To :Daniel A Briggs, President & CEO, Clayton Industries Inc.

Simonne Buis, Executive Vice President, Clayton Europe

From: Peter Arnell, Country Manager, Clayton Spa, Italy

Date : 24/11/2010

Subject: Current situation analysis and revival strategies for Clayton Spa, Brescia

BACKGROUND
Clayton Industries Inc. was founded in Milwaukee in 1938. Its business was concentrated in creating and
selling Window- mounted room air conditioners for residential and light- commercial applications.

In the early 1980’s there were 2 important growth opportunities:

a. North American Commercial Sector

b. Residential and commercial markets in Europe
As per its goal of expanding in Europe it had two major strategies:
A) Inorganic growth through acquisition of 4 companies

1. Corliss, a UK based manufacturer of HVAC systems.

2. Fontaire, a Brussels- based manufacturer of fans and ventilating equipment.
3. Control del Clima, a Barcelona-based manufacturer of climate control products for
industrial and commercial applications.
4. AeroPuro, a Bresica, Italy-based manufacturer of compression chillers for large
commercial, public and institutional installations.
B) Clayton restructured its organisation in 1988.

1. All operations in the United States and Canada were placed under Clayton North
America.
2. The European acquisitions reported to a newly created Clayton Europe. Each of
these being headed by a regional company president.
Clayton Europe Scenario
Brussels became the formal Headquarters for Clayton Europe. Four country mangers were appointed for
by new president who were given responsibility for sales and exports. Following graph compares the
market penetration for Europe countries and US:

Penetration of Airconditioning Market

80 71

70
60
50
40
30
20 11
7
10
0
Italy U.S Spain

Asian producers have gain preferences over European companies, largely on the basis of price. Simonne
Buis became the Clayton Europe President. She wanted to increase operational efficiency of different
plants of Clayton and increase the penetration of entire product line. Company increased its global
market share for Europe from 33 % in 2000 to 45 % in 2009. Following graph shows the break of sales in
different countries of Europe:

Sales Breakup of European Countroes in 2009

UK
12%

Belgium/France
Spain 38%
20%

Italy
30%
PROBLEM STATEMENT
Clayton Spa is facing various challenges to meet the new 10/10/10 targets set, in Italy. The country is
lagging in revenue growth which has resulted in receivables and inventories both being above 120 days
sales. Further the headcount reduction target cannot be met due to stringent local laws and tense union
relationships. The following factors contribute to the problem:

Key reasons for problems at Clayton Spa:

• Many Europeans saw air conditioning as an expensive American luxury that harmed the
environment. Even though Clayton had a slow successful market penetration, most of the Europeans
preferred local brands prevalent in the European markets. Also, there was stiff competition from
cheaper options provided by a few Asian manufacturers.

• Clayton’s products were not aligned as per the market requirements. A proper market survey to
gauge the exact European market was lacking in the products. This is evident from the fact that
Clayton’s central AC units required heavy duct work but in Europe only a few buildings had duct work
required for such systems.

• One of the prime strategies of the company was to bring cost under control. One of the
candidates for such policy adoption was to cut headcounts by eliminating redundancies. Head count
reduction faced tough local laws and a tense union relationship. The inventories were piling up and were
now above 120 days sales in Italy. Because of these reasons, the 10/10/10 plan was difficult to achieve
as far as operations in Italy was concerned.

• Acquiring of AeroPuro was not turning out to be very fruitful since Clayton was only fifth in
European Chiller market. The penetration was poor since the product was too expensive and also
behind competitors in innovative features (such as variable speed technology).

• As part of upgrade and expand operations, 203 people were employed, which was 20-30%
higher than what was actually required. Also this Unionised workforce enjoyed a very generous benefit.

• Clayton Chillers lagged operating efficiencies of market leading units by 15%.

STRATEGIC ISSUES IN THE CASE

The major issues that Peter Arnell faces while joining the Italian units head are:

1. Global Recession resulting in decrease in demand for Clayton’s products worldwide. As a result,
Clayton’s revenues have fallen worldwide and it is making losses. Clayton spa faces the same issue
with 19.4% decline in sales in the first quarter of 2009 only.
 2004 2005 2006 2007 2008 2009

Revenues 4.3 4.1 3.2 -4.1 -17.6

EBITDA 14.8 14.2 10.6 8.2 3.7 1.5

Net Income 6.5 6.0 3.5 0.6 -2.9 -6.1

20

15

10

5
Revenue
0 EBITDA
2005 2006 2007 2008 2009 Net Income
-5

-10

-15

-20

Thus, we can see the falling trend in Revenue, EBITDA and hence the Net Income during the
year 2009 i.e at the time of recession. Impact: The impact is the fall in demand, increase in
receivables and inventories.

2. Human resources problems and tough resistance it is facing from worker unions at its Italy plan.
Also, government in Italy does not support lay-off strategies. If Bresica plant continues to lose
money, the US parent is likely to consider its closure. Brusell plant economics

2004 2005 2006 2007 2008 2009

Units 348.0 372.0 382.0 386.0 375.0 155.0

Total 75.2 82.4 86.7 89.6 86.7 34.0

Revenue(USD
million1s)

Headcount 190 196 204 208 204 203

 450

400

350

300

250 Units
200 Total Revenue
Headcount
150

100

50

0
2004 2005 2006 2007 2008 2009

3. Clayton is facing tough competition from Asian players who are supplying cheaper air conditioning
units in European market. Some of the Clayton products are not adoptable to European houses. As a
result, Clayton is losing its product share in the market.

