• Management Accounting in North America

(1)

Grenzplankostenrechnung (GPK)

German Cost Accounting

Flexible Cost Planning and Control

Paul Sharman, ACMA – President and CEO, Institute of Management Accountants

Brian Mackie, CA - Financial Operations Director, The Hospital for Sick Children

(2)

Presentation Outline Presentation Outline

• Management Accounting in North America

• GPK - Purpose & Principles

• GPK - What it Looks Like

• GPK - Implications for North America

• Experience of GPK at the Hospital for Sick

Children, Toronto

(3)

Current North American Context for Management

Accounting

Current North American Context for Management

Accounting

(4)

Current Accounting Information

(5)

Current Accounting Information Current Accounting Information

“In the game of business

…[accountants] aspired to be players, or at least umpires, but were

relegated to the humble office of

scorekeepers. Their revenge for this ignominy was to keep the score in such a way that neither the players nor the umpires could ascertain the state of the game.”

R.G.A. Boland. Quoted in the Financial Times June 14, 2003

“Accounting systems are based on pre-computer thinking.” (Robert Mednick)

(6)

Management Accounting Management Accounting

• “The gathering and application of information used to plan, make decisions, evaluate

performance, and control an organization.” *

– deals with the use of information

– information can be financial or statistical

– information is for managers to use for their work

(* definition from Managerial Accounting, Raiborn et al, p5)

(7)

Financial Accounting Financial Accounting

• Used to prepare financial statements for tax

returns, investment reporting, regulatory agencies, banks

• Shows how well the business is performing, but only in total

– ignores decision support, planning and control – focuses on compliance with GAAP

– information is primarily financial

– information is for outsiders to assess the business

(8)

The Trouble with GAAP The Trouble with GAAP

• GAAP is a Financial Accounting methodology

– a scorekeeping rulebook for external reporting – not designed to enhance internal management

decision-making

• GAAP should not be used for management purposes - product costing, product selection, pricing decisions, etc.

(9)

The Trouble with GAAP The Trouble with GAAP

• Poor matching of indirect costs to activities

“The method used for determining (inventory) cost should be the one that results in the fairest matching of costs against revenues”

CICA Handbook, s.3030.09

• Little or no comment on overhead allocation bases

“(Equipment) amortization should be recognized in a rational and systematic manner appropriate to the nature of an item of property, plant and equipment”

CICA Handbook, s.3061.28

(10)

4 Stages of Cost Management &

Performance Measurement Systems*

4 Stages of Cost Management &

Performance Measurement Systems*

• Stage 1 - Inadequate for Financial reporting

• Stage 2 - Financial-reporting driven

• Stage 3 - Customized, managerially relevant, standalone

• Stage 4 - Integrated cost management, financial

reporting and performance measurement

* Raiborn, p703; from Kaplan & Cooper, 1998

(11)

What about ABC?

(12)

What about ABC?

• Attempted by 60% of US organizations; only 20%

have sustained it (Bain & Co)

• 80% of organizations still use traditional full- absorption standard costing, regardless of the negative business management impact

• Why?

– ABC systems design “too complex”

– ABC software standalone; not IT integrated

– ABC systems used for retrospective analysis, not direct business management (successful implementations use ABC to actually do business planning)

(13)

So, if not ABC, then what?

- a “new” answer :

GPK

(14)

Definition of GPK Definition of GPK

• Grenzplankostenrechnung (GPK) - German cost accounting, flexible cost planning & control

• Developed in Germany 40 years ago

• Integrates measurement and management of the business into an accounting system

• Volume sensitive, meaningful information to manage the business – flexible budgeting / proper treatment of

capacity costs

• Focus on operational costs and resource consumption, not financial / regulatory reporting requirements

(15)

GPK - Who is using it?

All companies are satisfied with their GPK system and none are planning

on changing it.

