1. Lean Accounting for the Lean Enterprise 2-Day Workshop
Ross Maynard BMA Europe Ltd

2. Objectives of this Workshop
Understand why traditional accounting, control & measurement methods need to change as the company continues the lean transformation
Overview the primary methods of Lean Accounting that will be important to the company
Develop a ‘Go Forward’ plan for your organization

3. A Brief History of Lean Management
Henry Ford influenced by Frederick Winslow Taylor’s ‘Principles of Scientific Management’
Ford introduces mass production
1926
1979
Taiichi Ohno develops ‘The Toyota Production System’ (TPS) based on Ford’s principles of 1926
Today…
1945 on…
1934 on…
Toyota develop ‘Pull Production’ (producing only for actual sales) in response to resource shortages. This was inspired by a visit to a US supermarket chain
Toyota starts producing vehicles, developing Kaizen teams in 1936 3

4. The Toyota Production System
The idea of pull production (producing only for actual sales) was inspired by a visit to a US supermarket chain - ‘Piggly Wiggly’- shortly after WWII
Levels of demand in the Post-War economy of Japan were low and the focus of mass production on lowest cost per item via economies of scale had little relevance
TPS is a whole management system - it is not just about production

5. The Philosophy of Lean
Maximize competitive advantage through operational excellence
A time-based strategy – flexibility & speed of response to the customer & speed through the production/ service delivery process
Why would you perform any activity that the customer is not willing to pay for?
Improve the flow and you improve profitability

6. The Five Principles of Lean Production
Make value flow at the pull of the customer
Identify the value stream & eliminate waste
Involve & empower employees
Specify value in the eyes of the customer
Continuously improve in the pursuit of perfection 6

7. Traditional thinking and lean thinking are in conflict
Traditional Standard Costing
Lean
Thinking
ASSUMPTIONS
ASSUMPTIONS
Profit comes from full utilization of resources
Direct labor is the most important conversion cost
Control the business thru detailed tracking
All excess capacity is bad
Profit from maximizing flow on pull from customers.
Waste is resources impeding the flow
Control thru continuous attention to flow & waste
Excess capacity provides flexibility

8. Why Lean Accounting?
Traditional Standard Costing was developed for mass production
The philosophy is that profitability is maximized when labor and machine utilization are maximized
The focus of Standard costing is on lowest cost per item through economies of scale
This does not apply in a high variability, multi-product environment
Here profitability is maximized when the rate of flow is maximized

9. What’s the problem? Traditional management systems:
Actively work against Lean Manufacturing & other lean improvements.
Are expensive and wasteful.
Provide misleading, wrong, and harmful information.
Motivate people to do the wrong things.
Are complex and confusing to people.
Here’s a Few Simple Examples

10. Actively work against lean manufacturing
Drill on CNC Machine
Inspect & Pack
Batch 2500
1 minute
4 minutes
Machine on Lathe
Grind
6 minutes
4 minutes
Total labor time: 15 minutes
Labor cost: $5.00
Overhead cost: $15.00
Material Cost $1.50
TOTAL COST: $21.50
Lead Time: 6 weeks
Inventory 25 days
Batch size 2500 (10 days)
On-Time delivery = 82%

11. Lean manufacturing changes
Create a cell.
Use an drilling machine with quick change over.
Reduce the batch size.
Reduce the lead time.
Reduce inventory.
Almost perfect delivery.
Created additional capacity on the CNC machine.

12. Drill on Drilling Machine
Lean improvements
Machine on Lathe
Drill on Drilling Machine
4 minutes
4 minutes
Lean Cell
Grind
Inspect & Pack
6 minutes
4 minutes
Total labor time: 18 minutes
Labor cost: $6.00
Overhead cost: $18.00
Material Cost $1.50
TOTAL COST: $25.50
Lead Time: 2 days
Inventory 5 days
Batch size 250 (1 day)
On-Time delivery = 98%

13. The problem
We have made great improvement. BUT…. the product cost has gone up and the project is cancelled.
In fact, the changes were highly beneficial both operationally and financially.
It is the standard costing that is leading us in the wrong direction.

