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Chapter 8 Case 8-1. Lin Wang Bichloan Nguyen Hank Liu Keye Su Jeff Tsai. Introduction. Emerson Electric Company Founded in 1890 as a Manufacturer of Motors and Fans 1993 Marked Emerson’s 36 th Consecutive Year of Improved Earnings Per Share

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Chapter 8 Case 8-1

Lin Wang

Bichloan Nguyen

Hank Liu

Keye Su

Jeff Tsai


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Introduction

  • Emerson Electric Company

    • Founded in 1890 as a Manufacturer of Motors and Fans

    • 1993 Marked Emerson’s 36th Consecutive Year of Improved Earnings Per Share

    • Manufacturers a Broad Range of Electric, Electromechanical, and Electronic Products for Industry and Consumers

    • Since 1956, Annual Return to Shareholders Averaged 18%

    • Is a Major Domestic Electrical Manufacturer

    • Has Had the Narrowest Focus as a Broadly Diversified Manufacturing Company

    • Follows a Growth-Through-Acquisition Strategy


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The Office of the Chief Executive (OCE)

  • The CEO

  • The President

  • Two Vice Chairmen

  • Seven Business Leaders

  • Three Corporate Officers

  • Direct Management of the Company

  • Meets 10 to 12 Times a Year to Review Division Performance


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The Divisions

  • Board of Directors

  • Division President

  • Key Managers

  • Meet Monthly to Review and Monitor Performance


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Knight’s Strategy (Q1)

  • Charles F. Knight (1973)

    • Analyzed Historical Records

    • Analyzed Data of Competitors

    • Set Target Growth and Strong Financial Results on a Consistent Basis Reflecting Constant Improvement

    • Set Target Growth Rate Based on Revenue Growth Above and Beyond Economy-Driven Expectation

    • Maintained a Very Conservative Balance Sheet rather than using Leverage

    • Maintained Tight Cost Control and Open Communication Between All Levels of Employees


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Knight’s Strategy (Q1) [Cont.]

  • Best-Cost Producer Strategy

    • Commitment to Total Quality and Customer Satisfaction

    • Knowledge of the Competition and the Basis on which They Compete

    • Focused Manufacturing Strategy, Competing on Process as well as Product Design

    • Effective Employee Communications and Involvement

    • Formalized Cost-Reduction Programs, in Good Times and Bad

    • Commitment to Support the Strategy through Capital Expenditures


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Knight’s Strategy (Q1) [Cont.]

  • Best-Cost Producer Strategy (Cont.)

    • Keep Staffs at a Minimum

    • Competitor’s Products were Disassembled and Studied for Cost Improvement

    • Regional Labor Rates and Freight Costs were Analyzed

    • Capital Investments of $1.8 Billion were Made to Improve Process Technology, Increase Productivity, Gain Product Leadership, and Achieve Critical Mass

    • Increased Quality to Reduce Cost


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Knight’s Strategy (Q1) [Cont.]

  • Best-Cost Producer Strategy (Cont.)

    • Advantages

      • Reduced Cost

      • Not Burdened by Heavy Debts and Interest Payments During Economic Downturn

      • Improved Quality

      • Reduced Investment Risk

    • Disadvantages

      • Does Not Maximize Possible Leverage

        • Debts are not Used to Expand


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Knight’s Strategy (Q1) [Cont.]

  • Planning Process – First Stage

    • Top Management Sets Sales Growth and Return on Total Capital Targets for the Division

    • Top Management Wants the Division to Stretch to Reach Its Goal; They Also Reviews the Detail Actions that Division Management Believe Will Lead to Improved Results

    • The Division Presidents Submit Four Standard Exhibits to Top Management Prior to Its Division Planning Conference

    • The Division’s Actual Performance for the Past Five Years, Its Expected Results for the Current Year and the Forecasted Growth/Profit/Return for the Next Five Years are Compared


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Knight’s Strategy (Q1) [Cont.]

