Thursday, July 3, 2008

What if auditors advertised? What if they are sacked?

For Wafers it was a very educative day at office. The nuggets that she picked up were devastating. Was this a case of her slowly getting transformed from being an airy-fairy student to becoming a worldly-wise adult?
It all began with Doc (that was how they called their Audit manager because he always swore by documentation) asking her to design a power point presentation. She loved power points and her presentations always wowed the people at office. Doc wanted her to draw up a profile of her audit firm. “What?” she exclaimed, almost falling out of her chair. An audit firm drawing up its profile reminded her of wannabe actresses, clutching their portfolio of photographs, walking up and down the office of producers. “Don’t you know” asked Doc, “there is a huge advertisement in the Economic Times from a multinational company asking audit firms to present their credentials for undertaking an audit”?

Wafers saw red. “But we can’t respond to that. The code doesn’t allow us,” she said, taking cudgels with her senior for the first time in two years. Clause 6 of the Code of Conduct which read, “A chartered accountant will be guilty of professional misconduct if he solicits client or professional work either directly or indirectly, by circular, advertisement, personal communication or interview or by any other means”, came blinking on her radar. “That’s okay,” said Doc almost reading her mind. “The ad has appeared on the Institute’s notice board which means it is par on course for us to apply! Also our firm has received a mail from the company asking us whether we would be interested?” “Barkins’ willing” remembered Wafers from Charles Dickens’ immortal book, “Great Expectations”.

The idea of a professional selling himself sounded jarring. She wondered what Muscles, her friend at the medical college, would say when he hears of this. “Would the world’s top neurosurgeons rush in their CVs if the head of a state wanted urgent medical attention?” she could imagine Muscles asking her. “Would you expect someone like C K Prahalad advertise his credentials for running a session?” she could imagine China chide her. Finally she brought herself to ask Doc, “Sir, should a professional at all respond to an ad?” Doc was curt. “Then how do they get to know of us?” he asked. His irritation was palpable. But Wafers couldn’t resist. “From here, the step towards direct soliciting will be small,” she insisted. Her worldly-wise manager said, “Madam, we are in the business of audit. Period.” So the line between profession and business had waned. She wondered how it would be if doctors, lawyers and teachers carried front-page advertisements. “Doing business without advertising is like winking in the dark; you know what you are doing, the other person does not” Doc added.

As she began to get over the initial shock more surprises were in store for her. The partner (they called him Boss) had listed out what should go into the presentation. First, he wanted a list of the firm’s top clients and the annual billing. “Would Dr. Denton Cooley, the world’s top heart surgeon, give a prospective client the list of his patients and how much he charged them”, Wafers asked herself. Next Boss wanted the head of audit and the composition of the audit team to be named. She could fancy Muscles saying, “So Cooley would have to name his operating team. He would have to say who would pick the scalpel, who would stitch the heart, who would cotton out the blood?” The next slide was to list the firm’s strengths and weaknesses. Wafers wondered what would come there? “Multi faceted work force” as a strength? A strong weakness for “poaching more clients?” She asked no one in particular, “Which audit firm would boldly say that albeit their audit, frauds of the most routine type might happen in a company? (E & O E).” It was getting confusing.

As she began adding a dash of color to a slide which talked about the average age of the firm’s relationship with each major client, she remembered something that her friend had confided in her. Of how his firm had lost a stat audit because it had stood by a view which the client didn’t favor. She had then wondered, “Would a fixed tenure followed by rotation of auditors be a good option”? Companies wouldn’t then be able to sack auditors at the drop of a hat. Auditors too wouldn’t bother too much about being on the right side of the client. “A firm gets to know a client may be after 3 years of work. Rotation would be professionally suicidal” her senior had remarked. Another disturbing (to her) point of view had been presented, “it takes us time to build a client relationship: how can someone unilaterally demand rotation.”

Her professor had remarked, “You cannot force a customer to choose his supplier.” Natty point, she had then conceded. Now she wondered whether the relationship between the stat audit firm and client was one between the supplier and the customer. Or whether it was one between the jury and, for want of a better phrase, the accused? While, the accused can select his lawyer, can he select his jury as well she wondered. Her professor had once told the class, “Between them the CEO and the CAO (Chief audit officer) can rob the company.” His choice of phrase may have been bad but she knew he had a point. “Caesar’s wife should be above suspicion” he had remarked in a different context.