16. Traditional income statement
What does Gross Profit mean?
Why have the earnings fallen so much in period 2?
How would you explain this someone in production?
The first statement illustrates the confusion created with the traditional statements: It requires the intimate knowledge of the cost system possessed by and horded by accountants.
How were standards determined? At what capacity levels?
Sometimes based on how well you can negotiate with your cost accountant
Let’s look at these statements:
Gross Margin went down but was that because the standards were increased to reflect lower expected volumes? Was it because the material standards are frozen for network procurement?
Total Adjustments went up. Is that good or bad? Did it go up due to purchase price variances and over absorption of overheads. What does that mean?
Absorption of the expenses
Let’s look at another way of presenting the income statement that we call the lean way. Same data, just presented differently
Volume decreases from one year to the next.
How did spending fare with those decreases?
This statement shows what was spent on those elements during the year. In lean you would expect the relationship to be close to the current sales
What about the change in inventory? They reduced it both years and had they kept it at the same level without continuing to reduce it, they could have duplicated the ROS. But they did some good lean things and it hurt 16 16

19. “Plain English” Income statement
What does Gross Profit mean?
Why have the earnings fallen so much in period 2?
How would you explain this someone in production?
The first statement illustrates the confusion created with the traditional statements: It requires the intimate knowledge of the cost system possessed by and horded by accountants.
How were standards determined? At what capacity levels?
Sometimes based on how well you can negotiate with your cost accountant
Let’s look at these statements:
Gross Margin went down but was that because the standards were increased to reflect lower expected volumes? Was it because the material standards are frozen for network procurement?
Total Adjustments went up. Is that good or bad? Did it go up due to purchase price variances and over absorption of overheads. What does that mean?
Absorption of the expenses
Let’s look at another way of presenting the income statement that we call the lean way. Same data, just presented differently
Volume decreases from one year to the next.
How did spending fare with those decreases?
This statement shows what was spent on those elements during the year. In lean you would expect the relationship to be close to the current sales
What about the change in inventory? They reduced it both years and had they kept it at the same level without continuing to reduce it, they could have duplicated the ROS. But they did some good lean things and it hurt 19 19

22. Misleading cost information
Prepare for
Mounting
Align &
Secure
Inspect & Pack
6 minutes
Product B
Output
10 per hour
3 minutes
4 minutes
Product A
Mount
Components
Actual Production Cost = $580 per hour
Material cost = $42 per item
Product Cost = ?

23. Misleading cost information
Product A
Product B
Standard Cost = $90.06
Material $42
Labor 17 $24.23/hr = $6.87
Overhead 600% = $41.19
Actual Cost = $100
Production $580/10 = $58
Standard Cost too low
Standard Cost = $109.85
Material = $42
Labor $25/hr = $9.69
Overhead 600% = $58.18
Actual Cost = $100
Material $42
Production $580/10 = $58
Standard Cost too high

24. Poor decision making: Outsourcing product B
Traditional Approach
Actual Impact
Standard Cost = $ Outsourced Cost = $85.00 “Savings” of $24.85 per unit
New Material Cost = $ 85 Old Material Cost = $ 42 Increase in Actual Material Cost = $ 43 Actual production cost per hour = $ 580 because no resources were eliminated Actual costs increase due to outsourcing

25. There is no “Standard” Cost!
In a lean environment, the cost of the product is related to flow…
Waste affects cost so that there is no one ‘standard’ cost of a product
Cost varies with production, FPY, scrap, mix, quality, downtime etc
If you control the flow, you control the cost
By improving flow through the Value Stream
we improve capacity = flexibility 25

26. Performance Measurements
Traditional accounting performance measurements motivate non-lean actions.
Measuring labor efficiency, machine utilization, and overhead absorption leads to large batches and high inventory.

