Real Numbers
Page 1
Contents
Foreword
Defining a New Role
From Bean Counter to Business Partner
Performance Measurement
Streamlining the Process
Cost Management vs. Cost Accounting
Plain English Management Financial Statements
The One-Day Close
Budgeting and Capital Planning
Lean Acquisitions
The Road Ahead
The Payoff
Lean Accounting Concepts & Principles
List of Figures
Real Numbers:
Management Accounting
in a Lean Organization
By Jean E. Cunningham and Orest J. Fiume
with Emily Adams
Illustrations: Lisa Truitt White
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Foreword
It is time to open the kimono.
In the wake of corporate scandals that recently rocked the U.S. economy, few people still believe that secrecy in business accounting is good or desirable. After the terrorist attacks of September 11, the Dow Jones Industrial average lost not quite 7 percent of its value. In the late spring and early summer of 2002, as corporate scandals washed over the newspapers and millions of hapless investors, the Dow dropped 18 percent. The conclusion drawn by Business Week analysts was that tricky accounting and corporate greed did far more damage to the U.S. economy than Osama bin Laden.
A plunging stock market is just the most obvious reverberation of scandal and distrust, however. Accounting has been a mystery in most organizations since before the industrial revolution. In the beginning, it was simply good strategy to keep information on one’s resources tightly guarded. As companies went public, however, and a certain openness was required, complexity took the place of secrecy. Or rather, complexity became the new secrecy. It was not long before a brilliant shell game became the rage: empty corporations could hide assets, transactions and alliances. Webs could be constructed that would require months or years of paper-chasing to unravel. As these methods became accepted practice, accountants presented an increasingly complex face to their own organizations while the entire business, likewise, became convoluted.
In a very small business, where decision-makers tend to be central and in frequent contact, this might not be a problem. But in any larger endeavor, where many people are often pulling in opposite directions toward the same goal, accurate and timely information must be a priority. That information must also be easily understood and actionable. Over the years, however, managers have been forced to understand their own departments, not in terms of income and cost, but as variances and percentages that bear little relationship to reality. Those same managers learned that variances could be nudged up or down to present a better picture of the operation —for instance, by using labor hours to make a million pieces of plastic that were not actually needed —even if that meant damaging the real business interests. Complex accounting created a kind of funhouse mirror, where the skinny man could look fat simply by shifting his position. The damage of this numbers-induced behavior is felt every day, in businesses all around the world.
What accounting should do is produce an unadulterated mirror of the business —an uncompromisable truth on which everyone can rely. It is not only investors and federal regulators that must know what lies beneath the opaque gloss of the kimono, but the management team of the business must have timely and reliable information. Only an informed team, after all, is truly capable of making intelligent decisions.
The term “opening the kimono” became widely known during the 1980s, as business people from around the world traveled to Japan to witness the industrial miracle at Toyota Motor Corporation. The term’s definition is intuitive —to reveal what is hidden beneath the exterior —but few seemed to understand truly how much should be revealed. Businesses adopted just-in-time inventory systems and removed waste from their processes, but often remained blinded by old accounting practices.
In this book, Orry Fiume and Jean Cunningham present a new model for management accounting, one that will replace the 70-year-old outdated model whose primary purpose in manufacturing organizations was tracking inventory value —a purpose made moot by new lean methods. Based on the experience of transforming their own accounting functions over the past decade, the authors present a picture of a more logical kind of management accounting, one that mirrors and joins the business in its transformation. These ideas are not just relevant, but necessary. As businesses throughout the world become lean, and become more dependent on others through expanding supply chains, all economies are affected. Meaningful, timely information, presented in a way that all decision makers can understand, has become of critical importance.
Over the years, the authors also recreated their own departments on a lean model. In this book, Fiume and Cunningham offer both the big picture —why we must change —as well as useful step-by-step instructions for bringing lean into the management accounting and other administrative functions. In this way, we can see how each step of a process, and each functional department within a business, profoundly affects the next step or department.
We have all become interconnected, businesses and countries alike. Lean methodologies have changed not only individual companies, but also international trade and the economies of nations. Businesses will continue to adopt and expand upon lean because, quite simply, it makes sense to pursue a path in which we use fewer resources to create greater wealth. Now, it is time for financial managers to drop the kimono and join the rest of the business in this transformation.
