Competition Watch

Commonwealth Competition Council,         P. O. Box 1475,  Richmond, VA 23218         Vol. 5, No. 1         June 2000
 
 

Food Delivery System Best Practices

On January 26, 2000, the United States General Accounting Office presented its report to the United States Congress on best commercial inventory practices. The report is titled "DEFENSE INVENTORY- Opportunities Exist to Expand the Use of Defense Logistics Agency Best Practices." (GAO/NSIAD-00-30).

The report is a follow up to the requirements of the National Defense Authorization Act of 1998 which required the Defense Logistics Agency to implement the best commercial inventory practices.

A best commercial inventory practice is defined in the 1998 Act as a practice that enables the agency to reduce inventory levels and holding costs¹ while improving the responsiveness of the supply system to user needs. These initiatives reduce or eliminate processing individual purchase orders and leverage the Agency's buying power to obtain lower prices. Other initiatives use techniques such as Prime Vendors under which a portion of the inventory management responsibilities are transferred to a single vendor, allowing customers to order supplies only as they are needed and receive supplies on a timely basis.

Prime Vendor Program is a success - As stated by the General Accounting Office, the most effective and successful initiatives to date have been the medical and food Prime Vendor initiatives, which have transferred inventory management functions from the Agency to key suppliers. These initiatives enabled the Agency to reduce inventory levels and related costs and improve service to customers. The food Prime Vendor program in fiscal year 1999 totaled $599 million.

For example, in one initiative, the Agency contracted for Prime Vendors to distribute food items to major dining facilities within 48 hours of ordering. According to officials, this initiative has reduced or eliminated the need for Department of Defense-owned warehouse/storage facilities and associated inventories. This initiative has resulted in a $39 million reduction in inventories and an estimated $78 million cost savings at customer locations over a two year period.

The GAO Report and its relationship to HJR 709 (1999) and House Document No. 61 (2000) - The 1999 General Assembly directed a task force to study the food delivery system for prisons and mental health hospitals in Virginia. As part of its deliberations, the task force invited officials from the Defense Logistics Agency and Prime Vendor food distributors to make presentations on their programs and capabilities. The results of that study and copies of all presentations are found in House Document No. 61.
 

¹ Holding costs include the cost of having funds tied up in inventory, the cost of storing items, material obsolescence cost, and inventory losses.
 
 
 

Some of the findings in House Document No. 61 (2000) pertaining to the central warehouse, prisons and mental health facilities included:

• In fiscal year 1999, food and food related items were purchased from over 300 vendors;
• Prisons and mental health facilities purchased $38.8 million in food and food related items in fiscal year 1999;
• Food/food related warehouse and storage space totals over 387,000 square feet;
• On June 30, 1999 the food and food related inventory on hand totaled $10,043,364;
• The prisons' food and food related inventory on June 30, 1999 was approximately $6.1 million representing a 70 day supply on hand;
• Prisons and mental health hospitals do not utilize "just-in-time" deliveries (average deliveries are 30 days);
• Other states have employed Prime Vendors with success to reduce costs and improve efficiency.

NOTE: The 2000 General Assembly has directed the Joint Legislative Audit and Review Commission to study the distribution of food and other products from the Virginia Distribution Center to state agencies and political subdivisions. In completing the study, the Commission is to consider the findings and recommendations of the Task Force Study on the Food Delivery System for Prisons and Mental Health Hospitals in Virginia. Reference: House Document No. 61 (2000).
 
 

ESOP Updates

Employee Ownership Companies Again Top Best 100 Companies - The National Center for Employee Ownership reports that once again, employee ownership companies dominate the "Best 100 Companies to Work For." The list is developed for Fortune magazine by the Great place to Work Institute and Hewitt Associates. Winners are selected from over 1,000 large and mid-size companies based on employee surveys. At least nine of the companies have ESOPs or other employee ownership plans and among the top ten, eight were employee ownership companies. While employee ownership may itself not cause a company to be a great place to work, it is clearly a good indicator of management philosophy. ESOP Association Company of the Year - Congratulations to C.R. Hudgins Plating, Inc., of Lynchburg, VA, for earning the Mid-Atlantic Chapter's ESOP Association Company of the Year award.
 

Rethinking Ways to Present Financial Information to Employees -
Activity-Based Costing

Most organizations sharing performance information with employees use traditional approaches to determine what measures matter. One alternative approach bears consideration, at least as a supplement to traditional ways of presenting the numbers.

Activity-based costing - This is an intuitively simple concept that seeks to allocate actual costs and revenues for any particular activity. For each product or service the organization provides, the organization first allocates all direct costs (cost of goods, salaries for all people working on that product or service, marketing, etc.).

Then it adds to the direct costs all the indirect costs, such as the percentage of rent, administrative staff, debt, general support, etc., that are attributable to that activity. In theory, all these costs should add up to 100% of the total organizational costs. These costs can then be compared to the revenues/funding for each activity to see if it really is making a profit or is self-supporting. The same model can be used to assess the performance of units whose customers are purely internal.

Using ABC, overhead costs are traced to products and services by identifying the resources, activities, and their costs and quantities to produce output. A unit of output (a driver) is used to calculate the cost of each activity. Cost is traced to the product or service by determining how many units of output each activity consumed during any given period of time.

This requires a different way of looking at things than traditional accounting methods. The virtues of ABC are obvious. It provides employees with a very clear definition of whether what they are doing is working or not, while providing management with a much better idea of whether a service or activity is productive.

Even if ABC cannot be implemented in a precise way, just using estimated costs can still be useful in helping employees think more like business people. Employees are now part of their own mini-business, from which direct linkages can be made to the overall success of the organization.

ABC does not only apply to manufacturing organizations: it is appropriate for service organizations such as financial institutions, medical care providers, and governmental units.

In fact, some banking organizations have been applying the concept for years under a different name - unit costing. Unit costing is used to calculate the cost of banking services by determining the cost and consumption of each unit of output required to deliver the service.

To learn more about full costing, The Institute for Management Accountants has written an article on "Implementing Activity-Based Costing" and the Commonwealth Competition Council has developed a PC-based software program named "COMPETE", which generates an annual cost per service unit of output. Copies of the article and more information on "COMPETE" are available by calling the Council's office.
 
 
 
 
 
 
 

"PRIVATIZATION IS A TOOL THAT CAN HELP PUBLIC OFFICIALS PROVIDE ESSENTIAL SERVICES IN A COST-EFFECTIVE MANNER.  INTRODUCING COMPETITION AND PRIVATIZATION TO GOVERNMENT SERVICES REQUIRES REAL COST INFORMATION.  PRIVATIZATION INCREASES COMPETITION AND COMPETITION INCREASES PRODUCTIVITY."