Chapter

Meaauring and Control.lin4 Assets

Employed t0g

Case 7-4

A]oha Products
I'm eompletely fed up. I{ow am I auppoeed to run q pmfftable plant when I dont
have any eontrol over the price ofmy inpute and aone over the volume, priee, or
mix *f ray outputs? I'm held hostago by the'whima of the purchaaing and
marketing departments, I didn'i go to business schooi so I could be evaluated on
the baeia of acmeone else'e performance.
Liga Andersoa

#ffi

lf,frt"ts

Plant Manaser, Dayton, ohio

Aloha Products, founded in 1910 and headquartered in Columbue, Ohio, soid

its swn brands of coffee throughoui the Midwestern and iviiddle Atlantic
states. 7n 7994, the sales revenues of the company were $15S miilion. The company's stock wae closely held by members of the founder's family. The president and the eecretary-treasurer lrere pari of the family and the only mernbere
*f the management team to have equity stakes.

The Coffee Industry

coffee in its raw etat is referred to by buyers and sellers as "green coffee."
This refers to the green beam that are picked from the coffee treea. There are
two typee af coffee beane: arabica and robusta. Arabiea, a favorite ofAmerican
tonumers, is grown prirnarily in South Americ.a. Robusta coffee's major
g10$16r ie the Ivory coast. It has a stronger flavor than arabica and is favored
by processore who ma&e instant coffee.

Suppliers
Coffee generally is grown in tropical regions- Brazil, the largest produeer, supplies 20 to 30 percent ofthe rryorld's green coifee. obher large exporting countries
include colombia, Inf,*resia, the rvory coast, and ll{exico. coffee is harvested
somewhere in the world almost every month of the year. For example , Braail

harvests coffee April through september, colombia fram october into March,
and the Ivory Coast from November into April,
Buyers

The united states is the vrorld's largest single importer of coffee. It buya most
of ita coffee from Brazil and colombia. Europe is second, purchasing alittle
Iess than

halfofall

coffee exporbed.

Buyors fall into two categories; roasters and brokers, Hoasters include iarge
food processing companies such as Philip Morris (which acquired General

This case was written by Ruthard C, Murphy fi93) and Anil R. Chitkara (I'94) under the supervision
of Frofessors Vijay Govindarajan and Robert N. Anthony. The case is based on an earlier Note on

Coffee prepared by Scott Banett O'89) and an earlier case prepared by Professor Russell H. Hassler,
Harvard Business School.

3tO PartOne

The Llanagementcontlal E'uironmErtt

Foodso includ-iag its Maxwell llotrse brand), P&G, and Neslld, as well as regianal and local cotfee comFanie$. Large piayers pllrch*se theii' coff'ee supplies

f,irectly {icm the gr6welc- Their fi.naneial strength generally allo_ws them to
negs6;trg favorabll terras with the growers and to inventory caffee stoek as
pmtection against future price increases.
Smaller ciffee proces$or5 normally buy their coffee from brokers--eiiher a
"pur' broker or a trade flru. Pure brokers don't actually purchase the coffee;
bley merely match buyer and seller in the marketplace. l}ade firms da purchase
coffee frora its country of origin and then seli it to a focd processor, Generally,
they flnance their transaciions through rccured loans from cor$mercial banks'
These banls usuatly ailow a crcdit"rorthy company to borrow 80 to 90 perceat of
the market value (based en the spoi price) of the caffee purchased, The bank
irolds the title to the coffee until the trade firrn sells the product to end users'
Once the loan is repaid, the trade
as profit.

trm

takes ihe remaining proceeds of the sale

For }arge and smail buye::s, the coffee husiness is a relationship business'
Developi*g Etrotrg relationships with the gmwers is imp+rtant to maintain a
steady supply of eoffee. Although coffee is a commofity producl aild, as such,
its suppl-v-and demaod depend on price, one eannot ffy down to colcmbia and
expect tobuy a million bags of coffee eaeily. Grcwers want to deal s'ith huyers
they trust and vlce velrsa.
.Astrongrelatiorrship provides trva ihings:information about the ccffee market
ald an iniide track on a grcwet's clop, This is especiaily important if a raasier
needs a eertain type of coffee {e.g., Colombian mild) tn maintain a siandard blend
of grcund cosee that rsill keep eonsumers drinking "to the last drop."

