Gary Cokins, CPIM
(firstname.lastname@example.org; phone 919 720 2718)
Gary Cokins (Cornell University BS industrial engineering/operations research) 1971; Northwestern University Kellogg MBA 1974) is an internationally recognized expert, speaker, and author in enterprise and corporate performance management (EPM/CPM) systems. He is the founder of Analytics-Based Performance Management LLC www.garycokins.com . He began his career in industry with a Fortune 100 company in CFO and operations roles. Then 15 years in consulting with Deloitte, KPMG, and EDS (now part of HP). From 1997 until 2013 Gary was a Principal Consultant with SAS, a business analytics software vendor. His most recent books are Performance Management: Integrating Strategy Execution, Methodologies, Risk, and Analytics and Predictive Business Analytics.
All of my books are at:
14. Measuring and managing patient profitability
13. Are Accountants Homo Accounticus?
12. Management Accounting 101, 102 and 103 Courses
11. Identifying and Measuring the Cost of Error and Waste
10. Why Use ABC
9. Movie Sequel – “Accountant Pirates of the Caribbean”
8. Some Accountants are the Blind Leading the Blind
7. The CFO’s Expanding Role – Reality or Delusion?
6. How Many Types of Key Performance Indicators (KPIs) are There?
5. Does Accounting Undermine Managers' Ability to Make Good Decisions?
4. A Passionate Appeal for Activity-Based Costing (ABC)
3. Put Your Money Where Your Strategy Is
2. How Marketing and Finance Think differently
1. Measuring and managing customer profitability
14. Measuring and managing patient profitability
Activity-based costing is an imperative for health systems seeking to ensure the profitability of their enterprises under value-focused health care.
U.S. healthcare providers are under tremendous pressure today—both from the government and from commercial health plans—to deliver value. This pressure is a consequence of today’s dramatic transition away from the nation’s long-standing revenue-driven healthcare system and its often-irrational pricing. To respond effectively, hospital and health system leaders require intelligence and creativity to manage their expenses and make fine-tuned investments of time and resources that will ensure success in a fee-for-value world.
An essential goal of the transformation is to create incentives for providers to deliver value for patients in the form of high-quality services delivered at the lowest possible cost, with sensitivity to the patient experience........
The full article is available in the file attached below
Previously published on www.hfma.org
13. Are Accountants Homo Accounticus?
I enjoy maturity and evolution models of all kinds, especially for business. There is a stages of maturity model for information technologies and others such as for sales teams and their customer relationships. What I like about stages of maturity models is they provide confidence that regardless what stage one is at – low or high – there is a next step further up that can be attained in an evolutionary way.
In biology there is an evolution of humans that has in earlier stages Australopithecus, then Homo erectus, then Neanderthals, and our current stage Homo Sapiens. Examples of important changes are brain size, hand grip, and a larynx for speaking.
Just to have some fun I will take the position that some accountants are primitive Homo Accounticus. Just as with humankind there are overlap periods where primitive accountants co-exist with more sophisticated ones with more capabilities and skills.
This implies they have evolutionary steps in their future. A stereotype of an accountant is as a bean counter. These are the Homo Accounticus. In the evolutionary ladder they can become bean growers. They can add value beyond just reporting to assisting their organization to gain insights and make better decisions.
I mentioned the brain as an important change in this evolutionary ladder. There has been excellent research about the brain by Daniel Kahneman, recipient of the Nobel Prize in Economic Sciences for his seminal work in psychology, that challenged the rational model of judgment and decision making.
In his recently published book, Thinking, Fast and Slow, Kahneman explains the two systems that drive the way we think.
System 1 is fast, intuitive, and emotional; System 2 is slower, more deliberative, and more logical.
System 1 is largely unconscious. It makes snap judgments based upon our memory of similar events and our emotions.
System 2 is painfully slow. Itis the process by which we consciously check facts and think carefully and rationally.
An example that Kahneman illustrate System 1 and System 2 thinking is this. Suppose that a bat and ball together cost $1.10 and that the bat costs $1.00 more than the ball. How much does the ball cost? Many people, relying mainly on System 1 thinking, will quickly say $0.10, but the correct answer is five cents. Here are the equations:
Bat + Ball = $1.10
Bat ($1.05) – Ball ($.05) = $1.00
A problem Kahneman points out is that System 2 thinking (slow) is easily distracted and hard to engage and that System 1 thinking (fast) is wrong as often as it is right. System 1 thinking is easily swayed by our emotions.
An example he cites include the analysis that professional golfers are more accurate when putting for par than they are for birdie regardless of distance. Another example of a controlled experiment observes that people buy more cans of soup in a grocery store when there is a sign on the display that says "Limit 12 per customer."
How do accountants exhibit System 1 and System 2 thinking?
What caught my attention is that System 1 thinking, which is deliberate and logical, is easily distracted. In our busy day there is little time for solitude and deep thinking.
An accountants’ day may be consumed with the monthly task of “closing the books” for financial reporting or analyzing product or standard service-line profitability. There is little time to consider the validity of the calculated information they are relying on.
Many companies continue to use the long-standing practice of standard cost accounting and allocate the indirect and shared expenses to products and services as a single “cost pool” with a single basis or factor such as sales volume, number of employees, or direct labor input hours.
There is no cause-and-effect relationship! In reality some difficult products to make or services to deliver are consuming relatively more of the total indirect expenses. Since cost allocations have a zero-sum error of the total, the easier products services must consume relatively less. The activity-based cost management (ABC/M) accounting method resolves this by disaggregating the single “cost pool” into its component work activity costs, and then traces and assigns each to the products using the quantity of an “activity driver” to resolve this problem.
