Managerial Accounting and Control-II
Case: Lehigh Steel
Date of submission: 16 December 2011
Sec: E Group: 4
Sumit Kumar Saha
Sangana Vinod Babu
Lehigh Steel is a company specialised in the production of specialty steels for high strength, high use applications. In 1988 the company experienced record profits, but then in 1991, it reported record losses due to the decreasing demand as a result of recession. After the crisis, the demand rose again, but Lehigh Steel could not transform its revenue into profits. Therefore the management at Lehigh decided to rationalize the product mix to address the issue. The company was initially using the standard costing following which they adopted the Activity Based Costing. They believed that this would enable them to identify profitable products and hence select the right mix. Though ABC approach illustrated that the product profits were significantly different from that computed by standard costing approach the results were somewhat counterintuitive. To address this problem the management decided to employ a new approach called Theory of Constraints which focussed on the constraint that affected the entire operation. The results of this method were different from those obtained from ABC method. The management was now faced with the task of assessing the pros and cons of the various methods and arrive at a method that will help them achieve the right product mix which will in turn boost their bottomline.
It is recommended that the best possible option would be to employ a combination of the ABC and TOC methods. Based on this method only high speed (machine coil) is profitable and therefore should be included in the mix.
1.1 The Company:
Lehigh Steel founded in 1913, enjoyed a niche position as a manufacturer of speciality steels for high strength, high use applications. Its products included high-speed, tool and die, structural, high temperature, corrosion resistant and bearing steels available in wide range of grades in a variety of shapes and finishes. Its market included various industries, aerospace, energy. Lehigh enjoyed a premium position because of its ability to produce high quality customized products. Palmer a global manufacturer of bearing and alloy steels acquired Lehigh in 1975 primarily for the specialized equipment, Continuous Rolling Mill (CRM)
Lehigh operated under a matrix organization structure. General Managers of different departments, Vice President of sales, Director of operation and planning and the CFO reported to the company President. Performance was measured by product contribution margin calculated using standard costs: revenue less materials, direct labour, direct manufacturing costs, such as utilities and maintenance; and other overhead was considered beyond their control. The goal was to deliver quality product within specified lead time at the lowest cost.
1.2 Industry Structure Conduct and Performance:
Speciality steel comprised of 10% of the US steel industry and offered an excellent growth opportunity. Speciality steel varied in metallic composition and manufacturing process and were defined based on different attributes (grade, product, surface finish, size, structural and surface quality) most important of which was grade as it was a primary indicator of product performance. The industry was capital intense due to ‘lumpy’ and expensive capacity addition, changing cost structure because of newer technologies and also the knowledge work performed by metallurgists and the other technical specialists which formed a significant portion of the cost structure. The focus strategy (You choose to make product which can make better than the completion) employed helped to protect volume and capital investments.
Maintaining high quality at competitive costs was essential in the industry....