Apart from Germany, widespread adoption also throughout Sweden, Norway, Austria, France, The

Netherlands

(16)

GPK Characteristics GPK Characteristics

• Costs centres plan resource consumption rates as either proportional or fixed relative to outputs

• Cost centres are structured around activities with activity drivers and resources with resource drivers

• Cost centre charge rates are calculated and charged to consuming departments at budget rate

• Business modelling software allows planning / modelling

• GL cost centre structure embeds costs into the management system

(17)

GPK Purpose GPK Purpose

• GPK and other German cost accounting methods designed with the explicit objective of:

– supporting management decision making over which products/services to offer

– how to price those products and services – how to plan and control operations

→

The “Controlling” department is typically separate and distinct from the Financial Accounting department in German organizations

(18)

GPK Costing Philosophies

An approach for measuring the cost and performance cost objectives (resource pools, activities, events, market segments, etc). Assigns costs to “cost objectives” based on their consumption of resource outputs. GPK recognizes the iterative causal relationships of cost drivers such as activities consumed by resource pools.

GL Accounts

Materials Conversion

Costs Indirect

Product Costs Labor/Machine

Rates

Product

Routing Bill of

Materials

# of Processes Bill of

Activities

Non- Inventoriable

Costs

(19)

An Integrated and Dynamic Approach

Descriptive Predictive

Reflective

A Single Model

• Combines A Descriptive View, A Predictive View and A

Reflective View into A Single Model.

• This permits comparison to activity unit “standard” costs,

• Highly dependant on integrated software technology

(20)

Foundational Principles of GPK

The Three Pillars

A Quantity- The Nature of The View of

(21)

1. The View of Resources

GPK recognizes resource elements as the smallest element in the cost model.

Resource elements can be both monetary (i.e. cost elements) or quantitative (i.e. utilization statistics, output consumed, etc.)

Resource Elements

Salaries

Fringe Benefits Uniforms

Square Meters Payroll Processing Electricity

Depreciation

Resources

(22)

Resource Pools

Related resource elements are group together in a resource pool.

Resources within a resource pool must satisfy the following criteria:

1. Be interchangeable

2. Be of similar technology

3. Be the responsibility of one manager/team 4. Have homogenous costs

5. Outputs and related costs are able to be planned.

6. Actual information (quantities and costs) can be collected or imputed.

7. Be geographically centralized

Plant 1 Plant 2 HR - Corp IT - Corp IT -

Resource:

(23)

Understanding Capacity

Resources are invested to establish capacity.

The quantified output of a resource pool provides a measure of capacity.

Excess/Idle capacity represents idle resources, and is highlighted as a variance in a GPK product P&L.

Locus of Capacity

Examples:

Labour Hour Square Meters Oven Cycles

(24)

Capacity Management

Cost of Resources Supplied = Cost of Resources Used + Cost of Unused Capacity

$!

• Cost of idle capacity - flexibility vs volume

• Theory of constraints - product contribution / bottleneck hour

• Alternate capacity expansion strategies - acquire, outsource, rationalize products / customers

(25)

2. Quantity- based Cost Model

GPK constructs the cost model using resource quantity consumption. Broad allocations are unacceptable.

Dollars follow consumption quantities, not the other way around.

Production HR Dept

LH Hiring

Product 1

LH

$’s

QUANTITIES

$’s

QUANTITIES

$’s

QUANTITIES

(26)

3. The Nature of Cost

Utilities^KWH

GPK recognizes two principles on the nature of costs:

(1) The Initial Inherent Nature of Cost

Costs are inherent in resources invested to achieve a stated strategy, eg. technology, people, materials. GPK splits costs down to primary cost elements.

(2) The Changing Nature of Cost

Costs change as they flow through consumption

relationships: costs become more fixed as they flow through the cost model.

