5 Activity-Based-Costing and Alternative Approaches

5.1 Introduction The basis for the SCM is Activity Based Costing ( ABC) which was introduced in section 1.3 of this report. Given the findings of Workstream 1 and 2, an assessment of the SCM should include reference to the appropriateness of this costing approach to the task of measuring regulatory burden. In this section we consider the success and failure of the application of ABC and the implication this has for the application of the SCM to different sectors and users. This is then linked to the Workstream 1 and 2 study findings and a number of alternative ABC applications and approaches that might also be considered within the Scottish context are presented. This includes for example the broader and simpler Australian Cost Model and the concept of public value. 5.2 Success and Failure of ABC The Chartered Institute of Management Accountants published a research report in 1999, "Success and Failure of Activity-Based Techniques". It defined "clear failure" of an activitybased technique where:

all or the majority of the initial objectives have not been met; no significant benefits have arisen; all further attempts at implementation have ceased.

It then noted the factors that contributed to success:

a compelling business need; managers needed to see tangible benefits at an early stage; support form senior management; broad-based support throughout the company; embedding of the techniques in the company procedures.

Common reasons for failure included:

departure of key individuals; lack of resources; delay; technical difficulties, e.g. in obtaining data; "initiative-overload".

The picture that emerges from the research is that implementing activity-based costing techniques takes effort and that maintaining motivation is important. These research findings have also been confirmed by other authors. In "Towards explaining activity-based costing failure: Accounting and control in a decentralized organization", Malmi (1996) noted:

"Shields (1995), for example, found top management support, linkage to competitive strategies, linkage to performance evaluation and compensation, training in implementing ABC, nonaccounting ownership and adequate resources all positively correlated with ABC success. Cobb et al. (1992), in turn, suggest that the major problems experienced with ABC relate to the lack of adequate internal resources, particularly staff time and computer resources. Anderson (1995) identified 21 factors, related to the individuals involved, the organization structure, the task, the technology employed and the external environment, which influenced ABC implementation at General Motors." This is in line with the difficulties that were encountered in the external SCM exercise of this study presented in section 2.6 as land managers did not have the systems and resources in place to collect costing data at a detailed activity level. Further, with a high level of regulatory burden imposed on land managers already, an "initiative-overload" might also be an important reason for land manager's unwillingness to provide data for the SCM application. In addition, the factors mentioned above that contributed to the success of activity-based costing such as a compelling business need, support from the management and embedded techniques in company procedure might be something that can be applied within larger organisations ( e.g. for the internal SCM exercise) but is clearly unsuitable for small land managers that already feel overburdened with paperwork. 5.3 Alternative International Approaches This research study has considered existing research and information in order to assess the application of the SCM and alternative administrative cost measuring approaches in Europe and across the globe. For instance, an assessment of the "Administrative burden reduction policy boom in Europe" was undertaken by Weirich 5 who compares a number of policy diffusion mechanisms across countries and finds a number of alternative approaches. Europe The SCM has been fully adopted by many countries in the European Union including Germany, the Netherlands, Denmark, Sweden, Austria, the Czech Republic and the UK who have all undertaken a full baseline measure based on the SCM. Other countries have followed the approach and undertaken a partial baseline measure including Belgium, France, Poland and Finland. This is also presented in Appendix B. In addition, Ireland has shown considerable commitment towards a wider better regulation agenda since the early 2000s and is also a member of the international SCM network. However, so far, it has not fully adopted the SCM model. Instead, the Irish government chose to follow the European Commission's prioritised model which focuses on the measurement of a selection of laws that are supposed to include the main cost drivers. This choice was justified by the resource intensity that a full baseline measurement would require and experience in other countries including the UKABME shows that only few laws create 90% of administrative burdens imposed on businesses. More emphasis has been given to developing and improving regulatory design through impact assessments.

