Cost-centric Control Essay
Minerva Schools at KGI — Class of 2021
B113 — Spring 2019
Eduardo Gomez Videla
(2) Discuss what is meant by strategic cost management and the role played by each
of the three in a strategic cost management process.
Strategic cost management (SCM) is a process that reduces the total costs of an
organization while improving its strategic position. SCM cuts costs where it can without severely
impacting the quality of a product/service, and ultimately increasing profits. A comprehensive
SCM implementation is able to execute on three ‘buckets’. The first bucket is achieving control;
control means getting an accurate view of the company’s performance through the visualization
and communication of key metrics and actionable insights. The next bucket is reducing cost.
This means creating acquiring a cost leadership position, which allows for the implementation of
the final bucket. Do consider that not all organizations or industries are ripe for an SCM process.
The final bucket is creating advantage. Creating an advantage is the investment of resources,
people, time, etc. into a specific part of the organization that ultimately drives value, and in
theory, has a positive impact on the bottom line.
Some key concepts of SCM are Balanced Score Cards (BSCs), Activity Based Costing
(ABC), and Lean.
BSCs are an interactive management system that provide financial and non-financial key
metrics as well as a measurement system for effective strategy execution to better achieve
control. A solid BSC can be broken down into 4 parts: Learning & Growth, Internal, Customer,
and Financial. These parts are known as the 4 perspectives, and they must build on each other in
a specific order (Figure 1). Tolko Industries provides a good example of using a BSC to drive
value. When the Financial Crisis struck Tolko’s profits had been severely impacted. They
successfully adopted the BSC, identifying gaps in alignment and creating a communication
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method that moved the corporate vision across all levels, eventually restoring profits (BSC
Institute, 2000).
ABC is a cost measurement system that enables a company to determine the cost of
specific products or services, whereas a normal accounting system would capture a fake cost. It
bases itself on the activities that go into a product/service and the resources consumed to
determine the cost. It can be used to identify unprofitable products, improve process efficiency,
reveal unnecessary costs, and price products accurately.
Lean is a waste reduction method that seeks to eliminate as much as possible processes
that do not add value and using saved resources to augment the processes that do add value. Lean
relies on three fundamentals: designing a simple manufacturing system, recognizing the always
present room for improvement, and actualizing continuous improvements. Figure 2 shows an
example of lean (the impact of quantitative and qualitative factors in a company's bottom line).
Financia
l
Lo
wer
Custom
er
Internal
Learning
&
Growth
Increas
e
Lower
wait
Increa
se
Improve
Knowledge &
Lower
cycle
Improve
customer
Devel
op
Break
down
Incre
ase
Improve
custome
Increase
product
Improve
Tools &
2
Figure 1. BSC Strategy Map. This figure shows the 4 parts of a strong BSC. Processes from the bottom
parts feed the top parts, ultimately resulting in increased profitability. The two processes with red frames
highlight increases in costs, which if not properly managed can result in a decrease in profitability due to
higher costs not mitigated by an increase in revenue.
LELA Leather
CURRENT
STATE
INTENSIVE
STAFF
TRAINING
INSOURCE
PRODUCTION
INTENSIVE TRAINING
AND INSOURCE
$50
$50
$25
$25
$6,000
$6,000
$3,000
$3,000
Cost to implement (per month)
$0
$5,000
$0
$5,000
Individual training
examination scores (0-100)
50
80
50
80
Number of cross
divisional workshops/month
0
4
0
4
Entry level
soft skills (0-10)
5
5
5
5
Entry level
hard skills (0-10)
4
4
4
4
Number of goods
produced
62
84
62
84
Inter-divisional comms
(# of messages/day)
0
100
0
100
Product Quality
22
25
22
25
Delivery Speed Satisfaction
8
16
8
16
Customer Satisfaction (1-10)
32
45
32
45
Customer Loyalty (1-10)
21
30
21
30
CUSTOMER
Customer Average
Sale Price ($)
213
300
213
300
FINANCIAL
Revenue/month
$13,156
$25,100
$13,156
$25,100
Assuming we sell all produced
goods
Variable Costs
Fixed Costs
LEARNING &
GROWTH
INTERNAL
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Costs/month
$9,083
$15,183
$4,542
$10,092
Profit
$4,072
$9,917
$8,614
$15,008
Figure 2. This example shows how a company can use lean and a BSC strategy map to increase profits.
LALE first establishes control by identifying important metrics. LALE then reduces costs by insourcing
production. With its capital, it invests it in staff training. These initiatives boost profits from $4,000 to
$15,000. Notice how changes in the Learning and Growth dimension cascade down to the rest of the
dimensions. See Appendix 1 for Google Sheets link.12
(1) Discuss the strengths and weaknesses of each through the lens of the course
LOs.
BSCs
Pros:
● Excellent key data and metrics visualizer
● Shows a clear causal relationship across the entire company, from the learning & growth
dimension all the way to increased profits
● Can be used to give employees across the organization a greater sense of purpose and
increase their loyalty
● Greatly facilitates strategic decision making
● Can be used together with a dashboard for more nuanced and holistic decisions
● In short, greatly reduces control over a company
Cons:
● Does not ensure that the correct value creating metrics are chosen. This greatly restricts
the advantage that can be created by a BSC. For a BSC to truly be implemented
successfully it must be coordinated together with an advantage creating tool such as lean
1
#variables: I had to come up with variables that would encompass a general view of a company despite
not having any data to make my point on the usefulness of lean.
2
#casestudy: Albeit a very simple and short case study, this was critical for my answer in question 3, and
showing an example for question 2.
