Inside Emerson's Planning & Budgeting Playbook

Unlike many U.S.-based manufacturers that have become displaced by offshore competitors, Emerson Electric, the $20 billion, St Louis-based electronics and components manufacturer, continues to compete and succeed as a global manufacturer. Our interviewer Steve Player talked to Emerson's CFO Walt Galvin in the recent past, and their discussion concerning Emerson's planning process appears ever more revealing in light of industry's present economic challenges.

Steve Player: Let's talk a little bit about Emerson's planning system -- it's been written up in Harvard Business Review, and we've certainly studied it as an example of a company doing budgeting in the traditional sense and doing it well; Emerson is the model to follow.
Walt Galvin: Well, our system is fairly traditional. We use it as a regular tool in managing. We do update our expected results every month. It's generally driven on understanding the sales, which is a key factor in driving what your budgets are and getting cost actions against those budgets. You look at sales orders every month on a fixed-rate basis without the impact of currency or acquisitions. You have an apples-to-apples comparison every month. As you see a slowdown in orders, you need to take appropriate budget actions to reduce your cost structure so that your costs are in line with future business, not what they were in the past.

SP: So even though you have a budget, is it more about meeting the bottom line commitment? And if the orders aren't coming, you've got to take cost action to keep it all in balance?
Galvin: Correct. We're very much concerned about monitoring and controlling things that we can control. We spend a lot of time on hourly and salaried head count, because that's something you can control. In the materials area, we spend a lot of time in purchasing and in getting the right products and competitively pricing them.

But there is an issue when copper goes from 75 cents a pound as it was four years ago to peaking at over $4 a pound. We will pay $4 a pound except for the amount that we have hedged over the short-term. So you pay the competitive market price for commodities.

SP: Steel, copper, and many basic commodities costs are going through the roof, and they have impacted you as well, right?
Galvin: They will impact us. We have developed some reaction time because of our hedging programs, but over a two-year period, you have to pay the commoditized product pricing. And you will have the same impact when prices fall. If you don't have a way of differentiating your product, you will get paid the market price.

SP: You use monthly updates to control. Is that the President's Operating Report (POR)?
Galvin: Yes, every month we get an update in our management reporting system. It is integrated, meaning that it does conform and check, and is reconcilable back to our financial statement. But it is more management reporting focused on operations. We have that every month, and every quarter every division comes to St. Louis to review their plans for the current quarter and for the next quarter. They also give an updated outlook for the year.

SP: For many readers, it may be difficult to get a grasp of the full magnitude of what you're saying. Having studied your process many times, I would describe it as planning to the extreme.
Galvin: We do focus on a lot of numbers, and we spend a lot of time on the details. The devil is in the details and understanding how those interrelate, and making sure that you have consistency in your plan when you're looking at your orders, driving sales, driving inventory levels, and driving hourly and salaried head count. It should be an integrated, consistent plan. And then we look at that for the short-term basis, as you said: the POR reporting, the quarterly President's Council meetings.

Then we also have annual tracking, where we have a five-year plan developed for the divisions every year at what is called the Planning Conference. We also have a profitability review plan, which is set on more conservative sales projections. This is to make sure over the period of time of one year, two years, and three years that you're appropriately taking the correct cost actions to drive your five-year profitability plan and to drive your underlying operating profit margins up.

SP: If I recall correctly, the five-year plan utilizes an 11-year schedule. It's got five years of history, a current-year combination of actuals, and a forecast of five years into the future.
Galvin: Yes, it is. It is 11 years, and it's on an apples-to-apples basis without the acquisitions or divestitures.

SP: The one thing I was amazed with in terms of your planning system is the rigor and the detail that is there. When you say "apples-to-apples basis," it implies consistency. If I understand the POR format correctly, it is the same report across the company in terms of format. Everybody is looking at it the same way, period after period, unit within division, and sector, and so forth. It's a very homogeneous way of looking at the information.
Galvin: Yes, for every two-year period, we have it. Obviously, you don't get an update every month on the acquisitions four years ago. But in every monthly period, we go back 12 months and forward so that we have an apples-to-apples comparison as to what the run rate is without currency and without the impact of acquisitions.

SP: Let me ask the question that our CFO readers are thinking: How in the world do you get people to fill out all that information?
Galvin: Well, it's a matter of evolution over time. We just have expanded it over time to make sure that it was useful. And the question that we had that proved it out was, as we've sold businesses and some of them went the LBO route, and they no longer had Emerson management asking them for the data, did they continue that reporting system? The answer that these units that we sold came back and gave was, "Yes. It's what management should be looking at so they can make the right decision."

It's a help to them, more than it is a help to us at corporate. Because when you're running your division, you need that data to make the right decisions as to what is actually happening in your business.