SMATH311LC

Management Science
MODULE 2
How to do it in Excel?
SPREADSHEET MODEL DESIGN
The general principles of spreadsheet model design and
construction are:
 Separate the parameters from the model.
 Document the model, and use proper formatting and color
as needed.
 Use simple formulas.

Note: Excel formulas and functions always begin with an

equal sign.
examples
Nowlin Plastics produces a line of cell phone covers. Nowlin’s best-selling
cover is its Viper model, a slim but very durable black and gray plastic cover.
The annual fixed cost for the Viper cover is $234,000. This fixed cost includes
management time, advertising, and other costs that are incurred regardless of
the number of units eventually produced. In addition, the total variable cost,
including labor and material costs, is $2 for each unit produced. Nowlin is
considering outsourcing the production of some products for next year,
including the Viper. Nowlin has a bid from an outside firm to produce the Viper
for $3.50 per unit. Although it is more expensive per unit to outsource the
Viper ($3.50 versus $2.00), the fixed cost can be avoided if Nowlin purchases
rather than manufactures the product. the product. The exact demand for
Viper for next year is not yet known. Nowlin would like to compare the costs
of manufacturing the Viper in-house to those of outsourcing its production to
another firm, and management would like to do that for various pro-duction
quantities.
How much is the total outsource cost to produce 10000 units?
Cost-volume model for the Nowlin Plastics ex.

FC
VC
OC

x
Cost-volume model for the Nowlin Plastics ex.
 Column A is reserved for labels, including cell A1 where we have
named the model “Nowlin Plastics.”
 The input parameters (FC, VC, and P) are placed in cells B4, B5, and
B7, respectively. We offset P from FC and VC because it is for
outsourcing. We have created a parameters section in the upper
part of the sheet.
 Below the parameters section, we have created the Model section.
The first entry in the Model section is the quantity q, which is the
number of units of Viper produced or purchased in cell B11, and
shaded it to signify that this is a decision variable. Then placed the
formulas corresponding to equations in cells B13, B15, and B17. Cell
B13 corresponds to cost volume equation (7.1), cell B15 to outsource
cost equation, and cell B17 to savings which is the difference
between the two values.
Cost-volume model for the Nowlin Plastics ex.
OUTPUT

The model shows

that the cost to
manufacture 10,000
units is $254,000,
the cost to purchase
the 10,000 units is
$35,000, and the
savings from
outsourcing is
$219,000.
Cost-volume model for the Nowlin Plastics ex.

Let us consider how savings due to outsourcing changes as

the quantity of Vipers required changes.
This should help us answer the question, “For which values
of q is out-sourcing more cost-effective?”
Cost-volume model for the Nowlin Plastics ex.

An Excel Data Table quantifies the impact of changing the

value of a specific input on an output of interest. Excel can
generate either a one-way data table, which summarizes a
single input’s impact on the output, or a two-way data
table, which summarizes two inputs’ impact on the output.
Cost-volume model for the Nowlin Plastics ex.
A one-way data table changing the value of quantity and reporting savings
due to outsourcing would be very useful.
 The first step in creating a one-way data table is to construct a sorted list of
the values you would like to consider for the input. Let us investigate the
quantity q over a range from 0 to 300,000 in increments of 25,000 units.
 Enter these data in cells D5 through D17, with a column label in D4. This
column of data is the set of values that Excel will use as inputs for q.
 Since the output of interest is savings due to outsourcing (located in cell
B17), we have entered the formula =B17 in cell E4. In general, set the cell to
the right of the label to the cell location of the output variable of interest.
Cost-volume model for the Nowlin Plastics ex.
One-way data table
Once the basic structure is in
place, we invoke the Data Table
tool using the following steps:
 Step 1. Select cells D4:E17
 Step 2. Click the DATA tab in
the Ribbon
 Step 3. Click What-If Analysis in
the Data Tools group, and
select Data Table
 Step 4. When the Data Table
dialog box appears, enter B11
in the Column input cell: box
 Click OK
Cost-volume model for the Nowlin Plastics ex.
One-way data table output

