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ISSN 1940-204X Pelarsen Windows: Humans v. Robots1 Shahid Ansari Babson College Paul Mulligan Babson College Alfred J. Nanni, Jr. Babson College...

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Shahid Ansari Babson College Paul Mulligan Babson College Alfred J. Nanni, Jr. Babson College HUMANS V. ROBOTS Doug Niedermeyer looked at his watch and sighed. It had been a long and stressful day and it was not over yet. It was only 6:15; he was at the cocktail reception for the plant managers with a dinner and an after-dinner pep talk by Ingrid Pelarsen, CEO of Pelarsen Windows, still to follow. All of this was part of the annual ritual known as the plant performance review, and Doug Niedermeyer had not looked forward to being here this year. In preparation for his meeting, Doug had been thinking about the latest fiscal year financial results for his Texas plant. Despite an increase in annual window sales, his plant had reported an accounting loss of $1.2 million. On top of this, a capital charge of $5.1 million assessed to his plant had left him with a whopping loss of nearly $6.34 million. He believed the loss would have been larger had he not successfully lobbied the national sales office to send more of the high margin architectural window business his way.He believed that getting more architectural window demand into his plant would be critical to improving financial performance. This year he was hoping to keep his production volume of the standard windows at the same level as last year (270,000 windows), but increase his share of architectural windows from 25,000 windows to 50,000. He had asked his plant controller to give him a projected income statement for that scenario. According to those projections, that demand mix would allow him to show an accounting profit of $3.94 million (see Exhibit #1), allowing him to argue that he had improved his controllable profit since the capital charge was beyond his control as it was levied on the asset base that he had inherited from his predecessors. The company used economic profit as a key measure of plant performance. Economic profit was equal to accounting profit minus a capital charge equal to the company’s weighted average cost of capital times the net assets of a business unit (see Exhibit #1G). With the construction and housing market slump in 2007, he did not expect things to get much better in 2008. He knew the senior management of Pelarsen Windows would be meeting in early 2008 and that one of the agenda items would be the fate of the Texas plant, and, therefore, his future as a plant manager. This had not helped employee morale in his plant. It was clear to Niedermeyer that a plan for near-term return to profitability and a viable long-term plan for future growth were critical if he and his plant wanted to remain a part of the Pelarsen family. When it came to the performance assessment of his plant, Niedermeyer felt that he was not on a level playing field. He had seen a recent industry report stating that “the major disadvantage of this industry’s cost structure was that purchasing and labor costs are very high in relation to the revenues received. This can only be overcome by investing in the most modern plant and equipment available while closing down inefficient facilities, and expanding operations to logging, sawmilling and plywood/veneer manufacturing.” (IBIS World Industry Report, October 23, 2007) IMA EDUCATIONAL CASE JOURNAL VOL. 1, NO. 3, ART. 3, SEPTEMBER 2008 1 ISSN 1940-204X 1 This case is designed for classroom use only. The operating details presented here are fabricated from the generic features of the window building industry for teaching purposes only. They do not reflect actual operations or data of any real company. Pelarsen Windows: Humans v. Robots 1 Ansari, S., Mulligan, P., & Nanni, A. J. Jr. (2008). Pelarsen windows: Humans v. robots. IMA Educational Case Journal, 1(3), article 3. Reproduced with permission.