Factors Affecting Price

W'eather, specifically frost and drought, is the most intportant factcr affecting
prod4ctiorr and hene price for West+rn Hemisphere coffees. The commodity
iections in most major ne-+spapers often carry stories ccncerning the effeci' of
weather on han'ests. Cofiee crops {?om Eastern Hemisphere countries most
often are damaged by ineects. Ttre level of eoffee irrventories in major produc'
iag and eo*suming csuntries ig another important market csnsideratioa.
Actual ot threatened dock strikes may cause a buildup cf eoffee stocks at a port
of exit. Marketing polieies cf various exporting countries alsc affect priees, On
the consumer side, high retaii prices or concerng about health ean reduce consu-n:.ption, which, in trrrn, may exert downwar'd pressure on price$'

The Futures Market

Fttures maykets for coffee exist in NewYork, Londar, and Paris. In NewYork
coffee futures are traded on the Coffee, Sugar, and Cceoa Exchange. Predicting
prices and availability of g::een caffee beals entails considerable uncertairif,y.
Thus, the normal use of the coffee futures market is to sei up a hedge to protect one's inventory pasition against price fluctuations. A hedge is commonly
defined as the establiehnBent of a position in the futures market approximately
equal to, but in the opposite directior:. of, a eommitment in the cath market
(also known as the physical, or actual, comraodity). Only 2 pereent of all
futures contracts result in achral delivery ofcoffee beans. The majority ofcontracts are eJosed out by purchasing a contract in the oppcsite directirin or by
selling cn's d,wn conlract.

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Chapter

lufeasuring

andConffolling

Asaets

Etnploled

311

a shori

For example, a company that owns an invenlory of coffee establishes

cf t'he
position in tle futures market. This position offsets a drop in the value
the
position
obliEates
shor[
The
decline.
prices
cqffee
case
firm,s inventory in
fu'
the
in
If,
date'
bolder to sell coffee at a predetennineil price at some future

increases in value becarr*e the holder

t*;, ;"*r";riees drap, tile short poritian
"Ttris
in value of the actual

offeets the decline

to set up a perfect hedge position
imposeihle
.off* G""torylit is virtually
physical
and futures markets. btt ihe
the
between
u"cause of imperfeciions
futures markels do protect the value of one's inventory'
ff"agr"g -fso a1lws coffee merchaate to get bank credii. Banks seldom
f"J *i"r]y 1o commodity holders who do not attempt to hedge their positions
properly.

f*U-a io *t'a higher i,ut*r p"i**,

Coffee Consum Ption Trends

Percapitacoffeeconeumptionhasdeclinedprecipitouslysil!e-1966.trxhibit1
coffee
shows'Us liquid consumption in several drink categories. \fhile overali
this
bucked
coffees
gourmet
and
premium
specialty
consomptlon *eclined,
approximately
from
climbed
alsne
,#ell.
sales
coiiee
Gourmet
eold
trena aoa
During this perioil, total coffee
SE00 million in 1gBT to $780 million ic 1992.
attracted new
*"*a Jy from $6.3 billion to $e.g billion. Spenalty brandscoffee
drinkers
the
".f"than
affluent
younger
more
and
coffee consamsrs' who vlere
of
percent
L9
for
accounted
coffees
anJpremium
Goor*"i
orio;.n eadier.
the
in
"*
increase
total consuraptiou in 1992, and tiris pereerrtage was expected to
future.
Many small frrns stepped in to both creete and take advantage of this shift
in consimerpreference.-6ne of them was Seattle-based Starbucks Coffee CompaEyst""u".t*purchasedandroastedhigh.quatitywho]ebeancoffeesand
sodthem, atong \r,'ith fresh,brewed coffee, a variety of pastriea and confections,

A Generation of
(Ga]lons per CaPita)

EXHIBIT

l,::. i :;.,,

,; j .

Erolvirg Thst+s--us Liquid consumption

''- '.''

...t j

,).6.3

3:I.O
21.6

21.8

Tbende

I?85

:. ,

4G,g
?,5,A

23.8
19.8
.,,.:.,- ."','7.1

..:i.:.5.J
::

_'...::'vA

-..-.-.t,-,

..6.2
1.8

1+!;

-,,.8*-

: ,. -"; .t,6ii5
*Dstg aft baecil on B-year moviug aversges t0 stritsrbalance iavantory nvrtnga, snd i9 show qoneumption more t'eallst'icslly
i1986 strd i990 Ilgures lnclude wlne toolero'
Souce: Beverage IndushY-Annffl Maruual 1992.

't990.

