Context: The company is a medium sized oil company which manufactures crude oil of two types.

The crude oils are manufactured using two inputs shale and coal. There are two processes available with New order from a best customer Low-sulphur 10,000 gallons High-sulphur crude 5,000 gallons Situation on hand: Based on orders on hand production is going to be at full capacity this year. Unallocated shale and coal quantities are Shale 150 tons Coal 100 tons Marketing director wants to analyze if this new order can be accepted and impact of various parameters on manufacturing cost. Objective: The objective is to determine the number of gasification and pressurization batches and the number of gallons of low-sulphur and high-sulphur crude to be produced during each of the next two quarters of the coming year that will minimize costs. This is a typical production planning problem. Decision variables: General notation for decision variables is xpt, where p is process type (1 = gasification and 2 is pressurization) and t is quarter (1 = 1st quarter and 2 = 2nd quarter) Let x11 be the batches of gasification process started in quarter 1 Let x21 be the batches of pressurization process started in quarter 1 Let x12 be the batches of gasification process started in quarter 2 Let x22 be the batches of pressurization process started in quarter 1 Workings: A gasification batch requires 1 ton of coal and 2 tons of shale to yield 100 gallons of lowsulphur crude and 200 gallons of high-sulphur crude. Under pressurisation, each batch requires 2 tons of coal and 1 ton of shale to yield 150 gallons of low-sulphur crude and 100 gallons of high-sulphur crude. Coal and shale consumption calculations Quantity of coal consumed in quarter 1 = coal required per gasification batch*number of gasification batches + coal required per pressurization batch*number of pressurization batches = 1*x11 + 2*x21 = x11 + 2x21 (quarter 1 coal consumption) Similarly we have Quantity of coal consumed in quarter 2 = x12 + 2x22 (quarter 2 coal consumption)

Quantity of shale consumed in quarter 1 = 2x11 + 1x21 (quarter 1 shale consumption) Quantity of shale consumed in quarter 2 = 2x12 + 1x22 (quarter 2 shale consumption) Crude output calculations Quantity of low-sulphur produced in quarter 1 = low-sulphur produced per gasification batch batch*number of gasification batches + low-sulphur produced per pressurization batch*number of pressurization batches = 100x11 + 150x21 (quarter 1 low-sulphur) Quantity of high-sulphur 1st quarter = 200x11 + 100x21 (quarter 1 high-sulphur) nd Quantity of low-sulphur 2 quarter = 100x12 + 150x22 (quarter 2 low-suplhur) Quantity of high-sulphur 2nd quarter = 200x12 + 100x22 (quarter 2 high-suplhur) Inventory calculations Let y11 be the quantity of low-sulphur crude at the end of period 1 Let y21 be the quantity of high-sulphur crude at the end of period 1 Let y12 be the quantity of low-sulphur crude at the end of period 2 Let y22 be the quantity of high-sulphur crude at the end of period 2 (Note that these are not decision variables but outcome variables) Quarter 1 inventory of low-sulphur = Initial inventory of low-sulphur + production of lowsulphur in quarter 1 low-sulphur demand in quarter 1 y11 = 0 + 100x11 + 150x21 5000, after rearranging the terms we get 100x11 + 150x21 y11 = 5000 (quarter 1 low-sulphur material flow) 200x11 + 100x21 y21 = 6000 (quarter 1 high-sulphur material flow) 100x12 + 150x22 + y11 + y12 = 6000(quarter 2 low-sulphur material flow) 200x11 + 100x21 + y21 y22 = 11000 (quarter 2 high-sulphur material flow) Cost calculations Total coal cost = coal cost per ton*(coal consumed in quarter 1 + coal consumed in quarter 2) = $20(x11 + 2x21 + x12 + 2x22) (coal cost) Total shale cost = $25(2x11 + 1x21 + 2x12 + 1x22) (shale cost) Batch processing cost = cost per gasification batch*(number of gasification batches in quarter 1 + number of pressurization batches in quarter 2) + cost per pressurization batches*(number of pressurization batches in quarter 1 + number of pressurization batches in quarter 2) = $10(x11 + x12) + $8(x21 + x22) (batch processing cost) Inventory holding cost Inventory holding cost is incurred only for quarter 1 which is carried to quarter 2. Inventory holding cost rate is given and not inventory cost per unit. This requires value of inventory at the end of quarter 1 needs to be available. However, inventory value will depend on inventory units and production cost per unit. Inventory units will depend on optimal number of batches so bit of circularity here. There are two options to value inventory

