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Operations and Managerial Accounting

Operations and Managerial Accounting. Madhav Rajan Stanford Graduate School of Business MAS 2006 Meeting. Outline. Operations and Managerial Accounting Why are inter-firm relations important Why are we in a unique position to examine these issues Classic Hold-up Accounting in Operations

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Operations and Managerial Accounting

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  1. Operations and Managerial Accounting Madhav Rajan Stanford Graduate School of Business MAS 2006 Meeting

  2. Outline • Operations and Managerial Accounting • Why are inter-firm relations important • Why are we in a unique position to examine these issues • Classic Hold-up • Accounting in Operations • Operations in Accounting

  3. Importance of Suppliers • Outsourcing has increased • From 1973 to 1993, the median Fortune 500 industrial company has shrunk 37% • Over the past 50 years the value of purchased materials and services has grown from 20% to 56% of the selling price of finished goods • As tasks become outsourced, intra-firm relationships are replaced with inter-firm relationships

  4. Why Managerial Accountants are a Perfect Fit • Managerial Accounting has covered many intra-firm issues • Inter-firm issues are very similar, only no “Selected Intervention” Division B Firm B HQ. Firm A Selected Intervention Contracts Division A Division A Division B Firm A

  5. Hold-Up • Classic Hold-up problem (Inter-firm) • Edlin and Reichelstein 1996 • Che and Hausch 1999 • Intra-firm asymmetric information • Baldenius 2000 • Vaysman 1998 • Inter-firm asymmetric information • Your name here

  6. Accounting and Procurement • Testing incoming products (single supplier) • Baiman et al. 2001a: Testing • Baiman et al. 2001b: Design • Buyer-Supplier contracting with multiple suppliers • Baiman et al. 2003

  7. Opportunism across the Supply-Chain • Buyer-Supplier Moral Hazard (Dual): • Role of Warranties • Balachandran and Radhakrishnan 2005 • Saouma 2005 • Sharing Private Innovations: • Asymmetric information • Baiman and Rajan 2002

  8. Capacity and Cost Allocation • Full Costing • Never optimal for price setting • Why use it? • Is it useful for making capacity decisions? • If so, then price and cost decisions should be made simultaneously… Very computationally intensive

  9. Full Costing Research • Find scenarios where it is optimal • Banker and Hughes 1994 • Gox 2002 • Examine Full Costing as a pricing and capacity heuristic • Balakrishnan and Sivaramkrishnan 2001 • Balakrishnan et al. 1997

  10. Questions from Operations:Accounting Answers • Why do we observe revenue sharing contracts? • Cachon and Lareviere 2005 • How share private information across the supply chain? • Cachon and Lareviere 2001 • Who should carry inventory risk? • Cachon 2004

  11. A Sampling of Operations Management Research Erica Plambeck Stanford Graduate School of Business

  12. Roots of O.M. Research Gentlemen, we’re sitting on a hell of a lot of inventory

  13. Recent O. M. Research • Empirical Research • forthcoming focus issue in Manufacturing & Service Operations Management • Revenue Management • Service Operations • call center focus issue forthcoming in Management Science • Dynamic Supply Chain Management

  14. Recent O. M. Research • Empirical Research • forthcoming focus issue in Manufacturing & Service Operations Management • Revenue Management • Service Operations • call center focus issue forthcoming in Management Science • Dynamic Supply Chain Management • relational contracts • product returns

  15. Relational Contracts (Toshiba) • During development process, product design changes substantially. Delaying capacity investment ‘til product is well-defined would cause unacceptable delays: • “If we waited until we were sure of every final detail, and drew it [a contract] up beautifully so anyone could read it, we would be 6 months to 12 months later in the marketplace”–Toshiba purchasing manager • Toshiba and supplier instead adopt relational contract: informal agreement about terms of trade, enforced by the future value of a cooperative relationship.

