New Financial And Statistical Measures To Monitor Essay

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New Financial And Statistical Measures To Monitor The Success Of Ge

New Financial and Statistical Measures to Monitor The Success of GE

To : The Board of Directors, GENERAL ELECTRIC COMPANY
Subject : NEW FINANCIAL AND STATISTICAL MEASURES TO MONITOR
THE SUCCESS OF GENERAL ELECTRIC COMPANY

After Mr. Weltch announced my new assignment, I pondered how I could go
about guaranteeing the best possible result: a creditable and well organized
work that is going to help you, the Board of Directors, plan for the future of
the company in a better way. Before starting my analysis, I must specify that
my target is not to abolish the traditionally used financial and statistical
measures but to develop new ones to be used as guidance for the corporation's
future development.
Our Chairman recently wrote that "the hottest trend in business in 1995
-- and the one that hit closest to home -- is the rush toward breaking up multi-
business companies and spinning off their components, under the theory that
their size and diversity inhibited their competitiveness ... breaking up is the
right answer for some big companies ... for us it is the wrong answer.²1 For us
the new trend is the entrance into the service industry. The question must then
be: is this the right answer?
GE is expecting to increase its revenue by the year 2000 to $120 billion
compared with $58 billion in 1990. In other words, if the forecast proves to be
correct, it will obtain an average annual rate of growth of 7.5%. This high
rate is mainly attributed to the expansion of the services sector of the company,
which is estimated to increase by an average annual rate of 13% compared with a
corresponding one of 2.1% for manufacturing. Today nearly 60% of GE's profits
comes from services -- up from 16.4% in 1980.2
This is our new direction and therefore my target is to find these
measures that are going to help us understand how the business is going to
perform in that particular field. I also consider that our attempt to expand
internationally is extremely important and in a way is something new for us.
International operating profit was $3.0 billion for 1995 compared with $2.3
billion in 1993.3 This extremely rapid expansion hides a lot of dangers, and at
the same time shows another new "trend" of our corporation. In my analysis I
will include the international sector. I will also narrow in on employees,
stockholders, goodwill and on potential investors.
1) MIEC (Manufacturing Industry Expenses Comparison)
As we know, the basic organization of the company Œs continuing
operations consists of 12 key businesses, which contain management units of
different sizes.4 From these only three are specified in the service field,
including: (a) Capital Service, (b) NBC, and (c) Information Service. On the
other hand, the manufacturing industry is divided into nine different segments,
some of which will be mentioned later. Although it is not our main concern, the
manufacturing segment of GE can be used as the yardstick for the success of the
service industry. This is so because this sector of General Electric has been
extremely successful and very well established during the past few years.
Almost $40,000 million in revenue and almost $9,110 million in profit came this
year from manufacturing operations.5 We know that what we have achieved in
manufacturing is success. So the question that arises is why should we stop
investing in "success" and enter a completely different field. The first
measure which we are going to analyze in this part of the discussion attempts to
answer that question. MIEC, the manufacturing industry expenses comparison,
compares the amount of money spent for the service industry to the expenses made
for the manufacturing industry. Thus it is equal to :

Expenses made for the service industry
MIEC = --------------------
Expenses made for the manufacturing industry

Therefore, according to the financial statements of the previous years
we would have6:

