Question

"Cost variances are useless to me. I don’t want to ever have to look at a cost variance, monthly or weekly. Daily, I look at sales dollars, bookings, and on-time delivery (OTD)—the percent of orders on time. Weekly, I look at a variety of quality reports including the outgoing quality control report on items passing the final test before shipment to the customer, in-process quality, and yields. Yield is a good surrogate for cost and quality. Monthly, I do look at the financial reports. I look closely at my fixed expenses and compare these to the budgets, especially on discretionary items like travel and maintenance. I also watch the headcount.

But the financial systems still don’t tell me where I am wasting money. I expect that if I make operating improvements, costs should go down, but I don’t worry about the linkage too much. The organizational dynamics make it difficult to link cause and effect precisely."

Comment on this production manager’s assessment of his limited use for financial and cost summaries of performance. For what purposes, if any, are cost and financial information helpful to operating people? How should the management accountant determine the appropriate blend between financial and non-financial information for operating people?

Answer 1

The manager looks regularly for quality metrics and returns for input on the results of his department. Here he thinks that knowledge about conventional costs variations is less important to him. He wishes to focus on the drivers of cost and performance defects, returns and scrap, which means that costs will ultimately follow if these improve.   It is great to see his departmental spending every month. He can monitor expenditure on items such as transportation and repairs, as well as his spending performance reviews, but only regularly. In addition, if better quality and rates are achieved, he should eventually be able to reduce his department's employees and the reduction in departmental costs will appear to be reduced. He therefore views cost reduction as a long-term goal, needs frequent input on costs, but not daily or every week. He concentrates in the short term on a few of the key drivers, both quality and performance.

This manager has also clearly described how he uses a combination of financial and non-financial details for his task. He disdained reporting cost variance, as he preferred to concentrate on continuous performance improvement. Cost variation reports measure performance against predetermined criteria which he does not find applicable to this goal of continuous improvement. Even the cost differences are, at the best, not the drivers of the tasks he takes. The boss wants to concentrate on improving the drivers. He wants to see a number of financial measures, interestingly, on a daily basis: booked orders and sales (billings). In the semiconductor industry the relationship of these two financial measures, commonly known as the book-to-bill ratio, is a common measure. The ratio shows an increase in future business operation when it is greater than one. If the ratio is less than one, company will soon contract. The manager thus gets a preview of whether his departmental activities will rise or decrease in the near future. The other metric of the enterprise level which he explores every day is on - the-job delivery (OTD). Delays in production could result in deteriorating OTD's performance.

The manager of production thus checks whether the performance of business units improves or deteriorates and can calibrate this performance against operational statistics in his own department.

Therefore we have an interesting example of how, in response to the question of a suitable blend of financial and non-financial measures, the production manager has provided two financial measures to allow him to calculate a key indicator of his future operations at his office and a non-financial measure to provide for on-time delivery.