  • Planning Process – Second Stage

    • Changes in the Division Plant Must Be Submitted for Approval by Top Management

    • Late in the Fiscal Year, Division Managers Meets with Top Management with Detailed Forecast for the Coming Year and Reviews the Actual Performance of the Current Year

    • Changes in the Forecast Must Be Submitted for Approval by Top Management

    • In August, Top Management Performs Detailed Financial Review

    • In September, Top Management Provides the Corporate and Division Forecast for the Next Year as well as the Strategic Plan for the Next Five Years


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Knight’s Strategy (Q1) [Cont.]

  • Reporting

    • Each Division Submits the President’s Operating Report (POR), which Compare the Actual and Forecasted Results of the Current Quarter along with the Actual Results from the Previous Year

    • The Division President’s Performance is Measured Using the Fiscal Year’s Forecast and Reviewed Quarterly


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Knight’s Strategy (Q1) [Cont.]

  • Compensation

    • Each Division Evaluate All Department Heads and Higher-Level Managers Against a Set of Specific Performance Criteria

    • Human Resources are Involved in Strategy Implementation

    • Each Division Executive Earns a Base Salary and is Eligible for “Extra Salary” based on Division Performance according to Measurable Objectives (Primarily Sales, Profits, and Return on Capital)


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Knight’s Strategy (Q1) [Cont.]

  • Communication

    • Open Communication Highly Encouraged by Top Management

    • Division President and Planning Managers Meet Regularly with All Employees to Discuss the Goals and Business Strategy

    • The Company Conducts Opinion Surveys of Every Employee, then Performs Statistic Analysis to Uncover Trends


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Knight’s Strategy (Q1) [Cont.]

  • Advantages

    • Targeted Budget is Highly Achievable

    • Increased Commitment from Managers to Achieve the Target Budget due to Established Ownership and the Elimination of the Artificial Distinction between Strategic and Operation Decisions

    • Increased Managers’ Confidence in the Budget

    • Decreased Organizational Control Cost

    • Reduced the Occurrence of Managers Engaging in Harmful Earnings Management Practice or Violating Corporate Ethical Standards


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Knight’s Strategy (Q1) [Cont.]

  • Advantages (Cont.)

    • Provided Managers with More Effective and Efficient Operating Flexibility

    • Improved Predictability of Earnings or Operating Results

    • Enhanced the Usefulness of a Budget as a Planning and Coordinating Tools

    • Provided Better Decision Making Control

    • Increased Employee Commitment to Fulfilling the Budgetary Goals


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Knight’s Strategy (Q1) [Cont.]

  • Disadvantages

    • The Management would Limit Expense to Meet the Goals, which Might Hurt the Company’s Expansion in the Long Run or Cause Missed Opportunities

    • Manual Budgeting Process is Very Time Consuming

    • Budget based on Historical Data may not be Practical for Forecast Analysis


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Recommendations to CEO (Q2)

  • Real-Time Budgeting using Intranet-Capable Software

    • Online and Real-Time Capability

    • Shorten the Budgeting Process

    • Sensitivity Analysis

    • In-Depth Analysis

    • Active Involvement

    • Integrated Strategic Planning, Budgeting, Management Reporting, Sensitivity Analysis, and Financial Consolidations


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Recommendations to CEO (Q2) [Cont.]

  • Using Zero-Based Budgeting

    • From a Zero-Base

    • In-Depth Reviews and Analysis

    • Schedule Budgeting Periodically

  • Using Activity Based Budgeting

    • Extension of ABC System

    • Focus on High-Value-Added Activities

    • Eliminate Low-Value-Added Activities

    • Cost Reduction

    • Continuous Improvement

    • Coordinate and Synchronize Activities


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Recommendations to CEO (Q2) [Cont.]