MIEC 1992 = 15842/29991= 0.52
MIEC 1993 = 18560/30657= 0.60
MIEC 1994 = 19787/30890= 0.64
MIEC 1995 = 26156/33152= 0.78

By establishing the MIEC, we can see the relationship between the amount
of money spent on service and the amount of money spent on manufacturing. MIEC
is a simple number that is does not seem to have a very important use on its one.
However, if this ratio is combined with other facts we can come to several
conclusions about what the company's future decisions should be. For example,
if we combine MIEC with the return on assets,7 we can see that the return on
assets is higher for the service industry than it is for the manufacturing
industry, and thus are able to infer that a good decision would be to increase
the ratio by spending more money on the service industry. On the other hand, if
the return on assets is lower for the service industry than it is for the
manufacturing segment, then we should decrease this ratio by investing more in
the latter. What we want to create by using this measure is some sort of
equilibrium between the two main parts of our corporation. Mr. Welch has
recently said that he would have wished for the percentage of profit coming from
the service industry to have attained a staggering 80% instead of 60%, today's
figure.8 In order to achieve this, we should invest more in the service
industry, thereby increasing the MIEC ratio.
The question for the future would be: by how much should we increase
this ratio? From what we have said up to this point, we should adjust the MIEC
ratio up to the point where: return on assets from the service industry = return
on assets from the manufacturing industry. Of course, this equilibrium cannot
really occur, but it can only be approached; however, it can help us make future
decisions in the best possible way. To give an example, let us suppose that :
Return on assets from the service industry =15%, and Return on assets from
manufacturing industry =12%.
From the above we can conclude that more investments should be made to
strengthen the service industry. However after a certain point the "good ideas"
would be eliminated. The firm would have to invest in less profitable areas and
the return on assets from the service industry would fall, then begin
approaching the return on assets of the manufacturing industry, which is already
satiated. At this point we should stop increasing MIEC, and we should keep it
stable, ceteris paribus.
To expand the share of the services GE had to transform its assets form
buildings, machinery and equipment into well trained intelligent employees,
software experts, service networks, etc. This transition will cost a lot to the
company, and the MIEC shows us just how much it will cost in comparison to the
well-established manufacturing industry. It also helps us estimate if this
ratio has the value that it should really have for our corporation to be
efficient.
2) EC = The Employees Comparison The EC (Employees comparison) has to
do with the profit that each employee brings to the corporation. This ratio is
equal to :

Net Income
EC = -----------------------------------------------------
Number of Employees in the Firm

For this year EC= $6.6 billion / 222,000 =$30,000.9
In a way, EC shows how much profit is generated by each employee. That
measure can be used in a lot of different ways. First it can be used to judge
if the average salary in the company is settled in the right way. If for
example we find out that during the year 199x the average salary was $60,000,
and our other expenses were equal to $250,000 (if divided per employee) then
the return on our investment would be less than 9%, which is not good enough due
to our goal -- double digit earnings. If we find out that our other expenses
are reasonable, then we can suppose that either salaries should be decreased or
the firm might have to reduce the total number of employees.
During the 1980s, General Electric had to pare payrolls for most of its
departments because the salaries where considered to be too high for the income
generated.10 But as the corporation is getting bigger and stronger, there might
be people working in the newly purchased companies that the corporation controls
whose salaries are higher than the actual service that they offer to the company.
In order to avoid that, we should find the EC for each of the companies
individually and compare them.
We could also compare the EC between the two industries, the service and
the manufacturing industries. Since the manufacturing industry is older, many
changes have been taken place in difficult times for the company.11. Thus, we
can suppose that the number of employees was adjusted during the years in such a
way that the corporation could function efficiently. Therefore, a good target
for the newly bought service firms would be managing to reach the EC of the
manufacturing firms that belong to General Electric.
The same can happen with firms in the USA and international firms, the
majority of which have been acquired during recent years. For example in 1995
we would expect that the 72,000 employees working abroad12 would bring in
approximately: 72000 x 30000 = $2,160 billion (as mentioned above $30,000 was
the value EC for 1995).
On the other hand we can see if the measures to increase the profits of
an organization are too harsh for the employees, or are not rewarding the
employees well enough. For example, if an outsider can describe a salary of
$80,000 as high, no one can say if this salary is high enough unless he/she
takes the EC into account. So by using the EC we can estimate the correct
amount of bonus that an employee can receive for performing well, or even the
bonus for the entire firm that performed well. We should not forget that
salaries considered to be too harsh will lead valuable employees to quit in
order to find better paying jobs.
To summarize, we can say that the salary level should be well balanced
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