LINKING PRODUCT AND PROCESS DESIGN TO THE FINANCIAL STRUCTURE OF THE FIRM
Gültekin BÜYÜKYENEREL (METU)
In practice, engineering design of products and production processes is not
fully integrated with the economic structure of the firm. A design may be refused
on economic grounds and modifications may be requested, the final decision being
made among a number of alternative designs, which will be only suboptimal and
often unnecessarily far from the optimal. Taguchi's total quality approach and
the introduction of a loss function is certainly a great improvement that facilitates
the cooperation of the design and finance departments.
In this article, a financially sound cost function is proposed which is based
on the Capital Asset Pricing Model (CAPM). It is obtained by linking engineering
design to the cost structure of the production and the financial structure of
the firm that undertakes the production. This allows making the design decisions
and financial decisions by taking into account fully their interdependence.
If the model is found too rigid with respect to some of the decision variables
about which there is experiential judgment, as would be justified in view of
the omnipresence of modeling errors, some of the financial variables may be
constrained as dictated by experience. Bounds on for example the debt-equity
ratio may be required also by credit institutions. The values of the associated
Lagrange multipliers would contain valuable information to the decision makers
in the final phase. If for instance the optimal capital structure is determined
outside the model and added as a constraint, the associated Lagrange multiplier
would give an idea about the decrease in the net present value of the firm resulting
from the constraint based on business intuition which may then be reconsidered.
An example is given from food industry, comparing the Taguchi loss function
and the one derived from CAPM, showing how optimal process parameters are found
jointly with for example the optimal capital structure of the firm.