1. We take costing approach where product cost per batch of each process type is calculated and then it is allocated to each type of crude in proportion to yield values. The problem with this approach is there will be no clarity on how much on ending inventory has come from which process. Also note that production cost for a type of crude will vary according to process type. 2. Use market value of crude. We take this approach s selling price per gallon for each crude type is available. Also, monthly inventory carrying cost rate = 8%/12 = 0.67% Inventory holding cost = monthly carrying cost rate*(selling price of low-sulphur crude*quarter 1 ending inventory of low-sulphur crude + selling price of high-sulphur crude*quarter 1 ending inventory of high-sulphur crude) = 0.67($0.50*y11 + $0.30*y21) = $0.0033y11 + $0.002y21 (inventory carrying cost) Total cost = Coal cost + shale cost + batch processing cost + inventory carrying cost Objective function: Min: $20(x11 + 2x21 + x12 + 2x22) + $25(2x11 + 1x21 + 2x12 + 1x22) + $10(x11 + x12) + $8(x21 + x22) + $0.0033y11 + $0.002y21 Constraints: Flow constraints 100x11 + 150x21 y11 = 5000 200x11 + 100x21 y21 = 6000 100x12 + 150x22 + y11 - y12 = 6000 200x11 + 100x21 + y21 y22 = 11000 Coal availability constraints x11 + 2x21 <= 100 x12 + 2x22 <= 100 2x11 + 1x21 <= 100 2x12 + 1x22 <= 100 Quarter 2 ending inventory constraints y12 = 1000 y22 = 1000 x11, x12, x21 and x22 >= 0 eq1 eq2 eq3 eq4 eq5 eq6 eq7 eq8 eq9 eq10

1. Formulate a linear program that will help the refinery manger to make a decision about the number of gasification and pressurization batches to schedule and the quantities of low-sulphur crude to produce each quarter. Make sure that the decision variables are well defined. Find the optimal solution. Please see formulation as given above. For optimal solution please see attached excel file (sheet 1). Optimal solution is
Number of batches to start Gasification Quarter 1 35 Quarter 2 40 Lowsulphur 5000 7000 Pressurization 10 20

High-sulphur 8000 10000

Quarter 1 Quarter 2

Optimal cost is $8,194 2. The economy is starting to pick up so that how it looks like the orders to be filled next year might be 10% greater than the values shown in the table. How would this effect the original solution With 10% increase new orders are
Quarter 1 2 Lowsulphur 5500 6600 Highsulphur 6600 12100

Sensitivity analysis is given in the excel file.

Final Value 5000 6000 6000 11000 1000 1000 55 80 80 100 Shadow Price 0.33 0.235 0.33 0.237 0.33 0.237 0 0 0 -0.2 Constraint R.H. Side 5000 6000 6000 11000 1000 1000 100 100 100 100 Allowable Increase 3000 2000 1333.333333 2000 1333.333333 2000 1E+30 1E+30 1E+30 20 Allowable Decrease 1E+30 18000 3.16264E+14 2000 1000 1000 45 20 20 20

Name Qrtr 1 low-sulphur Qrtr 1 high-sulphur Qrtr 2 low-sulphur Qrtr 2 high-sulphur Qrtr 2 ending inv low sulphur Qrtr 2 ending inv low sulphur Coal in qrtr 1 Coal in qrtr 2 Shale in qrtr 1 Shale in qrtr 2

Allowable increase (marked in red) are more than 10% increase expected. Therefore, there will be no change in basis of optimal solution. This means all the decision variables will be non-zero positive. To get optimal values of decision variables, need to re-solve the problem with new demand values.

