Cumberland Metals: Case Study Analysis. 13/13

Cumberland Metals: Case Study Analysis

Tim Hayes

Saturday, January 22, 2005

DISCLAIMER: I have, to the best of my abilities, researched, analyzed, organized, and presented findings for this case study. However, it must be noted that irreconcilable discrepancies within the available data made some of the calculations both a daunting and imprecise task. This is especially true in regards to revenue and cost figures. Please be aware of the influence of unreliable cost and revenue data in regards to the pricing, production, and marketing recommendations presented in this study. However, it must also be noted that many of the discrepancies are legitimate differences in data collection methods and tests used in the case.

Introduction

Cumberland Metals faced a both a pricing and channel marketing decision for metal pile cushions utilized during pile driving. Cumberland’s approach to pile cushions had significant efficiency advantages over other asbestos methods that were currently available in the 1979 market. However, Cumberland faced several barriers to entry into the pile cushion market. The primary barrier was that most companies viewed role of cushions as a necessary accessory or tangent item instead of viewing cushions as a potentially value adding or cost reducing part of pile driving. In order to penetrate the market, Cumberland would have to alter the lackadaisical view of pile driving cushion pads for the opinion leaders, engineering firms, and contractors involved in the decision process.

Key Stakeholders

There were several stakeholders in the both in the pile driving industry and within Cumberland Metals. First, Cumberland Metals and the welfare of its employees were major stakeholders in the pile driving cushion pricing and marketing decision. Cumberland metals faced a declining market in Slip Seal, their main source of revenue. A new successful product was imperative to the continued success of the company. The decisions regarding pile cushions could greatly increase the company’s revenues and profits or assist in its decline.

There are also several secondary stakeholders in the pile driving industry. Secondary stakeholders include pile hammer manufacturers, architectural consulting engineers, soil consultants, pile hammer distributing/renting companies, engineering/construction contractors, and independent pile driving contractors. The workers who drive piles are also stakeholders since the current asbestos pads may be hazardous to their health due to asbestos and heat related injuries. Exhibit A summarizes some of the stakeholders; their projected importance to Cumberland’s marketing decisions, and their projected attitudes to switching from asbestos to higher efficiency metal cushions.

Exhibit A
Projected Attitude / Importance / Who?
a. / Neutral / High / Pile Hammer Manufactures
b. / Positive / High / Architectural/Consulting Engineers
c. / Positive / Medium/Low / Soil Consultants
d. / Negative / High / Pile Hammer Distributing/Renting Companies
e. / Positive / High / Engineering/Construction Contractors
f. / Positive / Medium/Low / Independent Pile-Driving Contractors
g. / Positive / Medium (To Cumberland) / Workers
h. / ?? / Medium/Medium High / Unions
I. / ?? / High / Cumberland Metals

Key Issues

Cumberland needs to consider several marketing decisions. First, they must determine a method for pricing and ultimately a price for the new metal pads. Second, Cumberland must decide which channels to market the pads based on the selected pricing strategy. Third, Cumberland must determine how much to invest in manufacturing equipment by estimating market penetration and considering the costs and benefits of investing in pad producing equipment.

Analysis

Cumberland’s new metal pile driving pads provided several benefits over the current asbestos cushions. Several Pad features and pricing decisions will be discussed and analyzed in this section. First, the safety and heat properties of the cushions will be analyzed and compared to current asbestos pads. Second, efficiency characteristics will be analyzed and compared with current asbestos pads. Third, several methods of calculating the best price in order to match the price to the value added for the customer will be discussed. Finally, an analysis of the different marketing channels and marketing strategy will be presented.

Safety

Cumberland’s metal pads were probably much safer than the current asbestos pads (Exhibit 2). Asbestos was proving hazardous to health and the federal government was starting to recognize it as a hazardous material during the late 1970s and early 1980s. Legislation introduced in the late 1970’s by Millicent Fenwick and formerly adopted as House Resolution 5224 required manufacturers and distributors of asbestos products to be responsible to pay benefits to anyone who was injured by asbestos as a result of their actions.