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312

Patl

One

The

ltlanqpmenl Cotztral Enuironm'cnt

EXHIBIT 2
Selected 1992

Seseat

Saleg

nnd Expenre

Data* ($ ia

mlll{sa5}

{thai

bevsrage segment
*girce theee companiea par#cipate in m[Itiple indurtries, orily the sE}rent data for ihe f@d
*{ree bu"i'eee) are proddedt;;r"J;;h;
coets'
una ia*iniciration expeneee include reearch and developmeni
'iii-riruri
S*irs france iaio dollars using dre avemge exchange raie for
ttr
lnancial infqrmation for Nestld vi;

;;;;'ye

*r""JJ f**

18021r1.40&.
Soufte: l992Annu6I RepmLr.

primarily through its company'

with its rigorous coffe-e 6^taa- i
compliance
*rr*,,"*
operatea rekil storB$. T"
a*'J',Starbuckspurcha8edgreenco.ffeebeansforitsmanyblendsfrom
to its
regions throufhout the world and custom roasted them
csffee
sf
distribution
"6g1gs-producing
and
packing
*ru"tiis standirds-. It also eortrolled the
ta its retail stores. For the year etrded october 1994, starbucks generatsd i
million of sales from 400 company-oprated retail outlets.
i
$284
" Green
Mountain Coffee Roasters (GMCR), baeed in Shelburne' Vermont' en',
I
joyed $11 million in eales for 1991. This company had seven retail outlets and
tore than 1,000 restaurant and gourmet food store accoBnts' GMCE kept itsa
i
p"t;;" httL and was decidedly ni[n tech, usjng a computerized roaster and
databaseJo help customers menage their coffee iaventories'
wur* *re specialty coffee iaduo-try had high hopes for consumer d*i::d P
d
the e*rly 90s, eome trendg iR consumer prtducte pointed to opportu:rities m
the nonspecialty segmente, In the wake of an ecor'omie recession' con:u1oe1s ,u
**r" **i corscious. Accordiugly, demand for lower-priced store brands.(pnitselt ',qH
vate labels) incfeased. It was not yet clear how this trend would manif'est
in the eoffee retail market in the years ahead'
and, coffee-related accessories and equipmnt,

Competitors
the
Neetl6 was f,he largest coffee compaay in the warld. In the United States,
(Folgera)'
largest coffee produeers were Phi[p Morrig (Maxweli House) and P&G
had considerahle resources: in&ashmcture, distribution net-

fl!""

works,"o*p*ies
brand equity, production resources, and marketing experbise' They
had eompetedtargelythrsughheafy advertisingl and aggT essiv prisirg, Seneitive to shifts in coffee ccnsrimption, all three had introduced many ,.ew coffee
prodacts. (selected financial data on the mqjor coBpetitors a-re provided in
ii*t*iUit 2.) In addition to these caffee giants, there were seYeral niehe players
such as Starbrrcks,

Aloha Products
The vice presidert ofsales forAloha Products and his two assistants centrally
*uo*g*d tt e salee policieo, The company presideat and the vice president of
sales joingy assurned resp'nsibility ]or adverlising and promotion. The vice
lln 1990 Philip Morrisand P&G each spent roughly $100 million on cotfee advertising'

Chapter

EXHIBIT 3

Profft & Loss

Statement for

?lant No.

Measuring

*nd Contro$ing

Asrr.;ts

Net:ales (shipment at billing prices)

less; Cost of sales:*

Employed'

3tt

100%

hale been omiiLed

'Cosl ofsales is expressed as parcont ofreL sales revsaue' Dollat emoonlg

packaging of
prefliderlt of n:anufact6ring oversaw the roasting, grinding, and
Al.oha's coffees,

Thecompanyoperatedthreeraasti$gplankintheMidwest,eachplantperwas a
with its o*r, profit-unci loss responsibility' A plant ilIanager's bc'nus
monthly
prepared
grose
margin.-Headquarters
plant',s
centage of his or her
3'
grosskargin statements for eacb plant, as illusirated in Exhibit
wilh
At the start of each month, heidquarters presented plant managers
for
the
shedule
projected
a
and.
*ooth
proda*Uon schedules for tit*
month.
succeefing
-