  • Using Kaizen (Continuous Improvement) Budgeting

    • Demands Continuous Improvements

    • Based on Improved Practices or Procedures

  • Choosing the Budgeting Approach

    • Select a Proper Budgeting Approach for Each Business Segment according to the Characteristics of Each Business Segment


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Role of Segment Managers (Q3)

  • Act as a Bridge between Low Level Employee and Upper Management

    • Provide Valuable Data for Trend Analysis

    • Performs Performance Reviews

    • Provide Recommendation and Detailed Budgeting Analysis to Upper Management

  • Motivate Employee to be Involved in the Budgeting Process and to be Committed to its Implementation

    • Motivate Employee to Work to Attain the Budgeted Goals

    • Help Employees Identify the Budget as Their Own


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Role of Segment Managers (Q3) [Cont.]

  • Pinpoint Budgeting Problems and Implement Solutions Effectively

    • Identify Current and Potential Bottlenecks in Operations

    • Allocate Critical Resources to Ease Any Bottlenecks and Prevent Them from Becoming Obstacles to Attaining Budgetary Goals

    • Work Out Any Problems the Company Might Face to Minimize the Adverse Effects that the Anticipated Problems Could Have on Operations

  • Select an Appropriate Budgeting Approach

    • Use the Budget of the Operating Period to Assess Current Performance and Select Appropriate Budgeting Approach for the Future


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Role of Segment Managers (Q3) [Cont.]

  • Cooperate with other Segment Managers

    • Allow Each Division to Know What It Needs to Do to Satisfy the needs of Other Divisions.

  • Encourage Open Communication Among Employees

    • Communicate Expected Actions and Results

  • Monitor and Control Activities

    • Provide Guidelines for Operations

    • Organization’s Success Requires Every Operations be Carried Out As Planned


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Chapter 8 Reading

HOW TO SET UP A BUDGETING and PLANNING SYSTEM

Strategic Budgeting: A Case Study and Proposed Framework


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How to set up a budgeting & Planning System

  • Penn Fuel Gas (PFG)

  • public utility company of 550 employees

  • natural gas, storage and transportation

  • propane business (not regulated)


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Motivation for Budgeting System

  • First annual and long-range operating budget process

  • PFG’s bankers, board of directors, and management requested additional reports

  • Similar interests in cash flow projections, future earnings potential

  • Management wanted capability of slicing and dicing different segments for P&L


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Flexibility in Budgeting System

  • Budgeting for natural gas and propane operations

  • Demand driven by weather

  • Pennsylvania – 1994 iciest winter, 1995 one of warmest

  • Rapid growing company

  • Sensitivity analyses & budget reprojection – quarterly


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Challenges

  • Northern and Southern divisions – different reporting system, different accounting software

  • Chart of accounts – Propane business vs. Utility business

  • Review expense classification system

  • Faster accounting system w/o manual processes

  • Common challenges for new reporting tools


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Why review chart of accounts?

  • Accounting system less likely updated as company grows

  • Budget manager should update classifications immediately to accommodate future budgeting

  • Difficult to change system once developed


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Budgetary Games

  • Manipulation of revenues/expenses to meet budget

  • Budgets developed with management with agreed-upon, reasonable expectations

  • Employees/divisions were not penalized if budget not met


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Reading2 Strategic Budgeting: A case Study and Proposed Framework

  • Critical Chain technique –Eliyahu Goldratt

  • Strategic Budgeting Method

  • Many companies applied it, and reduced project time.

    - DiamlerChryslter, Lucent, Harris Semiconductor, etc.




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What is the lawnmower method of cost reduction?

  • cost cutting does not discriminate on the basis of need or capacity

  • all departments are simply required to reduce costs by a given percentage



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What is the strategic budgeting model?

  • Gathered budget estimates from department heads

  • Reduced all department budgets by 50%

  • Grouped all “saving” from department budgets in a Group Budget Buffer.

  • Told each department head that if he or she needed further funds, the funds would be available but the request would be discussed openly with other department heads.


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What are the strengths of strategic budgeting?

  • Ease of Implementation

  • Increase Communication Between Departments

  • Lower Overall Spending Levels

  • Assurance of Output Integrity

  • Intrinsic Rewards through Goal Achievement


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