1. Next page ALTERNATIVE BUDGET FORMATS AND BUDGET & CONTROL REFORMS BUDGETING & PERFORMANCE RESPONSIBITY BUDGETING ENTERPRISE RESOURCE PLANNING BALANCED SCORECARDS

2. Next page BUDGETING & PERFORMANCE Performance Is there a relationship between budgets and performance? What is it?

3. Next page Is Oregon making progress? 0 2 4 6 8 10 12 14 YesYes, butNo, butNo No. of Benchmarks 2003 2005 How Oregon Compares 0 2 4 6 8 10 12 14 16 To Washington State To U.S. Average No. of Comparators BetterSimilarWorse Capacity to create JOBS Falling per capita INCOME as a % of the U.S. Traded Sector New Employers Venture Capital Per Capita Income Pay Per Worker Workers Above 150% of Poverty Unemployment Rural Employment New Employers Net Job Growth Income Disparity Metro PCPI as a % of U.S. Prof. Services Econ. Diversif. Non-Metro PCPI Industry R&D On-Time Permits Pay Per Worker Exports Foreign Language

4. Next page Is Oregon making progress? 0 2 4 6 8 10 YesYes, butNo, butNo No. of Benchmarks 20032005 How Oregon Compares 0 1 2 3 4 5 6 7 To Washington StateTo U.S. Average No. of Comparators BetterSimilarWorse Oregonians using the INTERNET Weakening of some K-12 achievement trends 3 rd Grade Reading 3 rd Grade Math High School Completion (25+) College Completion (25+) 8 th Grade Reading 3 rd Grade Reading College completion Computer Usage 3 rd Grade Math HS Dropout Advanced Degrees Internet Use Labor Force Training

5. Next page Is Oregon Making Progress? 0 2 4 6 8 10 YesYes, butNo, butNo 2003 No. of Benchmarks 2005 How Oregon Compares 0 1 2 3 4 5 To Washington StateTo U.S. Average No. of Comparators BetterSimilarWorse Less JUVENILE RECIDIVISM Lack of progress in REPORTED CRIMES Property Crimes - Reported Property Crimes – Juvenile Arrests Students Carrying Weapons Cooperative Policing Adult Recidivism Behavioral Crimes - Reported Person Crimes - Reported Person Crimes – Juvenile Arrests Juvenile Recidivism Emergency Prep - Geological Behavioral Crimes - Reported Person Crimes – Juvenile Arrests Property Crimes – Reported Property Crimes - Juvenile Arrests Students Carrying Weapons Person Crimes – Reported Behavioral Crimes - Reported Person Crimes – Juvenile Arrests

6. Next page Is Oregon Making Progress? 0 1 2 3 4 5 6 7 YesYes, butNo, butNo No. of Benchmarks 20032005 How Oregon Compares 0 1 2 3 4 To Washington StateTo U.S. Average No. of Comparators BetterSimilarWorse More sustainable TIMBER HARVESTS Lack of progress in SPECIES PROTEC- TION Timber Harvest – Private Stream Flow – 12 mo. Stream Flow – 9 mo. Species Protection Municipal Waste Timber Harvest - Public CO 2 Emissions Air Quality Parks Stream H 2 0 Quality Wetlands loss (1780’s) Stream Water Quality Trends Recycling Air Quality

7. Jump to first page Questions What do we believe about the link between budgets and ensuing organizational (Biz/Govt/NFP) performance? What is the nature of the evidence or support for these beliefs? What are the implications for practice and research based on the findings?

8. Jump to first page Ten Things we Believe (we = Fred and Ken) 1.Budgets focus attention – usually on some target 2.Targets should reflect agreement on what adds value 3.Ex-ante budgets focus on spending targets 4.Ex-post budgets [e.g., Responsibility Budgets]focus on performance targets 5.Stable targets focus attention on hitting the target 6.Any target that can be achieved 100 percent of the time is too easy 7.Unit cost targets can distract from focus on organization performance; *ROI* targets focus on balancing cost and organization performance 8.Ex-post budgeting increases internal conflict 9.Conflict can be mitigated – preferably via ethical argument? 10.Improved performance comes from learning a- (Learning requires both perturbation and measurement) b- (More iterations produce more opportunities for learning) ROI is return on investment - requires difficult, but possible, discussions to define in Govt/NFP org’s.

