Liquid Chemical

In the given case Liquid Chemical Company manufactures and sells a

range of high-grade products. Many of these products require careful
packaging. The company has a special patented lining made that it uses
in specially designed packing containers. Mr. Walsh the general
manager was carefully looking at the problem and as a matter of solution
he came up with the four alternatives:
* Alternative A: It is the status quo. (i.e., Liquid Chemical Co. will
continue making the containers and performing maintenance.)
* Alternative B: Liquid Chemical Co. will continue making the containers,
but it will outsource the maintenance to Packages, Inc.
* Alternative C: Liquid Chemical Co. will buy containers from Packages,
Inc., but it will perform the maintenance.
* Alternative D: It is completely outsourced. Packages, Inc. will make the
containers and provide the necessary maintenance.
The analysis of each of the four alternatives is given below in terms of
the NPV:
Option A |
Year | 1 | 2 | 3 | 4 | 5 |
Cost of GHL net of tax savings | | | | | -144000 |
Purchase of other materials | -500000 | -500000 | -500000 | -500000 |
-500000 |
Supervisor | -50000 | -50000 | -50000 | -50000 | -50000 |
Worker | -450000 | -450000 | -450000 | -450000 | -450000 |
Rent of warehouse | -85000 | -85000 | -85000 | -85000 | -85000 |
Maintenance | -36000 | -36000 | -36000 | -36000 | -36000 |
Other Expense | -157500 | -157500 | -157500 | -157500 | -157500 |
managers Salaries | -80000 | -80000 | -80000 | -80000 | -80000 |

Total Costs | -1358500 | -1358500 | -1358500 | -1358500 | -1358500 |

Tax Savings | 543400 | 543400 | 543400 | 543400 | 543400 |
Cash Flow Due to Costs | -815100 | -815100 | -815100 | -815100 |
-815100 |
Tax Effects of Depreciation | 60000 | 60000 | 60000 | 60000 | |
Tax Effect of GHL | 80000 | 80000 | 80000 | 80000 | |
Total Cash Flow | -675100 | -675100 | -675100 | -675100 | -959100 |
PVIF @ 10% | 0.909091 | 0.826446 | 0.751315 | 0.683013 | 0.620921 |
Present Value | -613727 | -557934 | -507213 | -461102 | -595526 |
Total Cash Outlay | -2735502 |
Option B |
Year | 1 | 2 | 3 | 4 | 5 |
Cost of GHL net of tax savings | | | | | -72000 |
Purchase of other materials | -450000 | -450000 | -450000 | -450000 |
-450000 |
Supervisor | -50000 | -50000 | -50000 | -50000 | -50000 |
Worker | -360000 | -360000 | -360000 | -360000 | -360000 |
Rent of warehouse | -85000 | -85000 | -85000 | -85000 | -85000 |
Maintenance | -36000 | -36000 | -36000 | -36000 | -36000 |
Other Expense | -92500 | -92500 | -92500 | -92500 | -92500 |
managers Salaries | -80000 | -80000 | -80000 | -80000 | -80000 |
Maintenance Contract | -375000 | -375000 | -375000 | -375000 | -375000
|
Total Costs | -1528500 | -1528500 | -1528500 | -1528500 | -1528500 |
Tax Savings | 611400 | 611400 | 611400 | 611400 | 611400 |

Cash Flow Due to Costs | -917100 | -917100 | -917100 | -917100 |

-917100 |
Tax Effects of Depreciation | 32000 | 60000 | 60000 | 60000 | |
Tax Effect of GHL | 80000 | 80000 | 80000 | 80000 | |
Total Cash Flow | -805100 | -777100 | -777100 | -777100 | -989100 |
PVIF @ 10% | 0.909091 | 0.826446 | 0.751315 | 0.683013 | 0.620921 |
Present Value | -731909 | -642231 | -583847 | -530770 | -614153 |
Total Cash Outlay | -3102910 |
Option C |
Year | 1 | 2 | 3 | 4 | 5 |
Cost of GHL net of tax savings | | | | | |
Purchase of other materials | -450000 | -450000 | -450000 | -450000 |
-450000 |
Supervisor | -50000 | -50000 | -50000 | -50000 | -50000 |
Worker | -30000 | -30000 | -30000 | -30000 | -30000 |
Rent of warehouse | 0 | 0 | 0 | 0 | 0 |
Maintenance | -36000 | -36000 | -36000 | -36000 | -36000 |
Other Expense | -65000 | -65000 | -65000 | -65000 | -65000 |
managers Salaries | 0 | 0 | 0 | 0 | 0 |
Sub contracting Fees | -1250000 | -1250000 | -1250000 | -1250000 |
-1250000 |
Total Costs | -1881000 | -631000 | -631000 | -631000 | -631000 |
Tax Savings | 752400 | 252400 | 252400 | 252400 | 252400 |
Cash Flow Due to Costs | -1128600 | -378600 | -378600 | -378600 |
-378600 |
Total Cash Flow | -1128600 | -378600 | -378600 | -378600 | -378600 |

PVIF @ 10% | 0.909091 | 0.826446 | 0.751315 | 0.683013 | 0.620921 |

Present Value | -1026000 | -312893 | -284448 | -258589 | -235081 |
Total Cash Outlay | -2117010 |
Less: Initial Inflow | 28000 |
Net Cash Outlay | -2089010 |
Option D |
Year | 1 | 2 | 3 | 4 | 5 |
Cost of GHL net of tax savings | | | | | |
Purchase of other materials | 0 | 0 | 0 | 0 | 0 |
Supervisor | -50000 | -50000 | -50000 | -50000 | -50000 |
Worker | -30000 | -30000 | -30000 | -30000 | -30000 |
Rent of warehouse | 0 | 0 | 0 | 0 | 0 |
Maintenance | 0 | 0 | 0 | 0 | 0 |
Other Expense | 0 | 0 | 0 | 0 | 0 |
managers Salaries | 0 | 0 | 0 | 0 | 0 |
Maintenance Contract | -375000 | -375000 | -375000 | -375000 | -375000
|
Sub contracting Fees | -1250000 | -1250000 | -1250000 | -1250000 |
-1250000 |
Total Costs | -1705000 | -80000 | -80000 | -80000 | -80000 |
Tax Savings | 682000 | 32000 | 32000 | 32000 | 32000 |
Cash Flow Due to Costs | -1023000 | -48000 | -48000 | -48000 | -48000 |
Total Cash Flow | -1023000 | -48000 | -48000 | -48000 | -48000 |
PVIF @ 10% | 0.909091 | 0.826446 | 0.751315 | 0.683013 | 0.620921 |
Present Value | -930000 | -39669.4 | -36063.1 | -32784.6 | -29804.2 |

Total Cash Outlay | -1068321 |

Less: Initial Inflow | 0 |
Net Cash Outlay | -1068321 |
Based on the above analysis following summary can be drawn:
Option | NPV |
Option A | $ (2,735,501.80) |
Option B | $ (3,102,910.26) |
Option C | $ (2,089,010.05) |
Option D | $ (1,068,321.40) |
So the lowest NPV is of option D. So the company should go ahead with
option d and as a result it should completely outsource. Packages, Inc.
will make the containers and provide the necessary maintenance.