In February 2004, George Weston was appointed general manager by Paul Hilton, president of Hilton Manufacturing Company. Weston, age 56, had wide executive experience in manufacturing products similar to those of the Hilton Company. The appointment of Weston resulted from management problems arising from the death of Richard Hilton, founder and, until his death in early 2003, president of the company. Paul Hilton had only four years’ experience with the company, and in early 2004 was 34 years old. His father had hoped to train Paul over a 10-year period, but the father’s untimely death had cut short this seasoning period.
The younger Hilton became president after his father’s death and had exercised full control until he hired Mr. Weston. Paul Hilton knew that he had made several poor decisions during 2003 and that the morale of the organization had suffered, apparently through lack of confidence in him. When he received the 2003 income statement (Exhibit 1), the loss of almost $200,000 during a good year for the industry convinced him that he needed help.
He attracted Weston from a competitor by offering a stock option incentive in addition to salary, knowing that Weston wanted to acquire financial security for his retirement.
The two men came to a clear understanding that Weston, as general manager, had full authority to execute any changes he desired. In addition, Weston would explain the reasons for his decisions to Mr. Hilton and thereby train him for successful leadership upon Weston’s retirement. Hilton Manufacturing Company made only three industrial products, 101, 102, and 103, in its single plant.
These were sold by the company sales force for use in the processes of other manufacturers. All of the sales force, on a salary basis, sold the three products but in varying proportions.
Hilton sold throughout New England, where it was one of eight companies with similar products. Several of its competitors were larger and manufactured a larger variety of products. The dominant company was Catalyst Company, which operated a plant in Hilton’s market area. Customarily, Catalyst announced prices, and the other producers followed suit. Price cutting was rare; the only variance from quoted selling prices took the form of cash discounts. In the past, attempts at price cutting had followed a consistent pattern; all competitors met the price reduction, and the industry as a whole sold about the same quantity but at the lower prices.
This continued until Catalyst, with its strong financial position, again stabilized the situation following a general recognition of the failure of price cutting. Furthermore, because sales were to industrial buyers and the products of different manufacturers were similar, Hilton was convinced it could not unilaterally raise prices without suffering volume declines. During 2003, Hilton’s share of industry sales was 12 percent for type 101,8 percent for 102, and 10 percent for 103. The industry wide quoted selling prices were $9. 41, $9. 91, and $10. 6, respectively. Weston, upon taking office in February 2004, decided against immediate major changes. Rather, he chose to analyze 2003 operations and to wait for results of the first half of 2004. He instructed the accounting department to provide detailed expenses and earnings statements by products for 2003 (See Exhibit 2). In addition, he requested an explanation of the nature of the costs including their expected future behavior (see Exhibit 3). To familiarize Paul Hilton with his methods, Weston sent copies of these reports to Hilton, and they discussed them.
Hilton stated that he thought product 103 should be dropped immediately as it would be impossible to lower expenses on product 103 as much as 83 cents per hundredweight (cwt. ). In addition, he stressed the need for economies on product 102. Weston relied on the authority arrangement Hilton had agreed to earlier and continued production of the three products. For control purposes, he had the accounting department prepare monthly statements using as standard costs the actual costs per cwt. from the 2003 profit and loss statement (Exhibit 2).
These monthly statements were his basis for making minor marketing and production changes during the spring of 2004. Late in July 2004, Weston received from the accounting department the six months’ statement of cumulative standard costs including variances of actual costs from standard (see Exhibit 4). They showed that the first half of 2004 was a successful period. During the latter half of 2004, the sales of the entire industry weakened. Even though Hilton retained its share of the market, its profit for the last six months would be small.
For January 2005, Catalyst announced a price reduction on product 101 from $9. 41 to $8. 64 per cwt. This created an immediate pricing problem for its competitors. Weston forecast that if Hilton Manufacturing Company held to the $9. 41 price during the first six months of 2005, its unit sales would be 750,000 cwt. He felt that if Hilton dropped its price to $8. 64 per cwt. , the six months’ volume would be 1,000,000 cwt. Weston knew that competing managements anticipated a further decline in activity. He thought a general decline in prices was quite probable.
The accounting department reported that the standard costs in use would probably apply during the first half of 2005, with two exceptions: materials and supplies would be about 5 percent above standard; and light and heat would increase about 7%. Weston and Hilton discussed the product 101 pricing problem. Hilton observed that especially with the anticipated increase in materials and supplies co ts, a sales price of $8. 64 would be below cost. He therefore wanted to hold the price at $9. 41, since he felt the company could not be profitable while selling a key product below cost.
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