  16. Research Questions • How does repeated interaction affect capacity investment and profitability? • How should a buyer make promises to purchase? • If promised terms are highly generous, supplier may not find promise credible • If stingy, supplier may invest little

  17. Model: Repeated New Product Intro. and Capacity Investment supplier builds K units of capacity at cost cK buyer realizes demand x production & retail sale at price r formal contract: -price -quantity discount factor 

  18. buyer pays T, supplier buildsK units of capacity at cost cK buyer realizes demand x& orders q(x) production, retail sale at price r formal contract: if both firms cooperate, codify q, d(q) otherwise, Nash bargaining • Relational Contract specifies: • terms: T, d(q) • buyer strategy: q(), cooperate until supplier reneges • supplier strategy: K,cooperate until buyer reneges • strategies must beperfect public equilibrium

  19. Relational Contract Design = Fixed Point Problem } ˆ - c K £ q K ˆ ³ K 0 P= { } x x - x - max E [ r min( q ( ), ) pq ( )] cK max expected profit x { K , d ( q ), q ( )} subject to : buyer orders specified quantity x Î x - " x q ( ) arg max{ r min( q , ) d ( q )} buyer pays x x - x ³ - s - x " x r min( q ( ), ) d ( q ( )) ( 1 )( r p ) min( K , ) { [ P ˆ - Î x £ x - x + d - d - P 1 K arg max E 1 { q ( ) K }( d ( q ( )) pq ( ) ( 1 ) ( )) B ] ˆ - + x > s - x + d - d P 1 1 { q ( ) K } ( r p ) min( K , ) ( 1 ) ) S supplier builds capacity

  20. Increase in Expected Profit (Relational Contract – Nash bargaining)/(First Best) r= 10 p = 0 s = 0.5 uniform(0,1) 95-100% discount factor  first best achieved 65-95% capacity cost c 10.0 7.5 5.0 2.5 35-65% 5-35% 0-5% 0.25 0.50 0.75 1.0 discount factor d

  21. Research Questions • How do informational links influence structure and performance of optimal relational contract? • Who is responsible for relationship?

  22. Product Returns - Commercial • Internet purchase “Not what I expected” • Zappos.com lets you return unworn shoes for 60 days for any reason • Banana Republic.com offers free returns to customers that spend $800+/yr • Obsolescence (electronics) can’t resell • Questions • What is cost and frequency of returns: by product type, customer type, returns policy? • Resell (speed, price, channel) or recycle or…? • Generous returns policy? Customer-specific?

  23. Product Returns - Commercial • Home Depot • 10% of sales returned ~ $11 B/year • Labor cost ~ $85 M/year • >10% of returns are destroyed • $22 M/year to landfill • Questions • What is value of information about usage? • Should return logistics be centralized? Outsourced? • How to forecast? Adapt procurement and pricing?

  24. Product Returns – End of Life • EU makes manufacturer responsible for products at end of life • Cars, electronics, white goods • Restrictions on Hazardous Substances • Questions • Sort? What is value of information: manufacturer, product, condition, time and location of return? • How to estimate and internalize EOL cost in design, timing, and price of new products? • How does RoHS influence optimal number and size of suppliers? Relational contracting?

  25. Summary • “Hot” OM research areas • Empirical research • Revenue management • Service operations • Dynamic supply chain management • Multi-disciplinary research opportunities • Relational contracts • Product returns

  26. Empirical Research in Operations Management and Management Accounting Shannon Anderson Rice University & University of Melbourne “Managing Costs and Cost Structure throughout the Value Chain: Research on Strategic Cost Management.” In Chapman, Hopwood, & Shields (Eds.). Handbook of Management Accounting Research. Also: http://ssrn.com/abstract=869070

  27. Integration isn’t new… In the 1980’s and early ‘90s, the primary domain of integrative research was performance measurement • Relating lean operations strategies to performance and cost structure • Product design and development strategies • Inventory management strategies • Process quality strategies • Technology investment strategies • Workforce management strategies • Designing information systems to reveal hidden costs of… quality, time, customers, suppliers (ownership) Summary: Management accounting and operations management research are linked because better operating strategies are apparent when performance is properly measured

  28. The domain for integration has expanded… Within the firm Performance management developing comprehensive, causal models that relate operational performance to financial performance Lean operations span firm boundaries Management Control promoting cooperation and coordination between self-interested firms in settings with information asymmetry, uncertainty, asset specificity, etc. Performance measurement measuring performance of all participants in the value chain

  29. Integrated Research in Performance Management Similar Frameworks • Management Accounting: The Balanced Scorecard & Strategy Maps – Kaplan and Norton (1996, 2000, 2004) • Operations: The Service Profit Chain – Heskett et al. (1997, 2002) • Marketing: Customer Equity Framework – Rust et al. (2000)

