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Leaving government agencies and not-for-profit organizations aside, the accounting profession can be
divided into two camps, financial and managerial. Each has an important role in creating an economic
environment where commerce can thrive. The former has the responsibility of developing and
reporting financial information for external users such as current and potential investors to aid in the
macroeconomic process of efficient allocation of capital. The latter, the managerial camp, has the task
of providing information to internal managers to aid in their quest to create investor return, a more
microeconomic process focused on providing relevant and timely cost information to drive optimized
performance. This chapter focuses on the challenge of how one builds such a relevant management
accounting system.
In 1987 Harvard Business School Press published an interesting research study on U.S. economic
history by H. Thomas Johnson and Robert S. Kaplan entitled Relevance Lost: The Rise and Fall of
Management Accounting. Johnson and Kaplan found that in the late 1800s through the early 1900s, as
a result of work by business analysts such as Frederick Taylor, Alexander Church, and J. Maurice
Clark, leading U.S. firms developed relatively sophisticated management accounting systems that
were instrumental in the overall emergence of the post-industrial revolution American manufacturing
sector. Carnegie Steel, both Ford and General Motors, and many of the railroads had sophisticated
systems that produced daily reports connecting input factors to outputs, enabling management to
optimize their systems. Management accounting was the dominant sector within the accounting
profession.
Over time, two factors reversed this dominance, and the result had a negative influence on
American competitiveness in the emerging global business environment. First, business processes
became more complex as consumers demanded an expanded mix of product choices. Henry Ford was
famous for his statement “You can have any color you want as long as it is black”; but that era ended
with Alfred P. Sloan at General Motors indeed offering choice of not only color but also body style
and other features. The process of developing relevant cost information where joint resources now
produced this expanding mix of outputs required much more detail within these cost systems. At the
same time, the rise of capital markets in the 1920s and the regulations that followed in the 1930s led to
the increasing importance of financial information. But corporate annual reports required only that
costs be reported in the aggregate, such as total cost of goods sold and sales, marketing, and
administrative expenses. The focus on detailed cost information for the expanding mix of products
needed to satisfy consumer demand became less important. By the late 1940s, further development of
management accounting systems had all but ended.
The increasing operational complexity driven by consumer demand for more choice drove increased
costs. As stated earlier, financial accounting systems did not require detailed accounting for this
increased complexity, and management accounting systems were not modified to capture this
complexity. As a result, the costs were simply aggregated and charged to products based on factors
readily available within the financial systems. For example, overhead was aggregated in total for a
production floor and then allocated based on labor hours, labor dollars, or some similar method. This
overhead was spread like peanut butter over the product mix with no logical basis, and, as the
overhead component of production cost increased during this time period, so, too, did the error.
Interestingly, this, however, had minimal impact on U.S. business success for the next two decades, as
evidenced by a comment from a Continental Can division manager: “Does it hinder our ability to
compete? Probably not, because we‟re no dumber than our competition.” 1
But the post-World War II emergence of Japanese and European competition ended this era of
unawareness. Unfettered by legacy infrastructures, the rebuilding of their business systems allowed