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Niedermeyer’s arch-rival was Eric Stratton, plant manager of Pelarsen’s state-of-the-art manufacturing facility in Portland, Oregon. Stratton’s plant was one of the most profitable plants in the Pelarsen plant network. In Niedermeyer’s eyes, Eric received preferential treatment from company management and, thus, received most of the high margin business from the national marketing office. It should be no surprise to anyone that Eric’s plant had higher economic profit than Doug’s. Fortified by two martinis, and finding Ingrid Pelarsen alone in a corner, Doug mustered his courage and walked over to her to air his grievances. “Ingrid, this may not be the best time to discuss this, but you need to know just how hard it is for plant managers like me who rely on humans to compete with the fancy robots in Eric’s plant. His plant has state-of-the-art equipment. His robotic forming machines can do precise arches and other shapes in a fraction of the time it takes our people on the manual steam presses to shape wood for architectural windows. It is no surprise that our national marketing staff channels most of the more complex high margin architectural window business to his plant and sends our plant mostly lower-priced standard windows. I make $162 in contribution margin on each complex architectural window, while I make a fraction of that amount—$24—on a standard window. Now I may not have a fancy MBA degree like Eric, but I speak for all of the old-timers who grew up with this business who know that with better equipment and higher margin products our plants would look a lot better too. I have a proposal for modifying the allocation of standard and architectural window orders between my plant and Eric’s. We handle most of the west and southwest demand, and I believe that both plants can perform well with a more equitable distribution of demand.” Ingrid Pelarsen listened quietly as she sipped on her glass of tonic water. When Niedermeyer was finished talking, she took her last sip from the glass, set it on the table, and began talking. “Doug, I hear you, and if it makes you feel any better, I also hear the same thing from other plant managers who are managing older plants and equipment –which of course is the majority of our 15 plants. I understand the need for modernizing our older plants. However, I am not convinced that we cannot squeeze more profitability from our older assets. For example, we have a wide disparity in product quality and working capital management across plants even though we use the same suppliers, dealers, and sales channels for the windows. I wonder how much profit we leave on the table through inefficient management practices. Before we invest capital, we need to get a clearer picture of what the appropriate mix of technology is across our whole company. Not to mention that a housing downturn is not the ideal time to be advocating for capital investments. We simply don’t have the capital required to modernize your plant at this time.” Ingrid went on to explain that she had put together a small team that included members from sales, manufacturing, and the controller’s office to study these issues and make appropriate recommendations. She had assigned John Blutarsky, Pelarsen’s brilliant but mercurial Special Projects manager, to head the team. Ingrid explained, “Blutarsky’s team is currently documenting our existing operations. They are looking at what we produce, how we produce it, who we sell it to, how we manage working capital, and what it costs us to produce these products across our various plants. Their study is specifically comparing your plant in Texas with Eric’s plant in Oregon. I will give your proposal to John and have him include this in his team’s analysis. In a few weeks they should be able to finalize their recommendations. I hope I can give you better answers at that time.” COMPANY BACKGROUND AND HISTORY Pelarsen Windows was founded by Gunnar Pelarsen, the grandfather of the current CEO, Ingrid Pelarsen, in 1922. An immigrant carpenter from Sweden, Gunnar Pelarsen started his business in Minnesota near the Canadian border. This location provided him with a steady supply of high quality wood, which was the primary source of differentiation at the time. Glass was considered an undifferentiated commodity in the early 1900s. Like other industries at the time, window manufacturing was largely a craft industry. Carpenters handcrafted windows with simple tools in modest workshops or on-location at construction sites. However, like many industries, window manufacturing had begun the transition from craft to mass production. Gunnar Pelarsen was a leader in streamlining the window manufacturing process by standardizing frame sizes and components. This standardization allowed Pelarsen Windows to manufacture and assemble windows in larger volumes at a remote location, rather than producing windows at the construction site. In the 1930s, Pelarsen built its first large scale manufacturing plant that produced windows that were completely assembled off site. The 1950s saw the introduction of insulated glass to provide protection against condensation and frost. This innovation transformed the glass component of the window from commodity to differentiator. The company also experienced phenomenal growth during this period, driven largely by the construction IMA EDUCATIONAL CASE JOURNAL VOL. 1, NO. 3, ART. 3, SEPTEMBER 2008 2 Ansari, S., Mulligan, P., & Nanni, A. J. Jr. (2008). Pelarsen windows: Humans v. robots. IMA Educational Case Journal, 1(3), article 3. Reproduced with permission.
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