North America In the United States, the Office of Information and Regulatory Affairs ( OIRA) is responsible for preparing The Report to Congress on the Costs and Benefits of Federal Regulations. This annual report is an attempt to provide an overall estimate of the costs and benefits of regulations and recommendations for regulatory reforms 6. In addition to this, the multiplier approach is applied to estimate the total cost of compliance for the private sector. This approach has been used in Canada and the US and stipulates that for every dollar that the public sector spends to administer regulatory activity, the private sector spends $20 to comply with government regulation. During the years, the approach has been criticised, but recent research by the Canadian Policy Research Initiative supports the notion that there is a significant relationship between government regulatory expenditures and the regulatory compliance costs imposed on the rest of the economy. Canada recently launched the Regulatory Data Development and Analysis Project to deal with the lack of information on the cost of regulation or the impact of regulations on regulated sectors. The project focuses on taking incremental steps towards building a regulatory knowledge base, on the premise that a concerted effort to collect and organise various regulatory data and information in a systematic and integrated framework, conjoined with a deliberate strategy to build up the regulatory research and analysis infrastructure, will make a vital contribution to Canada's ongoing efforts to improve regulatory management and quality. This sounds similar to the development of a baseline for an activity-based costing approach and is comparable to the ABME exercise undertaken in the UK in 2006. OECD The administrative burden has also been a recurring theme on the OECD's regulatory agenda since the mid 1990s. A range of activities and publications was devoted to the promotion of 'smart tape' rather than 'red tape' and reform measures to simplify regulations in order to reduce administrative burdens placed on businesses. In summer 2005, the OECD launched its Red Tape Scoreboard, which explored the SCM method to cross-nationally 'benchmark' administrative costs in a selected regulatory domain. A pilot was undertaken with 13 OECD member countries which looked at the administrative burdens in the road freight sector and more specifically the burdens linked to the events of 'Hiring a new worker' and of 'Operating a vehicle'. Australia In Australia, the Australian Cost Model ( ACM) was developed based on the Standard Cost Model methodology, but with a broader scope of measurement costs and a reduced level of detail. The ACM was first endorsed for use in the Local Government Incentive Fund, and subsequently was to be used by government departments as a mandatory part of the Regulatory Impact Statement ( RIS) process. The model is used to estimate total compliance costs rather than just the cost of paperwork. This total burden includes direct costs such as the cost of purchases of fixed assets, cost of licences and permits, direct fees and charges, and other purchases not administrative in nature. In addition to this an ACM cost calculator has been developed that uses an activity-based costing method to

provide a consistent measurement of compliance cost for businesses. The Business Cost Calculator can be used for estimating costing of existing regulations. Although the ACM is similar to the SCM, there are some key differences in the two methods, these are: 1. The ACM is simpler. The SCM requires an extensive level of detail about individual activities. For example, for each information obligation, a user of the model is required to specify detail about the time spent on retrieving data, assessing it, correcting it, checking it, meeting about it and so on. The trial suggests that this type of detail is likely to be very difficult to obtain from businesses. The ACM has rationalised and minimised the number of costs covered as internal costs and thus made this part of the model simpler. It does not require collection of cost information at detailed activity level. 2. The ACM is broader in scope. The ACM was designed for working out the consequences of different policy options covering all types of compliance, rather than only administrative costs and therefore has potential to incorporate a broad range of costs. In contrast, the SCM limits the scope of costs to include only "administrative burdens". Whilst the ACM was built primarily for government use, the model was made available to businesses to facilitate preparation of their own cost estimates which is something that could also be considered for future measurements in the UK. In 2006, Price Waterhouse Coopers ( PWC) was commissioned to compare the ACM) and the SCM for application in New Zealand 7. The key findings of their report are reproduced below:

The Australian model appears better suited to NZ conditions and has the potential to add value to the government's regulation making processes. The model offers a means to obtain better quantitative and qualitative estimates of the compliance costs falling on business. The model could also facilitate a better engagement by government with the business community. Either model can only complement other policy development tools such as regulatory impact analysis and cost-benefit analysis. The implementation of either model is the challenging part including, in particular, the resources and expertise needed to undertake surveys, and the level to which information can be broken down. Consideration should be given to how the model is to be implemented within agencies, particularly given the resource requirements, data availability and scope for design changes to be made to proposals based on the results of applying the model ( e.g. if businesses are asked to spend time in completing the model, they will want to see tangible benefits to their regulatory environment).

