Critical Principles and Frustration with Shared Services
Mission and vision statements are great but not enough. Principles must also govern cost systems and processes inside the business.
Principles for Cost Systems-Part 2
Pierre Guillaume continues a series on principles that should govern cost systems. In this episode he covers “Cause and Effect Relationships” and “Consistency“.
Frustration with Shared Services
Alan Stratton responds to a viewer frustration with multiple executives controlling shared services resources.
In episode 25
Critical Principles and Frustration with Shared Services
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.
“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.
- 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.
- 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.
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.
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