Harvard Case - Chemical Bank: Allocation of Profits
"Chemical Bank: Allocation of Profits" Harvard business case study is written by Kenneth A. Merchant, Carolyn M. Bitetti. It deals with the challenges in the field of Accounting. The case study is 15 page(s) long and it was first published on : Oct 27, 1983
At Fern Fort University, we recommend that Chemical Bank adopt a comprehensive approach to profit allocation that addresses the concerns of both the private and public sectors. This approach should involve a combination of activity-based costing, performance-based incentives, and a transparent communication strategy to ensure fairness and accountability.
2. Background
Chemical Bank, a large, diversified financial institution, faces a complex challenge in allocating profits across its various business units. The bank's structure includes both traditional banking operations and newer, more innovative ventures, each with unique risk profiles and profitability expectations. The current profit allocation system, based on a simple percentage of assets, has been criticized for being unfair and failing to incentivize growth in the newer, more dynamic areas.
The main protagonists in this case are:
- The Board of Directors: They are responsible for overseeing the bank's overall strategy and ensuring that profits are allocated fairly and effectively.
- The Management Team: They are responsible for implementing the bank's strategy and ensuring that individual business units are performing well.
- The Public Sector: They are concerned about the bank's social responsibility and its commitment to supporting community development initiatives.
- The Private Sector: They are concerned about the bank's profitability and its ability to generate returns for shareholders.
3. Analysis of the Case Study
The case study highlights several key issues:
- Lack of Transparency: The current profit allocation system lacks transparency, making it difficult for stakeholders to understand how profits are being distributed.
- Inadequate Incentives: The current system does not adequately incentivize growth in the newer, more innovative business units.
- Potential for Conflict: The current system creates the potential for conflict between the different business units, as they compete for a limited pool of resources.
To address these issues, we can apply the following frameworks:
- Activity-Based Costing (ABC): This framework can be used to more accurately allocate costs to individual business units based on the activities they perform. This will provide a more accurate picture of the true profitability of each unit.
- Balanced Scorecard: This framework can be used to develop a comprehensive set of performance indicators that go beyond financial measures. This will help to ensure that all aspects of the bank's performance are considered, including customer satisfaction, employee engagement, and innovation.
- Corporate Social Responsibility (CSR): This framework can be used to ensure that the bank's profit allocation system is aligned with its social responsibility goals. This will help to build trust with the public sector and demonstrate the bank's commitment to sustainable development.
4. Recommendations
To address the challenges faced by Chemical Bank, we recommend the following:
- Implement Activity-Based Costing: Chemical Bank should adopt an activity-based costing system to more accurately allocate costs to individual business units. This will provide a more accurate picture of the true profitability of each unit and enable the bank to make more informed decisions about resource allocation.
- Develop Performance-Based Incentives: The bank should develop a performance-based incentive system that rewards business units for achieving specific goals. These goals should be aligned with the bank's overall strategic objectives and should take into account the unique characteristics of each business unit.
- Improve Transparency and Communication: The bank should improve transparency and communication around its profit allocation system. This can be done by publishing a detailed report that explains how profits are allocated and the rationale behind the allocation decisions. This report should be made available to all stakeholders, including the public sector, the private sector, and the bank's employees.
- Establish a Corporate Social Responsibility Committee: The bank should establish a Corporate Social Responsibility Committee to oversee the bank's social responsibility initiatives. This committee should be responsible for ensuring that the bank's profit allocation system is aligned with its social responsibility goals and that the bank is making a positive contribution to the community.
5. Basis of Recommendations
These recommendations are based on the following considerations:
- Core Competencies and Consistency with Mission: The recommendations are consistent with Chemical Bank's mission to provide financial services to its customers and to contribute to the well-being of the community.
- External Customers and Internal Clients: The recommendations are designed to ensure that the bank is meeting the needs of its external customers and internal clients.
- Competitors: The recommendations are designed to help Chemical Bank remain competitive in the marketplace.
- Attractiveness ' Quantitative Measures: The recommendations are expected to improve the bank's profitability and shareholder value.
6. Conclusion
By adopting a comprehensive approach to profit allocation that includes activity-based costing, performance-based incentives, and transparent communication, Chemical Bank can address the concerns of both the private and public sectors. This approach will ensure that profits are allocated fairly and effectively, incentivize growth in all business units, and demonstrate the bank's commitment to social responsibility.
7. Discussion
Other alternatives to our recommendation include:
- Maintaining the current system: This would be the easiest option, but it would likely lead to continued dissatisfaction among stakeholders.
- Adopting a purely performance-based system: This would provide strong incentives for growth, but it could also lead to excessive risk-taking.
The risks associated with our recommendation include:
- Implementation challenges: Implementing a new profit allocation system can be complex and time-consuming.
- Resistance from employees: Some employees may resist changes to the profit allocation system.
The key assumptions of our recommendation are:
- The bank is committed to improving its profit allocation system.
- The bank is willing to invest in the necessary resources to implement the recommendations.
8. Next Steps
To implement our recommendations, Chemical Bank should take the following steps:
- Form a task force: The bank should form a task force to develop a detailed implementation plan.
- Conduct a pilot program: The bank should conduct a pilot program to test the new profit allocation system in a limited number of business units.
- Communicate with stakeholders: The bank should communicate with stakeholders throughout the implementation process.
- Monitor and evaluate: The bank should monitor and evaluate the performance of the new profit allocation system on an ongoing basis.
By taking these steps, Chemical Bank can ensure that its profit allocation system is fair, transparent, and effective, and that it is aligned with the bank's overall strategic objectives.
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Case Description
Describes a conflict between the metropolitan (branch banking) and treasury groups at the bank. The issue is which group should receive the profits generated by a product involving both: Due bills. It is a form of transfer pricing problem, but in a unique (i.e., service) setting.
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