Anand Sharma
President & CEO
TBM Consulting Group, Inc
1
Defining a New Role
In too many organizations, accounting teeters on the brink of irrelevancy.
Accounting departments produce information that arrives late and is often misleading. Few managers fully understand the columns of numbers and variances presented in these reports. Instead, they have learned to accept that most accounting is impenetrable. Lack of clarity, however, creates an atmosphere of distrust. That same distrust further isolates the accountant, who has become marginalized, operating behind a veil of mystery.
Is it any wonder we don’t trust our financial executives? Beyond the fact that a few major corporations have used accounting’s veil of complication to defraud their investors, we know that it is difficult to trust what we cannot understand.
Back in 1987, Thomas Johnson and Robert Kaplan wrote in Relevance Lost, “Corporate management accounting systems are inadequate for today’s environment.” Things have not improved substantially since then. The business world has only increased the speed and pressure.
With this in mind, consider the unlucky accountants; they studied the numbers and theories, spent money on schools to learn an honorable profession, only to be viewed as hapless bean counters —dull individuals chasing debits and credits with no better knowledge of the larger b
usiness than any other employee. They chase transactions, have heart attacks over stray invoices. This is not why they went to college.
The ingrained habits of most businesses have even reinforced the situation. The chief financial officer, who tries to embrace change, using technology to handle the more mundane jobs and freeing himself to become a better business partner and advisor, often encounters resistance. Financial executives are frustrated. And their businesses are not getting what they need.
In the meantime, improvement programs have offered businesses new paths. Over the past two decades, the lean movement in manufacturing —emphasizing waste elimination and one-piece flow in all processes —has illustrated the potential for significant positive change. Lean, just-in-time or continuous improvement —all variations on the same idea —has been credited with the enormous leap in productivity that fueled the economic boom of the 1990s. Accounting, however, has largely been left in the cold. Worse yet, accounting has become a roadblock to further improvement in many cases.
There have been new ideas, new theories, to come along in accounting such as Activity-Based Costing. But ABC only added complexity to the accounting function, creating new tasks and reports instead of simplifying the process. Even now, MBA programs are filled with hopeful students who are there to “try and understand the numbers.” For us, the idea that financial reports require an advanced degree to comprehend is a clear sign that change is needed.
The problem with ideas like ABC is one of narrow vision: they are based on old accounting concepts and a greater sense of the limits of accounting than real creative thought. We believe that the natural evolution of the lean movement is toward streamlining and simplicity, and that accounting systems can and should become simple and even elegant.
Drawing from the lean initiatives, we will offer methods to bring clarity to accounting, a simplicity that will help accountants move from chasing transaction to becoming true analysts and valued business partners.
Lean concepts apply to the entire organization and should be integral to accounting. In fact, we believe that accountants must become a fundamental part of the team-based improvement efforts at the core of a lean transformation. When accountants are excluded from team-based improvements, they become barriers to change because they cannot approve what they do not understand. If accountants are not involved in change, they remain mired in the old culture, along with batch processing and standard cost accounting. Once involved, however, they use their skills to help accelerate change throughout the organization.
We are two financial executives from the front line of the lean revolution who have found ways to lead and follow and push our organizations forward —Orry at The Wiremold Company and Jean at Lantech, Inc. We have both had extensive experience outside the financial function, in sales, retail and new product design and packaging. When change arrived at our doors, we did not see it as a threat; we saw the opportunity to eliminate elements of the accounting process that we believed were wasteful. Some financial executives are concerned that simplification will remove the mystique of accounting’s “black art” and drain their power. But we did not want to be feared. We did not want to spend our days moving around data, locked away in a far corner of the business. We believed we had more to offer than incomprehensible monthly reports; we could provide the information that gives businesses a more complete picture of reality. We could be partners in change.
Some accountants that still fear change use auditors as an excuse, claiming that restrictive audits do not allow streamlining. Like Flip Wilson, they blame the auditing devil that made them do it. The auditors are not the problem. We have auditors who have accepted change that might seem radical, such as eliminating standard cost accounting systems and supplier invoices.
The walls are not so narrow as they might seem. The most difficult barriers are in our heads, and in the historical methods of accounting that have taken root in our businesses. Other obstructions are rooted in internal policy and culture rather than external rules.
