In 1982 Electrolux was on a downward curve. This case study shows how it transformed itself from a failing company with falling profits and the company's takeover in 1983 by Zanussi.
SYSTEMS IN ACTION: Electrolux
In recounting the story of Electrolux acquisition of Zanussi, Leif Johansson, Head of Electrolux Major Appliance Division, had reasons to feel pleased. Through financial restructuring and operating improvements, Zanussi had in only three years since the acquisition gone from a massive loss of 120 billion lira in 1983 to a tidy profit of 60 billion lira in 1982.
Open University Business School Residential course at Leiden, Holland
Good morning and welcome to Electrolux. We’re going to be looking at a number of questions during the course of the morning and the afternoon, but first of all let’s just have a little look as to why we might go down the acquisition route or what the possible alternatives are…
This group of Open University management students is working with a case study. Case studies are crucial elements in learning to think strategically. They help students analyse information and develop powers of reasoning. Case studies are used in tutorials, for assignments, and for residential school activities.
You get to pay back, breakeven, you start making profits, it’s a long time...
One of the big problems that students have in making sense of case studies is that there’s simply too much information to absorb, so they need to make sense of it by using the models and frameworks which are introduced in the course. The purpose of this video is to suggest ways of doing this by exploring one particular case study. It looks at the acquisition by Electrolux of another white goods producer, Zanussi.
In 1962, Electrolux was on a downward curve. Profits were falling and the company had not developed any significant in-house research and development capability. Compared with other appliance manufacturers such as Phillips, Siemens, GEC and Matsushita it had a limited range of products. The core business was made up of vacuum cleaners and absorption type refrigerators. These refrigerators were increasingly unable to compete with the new compressor type refrigerators developed by competitors, and sales of the once highly successful lines of vacuum cleaners were rapidly declining.
The case study continues by describing how Electrolux transformed itself from this sorry state through a process of repeated acquisition, and in so doing became expert in the process of managing acquisition and integration processes. Then it describes how in June 1983 the attention of Leif Johansen, the 32 year old Head of Electrolux Major Appliance Division, was drawn to an ailing Italian refrigerator manufacturer, Zanussi.
Leif Johansson received a proposal from Mr Ken Doty, Head of Zanussi’s Major Appliance Division in France, from whom he had been sourcing refrigerators for the French market. The proposal called for the investment of a small amount of money in Zanussi, so as to secure future supplies from the financially troubled Italian producer. The next day, Johansson called Anders Sharp to ask why don’t we buy it all, thereby triggering a process that led to the largest acquisition in the history of the household appliance industry and in the Swedish business world.
The case study then looks at Electrolux’s priorities for action after the acquisition. These included
- enhancing capacity utilisation,
- cost cutting in purchases,
- revitalising sales.
It looks at how Electrolux secured cooperation from the unions and how it dealt with the problem of reluctant middle management. And then under what it refers to as Strategic Transformation, the case study looks at some of the key areas that Electrolux targeted for change in Zanussi, including
- improved production technology,
- spurring innovation and new product development,
- enhancing product quality.
But the case study is much more than simply a narrative of events; it also contains in exhibits and appendices a wealth of additional data which supports analysis of the underlying situation and context. It’s when students begin to use this data that a case study really proves its value. Open University tutor, David Coleman.
David Coleman, OU Tutor
What it brings out rather well is that in a mature industry, with a small number of increasingly large players, if you wish to expand market share, the route that you take is almost certainly the acquisition route, since you can't develop additional products and market share by internal growth. And the case is very good at looking at the decision of an experienced acquirer of other companies, and the way that they identify, then go for and absorb quite major acquisitions. So we’re talking here of a company that’s done 200 acquisitions over a period of time, so one of the real competencies is actually to be able to acquire successfully.
Case studies allow us to develop strategic insights through the application of models and frameworks and relate these to real situations. But the key to this is thorough preparation, as these Open University students testify.
Don’t just sit there, but join in and make the most of the opportunity.
