Emerson Electric Company was founded in 1890 as a manufacturer of motors and fans. In 1993, Emerson marked its thirty-sixth consecutive year of improved earnings per share. On $8.2 billion sales, the diversified St. Louis based company reported a 1993 profit of $708 million. In addition, the company had $2 billion in unconsolidated sales in international joint ventures. It manufactures a broad range of electric, electromechanical, and electronic products for industry and consumers. Brand names include Fisher Control Valves, Skil, Dremel, and Craftsman power tools, In-Sink-Erator waste disposals, Copeland compressors, Rosemount instruments, Automatic Switch valves, and U.S. Electric Motors in the power transmission market. Since 1956, Emerson's annual return to shareholders averaged 18 percent. Sales, earnings per share, and dividends per share grew at a compound rate of 9 percent, 8 percent, and 7 percent, respectively, over the 1983-93 period. Inter-national sales have grown to 40 percent of total sales and present a growth area for the company.

Emerson is a major domestic electrical manufacturer. Its U.S. based competitors include companies such as General Electric, Westinghouse, and Honeywell. Its foreign competitors include companies such as Siemens and Hitachi. Emerson has had the narrowest focus as a broadly diversified manufacturing company among its primary competitors. Other manufacturers, such as GE and Westinghouse, are diversified into financial services, broadcasting, aircraft engines, plastics, furniture, etc. Emerson follows a growth-through-acquisition strategy, but no one acquisition has been very large. There are periodic divestitures as management seeks the appropriate or complementary mix of products.

In 1973, Charles F. Knight was elected Chief Executive Officer, after joining the company the prior year. Under Knight's leadership, Emerson analyzed historical records as well as data on a set of "peer companies" the investment community valued highly over time. From this analysis, top management concluded that Emerson needed to achieve growth and strong financial results on a consistent basis reflecting constant improvements. The company set growth rate targets based on revenue growth above and beyond economy-driven expectations.

During the 1980s, the company maintained a very conservative balance sheet rather than using leverage. Top management felt that this was a competitive weapon because it permitted flexibility to borrow when an attractive business investment became available. In the economic downtown of the 1990s, Emerson, unlike a number of companies, was not burdened by heavy debt and interest payments.

ORGANIZATION

Historically, Emerson was organized into 40 decentralized divisions consisting of separate product lines. A president ran each division. The goal was to be number one or two in the market for each product line. The company resisted forming groups, sectors, or other combinations of divisions as found in other large companies until 1990, when Emerson organized its divisions into eight business segments: fractional horsepower electric motors; industrial motors; tools; industrial machinery and components; components for heating and air conditioning; process control equipment; appliance components; and electronics and computer support products and systems. This new structure exploits common distribution channels, organizational capabilities, and technologies.

The Office of the Chief Executive (OCE), which consists of the Chief Executive Officer, the President, two Vice Chairmen, seven business leaders, and three other corporate officers, directs management of the company. The OCE meets 10 to 12 times a year to review division performance; and discuss issues facing individual divisions or the corporation as a whole.

Each division also has a board of directors, which consists of a member of the OCE who serves as chairman, the division president, and the division's key managers. The division boards meet monthly to review and monitor performance.

Corporate staff in 1993 consisted of 311 people, the same number as in 1975, when the company was one-sixth its current size in terms of sales. Staff is kept to a minimum because top management believes that a large staff creates more work for the divisions. To encourage open communication and interaction among all levels of employees, Emerson does not publish an organization chart.

In the early 1980s, the company was not globally competitive in all of its major product lines, and recognized that its quality levels in some product areas did not match levels available from some non-U.S. competitors, particularly the Japanese. Therefore, top management changed its twenty-year strategy of being the "low cost producer" to being the "best cost producer." There were six elements to this strategy:

1. Commitment to total quality and customer satisfaction.
2. Knowledge of the competition and the basis on which they compete.
3. Focused manufacturing strategy, competing on process as well as product design.
4. Effective employee communications and involvement.
5. Formalized cost-reduction programs, in good times and bad.
6. Commitment to support the strategy through capital expenditures.

Since the 1950s, the low cost producer strategy required the divisions to set cost-reduction goals at every level and required plant personnel to identify specific actions to achieve those goals. Improvements of 6 percent to 7 percent a year, in terms of cost of goods sold, were targeted. With the best-cost producer strategy, Emerson now aims for higher levels of cost reduction through its planning process. For example, machine tools were used to streamline a process to save labor costs, and design changes saved five ounces of aluminum per unit. Sometimes a competitor's products were disassembled and studied for cost improvements. Products and cost structures of competitors were used to assess Emerson's performance. Factors such as regional labor rates and freight costs were also included in the analyses. For example, before investing millions of dollars in a new plant to make circular saws, top management wanted to know what competitors, domestic and global, were planning.

