipates a 50 percent growth in demand (in each
region) this year (after which demand will stabilize) and wants to build a plant with a
capacity of 1.5 million units per year to accommodate the growth. Potential sites being
considered are in North Carolina and California. Currently the firm pays federal, state, and
local taxes on the income from each plant. Federal taxes are 20 percent of income, and all
state and local taxes are 7 percent of income in each state. North Carolina has offered to
reduce taxes for the next 10 years from 7 percent to 2 percent. Blue Computers would like
to take the tax break into consideration when planning its network. Consider income over
the next 10 years in your analysis. Assume that all costs remain unchanged over the 10
years. Use a discount factor of 0.1 for your analysis. Annual fixed costs, production and
shipping costs per unit, and current regional demand (before the 50 percent growth) are
shownin Table 5-13.
a. If Blue Computers sets an objective of minimizing total fixed and variable costs,
there should it build the newplant? How should the network be structured?
b. If Blue Computers sets an objective of maximizing aftertax profits, where should it
build the new plant? How should the network be structured?
(a)
Blue Computers has two plants in Kentucky and Pennsylvania, however both have high
variable costs to serve the West regional market. On the other hand, West regional market
has 2nd highest demand. Hence it is not hard to see that Blue Computers needs a new plant,
which can serve the West regional market at a lower cost. From this point of view,
California is a better choice than N.Carolina since California has a lower variable cost
serving West regional market. However, N.Carolina has extra tax benefit. Even if a
network of Kentucky, Pennsylvania, and California might yield higher before-tax profit
than a network of Kentucky, Pennsylvania, and N.Carolina, the after-tax profit might be
worse.

n = 2 potential sites.
m = 4: number of regional markets.
Dj = Annual units needed of regional market j
Ki = maximum possible capacity of potential sites.
fi = Annualized fixed cost of setting up a potential site.
cij = Cost of producing and shipping a computer r from site i to regional market j
yi = 1 if site i is open, 0 otherwise
xij = Number of products from site i to regional market j.
It should be integral and non-negative
n n m
Min i 1
fi yi cij xij
i 1 j 1

Subject to
n

x
i 1
ij D j for j 1,..., m (5.1)
m

x
j 1
ij K i yi for i 1,..., n (5.2)

y3 y4 1 add at most one site (5.3)

y3 , y4 are binary (5.4)

SYMBOL INPUT CELL

Dj Annual market size of regional market j B9:F9
Ki maximum possible capacity of production facility i H5:H8
Variable cost of producing, transporting and duty from facility i
cij B5:F8
to market j
Annual fixed cost of facility i
fi G5:G8
xij Number of units from facility i to regional market j. B17:F20
obj. objective function I21
5.1 demand constraints B21:F21
5.2 capacity constraints H17:H20
 5.4 see explanation in next paragraph
(Sheet Blue in workbook problem5.7.xls)

Even though constraint (5.4) is simple in its mathematical notation, we can do better in
practice. Since at most one site can be open, we can run the optimization three times for
three scenarios respectively: none open, only California, or only N.Carolina. And we
compare the three results and choose the best one. It is much faster to solve these three
scenarios separately given that EXCEL solver cannot achieve a converging result with
constraint (5.4). The result below shows the optimal solution when California is picked
up.

Shipment Northeast Southeast Midwest South West Open (1) / Capacity Cost
Shut (0) Constraint
Kentucky 0 0 600 0 0 1 400.00 $ 255,000
Pennsylvania 0 150 2.43E-09 450 900 1 0.00 $ 516,500
N. Carolina 0 0 0 0 0 1.00 1500.00 $ 200,000
California 1050 450 0 0 0 1 0.00 $ 530,000
Demand -2.65E-06 -1.5E-06 5.01E-10 -1.1E-06 -2.3E-06
constraint Total Cost = 1501500

(b)
We only need to change the objective function from minimize cost to maximize profit. On
the Excel sheet, all we need to do is to set the target cell from I21 to L21, and change the
direction of optimization from minimizing to maximizing. The following table shows the
result. It is easy to see that lowest cost doesnt mean maximum after tax profit.

Shipment Northeast Southeast Midwest South West Open (1) / Capacity Cost Revenue Profit After tax
Shut (0) Constraint profit
Kentucky 0 600 0 400 0 1 0.00 $ 328,000 $ 1,000,000 $ 672,000 $ 490,560
Pennsylvania 1050 0 450 0 0 1 0.00 $ 459,500 $ 1,500,000 $ 1,040,500 $ 759,565
N. Carolina 0 0 0 0 0 0.00 0.00 $ 0 $ - $ (0) $ (0)
California 0 0 150 50 900 1 400.00 $ 396,500 $ 1,100,000 $ 703,500 $ 513,555
Demand -2.65E-06 -1.5E-06 -1.5E-06 -1.1E-06 -2.3E-06
constraint Total Cost = 1184000 Total Profit = $ 1,763,680
8. Hot&Cold and CaldoFreddo are two European manufacturers manufacturers of home
appliances that have merged. Hot&Cold has plants in France, Germany, and Finland,
whereas Caldo- Freddo has plants in the United Kingdom and Italy. The European markets
divided into four regions: north, east, west, and south. Plant capacities (millions of units
per year), annual fixed costs (millions of euros per year), regional demand (millions of
units), and variable production and shipping costs (euros per unit) are as shown in Table
5-14. Each appliance sells for an average price of 300 euros. All plants are currently treated
as profit centers, and the company pays taxes separately for each plant. Tax rates in the
various countries are as follows: France, 0.25; Germany, 0.25; Finland, 0.3; UK, 0.2; and
Italy, 0.35.
a. Before the merger, what is the optimal network for each of the two firms if their goal is
to minimize costs? What is the optimal network if the goal is to maximize after-tax profits?
b. After the merger, what is the minimum cost configuration if none of the plants is shut
down? What is the configuration that maximizes after-tax profits if none of the plants is
shut down?
c. After the merger, what is the minimum cost configuration if plants can be shut down
(assume that a shutdown saves 100 percent of the annual fixed cost of the plant)? What is
the configuration that maximizes after-tax profits?
(a)
Starting from the basic models in (a), we will build more advanced models in the
subsequent parts of this question. Prior to merger, Hot&Cold and CaldoFreddo operate
independently, and we need to build separate models for each of them.