But life at the ground level was different. Once when an audit firm had toed the client’s line drawing far fetched arguments to substantiate its point Doc had told her, “Look the audit firms have to make their living.” These (Marketing for clients. Retention of clients) are existential dilemmas which need to be tackled and cannot be pushed under the carpet. May be Doc was right. This is no longer a profession. This is becoming business. Like selling soaps and detergents. Like selling contact lenses. She didn’t cherish it one bit. Was she being old fashioned, she wondered? She knew that she had to talk to her professor. She instinctively trusted him in moments of crisis.



Watch cricket and learn decision-making

“Could life be more unfair?” Wafers asked her dad. Classes at 0615 hours; fight for a place to sit; and 2.5 hours of heavy humorless learning. Phew. Then, rush for breakfast; zip through the crazy traffic to reach the client’s office to spend long hours amongst numbers and documents. Tiring. Spot an error like she did last week at Titanic (the multi million dollar company which she audited) that would lead to a huge dip in its bottom line and pronto the company would change its method of inventory valuation to make good the fall! “Could life be more unfair?” Wafers asked her dad again. He was on the couch, munching popcorn and watching the India-Pakistan test match on television. To him she simply did not exist there.

India, chasing an imposing 470 to win had just lost batting maestro Sachin Tendulkar and was tottering at 290/5 with two sessions to go. Who would come in next? The very very special Laxman or the dapper Yuvraj Singh? Mom who loved the lanky Hyderabadi wanted him to wield the willow. Dad, the homegrown Harsh Bhogle, swore it would be Laxman. Wafers who had trouble distinguishing a cricket bat from a baseball stick was jumping up and down “Yuvi, Yuvi, Yuvi.” “Will you shut up?” screamed Chuin (he crazy about chewing gum), her eight-year-old kid brother, ignoring protocol. “Why, why?” asked Wafers. “Laxman can score more runs than Yuvraj,” rammed Chuin. “Big deal”, remarked Wafers. “In the last ODI, chasing 270 and placed at 170 for 5 with 15 overs to go, it was Yuvraj who had come ahead of Laxman.” And condescendingly added, “You should know your history before passing judgment Chuin.” For a moment Chuin simply stared at Wafers. And then said, “Madam, this is a test match. Here the one who can score more runs is preferred. That was an ODI. There the one who can score faster is preferred”. For Wafers this was suddenly sounding familiar. But she couldn’t place it precisely. “Why the difference,” she haltingly asked. “Because in an ODI, the overs are limited. Hence “runs per over” is crucial” the little one said wondering whether his sister had only limited intelligence.

“My God. That’s it,” she screamed. “When there are no limiting factors the decision is based on contribution”, her professor had said while explaining Rule 5 in decision-making. “And when there are limiting factors the decision is based on contribution per unit of limiting factor” he had remarked laying out Rule 6. At that time she had wondered, “Why?” Now she knew. When overs are in plenty the decision is based on “Runs” (read contribution). When overs are in short supply the decision is based on “runs per over.” (Read contribution per unit of limiting factor.) You needed to get the maximum bang from the limiting factor. Her kid brother had cracked for her the marginal costing riddle. She looked at him in newfound admiration. He continued to watch the match unmindful.

The commercials came on the screen. She switched channels and found another version of cricket, the five-a-side tournament. Each team had a maximum of 20 overs to play and each batsman could bat a maximum of six overs. “How would the captain allot the overs?” Would he use Assignment or would it be Transportation she wondered! She turned to Chuin for help. Carefully she phrased the question. “Chuin, if you were the captain how would you rotate the batsmen?” she asked. “Six chocolates” said the kid indicating that this would be the price for the answer. “Even otherwise I would give you chocolates dear,” said his sister, half irritated. “Well, the best batsman will bat first,” said Chuin, fancying himself as Harsh Bhogle. From that Wafers extrapolated. She would have to rank the batsmen based on their strike rate. The best batsman would first play his six overs; the second best would next bat out his six overs and so on until the total number of 20 overs is exhausted.

“My god” she exclaimed. Wasn’t this sounding like the decision-making rule when the maximum number of units to be produced of a product is specified? “First, rank the products in the order of contribution per unit of key factor. Then, allot the maximum possible units to the best product, later to the second best product etc until the key factor is exhausted”. Eureka. That was Rule 7 of Marginal costing, the maximum rule as the professor had called, she realized with great joy. “What rule” asked Chuin? Wafers didn’t realize that she had actually screamed out the Rule. She ignored him. This cricket was helping her understand a few things about marginal costing and she wouldn’t allow some eight-year old to bully her, even if he was her brother.

