Statement of the Problem
Mueller-Lehmkuhl GmbH (MLG) is one of the four major suppliers of apparel fasteners in Europe. It currently holds the top position, having a 17% share of the whole market but is closely followed by major competitors having almost the same market share. As such, the mature market for apparel fasteners works under an almost-oligopolistic system wherein there are a lot of buyers and a few sellers. Coupled with long-standing relationships with these clients acting as a barrier to entry, future participants would find competing in this market very difficult.
The surprise entry of Hiroto Industries (HI) not only threatens the business of MGL, it also disrupts current business practices. HI has the benefit of being a Japanese firm with the critical mass to support its operations and flexibility to go oversees to compete in other markets. Currently, it is targeting a 25% share of its overall business in Europe. To do so, it has infiltrated the market by offering the same high quality fasteners at an unbelievable 20% discount from competitors.
This tactic has concerned MGL. How could a competitor go into a mature market such as the European apparel fastened industry, sell the same high quality products at a 20% discount, and survive?
In fact, how can a business change in such a way that it still promotes its core values, retains its commitment to quality and corporate identity, while protecting its market share and long-term viability?
Executive Summary
Mueller-Lehmkuhl GmbH (MLG) produces 17% of the apparel fasteners in Europe. It does so by selling products that are of the highest quality. It takes care of its market share by having respectful business relationships with its clients, and as such as thoughtfully looked out for their welfare as a way of ensuring that sales are protected.
MGL includes the business of producing the attaching machines, renting or selling them, and servicing them into their business model. This business model is profitable. This profitability is threatened by a Japanese company that has literally taken the market by surprise. With a 7.2% market share and a 20% discount on its prices, this company is threatening to take over the business of not just MGL but all the entrenched players in the industry.
MGL shall address this by examining and mimicking the business model of its Japanese competitor. It shall remove the fastener production business from the attaching machine business. It can do so by carefully examining the related costs of the whole business and allocating those that are for the attaching machine business and those for the fastener production business.
The results show that MGL will be more profitable with this business model, with a net income of 35 M for the same year (it is expected to generate only 9.5 M). Gross margins will average to about 21%, 3% more than the previous business strategy of MGL.
Analysis
Mueller-Lehmkuhl GmbH (MLG) produces 17% of the apparel fasteners in Europe. It does so by selling products that are of the highest quality. It takes care of its market share by having respectful business relationships with its clients, and as such as thoughtfully looked out for their welfare as a way of ensuring that sales are protected.
MGL includes the business of producing the attaching machines, renting or selling them, and servicing them into their business model. This business model is profitable as shown below.
This profit statement can be traced to its cost accounting process. MGL incorporates a transactions-based type of accounting system that takes into account both the production of the fasteners and the production of the attaching machines.
HI presents a curious case for MGL. If prices were reduced by 20%, assuming HI has a similar cost structure to MGL, how could they remain viable? The answer lies in the way it has changed the apparel fastener business. HI does not integrate two businesses into one and allocates costs for both; it segregates one from the other.
We can mimic HI’s business model by doing the following:
1. Remove the manufacture of attaching machines – this means that the cost of materials would be reduced from the total cost. The cost of machines makes up 30% of the selling price (assumed) and reduces the total material cost by 8.5%.
2. Remove general overhead costs associated with attaching machines – this means removing the costs of the machining department. Without the machining department allocated to the stamping and assembly departments, 61% of the total overhead costs is removed.
3. Remove the associated cost from the tooling department - this means removing the cost of servicing 47 machines at 50,000 per machine. Doing so reduces overhead costs by 1%. Working on all of these changes gives us a new cost structure, as shown below.
Mimicking this business model produces unexpected but welcome results. Assuming MGL continues to sell at its present prices at without losing market share, it would merit an average of 62% gross margin over its products, versus that of 18% with the old fastener and attaching machine strategy! However, MGL would be unwise to try to keep prices at this level and expect market share retention. As of late, it has already has a hint of the market changing, even with its local clients.
The numbers show that a 20% reduction does not affect profitability, compared to the original business model. The gross margin for the new model is 21%, for the old model it is 18%. Net income is 35 Million for the same year if MGL decides to sell fasteners only and spin off attaching machines as a separate business.