Column E shows the savings due

to outsourcing given different
quantities. Noticed that for
quantities of 150,000 units or
less, outsourcing is cheaper than
manufacturing (because you have
savings due to outsourcing) and
that, for quantities of 175,000
units or more, manufacturing is
cheaper than outsourcing.
Cost-volume model for the Nowlin Plastics ex.
Two-way data table
Suppose that Nowlin has now received five different bids on the per-unit cost
for outsourcing the production of the Viper. The five current bids are $2.89,
$3.13, $3.50, $3.54, and $3.59.
 Various quantities in cells D5 through D17 were entered as in the one-way
table. These correspond to cell B11 in our model.
 In cells E4 through I4, we have entered the bids. These correspond to B7,
the outsourcing cost per unit.
 In cell D4, above the column input values and to the left of the row input
values, we have entered Models the formula =B17, the location of the
output of interest, in this case, savings due to outsourcing.
Cost-volume model for the Nowlin Plastics ex.
Two-way data table
Once the table inputs have been entered
into the spreadsheet, we perform the
following steps to construct the two-way
Data Table.
 Step 1. Select cells D4:I17
 Step 2. Click the DATA tab in the Ribbon
 Step 3. Click What-If Analysis in the Data
Tools group, and select Data Table
 Step 4. When the Data Table dialog box
appears:
Enter B7 in the Row input cell: box
Enter B11 in the Column input cell: box
 Click OK
Cost-volume model for the Nowlin Plastics ex.
Two-way data table output

We now have a table that shows

the savings due to outsourcing for
each combination of quantity and
bid price.
For example, for 75,000 Vipers at a
cost of $3.13 per unit, the savings
from buying versus manufacturing
the units is $149,250.
We can also see the range for the
quantity for each bid price that
results in a negative savings. For
these quantities and bid
combinations, it is better to
manufacture than to outsource.
Cost-volume model for the Nowlin Plastics ex.
Goal Seek
Excel’s Goal Seek tool allows the user to determine the value of an input cell
that will cause the value of a related output cell to equal some specified value
(the goal).
In the case of Nowlin Plastics, suppose we want to know the value of the
quantity of Vipers where it becomes more cost effective to manufacture
rather than outsource.
We may use Goal Seek to find the quantity of Vipers that satisfies the goal of
zero savings due to outsourcing for a bid price of $3.50.
Cost-volume model for the Nowlin Plastics ex.
Goal Seek
The following steps describe how to use
Goal Seek to find this point.
 Step 1. Click the DATA tab in the
Ribbon
 Step 2. Click What-If Analysis in the
Data Tools group, and select Goal Seek
 Step 3. When the Goal Seek dialog box
appears
Enter B17 in the Set cell: box
Enter 0 in the To value: box
Enter B11 in the By changing cell: box
Click OK
 Step 4. When the Goal Seek Status
dialog box appears, click OK
Cost-volume model for the Nowlin Plastics ex.
Goal Seek Output

The savings due to outsourcing in

cell B17 is zero, and the quantity in
cell B11 has been set by Goal Seek to
156,000.
When the annual quantity required is
156,000, it costs $564,000 either to
manufacture the product or to
purchase it.
Lower values of the quantity
required favor outsourcing.
Beyond the value of 156,000 units it
becomes cheaper to manufacture
the product.
Break-even analysis
Goal Seek
It is also commonly use in Break-even analysis. That is, we want to
know how many units we need to produce in order to recover our
costs.
Break-even analysis is a very effective tool to determine profitability
and give you a snapshot of the sales volume target that is required to
start making profit
Break-even analysis
Let’s say you want to start producing custom made birdcages.
You have determined your fixed and variable costs for the first
year are as follows:
 Fixed costs $250,275 (this includes rent, machinery, electricity,
etc.)
 Raw materials of $5 per cage
 Labor of $25 per cage
 Overhead of $10 per cage
Break-even analysis

Calculate the net profit at each level of production.

At what level of production does the business begin to make a
profit?
Break-even analysis
1. Fixed costs will remain $250,275 regardless of the production
level. The formula in cell F5 should be =$C$3. Copy it across.
2. Variable costs will fluctuate depending on the volume
produced. The formula in cell F6 should be =F4*$C$8. Copy it
across.
3. Add together the fixed and variable costs in row 7.
4. Calculate the total revenue in row 8. The formula in cell F8
should be =F4*$F$3. Copy it across.
5. Now calculate the net profit at the various production
volumes in row 9.
6. The formula in cell F9 should be =F8-F7. Copy it across.
Break-even analysis

We can see that somewhere between 2,000 and 3,000 cages is

when the revenue begins to cover our costs.
Break-even analysis graphical presentation

Bob's Bird Cages Break-even analysis

From the obtained values at
600000
each given level, consider only
500000 data about cages sold (units),
400000 BEP total cost and total revenue.
Next, highlight these data.
300000
Then, select the Insert tab and
200000
click on the Scatter Charts icon
100000 in the Charts group.
0
From the Scatter Chart gallery,
0 500 1000 1500 2000 2500 3000 3500 4000 4500
choose one of the line charts:
Scatter Chart with Straight
Total cost Total revenue
Lines or Scatter Chart with
Smooth Lines. 
Break-even analysis graphical presentation

Input all the information given

such as Fixed cost, variable
cost, selling price.
Set formula for total revenue,
total variable cost, total cost
and total profit.
Use goal seek to set total profit
to zero.