Brian H. Maskell, president of BMA Consultants, presents a case exampling how lean is used in accounting and what it can teach a business in terms of simplicity and efficiency.
Companies that are seriously pursuing a lean journey soon find their accounting, control, and measurement systems need to change to support the new strategy. The principles and methods of lean thinking and practice are quite different from traditional business and require different measurements.
The changes are driven by both positive and negative needs. The positives include accounting, control, and measurement processes that support the new lean strategy. The negatives are to eliminate the harmful impact of traditional accounting and measurements. There is also a third change driver that is related to waste. While traditional companies often build increasingly complex accounting systems, lean companies recognise their accounting and measurement systems need to be stripped down to the minimum amount of work.
Traditional accounting systems
Why are these systems harmful to lean? Traditional accounting and measurement methods are not wrong and bad. But they were designed to support 1920’s mass production. Lean manufacturing is in many ways the opposite of mass production. Traditional measurements like labour efficiency, purchase price variance, machine utilisation, and others drive mass-production thinking. They lead to large batches, long lead times, high inventory, shortages, expediting, and crisis management. These are not bad measurements, but they are designed to support mass production and motivate mass-production thinking and actions.
This is the opposite of what a lean company is trying to achieve. If we are trying to make lean change and improvements, these accounting and operational measurements will push back and stymie our efforts. A very potent anti-lean measurement is the overhead absorption variances. This also leads to manufacturing large amounts of products even when the customers have no demand for them.
A recent academic study showed the 2008 bankruptcies of General Motors and Chrysler Corporation were impacted badly by overhead absorption thinking. The car plants continued to manufacture economic order quantities, spending huge amounts of money, and making hundreds of thousands of cars nobody wanted to buy – until the companies ran out of cash.
In a job-shop style production environment, these measurements and accounting tools are particularly harmful. The use of standard costs and margins leads to poor decisions. Decisions related to pricing, sourcing, make-buy, capital purchase, improvement projects, new products, etc., need to be made for the value stream as a whole. Decisions made related to the individual product or sales order will always be poor decisions.
A lean organisation – particularly a low-volume and high-variety – must eliminate these systems and replace them with lean accounting methods that support and prosper lean thinking and practices.
So what are the positives?
Lean accounting has been designed to support lean manufacturing (and lean sales, lean product development, lean engineering, etc.). In order to do this, we need to develop accounting, control, and measurement processes that reflect lean thinking and motivate lean methods and action throughout the entire organisation.
1. We focus our financial and operational reporting around the whole value stream rather than individual cells, work centres, processes, or departments.
We are not so much interested in the efficiency of individual departments or processes, but we are very interested in the productivity of value stream as a whole—the effectiveness and profitability of the entire system. A value stream is all the things we do to create value for the customers. The starting point of all lean thinking is an understanding of how we create value for our customers. And this value is created within the company’s value streams. The value streams start from sales and go all the way through to purchasing, production, shipping, and cash collection.
Lean companies organise their businesses around the value streams that serve the customers. They create dedicated teams focused on a family of products or a market. And the team has a laser-sharp view of what must be done to increase revenues, reduce costs, increase cash flow, and grow their part of the business.
The job description of a value stream manager is:
- To create more value for the customer.
- Grow the business.
- Eliminate waste from every process.
- Make tons of money.
I was working last month with an aerospace component company in the U.K. where we have helped them develop a value stream organisation. Even though they are in the pilot stages and have only created two value streams, their team members are wildly enthusiastic about the new arrangement. The operations director told me that he has been inundated by people in the company wanting to be included in a value stream.
2. Once an approach to value streams has been set up, then the financial and operational reporting is at the value stream level.
Traditional accounting is eliminated in favour of a simple, direct weekly income statement (of profit and losses). Instead of the complicated financial reports used by traditional companies, we create plain English income statements that everyone in the company can readily understand and use.
If you have timely and understandable financial information, then the value stream leaders and team members are able to make much better decisions, leading to growth, productivity, and profits.
Similarly with the operational measurements. The vital few measurements are produced weekly and visually displayed on the value stream performance board. These simple, timely measurements enable the team to drive continuous improvement every week based on real information everybody owns.
