Reference no: EM131969097
Case:
Market The second niche market that looked attractive to ONA for CFL bulbs was Lighting Maintenance Contractors (LMCs). This segment bought $144 million in incandescent and fluorescent bulbs in 1996 and was supplied directly by the big three. The ESCO segment was buying only about $36 million in fluorescent bulbs in 1996. Even if ONA could double the ESCO market by switching it to CFL bulbs, the potential was only half that of LMCs. Farnham Lighting Service (FLS) is based in Atlantic City, New Jersey. FLS contracts with building managers to change the many thousands of light bulbs that illuminate casino interiors, exterior signs and parking lots. A typical job could have 12,000 to 18,000 bulbs. For the Villagio casino in Las Vegas, the marquee billboard alone has 33,000 bulbs. FLS charges the casino a set monthly fee based on the number of light sources. The fee includes labor, equipment usage, and the cost of the light bulbs themselves. Access to the light bulb can be very difficult, requiring lifts and other power equipment for changes. This is a key factor in determining the monthly fee. Normally, longer-life light sources (fluorescent) are chosen for the least accessible locations. Research showed that burned-out lighting is very unattractive, keeping customers away from the casinos. The standard practice for lighting service companies is to totally re-lamp a section, known as "group relamping," at 80% of the bulbs' expected life. This virtually eliminates burned out lights. In order to test the new product in this segment, ONA convinced FLS to propose a conversion to CFL bulbs for one large customer, the Stardust Casino. The casino has 15,000 incandescent fixtures (50- and 100-watt) with an expected life of 800 or 1400 hours, similar to a hotel, and 2,000 25-watt fluorescent fixtures with a rated life of 8,000 hours. The casino stays open 24 hours a day. FLS does not relamp the hotel room bulbs, which are changed as they burn out by the regular maintenance staff. They relamp the hall and casino incandescent bulbs 8 times per year (8,760 hrs ÷ 1,400 × .8) and the fluorescent fixtures approximately 1.4 times per year (8,760 ÷ 8,000 × .8). With an average labor rate of $20 per hour, an average of 5 minutes to change each bulb, and equipment rental at about $300/day, the CFL story is very appealing to Farnham. The CFL bulb offers lower power cost to the casino (18-watt bulbs vs. 100-watt, and 9-watt vs 25- or 50-watt). CFL bulbs offer lower changeover cost to the service company due to longer bulb lives. The casino would also enjoy less downtime for their 24-hour gambling operation. Sometimes bulbs could be changed without closing down the gambling, but not always. Downtime means lost revenue from the gamblers who move to a different casino. Once they move, players usually don't return right away once the bulb change is complete. The Stardust Casino, which grosses $250 million a year, once estimated that lost time from light bulb changes costs about $100,000 each year in lost revenue at, probably, 75% gross margin. The changeover requires the purchase of more expensive bulbs and a one time retrofitting of all fixtures to accommodate CFL-compatible sockets. The lighting configuration for the Stardust Casino is as follows:
A 1,000-room hotel with 9 bulbs (100-watt) per room and 1,000 hall lights (50-watt). This is a total of 10,000 incandescent bulbs. The casino, with 5,000 100-watt incandescent bulbs and 2,000 25-watt fluorescent bulbs. The casino and the hotel halls were lighted 24 hours a day. The hotel rooms average 200 occupied nights per year with 7 hours of bulb usage, combined, per stay. The one-time retrofitting cost for light fixtures would be: 3,000 wall fixtures @ $30 each 5,000 overhead fixtures @ $35 each Power cost is $.12 per kwh in Atlantic City FLS uses an 8-person crew at the Stardust Casino. The crew averages 7 working hours on each eight-hour shift. The crew is scheduled to spend about 76 days a year on site. The monthly fee is $20,500 ($246,000 per year), which breaks down as follows:
Bulbs: 48,000 incandescent bulbs at $1.00 each = $48,000 2,800 fluorescent bulbs at $6.00 = $16,800
Labor: 50,800 bulb changes at 5 minutes (average) per bulb = 4,234 hours Paid hours = 76 days × 8 hrs × 8 persons = 4,864 hours × $20/hr = $97,280
Equipment rental (at $300 per crew day): = $300 × 76 =
$22,800 Subtotal $184,880 Mark up to cover overhead and profit
$61,120 TOTAL
$246,000 The CFL bulbs exhibit much tighter variation in bulb life, versus incandescent, whether bulbs are frequently turned on and off or left burning. FLS could go to "group relamping" at 90% of the 10,000 hour rated CFL life with very little chance of burned out bulbs
Questions for the following Case:
a) For the LMC test market, what is the value to FLS in the first year from the Stardust Casino contract if FLS switched to CFL bulbs? Labor and equipment rental savings from longer bulb life. This is the maximum amount, which FLS might pay to ONA for the 8,000 new CFL bulbs (5,000 18-watt bulbs and 3,000 9-watt bulbs). Of course, FLS would also know that the casino was achieving large savings which might be shared with FLS and ONA.
The Lighting Maintenance Contractors (LMC)
b) What is the average annual saving to the Stardust Casino, over the fifteen year life of the retrofitted fixtures, of switching to CFL bulbs? Energy savings, less the retrofit charge, plus the value of reduced casino downtime. Assume the retrofit contractor earns a 40% gross margin and Siemens' captive finance subsidiary will finance the retrofit with a 15-year installment loan at 12% interest. This is the maximum amount, which the casino might be willing to pay to FLS for using CFL bulbs. Of course, the casino would also know that FLS was saving on changeover costs.
c) What price should ONA charge FLS for the 8,000 replacement bulbs each year?