Guidelines for Running Successful Profit Centers Condensed from Industry Week A ses cvour of unanagers to de- Fine “profit center” and you'll wind up with as many different answers as you have managers, “It’s an ex- tremely difficult question that a lot of people have been struggling with for a long time,” says Richard V. Giordano, group _vive-president, Air Reduction Company, Inc (Airco), New York Ttis possible, however, to pull to- gether the common threads running, through the myriad of dafinitions de- and come up with a compo scription: A profit center is a mi business, 1's a microcosm of all or some of a functional corporation's activities. An autonomous entity, the profit center can consist of a product. plant, division, or a combi- 1 tune 28,19 “ Copyright © 2001 nation or fragment of these. And it’s under the responsibility of one individual A profit center can be organized to include plants, engineering. and market planning, but to exclude the actual selling of the product, ex- plains Giordano, This arrangement gives the profit center manager re- sponsibility for enough functions so that_he can control his organiza tion’s course and be held account able for the results. “If you don't give him cnough of these functions to oversee,” cautions Giordano, “you may have tied one band be- hind his back.” From the outside looking in, it might seem more efficient to run a company by handing down orders ©1970 by the Penton Publishing Commony MANAGEMENT REVIEW _ All Rights Reseved.from a strong, centralized head- quarters rather than creating a Hydra-like monster with each head talking about its own goals and problems and wagging in a different direction, But, most_ managers agree, it's the only way to evaluate strengths and weaknesses in a di versified firm, “Unless you take a pigce at a time, you can’t see what's good and what's bad,” notes Mar- shall F, Smith, vice-president and controller, Indian Head Inc... New York. Another financial executive adds: rofit centers put responsibility and authority at the point of activ- ity” ‘Two other advantages, observes, Giordano, are higher operating ciency and the development of skilled generalists in management, A company has no choice but to operate on a profit center basis if is a combination of diversified bu nesses, he explains Drawbacks ‘The system, however, contains its own built-in problems that can turn the best organization into a “profitless” center Without adequate supervision by corporate management, the profit centers can become too indepen dent and run off in all directions— usually downhill, Several major in- dustrial firms have experienced di- sasters when profit centers lost sight of corporate goals. octosee 1970 eermccccsee RR TO BOOT All Rights Reseved ™ Myopia is a leading cause of profit center failure, Giordano con- tends. “Managers often can't see much past their own problems and take action that's good for the profit center but not for the company as awhole.” Giving the center’s manager too little authority is as bad as keting him run a free-wheeling show, You have 10 make one man responsible for management or you can’t mea- sure results. says Indian Head's Mar shall Smith, “If a manager accounts for only half a decision, then you get an “if it’s right it’s me, if it's wrong it’s him’ sitvation. At Indian Head, we have strong autonomous units combined with very strong central controls.” Controls ‘Top management at both Indian Head and Airco maintain effective control systems and open fines of communication. Indian Head has Iways had a profit center system, explains Smith. At the original small textile company’s two plants, profits were measured on both a plant and a product-fine basis. “We started with a philosophy, and everything that we built, we built the same way. “Our acquisitions have been set up as profit centers, and within each there are smaller profit centers. Laurens Glass, Tne. inthe glass container group. for example, is a Jivision profit center that includes 5plant and produet-line profit cen- ters.” How do you retain control of a complex like this? Indian Head uses several methods. Capital invest- ment for each group or division, for example, is based on profit plans for one-year and three-year spans. The corporate capital budget is re- viewed and developed with capital earmarked for each division on a project-by-project basis. Divisions request authority for capital alloc: tion through a “very formal” proj- cet authorization system. And the larger the amount required, the higher the level at which the deci- sion is made, Another yardstick is “an exten- sive profit plan developed by the division manager and the executive management, Results are measured by comparison with a divisional forecast of the next three operating months and through a formal finan- cial reporting requirement on a di- it industry basis.” “We follow current assets—ac- counts receivable and inventories because these are very vital to plan- ning.” Smith points out. “The big- gest thing that can burn you in business today is inventory, and management of inventories con- suumes a great deal of time. “The most important control is an absolutely free flow of informa tion among all departments, divi sions, and line and staff personnel Through interchange, we all know the good and bad things that have 16 happened on a day-to-day basis. These are things you'll never get out of a report. “We also hold problem-oriented operating meetings with division and corporate exccutives to discuss the past, present expectations, and the future. “The key to the whole concept is priority management—having capa ble people whe can define priorities and approach problems on. this basis. Our reporting system is geared to flushing out priorities and publicizing them. Priority manage- iment extends right down to every product.” Managerial Intervention Each of Aizco’s ten divisions