Proportional 100$

Fixed 50$

(27)

GPK Cost Modeling GPK Cost Modeling

• Cost pools differentiated by cost driver, within a multi-pool cost accounting system

• Costs segregated by resource-consumption

characteristics, whether proportional to resource output or fixed

• No attempt to “fully recover” all overhead costs

• Creates a robust cause-and-effect relationship between resources consumed and cost drivers

(28)

GPK Structure GPK Structure

• Cost centres become the focal point of cost planning, cost control and product costing

• Cost centres structured around a single activity with a single cost driver (eg. Quality testing - # tests performed)

• Cost centres created in the GL; basis for management and control as well as financial reporting

• Some reconciling adjustments for financial reporting

• A single manager may have multiple cost centres, but with defined, differentiated activities in each

(29)

German Cost Accounting

GPK is the best financial tool to monitor internal resource consumption

Cost Type

Unit of Measure

Fixed

$

Target

$

Total

$

Actual Spending

$

Spending Variance

$

Salaries #Machine

hours

11,582 19,500 31,083 32,505 1,422

Benefits 3,475 5,850 9,325 9,103 -202

Tooling 4,200 4,200 4,331 131

Equipment depreciation

16,667 16,667 16,667 0

Floor Space 4167 4.167 4,167 0

Electricity 3,300 3,300 3,400 100

Assigned costs from Quality Test

4267 10,017 14,284 14,221 -63

Total 40,158 42,867 83,026 84,394 1,368

Quantity / Cost per unit

1,500 28.58

(30)

Multiple Margin

Reporting

^RevenuesRaw Material ^xxx,xxx.xxx,xxx.xx ^xxx,xxx.xxx,xxx.xx Production Labor xxx.xx x,xxx.xx Production Machine xx.xx x,xxx.xx Raw Mat.Movements xx.xx xxx.xx Finished Goods Move xx.xx xxx.xx

Margin 1 xx,xxx.xx xx,xxx.xx

Region II Customer 2 Product A Product B

Elements Marginal Cost Full Cost Marginal Cost Full Cost Revenues xxx,xxx.xx xxx,xxx.xx xx,xxx.xx xx,xxx.xx Raw Material x,xxx.xx x,xxx.xx x,xxx.xx x,xxx.xx

Production Labor xxx.xx x,xxx.xx xx.xx xx.xx

Production Machine xx.xx x,xxx.xx xxx.xx xxx.xx

Raw Mat.Movements xx.xx xxx.xx xx.xx xx.xx

Finished Goods Move xx.xx xxx.xx xx.xx xx.xx

Margin 1 xx,xxx.xx xx,xxx.xx x,xxx.xx xxx.xx

Total Customer Contribution xx,xxx.xx xx,xxx.xx

Finance: Invoicing xxx.xx xxx.xx

Shipping Costs x,xxx.xx x,xxx.xx

Returns xx.xx xx.xx

Margin 2 xx.xxx.xx x,xxx.xx

Revenues xxx,xxx.xx xxx,xxx.xx Raw Material x,xxx.xx x,xxx.xx Production Labor xxx.xx x,xxx.xx Production Machine xx.xx x,xxx.xx Raw Mat.Movements xx.xx xxx.xx Finished Goods Move xx.xx xxx.xx

Region II Customer 1 Product A Product B

Total Product Contributions xx,xxx.xx xx,xxx.xx

Returns xx.xx xx.xx

Region II : Summary

Total Regional Contribution xx,xxx.xx xx,xxx.xx

Marketing x,xxx.xx x,xxx.xx

Product Storage x,xxx.xx x,xxx.xx

Regional Capacity O/U Absorption - xxx.xx

Margin 3 x,xxx.xx xxx.xx

Marginal Cost Full Cost Revenues xxx,xxx.xx xxx,xxx.xx

Raw Material x,xxx.xx x,xxx.xx Production Labor xxx.xx x,xxx.xx Production Machine xx.xx x,xxx.xx Raw Mat.Movements xx.xx xxx.xx Finished Goods Move xx.xx xxx.xx

