Harvard Case - Budgeting at Pharmabrew (A)
"Budgeting at Pharmabrew (A)" Harvard business case study is written by Catherine E. Batt. It deals with the challenges in the field of Accounting. The case study is 6 page(s) long and it was first published on : Dec 21, 2023
At Fern Fort University, we recommend Pharmabrew implement a comprehensive budgeting process that incorporates activity-based costing (ABC) principles, enhances communication and collaboration across departments, and aligns with its strategic goals. This approach will improve the accuracy of cost allocation, enhance profitability analysis, and provide a more robust foundation for decision-making.
2. Background
Pharmabrew, a pharmaceutical company operating in emerging markets, faces challenges in managing its budgeting process. The current system relies on traditional cost allocation methods, leading to inaccurate cost estimates and hindering effective decision-making. The company is also grappling with the need to improve profitability, particularly in its manufacturing operations.
The main protagonists of the case study are:
- Peter Hansen: CEO of Pharmabrew, concerned about the accuracy of the company's budgeting process and its impact on decision-making.
- Maria Rodriguez: CFO of Pharmabrew, responsible for overseeing the company's financial performance and implementing a new budgeting system.
- John Smith: Head of Manufacturing, responsible for managing the company's manufacturing operations and seeking more accurate cost information.
3. Analysis of the Case Study
The case study highlights several key issues:
- Inaccurate Cost Allocation: Traditional cost allocation methods, based on volume-driven measures, fail to capture the true cost of activities and products. This leads to distorted profitability analysis and hinders effective decision-making.
- Lack of Transparency and Collaboration: The current budgeting process lacks transparency and collaboration across departments, leading to misaligned goals and inefficient resource allocation.
- Limited Strategic Focus: The budgeting process is primarily focused on short-term financial targets, neglecting the company's long-term strategic goals and growth potential.
To address these issues, we can apply a framework that combines financial analysis, management accounting, and strategic planning:
- Financial Analysis: Analyze Pharmabrew's financial statements, including the balance sheet, income statement, and cash flow statement, to identify key financial performance indicators and areas for improvement.
- Management Accounting: Implement activity-based costing (ABC) to improve cost allocation accuracy and provide a more comprehensive view of cost drivers.
- Strategic Planning: Align the budgeting process with Pharmabrew's strategic goals, focusing on long-term profitability and growth in emerging markets.
4. Recommendations
Pharmabrew should implement the following recommendations:
1. Implement Activity-Based Costing (ABC):
- Identify Cost Drivers: Conduct a thorough analysis to identify the key cost drivers for each activity and product within Pharmabrew's manufacturing operations.
- Allocate Costs Accurately: Allocate costs based on the actual consumption of resources by each activity, providing a more accurate picture of product profitability.
- Develop Cost Pools: Create cost pools for each activity, such as production setup, quality control, and material handling, to facilitate accurate cost allocation.
- Develop Cost Drivers: Identify the key cost drivers for each cost pool, such as number of setups, number of inspections, and number of material moves.
2. Enhance Communication and Collaboration:
- Cross-Functional Budgeting Teams: Form cross-functional budgeting teams comprising representatives from finance, manufacturing, sales, and marketing to ensure alignment and shared understanding of the budget process.
- Regular Budget Reviews: Conduct regular budget reviews to ensure the budget remains aligned with the company's strategic goals and operational performance.
- Transparent Communication: Promote transparent communication across departments regarding budget assumptions, performance metrics, and variances.
3. Align Budgeting with Strategic Goals:
- Link Budget to Strategic Objectives: Ensure the budget aligns with Pharmabrew's strategic objectives, such as expanding into new markets, developing new products, and improving operational efficiency.
- Performance-Based Budgeting: Implement performance-based budgeting, linking budget allocations to key performance indicators (KPIs) that measure progress towards strategic goals.
- Long-Term Perspective: Adopt a long-term perspective in budgeting, considering the impact of investments on future profitability and growth.
5. Basis of Recommendations
These recommendations are based on the following considerations:
- Core Competencies and Consistency with Mission: The recommendations focus on improving Pharmabrew's cost accounting and budgeting processes, which are essential for achieving its mission of providing affordable healthcare solutions in emerging markets.
- External Customers and Internal Clients: The recommendations aim to improve the accuracy of cost information, which will benefit both external customers through competitive pricing and internal clients through informed decision-making.
- Competitors: The recommendations will help Pharmabrew become more competitive by improving its cost efficiency and profitability.
- Attractiveness ' Quantitative Measures: Implementing ABC will provide a more accurate picture of product profitability, enabling Pharmabrew to make informed decisions about pricing, product mix, and resource allocation.
- Assumptions: The recommendations assume Pharmabrew has the necessary resources and commitment to implement the proposed changes.
6. Conclusion
By implementing a comprehensive budgeting process that incorporates ABC principles, enhances communication and collaboration, and aligns with strategic goals, Pharmabrew can improve its cost allocation accuracy, enhance profitability analysis, and provide a more robust foundation for decision-making. This will enable the company to achieve its strategic objectives and maintain its competitive edge in emerging markets.
7. Discussion
Other alternatives not selected include:
- Continuing with the current system: This would maintain the status quo, but continue to suffer from inaccurate cost allocation and limited strategic focus.
- Implementing a simplified budgeting system: While simpler, this may not provide the level of detail and accuracy required for effective decision-making.
Key risks and assumptions of the recommendations:
- Resistance to change: Some employees may resist the implementation of ABC and the changes to the budgeting process.
- Cost of implementation: Implementing ABC requires significant investment in training, software, and data analysis.
- Accuracy of cost drivers: The accuracy of the cost drivers identified for ABC is crucial to ensure accurate cost allocation.
8. Next Steps
To implement the recommendations, Pharmabrew should follow these steps:
- Phase 1: Conduct a pilot implementation of ABC in a specific department or product line to test the approach and identify potential challenges.
- Phase 2: Based on the pilot results, develop a comprehensive implementation plan for ABC across the company, including training, data collection, and system integration.
- Phase 3: Integrate ABC into the budgeting process, ensuring alignment with strategic goals and performance measurement.
This phased approach will allow Pharmabrew to implement the recommendations effectively and minimize disruptions to its operations.
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Case Description
Pharmabrew manufactured and distributed generic medicines to third-party pharmaceutical companies. Anna Nielsen, the company's CFO, had long been listening to unit managers complaining about the budgeting process, as they found it time-consuming and believed it did not add value to the business. Anna decided to change the process and hoped the unit managers will complain less. Unfortunately, John Christensen, the head of sales, fell ill during the budgeting process, and Martin Andersen, his assistant, had to take over. A few weeks into the year, Pharmabrew was in trouble. Deliveries were late, raw materials needed for production were unavailable, and clients were angry. What led to this situation?
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