is a profit center, often comprised of smaller profit centers, Mast of the division centers are complete busi- ness units, and the smaller units help boost efficiency, says Gior- dano. A skeleton staff at the corpo rate levet operates as consultant to divisions in such areas as industrial relations Major tools for gatiding Airco’s profit centers, Giordano explains, are financial statistics, communica- tion, and “judicious intervention of management.” An operating com- mittee made up of the corporate officers and group executives keeps an eye out for developing conflicts. Where divisions have interface there is also a useful exchange of ideas and comments. The welding division, for example, operates the MANAGEMENT REVIEW Copyright © 2001. All Rights Reseved.computer services for several other groups, so “they really have to work closely together, Where this inter~ face exists, you have to make sure that divisional goals mesh with one another and with the corporation.” Fach division president submits 1 monthly operating report, This covers progress independent of fi- nancial considerations. “It’s more chatty than formal.” Giordano ob- serves, “and it covers changes in inventory, production, sales objec- tives, and so forth. Using these methods, “you should be able to know when you're in trouble. You have to understand the division from the corporate level. And the corporation must give a lot of thought to what the division’s goals will be. Tt has to be very careful in figuring what kind of profit it wants.” Airco has opted for residual come. Each division is charged for the capital employed in it, the charge being about equal to the corporation’s cost of capital after taxes. “The system produces finan- ial incentives that make the divi- sions pull the way we want them to.” Early Warning Slipping profits can. of course, be caused by outside economic condi- tions rather than internal snarls. But their effect can be spotted early, too, through the constant financial and general business checks to which profit centers are subject. ocrosee 1970 ee CBRE ES TOT All Rights Reseved Indian Head's Native Laces & Textiles Division of the specialty textiles group was a victim of the miniskict, As dresses got shorter, se did lingerie--and division sales of nylon tricot, and knitted fab- rics dipped. “We were, however able to convert capacity and pour capital into our hosiery operations when we saw what was happening, explains Smith, “The group can op- erate very successfully at today's level of business and is geared to move out further when the time is ripe or skirts are midi. “Our control approach attempts to catch danger signals before the profit center is in trouble. We've had a good track record in correct- ing problems because our early warning system was in order.” Profit Center Potentates Even the best system of checks and balances will run amuck when it comes up against 2 power-happy profit conter manager who doesn’t want anyone to look at what he’s doing. “Fhe corporation,” says one offi- cial, “has to be able to influence him without actually telfing him what to do, You need close work between corporate consultants and the profit center manager. The latter is us- ually pretty suspicious of those who are looking at his business, and cor porate Ievel personnel have to be tactful. You have to hold him re- sponsible while you're influencing him.”There's u more specialized prob- lem at the diversified public firm assembled from privately owned concerns that the original owners now run as profit centers for the parent. A top official explains. “These men are not accustomed to being in the store window where they know they are being looked at. We try to establish good rapport with them and maintain close personal touch, But we also give them a great deal of autonomy and don’t expect them to come to us for approvall of every decision.” Nover underestimate the power of a dollar in achieving desired per- formance, either. AtIndian Head a bonus is paid on the results key er achieve for their tespon- ies. “This affords an opportu- sity for them to increase their com- pensation 25 t0 100 percent more than their salaries, but itis not con- sidered as compensation when salaries re set,” says Smith. “It’s geared to return on invest. ment and provides a strong motiva- tion for turning in good results and keeping investment down. The ‘company does not set unreasonable goals, and the formula used varies from division to division. We think the plan exercises great control on all facets of the business.” If your firm is among the ap- proximately 20 percent in the U.S. that aren't fully or at least partially profit-center oriented, should you reorganize? Te you don’t have enough re- sources so that each unit can oper- ate autonomously, you would do well to scratch the idea. You can’t force-feed profit centers toa com- pany that doesn't have enough of the basic structure, one executive cautions. “All you do is ercate frus- tration. You must give the profit centers the necessary resources. If you can't do this, then don't reor- ganize. Profit centers aren't the an- swer to everything,” + Shipping Trends CONEAINER CARGO CARRYING fy promoting larter and faster ships and larger Ports, Ships now being ordered for carrying capacities of more thio HMUIP AFséot containers: speed is going up from 17 to 27 kuols. Capital and ‘operating costs are eoing up accordingly, and it therefor er carriers tw stop ut ports that ‘modest tonnazes of general cargo. Schedles are concentati Jess economical for cont vecomes less and roduee only at the giant ports of the world—New York, Rotterdam, Seattle, San Francisco Bay, and Perhaps Tilbury, England. Smialler ports, sich #s\ Philadelphia, Baltimore, 97 San Diezo will have to fight t0 keep their share of the general ea 8 30, Hratustriat Bulletin MANAGEMENT REVIEW Copyright © 2001. All Rights Reseved.