  30. Causal Relations among Performance Indicators Return on Capital Employed (ROCE) Operating Expenses Financial Sales Customer Satisfaction On-time delivery Customers Shorter Cycle Time Lower Rework Process Quality Internal Business Processes Employee Skills Employee Suggestions Employee Morale

  31. Integrated Empirical Research in Performance Management Descriptive validity of causal models • Workforce managementIttner & MacDuffie (1995), Schneider et al. (2003) • Quality & Cycle Time Maher & Marais (1998), Nagar & Rajan (2001), Hendricks & Singhal (2001) Kaynak (2003), Sedatole (2003) • Inventory Mgmt & Supply ChainBalakrishnan & Linsmeier (1996), Randall & Ulrich (2001), Hendricks & Singhal (2005) • Customer satisfactionRust & Zahorik (1993), Itter & Larcker (1998), Foster & Gupta (1999), Anderson et al. (1994), Yeung & Ennew (2000), Banker et al. (2000), Heim et al. (2001) • Multiple causal links Soteriou & Chase (1998), Behn & Riley (1999), Rust et al. (2000), Verma et al. (1999, 2001, 2005), Kamakura et al. (2002) Goldstein (2003), Roth & Menor (2003), Hitt & Frei (2002)

  32. Integrated Empirical Research in Performance Management Behavioral response to multiple performance measures • Reallocation of work effort Ulrich & Tuttle (2004) • Cognitive processing of complex performance information Lipe & Salterio (2000), Dearman & Shields (2001), Ittner & Meyer (2003), Banker et al. (2004), Libby et al. (2004), Roberts et al. (2004)

  33. Integrated Empirical Research in Management Control Cost-minimizing organizational forms • Product design & development: Ulrich & Eppinger (1995), Wasti & Liker (1997), Seal et al. (1999), Novak & Eppinger (2001), Randall & Ulrich (2001), Cooper & Slagmulder (2003, 2004) • Process development: Walker (1994), Anderson, Glenn & Sedatole (2000) • Linked supply & distribution logistics: Dyer (1996), Netessine et al. (2005)

  34. Integrated Empirical Research in Management Control Inter-organizational Management Controls • Formal Contracting: Gietzmann (1996), Gulati & Singh (1998), Mayer et al. (2004), Anderson & Dekker (2005) • Decision-making processes: Clark & Fujimoto (1991), Ring & Van de Ven (1992, 1994), Nixon (1998), Ulrich and Eppinger (1995), Anderson, Glenn & Sedatole (2000), Thomke & Fujimoto (2000), Davila & Wouters (2004, 2006), Van der Meer-Koistra & Vosselman (2000), Dekker (2004) • Knowledge sharing with suppliers & partners: Tani (1995), Krishnan et al. (1995), Robertson & Ulrich (1998), Seal et al. (1999), Thomke & Fujimoto (2000), Kajuter & Kulmala (2005), Terwiesch et al. (2005) • Knowledge sharing with distributors & customers: Srinivasan et al. (1997), Anderson & Lanen (2002), Kulp et al. (2004) • Supplier selection and performance measurement: Carr & Ittner (1992), Carr & Ng (1995), Meyer et al. (1997), Dekker (2003, 2005), Wouters et al. (2005)

  35. Opportunities for Integrative Research Extended Horizon: Lifecycle Costs & Sustainable Profits • Internalizing and creating visibility for externality costs and costs of compliance – Lanen (1999), Joshi et al. (2001), Corson (2002), Epstein & Widener (2005) • New cost and control settings: Product recovery & disposal, Reverse supply chain, Markets for pollution credits Extended Value Chain: Customers as value chain partners • Customer switching costs – Keaveney (1995), Chen & Hitt (2002), Womack & Jones (2005) • Customer/ Channel choice – Hitt & Frei (2002), Campbell (2003)

  36. Opportunities for Integrative Research Dynamics: Applied Risk Management • Operational decisions as real options • Product design – Baldwin & Clark (2000), Krishnan & Gupta (2001) Desai et al. (2001), Lee & Billington (1995), Lee & Tang (1997) • Process technology & capacity – Moel & Tufano (2002), Weiss & Maher (2005), Kallapur & Eldenburg (2005) • Measuring and managing performance volatility • Incentives and controls to induce optimal risk-taking Theory Base: Testing cognitive and behavioral theories in the (service) operations management setting • Unique features of the Employee-Customer interface • Judgment and decision making processes • Incentive issues

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