Supporting Operational Excellence and Aligning Control Systems

1. MEASURES TO SUPPORT OPERATIONAL EXCELLENCE AND ALLIGNING CONTROL SYSTEMS TO THE CONTEXT Prof. Teemu Malmi 2016

2. AGENDA Processes management and lean How accounting and control systems can support continuous improvement and quality efforts Potentially dysfunctional effects of financial measures Productivity Situational influences on MCS Aalto School of Business 2016 / T. Malmi

3. VALUE CHAIN Aalto School of Business 2016 / T. Malmi

4. VALUE CHAINS First introduced by Porter 1985; initially a business unit level concept Later applied to supply chains; Value Systems Value is created in each step and/or by managing the interfaces of activities Classic Strategy Consultant analysis: Where the money comes from, where it goes and where do we tie it up in the value chain => Process Management Aalto School of Business 2016 / T. Malmi

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6. PROCESS MANAGEMENT • Process management has been said to be the most important managerial innovation during the past 25 years • Many process management schools, e.g TQM, ABM, TBM and BPR • No single definition of a process • “a set of activities, that starts from an input and produces an output that has value to the customer” • Customer driven, horizontal view across functional boundaries, repeatable and time essential concepts Aalto School of Business 2016 / T. Malmi

7. MANAGE PROCESS PERFORMANCE 1) Process development (decision-making) 2) Organize management according to business processes and/or develop proper process measures and incentives (control) Aalto School of Business 2016 / T. Malmi

8. IMPROVING THE PERFORMANCE OF PROCESSES Developing existing processes • Analysis of activities and • business processes • Eliminating non-value • adding activities Start from scratch = Re-engineering Decision Making When processes and activities are basically OK, measurement - cost, time, quality - to ensure continuous improvement Control Aalto School of Business 2016 / T. Malmi

9. PROCESS DEVELOPMENT Aalto School of Business 2016 / T. Malmi

10. DEVELOPING EXISTING PROCESSES • Identify the process objectives and set ambitious targets • Chart activities • Classify to value adding and non-value adding • Try to eliminate non-value adding activities (-> reduce costs) • Try to improve the efficiency of remaining activities, focus on drivers of work-load (reduced work-load leads to spare capacity or reduced costs) • Measure performance and identify accountabilities Aalto School of Business 2016 / T. Malmi

11. EXAMPLE: SALE, TRANSFER AND ASSEMBLY OF A LAND LINE TELEPHONE / INTERNET CONNECTION C U S T O M E R Sale or transfer of a connection Provision of connecting information Assembly and connection of telephone Approval of job orders for invoicing Aalto School of Business 2016 / T. Malmi

12. Makes an order Customer Sales servant Foreman Fitters Directory clerk Record clerk Information system Prepares a contract, checks time tables, enters basic information to information system and supplies directory information Sets time tables Assigns jobs Enters information to net register, records jobs and hours Perform jobs and return the lists Updates information Checks connections from the register and records an order Updates register Aalto School of Business 2016 / T. Malmi Administration of orders and jobs (AOJ) Directory information AOJ

13. CUSTOMER CUSTOMER SERVICE FITTER INFORMATION SYSTEM Makes an order Prepares a contract, enters directory information, sets time tables for assembly Performs a job Records jobs, hours and materials Directory information Net register Net register AOJ AOJ Aalto School of Business 2016 / T. Malmi

14. LEAN Lean manufacturing, lean production Toyota Production system -> today also many service organizations believe in Lean Systematic elimination of waste => cost reduction Many associate Lean with various tools used for identifying and eliminating waste Some regard it more as a ”philosophy” Toyota Way = focus on improving the flow or smoothness of work Lean tools / practices do not rely on monetary measures - they include some quality tools, which in turn has a lot to do with measurement Aalto School of Business 2016 / T. Malmi

15. A "TRADITIONAL" ALLOCATION OF RESPONSIBILITIES IS BASED ON FUNCTIONS The emphasis is on (a) the frontiers of each «box», (b) the name in the box and (c) the (generally vertical) relationships connecting boxes. Aalto School of Business 2016 / T. Malmi

16. The problem comes from the "white spaces" (i.e. interfaces) on the organizational chart WHAT DOES THE CUSTOMER WANT? Research shows that the “white spaces” generate between 10 and 20% of any business’ costs! Aalto School of Business 2016 / T. Malmi

17. CREATING PERFORMANCE REQUIRES EXPLICIT MANAGEMENT OF INTERFACES • Think of providing “service” to customers as a relay race. • Each person focuses, not only on their leg of the race, but on efficiently and effectively handing over the baton (i.e. crossing the "white space") to the next player • Can this management of interfaces be supported by performance measurement? If so, how? Aalto School of Business 2016 / T. Malmi

18. SUMMARY • Accounting and performance measurement can help both when analysing processes and deciding on improvements, as well as managing processes on on-going bases • Remember the Nokia 1990’s logistics case • Measurement is only one essential ingredient in successful process management – how money and associated decision rights are distributed are the key aspects to get right Aalto School of Business 2016 / T. Malmi

19. QUALITY MANAGEMENT AND COST OF POOR QUALITY • Managers find it difficult to justify investments in improving quality (Ittner & Larcker, 1996) • Ittner (1999) considers the reason being lack of adequate methods for determining financial consequences of poor quality • What is the traditional framework to asses the cost of poor quality? How would you try to assess in a firm how much poor quality costs for an organization? • Why would this traditional method be difficult to use in project business? Aalto School of Business 2016 / T. Malmi