Her mind began racing. What if the rules of the game were changed? What if each of the five players was to play a minimum of three overs. She simply had to apply a modified version of Chuin’s logic. She would have to find the best players based on strike rate. She would then allot the minimum three overs to each of the five players, eating up 15 in the process. The balance would go to the best player. So the best player would handle eight overs; the other four would handle three apiece. Wow. Rule 8 had fallen in place. Her professor had called it the minimum rule and had explained it step wise. “Step 1; rank the products in the order of contribution per unit of key factor. Step 2; allot minimum quantity to all the products and balance possible quantity to the best product”. Oh, if only he had offered this cute cricketing parallel it would have been great she told herself.
Thrilled at the increasing link between marginal costing and cricket she wondered what if the rules were changed further. What if each player was to play atleast 3 overs and at most 6? Well, she would first have to rank the players based on “runs per over.” Then she would have to allot the minimum three overs to each of the five players, eating up 15 in the process. The balance overs would go in sequence to the best player, the second best player etc until the overs were exhausted. Wow. Wasn’t that Rule 9? Wasn’t that what her professor had called the mini-max rule? He had of course explained it stepwise using business lingo rather than cricketing language. Decision-making was now like 1-2-3 for her.
Chuin was certain that his sister had gone bonkers. She was talking about runs, contribution, overs and products all in the same breath.

Who is the moral man?

Wafers didn’t know how to react. The last few days were devastating. She was on an audit and scented a racket. Executives at Titanic (the company where she audited) traveled extensively during the year. The taxi fare from their residence to the station and from the station to the hotel was Rs 250/- apiece. They all claimed this as a matter of course. No documentary evidences were attached. What if they traveled by bus and pocketed the differential, she had asked herself. Her audit professor had told the class, “Auditors are watchdogs and not bloodhounds”. But that did not deter her.

When she looked into the tour reports and tour plans she noticed that the executives generally traveled in groups of five. Their work demanded so. She reasoned that from the station to the hotel and from the hotel to the station they wouldn’t be hiring five cabs, but only one. If true, it meant that they would really be spending only Rs 500 but between them would be claiming Rs 2500/- pocketing the Rs 2000/-. Wafers’ audit firm had drilled into her the virtue of sampling and extrapolating. She conducted 50 verifications and found that in 40 of them this was the practice. 80% of the sample committed this fudge. They had all charged the company Rs 500 each. She extrapolated the numbers. 1000 employees traveled during the year in groups of 5; this meant that 200 groups traveled. Such travels were 5 times a month. The excessive payment she reckoned was 200 groups X 5 times X 12 months X Rs 2000 = 240,00,000. Since 80% of the sample committed the fudge, the excess payment could be of the order of Rs 192 lakhs or close to Rs 2 crore she reasoned.

She had spoken to one of the Finance officers at Titanic and he was pretty evasive saying under the rules of the company proof of expending was not required. Her suspicion further strengthened, she spoke to one of the executives who regularly traveled and he took it cool saying this was par on course since he was drawing only what he was entitled to. She countered, “By that measure is it okay if one of your bosses travels by overnight train and claims air fare merely because he is eligible for it”. He simply smiled suggesting that Wafers was clearly wet behind the ears. Wafers ran through more documents and was shocked to find that senior executives at Titanic had checked into their hotels at 0600 hours, attended meetings at 0900 hours but claimed airfare for flights that would have actually arrived only at 1400 hours! Boarding passes and flight tickets weren’t required to be enclosed. A declaration would suffice. As Wafers ran up the audit on this she found that the company was out of pocket by another Rs 2 crore thanks to this practice. And in quite a few cases the boss’s wife traveled; “business promotion expenses” read the accounting entry. “The funeral expenses” of a senior manager was a business expense; “packing and forwarding” read the accounting entry. Aghast by all this she spoke up with her principal. He said he would talk with the management but his body language told her a different story.