Don’t turn up at the first session without having read the case study, otherwise you could find yourself in a very embarrassing situation. They said Marcel, tell me what’s the gist of this whole case study, and then you just sit there like an idiot. I know from experience.
They have different approaches in our experience. The mainstream approach probably is to read it through quickly, to identify what might be key strategic issues, to list them out for attention later, and then to go back through it in much more detail, noting what the tables tell them, what the appendices tell them, odd little points that might later connect up. Some students are very reluctant to read the appendices, the financial tables, the sales figures and so on, and we encourage them to look at those and to ask questions in terms of well what does this table actually tell us. What are two or three things that it tells us, what are the trends, what are the key relationships?
So preparation is much more than skimming the text, students need to
- read the case carefully,
- identify the key strategic issues,
- read the appendices and get to know the data they contain,
- interrogate the statistics and try to understand what the information is telling you.
This will lead students to ask questions such as
- What’s the nature and structure of the business?
- What creates competitive advantage in that industry?
- What’s the competitive advantage of the firm?
- Where is it placed in relation to the industry structure?
- How well is the firm performing? and
- What is the nature of the wider environment in which these factors are playing themselves out?
Part 3: Interrogating the Case Study
For students who are new to case studies, interrogating material in depth can at first appear daunting. To help you understand this process, we've asked two experienced case study tutors from the Open University Business School, Geoff Mallory and Harold Carter, to take us through the process of exploring the Electrolux case study. We’ll stop at intervals to examine their conclusions.
Okay, so one of the first questions that we asked was, or the general question that we posed was about the industry. So how attractive is this industry, this white goods industry?
It varies. Different firms have got different results. If you look at British firms like Hotpoint for example, they’ve got something like a 35% return on capital. If you look at the return on capital which is enjoyed by some of the people who are exporting, firms like Miloni in Italy, you're getting around about a 10% return on capital, which really isn’t very attractive. Unfortunately we don’t have a figure for the return on capital of Zanussi and Electrolux combined in the case. What we do know is that they were trying to achieve a target return on capital of 20% from their subsidiaries, and that again is stated in the case, so we can assume that most of their companies when they're up to speed are operating at or above that as a level. So the funny thing in this industry seems to be that the little guys, the really little guys like Hotpoint actually seem to be more profitable than the big guys, and it’s very interesting to figure out in that case first of all why anyone would want to invest in this industry, a vast proportion of the market is in the hands of a very, very few firms.
So, by using the return on capital employed figures, which are provided in the notes attached to the case study, the tutors are able to reach conclusions about the attractiveness of the industry, by comparing return on capital for national players with that for exporters and global players. At first sight, the industry doesn’t look attractive for the larger players, with return on capital as low as 5.3%, compared with 34.7% for niche national players.
Using models and frameworks is a particularly valuable way of exploring case studies. One very useful model is based on the work of Michael Porter. He argues that there are five different forces which drive industry attractiveness. These are
- rivalry within the industry,
- the power of suppliers, the power of purchasers,
- threats of entry and
- threats of substitutes.
Harold and Geoff use Michael Porter’s framework as they continue to explore the attractiveness of this industry. They begin by looking at threats of entry.
You’ve got Japanese producers coming in, we’re told, that you’ve got Whirlpool coming in and acquiring Phillips halfway through the case study period. For any individual competitor, the threat of maybe not newly established companies, but established companies coming into his market, may be quite high, although it may also be quite constrained by things like transport costs.
Yeah, so presumably if the Japanese wanted to come in, they'd have to build a plant or acquire.
They would have to build an assembly plant. It’s expensive for the Japanese to ship empty boxes full of air around the world, which is really what refrigerators are. It may not be expensive for them to ship in compressors. And if the bulk of the value added comes in the compressor, then it may still be that you can run a very profitable business even overcoming transport cost barriers. But I don’t think that the treat of entry is a major problem in that most of the markets through our established players and in most of those established players have also to some extent sewn up the distribution channels, and that’s an important barrier to entry in and of itself.