Region I Customer 2 Product A Product B

Total Customer Contribution xx,xxx.xx xx,xxx.xx

Returns xx.xx xx.xx

Revenues xxx,xxx.xx xxx,xxx.xx Raw Material x,xxx.xx x,xxx.xx Production Labor xxx.xx x,xxx.xx Production Machine xx.xx x,xxx.xx Raw Mat.Movements xx.xx xxx.xx Finished Goods Move xx.xx xxx.xx

Region I Customer 1 Product A Product B

Fin.Goods Movements xx.xx xxx.xx xx.xx xx.xx

Total Product Contributions xx,xxx.xx xx,xxx.xx

Returns xx.xx xx.xx

Region I : Summary

Total Regional Contribution xx,xxx.xx xx,xxx.xx

Marketing x,xxx.xx x,xxx.xx

Product Storage x,xxx.xx x,xxx.xx

Regional Capacity O/U Absorption - xxx.xx

Margin 3 x,xxx.xx xxx.xx

Marginal Cost Full Cost

Marginal Cost Full Cost Company Result

• Admin, sales & marketing OH added after calculating

product-specific cost

• Dedicated overhead (eg.

product group marketing costs) allocated by segment

• Equipment, product R&D cost applied at the product group level

(31)

Product Decisions Using Financial Depreciation

100 200 300

1 2 3 4 5 6 7 8 9 10

Dollars

Years

Asset Economic Life

Asset Charge Rate

Products Profitable to Produce

Conclusion: Products A & B - Both Initially Unprofitable to Produce. Both Profitable to Produce in the Last 5 Years.

Product Break-even Charge Rate

400

Product A

Product B

(32)

Product Decisions Using ‘Replacement Value over Economic Life’ Depreciation

Dollars

Years

Asset Economic Life

Asset Charge Rate

Products Profitable to Produce

Conclusion: Product A - Always Profitable to Produce. Product B- is Never Profitable to Produce

Product Break-even Charge Rate

100 200 300

1 2 3 4 5 6 7 8 9 10

400

Product A

Product B

(33)

Sustainability of GPK Sustainability of GPK

• GPK successfully sustained over the long term in continental Europe - why?

– Disciplined design & methodology

– Management accounting clearly separated from financial accounting; considered to be its own

“science” in Germany

– Integration into organizational management systems for planning & control

– Evolution of IT systems to support GPK management accounting

(34)

GPK Structure vs ABC GPK Structure vs ABC

• ABC attempts to handle multiple activities in a single cost centre

• Juggling of resources consumed and multiple activities - the ‘complexity’ of ABC

• ABC information typically held outside of the main financial accounting system

• GPK structurally overcomes these issues:

– creates a relatively large number of cost centres

– splits and segments costs and activities down to their primary elements

• In GPK, activity management and financial management

(35)

Implications of GPK for North America

• Potential for deeper understanding of cost

– only 23% satisfied with decision support (RCA group)

• Disciplined GPK methodology already developed

• Possible combination of GPK with successful elements of ABC implementations

• ERP IT solutions already widely implemented

– SAP is a German company - leverage what is already owned!

(36)

Experience of GPK at the Hospital for Sick Children,

Toronto

Experience of GPK at the Hospital for Sick Children,

Toronto

(37)

Sick Kids - Profile Sick Kids - Profile

• Largest Children’s Hospital in Canada

• World-leading Paediatric Healthcare, Research

& Teaching Facility

• 15,000 Inpatients and 237,000 Emergency &

Outpatients annually

• C$300m+ budget; over 3,400 employees

• Highly complex organization: made up of 50-60 departments, all specialists in their own field,

working together for the good of the patient

(38)

Sick Kids - Financial Management Context Sick Kids - Financial Management Context

• Decentralized financial management structure

– Corporate Finance responsible for statutory / Ministry of Health reporting

– Operational Finance responsible for working with operational managers in business decision-making – Matrix Operations / Corporate reporting structure

• Came about due to highly complex nature of organization

• Very compatible with German / GPK approach

(39)

Sick Kids & GPK Sick Kids & GPK

• Operational managers are responsible for their own budgets

• Managers are technical/medical experts - not financial experts

• Standard financial reports poorly understood by operational managers

The appeal of GPK:

“You mean the financials will actually look like how the department operates? Wow!”

