Birch Paper Company
Internal Environmental Analysis

What they do? – Birth Paper Company is a medium sized, partly integrated paper company, producing white and kraft papers and paperboard. They also convert paperboard into corrugated boxes with printing and colour on the outside surface.

Where they operate? – Birch operates 4 production divisions for paper, paperboard, and corrugated boxes as well as a timberland division to supply part of the company’s pulp requirements.

How well are they doing? – The company’s profit and competitive position has improved in the last few years since decentralization of profit responsibility. Divisions appear to be doing well in their respective markets: • Southern division runs below capacity at times and has excess inventory, but market price has not noticeably weakened as a result of oversupply. • Thompson Division is in a position to bid full-cost quotations to improve the quality of their business.

Key Players • James Brunner, manager of Thompson Division which produces corrugated boxes. • William Kenton, manager of Northern Division (designed specialty display box in conjunction with Thompson Division). • Manager of Southern Division (produces and could potentially supply Thompson with linerboard and corrugating medium for specialty boxes). • Commercial Vice President (analyzing the cost structures of the various divisions).

External Environmental Analysis/Industry Analysis

Competitors – The rivalry among existing competitors is high because there are a number of competitors who are able to produce the same products. The Northern Division requested bids for their specialty boxes from the Thompson Division and two outside companies who were able to produce it for less than Birch’s own Thompson Division. The manager of the Northern Division stated that they sell in a very competitive market, where higher costs cannot be passed on, which suggests that customers are price sensitive. The Thompson Division operates at under capacity at times which suggests that demand is not always at a peak.

Substitutes – The threat of substitute suppliers is high because Birch’s divisional managers are normally free to buy from whichever supplier he/she wished and even on sales within the company, divisions were expected to meet the going market price if they want the business. Also the products do not seem to be specialized and may be therefore easy to replicate.

New entrants – The high level of competition in the market place and the low bids that are occurring to attract customers would suggest a low threat of new entrants. Divisional manager, James, Brunner, is concerned with high overhead costs, which may also make the industry unattractive to new entrants.

Business Strategy

Corporate Level:

Extent of Diversification Birch Paper Company operates in single industry, pulp and paper, with a diversified offering of white and kraft papers, paperboard, corrugated boxes, printing and colour, and pulp.

Degree of Relatedness Birch Paper Company has some degree of relatedness as they transfer goods and services from one profit centre to another. For example the Northern Division designed a special display box in conjunction with Thompson Division, who was equipped to make the box, with the materials for the walls of the corrugated box supplied by the Southern Division. The agreement between the two divisions was for Northern to reimburse Thompson for the design and development work. Each division is evaluated on the basis of its profit and return on investment. Top management has been working to gain effective results from a policy of decentralizing responsibility and authority for all decisions except those relating to overall company policy.

Birch Paper Company is a Single Industry firm with separate operating divisions that have the ability to share common resources and core competencies. The example of the newly designed box for the Northern Division represents the company’s ability to create operating synergies across business units. Corporate control is to implement overall company policy that benefits all business units. The vice president is exploring cost structures of the various divisions, remembering that the controller had recognized that costs which were variable for one division could be largely fixed for the company as a whole.

Business Unit Level:

The Northern Division is operating with a mission to Build their market share and the innovation of the new box design. They are attempting to grow internally through research and development with a low cost competitive advantage. They are most likely to accept the lowest bid for the production of their new box design.

The Thompson Division is striving for a Build mission as they bid full-cost quotations (most of their sales are made to outside customers) to improve the quality of their business, despite operating below capacity at times. This suggests that they are striving towards a differentiation strategy to offer a higher quality product at the expense of maximizing production of capacity.

The Southern Division is in a Hold mission as they run below capacity at times and had excess inventory, but market price has not noticeably weakened as a result of oversupply. The fact that one of Birch’s competitors, Eire Papers, Ltd., would purchase the outside liner from Southern for a low bid on the specialty box order instead of manufacturing it themselves, would suggest that Southern operates with a low cost competitive advantage – offering a product that is either equal or better in quality but lower in cost.

The organization as a whole appears to be in a Build mission state as the vice president examines cost structures represented by the new box design transaction. This situation represents less than 5 percent of the volume of any of the divisions involved, yet analysis is being done to be proactive about any problems with future internal transactions. The focus of management on profit and return on investment indicates a low cost competitive advantage for the company as a whole making sure there are benefiting from economies of scale with the most advantageous use of shared resources.

Key Success Factors

1) Market Share – Top management has been working to gain effective results from a policy of decentralizing responsibility. As a result the focus on company profits has improved their overall competitive position. 2) Capacity Utilization – Costs which are variable to one division at Birch could be largely fixed for the company as a whole. Top management is evaluating the cost structure at Birch to ensure the best company policy for benefiting the organization as a whole. A focus on capacity utilization and maximizing productivity offsets a high level of fixed costs. 3) Quality – Despite running under capacity at times, the market price of Birch’s products does not seem to be effected which indicates that their product quality and customer satisfaction as a result, holds the value of their product and ensures repeat business.

Management Control Environment & Process

Birch Paper Company is run as an Investment Centre. Each divisional manager is responsible for individual profits and return on investment.
Pros
• Managers will be profit conscious if the business unit is measured on this basis. They will also be encouraged to earn a good return on the capital re-invested. • The quality of decisions will improve because they are being made closest to the point of expertise for the divisions.
Cons
• Optimizing profits for individual business units may not benefit the company as a whole because of perceived transfer pricing and assigned cost inequalities.

Transfer pricing is based on the market price. Each division manager is normally free to buy from whichever supplier he/she wished, and even on sales within the company, divisions were expected to meet the going market price if they wanted the business.
Pros
• Freedom to source gives managers the autonomy to choose the best bid for their profit margins. • If divisions are expected to meet the going market price, the divisions may be encouraged to work collaboratively to leverage core competencies.

Cons • During the design/bidding period, converters such as the Thompson division have lower profit margins. If the bid is lost to an outside source, there is no return on the investment in the product development work. • Individual divisions are likely to accept the lowest bid without realizing the full economic impact of out-of-pocket costs and cash flows for the organization as a whole. (see Exhibit below)

BIRCH PAPER COMPANY Statement of Incremental Cash Flows Per 1,000 specialty boxes

THOMPSON

Cash Outflow Cost for Thompson to produce 1,000 boxes $480

Cash Inflow Southern profit for linerboard and corrugating medium ($280x40%)* $112 Thompson profit on specialty boxes ($480-$400)** 80 192

Out-of-Pocket Cost to Birch $288

*Thompson’s out-of-pocket cost of $400 x 70% for cost of linerboard and corrugating medium = $280 selling price. Out-of-pocket costs for Southern on liner and corrugating medium were 60% of selling price, therefore a profit of 40%. ** $480 selling price - $400 out-of-pocket cost = $80 profit on specialty boxes.

WEST PAPER CO:

Out-of-Pocket Cost to Birch $430

EIRE PAPER, LTD:

Cash Outflow Cost for Eire to produce 1,000 boxes $432

Cash Inflow Southern profit for outside linerboard with special printing ($90x40%)* $36 Thompson profit for printing ($30-$25) 5 41

Out-of-pocket cost to Birch $391

* Selling price of $90 X a profit of 40%. ** $30 printing price - $25 out-of-pocket cost = $5 profit on printing.