What's the 'best' approach to profitability management reporting?

• Author: Najarian, Gerald
• Position: QUICK STUDY

Financial executives are besieged with profitability management reporting techniques and schemes. With all of this confusing input, executives should keep in mind that the "best" profitability management reporting approach is the one that closely mirrors the economics of the company.

Recently, 18 financial executives gathered at FEI headquarters for one of the New Jersey Chapter's bi-monthly Peer-to-Peer Forums to discuss profitability management reporting, which was moderated by this author. These forums are an opportunity for senior executives to discuss real-world issues and challenges in an informal, confidential setting.

The hour-and-a-half session covered a wide variety of topics intended to identify the best approaches to presenting profitability to management with the best level of aggregation, detail and composition. The session focused on overall principles of economics-based analysis and reporting, rather than specific techniques. In this way, executives from diverse industries and backgrounds would be able to garner ideas useful to their unique situations. Below are some of the conclusions that were reached by the group.

Aggregation Levels. Executives generally agreed that detailed reporting at the unit or product level had limited value, while higher-level aggregation allowed for better ongoing analysis and management decisions regarding pricing, cost management and expansion/diminution of products and services.

The participants favored groupings ranging from lines of business within a division to entire divisions, both of which created a better understanding and management of profitability. Some of the lines of business were identified by markets served, product/service characteristics and operations. Whatever aggregated approach was used, the group agreed that a contribution margin reporting approach to the profitability presentation was most enlightening for management.

Cost Behavior. All the executives agreed that costs exhibit little variability, with most costs associated with the passage of time. These are commonly known as "period costs." The importance of cost behavior to profitability management reporting was recognized by the group in relation to contribution margin reporting and to assignment to service lines and to divisions.

Recognition of costs as infrastructure oriented suggests that modern financial executives have shed the variable/fixed assumptions of the previous generation of managers and are seeing costs...