(40)

Example of GPK Implementation:

Health Records

Example of GPK Implementation:

Health Records

(41)

Health Records at Sick Kids Health Records at Sick Kids

• Maintains a “complete, accurate and timely” health

record for patient care, planning, outcome management and research purposes

• Maintains over 700,000 hardcopy patient charts

• Processes 3.1 million documents annually

• C$5.2m budget; 85 staff

• Multiple functions: chart distribution, paper filing, chart coding & abstraction, document scanning, report

transcription, patient registration, etc

(42)

Example Management report

g

Prior Year Prior Year

Actual Plan Var $ Var % Actual Account Description Actual Plan Variance Var % Actual

REVENUE

SALARIES AND BENEFITS 3,164

39,561 36,397 92 35,924 231010100Worked Salaries General MOS 367,102 437,429 70,327 16 426,794 -

- - N/A - 231010300Worked Salaries Overtime MOS 15,783 - (15,783) N/A 402 923

3,345 2,422 72 2,398 231030100Benefit Salaries Vacation MOS 30,082 35,883 5,801 16 31,887 -

893 893 100 562 231030200Benefit Salaries Sick MOS 6,044 10,160 4,116 41 13,906 -

802 802 100 - 231030300Benefit Salaries Float MOS 2,184 5,534 3,350 61 1,993 -

- - N/A 189 231030400Benefit Salaries Stat Hol MOS 16,688 16,120 (568) (4) 15,815 -

- - N/A - 231030600Vacation Float Payout MOS 594 - (594) N/A 1,408 34,678

780 (33,898) ##### - 235010100Worked Salaries General UPP 59,985 9,255 (50,730) (548) 9,290 1,299

- (1,299) N/A 396 235010300Worked Salaries Overtime UPP 2,578 - (2,578) N/A 1,718 1,064

1,250 186 15 955 235010400Worked Salaries Shift Prem UPP 13,209 15,000 1,791 12 12,644 595

652 57 9 578 235010500Worked Salaries Wkend Pre UP 7,526 7,828 302 4 7,657 98

192 94 49 118 235010700Worked Salaries Resp Allow UP 1,161 2,304 1,143 50 1,524 -

- - N/A - 235010900Interdepartmental Sal Transfer (148) - 148 N/A - 2,151

- (2,151) N/A - 235030100Benefit Salaries Vacation UPP 3,310 - (3,310) N/A 214 1,029

- (1,029) N/A - 235030200Benefit Salaries Sick UPP 1,071 - (1,071) N/A - 257

- (257) N/A - 235030300Benefit Salaries Float UPP 257 - (257) N/A - -

- - N/A - 235030400Benefit Salaries Stat Hol UPP 110 - (110) N/A 378 45,259

47,475 2,216 5 41,120 Salaries 527,536 539,513 11,977 2 525,629 -

- - N/A - 231056200Income Replcmnt Benft MOS Stf 3,239 - (3,239) N/A - 531

5,351 4,820 90 2,310 231080200Benefits Charged-Non Unit Prd 29,855 60,584 30,729 51 31,853 2,299

41 (2,258) ##### 45 235080900Benefits Charged-Unit Prod 4,185 492 (3,693) (751) 209 2,830

5,392 2,562 48 2,355 Benefits 37,279 61,076 23,797 39 32,062 48,089

52,867 4,778 9 43,475 Total Salaries and Benefits 564,816 600,589 35,773 6 557,691

Current - Period 12 Year to Date

THE HOSPITAL FOR SICK CHILDREN Account Balances

For March, 2004 - Period 12 For Department 7118000000 - Admitting

(43)

Health Records

Management reporting Health Records

Management reporting

Tough to understand for non-accountants!

