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How would you structure this ?

Anonymous A asked on May 22, 2018

Our client is a large producer of PET. PET is a type of plastic that is used mainly for producing bottles, such as the ones you find in grocery stores. The main component of PET is PTA. Our client has a PET plant in the US and serves clients both in the US and Europe. They have made the decision to build a PET plant in Europe to be closer to the clients. They have asked you to evaluate whether they should also backward integrate and purchase a PTA plant and locate both plants next to each other.

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Sidi
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replied on May 22, 2018
McKinsey Engagement Manager & BCG Consultant | Interviewer at McK & BCG for 7 years | Coached 90+ candidates secure MBB offers
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Hi Anonymous,

this is a strategic investment decision. A very clear approach would be:

1. Core Question: "Should the client invest into purchasing a PTA plant next to the new PET plant in Europe?"

2. Identify criterion to make this decision: The additional value we can create over the client's investment horizon has to be significantly higher than the investment cost. Moreover, the risks need to be manageable.

3. Compile base information: Purchasing Price of PTA plant / yearly operating cost of PTA plant if purchased / capacity of PTA plant vs. PTA need / investment horizon of client

4. Deep dive into the value bucket by menas of a profitability tree: what are the levers of value here? Compare Scenario A (PTA plant in Europe) to Scenario B (no PTA plant in Europe). Probably the value lever lies on the cost side: how much savings potential due to decreased/eliminated transport costs? How much savings due to eliminated import tariffs? etc.

5. Calculate annual value (delta between Scenario A and B). If a PTA plant in Europe indeed increases annual profits by a certain amount, you then divide the purchasing price of the PTA plant by this additional yearly profit. This gives you the break even point (point in time after which the investment becomes profitable). If this point comes earlier than the investment horizon, then this is a beneficial investment and the client should proceed with the purchase (purely based on financials).

6. Don't forget to compile potential risks and mention them in your summary

Cheers, Sidi

Hi Sidi, really interesting and detailed response. I had a question regarding how one would suggest this response in an interview. A lot of the literature out there suggests always creating a 'framework' up front, laying out the 'buckets' you will look in to, trying to be MECE, etc. and then go from there. Your approach appears to be more of a step-by-step roadmap of how to tackle this problem. When structuring one's approach to this case, are interviewers always expecting a 'framework' which is then followed by a roadmap as above? Or can a candidate avoid the framework altogether and go straight for your approach? — Zak on Sep 19, 2018 (edited)

I teach my mentees to refrain from these bucket frameworks altogether! This is NOT how you should think about business problems. It lacks fundamental rigor and the inherent decision logic! Taking the pertinent case literature for granted is quite harmful actually, and it is a consequence of the fact that the vast majority of case preparation book authors have actually never structured an entire MBB project themselves. Cheers, Sidi — Sidi on Sep 19, 2018

Thanks for the reply Sidi. To ensure I understand the distinction you're making, would the following tie in with your advised approach (as an example): If the case centers around whether or not Company A should acquire Company B, some frameworks would advise the following buckets: Target, Acquirer, Deal Economics, Risks. Is your point that this is the wrong way to approach this and instead the issue tree should look something a bit more like: 1) Does this make strategic sense? 2) Does this make economic sense? 3) Can the risks of this acquisition be overcome? — Zak on Sep 19, 2018

Yes exactly! You should start with the second question though, and disaggregate the drivers of value creation by means of a driver tree. ONLY AFTRWARDS you can define the qualitative elements (the “buckets”) and map them to the numerical value drivers in your tree. This takes some time to internalize, but is much more powerful than any framework from the pertinent books. — Sidi on Sep 19, 2018

Ok so when you say value drivers, do you mean that in this case one should begin with a profit tree and examine incremental revenue and incremental costs that would result from the acquisition as a first step - then move on to strategic rationale and risks? I'm having difficulty understanding what you mean by 'map the qualitative elements to the numerical drivers. Could you explain through this example what you mean? Thank you for your responses in clearing this up. — Zak on Sep 19, 2018