Cost, Revenue and Cash Flow Drivers

Many moons ago I was Head of Finance at Celltech, the biotechnology company. Some R&D costs were project or department-specific, but others were allocated by the number of people in each section.

Then the first manufacturing process started. Initially the same cost basis was used, but this began to produce bizarre decisions, such as expensively automating a process cheaper to do manually, simply because that didn’t attract such a high overhead allocation. Another approach was needed.

We invented the concept of “cost drivers” to produce more suitable estimates. Costs that only related to R&D only ever got charged to R&D. I was amused to attend a course some years after, only to find these concepts were now called “Activity-Based Costing”.

The point was that if management looked at the results of actual vs budget and asked the simple question “Why are they different” there would be a valid reason, not some fudge due to accounting treatment. We could get to the bottom of any issue, and be able to do something about it.


What is Driving Costs, Revenues and Cash Flow?

But what we didn’t do was identify more directly what was driving costs. Now we would think one stage further and devise a way to monitor anything critical to the health of the company.

So not just what is driving main costs, but also driving revenues and cash flow. So factors like footfall, quote conversion rates and debtor days. Possibly staff turnover if costly or disruptive. Plus drivers in other areas. These Key Performance Indicators can then be reported and managed at the divisional or departmental level.

Out of these would come maybe half a dozen KPIs that would stand out in importance to the business as a whole, and which could be directly controlled. Follow and action these regularly and the financial results would take care of themselves to a significant extent. However as the term KPIs is so often applied to the results such as revenue and profit, I prefer to split KPIs into two distinct types:

• Key Performance Drivers (KPDs)
• Key Results Metrics (KRMs)

Have you consciously made that distinction in your business? And determined what will be important for 2011? It could make 2011 a far more successful year!

Do contact me or ring 01628 632914 if you would like to discuss further.