Rather glum she narrated this story to the gang. Muscles winked, “So your auditor chose to look the other way?” He couldn’t forget the gossip at the medical college. And sounded out to the gang of how the brilliant professor who teaches them nephrology travels round the world thanks to pharmaceutical companies sponsoring expensive all paid trips for him and other top-notch doctors. A surprised Wafers asked, “do you think there is something hanky panky”. “No”, said Muscles, “The professor has a lily white reputation.” Rinku, the young reporter asked, “buy why should he accept these. Surely the pharmaceutical company would be expecting a quid pro quo of some kind.” And imagine doctors receiving referral fees when they send patients to the laboratories for tests, added Wafers. “No one is suggesting that there is an incestuous relationship in this but shouldn’t Caesar’s wife be above suspicion?” asked Muscles aloud. “You folks have a wrong sense of morality,” remarked China. “Titanic had the money to spend. In any case they were willing to spend. What the hell whether the employees spent it and collected or didn’t spend it and collected?” And then added, “the pharmaceutical company has to advertise its products. What the hell if this was the way to advertise to a doctor?” Its wrong if it acts as an inducement to taking a decision, it isn’t wrong if it’s a gift; a recognition of a good that you have done. “What should be the distance between a doctor and the detail person? The difference between the judge and the convict, the umpire and the player, the customer and vendor?” Rinku asked aloud, sounding a shade uppity about doctors and corporate executives.

That, in a sense, got into China’s goat. “Has the press been a shining paragon of virtue” he fumed. And slammed, “On the one side the papers attack the government and on the other side they make a song and dance if the government withdraws advertisements with the paper.” Wafers joined the match. “They carry huge advertisements of say Reliance and their analyst does a story on Reliance Mutual.” Muscles added for effect, “The food reviewer tastes the food on the house and then waxes eloquent on how it tastes.” The normally vociferous Rinku put up a feeble defense, “how do you expect newspapers to sell for Rs 2 when even a cup of tea costs more? Advertisements are the only way out.”

Wafers remembered her professor comment, “You scratch my back, I will scratch yours” as the philosophy that drove businesses. And had ventured to advise, “young ones when you step into the world tomorrow as fresh chartered accountants, if you want to leave footprints on the sands of time (his favorite turn of phrase she had noted) you have to stand for what is right even when the rest of the world is up against you. Well, well what about the corporate executives, the doctors, the auditors and the journalists she asked aloud. She must talk to her professor.

Coke, Pepsi and Pesticide

For a change China wasn’t sipping coffee, Muscles wasn’t gobbling pizza and Wafers wasn’t having her mandatory bite of French fries. Instead, the gang was hot on soft drinks; one sipping Coke, the second sipping Pepsi and the third tasting some version of colored water – none knowing the difference. Wafers tired after a long day at audit, mixed up China’s coke, Rinku’s Pepsi and added salt to the cocktail. “What the hell; this isn’t good for health” fumed the medical intern with the hungry look, Muscles. He had always abhorred soft drink ever since his chemistry professor had told them about aerated water and gastric trouble. “Hey, hold on”, screamed China, his IIT mind racing like mad.
“How would it be if Coke and Pepsi merged first at the national level in India and later globally as well?” he asked. “Wow!” said Rinku, his journalist brain sensing a scoop where none existed. “Their ad budgets would come down by half,” he pointed out. Muscles, crazy about cricket, said “half the cricketers would go out of business.” China added, “With the two big boys marrying the marketing department can be slashed by 75%.” For Wafers the coin clicked. “Gain from synergy, ie 2 plus 2 adding to more than 4, is what drives M&A” the professor’s colorful slide had shown while she was staring out of the window watching the drizzle. How true. “But there would be no competition because between them Coke and Pepsi would have taken over the entire market” demurred Rinku, his mind for once working. “And that isn’t a good thing for society” remarked Wafers, recalling the article that she had read in HBR on the pros and cons of monopoly and competition. “But overwhelming volumes will bring about economies of scale and could actually drive prices southwards” said China. Wafers wasn’t convinced. With no competition there could only be more pesticides and more prices, she scorned. “Look at the magic that Air Deccan has caused in the airline industry” said Muscles. Without competition would prices have come hurtling down? Without competition would service have gone up? Would airhostesses of Indian Airlines smiled? Fat chance.

“Auditor”, screamed Rinku, “how would the numbers stack up?” He was hungry for a headline. “Suppose they save annually Rs 1000 crores because of the merger (nobody knew how she landed up with the figure), suppose this figure would rise annually by 5% (“inflation rate”, she patted herself on her back, for remembering that) and suppose the time value of money is 15% the value of the merger would be Rs 10,000 crore”. As Rinku looked at her with awe and she glowed in the halo, China winked, “That’s the present value of a growing perpetuity”. Wafers was stumped. This IIT fellow seems to know everything she told herself. Rinku asked, “Rs 10,000 is only a ballpark figure, isn’t it? It could be even Rs 100,000 crore if the annual savings was Rs 10,000 crore”? “Yup” said China and added “1 lakh crore would be almost 10% of India’s GDP”. Rinku got his headline “Pepsi merges with Coke to create India.” Wow.

