When the Caterpillar Company restructured its overall corporate organization, significant revisions needed to be made to the current standards and methods of measurement. In 1990, Caterpillar restructured from a functional bureaucratic organization into a profit center organization to better meet the company-wide goals of increased customer responsiveness and customer focus. This new structure includes 13 “profit center” divisions and three “service center” divisions that had previously been treated as cost centers. See the illustrations below for graphic views of these changes. Decentralization allowed decisions to be made at lower levels, which gave authority to each division to make decisions about design, pricing, and service. Employees at the lower levels were enabled to develop their skills as “businesspeople.” Their expertise and experience in manufacturing and design proved very beneficial to Caterpillar.

When the Chairman and Vice Chairman of the Board of Caterpillar decided to implement all new performance measures, they solicited input from within the company, as well as from such companies as AT&T and IBM. They had created a short timetable in which to complete the project and new performance measures were to be created quickly. After general concepts for performance measures were created, a team from the corporate accounting department was formed which worked with consultants from Price, Waterhouse, & Co. to make these general concepts more specific for their future implementation. Once the concepts were made more concrete, each employee was given a two-day training session to learn how decisions would affect adherence to these new standards.

Financial Measures

Revenue for products is based on the price in the dealers’ price list.  Indirect costs are allocated based on a “cause-and-effect” method, while avoiding “arbitrary allocations of indirect costs to these segments because they can distort profit.” Caterpillar describes a benefit of this method of determining profit as being the ability to push accountability for profits to lower levels of the organization and the ability to create constructive conflict among units.

Nonfinancial Measures

Although Caterpillar uses such figures as customer/employee satisfaction, delivery performance, and process improvement, the predominant measure is the efficiency ratio of direct labor hours/machine hours. However, this measure obviously can motivate actions that would be destructive in the long run, so it is being de-emphasized as the primary measure. Nonfinancial measures also have the added benefit of being reportable on a more timely basis than financial numbers, and corrective action can consequently be taken much quicker.

Service Department Measures

Service departments include Business Resources (accounting), Human Resources, and Technology Resources. The chief measurement of these departments is in comparing actual vs. budgeted spending. User satisfaction provides the most crucial nonfinancial measurement.

How can these principles be applied to your company?

• Support the users’ needs.
• Performance measures should drive the desired behavior.
• “Why is this performance measure needed?”
• Select a limited number of relevant, understandable measures.
• Report results frequently.
• Educate employees.
• Inform users how decisions will ultimately affect financial results
• Examine trends.
• It is likely more useful to compare current numbers with last year’s numbers, as
  opposed to budgeted numbers.
• Assess the system’s ability to collect data.
• Modifications may be required in order to collect appropriate information for decision-making.
• Regularly review the system.
• A system must evolve within a dynamic business environment.

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