9. Jump to first page Budget Formats: Ex Ante Budgets

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11. These Are ALL Spending Budgets! Managers are responsible for executing the budget as enacted Little discretion to acquire assets; no discretion to exceed authorized spending levels In the language of Responsibility Budgeting, these are all expense budgets OE & Program Budgets are Discretionary Expense Budgets Performance Budgets are Engineered Expense Budgets In the language of Responsibility Budgeting, these are all expense budgets OE & Program Budgets are Discretionary Expense Budgets Performance Budgets are Engineered Expense Budgets

12. Jump to first page They ALL Promote a BUDGET MINDSET

13. Jump to first page Budget Mindset Focus on inputs (instead of outputs) Emphasis on securing bigger budgets and more spending authority. Budget authority is AN ASSET Emphasis on spending rates, i.e., obligating budget authority by the end of the fiscal year Centralized budget decisions Little or no knowledge/understanding of costs -- or accountability for them

14. Jump to first page Performance Mindset Emphasis on outputs (instead of inputs). Budget authority is A LIABILITY Manage both operational and financial performance Focus on knowing and understanding the costs of outputs Reward people for leadership in meeting operational performance and cost- reduction targets Decentralize performance and cost management decision authority

15. Next page Budget History: Public and Private Budgets, in the form of spending plans, are associated with development of bureaucracy and functional organizations Budgets, in the form of targets, are associated with business

16. Jump to first page The Rise of Bureaucracy Perfected by Prussians during 19th Century detailed centralized materials requirements and logistical planning (INPUT/EXPENSE BUDGETS), control by rules, standard operating procedures, and the merit principle, functional administrative design, distinction between staff and line decomposition of tasks to their simplest components, Sequential processing.

17. Jump to first page Bureaucracy Results made large, complex organizations possible; also made them inevitable POSDCORB functions were all treated as separate concerns, performed by staff specialists and coordinated by TOP MANAGEMENT substantial staff resources needed to gather and process data for TOP MANAGEMENT to coordinate activities and allocate resources

18. Jump to first page Moving away from Bureaucracy/GM Multi-product, or M-form, organizational structure each major operating division serves a distinct product market Decentralized control by the numbers, using the DuPont system of financial controls, return-on-assets target Coordination short run via transfer prices Long run via modern capital budgeting system

19. Jump to first page Responsibility Budgeting The most common decentralized control system used by large-scale organizations in the private sector. (a) units and managers are evaluated relative to the targets they accept, (b) only financial measures are used to measure and reward accomplishment or punish failure, and (c) financial success or failure is attributed entirely to managerial decisions and/or employee performance.

20. Jump to first page Types of Responsibility Centers Discretionary & Engineered expense centers (budgets are spending plans) Revenue centers (intermediate form) Cost centers (budgets are performance targets) Standard cost centers Quasi-profit centers Profit centers (budgets are performance targets) Investment Centers (budgets are performance targets)

21. Jump to first page Revenue centers In some cases, expense center managers are evaluated in terms of the number and type of activities performed by their center. Revenue centers are expense centers that earn revenue or are assigned notational revenue (transfer price) by the organization's controller as a direct result of the activities they perform.

22. Jump to first page Cost centers Cost center managers are responsible for producing a stated quantity and/or quality of output at the lowest feasible cost. Someone else within the organization usually determines the output of a cost center. Cost center managers are usually free to acquire short-term assets (those that are wholly consumed within a performance measurement cycle), to hire temporary or contract personnel, and to manage inventories.

23. Jump to first page Standard cost centers In a standard cost center, output levels are determined by requests from other responsibility centers The manager's budget for each performance measurement cycle is determined by multiplying actual output by standard cost per unit. Performance is measured against this figure -- the difference between actual costs and standard costs.

