Identify Pitfalls in a Role Based Control Case Study Scenario Navy Research and Development Case ©...

Identify Pitfalls in a Identify Pitfalls in a Role Based Control Case Study ScenarioRole Based Control Case Study Scenario

Navy Research and Development CaseNavy Research and Development Case

© Dale R. Geiger 2011 1

Ever Wonder Why Overhead is Often Ever Wonder Why Overhead is Often Called “Burden”?Called “Burden”?

Terminal Learning ObjectiveTerminal Learning Objective• Task: Identify Pitfalls in a Role Based Control Case

Study Scenario• Condition: You are training to become an ACE with

access to ICAM course handouts, readings, and spreadsheet tools and awareness of Operational Environment (OE)/Contemporary Operational Environment (COE) variables and actors.

• Standard: with at least 80% accuracy• Discuss role based control issues related to support

functions• Describe various allocation solutions for support functions• Calculate step-down allocation


SPAWAR Systems Center-PacificSPAWAR Systems Center-Pacific

• Very high tech R&D funded by project basis• Funding process required total cost by project for

proper reimbursement• Organized into research divisions with numerous

centralized support functions • Safety (as shown in last segment)• Facilities (the focus of this case) and• Many others

Proposed Change in Distribution of Proposed Change in Distribution of Facilities CostFacilities Cost

• Situation: meeting at Navy R&D lab• Reviewing a distribution of San Diego facilities

cost to operating divisions• Existing method allocated based on labor• Proposed method allocated based on square

feet occupied

Division 30 40 50 70 80 TotalLabor Basis ($M) 2.3 5.1 2.4 3.8 3.7 17.3Footage Basis ($M) .0 4.0 4.6 4.1 4.6 17.3Change ($M) 2.3 1.1 (2.2) (.3) (.9) -

Chaos ResultedChaos Resulted

• Division 30 wasn’t represented as they were located in Pennsylvania

• Division 40 didn’t say a word• Divisions 50, 60, and 70 strongly objected to the

methodology, purpose, and change• The meeting deteriorated until the commander

exercised his leadership role


Leadership Driven ManagementLeadership Driven Management

• The Commander stated:• “Look, we’ve got to get our overhead down”• (Management need awareness)

• “There are two ways to do this. One is to use the Soviet Method and I’ll make all the decisions”• (Centralized management paradigm)

Leadership Driven ManagementLeadership Driven Management

• “The alternative is to use free market economics”• (Decentralized management paradigm)

• “Activity based costing will tell you what things really cost”• (Actionable cost measurement capability)

• “I’ll look to you to make the right decisions. Which do you want?”

NRaD Facilities Allocation RevisitedNRaD Facilities Allocation Revisited

• Simple, direct allocation of facilities to line divisions on the basis of occupied space made sense to the CO

• Division 40 was growing rapidly (and was short space) while Division 50 was declining (and had a lot of space)


NRaD Facilities Allocation RevisitedNRaD Facilities Allocation Revisited

• HOWEVER, the Commanding Officer had a major concern about the cost model:• Motivated line departments to reduce but• Did not put similar pressure on overhead

• The unintended consequence would be:• Line functions vacating space• Overhead functions moving in

• Advanced allocation issues had to be considered

A Generic Problem: Allocating Overhead to A Generic Problem: Allocating Overhead to Overhead FunctionsOverhead Functions

• Support functions support other support functions• Payroll function serves accounting and

administration• Personnel department consumes facilities

resources• Accounting uses computing services

• How should this be handled?

Learning Check Learning Check

• What was the Commander’s Intent for the R&D lab?

• What problems can arise when support departments support other support departments?


Allocation AlternativesAllocation Alternatives

Direct, SimpleDirect, Simple

Step DownStep Down

Reciprocal Reciprocal

Direct, Simple AllocationDirect, Simple Allocation

• Follows methods already covered in this course

• Allocates cost pools directly to cost objects• Advantage: Advantage: easiest to use and explain• DisadvantageDisadvantage: may provide free goods to

support functions

Direct Simple AllocationDirect Simple Allocation

Support XSupport X Support YSupport Y Support ZSupport Z

Core ACore A Core BCore B

Step Down AllocationStep Down Allocation

• Allocates first cost pool to other cost pools and cost objects

• Allocates second cost pool to other cost pools (less first pool) and cost objects

• Etc, Etc, Etc• AdvantageAdvantage: prevents most free goods• DisadvantageDisadvantage: increases the complexity and

cost of cost system

Step Down AllocationStep Down AllocationFirst StepFirst Step



Step Down AllocationStep Down AllocationSecond StepSecond Step


Step Down AllocationStep Down AllocationThird StepThird Step


Reciprocal AllocationReciprocal Allocation

• Recognizes consumption of all resources by all support functions

• AdvantageAdvantage: prevents free goods• DisadvantagesDisadvantages: • Increases the complexity and cost of cost system

(less affordable)• Decreases the understanding of results

(less credible)• Provides excuses (less useful)


• Create a system of “n” equations in “n” unknowns where:• Matrix [D] represents fraction of services

consumed• Matrix [E] represents the vector of service costs• Matrix [B] is the transpose of the reciprocal cost

vector, • Then: [E] = [B] [D]T

T

Simple Reciprocal Allocation Example:Simple Reciprocal Allocation Example:Two Activities and Two Cost ObjectsTwo Activities and Two Cost Objects

• Payroll costs $700 and supports itself (1%), Receiving (2%), Code 30 (25%) and Code 40 (72%)