3. Because of a disagreement between management and the union, there will a work slowdown affecting the availability of coal and shale. If this slowdown decreases the availability to 95% of the original estimates, how would it affect managements original plans? Supposing the decrease is 20% what happens in this case? Please see sensitivity analysis table
Final Value 5000 6000 6000 11000 1000 1000 55 80 80 100 Shadow Price 0.33 0.235 0.33 0.237 0.33 0.237 0 0 0 -0.2 Constraint R.H. Side 5000 6000 6000 11000 1000 1000 100 100 100 100 Allowable Increase 3000 2000 1333.333333 2000 1333.333333 2000 1E+30 1E+30 1E+30 20 Allowable Decrease 1E+30 18000 3.16264E+14 2000 1000 1000 45 20 20 20

Name Qrtr 1 low-sulphur Qrtr 1 high-sulphur Qrtr 2 low-sulphur Qrtr 2 high-sulphur Qrtr 2 ending inv low sulphur Qrtr 2 ending inv low sulphur Coal in qrtr 1 Coal in qrtr 2 Shale in qrtr 1 Shale in qrtr 2

With 5% decrease in coal and shale availability there will be no change in basis of optimal solution again. The value marked red in the above table indicates decrease in coal availability allowed. Therefore 5% is well within the range. Even 20% decrease is within the range as coal and shale availability can be dropped to 80 tons each quarter. Again, in this case basis for optimal solution remains same. 4. An accident has occurred in the pressurization batch equipment and 20% of the production capacity will be lost during the coming year. Is this a problem? That is, how would such an accident affect the company's production schedule and projected profit? Suppose big accident occurs; yields from pressurization batches are only going o be 50% of that originally anticipated. What happens in this situation? For this we have to re-solve the problem because multiple constraints are getting changed. Please see sheet 2 with changes and optimal solution Yes, a change in yield is a problem. Any drop in yield will result in more requirements of raw materials. Given restriction on raw material availability other process may become attractive. With 20% drop optimal solution is as given below (sheet 2)
Number of batches to start Gasification Pressurization Quarter 1 39.29 8.93 Quarter 2 35.71 28.57

Optimal crude produced each quarter Low-sulphur High-sulphur Quarter 1 5000 8571.42857 Quarter 2 7000 9428.57143 Total revenue Total profit $11,400 $2,657

With 50% drop in yield, the solution is infeasible which is due to demand could not be met and ending inventory requirement is not satisfied. 5. The cost of coal has unexpectedly increased to $26 per ton so that now it costs more than shale ($25). Will it mess up the company's plans? Explain. No. There will be no change in companys plans. Coal is a raw material which goes into both the process in a fixed proportion with shale. It is not a substitute of shale. The comparison between coal and shale cost is not valid. Therefore, any increase in coal cost will not have impact of companys plans. If they have to meet demand, production must happen in same number of batches. (Give it a try...change coal cost to $26 and solve to optimality. Nothing will change but total cost which will increase due to increase in coal cost) 6a. The refinery manager changes his mind and requires that 2,000 gallons of each crude be in inventory at the end of the second quarter. How does this affect the solution originally obtained? See sensitivity report as given below.
Name Qrtr 1 low-sulphur Qrtr 1 high-sulphur Qrtr 2 low-sulphur Qrtr 2 high-sulphur Qrtr 2 ending inv low sulphur Qrtr 2 ending inv low sulphur Coal in qrtr 1 Coal in qrtr 2 Shale in qrtr 1 Shale in qrtr 2 Final Value 5000 6000 6000 11000 1000 1000 55 80 80 100 Shadow Price 0.33 0.235 0.33 0.237 0.33 0.237 0 0 0 -0.2 Constraint R.H. Side 5000 6000 6000 11000 1000 1000 100 100 100 100 Allowable Increase 3000 2000 1333.333333 2000 1333.333333 2000 1E+30 1E+30 1E+30 20 Allowable Decrease 1E+30 18000 3.16264E+14 2000 1000 1000 45 20 20 20