The effort expended gathering data for the models should be proportional to the importance to the economy of the costs under consideration. An economy the size of New Zealand will not be able to support the same level of analysis as the European countries.

The last comment may be especially pertinent to Scotland, which has a similar population to New Zealand and the NZ experience might provide a way forward for the costing of regulatory burdens in Scotland. The above findings lend weight to the argument that the ACM might be the more suitable model if a standard costing model is to be applied to Scottish agriculture. The findings are also in line with the current study which has found that:

attempts to measure the costs of regulation within SEARS partners (Workstream 2) proved difficult, even though one might have expected more activity-related information to be available; attempts to survey administrative costs amongst land mangers directly (Workstream 1) was deemed impractical.

The following section outlines additional factors that could be taken into account when measuring the administrative cost of regulation that are not considered within the ACM or the SCM. 5.4 Additional measurement factors not captured within ABC The scope of costs in the ACM is broader compared to the SCM and can include indirect costs of compliance, for example the need to modify business processes to comply with a regulation. However, a number of costs are not included with these activity-based-costing approaches. These include:

The opportunity cost of loss revenue, from perhaps being prevented from pursuing new business. In the extreme case, a regulation may eliminate or force the relocation of an entire industry, so there are no organisations locally available to contact to assess the costs of a regulation; The cost of ancillary effects, e.g. the costs arising from the need to disclose confidential information that could be used by rivals; The benefits of ancillary effects, e.g. the administration of Value Added Tax imposes an administrative burden on companies but an ancillary benefit is that it improves the keeping of records in companies, which may otherwise be informally kept in small companies. The cost of loss of leisure, unless it is costed at a proxy hourly rate (which itself requires assumptions on quantifying leisure time)

Accounting for some of these effects involves difficulties in principle as well as measurement. For instance, if disclosure of information enhances competitive forces this would disadvantage the business being regulated but would yield social benefits.

There are also some more fundamental issues regarding the various ABC models used to measure regulatory burden:

There is no attempt to measure the value for money of regulation. While a cost is incurred by a regulation there is no visibility of the cost or benefit of the regulation being removed. This would involve the definition of outcomes arising from the regulation and attachment of value measures to those outcomes. There is no attempt to separate out the cost of inefficiency. If a regulation is costly to service because a company is inefficient in servicing it; this may not be considered a genuine cost. A life-cycle perspective may be required for some regulations, with costs perhaps being higher initially but reducing later due to learning effects. A stochastic approach to regulations may be appropriate in some cases. For example a regulation may have negligible costs for many years but an external event, e.g. a disease outbreak, could make compliance very expensive.

Finally, the highly disaggregated nature of data collection on an activity-by-activity basis for each regulation may obscure root-cause analysis, to identify common factors which drive costs across many regulations, or the interdependencies between regulations ( e.g. if regulations need to be complied with simultaneously rather than being evenly spread this may give rise to overtime pay). Identifying cross-cutting factors would improve the potential for opportunity identification. 5.5 Broader Concepts of Public Value While the previous section provided information on additional measurement factors that are not captured with ABC, this section looks at an alternative, more holistic concept of adding value rather than simply measuring costs. The concept of Public Value was proposed by Mark Moore 8 at the Harvard Kennedy School of Government in the mid-1990s to 'lay out a structure of practical reasoning to guide managers of public enterprises'. This concept does not account for the importance of the administrative burden as the SCM does and it has gained wide acknowledgement since its introduction. Douglas Alexander, the then Cabinet Office minister, suggested that 'the concept of "Public Value" offers a useful way of setting out the ultimate goals of public service reform and our performance in achieving them'. In developing a strategy for a public sector organisation or a partnership of public sector bodies such as SEARS, a public manager must test the strategy from three aspects (strategic triangle): 1) It must be substantively valuable 2) It must be legitimate and politically sustainable 3) It must be operationally and administratively feasible