Why aren’t they then merging wondered the reporter. As if reading his mind China said, “because there is no guarantee that it would click.” Remember, all these years the two companies had referred to each other as “We” and “They”. How could the duo now get to work together? Working together requires an abundance mentality and beyond a point people tend to lose that. For Wafers the coin clicked. Her professor had explained the antagonism between Coke and Pepsi that he had picked in the course of a consulting assignment. If a Coke employee is found sipping Pepsi anywhere in the world he is sacked pronto. The hate was mutual. If a Pepsi employee is found sipping Coke, anywhere in the world, he is sacked forthwith, the professor had said. Under such “mutual hostility, bruised sentiments and wild ego trips” there would be no meeting of minds. “What if one of them walked the extra mile?” asked Rinku. “Well both will have to do more than that,” remarked China. “If some bigness is good, an over abundance of bigness is not necessarily better” said Muscles, paraphrasing a lesson that had been taught in Anatomy. Wafers remembered how the mother of all mergers, Time Warner with AOL, had ended up with the merged entity reporting the largest loss ever in the history of financial reporting! “Some things just don’t work,” mused Rinku. But if it has worked in politics, which makes for strange bedfellows, why not in business asked China. “Because,” remarked Muscles, “while politics may be business, business is not politics”.

Wafers’s mind wavered. Of course there were other issues she thought. What if the merger actually worked? Well, the government would have to step in and stop it. After all, a private monopoly is as bad as a public monopoly. Remember how Microsoft had consistently killed the competition and invited the Anti Trusts Law? Muscles had a different take. “What the hell if there were no aerated drinks at all? Would there be a heart attack?” he asked aloud. Couldn’t both of them be asked to pack off? May be he had a point or two thought Wafers. “Business is not about making profits. It is about leaving footprints on the sands of time” her professor had said. If you want to travel the distance from good to great you have to do more than just color the waters he had remarked in his inimitable style.

