Management Accounting 2

1. Management Accounting 2 Lecture 6 ‘Lean’ Accounting

2. Lecture Outline • The ‘Lean ‘concept’ • Lean Techniques • Lean accounting

3. The Lean Concept • Lean concept is a combination of various Japanese techniques and approaches • Developed widely in US and UK from its Japanese origins • The term ‘Lean’ came into use in early 1990s, particularly in relation to supply chain – then more widely

4. The Lean Concept per Womack and Jones – see Maskell, 1999 Four Key Elements: • Value and the value stream • Flow • Pull • Perfection

5. Value • Value concerns what is provided to/for the customer • “Lean thinking must start with a conscious attempt to precisely define value in terms of specific products and specific capabilities offered at specific prices through a dialogue with specific customers”, Womack and Jones • Note the VA v NVA used in ABM • “Value is a feature a customer is prepared to pay for” • Value not defined here in terms of assets, products, engineering or sales skills, although all these may be important and may contribute to value creation

6. Value stream • “The value stream is the set of all the specific actions required to bring a specific product (good or service or both) through the three critical management tasks of any business: • The problem solving task – concept design – launch • The information management task • The physical transformation task • The entire value stream for a single product may be surprisingly long • Typically the value stream contains large amounts of ‘waste’ (muda = Japanese for waste)

7. Value stream for Coke production

8. Waste in the Cola value stream(production of cola and purchase through Tesco)

9. Flow • This concept is that any item of production should flow through the various processes with little or no interruption – it should be made in ‘one go’ • Often implemented as ‘flow lines’ or manufacturing cells • This contrasts with traditional ‘batch and queue’ systems • Originates with Toyota Production System • Anything that interrupts the flow of production is waste • Simplest form is within factory • Most radical form is through the whole value stream – see Cola example

10. Old Bicycle Production Plant

11. Traditional Bicycle Production Plant • Arranged by functional operations • Batches of work determined by ‘efficiency’ considerations • This led to long lead times and often months of items in stock • Various storage areas • Large number of part movements

12. Flow Production Bicycle Plant

13. PULL • “Pull in simplest terms means that no-one upstream should produce a good or service until the customer downstream asks for it” • JIT is the most common pull system • The opposite is ‘push’ where a planning system determines what is produced in line with expected demand and then alterations are made when expectations are not met. MRP and MRPII are the most common push systems • Pull systems still have long run capacity planning, but actual production does not commence until a demand trigger occurs

14. Example of spare parts for Toyota • In previous system dealers held common items of stock, non-common items were ordered with weekly deliveries • Result, large amount of stock, many customers had to wait as the part needed was not held in stock. • Aim: Toyota would supply any part next day (overnight) • New system of regional distribution centres, advanced ‘picking and packing’ system for small volumes • Service level improved and costs fell – see table

15. Toyota (US) Spare Parts Service USA – 1994 USA – 1996 parts days parts days Parts Distn Centre 50,000 120 65,000 30 Dealer 4,000 90 6,000 21 Stock level index 100 33 Service rate 98% in 7 days 98% in 1 day One dealer was able to cut the value of stock held in half while holding 25% more stock items; turn half the store area into money-earning service bays and give –same-day’ service to a substantailly larger pnumber of customers

16. Perfection • This is the pursuit and attainment of excellence • Perfection through a series of endless steps • Perfection is often found the practice not design • Various well-known techniques are used to achieve this: • Kaizen – continuous improvement • Breakthrough improvement • Best practice and benchmarking

17. Lean Techniques • Elimination of Waste • Continuous Improvement – Kaizen • JIT and zero-defects • Pull instead of Push • Multifunctional teams • Decentralised responsibilities with integrated functions • Horizontal and vertical information systems • Supportive supplier relations - partnerships

18. Lean Accounting Issues Critique of traditional management accounting • Leads to wrong production decisions, such as large batch sizes, and high utilisation (produce for stock) • Hides waste by lumping most costs in overheads – note the Stream Int experience of many small activities combining • Provides little useful information for improvement • Organised by Departments not value streams • Creates waste through too many transactions and too many unused accounting reports