The strategic triangle differs from the classic tradition of public administration as the traditional approach does not focus a manager's attention on questions of purpose and value or the development of legitimacy and support. Managers should interact with the political system not simply through the medium of their mandated purposes but instead through more continuous and interactive dialogues. By focusing on Public Value, public managers are encouraged not just to focus on delivering mandated services but to take a more proactive and entrepreneurial approach and to consider the collective Public Value to a wider society which may benefit from their work. The argument runs that that public managers are not independent of politics and should take integrated responsibilities for both political management and operational management. On the one hand, public managers should look up towards politics because they must often engage actors beyond the scope of their direct authority. Political management is therefore needed for mobilizing support, legitimacy, and coproduction. Three key approaches of political management have been identified: 1. Entrepreneurial Advocacy What a public manager needs to do to maximize the chance that his/her preferred policy will be authoritatively adopted and solidly backed 2. Negotiation Public managers should negotiate for external support to deliver Public Value 3. Leadership To use government authorities to create environments in which the citizens who face collective problems can decide together what they would like to do On the other hand, Public Value can be produced through operational management by: 1) increasing the quantity or quality of public activities per resource expended; 2) reducing the cost used to achieve current levels of production; 3) making public organisations better able to identify and respond to citizens' aspirations; 4) enhancing the fairness with which public sector organisations operate; and 5) increasing their continuing capacity to respond and innovate The key question is how to measure Public Value as opposed to Administrative Burden.

The fundamental difficulty in measuring Public Value lies in the fact that the public sector lacks a single 'bottom line', as in private sector profit, which is comparable across different types of public service organisations. In tackling this issue, inspired by current research in performance measurement, the Public Service Value Model was developed by Accenture. As shown in Figure 5-1 below, the Public Service Value methodology measures how well an organisation, or a series of organisations, achieves outcomes and cost-effectiveness year after year. Figure 5-1 The Public Service Value Model

Under the Public Service Value methodology, an organisation's performance in creating Public Value is measured in two dimensions, namely the Outcomes and Cost Effectiveness. The following stages are defined in the methodology to develop the Public Service Value Model: Stage 1: Define Outcomes and Metrics 1) Research your organisation's building blocks to develop a draft outcome list 2) Hold internal workshops to validate and weight outcomes 3) Gather and filter list of metrics with internal managers and other industry experts Stage 2: Calculate Outcome and Cost-effectiveness Scores The Public Service Value methodology defines cost-effectiveness as the outcomes that an organisation has achieved against the cost incurred. Stage 3: Creating the Public Service Value Performance Matrix and Analyzing Results

This approach is a potential alternative to the SCM as it does not require the measurement of administrative costs to businesses which is an advantage since the measurement in itself imposes a burden on business managers and data might not be available in the required format. However, it must be noted that this approach is predominantly an academic approach and its application in practice is still limited. 5.6 Conclusion to Alternative Approaches Since the application of the SCM approach seemed problematic both for land managers and SEARS partners, a review of alternative approaches was also undertaken. It was found that the international trend is generally to apply the SCM as it is done by many countries in Europe and the OECD in their Red Tape Scorecard Pilot or to apply an adapted version of it as it is done for example in Australia and Ireland. Despite its weaknesses and gaps, the SCM or some similar activity-based costing approach can be a useful benchmarking tool in order to measure administrative costs and enable cross-country comparison. The weaknesses and gaps can be overcome by clearly setting out information requirements in advance, providing incentives for participation and by extending its scope as appropriate. While other approaches such as the concept of public value have been considered, these are relatively academic and activity-based-costing approaches are often the tool of choice in terms of international benchmarking. Australia for instance has adapted the SCM to make it simpler and broader and a previous research study found that the Australian Cost Model ( ACM) was more suitable than the SCM to New Zealand. A similar conclusion may well apply to Scotland, although it must be stressed that assessment of the ACM was not part of this study and while it would reduce complexity, a number of identified issues such as the lack of appropriate data systems and the burden imposed would still apply. It is also important to note that this finding relates to the economy in general and not specifically to agriculture.