In the period 1983 to 1993, capital investments of $1.8 billion were made to improve process technology, increase productivity, gain product leadership, and achieve critical mass in support of the best-cost producer strategy. Division and plant management report every quarter on progress against detailed cost reduction targets.

Quality was an important factor in Emerson's best-cost producer strategy. Improvements were such that Emerson was counting defects in parts per million. For example, in one electric motor line, employees consistently reached less than 100 rejects per one million motors.

PLANNING PROCESS

CEO Knight made the following comments on Emerson's planning process:

Once we fix our goals, we do not consider it acceptable to miss them. These targets drive our strategy and determine what we have to do: the kinds of businesses we are in, how we organize and manage them, and how we pay management. At Emerson this means planning. In the process of planning, we focus on specific opportunities that will meet our criteria for growth and returns and create value for our stockholders. In other words, we "identify business investment opportunities."

Emerson's fiscal year starts October 1. To initiate the planning process, top management sets sales growth and return on total capital targets for the divisions. Each fiscal year, from November to July, the CEO and several corporate officers meet with the management of each division at a one or two day division planning conference. Knight spends 60 percent of his time at these division-planning conferences. The meetings are designed to be confrontational in order to challenge assumptions and conventional thinking. Top management wants the division to stretch to reach its goals. It also wants to review the detailed actions that division management believes will lead to improved results.

Prior to its division planning conference, the division president submits four standard exhibits to top management. Developing these four exhibits requires months of teamwork and discipline among each division's operating managers.

The "Value Measurement Chart" compares the division's actual performance five years ago (1989), the current year's expected results (1994), and the long-range forecast for the fifth year (1999). SeeExhibit 1(Note: the numbers in all exhibits are disguised). The Value Measurement Chart contains the type, amount, and growth rates of capital investment, net operating profit after tax (NOPAT), return on average operating capital, and "economic profit" (NOPAT less a capital charge based on the cost of capital). To create shareholder value, the goal is to determine the extent to which a division's return on total capital (ROTC) exceeds Emerson's cost of capital. Use of the cost of capital rate (Line 3000 onExhibit 1) is required in all division plans.

The next two exhibits contain sales data. The "Sales Gap Chart" and "Sales Gap Line Chart" show the current year's expected sales (1994) and five-year sales projections (1995-1999). SeeExhibits 2and3. These are based on an analysis of sources of growth, the market's natural growth rate, market penetration, price changes, new products, product line extensions, and international growth. The "gap" represents the difference between the division's long-range sales forecast and top management's target rate for sales growth (Line 19 inExhibit 2).Exhibit 2shows the five-year sources of sales growth in Column H. These are illustrated in the Sales Gap Line Chart inExhibit 3for one of the divisions for the 1995-99 periods. The division president must explain what specific steps are being taken to close the gap.

The "5-Back by 5-Forward P&L inExhibit 4contrasts detailed division data for the current year (1994) with five prior years of historical data and five years of forecast data (1995-99). This comprises 11 years of profit statements including sales; cost of sales; selling, general and administrative expenses; interest; taxes; and return on total capital (ROTC). This statement is used to detect trends. Division management must be prepared with actions to reverse unfavorable movements or trends.

Beyond the review and discussion of the four required exhibits, the division planning conference belongs to the division president. Top management listens to division management's view of customers, markets, plans for new products, analyses of competition, and reviews of cost reductions, quality, capacity, productivity, inventory levels, and compensation. Any resulting changes in the division plan must be submitted for approval by top management. The logic and underlying assumptions of the plan are challenged so that managers who are confident of their strategies can defend their proposals. CEO Knight views the test of a good planning conference is whether it results in manager actions that significantly impact the business. According to Knight:

Since operating managers carry out the planning, we effectively establish ownership and eliminate the artificial distinction between strategic and operating decisions. Managers on the line do not-and must never-delegate the understanding of the business. To develop a plan, operating managers work together for months. They often tell me that the greatest value of the planning cycle lies in the teamwork and discipline that the preparation phase requires.

Late in the fiscal year, the division president and appropriate division staff meet with top management to present a detailed forecast for the coming year and conduct a financial review of the current year's actual performance versus forecast. The forecast is expected to match the data in the plan resulting from the division planning conference, but top management also requests contingency plans for several lower levels of activity. A thorough set of actions to protect profitability at lower sales levels is presented. These are known as contingency plans. Changes to the division's forecast are not likely unless significant changes occurred in the environment or in the underlying assumptions. Top management must approve changes in the forecast. It is not Emerson's practice to aggregate financial reports for planning and controlling profits between the division and corporation as a whole.

