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Group 10
Case Study Calambra Olive Oil
16110262
16110062
16110254
Dated 19th October 2014

This case explores the classic business dilemma of deciding how much goods to order in the face of
uncertain demand. Frank Lockfield is consulting a specialist in order to get a better grasp on the uncertainties
revolving around the olive oil market. The product he is trying to introduce into this market is no ordinary olive
oil; he wants to position it as a premium product similar to fine wine. He even packages it in a similar fashion
and markets it aggressively in his efforts to establish a solid consumer base for the future years.
The problem is that since he is trying to tap an unexplored market segment by introducing an old
product in a new light and position, he is plagued by uncertainties, especially regarding the demand for his
product. He knows that a little more time (sales in the holiday season) would help him a lot in making a decision,
but he has to make an order for next years oil right now, since his supplier Ambrano needs to prepare the olives
accordingly.
To help him make this decision, we use a spreadsheet model that includes all the uncertain assumed
values, with lowest, most likely and highest scenarios shown. The model currently uses the most likely values to
calculate cash flows and profits, but we will incorporate simulations to account for the potential variation in
these values. We will proceed with our analysis in this order;
1. Perform a sensitivity analysis (by generating a tornado chart) on the input variables to see which
variables affect the total cash value at year 2 most
2. Perform a risk analysis by running simulations for the variables identified in step 1, accounting for
correlation between the variables
3. Attempt to come up with a decision by studying the risk analysis
4. Attempt to come up with suggestions for improvements to the spreadsheet model designed by the
consultant
5. Make a final decision for Frank Lockfield, keeping in mind the limitations of the spreadsheet model
The tornado chart resulting from Step 1 is shown below;

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The chart shows that the 3 most important variables, according to the spreadsheet designed by
Lockfields consultant, are the demand in 1994, the Brokers take after 1993 and the wholesale price of each
case of Lockfields olive oil.
Hoever, we must remember that the 1993 demand is also important, since it affects whether or not the
93 stock is all cleared out or not, which in turn affects 1994 demand. And since 1994 demand is one of the 3
important variables identified by the tornado chart, we must pay attention to the 93 demand (this indirect
relationship cant be shown by the tornado chart because it is not accounted for in the cash flow calculations).
We thus list the 4 variables we will investigate using simulation to see how cash value at year 2 end is affected;
1.
2.
3.
4.

1993 demand
1994 demand
Broker Fees for 1994
Wholesale price

We must also pay attention to correlation between the variables, namely between 93 demand and
price, and 94 Broker Fees and 93 demand. However, our first order of business is to use the 10-50-90s given in
the case to calculate minimum, most likely and maximum values for both 93 and 94 demand. We then proceed
to insert @RISKs function for calculating simulated values based on a triangular distribution for each of the 4
variables we identified previously, such as the following for 93 demand;

=ROUND(RISKTRIANG(E15,F15,G15),0)
(Where E15, F15 and G15 cells capture the assumed 10-50-90 values for 93 demand)

Exp. Demand '93

Simulated Values:
333

Exp. Demand '94

958

Wholesale price

140

Broker Fees '94

23%

Pressing f9 causes Excel to recalculate a random value for each of the 4 variables based on the triangular
distribution

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After this, we insert the RISKCORMAT function of @RISK and construct the correlation matrix;

Exp. Demand '93 / Simulated

Exp.Values:
Demand
in '94
$L$15
/ Simulated
Wholesale
Values:price
inBroker
$L$19
/ Simulated
Fees '94Values:
/ Simulated
in $L$21
Values: in $L$
@RISK Correlations
Exp. Demand '93 / Simulated Values: in $L$15
1
Exp. Demand '94 / Simulated Values: in $L$19
0

Wholesale price / Simulated Values: in $L$21

0.5

Broker Fees '94 / Simulated Values: in $L$23

-0.5

A correlation coefficient of 1 denotes a perfect positive relationship between 2 variables, similarly -1

denotes perfect negative. Here we see that the 93 demand is positively correlated with price, and the 94 broker
fees is negatively correlated with the 93 demand.
After we are done with the functions, we can transfer our simulated values to new copies of the input
and cash flow sheets. Once we link the cash flows file to our simulated values, we can reproduce values for
cash value at year 2 end that correspond to the simulated values of our 4 variables that follow a triangular
distribution.
Before we run our simulations, there is one last step we must take. We will construct a table of
potential order quantities listing 500 to 5000 gallons of oil using intervals/multiples of 100. We will then use
this table in the function =RISKSIMTABLE() in the quantity ordered for 1994 cell. We will count the no. of
potential order quantities. This we find our 45. We now have a number for the number of simulations that we
will run. The final move is to select cash value at end of year 2 as the output cell, select generate reports, and
start the simulation.
But what is the ultimate purpose of running these simulations? The simulations by themselves are
useless; it is @RISKs analysis and reports based on these simulations that will help us reach our decision of how
much oil to order. Some results are shown below (Simulation No.1 to the left, Simulation no. 45 to the right);

@RISK shows a fairly normal-shaped bell curve distribution for our results, with a mean of $14000, a min. value
of $700 and a maximum value of $23500 for Simulation No. 1. However, simulation no. 45 depicts deterioration
from the normal shape with mean of -$9650 and the min. value as low as -$87500.

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These 2 graphs, showing the probability distribution of the results of the first and last simulation,
indicate that the mean of cash value is very high in the first simulation and very low in the last simulation. In
fact, the mean can be shown to follow a trend-like pattern across the 45 simulations we have run. It is this fact
that will help us make our decision. The following summary trend graph depicts this relationship very clearly.

As we can see, the mean clearly changes across the 45 simulations. It first increases till approximately
simulation 14, and then begins to decrease, turning negative somewhere around the 37th simulation. What does
this mean? Since our simulations correspond to a particular order quantity, this means that we can pinpoint an
order quantity at which the mean cash value is maximum; (approximately $25,000) and at its peak at the 14th
simulation. By simply tallying simulation no. 14 with the order quantity, we arrive at the order quantity which is
likely to give highest average profit; 1800 gallons of oil.
Thus, ordering 1800 gallons of oil is a good decision to make according to these results, and the larger
the quantity of the order, the riskier the outcome for cash value at Year 2. Also, ordering above 2700 gallons
of oil is a bad decision max. value begins to decrease from this point onwards (simulation no. 23).

Limitations
1. Result of striking a deal with Williams-Sonoma and/or Neiman-Marcus not properly accounted for in
cash flow calculations
2. The importance of 1993 demand not fully apparent in cash flow calculations and tornado chart,
however it is 1993s demand which is responsible for 94s demand, according to Lockfield
3. Decision does not have to be based on highest average profit; if Lockfield wants to play it safe, he
should order less, if he wants to go for high reward, high risk then he should order more