The Secrets of Costing Shared Services - Oracle

THE SECRETS OF COSTING If a key s er vice means s omething dif ferent to each line of bus ines s , each countr y, and each depar tment, then unifor mity is los t and chaos reigns .

SHARED SERVICES R U S S H O F F M A N A N D K U R T I S VA R G A

S o w h at a re t h e s e c re t s o f c o s t i n g shared ser vices? Simply put, they are the method of allocation, the software used to calculate the allocations, and the maturit y continuum that can help you move for ward in costing shared ser vices more effectively. This ar ticle aims to highlight some of the key concepts of building a costing solution and some of the challenges associated specifical ly w ith shared ser v ices cost a l lo cat ions and to ident if y s ome best practices for tackling those challenges head-on to help get you on the road to opt imizat ion. Shared ser v ices are all about leveraging efficiencies in the organizat ion on a g loba l sca le. These efficiencies w ill eventually lead to cost savings, ease-of-use improvements, and a n op t i m i z e d m o d e l i n g a pp r o a c h . Finance, HR, IT, and marketing are all t y pical shared ser v ices cost centers that work in unison to streamline and standardize administration, automation, and infrastructure in an effor t to present a single voice to customers.

RU S S H O F F M A N , a senior manager at ADI Strateg ies, has 14 years of management consulting experience in client-facing initiatives, ser v ing as an analyst, consultant, technical lead, and project manager. He is a certified project management professional (PMP) and Scrum Master (CSM), specializing in enter prise per formance management solutions. K U RT I S VA RG A , a manager at ADI Strateg ies, is experienced in manag ing and implementing Hyperion EPM solutions, specifically in the fields of costing/profitability (using HPCM) and budgeting/planning (using Hyperion Planning). In addition to delivering EPM solutions to clients, he prov ides guidance on costing and profitability best practices.

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oday, one of the most challenging parts of functionally m a s te r i ng a nd exe c ut i ng a cost ing methodolog y is the allocation of shared ser vices costs across the organization. There are a number of barriers to success, including an effective business case that can be a r t ic u l ate d to s t a keholde rs , a l ack of t r a nsp arenc y ac ro s s centers , a nd up front cost concerns. It is only through ef fe c t ive ha nd l i ng of sha re d s e r v ice s expenses that an organization can truly u nde rs t a nd t he e f f ic ie nc y a nd prof it abi lit y of the inner work ings of the business and be able to hold the appropriate stakeholders accountable. Whether the goal is to facilitate analysis of organizational profitabilit y, ident if y are as for inc re as e d ef f ic ienc y, or ensure that business units/ow ners are p r op e r l y h e l d a c c o u nt a b l e f o r t h e resources they use, in today’s world, a process must be put into place to determine how shared expenses are spread across the company in suppor t of these goals.

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Cost Management, Volume 29, Number 5. Copyright 2015. Thomson Reuters/Tax & Accounting. Reprinted with permission.

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EXHIBIT 1 Cost Allocation Model

As IT solutions continue to improve their ability to provide massive amounts of data w ith the click of a button, financial analysts are constantly looking for ways for their businesses to improve performance, profitability, and efficiency. At the same time, it is equally (if not more) impor tant to ensure that the methodologies applied are truly effective in producing accurate results.

Analyzing your core financials

rent pro ces s and t he end - s t ate go a ls . Consider the follow ing: • Is there a methodolog y defined in the organization that is capable of y ielding the right results now and is flexible enough to adapt as your company changes over time? • What is the ultimate goal of improving the shared ser v ices model? For example, is the goal to produce a “management repor ting” level of detail to facilitate analysis of profitabilit y and efficiency? Or is the goal to garner enough detail about actuals to suppor t the planning and forecasting processes? Or perhaps there is a different goal.

When beg inning to assess the per formance and success of your business, the process often begins w ith analyzing the core financials of the organization. Ask yourself: • How much revenue is being generated by each line of business (LOB), product, ser v ice offering, and/or customer? • What are the direct costs to produce those products and/or ser v ice offerings and suppor t those LOBs? While this t y pe of analysis is effective in prov iding a cursor y over v iew of the organizat ion, it is not possible to fully assess performance and profitability without proper accountability for shared ser v ices expenses. However, before diving deep into detail, you must consider two things: the maturity level of the cur-

With shared ser vices defined, let us start to cover some of the core building blocks of a costing solution and how that foundation can be built upon to solve some of the challenges associated with allocating shared ser v ices costs. One of the biggest challenges when defining a methodology for allocation of shared ser v ices cost is v isualizing a way to take expenses from the general ledger (GL) and drive them to a more atomic level of detail across different metadata

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Methodology: Allocation of cost using a multi-stage model

