Financial benefits of lean improvement Lean planning

When Lean Manufacturing is introduced, the executives of the company expect to see tangible financial improvement. Often there is no short-term improvement and sometimes the opposite. The financial reports may show negative results and the finance people have no other methods for assessing the financial impact of lean manufacturing. The problem If Lean Manufacturing is so great – how come we can’t see any financial benefit?

The reason Traditional financial results are designed to show how money was spent but not how well it was spent. Lean manufacturing frees up large amounts of resource capacity but this is not shown in the financial reports. The traditional accounting reports assume that this capacity was required to produce the current period’s production.

Lean is not a cost reduction strategy In general, lean manufacturing and lean enterprise are not strategies for short-term cost reduction and bottom-line improvement. Lean is a longer term strategy of business process improvement through value streams……. Leading to enormous financial benefit through growth.

The financial benefits of lean depend on how available capacity is used Sell more stuff Profit & loss Report Available Capacity Strategically Re-deploy resources Eliminate resources Cash flow Report Freed up cash Use of Available Cash

Analyzing the capacity Productive capacity Value added activities Provides value to the customer Comes directly from customer pull Non-productive capacity Non-value-added activities Change-overs, unplanned maintenance, making for stock, defects/rework, etc. Available capacity Capacity that is not currently being use for productive or non-productive activities.

Important questions Let’s look at the example of Acme Stamping When should these financial benefits be calculated? Prior to embarking on the Lean Manufacturing implementation or project. After the Current and Future State maps are available. Who should see these numbers and make decisions about the use of the freed up resources and cash? Management & value stream managers Let’s look at the example of Acme Stamping

Example of financial benefits Acme Stamping Makes brackets for the auto industry Implemented lean manufacturing Reduce lead time for 24 days to 4½ days Reduce inventory from 10 turns to 55 turns

The effect of lean improvements: Acme Stamping – future state Current State Sales per Person £131,429 On-Time Delivery 82% Dock-to-Dock Time - Days 23.60 First Time Through 90% Average Cost per Part £4.94 AR Days Outstanding 30 Operational Future State £131,429 96% 4.50 90% £4.94 30 Lean improvements have freed up capacity. Revenue and costs are still the same. What bridges the gap between the operational and financial results? Why have we seen improved operations and no financial improvement? What has changed? Annual Revenue £1,840,000 Annual Material Cost £772,800 Annual Conversion Cost £317,752 Value Stream Profit £749,448 Value Stream Cash Flow Financial £1,840,000 £772,800 £317,752 £749,448 £1,813,672

This begs the question … What are we going to do with these freed up resources? Or, put it another way

Turn the question around….. When asked about the savings of the lean improvement projects and kaizens, “What is the strategy for using the capacity freed up by lean changes?” To make lean improvement highly profitable you must have a plan for using the newly freed up capacity. You must also focus on the longer term .

What are we going to do with these freed up resources? Floor space used Acme Stamping Floor space in Current State 12,000 sq.ft. Floor space in Future State 5,753 sq.ft. Cost per Square Foot = £1.00 Savings £6,247 per month What are we going to do with these freed up resources?

The future state has freed up over £1M of cash. Inventory reduction The future state has freed up over £1M of cash.

What did Acme Stamping do? Using their Value Stream Capacity Analysis information, Acme developed a plan to increase the revenue of the value stream through the judicious use of the newly available capacity. Specific changes: Added a new product for James Hinde Company. Brought in stamping work for a sister division. Leased floor space to a sub-contractor. Trained additional “lean champions”.

