Cost & Profit Management
In today’s world managers have less and less time available to make decisions. Having ready access to the right data is vital. But while many software platforms promise to deliver the hard, quantitative information needed for good operational control, too many managers and the management accountants who support them still are having to sift through reams of irrelevant data in a vain and frustrating attempt to find what they need. This is the reason I have subtitled my presentation “How to deal with post ERP blues”.
Peter Drucker (“The Age of Social Transformation”, Atlantic Monthly) has identified the challenge of making knowledge productive as the essence of 21stcentury management. A broad initiative to meet Drucker’s challenge is currently being addressed across many well managed businesses. This initiative is what is referred to as “Strategic Enterprise Management” or SEM. Strategic enterprise management is designed to streamline the processing of critical business information and to enhance the accuracy and credibility of this information through an integration of the underlying database. This also serves to reduce number crunching drudgery for management accountants.
SEM is the attempt to improve the quality and effectiveness of the strategic management processes through improved business information. In particular SEM addresses the need for appropriate processes and systems to support performance monitoring, business problem-solving, optimal decision making and business direction setting.
The changing nature of the marketplace and of competition has had a major impact on a business’s ability to perform. In twenty-five short years we have moved from a world of:
to a world of:
Yet our financial systems, factories, structures, performance metrics and our approach to research and development are still by-and-large rooted in the 1980’s. This leads to:
Managers are forced to use “Guts and Intuition” to make decisions and evaluate results because traditional decision support is a weak link to achieving world class levels of performance.
Management needs fast, valid and credible information to:
o identify changes in the market quickly and react with new strategies;
o evaluate and compute these strategies using scenario planning;
o implement new strategies with agreed goals;
o carry out integrated enterprise planning;
o acquire data from different sources and consolidate financial data;
o monitor goal achievement and benchmark performance;
o communicate efficiently with stakeholders.
Drucker identifies three key steps to making knowledge productive:
o Knowing your numbers is more than balancing your books each month. It’s being able to use data for production, marketing and sales decisions as well as for financial purposes.
o A number on a piece of paper is a dead end; a number in digital form is the start of meaningful thought and action. (e. g. capturing sales forecasts and orders digitally)
o Quick, accurate, believable numbers make it possible for customer actions & responses to drive an immediate response by the business. (i. e. by you & your staff!)
In a response to this challenge we have in recent years seen the emergence of strategic enterprise management (SEM) software platforms from enterprise resource planning (ERP) vendors. Essentially, SEM is an attempt to improve the strategic management of an organisation by giving management accountants better tools and approaches to deal with the stream of requests from senior executives for analysis and information. These tools could include business performance monitoring, consolidation, and data warehousing or business intelligence capability.SEM is designed to help management accountants use the data in a firm’s ERP systems to provide better decision support. It uses a range of analytical applications such as marginal and contribution accounting, bottleneck optimisation, activity-based costing (ABC) and balanced scorecard (BSC) to help executives better manage their businesses. Properly applied SEM will fulfil our hitherto frustrated expectations for ERP through actually providing useful information for managers quickly, accurately and with credibility.
As the business climate changes rapidly SEM can be used to help answer tough strategic questions such as:
o Which customers deliver most profit?
o Which salesmen deliver the most profit?
o Which parts of the business create shareholder value?
o What are the business’s underlying performance drivers?
o And how to benchmark meaningfully
SEM is not some new magic technology. In fact, it could be argued that SEM as a management activity has been around for decades, ever since firms began to recognise the need for better strategy formulation and execution. Management accountants have been providing SEM-style support for years using spreadsheets, extract programmes and a lot of elbow grease.
Remember decision-support software such as data-mining and dashboards? Many of these were sold as a panacea for all reporting and analysis shortcomings. SEM learns from these technologies: it puts management needs first and relegates technology to a supporting role.