So access to distribution channels is likely to be a key disincentive for entry to the European white goods industry; however, we know from the case study that Electrolux acquisition of Zanussi provided access to existing distribution channels. But what about the power of purchasers, what does the case study tell us that adds to the picture we’re forming of this industry?
I think the power of the purchasers is probably growing. If these guys want to be in a position to put pressure on the established companies, one of the ways that they can do that is to find alternative sources. And therefore they actually want to find alternative sources, and they can actually act as somebody who sucks in threats of entry, so that for example in the United States, we’re told that Whirlpool was created by the distributor, by Sears, who wanted an alternative producer to GE. If you’ve got very savvy producers, they will manipulate the threat of entry in order to drive down the competitive position of their own manufacturers, their own suppliers.
So the power of purchasers is likely to increase as consumers favour large retailers.
But staying with Michael Porter’s framework, is there a threat from substitutes? Our tutors thought not, as people had little choice other than to spend their money on something else. So finally, our tutors looked at the power of suppliers.
This one is an interesting one because we've talked about component suppliers, and we've talked about how it’s possible to do an assembly operation by shipping components and moving components around rather than the finished goods around. So what can we say about this?
I think it depends which suppliers you're talking about. One of the things we learn in the case study is that subsequent to the acquisition Electrolux actually sets up a component suppliers group. And that tells me at least that controlling your sources of supply is strategically very, very important, it’s something from which you can get major leverage.
To quantify this importance, it’s necessary to look back into the case study and analyse some of the figures provided. For example:
Male voiceover text
Given that 70% of production costs were represented by raw materials and purchased components, an immediate programme was launched to reduce vendor prices. The assumption was that vendors had adjusted their prices to compensate for the high risk of supplying to a financially distressed Zanussi, and should lower their prices now that the risk was eliminated. A net saving of 2% on purchases was achieved immediately. Over time about 17% gains in real terms would be achieved, not only for Zanussi but also for Electrolux.
We’re told in the case study that they achieve an immediate 2% saving, and I mean that is actually significant. Because you’re not comparing 2% with 100%, you're comparing 2% with the things that you’ve actually got control over, which is 30%. So it’s 1/15 reduction in the costs over which you’ve thought you had control. But more than that, we’re also told that they’ve got a 17% reduction in the cost of components through time, 17%. Now that has an enormous potential competitive impact.
So having used Porter’s model to explore the attractiveness of the white goods industry, are we now in a better state to evaluate Electrolux’s acquisition of Zanussi? The explanation would seem to be that Electrolux is a well-managed company charging to the rescue of the less well-managed Zanussi, but closer examination of the data, for example the return on sales figures, might tell a different story.
And what we see, which is really surprising, given the way in which this case is pitched, and just illustrates the need to look in real detail at the numbers, is that the return on sales that Zanussi was enjoying before it was acquired is actually higher than the return on sales which Zanussi and Electrolux together enjoyed after the acquisition took place. Now that wasn’t because Zanussi in some sense then went downhill and started diluting Electrolux’s sales, because Zanussi didn’t contribute more than about a third more in terms of sales. So there’s something very odd happening here.
To find out what was really happening to Zanussi, our tutors got out their calculators and used the data provided in the Zanussi Group income statement and balance sheet to calculate three important ratios:
- asset turnover, which is the sales of the company divided by its total assets;
- stock turnover, which is sales divided by total stock; and
- plant turnover, which means the fixed assets of the company expressed as a proportion of its total sales.
These are the ratios for the four years prior to Zanussi’s acquisition. All the information for calculating them is provided in the case.
What this tells us is that the company was doing less well; Zanussi was doing less well, in terms of the amount of dollar sales that it generated for each dollar of assets that it held. And if we look at that and say well which assets was it that were underperforming, we can see that actually in terms of the day-to-day operational management of the company, they were really doing quite well. Their stock turnover, the number of times that they turned their stock over each year, was actually going up, but what we see also is that their performance in terms of the utilisation they got out of their fixed assets was going down. From 2.4 and 2.8 in 1980 and 1981, they're down to 1.8 times turn in 1983. What that tells us is that the assets were being managed less well, they were getting, making less use of those assets, and at the same time they were financing that with debt.