24. Jump to first page Quasi-profit centers In a quasi-profit center, performance is measured by the difference between the notational revenue earned and costs For example, a VA hospital radiology department performs 500 chest X-rays and 200 skull X-rays. The notational revenue earned is $25 per chest X-ray (500) = $12,500 and $50 per skull X-ray (200) = $10,000, or $22,500 total. If the department’s costs are $18,000, it earns a quasi-profit of $4,500 ($22,500 - $18,000).

25. Jump to first page Profit centers In profit centers, managers are responsible for both revenues and costs. Profit is the difference between revenue and cost (or expense). In addition to the authority to acquire short- term assets, to hire temporary or contract personnel, and to manage inventories, profit center managers are usually given the authority to make long-term hires, set salary and promotion schedules (subject to organization wide standards), organize their units, and acquire long-lived assets costing less than some specified amount.

26. Jump to first page Investment Centers In investment centers, managers are responsible for both profit and the assets used in generating the profit. Investment center managers are typically evaluated in terms of return on assets (ROA) -- the ratio of profit to assets employed. In recent years many have turned to economic value added (EVA), net operating "profit" less an appropriate capital charge.

27. Jump to first page Responsibility budgets I For expense centers the budget is a spending plan For discretionary expense centers, fixed spending targets For engineered expense centers, flexible spending targets (i.e., the budget has two components, a discretionary component and a component that varies directly with volume)

28. Jump to first page Responsibility budgets II For a cost or profit centers the budget is a performance target or goal For cost centers, the target is a unit-cost standard For quasi-profit centers, the target is a quasi-profit measure: (Standard Cost [units delivered] – Actual Unit Cost [units delivered]).

29. Jump to first page Responsibility budgets III For profit centers, the budget is a profit target [revenue – cost of goods sold.] The budget of an investment center is also a target or goal – usually return on assets [ROA or ROI] or residual income [EVA or RI] The main difference between investment centers and all other responsibility centers is that the former approve their own capital budgets

30. Jump to first page Capital budgeting I is concerned with changes that have multi-period consequences for the responsibility center in question e.g. investment in new plant or equipment, a new program, a major process enhancement, etc. Where cost and profit centers are concerned, some higher authority must approve these kinds of projects. And, each time a project is approved, the targets for the current period should be adjusted accordingly, as should future year targets.

31. Jump to first page Capital budgeting II IN CONTRAST, investment center mangers make these kinds of decisions without the approval of a higher authority. Their budgets are expressed in terms of their skill in managing assets: ROA, EVA.

32. Jump to first page Investment Centers (Charging for Assets Used) I The charge for invested capital = [working capital + fixed capita] * discount rate This approach contains three errors [assumed to be self-correcting] HC is used rather than replacement cost; A nominal rather than a real rate is used (not adjusted for inflation), and An average rate is used rather than a marginal rate.

33. Jump to first page Investment Centers (Charging for Assets Used) II The proper way to measure the use of invested capital would = the market rent that could be earned on each item The rental rate per asset = interest foregone, plus depreciation, minus any price appreciation or decline [Replacement Cost * (r+d-a)]

34. Jump to first page Formerly, individual production units were typically standard cost centers; staff units were typically discretionary expense centers. Mission centers were investment centers. Mission centers in private sector organizations produce final products that are easily priced and that are expensed following generally accepted accounting practice. In contrast, support centers [e.g., staff units] produce intermediate products and these were, until recently, hard to cost, let alone price, with accuracy. Attempts to do so were often either excessively arbitrary or prohibitively costly.