20. NOKIA NETWORKS CASE • Initially the aim was to develop cost of poor quality measure to be used in Networks level BSC • We studied four mobile phone network projects (from 150 MEUR upwards) • In project business two types of poor quality elements • Some fairly constant and independent of project constraints (e.g. changes in time schedules), others heavily dependent on project constraints (e.g. design, subcontractors) • A single measure of cost of poor quality is bound to be worthless in such an environment • Focus was shifted to develop tools to manage project level cost of poor quality Aalto School of Business 2016 / T. Malmi

21. A set of poor quality elements and their magnitudes in two projects Aalto School of Business 2016 / T. Malmi

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23. AGENDA Processes management and lean How accounting and control systems can support continuous improvement and quality efforts Potentially dysfunctional effects of financial measures Productivity Situational influences on MCS Aalto School of Business 2016 / T. Malmi

24. POTENTIALLY DYSFUNCTIONAL EFFECTS OF FINANCIAL MEASURES Basically all process development activities should lead to a better financial performance, so in the long run process related measures and financials should not be in conflict Many times managers in production can understand non-financials, but have hard time to understand why their financials may not improve although they make progress in non-financials Would you be able to provide an example where improving some process related non-financial indicator may lead to a adverse impact on reported financial results? Or would you be able to provide an example where managing short term financial results may lead in adverse impacts on processes and process related indicators? Aalto School of Business 2016 / T. Malmi

25. SOME EXAMPLES Yield improves due quality efforts -> less units will be started -> if overheads are absorbed by the number of starts, unfavourable volume variance arises Demanding inventory level targets may prevent efficient use of bottlenecks and reduce throughput If managers want to recognize additional income at year end, they might ship high margin products at the end of period -> may ruin On-Time-Delivery performance Aalto School of Business 2016 / T. Malmi

26. AGENDA Processes management and lean How accounting and control systems can support continuous improvement and quality efforts Potentially dysfunctional effects of financial measures Productivity Situational influences on MCS Aalto School of Business 2016 / T. Malmi

27. BIG DIFFERENCE IN PRODUCTIVITY? Child welfare - cost of institutional care: • Per day - € 349 vs. € 286 • Per child per year - € 135 604 vs. € 81 730 Aalto School of Business 2016 / T. Malmi

28. Thesix biggest cities in Finland, own vs. outsourced services 2010-2014 Graafin lähde:Kuuden suurimman kaupungin lastensuojelun palvelujen ja kustannusten vertailu vuonna 2014, Kuusikko-työryhmän raportti 4/2015. Aalto School of Business 2016 / T. Malmi

29. City of Seinäjoki 2014-2015, own vs. outsourced services * • Lähteet: • Talousarvio 2016, Sosiaali- ja terveyskeskus, Seinäjoen kaupunki • Tasekirja 2014, Seinäjoen kaupunki • Lastensuojelun laitospalveluiden kilpailutus 2012-2015, Seinäjoen kaupunki * Toteutuneet hoitokustannukset 2014-2015 €/vuosi ** Laskennalliset 14 asiakkaalle syntyvät kustannukset Aalto School of Business 2016 / T. Malmi

30. LESSONS TO BE LEARNED FROM THIS EXAMPLE? • Price can describe differences in productivity, but one can not judge why differences exist and what to do for those based on it • You have to measure other aspects as well => seldom one indicator is enough when productivity is assessed • Previous comparison was between prices and costs, what would be the true difference in productivity? Aalto School of Business 2016 / T. Malmi

31. PRODUCTIVITY Paul Krugman: ”Productivity isn’t everything, but in the long run it is almost everything” The age of diminished expectations, 1990 Aalto School of Business 2016 / T. Malmi

32. PRODUCTIVITY Important both for business and not-for-profit sector In business competition forces firms to improve productivity In public sector productivity targets are common In many cases rhetoric related to productivity means a desire for savings, but in practice non-business organizations attempt to produce more output with current inputs Aalto School of Business 2016 / T. Malmi

33. Hospital days per 1000 inhabitants in OECD countries and in hospital districts in Finland OECD Health data 2013 ja THL 2012 White line = Italy, UK, Sweden and France Aalto School of Business 2016 / T. Malmi

34. SOME CONCEPTS RELATED TO PRODUCTIVITY Cost Input Output Effect Cost efficiency Productivity Effectiveness Aalto School of Business 2016 / T. Malmi

35. PRODUCTIVITY CAN BE DECOMPOSED IN SOCIAL AND HEALTH CARE • Production efficiency • Activities / treatments are produced efficiently, recall our example above • Allocation efficiency • We perform right treatments • Social efficiency • We provide treatments to right persons Aalto School of Business 2016 / T. Malmi

36. Lähde: THL:n poiminta 31.12.2103 Julkaisusta “saadaanko sote-uudistuksella tasalaatua” (KAKS) Aalto School of Business 2016 / T. Malmi

37. ”Figures on productivity in the U.S. do not help to improve productivity in the U.S. Measures on productivity are like statistics on accidents: they tell you all about the number of accidents in the home, on the road, and at the work place, but they do not tell you how to reduce the frequency of accidents” W. Edwards Deming • Remember that measuring and managing productivity are different things! Aalto School of Business 2016 / T. Malmi

38. FEW QUESTIONS Do you agree with Deming? In which kind of circumstances productivity measurement is easy? When it is likely to be difficult? If the measurement is difficult, should we still try to measure productivity? Aalto School of Business 2016 / T. Malmi

39. AGENDA Processes management and lean How accounting and control systems can support continuous improvement and quality efforts Potentially dysfunctional effects of financial measures Productivity Situational influences on MCS Aalto School of Business 2016 / T. Malmi

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41. SITUATIONAL INFLUENCES? What kind of situational factors you would think might have an impact on how control systems should be designed and why? Aalto School of Business 2016 / T. Malmi