Session 11

Managerial Spreadsheet Modeling -- Prof. Juran 1

Managerial Spreadsheet Modeling -- Prof. Juran 2

“The personal computer has allowed humankind to make more and bigger mistakes than any other invention in history, with the possible exceptions of tequila and handguns.” —Technology magazine

Managerial Spreadsheet Modeling -- Prof. Juran 3

OutlinePervasiveness of spreadsheet errorsConsequences of spreadsheet errorsTypes of errorsAvoiding errorsDetecting errors

Managerial Spreadsheet Modeling -- Prof. Juran 4

Spreadsheets and Sarbanes-Oxley

§404 of the Act requires that CEO’s assess whether or not their firm’s financial system has be “effectively controlled” during the reporting period.Independent auditor verifies the CEO’s assessment.

Failing an audit: Stock price ↓ 4%; 60% of CFO’s replaced

Public Company Accounting Oversight Board’s Auditing Standard 2Internal controls are deficient if they do not allow for the timely prevention or detection of misstatements.Controls must involve all forms of IT used in financial reporting.• Preventive controls• Detective controls• Corrective controls

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Pervasiveness of Spreadsheet Errors

20% – 40% of all spreadsheets contain errors. (R. R. Panko)

90% of all spreadsheets with more than 150 rows contain errors. (Coopers and Lybrand)

1% – 5% of worksheet cells had errors. (R. R. Panko)

91% of decision-making spreadsheets contained an error large enough to change the decision. (KPMG)

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Why So Many Errors?

Human cognition built for speed, not accuracy.

Very few organizations have policies on spreadsheet development and design.

(Part of their attraction in the first place!)

Users are overconfident in their own ability to avoid errors.

Simple mechanical tasks: 0.5% error rate

More complex, logical tasks:

5.0% error rate

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Consequences of Spreadsheet Errors

One recent example: JPMorgan value-at-risk (VaR) model for synthetic credit portfolio.

“After subtracting the old rate from the new rate, the spreadsheet divided by their sum instead of their average, as the modeler had intended. This error likely had the effect of muting volatility by a factor of two and of lowering the VaR ...”

— February 9, 2013

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Fidelity’s Magellan Fund (January 1995)

“The error occurred when the accountant omitted the minus sign on a net capital loss of $1.3 billion and incorrectly treated it as a net capital gain on this separate spreadsheet. This meant that the dividend estimate spreadsheet was off by $2.6 billion ….”

Florida construction company omitted a $250,000 item omitted from a $3,000,000 bid

The firm won the bid (by seriously underbidding).

Blamed Lotus for @Sum(•) misunderstanding

Projection for CAD equipment market

Costs rounded to whole dollar

Inflation multiplier also rounded from 1.06 to 1.00

Market underestimated by $36 million

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“Excel ate my DNA”

Used in genetic research to process microarray data.

Some gene names (e.g., SEPT2) irreversibly converted to dates (2-Sep).

EPA Superfund Toxic Waste Miscalculation

Bad VlookUp function overstated estimates of indoor air pollution by up to 200%.

Emerson’s Bid to Build Barracks at Fort Hood

The $3,702,025 price for electrical work in cell D159 was not included in the subtotal in D160.

More examples: www.eusprig.org/stories.htm

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Types of Errors

Mechanical

Typos, incorrect cell references, wrong ranges

Logical

Mistakes in reasoning / logic

If(•) function, lookup functions, rounding functions

Average(•) vs. AverageA(•) ?

“Hardwiring”

Overwriting equations with numbers

Managerial Spreadsheet Modeling -- Prof. Juran 11

Avoiding Errors

Preventing Inappropriate Modifications

Errors inadvertently introduced later by users

Cell / Worksheet Protection

Data Validation

Range Names

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Range Names

Allow a range (e.g., C4:K4) to be referenced by a reasonable, evocative name (e.g., Sales).

Advantage: Equations are easier to understand at first glance.

Disadvantage: One more chance to go wrong.

Wrong range is named.

Can be hard to find that named cell.

Relative references to named ranges are automatically converted to the absolute named reference.

Most appropriate for a single cell that is referenced in many places.

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Defining Range Names

Define a name for the selected cell(s)

Formulas | Defined Names | Define Names, or

Ctrl-F3 | New

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Defining Range Names

Or just type the name into the name box at the very left of the formula bar.

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Defining Range Names

Name must start with a letter.

Some characters not allowed.

Can’t be a cell reference.

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Defining Range Names

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Using Range Names in Formulas

1234567891011121314151617181920

A B C D E FPercentages Daytime Evening

Wife 30% 30%Husband 10% 30%

Single male 10% 15%Single female 10% 20%

None 40% 5%Sum 100% 100%

Cost/call 2.00$ 5.00$

Daytime EveningCalls made 1 1

Contacts Reached RequiredWife 0.6 >= 150

Husband >= 120Single male >= 100

Single female >= 110

Total cost

=SUMPRODUCT(B2:C2,Decisions)

1234567891011121314151617181920

A B C D E FPercentages Daytime Evening

Wife 30% 30%Husband 10% 30%

Single male 10% 15%Single female 10% 20%

None 40% 5%Sum 100% 100%

Cost/call 2.00$ 5.00$

Daytime EveningCalls made 1 1

Contacts Reached RequiredWife 0.6 >= 150

Husband 0.4 >= 120Single male 0.25 >= 100

Single female 0.3 >= 110

Total cost 7.00$

=SUMPRODUCT(B2:C2,Decisions)=SUMPRODUCT(B3:C3,Decisions)=SUMPRODUCT(B4:C4,Decisions)=SUMPRODUCT(B5:C5,Decisions)

=SUMPRODUCT(B9:C9,Decisions)

To replace a cell reference with its defined name:

Formulas | Defined Names | Define Names | Apply Names

Managerial Spreadsheet Modeling -- Prof. Juran 18

Managerial Spreadsheet Modeling -- Prof. Juran 19

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A B C DPercentages Daytime Evening

Wife 30% 30%Husband 10% 30%

Single male 10% 15%Single female 10% 20%

None 40% 5%Sum 100% 100%

Cost/call 2.00$ 5.00$

Daytime EveningCalls made 0 666.667

Contacts Reached RequiredWife 200 >= 150

Husband 200 >= 120Single male 100 >= 100

Single female 133 >= 110

Total cost 3,333.33$

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A Range Name does not need to refer to cells in the worksheet!

