This Issues: How important is it for NuTone
This paper identifies Scovill Inc and NuTone’s objectives before assessing the key issues for determination. This is done by summarising and critically evaluating the concerns raised by Bob Hager (Scovill’s new Treasurer/Controller) about NuTone’s use of overstated standard costs and the justifications given by Jim Rankin (NuTone’s Executive Vice President) for continuing the status quo. Lastly recommendations are generated so that today’s controls will become tomorrow’s strategy for NuTone. This case study shows how Scovill’s long term strategic objectives clashed with NuTone’s short term strategic focus. Company Objectives:
Scovill: Scovill has a highly decentralised1 “business unit”2 structure based on the diagram in Appendix 1. It seems Scovill can be classified as a related diversified company. Their products can be classified into two broad categories; Housing and Security; Automotive and Automation. Therefore they operate in a number of industries connected by operating synergies3. It seems they share the common core competency of innovation but not common resources. “For almost two centuries, the Scovill name has been synonymous with a tradition of product innovation”4 while NuTone “creates revolutionary new products…
and innovation resulting in superior products for homeowners nationwide”5. This seems to be one of the major focuses for carrying out their strategy of “providing outstanding service based on quality products and value in the Scovill tradition”6. NuTone: NuTone is a functionally7 organised business unit or division8 of Scovill. They are responsible for all the functions involved in their specific household product lines, as illustrated in Appendix 1. Therefore they possess considerable autonomy in establishing and implementing strategies9 appropriate to their business.
Key Issues: How important is it for NuTone to have realistic cost standards? 1. Strategy: For Standard Labour Costs: The use of standards to protect margins has been the “single most important management practice that has contributed to our success”10. This suggests that using the labour standards to protect margins is a form of implementation of NuTone strategy. NuTone advocate conservative monthly statements to take care of the little costs11 at year end. Their game is to generate extra profit at the end of the year.
It seems by implementing a change to actual costs; Scovill will be severing the inherent autonomy and “considerable discretion in establishing and implementing NuTone strategies”12. For Actual Labour Costs: Uncertainty of “real product costs may lead to making some bad decisions”13. The uncertainty associated with the real product costs is caused by varied margins on specific line items due to the “varied content of labour and overhead in products of different types”14. As Appendix 2 shows, there is a marked difference between NuTone’s actual and standard operating costs.
This may distort NuTone’s balanced scorecard for performance management causing a break in the “link between strategy and operational action”15. 2. Manufacturing: For Standard Labour Costs: Manufacturing in this business consists of “a lot of short runs with changeovers requiring setups”16. A standard cost system works best with long runs and a smart manager can appear to make a lot of money just by making long runs using standard costs and Conversion Cost Adjustments (CCA’s). Further, special quotes comprise of up to fifty percent of total sales17 and the pressures of squeezing margins are too strong.
For Actual Labour Costs: One cannot tell which products are dogs and which are earning NuTone money18. To achieve Scovills’ financial objective19 of reducing costs in competitive markets, their driving measure20 of operating cost may become warped by inaccurate measurements21 of individual costs per item. Further their measurement of monthly and quarterly profit numbers will not provide the requisite early warning indicators22. This will result in bad operating decisions being made on the part of Scovill and NuTone management since they cannot tell which products are “dogs and which are earning them money”23.
These problems will become increasingly worse due to unfavourable market conditions forcing increased competition and the associated need to reduce manufacturing costs. This is illustrated by NuTone’s decision to shift to offshore purchasing in 1979. This caused longer production cycles in an industry characterised by short runs. 24. Consequently there are larger undervalued inventories and more favourable accounting variances due to the larger CCA’s. The pressure of squeezing margins may be unnecessarily strong due to factors such as meeting the group’s monthly budget.
This pressure may not exist if costs were not overstated”25 until the year-end adjustment. Therefore NuTone should be forced to run a “tighter business”26 , using actual costs, to attract more quotes. This can be done by decreasing unfavourable variances through increased quality controls. Employee motivation can be increased by adjusting the labour efficiency rates and increasing bonus payments for achieving additional efficiencies. This will increase manufacturing output. 3. Philosophy: For Standard Labour Costs: The group has been run by marketing people for many years, and “this system works for us”27.
This is Jim Rankin’s belief. He concedes that the rankings of products by margin would change if labour standards were accurate. He justifies this position by saying that he knows the “business inside out and… what their product costs are”28. For Actual Labour Costs: The “distortions are getting larger”29 As shown in Appendix 3, the percentage increase in NuTone’s CCA largely mirrors that of their percentage increase in sales at a significantly higher percentage level. Even when sales decreased, the increase in CCA percentage increased at a deceasing rate. It is this philosophy that may be clouding Rankin’s judgement.
Having pride in being the “jewel”30 of Scovill may be causing a fixation on financial results31 and thus warping NuTone’s balanced scorecard for performance management. Further, Jim Ranking will not manage NuTone forever and his replacement may not have the same inherent knowledge of their product costs. The incentive compensation schemes are also highly financial geared. Therefore all levels of NuTone personnel are focused on EPS, profit performance or sales volume. This directs their attention to short term profit earnings without regarding long term investment decisions.