Fadal Engineering Prospers Using A cost Focus Strategy

Cost focus is a low-cost competitive strategy that focuses on a particular buyer group or geographic market and attempts to serve only this niche market, to the exclusion of others. In using cost focus, the company or business unit seeks a cost advantage in its target segment. This strategy is base on the belief that a company or business unit that focuses its efforts can serve its narrow strategic target more efficiently than can its competition. However, a focus strategy does necessitate a trade-off between profitability and overall market share. A good example of cost focus is Fadal Engineering. As described in below.

The machine tool industry in 1992 was not a very attractive enterprise for most U.S companies. Led by Japanese corporations, importers were responsible for some 40% of the $4.3 billion industry. U.S companies such as Cincinnati Milicron and Giddings & Lewis had been successful by catering to multibillion-dollar customers such as Caterpillar and Boeing, but also threatened by foreign competition. All in all, it did not appear to be a good industry for small, family –run business.
When Francis de Caussin, a Detroit machinist, move his family to north Hollywood, California, in 1953, he formed a company whose name was acronym of the first initials of the founder and his sons Adrian, David, and Larry : Fadal Engineering Company (Pronounced fuh-dal). From their garage, the family built a business by making high-precision machine parts. Early in the 1980s, the family branched into the machine too business. After considerable work, they made a no-frills vertical machining center to drill, bore, and mill metal pieces. Compared with the machine tools made for big manufacturers, Fadal’s machine had fewer parts and simpler electronic controls.

The company soon expanded into other machine tools that were designed to appeal to smaller manufactures that could not afford the more sophisticated, complex machines made by the larger outfits. The machines made by Fadal were functional and durable, but far cheaper than the typical lowest priced competing. Since Fadal generally used U.S.-made standard pats, repairs were usually a simple matter. Fadal’s sales jumped to about $81 million in 1992 from just $12.4 million in 1985. The company controlled nearly 25% of the $300 million “vertical machine centers” machine tools used primarily by small machine shops.

Why was a small, family0run machine toolmaker successful in relative unattractive industry? Its small size and the fact that existing competition was ignoring the small manufacturer’s need allowed Fadal to take advantage of an opportunity in a market niche. The company designed products with a minimum of parts and frills, making its machine inexpensive and reliable. For example, the company’s toolchanger had only seven moving parts, far fewer than rival models. It kept overhead low, R&D was minimal, and only 20 of its 200 employees we salaried. Even during the downturn in the industry in early 1990s, the -company prospered. In 1992, the Fadal Engineering Company planned to introduce a new low-end machine tool. Still following the cost focus strategy that made it a success, management explained the company’s policy for new products. According to Daniel deCaussin, grandson of the founder. “If it’s too complicated, we throw the idea out.”

Application of Agency Theory to Corporate Governance

Managers of large, publicly held corporation typically are not the owners these days. In fact, most top managers own only nominal amount of stock in the corporation they manage. The real owners (shareholder) elect boards of directors who hire managers as their agents to run the day-to-day activities of the firm. As suggested in the classic study by Berle and Means, top managers, in effect, are “hired hands” who may be more interested in their personal welfare than that of the shareholders. For example, management might emphasize strategies, such as acquisitions, that increase the size of the firm (in order to become more powerful and to demand increased pay and benefits) but that result in reduced dividends and/or stock price.

Agency theory is concerned with analyzing and attempting to resolve two problems that occur in relationships between principals (owners) and their agents (top management). The first is the agency problem that arises when (a) the desires or objectives of the owners and the agent’s conflict, or (b) verifying what the agent actually is doing is difficult or expensive for the owners. The second is the problem of risk sharing that arises when owners and agents have different attitudes toward risk. The likelihood of these problems increases when stock is widely held (no one shareholder owns more than a small percentage of the total common shares). When the board of directors is composed of people who know little of the company or who are personal friends of top management, and when a high percentage of board membership is inside (management) directors. Agency theory therefore suggest that, in order to better align the interests of the agent with those of the owners and to increase the corporation’s overall performance, top management should have a significant degree of ownership in the firm and/or have a strong financial stake in its long-term performance.

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Giving to charity or Providing Jobs? Which is more Socially Responsible?

The walls inside the gleaming Cambridge, Massachusetts, headquarters of Stride Rite Corporation are lined with plaques honoring the shoe company for its socially responsible actions. The awards, Caucus, Northeastern University, the Northeastern Human Resources Association, and Harvard University, praised Stride Rite for “improving the quality of life” in its community and the nation. Over the years, the company has donated 5% of pretax profits to charity foundation, given scholarships to inner-city youths, sent 100,000 pairs of sneakers to war-torn Mozambique, permitted employees to tutor disadvantaged children on company time, and been a pioneer in establishing on-site day care and elder care facilities. While doing good, Stride Rite has also done well. It consistently earned profits. Management expected its 1993 sales to exceed $625 million, more than double its 1986 total. The company’s stock price has increased six times in value since 1986, making it very popular with socially conscious investors.

Just a few miles away in Boston’s rough inner city Roxbury neighborhood, stood another Stride Rite building – run down red-brick building surrounded by empty lots, crumbling road, and chain link fences. This used to be Stride Rite’s headquarters, where it employed 2500 people making the company’s Ked sneakers and Sperry Top-sider shoes. In 1993, it was only being used as a warehouse employing 175 workers. It and another warehouse in New Bedford were scheduled to be closed the next year when the operations would be moved to Kentucky. With the local unemployment rate at nearly 30%, the soon-to-be-jobless workers were discouraged. “There is no place to go”, lamented Miguel Brandao, a 46 year old immigrant who had worked at the plant 11 years. In the past decade, Stride Rite has prospered partly because it closed 15 factories, mostly in the Northeast and several in depressed areas, and moved production to various Asian countries. Even while the company was nurturing social programs in the late 1960s, it had already begun to close plants in Maine and New Hampshire. The Company’s U.S. work force dropped from a peak of 6000 to 2500 by 1993.

Stride Rite’s actions have caused people to question their understanding of social responsibility. What makes a company socially responsible? Is it sufficient to do good deeds or is something else needed, such as providing jobs in depressed areas at the expense of profits? According to Donald Gillis, executive director of Boston’s Economic Development and Industrial Commission, “The most socially responsible thing a company can do is to give a person a job.” Stride Rite’s management contends, however, that it has been socially responsible. It must balance the demands of shareholders and society. If a company doesn’t stay competitive, according to management, this could jeopardize its future survival. Asserted Chairman Ervin Shames, “Putting jobs into places where it doesn’t make economic sense is a dilution of corporate and community wealth”

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