It can be defined to be a constant that appears nowhere in the workbook.

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More usefully, it can be an equation using Excel functions, provided that it uses only range names, and not ‘normal’ cell references (e.g., B4). This allows for some powerful functions with dynamic ranges and selectable objects and pictures.

1234567891011121314151617181920

A B C D E FPercentages Daytime Evening

Wife 30% 30%Husband 10% 30%

Single male 10% 15%Single female 10% 20%

None 40% 5%Sum 100% 100%

Daytime EveningCalls made 0 666.667

Contacts Reached RequiredWife 200 >= 150

Husband 200 >= 120Single male 100 >= 100

Single female 133 >= 110

Total cost 3,333.33$ =DaytimeCost*B12+EveningCost*C12

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Reference List for Named Ranges

Insert a two-column reference list of all of the defined names: Include it if you ever use range names!

Formulas | Defined Names | Use in Formulas Paste Name | Paste List, or F3 | Paste List

123456789

1011121314151617181920

A B C D E F GPercentages Daytime Evening Decisions ='survey model (solver)'!$B$12:$C$12

Wife 30% 30% Reached ='survey model (solver)'!$B$15:$B$18Husband 10% 30% Required ='survey model (solver)'!$D$15:$D$18

Single male 10% 15% TotalCost ='survey model (solver)'!$B$20Single female 10% 20%

None 40% 5%Sum 100% 100%

Cost/call 2.00$ 5.00$

Daytime EveningCalls made 1 1

Contacts Reached RequiredWife 0.6 >= 150

Husband 0.4 >= 120Single male 0.25 >= 100

Single female 0 >= 110

Total cost 7.00$

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Trouble!

If you edit (F2, or click into) a cell in the right column, it will change to #VALUE! (or the cell contents, if the range is a single cell), and you can’t get it back.

1234

F GDecisions #VALUE!Reached ='survey model (solver)'!$B$15:$B$18Required ='survey model (solver)'!$D$15:$D$18TotalCost ='survey model (solver)'!$B$20

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Hands-on Practice

Define a range name for a single cell (B20, TotalCost).

Define a range name for three multi-cell arrays (Decisions, Reached, and Required)

Use the names in SUMPRODUCT formulas.

TotalCost is a named range, calculated using named ranges!

Use Paste List to document what your range names refer to.

Optional: Use Solver to find the right answer.

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Detecting Errors

“Code inspection” is the only reliable way to catch bugs.

Cell-by-cell examination of a spreadsheet

50% detection rate (individual)

80% detection rate (group)

Display underlying formulas.

Formulas | Formula Auditing | Show Formulas, or Ctrl-~ : Toggles formula display on and off

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Error CheckingFormula | Formula Auditing | Error Checking

Performs the audit of the spreadsheet

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Error CheckingFile| Options | Formulas

Specifies what the spreadsheet audit should look for

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Aside: Formatting Numbers as Text

Sometimes you’ll want to treat numbers as text, rather than a numerical value

Product part numbers, credit card numbers, 9-digit zip codes, etc.

Home | Number | General → Text

Warning: Numbers formatted as text can have a value of 0.

Changing the number type to Text keeps its value.

Typing a number into a Text cell has value 0.

Only difference is in the alignment.

Can lead to inconsistencies that are damn hard to figure out!

Potential to be used for Evil as well as Good: Beware!

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SummaryPervasiveness of spreadsheet errorsConsequences of spreadsheet errorsTypes of errorsAvoiding errorsDetecting errors

Managerial Spreadsheet Modeling -- Prof. Juran 30

• Spreadsheet Fluency

• The Art of Mathematical Modeling

What is this Course About?

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Goal: Develop spreadsheets that can be easily and effectively used by others.• Spreadsheets are the medium of business analysis• Principles of good spreadsheet design• Layout, documentation, commenting, structure• Graphical design considerations• Color, fonts, borders, conditional formatting• Facilitating appropriate changes• Graphical controls (sliders, check boxes, etc.)• Preventing inadvertent changes• Protection, data validation• Dashboards and advanced graphing• Waterfall, box-and-whiskers, bullet graphs

Spreadsheet Fluency

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• Practice formulating and analyzing quantitative models.

• Cases, but only a little new theory• Focus on arriving at quick and defensible heuristic

(rather than optimal) solutions• Less structured models than what you saw last year• Spreadsheet models constructed “from scratch.”• A few specific modeling topics• “Dashboard” design and construction• Excel tools for analysis (e.g., data tables)

The Art of Modeling

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• Have a great break!

• Excel Discoveries …

• NBA 6470: Advanced Spreadsheet Modeling• Case-Based Sequel (2nd half Spring 2014)• Optimization (with Solver)• Simulation (with @Risk)• Moving towards “Business Analytics”• Pivot tables, non-linear and logistic regression, time-series

forecasting

• Similar Class at NYU B60.2350 Decision Models• http://people.stern.nyu.edu/djuran/2350home.htm• Please remember the Lifetime Guarantee

What’s Next?