Using the balance sheet, it was possible to calculate how short and long term debt was changing from year to year. The total increase in debt over a given year demonstrated that Zanussi was clearly taking on a lot of new debt. The year on change in fixed assets was also calculated. Comparison of the debt figures with the assets suggest the company was using debt to finance these newly acquired assets.
What we see is that they were taking on lots of debt, and at the same time as they were taking on all that debt, they were spending a lot of money on acquiring fixed assets. What went wrong was that they bought lots of expensive plant and that created a debt service burden which they weren’t able to carry, and that pushed them into a position of unprofitability. Clearly Zanussi were trying to compete by investing. I mean they must have decided that it was strategically important to invest, to actually build up their fixed assets in such a way probably as to be able to push their production costs down...
That’s how two experienced tutors set about interrogating and making sense of this particular case study.
Working with case studies is an opportunity for students to work with other managers, sharing ideas and probing questions in an environment where mistakes don’t matter. Many students bring to case studies considerable insight from their own work, and the contribution of this knowledge plays an important part in the success of a case study session. Ultimately the importance of these sessions lies in how people use models and frameworks to make sense of a situation, so they can use and apply them in their own work environment.
Course student reporting back to group
There were two principal reasons why we felt the Electrolux move had been preplanned. Number one was the addition of extra and additional production facilities, which we know from the component suppliers would result in unit cost reduction. So in terms of that we felt that Electrolux had a fairly high cause for action. So we were putting them sort of about there.
Towards the end of a case session, I think we’d move to the generalisable lessons that could be applied, and in several of the cases that we've been looking at this week, the later questions move from the specific case to what are the overall lessons that can be applied. For example, in the public sector case we ask each student to identify an insight that they could use for their own work back home, and we get issues about managing multiple stakeholder relationships, having to work with unusual joint alliance partners, things like this, that they can identify with quite readily. And issues like the acquisitions across Europe right now are extremely topical, and many of the students have been involved on the taking or receiving end of acquisitions in one way or another, so we can generate particular lessons out of it.
So what did this particular group of students working with the Electrolux case study believe they would take back with them to their own jobs?
For me it’s the right moment to see the application of the course concepts that we've been studying, and especially as far as I'm concerned when they regard industrial environment. Some other case studies sometimes may be just a bit theoretical but at least they're interesting to hear about.
You don’t expect to find a case study which exactly emulates your job. What you're really trying to do with the case studies, and I think that the case studies are useful in that sense, that it’s the opportunity for you to apply the models you’ve learned throughout the course and the theories you’ve learned throughout the course in a simulated situation. And that experience will allow you to then learn something and bring it back to your organisation. That’s the whole idea of the case study, it’s not exactly try to find a case study that exactly matches your organisation, because I doubt you will be able to find it.
I just used the concepts and so forth to understand for example how a decision is made at a higher level which seems totally illogical to me. I know now where to go and start looking for the information to actually understand why that decision was made which would have seemed illogical to me before I started doing these studies.
There’s one thing that is different between case studies and normal business life, that in these case studies we all, we share the objectives who want to join this residential school and take the best with us. When you do business then the interests are very different, and also in a multicultural environment, and then the problems may begin, but here we all try to get to the same goal.
We work together as a team and we learn from one another. We share different views, perspectives.
We have to support each other because otherwise you will not come to a conclusion and you're not able to prepare or to make a presentation. So you have to work together and I think the good thing is that many of us bring in different backgrounds and so they bring in different ideas and you come to a better synergy.
So case studies provide students with the opportunity to gain real experience of managing in complex situations, without the risk of making mistakes which matter. The key points we would like you to take away from this video are:
- case studies are important because they provide experience of using models and frameworks;
- they are non-threatening;
- lessons can be generalised, there are no right answers; and
- case studies are an opportunity for students to learn from each other.