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Fraud at Olympus

Internal controls and fraud are not really an area that I write a lot on. Just before Christmas I read this article from CIMA about fraud at Japanese firm Olympus. It includes interviews with Michael Woodward, who was at the heart of putting things right. The are a lot of issues in the article and it is worth a read.

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Business recovery plans – a must, but a cost?

20120711-135622.jpgThis summer, customers of the Irish based Ulster Bank faced 3-4 weeks of problems getting paid and paying bills as the banks payment system failed. Customers had to queue to get cash from their accounts and go to other banks to pay bills- see my post 2 weeks ago about how some countries are limiting the amount that can be paid in cash; these limits would be too low to pay a mortgage in Ireland for most.

When I worked in a paper firm, I was involved in the decision to set up a simple business recovery plan. At the time, I was IT manager at a plant with about €30m turnover and 150 staff. The whole place was more or less run by a single system which managed sales orders, production planning and invoicing. We had a server onsite which done all this. This was not always so, so once I realised we were so dependent on a single piece of hardware/software I initiated a discussion with the plant management board to get a recovery plan in place. To keep it brief the cost of having a server available to us at any location within 4 hours was €7000 per annum. As part of the contract we could also do a free trial run once a year to test how long it would take to recover our systems. I always remember the production manager saying this was a cheap deal as if we had no systems we would basically loose wall customers within a week. And all we did was made cardboard boxes. Surely a bank should have a much better system in place. The cost does not really matter in the decision, it’s much more about the list revenue and lost customers.

The photo by the way comes from a friends Facebook page .

The effect of volume on viability – a CVP and investment example

In January 2011, a long-planned €350 million plan to build a 600,000 tonne incinerator near Dublin port finally seen work commence on the build. As you might imagine there have been many protests against the project, which would be privately operated. At the same time, the four Dublin local authorities were also planning a land-fill site north of the city.  However, in January 2012, the Irish Times reported that the land-fill site plan has been scrapped. It seems that the volume of waste now being generated in Dublin does not merit a new land-fill site.  And, indeed the need for the incinerator too is being questioned. It seems that due to a combination of increased recycling and lower economic activity that the volume of waste has decreased dramatically. As a management accountant, I think of this from two angles. First, from a capital investment view, someone had to decided the ultimate size of an incinerator. This would be based on a combination of commercial viability and waste volume I assume. Second, from a cost-volume-profit (CVP) view, I wonder has anyone considered the effects of volume on the “profit” (i.e. viability) of the incinerator. According the to the Irish Times article, the volume of the incinerator should be halved – which I think should mean a full re-examination of the costs and investment involved. Of course, the counter argument is it is better to have spare capacity for cover for future increases in waste generated (e.g. improved economic activity, increasing population)

Operating leverage explained

Operating leverage refers to relative amount of costs that are fixed and variable in the cost structure of a business. Some companies will have relatively high fixed costs compared to variable costs and are said to have a high operating leverage. For example, pharmaceutical companies incur up to $1billon to develop new drugs over a 10 to15 period[1], whereas the manufacture cost pennies – just think of the price of a pack of paracetemol in your local pharmacy. Low operating leverage means variable costs are a relatively high proportion of total costs. Retailers like Tesco or Sainsbury have relatively low fixed costs and relatively high variable costs – the variable cost of each item sold (e.g. the purchase price) is likely to be much higher than the associated fixed cost for that item. The degree of operating leverage of a company can be used to assess its risk profile. Companies with high operating leverage are more vulnerable to decreasing sales e.g. sharp economic and business cycle swings. Companies with a high level of costs tied up in machinery, plants and equipment cannot easily cut costs to adjust to a change in demand. So, if there is a downturn in the economy revenues and profits can plummet. On the other hand, companies with lower operating leverage can adapt their cost structure more rapidly as it has more variable costs.


[1] http://www.washingtontimes.com/news/2009/mar/13/blocking-drug-development/ accessed  Dec 4th, 2009

Problems at Honda?

Following the earth quake and tsunami in Japan earlier this year, car manufacturers faced many problems. One I have wrote about previously, namely the fact that supplies of components dried-up after the disaster due to the close-knit just-in-time management systems used. The Economist provided another example from Honda recently. Honda launched their new Civic model in April/May this year. The problem of course was whether or not the company could actually deliver enough cars to meet demand, due to production disruption and supplier problems. Other car manufacturers, particularly US ones, would of course benefit.  However, for Honda the short term seems still slightly troublesome

Problems at Honda?

Following the earth quake and tsunami in Japan earlier this year, car manufacturers faced many problems. One I have wrote about previously, namely the fact that supplies of components dried-up after the disaster due to the close-knit just-in-time management systems used. The Economist provided another example from Honda recently. Honda launched their new Civic model in April/May this year. The problem of course was whether or not the company could actually deliver enough cars to meet demand, due to production disruption and supplier problems. Other car manufacturers, particularly US ones, would of course benefit. However, for Honda the short term seems still slightly troublesome

Just in case or just-in-time?

Just-in-time is a management concept originating from Japan. The basic idea is that everything happens “just-in-time”; materials and supplies arrive just in time for production to start, and production finishes just in time for the customer to take it. With not much room of error, if a supplier fails to deliver goods on time production is disrupted and may even cease. Normally companies that use the  just-in-time philosophy have close supplier relationships and tend not to run into supply problems. The savings from reduced inventory levels are obvious. Recent events in Japan however have raised issues about how tight things can get with just-in-time. A disastrous earthquake/tsunami in March this year left parts of Japan’s east cost in ruins. Factories were destroyed and power supplies disrupted for months.  An article in The Economist (March 31, 2011) mentions how global firms are re-thinking how the manage production following events in Japan. According to the article, one company that controls 90% of the market for a resin is in smartphones had ceased production. Another company which supplies 70% of the global supply of a polymer used in iPod batteries is also out of action. And, car manufacturers in Japan and America have had to cut back on production as parts are in short supply. The events in Japan have prompted some commentators to say a “just-in-case” systems is also needed, according to the Economist.

Risk in business

Any business faces risks at some time or another. Some may be easy to avoid or foresee, and thus measures can be taken to avoid or reduce them. Student Accountant (the ACCA’s student magazine) of June 16th last includes a feature on the recent volcanic ash cloud take caused chaos over European airspace on April this year. It might be something the airlines had not really thought about before now, but you can bet they now include disruption from volcanic ash in their assessment of business risk. The estimated losses from the disruption are in excess of $1bn – not exactly what the already recession hit airline sector needed.  Can all business risks be eliminated ?  Of course not, but businesses can try to minimise or reduce risks. As mentioned in the article,  a four point TARA model can be used to assess risk:

Transfer
Transfer the risk to another organisation such as an insurance company.
Accept
Sometimes this is the only option open with some risks that cannot be controlled, or are not cost-effective
to control.
Reduce
Less likely here (after all, it may be hard to do anything to stop the volcano erupting!) and so may not be relevant
in this case.
Avoid
For example, never let your key staff out of the country, or place business travel restrictions on senior decision
makers (at the very least put them all on separate flights – consider the recent Polish government air disaster).
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