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Coming up on Performance Management Edge… Principles for Cost Systems and Frustration
with Shared Services. I’m Alan Stratton and this is the show that
helps you get an edge in business. This is the edge you need to get things done, to soar
above the masses, and to make more money. Often in managing a business we get caught
up in a flurry of activity: Decisions about this or that; Employee issues; Top management
issues; Customer issues; Shortages; Excesses; and on and on. It’s almost too much to handle.
When faced with this environment, it helps to take a step back and develop principles
upon which to manage. A mission statement and vision statement are, in effect, statements
of principles. Now We need to go beyond just a mission and vision statement and apply principles
throughout our organization and processes. Principles help us to clarify issues and then
lead to more consistently good decisions. In this episode, Pierre Guillaume continues
his discussion of the principles that should govern a cost system. This is an interesting
complement to Mitch Max’s discussion of cost consciousness in the last episode. For
now, let’s listen to Pierre. Hi, this is Pierre Guillaume again, from Beyond
EPS Advisors. This is the second segment of a three part series on the principles that
should govern a cost system. Today we will talk about principles 3 &4:
3. Follows Cause and Effect Relationships 4. Seeks Consistency
The third principle that we will examine today is the cause and effect relationship.
We have already brought it up briefly in a response to a question on the allocation of
IT overhead costs in an early segment and we will develop it a little more broadly today.
Cost information should reflect cause-and-effect relationships. The identification of these
relationships facilitates an understanding of how resources are consumed by cost objects.
This principle also recognizes how costs match against related revenues and how costs are
reflected in the value chain. A point of clarification may be required here.
While transparency addresses what is in the number, cause and effect allows associates
to see the degree to which cost is associated with a specific cost assignment.
Cost assignment should assist in understanding the degree of cost causality. The organization
needs to understand how resources are being consumed and the relationship between those
resources and customers, products, services, special projects, or other work units for
which a separate cost measurement is desired. In other words, understanding the relationship
will assist in the decision-making process because managers will know how their decision
will affect resource cost. Costing is done to answer key business questions
in support of decision making. Understanding cause and effect allows managers to evaluate
the potential impact of various plans. Tracking the cause-and-effect relationship is crucial
to evaluating whether actions taken are delivering the desired results. Understanding cause-and-effect
relationships provides the feedback necessary to convert plans and actions into the decision-making
cycle. On to our second principle for the day: seek
consistency. Consistency in applying costs enhances understanding
across the organization. Consistency requires common terminology, definitions and well-defined
costing methodologies. Consistency also requires achieving a common understanding about how
regularly used costing analysis will be performed. While consistent costing is a goal, your organization
also needs to recognize that costing is used for many different purposes. These different
purposes require consideration of different cost elements. The inclusion or exclusion
of certain costs depends on the purpose. As a result, the costing principle is to seek
consistency in applying costs, while recognizing different costs will be used for different
purposes, resulting in different views of cost.
Consistency will facilitate comparisons across divisions. It will permit benchmarking and
promote the sharing of best practices. Addressing different costs for different business purposes
ensures that the relevant costs are considered. It will ensure that resource allocations are
optimized in a growth and resource-constraint environment.
We recommend using a governance body of some sort to ensure that an appropriate level of
cost consistency can be reached throughout the organization. We have found it best to
include representative of all parts of the organization when set up such forums, and
that reaching out to business representatives rather than just their finance go to persons
ensures greater acceptance of the system and processes. But that is the topic for another
segment of the subject. Thank you. Remember these two principles,
together with the first two we covered in the first segment, transparency and ownership
as you reflect on the structure of your costing systems and processes. Next time we will talk
about the remaining three principles that we have identified.
--------------------------------------------------------- Thank you Pierre. It is said that if correct
principles are taught, people govern themselves. Principles for systems certainly avoid ad
hoc analysis and uncertainty. Let us hear your opinions. Pierre and I would
love to hear your experience and comments on principles for cost systems. What has worked
for you? Scroll down the page at Performance Management Edge dot com and let us hear from
you. Music
Now for today’s question from David Bilodeau of Montréal
“Pierre talked about cost ownership as being one of the principles to use to guide the
implementation of advanced cost systems. Yet I struggle with that point as, in my organization,
most shared service resources are influenced by decisions multiple executives are making
daily. Do you have a perspective on how to apply that principle in a shared service environment?”
In response, shared service organizations serve other internal organizations as if they
were customers. Each has needs and demands. In my opinion, this is complicated because
the customer organizations have complete visibility into the shared service. In effect, all the
internal customer organizations think they have complete ownership of the shared service
organization. This is complicated by often complex cost allocations forced on the internal
customers So what principles will help this environment?
In these situations, I think there are insights if we evaluate the situation as if it were
an external organization. How would we operate if this was an arm’s length relationship.
1. Defined Services – An external organization would define its services, their scope, and
performance standards for their services. On the other hand, in your current shared
service relationship, do you know what you’re getting from the shared service provider?
Do they know what they are providing? Often, without the analysis that I’m suggesting,
the answers are somewhat vague. 2. Defined Prices – An external organization
would have a defined price list. A price for each service. If a customer orders 10 units
of their service at $100 per service, they get a bill for $1,000 dollars. The service
provider prices its services to cover capacity issues, overhead, and to provide a profit.
If they incur excess cost, the external organization must absorb it in their margins. On the other
hand, currently in most shared service situations, they allocate their costs on arbitrary systems.
If there is a cost overrun, they just allocate it out to the customers without consequences,
without ownership, without transparency, without cause and effect – some of the principles
Pierre is talking about. 3. There are many more insights that could
be derived from this comparison. Maybe it’s time to examine our processes and establish
the principles that will guide decisions of corporate executives. May I suggest that you
start with Pierre’s list of principles and with the perspective shift that I've illustrated.
Now to our viewers. Do you agree, or Not? How do you manage your shared services? I’m
sure everyone has some sort of opinion in this area. Whatever they are, let’s hear
your viewpoint. Please share below this video at Performance Management Edge dot com.
In addition to comments, we also appreciate your questions like this one. With your questions,
we customize this show to your own issues. Keep the questions coming. Ask your question
on the “Ask Us” tab at Performance Management Edge Dot.
In appreciation for his question, we’ll arrange a time for David to have a telephone
visit with one of our experts. Please register on our website to be notified
of upcoming episodes. Remember: Business Management is more of an
art than a science. Don’t wait for tomorrow to get started. Start today making these perspectives
part of your business art. On behalf our viewers, I thank our experts.
We’ll see you all again on the next episode. Meanwhile remember, Performance Pays Profits.
Performance Management Edge From “Principles for Cost Systems” to
“Frustration With Shared Services”. Episode 25 – Performance Management Edge.com
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