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BUCKEYE CHILLER SYSTEMS AND THE MICROFIN JOINT VENTURE

David Wood wrote this case solely to provide material for class discussion. The author does not intend to illustrate either effective or
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As chief operating officer of Buckeye Chiller Systems (Buckeye), Tamara Brown had long believed that
the Columbus, Ohio, company should produce its own tubing, and she had been an advocate of the MicroFin
Incorporated joint venture since Buckeye’s partner, International Steel Corporation, first proposed it. After
four years of losses, however, Bob Johnson, the chief executive officer of Buckeye, had lost patience with
the joint venture, which was based in South Carolina. Johnson gave Brown less than three weeks, until the
end of March 2021, to come up with a plan to turn around MicroFin or dissolve the partnership.

BUCKEYE CHILLER SYSTEMS

The family that founded Buckeye Chiller Systems in 1954 still owned and operated the business. Over three
generations, Buckeye had grown from a local machine shop that rebuilt used chillers into one of the largest
independent producers of industrial chillers in the United States (US). Buckeye employed 370 people across
three facilities: one production facility in Columbus, Ohio, one in Columbia, South Carolina, and a service
and distribution centre near Bakersfield, California.

Buckeye offered chillers that served a range of industrial applications, including food processing,
pharmaceutical manufacturing, mining, and microchip production. With sales of US$295 million,1 Buckeye
was not the largest chiller producer in the US, but they had a reputation for quality and efficiency, especially
for custom-built liquid chillers.

INTERNATIONAL STEEL CORPORATION

International Steel Corporation (International) was founded in 1965 and was one of the largest steel and
aluminum processors, slitters, and distributors in the world. Based in Pittsburgh, Pennsylvania, this publicly
traded company had operations in the US, Canada, Mexico, China, and Russia. They served a variety of
industries, including automotive, aerospace, construction, military, and industrial equipment. International
prided itself on being customer responsive and had a reputation for on-time delivery and quality while using
their scale to offer competitive prices.

1
All dollar amounts are in US$ unless otherwise stated.

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International had been supplying Buckeye for nearly thirty years and had become one of Buckeye’s largest
and most trusted suppliers. As a producer of industrial chillers, Buckeye required steel coils cut to tight
tolerances to produce the steel tubing they used in their chillers. Producing tubing from flat steel through a
tube mill at high speeds required precision to produce tubing that would meet the high demands of an
industrial chiller.

MICROFIN INCORPORATED

Producing tubing for their own chillers offered Buckeye two key advantages. First, Buckeye could vary the
tubing diameter to match the specific thermal dynamic needs of their customers’ applications. Since
Buckeye could make many tubing diameters from the same coil of steel by adjusting the reducing mill, they
offered greater customization without the need for additional raw material stock keeping units. Second,
Buckeye could produce the tubing as needed and eliminate additional handling, which could increase the
risk of leaks in the tubing.

In 2014, the US Department of Energy (DOE) had announced a plan to introduce new energy efficiency
standards for commercial refrigeration equipment, including liquid chillers.2 Buckeye’s engineers were
considering making several changes to meet these new DOE standards, including changing the tubing in
both the evaporator and condenser. The tubing exchanged heat between the refrigerant that flowed through
the tubing and water from the chilling tower in the case of the condenser, or the water from the equipment
being cooled in the case of the evaporator (see Exhibit 1). The rate at which heat would transfer through
the tubing affected the chiller efficiency. Many chiller producers were switching to copper tubing, but this
was more expensive and required the tubing to be soldered together at each end of the evaporator and
condenser, making the chiller more susceptible to leaks. Buckeye was interested in an alternative that
involved cutting small channels, or grooves, inside the refrigerant tubing to increase the surface area and
therefore improve the heat transfer efficiency (see Exhibit 2).

As Buckeye’s largest steel supplier, International was aware of Buckeye’s idea to produce tubing with an
internal groove, sometimes referred to as microfin tubing. Buckeye estimated that upgrading the tube mills
to enable them to make internally grooved tubing would require an investment of $16.5 million. In 2015,
the sales manager from International approached David Singh, the vice-president of procurement for
Buckeye, with an idea.
International had long wanted to expand their product offering to include steel tubing, and they suggested that
Buckeye and International partner on a new facility that would be large enough to serve Buckeye’s needs as
well as make standard, non-grooved tubing for International’s other customers. The new facility would cost
$18.4 million and would be located near Buckeye’s factory in Columbia, South Carolina. Buckeye agreed to
invest $9.3 million in exchange for 51 per cent ownership. The remaining investment came from International,
which gained a 49 per cent stake in the new joint venture, MicroFin Incorporated (MicroFin).
MicroFin began production in January 2017, just in time to meet the new standards set by the DOE that
went into effect on March 27, 2017.3 Under the partnership agreement, Buckeye was responsible for
operations, human resources, site selection, accounting, and engineering. International was responsible for
sales and marketing to all external customers and the supply of all raw materials.
2
US Department of Energy, “New Energy Efficiency Standards for Commercial Refrigeration Equipment to Cut Businesses’
Energy Bills and Carbon Pollution,” Energy.gov, February 28, 2014, https://www.energy.gov/articles/new-energy-efficiency-
standards-commercial-refrigeration-equipment-cut-businesses-energy.
3
Federal Register, “Energy Conservation Program: Energy Conservation Standards for Commercial Refrigeration Equipment,”
US Department of Energy, March 28, 2014, https://www.federalregister.gov/documents/2014/03/28/2014-05082/energy-
conservation-program-energy-conservation-standards-for-commercial-refrigeration-equipment.