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cost centers could hierarchically roll up to LOBs, products, and customers. However, this would likely require introducing many new layers into the hierarchies. Not only would this convolute your ledger, but it could also massively increase the amount of maintenance required on a regular basis. Don’t turn your genera l ledger into a complicated one. Exhibit 1 shows how we commonly see clients address t hese problems in their costing model at a high level. The first step in this process would be to allocate cost to LOBs. This allocation is typically accomplished through a combinat ion of direc t assig nments (mapping a cost center directly to an LOB) and driver-based allocations (used for centers that split costs between LOBs). Once costs have been allocated from Stage 1 to Stage 2, you would be able to identif y how much of your total expense should be charged to each LOB. Stage 3 is the most impor tant stage to understand as it ultimately por trays the b r i d g e b e t w e e n t h e G L d at a a n d t h e desired results. In this example, we have leveraged the fundamentals of activ it ybased costing and introduced the activit y dimension, which acts as the bridge. The idea is that this intermediar y dimens ion a l lows you to a l lo c ate f rom cost centers and LOBs to the particular activities that those centers suppor t (either via direct assignments or using drivers). This dimension can be configured at a high level or dow n to a ver y g ranular level of detail, depending on the complexity of the organization and how products and customers are suppor ted. When you begin thinking about some of the core activ ities of your organization, it should become clearer how you can map costs from a par ticular activit y to one or more produc ts and customers. Using the activ it y dimension in this example makes it a two-step process to allocate from the GL data to customers and products. This makes the allocation logic and drivers more straightfor ward and easier to maintain. Attempt ing to allocate directly from your GL dimensions to customers and products in one SEPTEMBER/OCTOBER 2015

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w ithin the organization. This challenge is best por trayed using the example in Exhibit 1. The dimensionality and details of this example may or may not alig n w ith the specific needs of the organization, but the concepts that it highlights are relevant and critical in being able to design your ow n model. Stage 1 represents the expenses that a cost model would receive from the GL, which is typically stored by an account and cost center. In this particular example, the end goal is to be able to identify what portion of those GL expenses should be charged to each LOB, product, and customer. It is not uncommon for the kneejerk reaction to be, “Well, the hierarchies in my GL already tell me a lot of information about those expenses.” Although the way the account and THE EXPENSES IN A cost center hierSHARED SERVICES COST archies have been CENTER TYPICALLY structured in the CANNOT BE “MAPPED” DIRECTLY TO LOBS, GL may b e able PRODUCTS, AND to tell you some CUSTOMERS SIMPLY BY additional inforADDING ADDITIONAL m at ion ab out LEVELS INTO A those costs, rarely HIERARCHY OR ADDING NEW HIERARCHIES, do e s it prov ide BECAUSE THOSE the level of detail EXPENSES SHOULD necessary to truly RIGHTFULLY BE SPLIT be able to dr ive AMONG THEM. bu s i ne s s de c i sions. Attempting to embed this sort of logic and mapping into your GL is rarely ever a viable option for two main reasons. 1. The expenses in a shared ser v ices cost center t y pically cannot be “mapped” directly to LOBs, products, and customers simply by adding additional levels into a hierarchy or adding new hierarchies, because those expenses should rightfully be split among them. If a bank’s cor porate facilit y houses employees from both the mor tgage and commercial banking LOBs, to which LOB would you map your facilit y’s cost centers? 2. Introducing many new layers into hierarchies could massively increase the amount of maintenance required. If your model aims to only suppor t direct costs, it may be feasible to define how your accounts and

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WITHIN THE REALM OF SHARED SERVICES COSTS, IT IS COMMON FOR DIFFERENT COST CENTERS TO MUTUALLY SUPPORT EACH OTHER.

step would t y pically require some ver y complex mappings and driver data, and it would be far less transparent to a consumer of the results. It is impor tant to note that the activity dimension was chosen as an example, and the dimension(s) used as the bridge dimensions w ill var y depending on the details of your organization and what your par ticular m o d e l i s g e a re d t ow a rd a c c o m p l i s h i n g . As a n o t h e r e x a mp l e , a model built specifically for the allocation of IT costs would follow a similar patter n to Exhibit 1, but the concept of activ ities might not be as relevant in that realm. Instead, it often makes more sense to use a new dimension representing the IT resources of the organization than the IT cost centers suppor t (i.e., ser vers, telephones, data storage, Inter net ser v ice prov iders, etc.). Let us assume Exhibit 1 represents a fullabsorption model, in which each stage contains the same total expenses as Stage 1, which came from the GL. The idea is that as you move from stage to stage, you have acquired new infor mat ion ab out your costs. If you received $1 million of expenses from the GL and ran it through the model, you could look at the results of any stage and see how that $1 million is split across different pieces of the organization. Not only does this design accomp l i s h t h e g o a l of f i n d i n g out LOB - , product-, and customer-level detail, but it also allows you to look at each step along the way to be able to justify/explain how those results were produced. Within the realm of shared ser v ices costs, it is common for different cost centers to mutually suppor t each other. As a result, those centers should be charging (or allocating) costs to each other appropriately. Let us take HR and IT as an example: The HR depar tment helps prov ide benefits, among other ser v ices or activ ities, to the employees in the IT depar tment. Meanwhile, the IT depar tment supports HR by providing the technological infrastructure needed to carr y out ever yday business. Building on this concept, let us imagine we had a similar model to Exhibit 1, but rather than al locat ing dow n to