[H.R. 5224] Requires the Secretary of Labor to direct responsible parties (parties engaged in the manufacture, import, sale, or distribution of products or substances containing asbestos or cigarette tobacco) to pay benefits with respect to the disability or death of any person caused by an asbestos-related disease and occurring before January 1, 1983. (H.R. 5224, Asbestos Health Hazards Compensation Act, Title II ¶1)

In addition, the asbestos posed other health hazards due to their heat properties. Workers often had to handle super heated pads and risked the possibility of being severely burned. Finally, asbestos pads were much heavier than metal pads, thus increasing the risk of back and other weight related injuries. Conversely, CMI pads were not made of asbestos, significantly reduced the possibility of heat related injury, and were much lighter than the asbestos pads.

Efficiency

CMI pads also provided several efficiency advantages over asbestos pads. It is these efficiency benefits that provide a strong argument for cost reduction to contractors and should influence purchasing decisions and market penetration. In pile driving tests the CMI pads exhibited 33% more driving efficiency, a 5 times increase in pad change efficiency, and a 20 times increase in piles per pad efficiency (Exhibit 3).

In order to determine value to the customer for the increased efficiency, it is best to reduce all cost calculations to a cost-per-foot basis. The case study estimates that the average hourly cost of pile driving is $238. It further asserts that pile drivers average 20 feet per hour. Therefore, the cost of pile driving can be estimated at $11.90 per foot driven (Exhibit 4). [1]

The cost-per-foot saved by decreasing the down time to exchange pads is negligible compared to the cost-per-foot savings actuated by the increase in driving efficiency. The cost benefit from decreased pad change time runs about $1,600 per 300-55 ft. piles, or approximately 9 cents per foot driven (Exhibit 9). However, the cost-benefit from a 33% increase in efficiency based on an $11.90 per foot base is $3.93 per foot, a significant savings. The total quantitative value to the customer of $3.83 per foot can be calculated by adding all of the benefits per foot from efficiency increases (Exhibit 9).

The cost of purchasing asbestos pads in the first test was $50 per set of pads. Further, it took 20 sets of pads to place 300 piles of 55 feet. Therefore, the asbestos pads cost $1000 (50*20) to drive 16,500 (300*55) or 6.06 cents per foot driven (Exhibit 9). This can be compared to the CMI pad manufacturing costs of 5.39 cents per foot using existing equipment or 2.52 cents per foot after purchasing new equipment. It is important to note that the manufacturing costs are significantly less than the actual costs of asbestos pads per foot.

Since the total market for pile driving cushion pads exceeds 17,000 pads per month (Exhibit 5) and it is estimated that Cumberland should be able to capture a significant share of the market, a better calculation of manufacturing cost per foot is to use the break-even point based on the $75,000 equipment investment per additional 250 pads per month (Exhibit 10). Assuming that the $75,000 is basically a fixed cost, i.e. the payback period is set to 1 year, and the Variable Costs and Overhead Expenses amount to 69.18 per pad, the breakeven price per set of pads is 565.08. Assuming each set can pound 300-55 foot piles or 16,500 feet, the breakeven price per foot is 3.42 cents per foot. The calculated breakeven manufacturing cost is still just over half the cost of the selling price for asbestos pads (compare 3.42 cents for CMI vs. 6.06 cents for asbestos). Note that in proceeding years the $75,000 investments would not be required, further increasing profits.

Marketing Channels

There are several different channels available to market the CMI pads. For example, Cumberland could hire a sales force and attempt to directly sell to customers or attempt to go through distributors. Hiring a sales force seems to be an unnecessary expense. Since the pads are not considered a high profile product by the users, the leverage held by current distributors should be enough to drive sales. In fact, an internal sales force may confuse the purchasing process because contractors may not be willing to take the time or effort to talk to salesmen for such a small factor in their overall project. The purchasing decision is as such that if a distributor recommends or supplies a certain brand of pads, the construction crews are likely to use it without much consideration.