"orr"of

p*of, pinnt had a small aecounting offiee that recorded a1I maaufacturing
coets*ndpreparedpayroils.Thehomeoffreemanagedbilling'credit'andeollection, and piepared all of the company's financial statements'
coffee
Plant ****g*"* had no controi o,*ib"yi"g the green-(unprocessed)
purchases'
these
handled
company
the
unit
within
beans. AspeciJ purefrasiug
was tocatd in NJw llork City, the beart of the green mffee business,
iir*
""it
allo,,ved constant contact with eoffee brokers. The purchasing
this
because
its own records and haudled a1l of
s"o"p *** Iargeiy autonomous. It kept all of
sales to outsiders, al}d transpurchasing,
the financial transactions relaterl to
The unit's malleger replants'
roasting
fers to the rhree company-operated
secretary-treasurer'
porled directly to the company's
pri**y function was ts obtaia. the necessary variThe pr:rchasing
"oii'*
for {he roasting plantsto b1en4 roaat, pack,
eties and quantitie* or gr***
"uruu
than 50 types
and deliver to customeis. The purchasing group dealt with more
world.
the
over
all
cor.rntries
groiv'
tropieal
in
S..a"" of "0ff"" b"ur,,
--U-Gp*:ected
forward
into
group
entered
""A
pt*chasing
the
sales trtidgets,
green
reqrrired
contracts
Forward
exporters.
wittr
contracts
gr*un .Jffnu tean
the
group
had
also
Ioffee delivery * to 72 months outLt specifi.e prices. The
immediate
for
purchatse
is,
opiio" of purchasing on the spot market'-that
knowld*tiv*ry. S'pot porchases Bere kept to a minimri-m. Apurchasing agent's
and
judge
trends
market
to
had
agent
the
*ae" ,f thi market was critical;
srake comrnitments accordinglY.

314

Part

G*e

Th< Managerr*nt Cail**l.Enu,jrertfien{

The regult af this procefis_was that the gl.een coff'ee purchasing

unit hought a
range of coffees in advance for delivery aiva"ious
dates. At the Ltual delivery
date, the c*mpany's sales were not arways at t]r.e rever expeeted
when the original green ccffee contraet was signed. The difference

tet*een actual deliyeries

and eurrent requirements was handred through either ."r",
oie*ehases on
the spot market, Tire cornpany wouid eell to, or buy from,
coffee'bmkers and
sometlmes from other yrasters.
.As an example, rammitments for Kora No. z {a grade of Hawaiian soffee)
mi_ght specify delivery in May of ?2,0C0 bags (a
hag'contains 1E f U*. of green
caffee). Theee deliveries would be made r.rnder E0 eontracte
exec*ted at valTug
prices, 3 ts 12 months trefore the month of delivery.
Irror *o*e-r"asrn demand
for the cornpan/s producte feu in Mag the plani,s raw materiai
needs could
correnponilingly fail to l-?,0CrCI bags, Iu this case, the purchasing
have tr decide between parrng to stare 8,000 surprr:s bags
"aif would
in noncompany
faciliiies or selllng tFie coffee o, ih* open market. rii*
rr*Ju**" typicai
of the corapany's normal operatian.
"**rirpi*
Generally, tfte compan}/s big volume purchases permitted, it
to buy cn favorable terms and to rearize a nolmar brolerage and irading profit
when it sord
smaller lots to amali roasting companies. HJnce, the usuJpolicy
was to make
purchase commitments bas*d on maximum potential
plunf ruqiirements and
sell the surpius sn the spot market,
The company accounted for soffee purchases by maintaining
a separate csei
reecrd for eaeh contract, This record was charged
with paynreritu tro, coffee purckased as.yell as shipping charges, impor"i expenses,
aud similar items. For

earlr
contract, tJre purchasiag group computed a net cost per
bag. Thus, the E0 deliveries of Kona No. z cited in the examfie wourd corne
into inientory aiF0 d.ifferent
costs' The established Folisy q'as to treat each
eontr:a*tindividuatly. when p'een
ccffee wae ehipped to a plant, a charge was
made for the cost represented by the
contracts that covered that partieular shipment ofcoffee.
rhere was no erernent
ofprofit orloss assccisted witl: this i,ransfer. wjren iJre
eogbe
o1
lhe open market, the sales r,ere likewise costeri o*"","p;;;;rd;een
u *pu"ifi. cantract basis
with a resulting prcfit or loss on the transaction.
The operating cost ofrunning the purchasing unit
was charged directly to
the centra-i offiee. The cost was recordea as
an elemeni in the generer corporate
overhead,
- For ihe past several years, the plant managers had been diseatisfied with
the mp''hcd of computing gross marg"in (as ei'iderrt
from the quate at the r:eginning cf this casei. ?heir caripraints finarly motivated
the presidrrrt

to request
a ccnsuiting firm that speci_arizes in strltegy exec*tion
to study the whole
method of reporting the iesuris of plant operatior:e,
sares and maiketing, and
the purchasing groups.

Questions
1' Evaluate the current contror systems for- the
manufacturi-ng, marketiu.g,
and purchasing departmenk of A.joha proclucts.
2. Corrsidering the company,s competitive strategy,
what changes, if any would
you mal<e to the coutrol systems for
ihe th.r:ee rlepartments?

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