In 1964, Codman & Shurtleff was acquired by Johnson & Johnson, Inc. as an addition to its professional products business. Johnson & Johnson operated manufacturing subsidiaries in 46 countries, sold its products in most countries of the world, and employed 75,000 people worldwide; its 1985 sales were $6.4 billion with before-tax profits of $900 million.

Reporting Relationships at Johnson & Johnson-In 1985, Johnson & Johnson comprised 155 autonomous subsidiaries operating in three health care markets: consumer products, pharmaceutical products, and professional products. Johnson & Johnson was managed on a decentralized basis as described in the following excerpt from the 1985 Annual Report: The Company is organized on the principles of decentralized management and conducts its business through operating subsidiaries which are themselves, for the most part, integral, autonomous operations. Direct responsibility for each company lies with its operating management, headed by the president, general manager or managing director who reports directly or through a Company group chairman to a member of the Executive Committee. In line with this policy of decentralization, each internal subsidiary is, with some exceptions, managed by citizens of the country where it is located. The senior policy and decision-making group at Johnson & Johnson was the Executive Committee comprising the chairman, president, chief financial officer, vice president of administration, and eight Executive Committee members with responsibilities for company sectors. The 155 business units of the Company were organized in sectors based primarily on products (e.g., consumer, pharmaceutical, professional) and secondarily on geographic markets.

Financial Planning at Johnson & Johnson: Financial planning at Johnson & Johnson comprised annual budgets (i.e., profit plans) for the upcoming operating year and a second-year forecast. Budgets were detailed financial documents prepared down to the expense center level for each operating company. The second-year forecast was in a similar format but contained less detail than the budget for the upcoming year. Revenues and expenses were budgeted by month. Selected balance sheet items, e.g., accounts receivable and inventory, were also budgeted to reflect year-end targets. Profit plan targets were developed on a bottom-up basis by each operating company by reference to two documents: (1) the approved five- and ten-year plan and (2) the second-year forecast prepared the previous year. Chuck Dunn described the budgeting process at Codman & Shurtleff. The first year of the strategic plan is used as a basis for the departments to prepare their own one-year plans for both capital and expense items. The production budget is based on standard costs and nonstandard costs such as development programs and plant consolidations. As for the R&D budget, the project list is always too long, so we are forced to rank the projects. For each project, we look at returns, costs, time expended, sales projections, expected profit, and gross profit percentages as well as support to be supplied to the plants. The individual budgets are then consolidated by the Information and Control Department. We look very carefully at how this budget compares with our previous forecasts. For example, the first consolidation of the 1986 profit plan revealed a $2.4 million profit shortfall against the second-year forecast that was developed in 1984 and updated in June 1985. To reconcile this, it was necessary to put on special budget presentations by each department to remove all slack and ensure that our earlier target could be met if possible. The commitment to this process is very strong. We are paying more and more attention to our second-year forecast since it forces us to re-examine strategic plans. The second-year forecast is also used as a benchmark for next years profit plan and, as such, it is used as hindsight to evaluate the forecasting ability and performance of managers. The procedure for approving the annual profit plan and second-year forecast followed closely the procedures described above for the review of the five- and ten-year plans. During the early fall, Herbert Stolzer reviewed the proposed budget with Roy Black and the Codman & Shurtleff board of directors. Changes in profit commitments from previous forecasts and the overall profitability and tactics of the Company were discussed in detail. After all anticipated revenues and expenses were budgeted, a separate contingency expense line item was added to the budget; the amount of the contingency changed from year to year and was negotiated between Stolzer and Black based on the perceived uncertainty in achieving budget targets. In 1986, the Codman & Shurtleff contingency was set at $1.1 million. Stolzer presented the budget for approval at the November meeting of the Johnson & Johnson Executive Committee.

Budget Revisions and Reviews: During the year, budget performance was monitored closely. Each week, sales revenue performance figures were sent to Herb Stolzer. In addition, Roy Black sent a monthly management report to Stolzer that included income statement highlights and a summary of key balance sheet figures and ratios. All information was provided with reference to (1) position last month; (2) position this month; (3) budgeted position. All variances that Black considered significant were explained in a narrative summary. The accuracy of budget projections was also monitored during the year and formally revised on three occasions. The first of these occasions occurred at the March meeting of the Executive Committee. Going around the table, each Executive Committee member was asked to update the Committee on his most recent estimates of sales and profits for each operating company for the current year. Herb Stolzer relied on Roy Black to provide this information for Stolzers review prior to the March meeting. The June Revision referred to the revised budget for the current year that was presented to the Executive Committee in June. The preparation of this revised budget required managers at Codman & Shurtleff and all other Johnson & Johnson companies to re-budget in May for the remainder of the fiscal year. This revision involved rechecking all budget estimates starting with the lowest-level expense center as well as revising the second-year forecast when necessary. The third review of budget projections was the November update which was presented to the Executive Committee at the November meeting concurrently with their consideration of the budget and second-year forecast for the upcoming budget year. The November update focused on results for the 10 months just completed and revised projections for the remaining two months. At Codman & Shurtleff, preparation of the November update involved performance estimates from all departments but was not conducted to the same level of detail as the June revision.

Questions:

One page, max. For Codman and Shurtleff:

What is the role of the executive committee and what is the over-arching intent of the budgeting process?

What are some benefits and potential costs of Johnson and Johnsons planning and control system (i.e., its budgeting process)?