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 / First Quarter 2002 / Issue 26(originally published by Booz & Company)


What Are the Measures That Matter?

Professor Kaplan was a financial guy himself, but he found the argument convincing. When he was asked to speak about this at a major accounting conference, he looked for a business historian to help him trace the roots of the problem. A mutual friend recommended Professor Johnson, who had studied with Harvard’s most eminent management historian, Alfred Chandler. Professors Kaplan and Johnson recognized their symbiotic interests and went on to collaborate on a book for Harvard Business School Press, published in 1987 under the title Relevance Lost: The Rise and Fall of Management Accounting.

Relevance Lost has gone through nine printings since then, enough to make it a business-book classic. I vividly remember my first encounter with it, as a fledgling management historian, looking desperately to understand the influence of financial methods on corporate decision making. Reading Relevance Lost, I felt like I had cracked the code. The historical chapters (written mostly by Professor Johnson) showed how management accounting wasn’t just a feature of the newly emerging large corporations of the 19th century; it probably made them possible. Andrew Carnegie’s watchword, for instance, was “Watch the costs, and the profits will take care of themselves.” Cost analysis gave the Carnegies of American business (and their successors, like General Motors’ Alfred Sloan and General Electric’s Ralph Cordiner) the power to create huge, multifaceted, and yet coherent and consistent enterprises that continually outbudgeted and outmaneuvered their competitors.

But cost accounting per se was no longer enough (argued Professors Kaplan and Johnson) amid global competition, demanding consumers, and cutthroat pressures of the 1970s and later. Indeed, like many remedies that are overused, cost accounting had become poisonously destructive to its hosts. The authors asked rhetorically why it had taken so long for the toxicity of calculations like return on investment to become apparent. They explained it by writing that managers had compensated, below the visible surface, with human judgment. But when short-term pressures increased, and managers spent less and less time in each position, human judgment was diminished. The net effect was to make managers more dependent on the numbers.

To Professor Kaplan fell the task of writing most of the material about current management practice, including two chapters describing potential solutions — since accountants had created this mess, how could they help clean it up? He had recently begun to work with Robin Cooper, a Harvard faculty member whose research focused on innovative cost-management practices, and who was writing a case study of Schrader Bellows, a North Carolina hydraulics components company. The company had connected its MRP data bank (a standard “Manufacturing Resource Planning” computer system for production scheduling, sold by IBM in those days) so as to provide information directly into the assignment of overhead costs to products. The term Activity-Based Costing was not mentioned directly in Relevance Lost, but the prototype ABC practices featured in the book soon became its primary deliverable, and thus the center of both authors’ speaking engagements.

“We didn’t argue,” recalls Professor Johnson. “It was obviously going to be a wave to ride. So we rode it.”

Battle Lines Are Drawn
Then it was Professor Johnson’s turn to be approached by a manufacturing guy. As Professor Johnson recalls, Richard Schoenberger, an industrial engineering professor from the University of Nebraska, pulled him aside after a talk to say, “This is really good stuff. You’ve told the accountants what we industrial engineers have been trying to tell them for decades. But you don’t go far enough. Activity-Based Costing talks about tracing the overhead costs to elements of work. But if you could organize the work differently, the overhead costs wouldn’t be there in the first place. And without those overhead costs, why would you need any cost accounting at all?”

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