Might you think that ABC/M should now be a commonly accepted practice by accountants? It was frequently written about in the 1970s.
However, research by Dr. Martijn Schoute of Vrije Universiteit in Amsterdam published in his dissertation thesis, Antecedents and Consequences of Cost System Design Choices, cites research that less than 20% of British firms use ABC/M.
Without applying the ABC/M method the consequence is that managers and employees are using flawed and misleading information for analyzing profit margins and operational costs.
Are most accountants Homo Accounticus?
Why would accountants who appear to be genetically born to seek precision, accuracy and detail rely on creating and worse yet using flawed information?
My belief is System 1 thinking, which is quickly accepting that their cost information is perfectly correct (because it reconciles with their firm’s total expenditures), is distracting the accountants from the deeper understanding of what they are doing.
Higher forms of the accountant species possess more Systems 2 thinking by being deliberate and logical.
12. Management Accounting 101, 102 and 103 Courses
Management Accounting 101
“Break the GAAP Rules to Find the Jewels”
Welcome, accounting class, to Management Accounting 101. No need to take your seats. All you need to know is this: Do not allocate indirect expenses to products and service lines using cost allocation factors like spreading butter across bread. Examples of factors are the amount of sales, number of units produced, number of employees, number of labor hours, or square feet. None of those comply with costing’s causality principle.
Trace and assign indirect expenses into calculated costs using driver quantities so that they are similar to direct costs. Your line managers and executives will appreciate you because you will have unhidden the costs by making them visible and substantially more accurate. This will enable your colleagues to gain insights and make better decisions. Class dismissed.
Management Accounting 102
Welcome back, accounting class, to Management Accounting 102. This brief lecture is intended to inspire you. It ends with a pop quiz.
Let’s reflect on the giants of the scientific revolution from past centuries. Copernicus shocked the world by placing the Sun rather than the Earth at the center of the universe. Galileo Galilei was the father of the scientific method and applied the telescope to test theories. Johannes Kepler then described planetary motion with our planets, including the Earth, orbiting around the Sun. His work helped Isaac Newton develop his theory about gravity that every particle attracts every other particle in the universe with a force that is directly proportional to the multiplicative product of their masses and inversely proportional to the square of the distance between their centers. Albert Einstein then refined Newton’s work with his general theory of relativity describing gravity as a geometric property of space and time - spacetime.
All of these advances replaced misconceptions with reality.
Pop Quiz – In what decade in this 21st century will accountants replace distorting and misleading cost allocations with reality based on cost accounting’s causality principle?
Please hand in your paper with your answer.
Management Accounting 103
Welcome back, accounting class, to Management Accounting 103. This is my final lecture. It will describe how to resolve the “cost allocation” problem I described in my 101 class and if what I now teach is followed will propel CFOs and accountants out of the 1960s into the 21st century. The solution is activity-based costing (ABC).
There has been a slow adoption by accountants to apply ABC as a replacement for the flawed and misleading traditional “cost allocation” methods for indirect expenses (commonly referred to as “overhead”) from standard cost accounting systems. As I mentioned in my 101 lecture, they allocate indirect expenses like spreading butter across bread using non-causal and broadly averaged cost allocation factors. Examples are the number or amount of direct labor input hours or currency, units produced, sales volume, headcount, or square feet/meters. None of those reflect the true consumption of expenses that unique and diverse products and service lines consume of the end-to-end processes and the work activities that belong to the processes.
After ABC decomposes the single and typically large indirect cost pool into multiple cost pools – the work activities – and traces and assigns them based on a cause-and-effect relationship there is no surprise to those managers who are suspicious. What is discovered, compared to the traditional costing, is that some of the products and service lines are being over-costed and the others must be under-costed because allocations have zero-sum error. Traditional costing does exactly reconcile the indirect expenses in total into the product and service line costs. That satisfies the auditors for external financial regulatory and statutory reporting, but the costs are wrong in the parts. This means that CFOs and accountants are providing their managers and executives with those flawed and misleading costs I mentioned which means the profit margins are also wrong.
The benefits from applying ABC in comparison to traditional cost allocation methods that violate “costing’s causality principle” are numerous. Key benefits are: (1) extremely more accurate profit and cost reporting of outputs, products, services, channels and customers; (2) transparency and visibility of the “drivers” for work activities and their magnitude; and (3) past period calibrated cost consumption rates that are essential to multiply against future forecasted demand volume and mix that determine resource capacity requirements – workforce headcounts and spending amounts. These rates are needed for what-if scenario analysis, make-versus-buy decisions, and capacity-sensitive driver-based rolling financial forecasts and budgets.
Causality is at the heart of ABC. For example, if the quantity of the activity driver increases 20% then its activity cost should also increase 20%. The work activities are what consume the resource capacity expenses. Any CFO, financial controller, or FP&A analyst who are using traditional cost allocation methods and are not using ABC where it is applicable (which is for most organizations) is being irresponsible in their duty to provide valid information to managers and employees. The information they are providing is faulty, distorted and deceiving. Line managers deserve better from their CFO to support their decisions.
Thank you for taking my management accounting 101, 102, and 103 courses. You will soon graduate. I wish you success as you join an employer to act not as an accounting “bean counter” but to be a “bean grower” to help your organization with insights and making better decisions than with stale and arcane cost allocation methods from the 1960s.
Class is dismissed.