Predictive Costing as the Foundation for Achieving Operational Excellence

1. Predictive Costing as the Foundation for Achieving Operational Excellence April 5, 2005 Anaheim, California, USA Donald Brown & Dr. Narendra Bhat Director of Operations and Quality VP Business Development Eaton Corporation Electrical Group SCA Technologies, LLC

2. Topics • Overview of Eaton Corporation • Operational Excellence through the Eaton Business System • The “Next” wave of opportunity • The Predictive Costing Methodology • Integrating this methodology into business operations

3. Eaton Corporation at a Glance • Founded in 1911 by J. O. Eaton • 2004 Sales: $9.82 billion • Net Income: $648 million • World Headquarters in Cleveland, OH • Sells products in more than 125 countries • 120 manufacturing plants in 26 countries • 55,000 employees on 5 continents

4. Eaton’s Vision To Be the Most Admired Company in our Markets To be measured by: • Customers say: • “We want to do more business with Eaton” • Shareholders say: • “Eaton is one of my best investments” • Employees say: • “I am proud to be part of the Eaton team”

5. Markets Eaton Serves Markets Served • Hydraulics • Earth moving • Agriculture • Construction • Mining • Forestry • Aerospace Fluid Power Electrical $2.3bn Automotive Truck • Markets Served • Industrial • Utility • Light • Commercial • Residential • Original equipment • Markets Served • Passenger car industry • Light-truck industry • Markets Served • Medium-duty transmissions • Heavy-duty transmissions

6. Eaton Electrical – Operating Divisions Electrical Components Power Distribution Assemblies Light Commercial & Construction Residential Prod. Industrial Controls Power Quality

7. The Eaton Electrical Group Market Segments Residential Commercial Construction Project Construction Industrial Control OEM Components Power Quality Value-Add Services Key Products Loadcenters Circuit Breakers Arc Fault Network Prot. Excitation Ctl LV & MB Motor Control LV & MV Switchgear Circuit Breakers M.V. Breakers Transfer Switch Meters Relays Surge Protection Pwr Condting Std. Control Automation Products Drives Sensors Commissioning Start-up After-market Eng. Support Turn-Key Modernization PQ Studies Panelboards Switchboard Transformers Safety Switchs

8. Manufacturing Profile • 30+ manufacturing facilities globally • 2 significantly different manufacturing styles • 30% Build to Style/Stock • 70% Engineer-to-Order (from custom & std components) • Plants typically perform • Fabrication: steel, copper, …. • Assembly and Testing • Network of vertically integrated plants, feeder plants and value-added assembly facilities

9. Eaton Business System The goal of EBS is to drive performance excellence through the deployment of company-wide values, tools and practices, thereby enabling Eaton to become a premier diversified industrial enterprise.

10. A Number of Operations Excellence Tools Growth & Operational Excellence • Eaton Lean Six Sigma • Supply Chain Management • Eaton Quality System • Fixed Capital Optimization • Eaton Value Cycle • PROLaunch

11. EBS delivers Significant Improvement Example Labor Productivity Return on Gross Capital Raw Material Inventory

12. Significant Untapped Opportunities Exist To obtain the best return by focusing resources on the highest impact opportunities. • When to apply these tools ? • Where to apply them? • How to phase them out?

13. Our Next Generation of Improvements Total Value Stream High Value Chain $ Plant Network $ Depth and Breadth of Improvement Impact on Financial Improvement $ Purchasing $ Shop Floor $ $ Technology Enabled Localized Low Kaizen Lean Six Sigma Integration of Improvement Methodologies Low High

14. The Key Factors for Success • Driving decisions on activity costs • Allowing “system” level opportunity to emerge • Accurate methods for assessing impact from a range of different types of opportunities • Bridging the gap from strategic to implementation detail • Tightly closing the loop (“audit”) between prediction and outcomes

15. A Different Approach To Tap This Value Eaton Electrical is applying a Predictive Costing Framework as the basis for reliably • Understanding sources of value • Sequencing sources of value • Monitoring capture of the value • Reacting consistently to changing business situations

16. What is Predictive Cost Modeling? A framework for reliably predicting the cost structure in new Enterprise Operation situations. The new situations could be substantially different from the status-quo, and could involve multiple types of changes across the value chain of the Enterprise

17. Significant Differences in Solutions If demand profile changes, expectations of cost reductions must be tuned • A rigorous view of the available opportunity • More insight into the expected outcomes Simplistic costing undervalues opportunities Sensitivity of costs to capacity utilization is significant

18. Integrated Finance and Operations Clemson ($) Chicago ($) Business Financials Plant Financials Department –Finance and Operations Equipment Capacity Utilization • Implementability • Consistent financial & operational view

19. Product Costs Implications • Better understanding of the impact on product costs

20. Predictive Cost Modeling Approach Predictive Cost Model Alternative State Value chain Model Current State ABC Financial Model Decision Optimization Business Changes Decision Evaluations

21. Elements of Value Chain Model Predictive Cost Model • Source • Raw Material • Outsourced activities/products • Manufacture • Plants • Processes (Routing) • Departments/Activity Centers • Equipment • Product (BOM) • Headcount • Distribute • Transportation • Distribution Centers • Customers Value chain Model ABC Financial Model Decision Optimization • Reliable modeling of: • Capacity • Labor Hours • Headcount • Shift Structure

22. Elements of Value Chain Model Predictive Cost Model Operational Cost Drivers Machine Hours Department Hours Department Fixed Department Headcount Value chain Model Financial Line Items ABC Financial Model Decision Optimization • Reliable modeling of: • Cost Drivers • Plant Financials • Cost Center Financials • Product Costs

23. Elements of Value Chain Model Predictive Cost Model Value chain Model • Decisions: • Make –Buy • Capacity Rationalization • Manufacturing Assignment • Capital Investment • Efficiency Improvement • Profit planning • Raw Material price impact • Product costing ABC Financial Model Decision Optimization

24. Integration into Eaton Electrical Business • Leveraging a single framework and dataset for multiple uses • Operational choices (business and plant level) • Profit Planning • Product costing • Increasing the speed and robustness of decisions • Ability to tune decisions as business situations change