the Oilfield Services Industry Authors: Clayton Mealer & Sung - PowerPoint PPT Presentation

A Simplified and Scalable Should-Cost Tool in the Oilfield Services Industry Authors: Clayton Mealer & Sung Hwan Park Advisor: Dr. Shardul Phadnis MIT SCM Research Fest May 22-23, 2013

Agenda • Background • Problem Statement • Methodology • Available Data • Seven-step Process • Results • Conclusion May 22-23, 2013 MIT SCM Research Fest 2

Background • Third party spend accounts for a significant amount of a business’ costs and it is often negotiated with suppliers during the procurement process. • Due to the limited understanding of the supplier’s true production cost, various techniques and models for determining how much a procured product should cost have been tried. • In our work, we expand an approach that uses aggregate industry- specific financial data to develop a simple, scalable tool to estimate a product's should-cost. • This work creates a tool that simplifies a complex product, determines component costs, and estimates the final price. May 22-23, 2013 MIT SCM Research Fest 3

Problem Statement • To allow a company to better estimate the true costs of products it purchases and provide a tool to assist in price negotiation, we must determine: • Can aggregate industry-specific financial data be developed into a simple, scalable tool to estimate a product's should-cost? • If so, how does this should-cost tool's price compare to the actual product's negotiated price? May 22-23, 2013 MIT SCM Research Fest 4

Methodology • We focused on a qualitative interview study to define our problem and develop a solution. Our initial research relied on descriptions from qualitative interviews to guide the development of our should-cost tool. • Identify the parameters of the model • Define the expected output • Understand the intended role this tool would play in the procurement process May 22-23, 2013 MIT SCM Research Fest 5

Available Data – NAICS May 22-23, 2013 MIT SCM Research Fest 6

Available Data – U.S. Census Bureau Production Materials, Total value Meaning of Geographic 2007 NAICS Number of Workers Parts, … of 2007 NAICS Year …… Area Codes Employees Wage etc. used shipments Codes ($ 1,000) ($ 1,000) ($ 1,000) United 31-33 Manufacturing 2011 10,649,378 313,709,882 2,916,521,678 5,498,599,159 States Fabricated Metal United 332 Product 2011 1,285,707 38,937,642 132,300,674 326,796,980 States Manufacturing Forging and United 3321 2011 103,326 3,158,048 15,931,134 33,120,698 States Stamping Forging and United 33211 2011 103,326 3,158,048 15,931,134 33,120,698 States Stamping Custom roll United 332114 2011 17,372 541,416 5,031,139 7,645,962 States Forming May 22-23, 2013 MIT SCM Research Fest 7

Available Data – Financial Benchmarks MANUFACTURING - Iron and Steel Forging NAICS 332111 Current Data Sorted by Sales NUMBER OF STATEMENTS 1-3 MM 3-5 MM 5-10 MM 10-25 MM 25 MM & Over 0-1 MM % % % % % % ASSETS Cash & Equivalent 10.8 4.7 8.9 8.0 … … … … … LIABILITIES 19.8 8.5 10.6 5.7 Notes Payable-Short Term … … … … … INCOME DATA 100.0 100.0 100.0 100.0 NET SALES 30.3 26.2 23.9 20.6 GROSS PROFIT 31.9 21.5 17.0 13.4 OPERATING EXPENSES OPERATING PROFIT -1.6 4.7 6.9 7.3 All Other Expenses (net) 2.3 1.3 1.3 2.0 Profit Before Taxes -3.8 3.4 5.6 5.3 May 22-23, 2013 MIT SCM Research Fest 8

Sub Part Breakdown End Item Final Product Sub-Part 1 Sub-Part 2 If Necessary Or only part Manufacturing Manufacturing Manufacturing Manufacturing Manufacturing Manufacturing Process 2 Process 3 Process 1 Process 2 Process 3 Process 1 If Necessary If Necessary If Necessary Or only process If Necessary If Necessary Sub-Part 3 If Necessary Manufacturing Manufacturing Manufacturing Process 2 Process 1 Process 3 If Necessary If Necessary If Necessary May 22-23, 2013 MIT SCM Research Fest 9

Seven-step Process 1. Identify the Sub Parts Because of the complexity of some products, an end item often needs broken down into smaller part for NAICS codes to be applicable for should-cost estimation. 2. Identify the RM and Manufacturing Process(es) For sub items, primary Raw Materials and major manufacturing process should be determined. 3. Allocate NAICS Codes For major manufacturing process, appropriate NAICS code needs to be allocated. 4. Estimate Financial Ratios Using the U.S. Census Bureau data and RMA financial data, calculate financial ratios between Raw Material Cost and Other Costs factors. May 22-23, 2013 MIT SCM Research Fest 10

Seven-step Process 5. Calculate RM Cost Using the Standard Material Weight, Standard Material Unit Price, and Material Production Defective Rate, estimate the RM Cost. 6. Estimate Sub Part Should-Cost(s) With the RM cost and Financial Ratio information from steps 4 and 5, calculate the sub part should-cost(s). 7. Calculate the Total Should-Cost By adding the should-costs of all sub parts, you can estimate the total should-cost. May 22-23, 2013 MIT SCM Research Fest 11

Results • Validation Case • Applied the seven-step process • Used the knowledge of our sponsor company’s representative • Determined the should-cost of a procured pumping mechanism to be $63,305 . May 22-23, 2013 MIT SCM Research Fest 12

Conclusion • Validation case estimated the should-cost to be 91% of the currently negotiated price. • A should-cost tool, using aggregate industry-specific financial data, can be constructed. • Breaking the procured end item into smaller and smaller sub parts effectively makes the tool scalable to a wide array of simple to complex products. • The should-cost tool is generally used for leverage items, which occupy a high proportion of the company’s purchasing budget and are available from numerous suppliers. May 22-23, 2013 MIT SCM Research Fest 13