Decision Alternatives

The total market for pile driving averages 340 million feet per year. If each set of metal pads, containing 6 pads each, can withstand 10,000 feet of pile driving, then the total estimated market would be 204 thousand pads per year or 17 thousand pads per month (Exhibit 5). It can be reasonably assumed that Cumberland should be able to capture more than 1.4% of this market – 250 pads per month. Therefore, it will require several 75,000 investments to produce enough of the total market demand to be effective. Fortunately the low cost of production per foot, 3.42 cents with a 1 year breakeven point and payback period on investment enables Cumberland to investigate several pricing options.

Alternative 1: General Markup

The first alternative is for Cumberland to select a general markup price where a specific margin is reached. Since the cost of breakeven production over one year is 565.08 and the required corporate margin is 45%, a good selling price might be 1.45*$565.08 = $819.366. Assuming the distributors and retailers required a 30% margin, the retail price would be 1,065.18 or 6.46 cents per pile foot driven. This alternative is slightly more expensive than the price of asbestos pads in the test scenario, but still competitive in nature. The advantage of this method is it fulfills the company objective of 45% markup, is easy to calculate, and still competes well with asbestos pads. However, this pricing method does not consider the possibility of premium pricing due to efficiency cost savings or value added to the customer by using the CMI pads.

Alternative 2: Compete with Asbestos

Cumberland has the option of competing directly with the asbestos pads on a price-per-foot basis. In this scenario a single set of CMI pads would retail at the same price-per-foot as asbestos pads; therefore assuming a 30% markup, the pads would wholesale for $769.23. Although this approach is $50 less than the required 45% markup for Cumberland, it allows Cumberland to compete directly with asbestos pads on a cost-per-foot basis. Furthermore, proceeding years will realize a greater than 45% margin since the $75,000 equipment investment will be eliminated. This approach would work best for a strategy of extensive market penetration. Since the price of the pads are the same as asbestos, Cumberland needs only to convince consumers of the efficiency and safety advantages to convert them to the new pads.

Alternative 3: Value Added to Customer Approach

Another alternative is to attempt to split the cost benefit or value added by using the new metal pads with consumers. This scenario charges a premium price based on how much value and cost savings the new pads present to the customer. It is estimated that the metal pads should save contractors $3.83 cents per foot driven. If Cumberland skimmed 33% of the cost savings, then they could potentially charge $3.83*.33 = $1.26 per foot driven. This would result in a very high cost of $20,790 per set of pads. Although the cost is completely justified, it would take considerable marketing to convince potential customers to upgrade from $50 per asbestos set to $20,790 per CMI set, especially if the job requires driving less than 300 piles. This approach could be considered a skimming approach and may yield high profits with low market penetration. Another advantage to this method is that initial investment and risk would be low since the number of $75,000 equipment investments would be minimized based on the low market penetration and production needs.

Exhibit 12: Pricing Comparisons, Wholesale, Retail, and Cost Per Foot
Wholesale (Set) / Retail (16,500 feet) / Cost Per Foot / Measure
- / $1,000.00 / $0.0606 / Asbestos Pads*
$819.37 / $1,065.18 / $0.0646 / Alternative 1: Markup
$769.23 / $1,000.00 / $0.0606 / Alternative 2: Asbestos Comp
$15,992.31 / $20,790.00 / $1.2600 / Alternative 3: Efficiency
*Asbestos pads calculated for 20 sets to cover the same footage as one Metal Set

Recommendation

Pricing Recommendations

Regardless of the alternative selected, marketing the new steel pile cushions will require redefining consumer perceptions of pile pads in two ways. First, Cumberland must show that pads are an integral part of pile driving efficiency and thus an industry cost driver. Second, Cumberland must change the way consumers view pricing of pile driving pads from a price-per-pad or set of pads mind-set to price-per-foot driven mindset. Some companies may directly compare the price of a set of asbestos pads, $50, against the price of a set of metal pads, probably exceeding $1,000, without considering the per foot ramifications. Cumberland needs to make sure that customers understand the $1,000 pads are actually cheaper on a per-foot basis than the $50 asbestos pads.