Decision Tree

The Big Day With Big B
Dateline: May 15, 2005.
Venue: The KBC game show.
India’s finest quiz show is back on air. An entire country, glued to its drawing space, watches the Big B with his patented French beard mouthing “Sure?” “Confident?” “Lock kiya jai?”. China, the hot wannabe engineer from IIT, took the flight to play KBC with Bachchan. He had spoken to Wafers, the bright young one who wanted to be a CA, that he would use her as the “phone a friend” option if there were a question on finance. “Oh, all that would be necessary only if you get into the hot seat,” ragged Rinku, the cub reporter. “Don’t be boorish. You had better be ready to interview the next crorepathi,” remarked Muscles, the young intern from the medical college.
The Big B landed at the studios, shook hands with the participants and got cracking. “Fastest fingers first” said Bachchan, indicating that he who got the answer first would get to play the game with him. “Who was the Greek philosopher ……………………….” Before he could complete, China had punched in the answer “Diogenes.” Unaware of China’s skills the Big B, after a pregnant pause, said “who lived in a tub?” What fastest fingers first; China had beaten even Bachchan hollow! An auspicious start indeed thought China. Would he bag the one crore prize?
He need not have worried. In no time he had cracked ten questions and won Rs 3.2 lakh. He hadn’t as yet used his lifelines. Q 11: “Who directed the music for the movie Bombay?” They might as well have asked him his grandfather’s granddad’s grandfather’s name. “Audience poll”, called China. The audience voted in favor of A R Rehman and China went with them. Questions 12 and 13 were simple and China, the ace quizzer, had won Rs 25 lakhs. Then came Q 14. “What part of the human anatomy enlarges to ten times its normal measurement during periods of emotion or excitement?” asked the Big B smiling. Ha, China knew the answer. Hadn’t Muscles told him about how the biology professor had asked this very question in the classroom to the lady doctor who was so stunned that she stammered “I .…. I refuse to answer that question.” The professor had said “Debbie, your refusal to answer makes three things evident. First, you didn’t study last night’s assignment. Second, you have a dirty mind. And third”, concluded the professor, “I am afraid marriage is going to be a tremendous disappointment for you”. Thanks to Muscles, China knew the answer and he beamed “The pupil of the eye.” Wow! He was now on Rs 50 lakhs and had two lifelines still in hand. After the mandatory claps the Big B forked out the Rs 1 crore question: “Who were the second set of people to win the Nobel prize for their work on capital markets?” China thanked his stars that he had sounded out Wafers to be ready for a call from him. The Big B trotted out the four sets (a) Modigliani and Miller (b) Black and Scholes (c) Harry Markowitz and William Sharpe (d) Warren Buffet and Peter Lynch. China had read about Buffet and Lynch, the legendary fund managers who had made cartloads of money for the investors. No Nobel Prize winner could do that he reasoned and ruled the pair out. The remaining three pairs made no meaning to him. He called for 50:50. Markowitz and Sharpe went out of the frame. And he had to choose between (a) Modigliani and Miller and (b) Black and Scholes. China decided to use his final lifeline and the Big B called Wafers. Ouch. The lady didn’t have the answer. She had bunked that class on capital markets and hadn’t caught up. China’s heart sank and he asked her “Okay, what should I do?” Wafers remarked, “Name anyone of the two pairs.” “What?” exclaimed China. And then elaborated, “If I get the answer wrong I pick only Rs 3.2 lakhs. If I walk out I get Rs 50 lakhs. I would prefer to walk out.” Wafers screamed, “No, I have read about decision trees in my classes. And it tells me that you should answer”. China too had read about this silly thing called “the trees”. His horn-rimmed professor at the IIT had said, “the value at a decision box is the higher of the expected values of the various branches that emerge from the box”. Even as he had dozed, the professor had thundered Rule 2, “the value at a chance node is the aggregate of the expected values of the various branches that emerge from the chance node”. And then for effect the professor had added Rule 3; “there are probabilities only at chance nodes and not at decision nodes”. While these thoughts raced through China’s head, Wafers elaborated: “You have to make up your mind on whether to “Answer” or “Not to Answer”. That’s a decision. If you decide “Not to Answer” you pick Rs 50 lakhs for sure and hence the expected value is Rs 50 lakhs. If you decide to “Answer”, your answer may turn out to be right or wrong. That’s a chance. Since there are only two choices, it’s like tossing a coin. There is a 50% probability of getting your answer right and a 50% probability of getting it wrong. If you get it right you win Rs 100 lakhs. If you get it wrong you win Rs 3.2 lakhs. The expected value therefore is (0.5 X 100) + (0.5 X 3.2) = Rs 51.6 lakhs. Since the expected value of “Answer” (Rs 51.6 lakhs) is greater than the expected value of “Not to Answer” (Rs 50 lakhs), China you must answer the question”. China trusted Wafers analytical skills but he couldn’t bring himself to let go the opportunity to make Rs 50 lakhs even if there was an expected value of Rs 51.6 lakh that Wafers talked of. He shook hands with the Big B and walked out. The Big B understood. Wafers didn’t. She was upset. Was her decision tree analysis faulty, she asked herself tersely?

Dateline: August 15, 2005. Wafers read a quote, “Men worry more about losing than about winning.”

