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 Emersons 36
th
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
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
The Divisions
Board of Directors
Division President
Key Managers
Meet Monthly to Review and Monitor Performance
Knights 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

Knights 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
Knights Strategy (Q1) [Cont.]
Best-Cost Producer Strategy (Cont.)
Keep Staffs at a Minimum
Competitors 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

Knights 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
Knights 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 Divisions 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
Knights 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
Knights Strategy (Q1) [Cont.]
Reporting
Each Division Submits the Presidents 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 Presidents Performance is Measured Using the
Fiscal Years Forecast and Reviewed Quarterly

Knights 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)
Knights 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
Knights 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
Knights 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
Knights Strategy (Q1) [Cont.]
Disadvantages
The Management would Limit Expense to Meet the Goals,
which Might Hurt the Companys 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
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
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
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
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
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
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
Organizations Success Requires Every Operations be
Carried Out As Planned
Chapter 8 Reading
HOW TO SET UP A BUDGETING and
PLANNING SYSTEM
Strategic Budgeting: A Case Study and
Proposed Framework


Penn Fuel Gas (PFG)

public utility company of 550 employees

natural gas, storage and transportation

propane business (not regulated)
How to set up a budgeting & Planning
System
Motivation for Budgeting System

First annual and long-range operating budget process
PFGs 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

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

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

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

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

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.
What is Critical Chain Method
Process steps
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
Slack % of Original Budget
Division Budget Total Slack Slack %
Original $5,600,000 0 0%
Year 1 $7,359,000 $1,759,000 31%
Year 4 $11,880,978 $6,280,978 112%
Year 10 $32,744,641 $27,144,641 485%
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.
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