We now have organizations where financial results are available as soon as the month ends, where real-time financial statements use plain English, offering data that is meaningful to business managers with no formal training in accounting. In our companies, managers can talk intelligently about the numbers, giving us the freedom to become consultants in new opportunities, rather than report-generators. And the productivity gains we have achieved in accounting have enabled us to support our growing businesses with the people we have, or without a commensurate growth in accounting staff.
We challenge executives and students alike to keep an open perspective. Do not accept the narrow view of accounting that is the conventional wisdom.
After all, belief in the conventional wisdom is what led so many into the U.S. industrial debacle of the 1970s. Content with the decades-old notion that the U.S. was the world’s manufacturing giant —home of quality and efficiency —many industrialists did not notice until too late that they were getting clobbered in the marketplace. Especially in the automotive industry, giants like GM, Ford and Chrysler were losing significant market share to Japanese companies, lead by Toyota.
An NBC program that aired in 1980, “If Japan Can, Why Can’t We?” was a trumpeting wake-up call that shoved the issue into the national consciousness. U.S. industrialists were forced to set aside their ideas of economic dominance and acknowledge that they had fallen behind.
Executives began taking field trips to Japanese plants, watching in awe as workers in super-clean, efficient factories put out products better and faster. Most of the executives did not know they were reversing the footsteps of one pioneering son of Toyoda, Taiichi Ohno, who had left post-World War II Japan to study the ways of Henry Ford and the American supermarket system. From Ford and supermarkets, Ohno learned the value of standardization, flow, pull systems and agility. Ohno used these ideas, mixed with images from the natural world and ideas on worker empowerment, to create a system that constantly perfected itself and created enormous profitability through productivity improvements. By the time American industry was entering its most prosperous era in the 1960s, Ohno had revolutionized factories at Toyota and beyond with the ideas of continuous improvement and the kaizen breakthrough, which were integral to the Toyota Production System.
Those early few businesspeople studied what worked in Japan and, in many cases, adapted the processes to fit with American values such as egalitarian teamwork. In the late 1980s, the continuous improvement principles of the Toyota Production System were transforming a few early companies. But most businesses were still entrenched in batch-and-queue processes, carrying expensive inventories and trying to stave off foreign competitors through government intervention.
The tide was already beginning to slowly turn, however. In a 1990 book called The Machine That Changed the World, James Womack and Daniel Jones demonstrated how Toyota was able to design and build cars that consumers wanted, faster and at a lower cost than American competitors. The Toyota Production System was becoming recognized as the best and became the benchmark for world-class manufacturing.
A few years later, Womack and Jones set out to find U.S. companies that had successfully implemented the principles of the Toyota Production System. Using their own studies, plus examples from clients of Shingijutsu and TBM Consulting Group —a Japanese-U.S. collaboration that introduced many companies to kaizen early on —Womack and Jones wrote Lean Thinking (1996). This more clearly defined the concept of eliminating waste throughout the value chain and coined the term lean to describe the philosophies.
It was clear from their analysis that lean thinking applied to entire enterprises and was not intended for manufacturing alone. “As you progressively move your lean transformation beyond a physical manufacturing environment, you will find more of a need to transpose the logic of lean thinking to suit different mind-set and circumstances,” Jones and Womack wrote. “Even with the most positive attitude, staff in a warehouse or a retail activity will
find it very hard initially to see how flow and pull apply to their activities. After all, they don’t ‘make’ anything in a physical sense and they’ve spent years blaming manufacturing for not getting its job done on time.”
Two of the companies featured in Lean Thinking, both of which were already moving lean past the shop floor, were The Wiremold Company and Lantech, Inc. Today these two companies continue their lean journeys, consistently gaining profitability and market share in their industries. They have been transformed into companies that deliver increased value for shareholders, employees and customers.
Lantech and Wiremold customers have benefited by receiving improved customer care and a steady stream of new products designed with their input. Employees have enjoyed work that is more satisfying through greater involvement and larger financial rewards. Shareholders have received significant increases in the value of their company. Wiremold, for instance, began its lean journey valued at $30 million and skyrocketed to a value of $770 million less than 10 years later, in 2000.
If transforming a company into lean provides so many benefits, why doesn’t everyone do it? Many companies try and fail. The problem is, lean principles are intellectually easy to agree with, but difficult to actually implement and sustain. It requires that we think differently, sometimes in ways opposite of our training, and that we are diligent and consistent in our actions. Also, executives must recognize that lean concepts cannot be confined to the factory. The philosophies and methods must be applied to every business process.