May 05 2020
MODEX 2020 in Atlanta has come and gone. On behalf of the MHI AS/RS User Group, Westfalia’s President Dan Labell joined a panel of experts to present a seminar on the key factors that often get overlooked when installing an Automated Storage/ Retrieval System (AS/RS) in your warehouse. Labell also discussed with attendees how to then calculate an AS/RS’s Return on Investment. We understand many people may not have been able to attend MODEX this year. So, for those who were not able to join the seminar, here is our recap.
To start, there are more ways to justify investing in automation than just looking at labor costs. Yes, automation absolutely helps lower the cost of labor, but it goes even further than that. Automation can also lower your insurance claims, make onboarding of new employees easier, allow for better work-life balance, use less energy and create inventory visibility to enable growth.
It’s one thing to make these claims… Now let us prove it.
Here are the five key steps you should consider when making economic justifications of an AS/RS:
1. Put Your Plan in Place and Build a Comparison Model. Before you get into the fine details, first create a vision of how you want to structure your economic justification analysis. This is done by building a comparison model. Simply price out a conventional system, taking investment costs and equipment costs into consideration (these two costs are looked at separately due to the fact they each have different tax benefits). Then price out the automated system, taking those same costs into consideration. During this first step, you’ll realize that automation typically has more upfront costs. Moving forward, we will look at other factors to consider when understanding the true ROI and whether a conventional system or automated system is best for your warehouse.
2. Make your Model Scalable as your Company Grows. Define the weighted average cost of capital (the cost it’s going to take to raise money for your business). This is the rate your company pays to security holders to finance your assets; more so, the rate your discount cash flows on. You need a cost of capital to do any form of discounted cash flow analysis. You also need to weigh income tax rate for your company, which will be federal plus state tax. Next, your company will need to weigh inflation; this is what you will grow the labor at, in which you then compound that percentage for the duration of your analysis.
Your company is growing; otherwise, you wouldn’t be investing. At what rate is your company growing? As labor begins to increase and sales grow, so will your model. These are the factors that need to be scaled when you begin to look at implementing AS/RS.
3. Define the operating cost for both systems. Now, we get closer to understanding if your warehouse is best fit with a conventional system or an automated system. The step prior was investments cost; what you shell out in the beginning. In this step you get into the operating cost. You have to define the operating cost of the conventional system (benchmark facility) and an automated system separately. For example: It’s going to cost $1.5 million to operate the benchmark facility and it will cost $500,000 to operate the automated system because you have to account for the cost of energy, labor and the product damage estimate. You also have to build the cost of that model. There are two categories of cost that you’ll have to separate: investment costs - that are building/land/infrastructure based and equipment cost.
4. Project investments and operating costs. Compare both conventional and automated systems and project your annual savings over 10+ years. Typically, an AS/RS has a lifespan of well over 15 to 20 years. When projecting these numbers, do not forget to add in sales growth as well as labor cost. Sales growth and inflation have a huge impact on these numbers. It costs a lot less to run an automated warehouse compared to a conventional warehouse.
5. Take your projected long-term cash flow and bring them back to the present. Take your differential cash flows long-term, and then calculate the net present value (NPV). This fundamentally gives you the result of what you are looking for in the investment. So, if the NPV is greater than zero, it is a project that should be accepted. Why? Because it exceeded the cost of capital. You want to get more than your benchmark, but with a higher threshold, the harder it will be to exceed the cost of capital. Keep in mind that payback does not include discounted cash flow of the time value of money because it is very hard to calculate in your ROI.
Implementing automation into your warehouse is a big decision. Understanding the long-term investment of an AS/RS is not easy nor is it a cheap option. That is why these steps are extremely important when calculating the ROI of advancing toward automating your warehouse. But, if done right, automated warehousing can drive company growth and profitability well into the future.
If you would like to listen to the full presentation, you can listen here!