19. Recommendations for Lean Accounting Per Maskell – note he is a consultant in this area • 70% of accounting staff located in operations • 50% of accounting staff time devoted to improvement • High level budgets only – no detailed budgets • Control processes through activity outputs • No need to record detailed labour hours • All information widely and easily available • Set targets using benchmarking and ‘lean perfection’ • Identify non-financial performance measures

20. ABT and Lean Accounting • Initially there appears to be a conflict • ABC usually shows that large batches yield much cheaper unit costs – thus this may be a motivation away from lean ideas • Cooper in 1996 JCM paper argues this is not the case • He argues that the batch costs need to be taken into consideration in deciding how small batches should be • Also the correct managerial response to higher batch costs is not necessarily larger batch sizes, but action to reduce batch costs

21. Lean Accounting and Target Costing • Japanese practice, developed from 1960s - considerable development through that period • Contingent factors include: increased automation, shorter product lives, intense domestic competition, objective of increased world market share • Belief that scope for cost reduction after production started is relatively small

22. What is the Target Cost (TC)? • Target cost = Target price - Target Profit (including target volume) • Target cost = maximum manufactured cost of product • Target cost = cost planning tool; costs must be reduced to TC • Target cost = integrative mechanism (see TC processes later)

23. Target costing v Traditional costing

24. Implementing Target Costing 4 Key stages • Product Planning • Product Design • Preproduction • Production

25. Examples from Matsushita and Toyota

26. Stage 1 - Product planning - 1 • Committee headed by chief engineer establish product specification and target price, using: market info, competitor info, present price etc. • Functional analysis - degree to which functionality of feature meets customer requirements (cost of function not cost of item) • Toyota: Target price = Current price + value of improvements • Target profit based on 3 year medium term profit plans and seen over life of product • Target Cost calculated as residual after volumes estimated

27. 2 • Estimated cost = Current production cost + cost of new features • Cost tables enable new features (new products) to be costed • Estimated cost - target cost = required cost reduction

28. Product Planning Implementation Issues • Target cost, estimated costs etc. calculated for total and each component and each production process • Requires target cost to be allocated across all components!! • Cost reductions calculated for each component and process

29. Stage 2 - Product Design • Most cost reduction obtained at this stage • Value Engineering is process of design and redesign that produces target cost • Value engineering highlights design simplicity, common parts and processes, evaluation of alternatives, innovative solutions • Extensive use of prototypes to test cost reduction • Iterative process until target cost is reached • Toyota has 2 year prototype phase involving many cross-functional teams • Toyota 'Does value added by new feature justify its cost?'

30. Stage 3 - Preproduction • Configuring production lines and trial runs • Target cost still being recalculated up until point of production • Toyota runs 2 experimental production lines

31. Stage 4 - Production Stage • Cost maintenance is primary objective • Standard costs based on target costs • Some forms of TC require annual reduction in standard costs • Kaizen Costing

32. Benefits of Target Costing • Pricing is market oriented • Profit margins are maintained • Close cross- functional co-operation • Integral to other Japanese methods (JIT, continuous improvement) • Congruent with overall objectives of growth in market share (1970s and 80s)

33. Problems and Difficulties of Target Costing • Benefits of TC decrease when accuracy of variable costs diminishes - uncertainty, volume estimates, totally new products • Emphasises manufacturing costs when other areas may be more important - e.g. procurement, quality • Knowledge of customer requirements • Allocating TC to components and processes • Longer development times (e.g. Matsushita shaver!) • Employee burnout through stress of deadlines • Organisational conflict - sales v manufacturing • Market confusion - does the market know what it wants?

34. Concluding Comments • The Lean concepts and techniques are widespread and moving into service industries • Analysis of whole supply chain (value chain) is now common • Many firms use some of the ideas and techniques without espousing the Lean ideology • Lean is an umbrella for many ideas not a tightly defined approach • Lean is extremely important in many industries, notably automotive and aerospace