Worry after a credit card party

The gang was hanging out at one of Chennai’s up-market coffee pubs. China (because he always compared India with China) was having his third peg of coffee. Muscles (because he always looked puny and ever hungry) was attacking his fourth plate of pizza. Wafers (because she loved wafers) was having her nth bite of French fries and was beginning to mumble whether it was such a fine thing for her to have joined CA. China was at IIT and would surely go abroad while Muscles was studying to become a heart surgeon. Grimly Wafers contrasted their professions. If China messed up a civil construction hundreds of lives could be lost; he had to be careful in his work. If Muscles got an operation right, he would be treated as god. But what about Wafers? If she wronged up a transaction she could set it right with a rectification journal entry. How dull her profession was she wondered. No glamour, no chutzpah.She was broken out of her thoughts by a rattling noise. “Folks, its my treat”, screamed Rinku. Muscles couldn’t believe his ears. Rinku? And throwing a party? You might as well see the sun set in the East. China was sure Rinku was ragging them. “Which reporter would host a treat?” he wondered aloud. “They of the tribe who are used to free lunches”, muttered Wafers. “Did you bag the Bookers?” asked Muscles. Rinku wasn’t going to allow them to spoil his mood. “No I bought a credit card. Free.” Wafers’ eyes showed up. This was familiar terrain, finance. “But they don’t take credit cards in this pub”, remarked China. “No problem, I will draw cash from the nearby ATM” perked the scribe. “Sure?” asked China. “Confident?” asked Muscles. “Lock him,” screamed Wafers as they went in for another round of coffee, pizzas and French fries.Rinku ordered for pastas. “I received a call”, he said. The girl at the other end told me, “Sir, based on your track record of spending (Lie 1, when does Rinku spend thought Wafers) we have selected you for receiving a free card. With every Rs 100 that you spend you will get one reward point. And when you have accumulated 25,000 points (that’s Rs 25,00,000 spending computed Wafers) you will automatically qualify for a free return trip to Hollywood. What’s more you don’t have to pay for your purchases. Just send in a cheque (did Rinku have a bank account wondered Wafers) for 5% of the amount due and the balance can be carried forward at a small interest rate of 1.95% per month. If you run short of cash you can draw from the ATM and we charge only Rs 50/-. Sir, tomorrow our man will fill up the form for you, and help you sign it (Rinku’s thumb print would be better thought Wafers).” Of course the telephone girl had spoken nonstop the way only call center girls can. Rinku had supplied the punctuation marks!“Have you got your card,” asked Wafers, her mind furiously doing the calculations. “Of course. That’s why this treat. Actually, after one year, I can renew my card for a small fee of Rs 750 per annum” puffed Rinku, like a child with a new toy. Watching Wafers, Muscles knew she was about to chastise Rinku. Wafers was never wrong with her arithmetic. And you could read her face like a newspaper. There was no way that Muscles would allow her to spoil this lifetime opportunity of having a treat at Rinku’s expense. “Not now”, he snarled. And they ate. And ate, late into the night. Finally the ushers came to pull down the shutters. The bill arrived. Rs 960. Add a tenner as tip and Rinku could pay another Rs 30 to go home by auto. He would have spent the Rs 1000 that he had drawn from the ATM. Great night.As they walked down Wafers told Rinku, “it wasn’t such a smart thing drawing money from the ATM.” “Why?” asked China. “Because today is 16th Aug, the card statement will reach on 20th Aug and Rinku has to pay on 1st Sep. That means he has to pay Rs 1050 (transaction cost included) within 15 days. That’s an interest cost of Rs 50 on Rs 1000 for 15 days or 5% for 0.5 months. That’s 120% per annum. Period. Now which fool would pay 120% interest?” she asked aloud. “Rinkuuuuuuuuu, of course” said Muscles. Rinku wasn’t willing to let these folks give him a hangover. “Okay, I will use the revolving credit, pay only Rs 50 on 1st Sep and carry forward the balance Rs 1000 for payment on 1st October. That would mean I would have borrowed Rs 1000 for one and half months. Or 5% for 1.5 months. Or 40% per annum. And if I pay after 3 months the interest rate would come down further” mumbled Rinku, doing his math at a pace that would have got him the Olympic gold in the 100 meters dash. China muttered, “but boy you will be paying 1.95% per month as well. That’s 24% per annum.” Wafers was beginning to feel happy. “Look all these guys are quick in their arithmetic”, she told herself.Rinku slowly realized that he had been dealt with a bad hand. “Oh, God, why did I buy my card” he muttered. “Because, the telephone girl wanted you to buy one free” chipped in China. “Because you had to buy us coffee” said Wafers, adding insult to injury. Rinku threw up. “I will call up the girl and surrender my card”, he said. “Hey don’t do that” chirped Wafers. “Spend wisely; and using a card would be great. If you buy during the first week, you would enjoy about one month’s credit. Suppose you buy for Rs 10,000 a month. If you place that sum in a bank you earn Rs 750 (7.5% for 1 year on Rs 10000). So if you were buying for anything more than Rs 10,000 per month on your card, it would cover your membership fee. It would be a good card” beamed Wafers. Rinku was confused. Should he continue with the card or shouldn’t he? Muscles solved his dilemma reminding Rinku that he earned only Rs 7000 per month! Phew.

Accept or Reject

Shall we go for the Movie?
It was another Friday night. The gang was at their usual joint, the Chennai coffee pub. China was having his third mug of coffee. Muscles was attacking his fourth plate of pizza. Wafers was having her nth bite of French fries and was as usual wondering whether it was such a fine thing to have joined CA. She had this morning been taught Decision Making and the good professor was simply beyond her. “Whether to accept a product or reject it?” This funny thing about contribution and that stupid thing about not distributing the fixed cost amongst various products simply beat her.

She was broken out of her thoughts by Rinku. “Lets go for a movie tomorrow”, he screamed. The stringer who always spoke in high decibel was wearing his trademark dirty jeans. “Does he sleep in his jeans” wondered Wafers. “What movie, where and how” asked Muscles eager to be away from hostel so that he need not read Gray’s book on Anatomy, for the test scheduled for Monday. China had no such problems. For him, the Monday’s test on “Strength of Materials” would be a cakewalk. Wafers had no issues at all. Her CA program never required her to take tests. The first examination would be the main examination. Phew.

