Cost Allocation and Value Streams

Cost Allocation and Value Streams
What the Pacific Salmon Can Teach CFOs About Cost Allocation

Alessandro Evangelisti Finance & Supply Chain Cloud Evangelist @alexevangelisti


Structure your business around value streams to uncover efficiencies and cut costs

The life of the Pacific salmon is literally an uphill battle. After spending years at sea, a mature salmon will return to freshwater and make the long, difficult journey upstream to spawn in the same place where it was born. 

This is an incredible physical feat, but equally impressive is the salmon’s ability to retrace its path and know exactly how much energy it needs to clear each set of rapids or scale each waterfall while saving enough to finish the journey. It’s a case of reverse engineering taken to the extreme.

Modern Finance in a Digital Age

Modern Finance in a Digital Age

The modern business’ ambitions are significantly more complex than that of a spawning salmon, but there is a lesson to be learned here: efficiencies are found in processes, not in outcomes, and they add up to major gains in the long run.

Imagine if salmon used all their energy at each obstacle – the swim upstream would be much more tiring and there’s a chance fewer fish would complete the trip. Similarly, a company that devotes too much time and energy to inefficient processes will absorb excess costs that cut into its bottom line and jeopardise its future success. 

Dive into your processes

Businesses have traditionally structured their cost-allocating strategies around their products and specific business outcomes. The problem with driver-based expenditure is that it only allows you to redistribute costs between processes, rather than uncovering new efficiencies and discrete savings.

 

“The problem with driver-based expenditure is that it only allows you to redistribute costs between processes, rather than uncovering new efficiencies and discrete savings.”

This is the type of thinking that scares companies into stopping their innovation or divest themselves of new product lines even if they show genuine promise, rather than looking for alternative ways to optimise their costs.

By organising themselves around value streams rather than traditional outcomes, organisations can actually follow the flow of expenditure throughout their operations so they can uncover new sources of value.

This is not easy to do. Many CFOs have made a career out of traditional cost allocation, and a major shakeup to their modus operandi will be as culturally challenging as it is a logistically difficult. For their part, supply chain and operations managers have already begun to adopt value-stream costing because it forces them to focus on productivity, which is paramount in their line of business, and have seen some positive results indeed.

Modern Finance in a Digital Age

Modern Finance in a Digital Age

In the telecoms space, Orange France applied a value-stream approach to managing supplier invoices and preparing financial profitability reports. By identifying and clearing bottlenecks in these processes, Orange was able to improve collaboration between its finance, procurement and operations teams and deliver better results for customers, all at lower cost.

Other companies, like the Marazzi Group in Italy, are using supply chain and financial solutions in the cloud to design unique value streams. The Marazzi Group cleared a critical bottleneck in its capacity to receive inward goods by building a product schedule that prioritises inbound shipments of material based on who its most profitable customers are. The company also synchronised its production and goods inward with real-time visibility into its docking station availability to avoid costly delays.

Oracle works with a number of companies that use our cloud solutions designed specifically for a business architecture built around value streams. These applications include:

 

“The transition from outcome-based costing to value stream-based costing cannot, and should not, happen overnight.”

Oracle works with a number of companies that use our cloud solutions designed specifically for a business architecture built around value streams. These applications include:

  • Prospect to Customer
  • Order to Cash
  • Manufacturing to Distribution
  • Request to Service
  • Insight to Strategy
  • Concept to Development
  • Initiative to Results
  • Relationship to Partnership
  • Forecast to Plan
  • Requisition to Payables
  • Resource Availability to Consumption
  • Acquisition to Obsolescence
  • Financial Close to Reporting
  • Order to fulfilment

The keys to a smooth journey upstream

It’s important to note that the transition from outcome-based costing to value stream-based costing cannot, and should not, happen overnight. The entire organisation must first be aligned in its approach and there needs to be a free and open flow of data between teams if costing is to be consistent. That said, there are some steps to follow along the way:

Step 1: Know your customers

A company that understands what creates value for its customers is in the best position to work backwards and build processes that will deliver on those expectations. From marketing activities, to warehousing and shipping tactics to manufacturing strategies, each step of the value stream will be developed with the same focus and can be streamlined for productivity.

Step 2: Seek out the weakest link

As with any process, a value stream is only as strong as its weakest link. The key to achieving major gains in productivity is to spot bottlenecks early in the game so you can build systems that avoid them and empower employees to be more productive. A granular view of business data is crucial to this early step, and in the supply chain world we’ve seen companies achieve 20% gains in productivity year-on year.

Step 3: Digitise your processes

It may seem obvious, but digital processes are simpler and faster to manage, not to mention the fact that they can easily be automated to help the entire business work faster. When you add new data from IoT sensors and new forms of automation to the mix, value stream managers have never had more information to inform their strategies and proactively circumvent any obstacle.

 

“Value stream mapping is ultimately just a way of applying supply chain segmentation techniques to the entire business.”

Finance at the heart of value

Value stream mapping is ultimately just a way of applying supply chain segmentation techniques to the entire business. At the heart of this sits the CFO, the organisation’s “data impresario” and architect of its value stream approach. Only they have the experience and oversight required to guide the business through its transition.

Modern Finance in a Digital Age

Modern Finance in a Digital Age

Finance leaders therefore need to get closer to company data from other lines of business. They also need a system that delivers consistency of data across every value stream, rather than the usual disparate systems that make it nearly impossible to assess crucial processes side-by-side. The aim of value stream costing is to uncover new efficiencies across the organisation, so a system that makes things more complex or only allows for a piece-meal approach to change defeats the purpose.

At the risk of labouring the metaphor, let us turn back to the Pacific Salmon’s uphill battle. The difference between life and death is often a matter of centimetres and comes down to how much energy a fish has stored to clear each obstacle (in addition to some luck of course). In a large organisation, the simplest tweak to a manufacturing bottleneck can elevate a product from cost-centre to game-changer. What companies need are the people, strategies and infrastructure in place to spot and clear these hurdles when they present themselves


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