• Payroll reciprocal cost (PRC):

• Receiving costs $1000 and supports itself (1%), Payroll (1%), Code 30 (40%) and Code 40 (58%)

• Receiving reciprocal cost (RRC):

• This gives us two equations in two unknowns

PRC = 700 + .01PRC + .01RRCPRC = 700 + .01PRC + .01RRC

RRC = 1000 + .02PRC + .01RRCRRC = 1000 + .02PRC + .01RRC

Reciprocal AllocationReciprocal AllocationPayroll Receiving 30 40 Total

Cost Incurred

700 1000 1700

Payroll Cost (add)

7 14 179 517 717

Receiving Cost (add)

10 10 410 594 1024

Allocated(subtract)

-717 -1024 -1741

Final Cost

0 0 589 1,111 1,700



Cost Incurred

700 1000 1700

Payroll Cost (add)

7 14 179 517 717


10 10 410 594 1024

Allocated(subtract)

-717 -1024 -1741

Final Cost

0 0 589 1,111 1,700


Learning CheckLearning Check

• What is the primary advantage of the simple, direct method?

• What is the primary advantage of the reciprocal method?


Demonstration Problem Demonstration Problem (part 1)(part 1)

• Payroll costs $700 and supports itself (1%), Receiving (2%), Code 30 (25%) and Code 40 (72%)

• Receiving costs $1000 and supports itself (1%), Payroll (1%), Code 30 (40%) and Code 40 (58%)

• Prepare a step-down distribution allocating payroll first and then receiving



• Step one: define the hierarchy of support• May be based on significance (largest first)• Or on desired behaviors (eliminate free goods)

• In our case, we want to motivate wise consumption of payroll resources

• We will allocate payroll first• Ignore payroll’s allocation from itself and from

receiving• Allocate payroll to receiving and to codes 30 and 40


Step Down AllocationStep Down AllocationPayroll Receiving 30 40 Total

Cost Incurred

700 1000 1700

Payroll Cost (add)


Allocated(subtract)

Final Cost



Cost Incurred

700 1000 1700

Payroll Cost (add)

14 177 509 700


Allocated(subtract)

Final Cost


Step 2: Allocate first support activity to support and line functions


Cost Incurred

700 1000 1700

Payroll Cost (add)

14 177 509 700


Allocated(subtract)

-700

Final Cost



Cost Incurred

700 1000 1700

Payroll Cost (add)

14 177 509 700


414 600 1014

Allocated(subtract)

-700

Final Cost


Step 3: Allocate second support activity to line functions


Cost Incurred

700 1000 1700

Payroll Cost (add)

14 177 509 700


414 600 1014

Allocated(subtract)

-700 -1014 -1714

Final Cost



Cost Incurred

700 1000 1700

Payroll Cost (add)

14 177 509 700


414 600 1014

Allocated(subtract)

-700 -1014 -1714

Final Cost

0 0 591 1109 1700


Discussion on Step-DownDiscussion on Step-Down

• Theoretically we would repeat the steps for each activity in the hierarchy

• What are the implications?• What solutions might you suggest?


Suggested Step Down HierarchySuggested Step Down Hierarchy


Most Important Most Important Support ActivitySupport Activity

XXSupport YSupport Y Support ZSupport Z

Demonstration Problem Demonstration Problem (part 2)(part 2)

• Ignore the allocations from and between payroll and receiving• Apply direct simple allocation• Report Code 30 and Code 40 allocations cost

• Compare the results from the three methods


Direct, Simple AllocationDirect, Simple AllocationPayroll Receiving 30 40 Total

Cost Incurred

700 1000 1700

Payroll Cost (add)


Allocated(subtract)

Final Cost



Cost Incurred

700 1000 1700

Payroll Cost (add)

180 520 700


Allocated(subtract)

-700

Final Cost



Cost Incurred

700 1000 1700

Payroll Cost (add)

180 520 700


408 592 1000

Allocated(subtract)

-700 -1000 -1700

Final Cost



Cost Incurred

700 1000 1700

Payroll Cost (add)

180 520 700


408 592 1000

Allocated(subtract)

-700 -1000 -1700

Final Cost

0 0 588 1112 1700


Compare the Three MethodsCompare the Three MethodsPayroll Receiving 30 40 Total

Reciprocal 0 0 589 1111 1700

Step-Down 0 0 591 1109 1700

Simple 0 0 588 1112 1700


What have you learned?

• What is the first step in the step-down allocation process?

• What is the main advantage of the step-down method


Learning CheckLearning Check

Recommendations – Pitfall AvoidanceRecommendations – Pitfall Avoidance

• Keep it simple • Allocate most support functions directly to

cost objects• Take exception rarely and thoughtfully• Facilities• Automated data processing

• Handle exceptions with step down method instead of reciprocal

Step Down Method Recommended Step Down Method Recommended to NraD Commanding Officerto NraD Commanding Officer

• Facility overhead first allocated to all line and overhead functions

• Overhead functions included this cost in their budgets and subsequent direct, simple allocations

• Small impact on cost distribution• Significant impact on behavior

NRaD Facilities Conclusion: ResultsNRaD Facilities Conclusion: Results

• Leaders of core functions chose role based control process over “Soviet” Method• Both core and support functions quickly

identified space no longer needed• 35,000 square feet freed in first year with cost

savings and cost avoidance evaluated at $2.3 million per year

• Monthly AAR still conducted 15 years later• Why do you think this process has continued?

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