Long term future state for Acme Stamping Sales Price per Unit Sales Dollar Increase Miscellaneous Expense Reduction 11.75 £ 54,050.00 - 3.53 52,875.00 15,000.00 121,925.00 Volume Operating Volume Increase 15,000 Long Term Future State--Monthly Impact at Steady State Material costs the same as for base business Introduce new brackets for the James Hinde Company 4,600 Supplier Loop Stamping Pacemake Actions £15k rental income Comment Provide Stamping Services to Sister Division Lease floor space to Polonius Polishing 19,600 Total Impact of program at Long Term Future State

What is the expense of these increased sales? Used existing machine capacity freed up by the lean improvements. No cost. Use existing people; no additional hires. No cost Used floor space freed up by lean improvements. No cost Product design funded by freed up cash from inventory reduction.

Box score: Acme Stamping Pulling it all together Current State Sales per Person £131,429 On-Time Delivery 82% Dock-to-Dock Time - Days 23.60 First Time Through 90% Average Cost per Part £4.94 AR Days Outstanding 30 Operational Future State £131,429 96% 4.50 90% £4.94 30 Long Term Future £235,936 96% 4.50 90 £4.73 30 Annual Revenue £1,840,000 Annual Material Cost £772,800 Annual Conversion Cost £317,752 Value Stream Profit £749,448 Value Stream Cash Flow Financial £1,840,000 £772,800 £317,752 £749,448 £1,813,672 £3,303,100 £986,832 £317,752 £1,998,516 £3,062,740

Use the Box Score to Show the Benefits 7/31/2004 31-Aug 30-Sep 31-Oct 30-Nov 31-Dec Units per Person 46.01 44.62 43.15 47.11 51.56 33.07 On-Time Shipment 98.0% 98.3% 99.0% 98.8% 72.3% 100.0% First Time Through 82% 84% 76% 86% Dock-to-Dock Days 0.00 8.20 7.60 8.10 3.40 5.60 Average Cost £263.04 259.24 255.83 250.89 217.68 244.65 AP Days - AR Days -8 Productive 31% 33% 48% 34% Non-Productive 59% 60% 66% Other 0% Available Capacity 10% 9% 8% -14% 6% Revenue £923,974 £895,549 £865,680 £979,075 £1,142,411 £688,827 Material Costs £317,570 £307,908 £297,735 £336,566 £396,024 £236,667 Conversion Costs £345,084 £330,159 £315,691 £353,259 £378,838 £242,745 Value Stream Profit £261,320 £257,482 £252,254 £289,250 £367,549 £209,415 Value Stream ROS 28.28% 28.75% 29.14% 29.54% 32.17% 30.40% OPERATIONAL CAPACITY FINANCIAL Value Stream Box Score prior to additional people & machines

Box Score: Result of the Planned Action 31-Jul 31-Aug 30-Sep 31-Oct 30-Nov 31-Dec Units per Person 46.01 44.62 43.15 43.99 52.9 30.89 On-Time Shipment 98.0% 98.3% 99.0% 98.8% 100.0% First Time Through 82% 84% 85% 86% Dock-to-Dock Days 0.00 8.20 7.60 8.10 3.40 5.60 Average Cost £263.04 £259.24 £255.83 £262.44 £236.83 £261.17 AP Days - AR Days -8 Productive 31% 28% 41% 34% Non-Productive 59% 60% 49% Other 0% Available Capacity 10% 9% 23% -1% 6% Revenue £923,974 £895,549 £865,680 £979,075 £1,142,411 £688,827 Material Costs £317,570 £307,908 £297,735 £336,566 £396,024 £236,667 Conversion Costs £345,084 £330,159 £315,691 £362,054 £251,462 Value Stream Profit £261,320 £257,482 £252,254 £280,455 £384,333 £200,698 Value Stream ROS 28.28% 28.75% 29.14% 28.64% 33.64% 2 new machines purchased @ £90,000 each 6 additional people in the OEM Machining cells CAPACITY FINANCIAL OPERATIONAL Value Stream Box Score with new equipment and people

Summary: Calculating financial benefits Lean improvement projects eliminate waste and create available capacity. Inventory reduction creates available cash. The financial impact of lean improvements are determined by how these available resources are used. In most cases the financial benefits of using these resources do not come in the short term.