4. European organization is divided on product strategy. The European leadership wants to focus on
compression based units, while Spain management is investing and producing absorption based
units.

5. Consumer preference to certain emerging technologies like absorption cooling and central district
cooling have threatened Clayton’s business model.

DECISION OPTIONS:
 Option 1 – Focus on Restoring Brescia’s profitability and long term viability; it involves procedures
to revitalize plant efficient, product development initiatives, revitalize the compression chiller line
by aggressive marketing to expand the sales outside Italy.

Pros Cons
1. Investment period only limited to 12 Strategy fails to promote the sales of other
months. product lines in Italy.
2. Renewed product could target Italian No strategy to target the potential Italian
commercial customers and effectively residential climate control market.
compete against the Asian products.
3. Achieve the higher management target to Cost cutting strategy will involve layoffs, which
 promote Chiller sales in rest of Europe would adversely affect the company’s political
relationships. This would in turn affect their
present sales.
4. Initial investment is comparatively lower. If recession prolongs, investment in product
development may not give ROI.
5. It will increase capacity utilization and More efforts and expenditure on sales and
increase efficiency marketing initiatives will be required.
6. Investment in development of the new There are no plans to accommodate emerging
product line will be beneficial post- technology like absorption cooling.
recession.
7. This will not raise any resistance from The solution does not address over-employment
Italian workers’ union and the problem at the Bresica plant.
government.
8. Existing market of compression based No immediate results guaranteed by this solution.
units will not be affected

 Option 2 – Gradual Phase out of Compression line coolers, and introduction of the absorption line
chiller. The new product aims to meet the growing customer preference for energy efficient and
less carbon intensive chillers.

Pros Cons
1. Tap the growing market demand in The company faces a high liquidity crunch, and is
Germany, Scandinavia, Spain and other already reporting a net loss in Profit. Such high
countries investment is not viable at present.
2. Ability to market the product as a less No research is done for customer preferences for
carbon intensive, eco friendly and energy such energy efficient products in Italy. It could
efficient product. adversely affect the sales in Italy.
3. Higher NPV of investment, since it requires No measure to improve sales of other product
$15mn investment over 5 years, which is lines such as air conditioners and ventilators in
more profitable than Option A ($5mn over Italy.
1 year), taking into consideration the time
value of money.
4. Clayton already has the license to first There is no guarantee that absorption cooling will
 class technology in this area. be successful.
5. It will help against competition from Asian Human resource restructuring will not go down
companies in this area at cheaper prices. well with employee unions and the Italian
government
6. Absorption based technology offers Plant restructuring will be required including
environment-friendly alternative to machinery upgrade and employee skills.
customers.
7. It is the phased changeover process. Raising required money from banks may be issue
Investment of 15 Million is needed in 5 in recession scenario
years
8. Over-employment problem can be The European leadership is not in favor of
addressed. absorption based cooling.

 Option 3 – Focus on efficiency measures to restore financial profitability, and analyzing various
strategy option till the economy rebounds after the recession.

Pros Cons
Risk averse measure Doesn’t meet any of the Management objectives
put forward
Moving in line with the economic downturn, and The Strategy fails to prop up the sales of other
waiting for economy driven growth and demand. product lines in Italy.
Would meet the existing credit liabilities of Clayton Strategy fails to increase sales of Chillers outside
SpA. Italy.
In uncertainty of economic condition maintaining There is no immediate solution to the problem
status quo can be good strategy. that Clayton is facing
Company can concentrate on cost reduction and It does not provide details on how to handle HR
increase in efficiency. problems that Bresica is facing
It provides flexibility to adopt strategy based one If market improves Clayton can be behind
new trend post-recession. competitors due to lack of new products.
No major investment or restructuring is required. There is no unified strategy within company
regarding product.
It does not have risk in case recession prolongs or It may require certain investment on R&D to
consumer trend changes explore increase in efficiency.

RECOMMENDATION
Option 1 is the best strategy as it fulfills most of the objectives, for both long term and short term
Clayton Spa and Clayton USA in general. Option 2 is a viable strategy, which targets increase in market
share of chillers in countries outside Italy. However, the strategy requires high amount of investment, as
well as restructuring and phase out stages in the first two years. The company is already under severe
financial strain, and in such adverse economic conditions, such a big change in product could debilitate
sales in existing markets. The company has not invoked any market research to investigate as to how the
Italian market reacts to the new range of Absorption Based Chillers. Option 3 is not at all viable, since
the strategy doesn’t meet any of the Management objectives. It in fact is a very conservative approach,
one similar to the strategy which led to the ouster of Lazzaro. Under such conditions, Option 1 to
restore Brescia’s profitability is favored, as it not only targets product promotion in other European
markets, but also increases the Chiller market share in Italy. The only major obstacle to implement this
strategy is the possibility of layoffs, which is inevitable under the economic circumstances.