the customer and product level, we aimed to a l lo c ate ex p e ns e s f rom t he s ou rce cost centers (in St age 1) to the other centers that those sources suppor t. We would leverage the same concept of allocat ing f rom the source cost centers to the act iv it ies per for med by that center, but then we could allocate f rom those activities to the other centers that should b e c h a r g e d for t h o s e a c t iv i t i e s . T h i s ana lysis leads to more det ai led quest ions ab out how exac t ly, and in w hat succession, those shared ser v ices cost centers allocate to each other. While the details of waterfall, reciprocal, and recursive cost ing methodolog ies are not the focus of this ar t icle, it should become app arent how you cou ld le ver age t he outputs of a cer tain set of allocat ions and use them as inputs to an alternative set of allocat ions. It is impor tant to do the follow ing: 1. Tr y to v isualize the dimensionalit y of your costs and how they could potentially flow from source to target. 2. Think about the sets of driver data used to allocate costs between the dimensions. 3. Re-evaluate the shor t-term and long-term goals of the organization. 4. If the driver data that you deem to be the most accurate is not readily available, choose another driver to use temporarily to get your model up and running. The beaut y of this t y pe of model is that it is flexible enough to be able to change your driver selections at a later time w ithout impacting the fundamental design. You are still allocating costs between activ ities and products/customers — you are just mov ing those costs in a different way.

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Supporting the methodology with a robust IT solution By now you should have a better understanding of some of the core ideologies of defining a cost model and how those methods can be applied to solve some of the challenges ass ociated w ith shared ser vices costs. Now let us briefly discuss COST DIMENSIONALITY


how your methodology can be supported by an IT solution. In a time when enterprise performance management (EPM) software for budgeting/planning and financial consolid at i o n i s b e c o m i n g a s t a n d a r d f o r cor porations looking to better analyze their financials and drive business decisions, the trend is also becoming increasingly prevalent in the area of costing and profitabilit y. Commercial costing/profitability solutions have become so robust that they are capable of suppor ting all of the methodological concepts covered in this ar ticle, as well as allow ing you to customize your solution to the specifics of your organization. For example, the Oracle Hy perion Profitabilit y and Cost Management (HPCM) s olut ion offers different model t y pe templates, each of which are tailored toward different types of cost models. There is a customizable model t y pe, much like we outlined in the earlier methodolog y section, geared toward ( but not l imite d to ) a t y pic a l mult i-stage allocat ion model used for activ it y-based costing. If your organization has a large amount of data and metadata that you want to alloc at e t o / f r o m , H P C M o f f e r s a m o r e de t a i le d mo del t y p e fo c u s e d on ef f i ciently processing large data sets across

many dimensions. Lastly, if your model applies the concepts of recursive or recipro c a l a l lo c at ions, or if you want to eliminate some of the confines of the to ol and define al lo cat ions in a more f l e x ib l e m a n n e r, H P C M a l s o of fe r s a more free-form model, which allows you to define many different t y pes of allocations that can occur sequentially or in parallel. In shor t, there are not many cost-modeling concepts and designs that c a n n ot b e s upp or te d by m o de r n - d ay costing software, so start thinking about how to le ver age t hese I T offer ing s in your business today. The ability to integrate an IT-enabled costing solution with your GL, data warehouse, planning s olut ion, etc., and to automate the movement of data between these elements is one of the key benefits of building an IT cost model. The abilit y to execute automated inter faces to load your expenses and driver data into your cost model — and execute allocations with one click of a button — can be a tremendous time-saver for any organization. The “less time consolidating data, more time analyzing results” mantra is a return on investment that in itself is worth considering, not to mention that an IT solution eliminates room for mistakes and produces more accurate numbers.

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EXHIBIT 2 Shared Services Maturity Continuum

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EXHIBIT 3 Maturity Level Impact on Methodology, Technology, and Culture Level

Methodology Impact

Technology Impact

Culture Impact

Blind

• Methods are nonexistent. • No clear path from business unit management (e.g., no clear direction on how ser vice centers develop and calculate unit costs for a help desk call within the IT shop).

• Rudimentar y spreadsheet models are prevalent at this stage.

• Lines are blurred between var ious business units within shared ser vices. • The shared centers are not fir mly established. • Communication lines are still being developed, and management is disjointed.