“Where do we go?” asked Muscles. “Mayajal”, suggested China. Some 30 kms off the heart of Chennai city, on the East Coast Road, away from the monotony of ticking and verifying, would be fun, thought Wafers. “How much would a ticket cost?” asked the scribe. “Rs 100 per head”, said Muscles. “If four of us go it would be Rs 400/- and if five went it would be Rs 500”, added China for effect. For Wafers the coin clicked. Rs 100 per unit irrespective of the number of units. If the number of units is 4, the total variable cost would be Rs 400. If the number of units is 5, the total variable cost would be Rs 500. Wow! “The variable cost per unit is constant. The total variable cost varies with volume”, the good professor had told this morning. “That’s Rule 1”, hastily scribbled Wafers in her notebook. China got into the act. “At the Cineplex we will have to munch. Popcorn. Soft drinks. And then we must have dinner. It would cost us Rs 125 per head.” “If four of us go it would be Rs 500/- and if five of us go it would be Rs 625”, added Dr. Muscles. “Oh another variable cost” remarked Wafers, excited that Marginal costing wasn’t actually all that Greek. “Mayajal is so far away. How do we travel?” someone asked. “My car” said Rinku. Muscles couldn’t believe his ears. China muttered, “Hey we aren’t going for a press conference that someone would fund our trip”. Rinku ignored the jibe, picked up a scrap of paper and scribbled. 30 kms up and 30 kms down; total 60 kms. Fuel economy 10 Kms per litre. The trip would consume 6 litres. Petrol cost Rs 40 per litre. Rs 240 in all. Toll tax Rs 50 and car parking Rs 10. Total 300/-. He had it all stitched up.

“Rs 300 for us all”, said Muscles. If five of us go it would again be Rs 300. If only two of us went it would still be Rs 300. For Wafers the coin clicked a second time. Rs 300 irrespective of the number of units. In her notebook she hastily wrote in Rule 2, “Fixed costs remain constant irrespective of volume”. That’s what the good professor had told the class that morning. Rinku continued to scribble. Rs 100 per ticket, Rs 125 per head towards snacks and Rs 300 petrol and other fixed costs. For the four of them, it would be (100X4) + (125 X 4) + (300) = 1200. “Who will foot the bill?” asked Muscles. “Not me”, screamed Rinku. “Ask the auditor” said China. Wafers was smart. “We will go Dutch. Rs 1200/4 = Rs 300/- each”, she said. “Great”, agreed all.

Just then Neta (he had always wanted to become a politician) walked in. From Manishankar Aiyer to George W Bush, Neta had an opinion on them all. He wanted to join the “party”. Wafers, joyful in her new understanding of marginal costing did the arithmetic. Tickets; variable cost. Rs 100 per head. Snacks; variable cost. Rs 125 per head. Petrol etc; fixed cost. Rs 300 for all. Total (100X5) + (125 X 5) + (300) = 1425. No of people 5. Dutch cost Rs 1425/5 = 285 per head. From Rs 300 per head then, to Rs 285 per head now. There had been no reduction in cost; then how come the drop wondered Wafers. And she suddenly remembered. “As the number of units go up the fixed cost per unit comes down” the good professor had told this morning. Oh, “Rule 3” she told herself. This business of going for a movie was proving to be quite educative.

Neta zipped out his wallet to count. He had only Rs 250, not Rs 285/-. Wafers did her arithmetic again. Revenue (300 X 4) + Rs 250 = Rs 1450. Total cost Rs 1425. Net gain: Rs 25. Decision: Take Neta along. How come there was a gain when Neta brought in less than the average cost, Wafers wondered? The coin clicked a fourth time. Neta was bringing in Rs 250 as against the variable cost of Rs 225. That’s a contribution of Rs 25. The professor had remarked, “Products with positive contribution should be accepted.” Wafers scribbled that in as Rule 4. What if Neta brought less than Rs 200, she asked herself. Well, he would have to be dropped. The professor had said, “Products with negative contribution should be rejected.” Ha, Rule 5.

Then came the final click. In all her analysis on whether Neta should be in or out, the fixed cost of Rs 300 had been ignored. The decision had been based on contribution only. “Fixed costs which do not change are irrelevant to decision making” the professor had explained that morning. Enter Rule 6. How instructive. Quite a few rules had fallen in place. Marginal costing was no longer giving her sleepless nights. Wafers looked forward to going for the movie in the hope that the travel would help her unravel a few more rules of marginal costing.