In August, the information generated for and during the division planning conferences and financial reviews is consolidated and reviewed at corporate headquarters by top management. The objective is to examine the total data and prepare for a corporate wide planning conference. In September, before the start of the next fiscal year, top management and top officers of each division attend an annual corporate planning conference. At this meeting, top management presents the corporate and division forecasts for the next year as well as the strategic plan for the next five years. The conference is viewed as a vehicle for communication. There is open and frank discussion of success stories, missed opportunities, and future challenges.

REPORTING

At its meetings the CEO uses the President's Operating Report (POR) to review division performance. Each division president submits the POR (seeExhibit 5), on a monthly basis. This reporting system is different from budget reports found in other companies.

First, the POR contains three columns of data for the "current year." The third column of data (Forecast) reflects the plan agreed to by the division president and top corporate management at the beginning of the fiscal year. The forecast data is not changed during the fiscal year and the division president's performance is measured using the fiscal year's forecast. The first column reports the actual results for completed quarters or expected amounts for the current and future quarters. The division president may update expected quarterly results each month. The second column reports the "prior expected" results so that each month's updated expectations can be compared with data submitted in the prior month's POR. Updated expectations are also compared with the forecast data.

Second, in addition to current year data, the POR lists the prior year's actual results. This permits a comparison with the current year's actual results for completed quarters (or expected results for subsequent quarters) and over (0) or under (U) percentages are reported. Midway through the fiscal year, expected data for the first quarter of the next fiscal year is added to the POR.

Corporate top management meets quarterly with each division president and his or her chief financial officer to review the most recent POR and monitor overall division performance. The meetings are taken very seriously by all concerned and any deviations from forecast get close attention. When a division's reported results and expectations are weak, a shift to contingency plans is sometimes ordered by top management; Emerson does not allocate corporate overhead to the divisions but does allocate interest and taxes to divisions at the end of the fiscal year.

COMPENSATION

During the year, each division assesses all department heads and higher-level managers against specific performance criteria. Those with high potential are offered a series of assignments to develop their skills. Human resources are identified as part of the strategy implementation. In addition, personnel charts on management team are kept at corporate headquarters. The charts include each manager's photo, function, experience, and career path. About 85 percent of promotions involve internal managers.

Each executive in a division 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). An extra salary amount, established at the beginning of the year, is multiplied by "1" if the division hits targeted performance. The multiplier ranges from .35 to 2.0. Doing better than target increases the multiplier. In recent years, sales and profit margin, as identified in the POR forecast column, have had a 50 percent weighting in computing compensation targets. Other factors include inventory turnover, international sales, new product introductions, and an accounts receivable factor. In addition, stock options and a five-year performance share plan are available to top executives.

COMMUNICATION

Top management strongly encourages open communication. Division presidents and plant managers meet regularly with all employees to discuss the specifics of the business and the competition. As a measure of communication, top management feels that each employee should be able to answer four essential questions about his or her job:

1. What cost reduction are you currently working on?
2. Who is the competition?
3. Have you met with your management in the past six months?
4. Do you understand the economics of your job?

The company also conducts opinion surveys of every employee. The analysis uncovers trends. Some plants have survey data for the prior twenty years. The CEO receives a summary of every opinion survey from every plant.

RECENT EVENTS

As a result of a $2 billion investment in technology during the past 10 years, new products as a percent of sales increased from 13 percent in 1983 to 24 percent in 1993. A new product is defined as a product introduced within the past five years. About 87 percent of total U.S. sales are generated from products that are either first or second in domestic position. Still, some in the investment community do not view Emerson as a technology leader, but as a very efficient world-class manufacturer. Although internally generated new products are part of the planning process, Emerson is sometimes a late entrant in the marketplace. For example, in 1989, a competitor introduced a low-cost, hand-held ultra-sonic gauge. Within 72 days, Emerson introduced its own version at 20 percent less cost than its competitor's gauge. Emerson's gauge was also easier to use and more reliable. It was a bestseller within a year.

To some Wall Street observers, it seems that Emerson is attempting to reduce its dependence on supplying commodity-type products, such as motors and valves, to U.S. based appliance and other consumer-durables manufacturers by moving into faster growing global markets, such as process controls. As the economy recovers, Emerson is likely to continue its acquisition strategy, with an emphasis on foreign acquisitions, and international joint ventures.

The impact of the recent business segment organization structure on the planning and control process is not clear. The added layer of management between the division managers and top management might change the previous relationship between them.

QUESTIONS

1. Evaluate Chief Executive Officer Knight's strategy for the Emerson Electric Company. In view of the strategy, evaluate the planning and control system described in the case. What are its strong and weak points?

2. What role should the eight business segment managers have in Emerson's planning and control system?