Optimization model for Hot&Cold:

n = 3: Hot&Cold production facilities.
m = 4: number of regional markets.
Dj = Annual market size of regional market j
Ki = maximum possible capacity of production facility i
cij = Variable cost of producing, transporting and duty from facility i to market j
fi = Annual fixed cost of facility i
 ti =Tax rate at facility i
xij = Number of units from facility i to regional market j.
It should be integral and non-negative.
n n m
Min i 1
fi cij xij
i 1 j 1

Subject to
n

x
i 1
ij D j for j 1,...,m (5.1)
m

x
j1
ij K i for i 1,...,n (5.2)

And replace above objective function to the following one to maximize after tax profit:
n m n n m
Max (1 ti ) pxij fi cij xij
i 1 j 1 i 1 i 1 j 1

SYMBOL INPUT CELL

Dj Annual market size of regional market j C8:F8
Ki maximum possible capacity of production facility i G5:G7
Variable cost of producing, transporting and duty from facility i
cij C5:F7
to market j
Annual fixed cost of facility i
fi H5:H7

xij of units from facility i to regional market j. C20:F22

obj. objective function H24
5.1 demand constraints C23:F23
5.2 capacity constraints G20:G22
(Sheet Hot&Cold in workbook problem5.8.xls)

The above model gives optimal result as in following table:

 Shipment North East South West Capacity Annual
Cost
Hot&Cold France 0.0 0.0 15.0 35.0 0 6150
Germany 10.0 0.0 5.0 0.0 35 2475
Finland 20.0 20.0 0.0 0.0 0 4650
Demand 0 0 0 0
Total Cost 13275

And we use the same model but with data from CaldoFreddo to get following optimal
production and distribution plan for CaldoFreddo:

Capacity Annual Cost

Shipment
Quantity Shipped (million units)
CaldoFreddo U.K. 15 15 0 20 0 $ 6,175
Italy 0 5 30 0 25 $ 4,225
Demand 0 0 0 0
Total Cost $ 10,400

(b)

If none of the plants is shut down, the previous model is still applicable. However, we need
to update the number of facilities to 5, with 3 from Hot&cold and 2 from CaldoFreddo.
And we need to update the market demand Dj, which should be the sum of market shares.
Decision maker has more facilities and greater market share in each region, and hence has
more choices for production and distribution plans. The optimal result is summarized in
the following table.

Open (1) / Capacity Annual

Shipment
Quantity Shipped (million units) Shut (0) Cost
Merged France 0 0 0 5 1 45 $ 1,500
Company Germany 30 0 0 0 1 20 $ 3,850
Finland 15 25 0 0 1 7.9492E-09 $ 4,700
U.K. 0 0 0 50 1 0 $ 5,500
Italy 0 10 50 0 1 0 $ 6,450
Demand 1.3E-10 -9.8E-09 0.0E+00 -1.9E-09
$ 22,000
(c)

This model is more advanced since it allows facilities to be shutdown. Accordingly we

need more variables to reflect this new complexity.

Optimization model for Sleekfon:

n = 5: Hot&Cold and caldoFreddo production facilities.
m = 4: number of regional markets.
Dj = Annual market size of regional market j, sum of the : Hot&Cold and caldoFreddo
market share.
Ki =capacity of production facility i
cij = Variable cost of producing, transporting and duty from facility i to market j
fi = Annual fixed cost of facility i
xij = Number of units from facility i to regional market j.
It should be integral and non-negative.
zi = Binary variable indicating whether to shutdown facility i. zi =1 means to shutdown
it, 0 otherwise.

n n m
Min i 1
fi (1 zi ) cij xij
i 1 j 1

Subject to
n

x
i 1
ij D j for j 1,..., m (5.1)
m

x
j 1
ij K i (1 zi ) for i 1,..., n (5.2)

zi are binary for i 1,..., n (5.3)

 SYMB
INPUT CELL
OL
Dj Annual market size of regional market j C8:F8
Ki maximum possible capacity of production facility i C12:C14
Variable cost of producing, transporting and duty from facility i
cij C5:F7
to market j
Annual fixed cost of facility i
fi H5:H7

xij Number of units from facility i to regional market j. C19:F23

Zi open or shutdown facility i G19:G23
obj. objective function I25
5.1 demand constraints C24:F24
5.2 capacity constraints H19:H23
(Sheet Merged in workbook problem5.8.xls)

It turned out that all sites are open so as to achieve best objective value. Following table
shows the optimal configuration.

Open (1) / Capacity Annual

Shipment
Quantity Shipped (million units) Shut (0) Cost
Merged France 0 0 0 5 1 45 $ 1,500
Company Germany 40 0 0 0 1 10 $ 4,800
Finland 5 35 0 0 1 0 $ 4,800
U.K. 0 0 0 50 1 0 $ 5,500
Italy 0 0 50 0 1 10 $ 5,400
Demand 0.0 0.0 0.0 0.0
Total Cost $ 22,000