• Old system used just four cost

centres

• Standard

management

reports financial;

no activity measures

(44)

Old / New Cost centre structure Old / New Cost centre structure

→

Admitting Clinic registration

Emergency registration Admitting Support

→

Admin & Clerical IP discharges kidCHART

Loose Report Mgt

Chart Retrieval - STAT Chart Retrieval - clinical

(45)

Old / New Cost centre structure Old / New Cost centre structure

→

Management Admin

Chart Deficiency Mgt Research Support IP coding

OP coding

Release of Information Mgt Support / IS

→

Transcription Transcription

(46)

New Cost Centres New Cost Centres

• RELEASE OF INFORMATION

– 7,200 requests annually – 4 staff members

• INDICATOR:

– # requests for patient record copies processed

(47)

New Cost Centres New Cost Centres

• EMERGENCY REGISTRATION

– 49,000

registrations annually

– 11 staff members

• INDICATOR:

– # Emergency registrations

(48)

New Cost Centres New Cost Centres

• kidCHART

– 3.1 million pages

scanned and indexed annually

– 15 staff members

• INDICATOR:

– # pages scanned &

indexed

(49)

New Cost Centres New Cost Centres

• INPATIENT CODING

– 15,000 IP charts abstracted annually – 6 staff members

• INDICATOR:

– # IP charts abstracted

(50)

New Cost Centres New Cost Centres

• CLINIC CHART RETRIEVAL

– 135,000 charts pulled annually

– 4 staff members

• INDICATOR:

– # charts pulled for clinic

(51)

New Cost Centres New Cost Centres

• TRANSCRIPTION

– 4.2 million lines of dictation transcribed annually

– 20 off-site

transcriptionists

• INDICATOR:

– # lines transcribed

(52)

Health Records - Example Report Health Records - Example Report

Actual Plan Variance

OVERVIEW

Registrations 3,546 3,645 99

Total Cost $30,350 $39,018 $8,668

Cost per Registration $8.56 $10.70 $2.15

STAFFING

FTE 10.8 12.8 2.0

Registrations per FTE 328 285 -44

Period Operating Summary

September 2004 - Period 6

The Hospital for Sick Children DEPT OF HEALTH RECORDS

EmergencyRegistration

Monthly and Year-to-Date Indicators

(53)

GPK Implementation Gains GPK Implementation Gains

• Big buy-in from most operational managers - feeling that areas are “better understood”

• Higher quality of operational/financial information for decision-making

• Integrated ERP system at Sick Kids made

implementation easier than it could have been

• Use of G/L as central repository - no duplication of systems/effort

• Good grounding for future expansion of methodology

(54)

GPK Implementation Issues GPK Implementation Issues

• Some lack of buy-in from others in organization

• Data integrity - need for clean-up prior to project

• High amount of set-up work

• Some lack of trust as to how data would be used by others

• Not a perfect fit for all areas

– eg. Information Services

(55)

Sick Kids: Future Steps Sick Kids: Future Steps

• Further breakdown of cost into fixed/variable components

• Use GPK information to develop overall cost plan for next year (activity/service/cost)

• Develop segmental reports with variable/fixed cost components and layers

• Use ABC in conjunction with GPK structure to dig down into activity/process issues

• Add dimensions of equipment capital costs and facility overhead

(56)

Sick Kids: Conclusion Sick Kids: Conclusion

• New structure shows how things “really work”

• Welcomed by 95% of managers

• Planning discussions based on activity, not bottom-line finances

• Future plans for further reporting and capital / facility overhead dimensions will add to

organizational decision making

(57)

GPK: Next Steps GPK: Next Steps

• Integrate GPK with ABC ( done properly) German term is Prozesskostenrechnung

• Develop the combined logic into a set of standards and practices which are

appropriate for the USA and other markets

• Create public awareness and a name for the new methodology. Probably Resource Consumption Accounting (RCA)

• Work with Software vendors (Microsoft

and SAP) to deploy the logic

(58)

Thank You!

Paul Sharman

psharman@focusedmanagement.com Brian Mackie