35. Next page Beyond responsibility budgeting Cycle-time burdening Cost of Quality Analysis Balanced Scorecards BPR

36. Jump to first page Modern Control Methods New developments in management control techniques/Responsibility Budgeting & EVA aren’t good enough (DF/DI) Businesses in Japan and Germany were producing higher quality goods and services at a lower cost: JIT, Cycle-time analysis, Cost of Quality Analysis, Balanced Scorecards, and the Rules of BPR

37. Jump to first page The German Critique (ABC) Narrow rather than comprehensive (making things vs. making money) Uses wrong cost drivers (labor burdening) Unwillingness to rely on statistical cost measures and estimates Poor averaging, especially temporal averaging Failure to distinguish between needs of financial reporting and management control

38. Jump to first page The Japanese Critique I Importance of inventories and overheads, insignificance of labor hours Quality Solution: manage process through product design and process value management so as to minimize the discrepancy between Process time and Cycle time [inefficiency = 1 – (PT/CT)]

39. Jump to first page Process value analysis (PVA) Chart the flow of activities needed to design, create, and deliver a service For each activity and step within the activity determine its associated cost and its cause Determine how the step adds value or, if it is non-value adding, identify ways to eliminate it and its associated cost; Determine the cycle time of each activity and calculate its cycle efficiency (value-added time/total time); and Seek ways to improve cycle efficiency and reduce associated costs due to delays, excesses, and unevenness in activities.

40. Jump to first page Business Process Reengineering Jobs should be designed around an objective or outcome instead of a single function. Functional specialization and sequential execution are inherently inimical to expeditious processing. Those who use the output of activity should perform the activity and the people who produce information should process it, since they have the greatest need for information and the greatest interest in its accuracy. Information should be captured once and at the source. Parallel activities should be coordinated during their performance, not after they are completed. The people who do the work should be responsible for decision making and control built into their job designs.

41. Jump to first page BPR reflects assumptions of flexible or lean production (JIT) Nobody but the front-line worker adds value (directly). Front-line workers can perform most functions better than specialists (lean manufacturing). Every step in the value chain should be done perfectly (TQM). This reduces the need for buffer stocks and produces a higher quality end product or service.

42. Jump to first page BPR reflects modern IT: reduced economies of scale and scope Multidisciplinary teams, members work together from start of job to completion Push exercise of judgment down to teams that do an organization's work More equal distribution of knowledge, authority, and responsibility Average firm size falling for the last twenty years (SIC)

43. Jump to first page The Balanced Scorecard Four perspectives …………………………………. Financial Customer Internal Business Processes Learning and Growth Perspective

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45. Learning Critique Improving performance requires learning Learning requires dialogue About purposes, goals, cause-effect relations Opportunities for learning Measurement, alternative measurements Experimentation (perturbation)

46. Jump to first page Summary

47. Jump to first page Ten Things we Believe (we = Fred and Ken) 1.Budgets focus attention – usually on some target 2.Targets should reflect agreement on what adds value 3.Ex-ante budgets focus on spending targets 4.Ex-post budgets [e.g., Responsibility Budgets]focus on performance targets 5.Stable targets focus attention on hitting the target 6.Any target that can be achieved 100 percent of the time is too easy 7.Unit cost targets can distract from focus on organization performance; *ROI* targets focus on balancing cost and organization performance 8.Ex-post budgeting increases internal conflict 9.Conflict can be mitigated – preferably via ethical argument? 10.Improved performance comes from learning a- (Learning requires both perturbation and measurement) b- (More iterations produce more opportunities for learning) ROI is return on investment - requires difficult, but possible, discussions to define in Govt/NFP org’s.

48. Next page Practicum Responsibility budgeting AFMC General George Babbitt

49. Jump to first page Presentations Group 1 What coalition came to support the initiation of cost management? Why did this base of support coalesce?

50. Jump to first page Presentations Group 2 How did the idea of cost management come into existence? What reasoning and persuasive rhetoric were involved in selling it? What was it about the people or the situation – including historical background – that influenced the eventual idea?

51. Jump to first page Presentations Group 3 Who were the business-area managers? What was their part in the cost- management system? Why did they apparently perform their roles in general accord with the design of AFMC’s “cost management system”?

52. Jump to first page Guidelines A presentation should be crisp – not to exceed 10 minutes Any case facts should be presented within the context of the reasoning/argument Prepare for questions