Siloed

• There exist fir m and focused methods for each organization. • However, Human Resources and IT might view similar ser vices differently. • Processes exist and are followed diligently, but they remain nonstandard.

• Database or other technology are used to define, track, and repor t on ser vice level agreements between organizations. • The systems are not consistent and remain disparate between each siloed center. • This technology solution prevents organizations from aggregating and repor ting on a holistic level.

• This level is mature in nature. • This level is Risk-averse. • Ser vice centers remain independent from both a deliver y and management perspective. • The economies of scale do allow organizations to gain cost savings by centralizing each center.

Integrated

• Methods and tool sets are har monized amongst the centers. • For example, if HR is using recursive or reciprocal costing to develop unit costs, IT and Operations will follow suit and provide a consistent approach that is understood and transparent.

• Utilizes costing/profitability technology, such as HPCM, which focuses on business user transparency.

• Ser vice level agreements are fir mly entrenched between shared centers and all receiving centers. • Clear and concise communication exists between all par ties.

Globally Optimized

• At this point of matur ity, organizations are using the harnessed data to move from a reactionar y mindset to a predictive mindset. • Methods like dr iverbased planning to foresee high and low level ser vice ranges provide value in staffing and other key management decisions.

• Technology is similar to the Integrated matur ity. • Technology is deployed to the Global team. • Technology has the ability to suppor t the forward-looking methods descr ibed above. • Costing results can be pushed directly into a budgeting solution, and technology toolsets with business intelligence capability can leverage those capabilities to distr ibute repor ts.

• Culturally, we can now integrate the costing solution with the planning/forecasting process. • Expanded user base br ings budget and forecast individuals into the fold. • With expansion comes education and training to ensure all users are wor king toward a singular goal.

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The maturity continuum

does not satisf y a specific need from a stakeholder. Stakeholders can take on many forms, including executives, business line managers who receive shared ser v ices costs, as well as inter nal and external repor ting customers. As you move up the continuum, notice two primar y goals: (1) increased v isibility and (2) increased ability to defend. If your shared ser vices methods contain “black box” components (you can’t see how they were calculated), which lack transparency, they are not likely to be trusted by the receiv ing organization. There are four basic levels to the cont inuum: blind, siloed, integ rated, and global optimization. Exhibit 3 outlines how each level of the continuum impacts the method and technology used and the culture of the company. So at what level are you?

Methodologies thrive in theor y, not execution. Methods are evoked in a flavorof-the-month approach, but in order to truly benefit from shared ser v ices execution you must understand how mature your organization currently is and how quickly you can accelerate the learning and adoption curve. Remember that question you asked yourself a couple of minu t e s a g o ? “ Is t h e r e t r u l y a d e f i n e d methodolog y that is capable of y ielding the right results now but is also flexible enough to adapt over time?” Let us think about that. • Do I have a shared ser v ices model deployed today? • If so, is the methodolog y applied uniformly throughout the organization? • Do my methods fit the needs of all stakeholders? • Are my methods quantifiable, usable, maintainable, and flexible to change? In order to ace this test, it will be helpful to consider your baseline — where do you fit w ithin the shared ser v ices matur it y cont inu um? Whi le implement ing projects, some clients attempt to go from zero to 60 too quickly, and these projects fail the majorit y of the time. Taking baby steps is the cliché, but it is the most effective pace for success. Exhibit 2 lays out a basic continuum for shared ser v ices model maturit y that w ill help you find that pace. As w ith any maturit y model, it can be used as a selfawareness tool to help you deter mine where you reside in the spectrum today and where you want to be in the future. Your organization should be self-aware and not reach for the highest level if it

Regardless of whether or not you already have a methodolog y defined and an IT solution supporting the process, there is always room to improve. While reading this article, you may have muttered to yourself, “I get the challenges and the conc e p t s t h at a l l ow m e t o ove rc o m e my issues, but what are the next steps for me to truly improve my process?” There are many specific factors that influence what the appropriate next steps should be in order to achieve shared ser v ices nirvana, but identifying the current maturit y level of your shared ser v ices model is critical to get you star ted. If you can i d e nt i f y w h e re you r comp a ny s t a n d s methodologically, technologically, and cultur a l ly, and you cont inue to t hin k back to the questions you asked yourself at the beginning of this article, the direction in which you should move to get on the road toward hav ing a globally optim i z e d s h a r e d s e r v i c e s s o lu t i o n w i l l become clear. So now you know the secrets of costing shared ser v ices: allocation method, software, and the maturit y continuum. Will you keep these secrets and use them to your competitive advantage? n

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Conclusion

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So now you may be asking, “How do I take my organization from the point I’m at now to a place and time where I have a fully functioning cost model supported by enter prise software?” Let us get into w hat we c a l l t he matur it y cont inuum and address where you fit in that continuum.

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