27. Sales policies mismatch with lean capability
Week 1 2 3 4
Sales Orders &
Shipments
Level Schedule
Value Stream
Suppliers
Pull System
Single Piece Flow
Result:
High inventory
Late deliveries
Higher costs
Confusion
Conflict

28. Transaction-based control systems cost too much
Entering and administering transactions is wasteful and time-consuming.
EXAMPLE:
A production plant with 150 people, 120 products, and revenue of $15M required over 4,000,000 transactions per year.
Job costing, procurement, inventory control, accounts payable, accounts receivable:
38 equivalent heads spent processing and using the transactions.
12.7% of revenue

29. Two Aspects of Lean Accounting
Applying Lean Thinking & Methods to the Company’s Accounting Processes
Accounting for Lean & Supporting the Lean Transformation
Cost accounting, labor reporting, production reporting & work orders
Purchasing & accounts payable
Inventory tracking & valuation
General ledger simplification
Month-end close, etc
Reporting & decision-making to support lean manufacturing & other lean processes
Financial reporting that is immediately understandable & useable to everyone
Single lean accounting system for management accounting & external reporting
Accounting processes focused on customer value, value streams, pull, empowerment, & continuous improvement

30. All of this requires Trust
Lean is a People Process
The aim of lean is a production system that highlights problems and a human system that produces people who are willing and able to identify and solve them
Eliminating waste is done by people using rigorous problem-solving methods
Behaviours that focus on improvement & problem-solving
Involving people in lean is at least as important as lean tools.
Lean is a set of collaborative and inquisitive behaviours that result in a culture of continuous improvement.
All of this requires Trust 30

31. Lean Accounting has Seven Aims
Performance measures that motivate lean–cell & value stream measures
Support relevant, accurate & timely decision making using contribution costing
Elimination of unnecessary accounting transactions
Drive the growth of the business by increasing customer value using Target Costing
Value Stream Costing, replacing Standard Costing = Value Stream Profit & Loss Account
Highlighting impact of lean improvements – eliminate waste, improve capacity, improve flow
Motivate lean behaviour in the planning process – SOFP 31

34. Box Score - Financial Impact34

37. Example: Italian Client

43. Value Stream Profit and Loss Account
THE VALUE STREAMS MUST MAKE A MINIMUM OF 46% 43

46. Italian Client Value Stream Profit and Loss Account

49. Summary - Lean Accounting
Primary method of lean control for meeting customer needs & driving continuous improvement
Performance Measurement
Simple, direct, & accurate way to create financial reports. Very few transactions
Save time, money, & confusion by radical elimination of wasteful transactions
Value Stream Costing
Transaction Elimination
Lean Decision Making
Financial Impact of Lean Improvement
Manage the business by value streams with accountability for growth, profitability & continuous improvement
Understand the financial impact of lean improvement & create a money-making strategy
Target Costing
Drive the business from the customer value – not the cost

50. What Will Lean Accounting Do For Us?
Increase sales & reduce costs through better decision-making information
Clearly identify the potential financial benefits of lean programs
Reduce costs through eliminating wasteful transactions & systems
Motivate long-term lean improvement through lean-focused information & measurement
Eliminate the problems caused by traditional costing methods

51. Why Lean Accounting ?
It’s all about flow … 51

52. It’s all about flow …
In a lean environment, profitability is related to the rate of flow through the Value Stream.
By measuring and managing the flow, we manage the cost.
By improving the flow, we reduce cost, and increase capacity.
By increasing the capacity of the Value Stream, we increase its profitability. 52

53. The Heart of Lean Accounting
A defined Value Stream
Agreed Performance Measures
Direct Value Stream costs
Revenue/ customer value
Material costs
People costs (including direct support)
Machine costs
Space and energy costs
Capacity
Box Score

55. Watlow Controls, Winona MN Jan Brosnahan, Controller
Why Lean Accounting?

58. Action Plan Goal: to implement lean accounting at your site
Lean performance measures linked to plant goals
Defined Value Streams
Value Stream direct costing
Box Scores used for control, decision making, planning and improvement
Identify the Obstacles to implementation
What are the Causes of those obstacles
What Actions will you take to eliminate the causes and implement lean accounting ?

59. Agenda day 1 Value Stream Management Defining the Value Stream
Box Score
Day 1
Performance Measurements
Value Stream Costing
Value Stream Costing Exercise
Day 2
Value Stream Capacity
Value Stream Capacity Exercise

61. Day One Wrap-up 61

64. Agenda day 2 Decision Making Decision Making Exercises
Financial Benefits of Lean
Day 1
Month End Close & GAAP
Transaction Elimination Warm Up
Day 2
Transaction Elimination
SOFP
Implementing Lean Accounting

67. Day Two Wrap-up