Understanding the supply chain's role in the profitability of your company, and the ability to use that knowledge to your company's advantage, can be your best weapon in the economic battles ahead.1
COST VISIBILITY ACROSS A supply chain can open new opportunities for driving cost reductions and improving performance. Many internal costs are driven by external trading partners' behavior and business practices. Improved cost visibility enables managers and executives to better understand how supply chain relationships drive costs within their firm and with each trading partner. Visibility would also facilitate more effective cost tradeāoffs and optimized networks within the firm and across a firm's network of trading partners. Despite the importance of externally driven supply chain costs, managers and executives currently have very limited visibility of their trading partners' costs and little insight into what actually drives their costs. Tremendous potential exists to achieve significant cost reductions and higher levels of performance within the supply chain. The visibility and management of costs across trading partners can take supply chain management to a higher plateau of value creation.
To complicate matters, many managers and executives do not trust the profit and cost information reported by their CFO and accountants. We are not referring to the external financial statutory and compliance accounting and reporting for government regulatory agencies and for investors. We are referring to internal management accounting providing insights and cost information to help managers make better decisions. An example of the lack of trust involves cost allocations of indirect expenses, commonly called āoverhead.ā Managers recognize that simplistic cost allocations with basis, such as the number of direct labor hours or number of units produced, do not have a causeāandāeffect relationship in most situations. They are like spreading peanut butter across bread. Hence, the reported costs are inaccurate, flawed, and misleading.
To further complicate matters, managers observe that the internal managerial accounting information is incomplete. It does not provide a full picture of their firm's costs. The accountants stop at simply calculating and reporting the costs of product and standard service lines. They do not calculate costs below the gross profit margin line in an income statement. Managers need to also have visibility regarding how much their customers consume of distribution channel, selling, marketing, customer service, and administrative expenses. Managers desire seeing a profitāandāloss report for each customer.
Some executives may believe that they know their own internal supply chain costs and are not suspicious of the accuracy of those costs. Leaving that problem aside, research reveals a different problem, that most firms have limited knowledge of their trading partners' costs and the influence of the partners' actions on the firm's cost. Think about how you would respond to the following questions about your firm's knowledge of its supply chain costs.
Volatility in the global economy and fluctuations in transportation costs have increased the importance of having cost knowledge within and across the supply chain. Supply chain cost professionals are operating in a dynamic business environment: increased globalization, expanding product and service variety, growing endāuser demands, rapidly changing technology, volatile transportation costs including fuel prices, periodic pandemics, and sustainability requirements. This environment has altered endāuser demand and is changing how organizations function and interact with their trading partners. Measuring and managing existing and prospective supply chain costs is essential for sustaining profitability and remaining competitive in this increasingly complex environment.
Supply chain costing in this dynamic environment poses a significant management dilemma. Executives require targeted, precise cost information by product, service line, distribution channel, and customer and supply chain. However, the general ledger cost accounting systems firms use does not provide this information. Traditional cost systems provide detailed information about the input expenses incurred with labor, material, freight, or other natural expense accounts, but they fail to provide the output cost information most needed by management. For example, managers seeking to improve their supply chain processes, such as order fulfillment, need information on the total cost of the endātoāend business processes, the cost of the individual activities performed within those processes (internally and the cost of the activities performed by external trading partners), and estimates of how these costs will change in response to any process changes.