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2023 to Feb 2024.
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Buckeye would purchase all their tubing from MicroFin at 7 per cent above the fully loaded standard cost.
International also agreed to rebate Buckeye 7 per cent of the cost of steel that MicroFin purchased for tubing
that Buckeye then purchased. Since steel made up roughly 90 per cent of the cost of goods sold, the rebate
effectively lowered the transfer price closer to the fully loaded standard cost. In addition, Buckeye and
International would share any profits made on sales to external customers.

Although production started on time, the joint venture was not a commercial success. Overheads proved to be
higher than budgeted, raw materials costs increased, and demand to external customers was not growing. After
two years, MicroFin had sold nearly all of the production only to Buckeye. It was time to make some changes.

In 2019, International and Buckeye agreed to cut back on capital expenditures and eliminate overheads.
The plant manager for MicroFin was terminated, and production reported directly to the plant manager at
Buckeye’s nearby facility in Columbia. International eliminated the sales and marketing team at MicroFin
and amalgamated all sales responsibility into their existing organization. Overheads had come down and
sales improved, but the losses continued (see Exhibit 3).

Despite some aggressive discounting, International continued to miss their forecasted sales revenue. In
2020, sales to external customers were below target by more than $1 million. Sales to Buckeye, on the other
hand, were $5 million above plan. The partners had even agreed to lower prices to external customers and
cut the gross margin to less than 9 per cent, including a 5 per cent commission paid to the International
sales team. Singh was frustrated with the lack of success and the effect that this was having on the cost for
tubing at Buckeye: “Each year our standard costs increase to account for the higher production costs, and
then I also have to pay for half the losses each year because International misses their sales targets. Why
should we have to pay for International’s mistakes?”

Brown shared Singh’s frustration, but they both felt that walking away from the joint venture with International
could be a mistake. Brown also had to contend with another challenge: MicroFin was running out of capacity to
make microfin tubing to meet Buckeye’s growing demand. Although International had not been able to hit their
sales targets, Buckeye’s demand for microfin tubing had grown substantially, and MicroFin would need to make
a further investment of almost $3.4 million to keep up with demand. International expressed an unwillingness to
invest more money into the joint venture, and Johnson wanted a plan to ensure MicroFin would break even
before they added capacity to MicroFin. Brown began to look at some options.

BUCKEYE’S OPTIONS

“Shotgun”

The first option that Brown considered was for Buckeye to buy out International under the “shotgun” clause
in the agreement. Brown believed that for International to accept their offer, Buckeye would have to agree
to pay International the full $9.1 million that International had originally invested and some portion of the
$5.9 million in accumulated losses that both parties had funded. Under this plan, International would exit
the tubing business. Brown estimated that MicroFin would lose nearly $17.6 million in external sales and
overheads would decline by $980,000 per year.

Buyout

The second option would be to negotiate an agreement in which Buckeye would buy out International’s
share of MicroFin and sell tubing back to International at the fully loaded standard cost plus an agreed-

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upon markup. International could continue selling tubing and Buckeye would acquire full control of
MicroFin. The buyout offer would likely not differ from the offer in the “shotgun” option, but Brown also
suspected that increasing the markup in the short term would be unrealistic.

Move or Divide

The final option Brown considered was to divide MicroFin’s assets and dissolve the partnership. This was
likely the most complicated alternative since some of the equipment was shared. It was also unclear what
would happen to the facility in that scenario. Although it would be ideal if Buckeye retained the building
that MicroFin had occupied, this would require International to move all their equipment to a new location
and hire a new team to run the facility. It might be possible for Buckeye and International to share the
facility, but that would require significant renovations to separate the two operations and duplicate shared
washrooms, cafeteria, and mechanical and electrical infrastructure. Brown estimated that International’s
share of the rent and facility costs was about $590,000 per year, and International would have to invest
money to relocate. Alternatively, if Buckeye and International were to share a facility, the renovations
would cost approximately $700,000 to duplicate any shared operational infrastructure.

CONCLUSION

Brown was running out of time and there was a lot to consider. No alternative was perfect, and each
presented unique challenges. Tubing was one of the most important components of the chillers that Buckeye
made, and having a reliable supply was Brown’s first priority; however, Brown also knew that Johnson was
no longer willing to put up with the losses and that something needed to change.

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EXHIBIT 1: LIQUID CHILLER DESIGN

Source: Created by the author.

EXHIBIT 2: STANDARD VERSUS MICROFIN TUBING CROSS-SECTION

Source: Created by the author.

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EXHIBIT 3: MICROFIN INCOME STATEMENT FOR 2020 AND PROJECTED INCOME FOR 2021
(ENDING DECEMBER 31)

2020 Actual 2021 Planned

Net Sales $48,909,000 $53,267,000
Cost of Goods Sold 46,987,000 51,603,000
Gross Profit 1,922,000 1,665,000
(% of Net Sales) 3.9% 3.15
Selling and Admin 2,246,000 2,392,000
(% of Net Sales) 4.6% 4.5%
Interest ($000s) 53,000 7,000
Operating Income (377,000) (734,000)
(% of Net Sales) −0.8% −1.4%
Income Tax - -
Net Income (377,000) (734,000)

Source: Company files.

This document is authorized for use only in Prof. Christine Chan's Dynamics of Multinational Corporations 2023-24 at The University of Hong Kong - Faculty of Business & Economics from Aug
2023 to Feb 2024.