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● Must be applied together with other tools (see above point). This also means it needs
competent staff to be effectively implemented
● There are no weights to certain data, so some areas may be represented inaccurately
ABC
Pros:
● Reveals real cause and effect relationships in processes to objectively assign costs
● Can identify areas of high overhead costs per unit and directs attention to finding ways to
reduce the costs or to charge more for costly products (CAMI, 2018)
● Records the costs that traditional cost accounting does not do - such as the cost of not
doing, not using a machine, or waiting (Cooper, 2008)
Cons:
● Complex and costly manual method
● Needs extensive data and is bound to the cost of collecting data
● It treats fixed costs as if they were variable and does not account for “untraceable costs”
(such as CEO or executive salaries)
● ABC in the public sector does not provide evidence about the success of the method
except four justifying a budget and existing service management and strategies
Lean
Pros:
● Excellent at identifying and classifying waste; this includes:
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○ Overproduction of work in process
○ Waiting
○ Transportation of parts/materials/tooling
○ Nonvalue-added processing
○ Excess finished inventory
○ Defects
○ Excess people motion
○ Underutilized people
● Helpful to reduce waste/costs
● Identifies places to invest capital for value creation and gaining a competitive edge over
competitors
● Positive impact on customer relations (through cheaper prices, faster delivery, etc.)
Cons:
● Requires leading by example. Although not necessarily a con, this can become one if not
followed, with employees becoming frustrated and feeling cheated
● Risks harming employee relations through overworking or firing staff
(3) If a company wanted to execute strategic cost management and wanted to use all
three, which of the three should be implemented first and why, which should be
implemented last and why?
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A company seeking to execute on a strategic cost management process should consider
the following steps:
First, get control of your company. This entails gathering data, conducting interviews,
establishing metrics, and understanding the competitive environment. Doing so provides the
company with the information that it will need in later steps. An organization that does not take
into account this step is essentially blind. The first part of a BSC (establishing metrics) can be
included here.
Next, reduce costs. With plenty of information collected in the previous step, companies
can start analyzing data and understand the plethora of processes going on inside it. The
company can then evaluate how to construct cost-effective processes and execute on it. Part of
lean (cost and waste reduction) and ABC is considered to be in this step. With lower costs, and
new profits realized, the organization can move to the next and final step.
Create an advantage! With newfound capital and knowledge in what processes have an
impact, the company can invest in the parts of the company it knows it can create additional
value, and ultimately increase profits. The second part of lean (investing in processes that drive
value) is in this step.
A hypothetical example of this three step process is in Figure 2. LALE first collects all
the data through interviews and data parsing - successfully achieving control. Before it can
execute on intensive staff training (value creation) it must acquire capital, so it insources
production, saving $4,500 per month. With this capital it moves on to the final step, investing in
its own employees and greatly increasing profits.34
3
#designthinking: I went through 3 iterations before finally arriving at the order I present in this paper.
The second order of concepts I worked with I created through discussion with a teammate, and the final
one was created after I created Figure 2 and understood the logic behind the process I unconsciously
followed.
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Bibliography
Bragg, S. (2018). Strategic cost management. Retrieved from
https://www.accountingtools.com/articles/strategic-cost-management.html
Balanced Scorecard Institute (2019). Balanced Scorecard Basics. Retrieved from
https://www.balancedscorecard.org/BSC-Basics/About-the-Balanced-Scorecard
Balanced Scorecard Institute (2000). Tolko Case Study. Retrieved from
https://www.theinstitutepress.com/uploads/7/0/0/1/7001740/tolko_case_study_final.pdf
CAMI (2018). Activity Based Costing. Retrieved from http://www.cam-i.org/
Colotla, I. (2015). Unlocking Lean in Decentralized Organizations. Retrieved from
https://www.bcg.com/publications/2015/people-organizations-operations-power-of-productionsystems-unlocking-lean-in-decentralized-organizations.aspx
Cooper, R. (2008). Who Wins in a Dynamic World: Theory of Constraints Vs. ActivityBased Costing? Retrieved from https://papers.ssrn.com/sol3/papers.cfm?abstract_id=962270
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#composition: You may have noticed that I changed the order in which I answered the questions from
1,2,3 to 2,1,3. This is because I believe that it is more logical to first define the 3 LOs and 3 concepts and
explain their roles (question 2) and then move on to explaining each strength and weakness (question 1).
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Davies, J. (2018). Lean Manufacturing Pros and Cons. Retrieved from
http://www.winman.com/blog/lean-manufacturing-pros-and-cons
Faron, A. (2012). RELATIONS BETWEEN LEAN MANAGEMENT AND
ORGANIZATIONAL STRUCTURES. Retrieved from http://research.logistykaprodukcja.pl/images/stories/Numer_4/paper_9.pdf
Kaplan, R. S. (2010). Conceptual Foundations of the Balanced Scorecard. Retrieved from
http://www.hbs.edu/faculty/Publication%20Files/10-074_0bf3c151-f82b-4592-b885cdde7f5d97a6.pdf
Kaplan, R. S. (2014). The Explainer: The Balanced Scorecard. Retrieved from
https://hbr.org/video/3633937148001/the-explainer-the-balanced-scorecard
Schmidt, M. (2019). How to Apply Traditional and Activity Based Costing, Steps,
Results Compared. Retrieved from https://www.business-case-analysis.com/activity-basedcosting.html
Simple Studies (2015). A different approach to activity-based costing (ABC). Retrieved
from http://simplestudies.com/different_approach_to_activity_based_costing_abc.html
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Appendix
LELA Google Sheets
https://docs.google.com/spreadsheets/d/1OZ_fMiDA7oM7yXe3jvJRqWv3IHjQfa4v8P0x
hdlC7pA/edit?usp=sharing
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