Agriculture Reference
In-Depth Information
Joseph Drake, the sales manager of Phoenix Fertilizer Company, decided to use a new
approach for the control report: management by exception graphs instead of raw data. He
had decided on this reporting technique for the following reasons:
1.
It allows one to ignore those management areas where performance is on target, and
to concentrate on problem areas instead.
2.
It allows one to see at a glance the whole situation, and the comparative data are
illustrated clearly as a graph.
3.
It is simple and easy to prepare and is easily understood by anyone, even those unskilled
in fi nancial management.
4.
It allows for a clearer interpretation of the many interrelated factors than raw data can
provide.
To construct the management by exception graph, the fi rst thing the committee had to do was
to establish an allowable deviation. In terms of the sales forecast, allowable deviation means
the amount by which actual sales could fall or rise above the sales forecast before manage-
ment had to determine whether remedial action was needed. In the Phoenix Fertilizer
Company, the team decided that sales could deviate from the forecast by 4 percent in either
direction before remedial action would be taken (
Figure 2.4
)
. A deviation of more than 4
percent either below or above the sales forecast would affect such areas as inventory of raw
and fi nished product, production scheduling, capital and cash positions, labor needs, adver-
tising and promotion programs, and pricing policy. Each of these areas would have to be
reviewed by the management team if sales deviated from the forecast by more than the
allowable range. This, of course, is the major purpose of a control program: to sound an
alarm for further study and action.
Once the allowable deviation was established, all that remained was designing the man-
agement by exception graph (
Figure 2.4
). At the bottom is Phoenix's sales forecast for the
current year. A graph such as the one in
Figure 2.4
could also show several different but
related factors, such as total sales, last year's sales, dry sales, and liquid sales, through the
use of different symbols or lines. For the sake of simplicity in illustrating the principles
involved, only the deviation for total current and last year's sales are shown. And, last year's
sales are fi gured as a deviation from last year's sales forecast, not from the current sales
forecast. The shaded area is the allowable deviation from the sales forecast or goals. To the
right of the graph are the formula and an example of how the deviations are calculated.
Joseph Drake remembered that last year several of Phoenix's competitors had suddenly
lowered their prices in April, and that because Phoenix had not been alert enough, it had
taken them several months to meet this challenge. As a result, many thousands of dollars of
sales and consequent profi ts had been lost. Joseph was determined that this would not happen
again. Phoenix had been forced to lower its prices substantially to recover lost customers and
was now operating on a narrowing gross margin as cost increased, largely due to higher
natural gas prices. Joseph knew that other manufacturers were feeling the same pinch, but
each had to fi ght for market share to meet overhead costs.
To illustrate the value of the management by exception approach assume that September
sales were up by 6 percent, or 2 percent over the allowable deviation. The marketing depart-
ment would have immediately taken a careful survey of competitors' prices. Perhaps some
major competitors were trying to adjust prices upward to meet increased cost. If this were
true, Phoenix would have several alternatives. Phoenix could increase its price, thereby wid-
ening its gross margin and profi ts, but maintaining the same relative market share. Or it
