Change Your Business Model --Roger V. Dickeson

Why Service Stinks," is the cover story of BusinessWeek magazine for October 23, 2000. Don't be misled by that negative title. If you haven't read it, by all means do so. Businesses and industry are recognizing that their best customers have been subsidizing the cost of servicing marginal customers. It's an awakening provoked by activity-based cost analysis that penalizes the high service cost/low yield customers and passes benefits to the top clients. The implications of this rapidly growing service business model change can be profound for printing.

Why is it happening? Managerial accounting is shifting to a new medium, a revised platform. It's a method that measures the process. "Traditional accounting is at best useless and, at worst, dysfunctional and misleading," noted Professor John H. Shank, of Dartmouth College, at the Institute of Management Accountants' 75th Conference in New York City in 1994.

"Traditional cost accounting, first developed by General Motors 70 years ago, postulates that total manufacturing cost is the sum of the costs of individual operations. Yet the cost that matters for competitiveness and profitability is the cost of the total process, and that is what the new 'activity-based costing' records and makes manageable. Its basic premise is that business is an integrated process that starts when supplies, materials and parts arrive at the plant's loading dock and continues even after the finished product reaches the end user. Service is still a cost of the product, and so is installation, even if the customer pays."

Hobbled by Legacies
"Traditional cost accounting measures what it costs to do something, for example, to cut a screw thread. Activity-based costing also measures the cost of 'not doing,' such as the cost of machine downtime, the cost of waiting for a needed part or tool, the cost of inventory waiting to be shipped and the cost of reworking or scrapping a defective part. The 'costs of not doing,' which traditional cost accounting cannot and does not record, often equal and sometimes even exceed the cost of doing. Activity-based costing therefore gives not only much better cost control, it gives 'result control,' " reported Peter Drucker in "Management Challenges for the 21st Century" (1999), page 111.

Our printing industry is still hobbled by our legacy of that General Motors cost accounting system. We call it Job Cost Accounting—JCA. We focus on jobs in our commercial printing plants. But our job costing doesn't tell us the "cost of not doing," as Drucker puts it. Nor does it tell us the cost of servicing customers. What we do is allocate all of the "not doing" and servicing costs into rates. We multiply those rates by labor hours we identify with jobs. We call them "chargeable hours." Every job, every account is loaded with a bundle of the "not doing" and servicing costs.

Our job cost business model has misleading and ambiguous consequences:

• Efficient, low-service jobs subsidize inefficient, high-service jobs.
• The illusion is created that job costs are somehow paid by customers.
• Inefficiency is accepted as just part of the cost of doing business.
• Costs of non-producing are buried.
• Waste and re-work spoilage costs are submerged.
• Lost returns on capital in slow inventories and receivables are not disclosed.
• Incompetence or low core competencies remain unidentified.
• The incentive for continuous quality improvement is blunted.

About the time the IBM personal computer, the PC, was gaining popularity in the 1980s, the new costing system called Activity-based Costing—ABC—was developing. It's now widely adopted in many industries, but not in printing. Activity-based Management (ABM) would treat a printing business as a whole process of adding value rather than as an exercise of tying costs to jobs.

Buried in the Job Cost Pit
With JCA, we always start with a portion of labor hours not identified with jobs: non-chargeables. What do we do with the cost of non-chargeables? We just fold them neatly into cost rates for the chargeables. Somewhere between 10 percent and 25 percent of a work center's costs are blithely treated this way in job cost accounting.

What do we do with the cost of materials that we consumed, but didn't ship—the waste? You guessed it. Buried in the job cost pit. Forget it, say the job cost experts; just part of the cost of doing print business. What about the general and administrative costs? The sales costs? Same old, same old. Tuck 'em into some job cost rate and shut your eyes.

Looks foolish when you see it spelled out, doesn't it? But it's true. Think it through. Check it out. That's exactly what Drucker means in that quotation. When I pointed this out in a printers' e-commerce Internet forum, one response was: "Roger, you've hit the nail on the head!"

The premise of an ABC costing system is that a printing company has resources. It has capital, materials and labor to be applied for conversion of materials into a printed product. Activity-based Management (ABM) asks, "What are the activities that consume the resources of this business?"

Activities, not jobs, are the resource consumers, the cost-drivers. A machine setup is a cost-driver. It's an activity consuming capital, materials and labor. Re-doing or re-working unacceptable work is an activity. Waiting for a press form to cut or bind is an activity. Estimating, planning, scheduling, receiving, issuing, storing, printing, shipping, stripping, packing—all are activities that consume basic resources.

Until we identify our cost-drivers, we cannot manage our printing businesses. Do you wonder why printing is such a low-margin industry? Does it puzzle you that there's always such overcapacity in our industry? The political consultant James Carville would likely say, "It's your business model, stupid!"

I'm not advocating that you trash your Job Cost System. That would be a culture shock that would send people to the ER—Emergency Room. I am suggesting that we stop the world a moment and get on, get on to Activity-based Costing. Just have your computer run parallel JCA and ABC systems. Try it. Test it. Debug it. Ask your print software supplier to install it. See what it does to your business decisions.

If recent history is any guide, you'll "right-size" the business, cut waste, eliminate idle capacity, outsource, identify your core competence, reduce re-work, get serious about quality improvement and even start seriously investigating supply-chain management on the Internet for both suppliers and customers.

Am I wrong? Overstating the case? Maybe, but I don't think so. Take a look around at the rest of the business world. Isn't all that exactly what's happening right now? We can make it happen for our printing industry if we change our business model.

—Roger V. Dickeson

About the Author
Roger Dickeson is a printing productivity consultant based in Tucson, AZ. He can be reached by e-mail at roger@prem-associates.com, by fax (520)903-2295, or on the Web at http://www.prem-associates.com