Dr A Deyhle, a German academic puts it in the following way: "Management accountants should be busy like air traffic controllers. Using navigation tools, their role is to assist the business in touching down on the landing strip to profit"
Dr Martin Fahy (“SEM Philosophy”, Financial Management, October 2001) describes the role of the management accountant as being to:
Management accountants often admit that their decision-support efforts are inadequate. The problem lies in the lack of a co-ordinated architecture for distributing relevant and reliable information. To deliver quality decision support as part of the SEM deployment, a firm needs:
SEM technology is light years ahead of older modelling or analysis tools. But it is still just software. However the unique philosophy of SEM ensures that we:
o Relegate technology to a supporting role
(Put the decision maker 1st!)o Facilitate integration of best practices
o Planning
o Measurement
o Decision making
o Implementationo Provide a co-ordinated architecture for distributing reliable & relevant information
o Facilitate design of a sustainable business model
o Focuses on value generation not on the bottom line
o Give management time to think about to-day’s challenges – one major advantage of SEM is that it frees managers from the drudgery of monthly corporate monitoring, allowing them to concentrate on more valuable analysis, such as solving business problems (excess inventory is a favourite) and long-term agendas.
Management accountants spend an awful lot of time extracting information from legacy systems and using spreadsheets to summarise and present the information to executives. Typically if the executive committee wants a one-off analysis of declining sales in a market, this means additional extract programmes and spreadsheet analysis.
It is no wonder that the biggest constraint on most corporate business analysis and planning groups is a lack of time to think about the challenges facing the firm. Successful firms have long recognised that excelling at strategic management tasks such as business intelligence and decision-making is a competitive advantage.
Given the complex transaction coding capabilities of most ERP systems, firms are, in theory, in a position to report on performance with relatively little effort. However, the reality for many management accountants is that statutory and inter-group, as well as GAAP, adjustments confuse monthly and quarterly reporting. A regional, customer or product line perspective on business performance still requires manual intervention.
So what do executives need from the management accountant? The overriding message is that businesses want management accountants who can help them to sustain and create shareholder value. To do this, organisations need to design and configure a robust business model and this, in turn, requires a management accounting function that can provide decision support and analysis across the range of strategic management activities. Analysis must be:
o Forward looking
o Support planning / budgeting & scenario simulation
o Be operational and real time orientated
o Have a fixed cost versus variable cost focus
o Deliver marginal costing for special opportunities
o Provide variance analysis
o Offer immediate rectification for divergences from plan
o Deliver cost and profit management
o Address
- pricing
- product(ion) line mix
- capacity constraints
- usage and labour inefficiencies
The ancient technique of distinguishing fixed costs versus variable costs has been dusted off and fully embraced by SEM for the following reasons:
o Fully absorbed costs are never precisely correct and it is risky to base decisions entirely on this basis
o Fixed cost usually cannot be influenced within a budget year, but variable cost can.
o It faciltates focus on what can be managed and where.
o It provides decision support for
- Production mix optimisation
- Choice between alternative processing routes
- Feasibility studies for plant replacemento It gives better accountability through flexed budgets
o It provides the opportunity to optimise profit in the case of capacity constraints
With SEM management accountants are able to “slice and dice” profit and loss and balance sheets by country, legal entity, market and product line.
For many years management accountants have concentrated on supporting just the business performance aspect of running an enterprise. Strategic management involves not just business performance management, but also includes the more proactive areas of business problem-solving, business learning and business direction setting. For a management accounting function to be effective it must support all four activities.
Successful firms have superior strategic management processes. They chart a course that maximises stakeholder value in a hostile environment. Management accountants can bridge the gap between strategy and operations by making shareholder value the key criterion in decision-making and by providing the tools and information to support stakeholder value management.
SEM takes the invaluable, but inaccessible information in the businesses core systems and unlocks this to address:
SEM adds enormous value to the information pyramid in a way that keeps management in touch with underlying detail (for information credibility) and that is fully reconcilable with the general ledger and the statutory accounts.
The final key aspect I shall touch on to-day is the importance of marrying the top-down perspective on business planning with the bottom-up reality. SEM is the only approach that I am aware of that addresses this key challenge successfully. The way this is achieved is summarised in the diagram below:
I emphasise again, SEM is not a simply a technological issue. It is about integrating best practices in the key management processes of planning, decision-making, implementation and measurement in order to maximise shareholder value. While technology and systems are obviously important, the successful implementation of SEM requires a much wider perspective. As Dr Drucker says the essence of management is to make knowledge productive. Armed with SEM the management accountant can play a key role in this noble goal.