Linking Strategy to Operations: Balanced Scorecard and Activity-Based Costing Co-Creator Shares Insights on Evolution of Management Accounting Tools

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Harvard Business School professor Robert S. Kaplan is co-developer of both activity-based costing and the balanced scorecard. In 2006, Kaplan was elected to the Accounting Hall of Fame, and received the Lifetime Contribution Award from the Management Accounting Section of the American Accounting Association. In 2008, the Institute of Management Accountants honored him with a Lifetime Award for Distinguished Contribution to Advancing the Profession of Management Accounting. The following is an edited transcript of a recent interview with the JofA.

JofA: Could you give a summary of how you've come to work with activity-based costing and balanced scorecards?

Kaplan: This journey started in the 1980s when I became exposed to the changes and innovations that were going on in management primarily through the Japanese management approach, which included total quality management and just-in-time inventory And I realized that, if what I was hearing from practice was true, it undermined what we had been teaching and doing research on and actually practicing for the last 75 years. In effect, new approaches would be needed for both costing and performance measurement.

From that stage on, I started working on solutions. We found a few companies that had developed more accurate ways of assigning overhead costs to products and customers. That's how the activity-based costing (ABC) movement started. But even these improved financial metrics captured only what was happening with physical and financial assets, not the organization's intangible assets. The Japanese were gaining advantage through training and motivating their employees, improving the quality of processes, and working better with suppliers and customers--a whole set of performance capabilities that would not be picked up by periodic financial statements.

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In 1990, David Norton and I developed the balanced scorecard (BSC), which retained financial metrics but supplemented them with metrics on the company's performance with customers, processes, and people and culture. This was an independent development from ABC, which addresses, "What are the costs associated with our existing processes, products and customers?" The balanced scorecard responds to, "Are we creating current and future value for our shareholders and customers?"

JofA: In the United States, how do you see the implementation of activity-based costing progressing?

Kaplan: I think there was a clear upsurge of interest starting in the mid-1980s when we introduced the concept. I detected a falloff in the late '90s and early part of this decade, just because the approach that we introduced ended up being too complex to implement.

People worried about subjectivity from people's estimates about their distribution of time, and it was difficult to keep the cost estimates up to date. Processes changed, and the cost of re-interviewing people was high. I think that ABC's use has gone down because people tried it, and it just proved too difficult. But I think the new approach, time-driven ABC, which Steve Anderson and i introduced, addresses these problems and makes ABC much more accessible and realistic for all enterprises.

Time-driven ABC works at the transaction and order level, and estimates directly the resource capacity (usually time) needed to process a transaction, build and deliver a product, and service a customer. It eliminates the need for subjective time estimates, which makes it easier to implement. And by directly linking processes to transactions, it is more flexible and accurate since variations in resource consumption can be readily modeled. ERP systems, which did not exist in the 1980s, now are widespread so the data for costing directly from transactions is now feasible.

Many accountants and finance professionals may not yet realize the simplicity and power of this new approach. …