We all use cost information to make important business decisions. Yet there’s often a feeling the information we receive is flawed and misleading. Should we expect better?
Now, I'm not referring to the financial accounting information used for external reporting; that information is developed based on generally accepted accounting principles and passes strict audits. I'm referring to the managerial accounting information used internally for analysis and decisions. For this information, there is no governmental regulatory agency enforcing rules, so chief financial officers (CFOs) can apply any accounting practice they like. For example, the CFO may choose to allocate substantial indirect expenses for product and standard service-line costs based on broadly averaged allocation factors, such as number of employees or sales dollars. Yet the vast differences between products mean each product is unique in its consumption of expenses throughout various business processes and departments, with no relation to the arbitrary cost factor chosen by the CFO. By not tracing those indirect costs to outputs based on true cause and effect relationships – called drivers – some products are under-costed and others over-costed. It is a zero-sum error situation.
If you think the costing information you receive is flawed, you’re not alone. A survey conducted by Ernst & Young and the Institute of Management Accountants (IMA), the 2003 Survey of Best Accounting Practices, showed 98% of top financial executives believe the cost information they supplied management to support their decisions was inaccurate.
So what should you expect from the costing information you receive? At the Center for Managerial Costing Quality, my colleagues and I have come up with the following “Bill of Rights” for users of costing information.
Bill of Rights for Managerial Cost Information Users
Definition: Managerial costing supports the decisions of managers and employees trying to optimize the use of their organization’s resources. All managers and employees should be provided managerial cost information that:
- Clearly reflects the causal operational relationships of resources, their capacity and the processes that rely on those resources
- Calculates and reports reasonably accurate costs of processes, products, service lines, channels and customers
- Provides information on the drivers causing the consumption of the resource expenses.
- Reflects the economic realities of the decision at hand, not hindered by external regulatory accounting rules
- Is consistent with the organization’s creation of long-term sustainable value or the long-term execution of the organization’s mission
- Doesn’t create argument and debate about its usefulness and accuracy
- Is readily available, provides transparency, and is efficient to analyze to obtain insights
Resolution: Decision making is challenging in all circumstances. Those entrusted with making an organization’s decisions must demand that those providing costing information for decision making honor these rights that are essential to effectively perform and execute their responsibilities.
Does the information you currently receive meet these requirements? If not, talk with your organization’s accountants and demand your rights! By working together, and getting the information you need, you will be better able to do your job and help your company achieve its goals.