This operational and financial information is also used to work out the true financial benefit coming from lean improvement. The value stream accounting shows you the real, bottom-line savings and profitability of your lean improvement efforts.
3. The value stream team members have a clear focus on the value created for the customers.
When we are organised in value streams, then all the team members have line-of-sight to the customers. When we know what the customers truly value and we know (and have full control over) the processes that create this value—then we can work step by step to increase the value, while at the same time reducing the costs. If you increase the value to the customers, then you can increase prices and/or gain unheard-of market share growth and customer loyalty.
4. Lean accounting is a lot less work.
In lean accounting we have primary reporting at the value stream level. We do not need the thousands or millions of transactions required to maintain the departmental reporting, the labour tracking, or any of the other so-called control systems traditional companies anguish over.
There is a maturity path to making these changes. As your company becomes proficient with lean thinking, your processes will come under control. Much of this control comes from pragmatic, visual tracking by the people in the processes. As your company makes more progress with lean, you will get to the point where the secondary transactional control systems (ERP/MRP) are increasingly unnecessary and can be gradually phased down. Do not think that I am speaking against these ERP systems. They are valuable tools for any lean company. But they are largely wasteful, and we need to eliminate waste from the systems as well as the physical processes.
We have a good number of customers that have a two-transaction factory. They use a transaction to receive materials and a transaction to ship the product. They have largely eliminated accounts payable and no longer track inventory. Not every company can achieve this, but this is the gold standard of transaction simplification.
As you begin to make progress with lean manufacturing, lean product design, lean sales, lean engineering, and lean administration, it soon becomes clear that the traditional accounting, control, measurements, and decision-making systems are no longer appropriate. In fact, they are in many ways anti-lean. The purpose of lean accounting is to provide the vital operational and financial information in a way that motivates lean transformation and improvement—and is itself a low-waste and lean process.
Case study 1
While lean accounting primarily supports and enhances an organisation’s lean transformation, these two companies saw specific and radical improvement directly from the introduction of lean accounting.
EIS Wire and Cable (South Hadley, Massachusetts) is a company specialising in both customised and standard wiring for industrial and military organisations. The company provides a range of products from single conductor hook-up wire to complex multi conductor, composite cables.
EIS has been working to introduce lean manufacturing methods for a few years and had some good success. Roy St. Andre, VP and General Manager, saw the need for simpler and more effective measurements, financial reporting, and decision-making, and worked to introduce lean accounting methods into the company.
Mr. St. Andre recently shared that “Our lean accounting has served us very well by shifting our focus to one value stream we’ve increased that Value Stream’s profitability by over 100%. We’ve grown by 32% over the past 3 years without adding any employees to the head-count.”
Case study 2
Cobham Defense Systems is a division of UK-based Cobham plc. Dean Cantrill, vice president of operations in the USA, was actively involved in the introduction of lean accounting several years ago. Cantrill observed:
We applied lean accounting to a value stream that was able to treat labour as a fixed cost. It yielded three measurable wins: 1) Improved pricing capability which quickly lead to improvements in value stream profitability, 2) reduced/eliminated the waste of direct labour employees entering labour data into the ERP system, and 3) a sustainable lean mindset for all members of the value stream.
I could write a chapter for a book on each of the 3 items, but the highlight of this transition was item “3”, the sustainability. Nothing confuses the mindset of the value stream members more than telling them that eliminating waste is a daily mission, but keep doing the non-value added time keeping tasks because Accounting needs the information.
Case study 3
Another example is a multi-national chemical company that has been applying lean accounting methods in their major plants. Lean improvements had been introduced in their plant in Recende, Brazil but the improvements had shown limited results.
The financial controller and the continuous improvement manager decided to introduce lean accounting to provide better control, measurements, and visual management to their processes.
The company normally produced an average of 8 production batches of their major product each week, but with a lot of variability. Some weeks they achieved 12 batches and other weeks much less. Within a few weeks of introducing lean accounting the plant was able to produce a consistent output of 11 batches, and this consistency has continued for over a year.
The financial controller explains that the lean accounting measurements and financial reporting provided timely and practical information that enables the production people to increase their output by 37%. This was by identifying the issues and driving focused improvements that solved and the problems and were easily sustainable. He also explains lean accounting is not just for the financial people, it has provided valuable information across the entire workforce.