Numbers marked in red indicates allowable increase in ending inventory before basis for optimal solution changes. No change in optimal solution in case ending inventory is changed to 2000 gallons of each. 6b. After determining the original solution, it is learned that 1,000 gallons of both lowsulphur and high-sulphur crude are available from a supplier at a 20% discount from their

normal prices. The refinery manger might buy the crude as initial inventory at the beginning of the year. Fewer gallons would have to be produced during the year by ShaleBituminous Processors; she thinks this would decrease cost. Should she make the purchase? Why? See sensitivity report below.
Final Value 5000 6000 6000 11000 1000 1000 55 80 80 100 Shadow Price 0.33 0.235 0.33 0.237 0.33 0.237 0 0 0 -0.2 Constraint R.H. Side 5000 6000 6000 11000 1000 1000 100 100 100 100 Allowable Increase 3000 2000 1333.333333 2000 1333.333333 2000 1E+30 1E+30 1E+30 20 Allowable Decrease 1E+30 18000 3.16264E+14 2000 1000 1000 45 20 20 20

Name Qrtr 1 low-sulphur Qrtr 1 high-sulphur Qrtr 2 low-sulphur Qrtr 2 high-sulphur Qrtr 2 ending inv low sulphur Qrtr 2 ending inv low sulphur Coal in qrtr 1 Coal in qrtr 2 Shale in qrtr 1 Shale in qrtr 2

The figures marked in red indicate allowable decrease in RHS of quarter 1 flow constraints. If there is any positive initial inventory the RHS of first two constraints will decrease. If initial inventory is 1000 each then it is within the allowable decrease in RHS values of the two constraints. 6c. After reviewing the original linear program, a company engineer advises the refinery manager that the limited storage capacity for the crude is not included. Tanks can store only 1,900 gallons of each of the crude at the end of the first quarter. Does this affect the original solution? If so, how? Yes, this will impact optimal solution. Optimal solution indicates ending inventory at the end of quarter 1 is 2000 gallons and allowable decrease in just 0.0002, therefore restriction on storing space will definitely change optimal solution. Lower number of batches will be produced in quarter 1. Note that this problem need to be re-solved to get the optimal values.

6d. An auditor questions Shale-Bituminous Processors bout their 8% holding cost figure. It might be higher or maybe even lower. Examine how the original solution changes if the holding cost is half that value; twice the value.


Cell $B$26 $C$26 $B$27 $C$27 $J$26 $K$26 $J$27 $K$27 Name Quarter 1 Gasification Quarter 1 Pressurization Quarter 2 Gasification Quarter 2 Pressurization Low-sulphur Qrtr 1 Low-sulphur Qrtr 2 High-sulphur Qrtr 1 High-sulphur Qrtr 2 Final Value 35 10 40 20 0 1000 2000 1000 Reduced Cost 0 0 0 0 0.003333333 0 0 0 Objective Coefficient 80 73 80 73 0.003333333 0 0.002 0 Allowable Increase 0.666666674 0.400000001 0.266666667 0.333333337 1E+30 1E+30 1E+30 1E+30 Allowable Decrease 0.266666667 0.333333337 0.666666674 0.400000001 0.003333333 1E+30 0.002 1E+30

Figures in red are inventory carrying cost coefficients. Allowable increase is a huge number and allowable decrease is equal to current coefficient. It means inventory carrying cost can increase by the huge number and decrease to zero before optimal solution basis changes. 7. Suppose that coal and shale not used in a quarter are available for future production. How will this alter the original solution? From raw material availability point of view, only shale availability in quarter 2 is binding. Therefore shell in quarter 1 can be used in quarter 2. However not following table
Final Value 5000 6000 6000 11000 1000 1000 55 80 80 100 Shadow Price 0.33 0.235 0.33 0.237 0.33 0.237 0 0 0 -0.2 Constraint R.H. Side 5000 6000 6000 11000 1000 1000 100 100 100 100 Allowable Increase 3000 2000 1333.333333 2000 1333.333333 2000 1E+30 1E+30 1E+30 20 Allowable Decrease 1E+30 18000 3.16264E+14 2000 1000 1000 45 20 20 20

Cell $A$35 $A$36 $A$37 $A$38 $A$43 $A$44 $A$39 $A$40 $A$41 $A$42

Name LHS LHS LHS LHS LHS LHS LHS LHS LHS Shale availability in quarter 2

Figures marked in red are shale availability in quarter 2. Allowable increase is 20 with cost reduction is $0.2*20 = $40 ($0.2 is shadow price). Same optimal solution basis will remain. With increase in shale availability in quarter 2 production of batches in quarter will increase. This will reduce inventory at the end of quarter 2.