How Lean Thinking Improves Financial Results While Avoiding Traditional Cost Cutting

This blog is an article Mike De Luca wrote for the LEI Lean Accounting Newsletter.

In July, Nick Katko and I presented a webinar for LEI called “How to Use Lean Accounting to Help Design Profitable Value Streams.” As part of reviewing the core concepts of lean accounting, we said that lean is not a cost-cutting method. After the webinar, we received a very thoughtful question from an attendee about what might seem to be a contradiction. The attendee asked how to reconcile our comment that lean is not a cost-cutting method with our discussion on how to improve value-stream operating profit by understanding the lean accounting thinking behind cost drivers. I always appreciate questions like this since they help me clarify my thinking and improve how I communicate it to make it clearer to the audience. I responded directly to the attendee, but this point comes up so often that I wanted to share some thoughts about it and invite a constructive discussion.

“Long-term financial improvement is an outcome of a lean strategy. Lean is not a short-term cost-cutting methodology.”
            — from the book Practicing Lean Accounting by Mike De Luca and Nick Katko 

In our recently published book Practicing Lean Accounting, Nick and I discuss cost improvement in the chapter on lean thinking for accounting: “Long-term financial improvement is an outcome of a lean strategy. Lean is not a short-term cost-cutting methodology. Although some companies have better financial results as an early by-product of their lean strategy, there is usually a lag between operational improvement and sustained financial improvement. This lag occurs because learning and improvement take time.”

Distinguishing Between Cost-Cutting and Cost-Improvement

First, I’d like to distinguish between my use of the terms “cost-cutting” and “cost-improvement.” I use the phrase “cost-cutting” to refer to what, in my experience, are periodic (often during the annual budget process) reductions to the cost structure that may not be strategic or sustainable long-term. Instead, such cuts are made to balance a budget or meet a short-term organizational cost-reduction imperative. Cost-cutting in isolation, even using lean approaches (and I would say that this is a misuse of lean thinking), may not be aligned with the organization’s strategic priorities. Misalignment occurs when short-term cost-cutting distracts leaders from focusing on – or undermines their ability to invest in – continuously improving customer value. In particular, cost-cutting will not align with lean principles if used as a method to make reductions in force. How can we engage everyone in the organization in driving out waste from their work – and creating capacity that can be redeployed strategically – if they risk losing their jobs in the process?

On the other hand, I use the term “cost-improvement” to refer to the methodical approach of identifying value-added and nonvalue-added activities and applying lean thinking to eliminate the waste and improve the quality, delivery, and cost of those activities. To support this work, lean accounting professionals must help the organization understand both the lean perspective on how costs behave as well as how best to measure the financial impact of our improvement efforts.

This explanation may seem like unnecessary or esoteric mincing of words. However, the point is to understand and be clear on both the intent of and approach to the work of cost management. For example, is the intention to align with the lean strategy, and is the approach to engage the people who do the work in identifying and eliminating the waste without concern for their job security?

Gaining a Clearer View of Cost-Improvement

Next, I’d like to address the statement that better financial results can be an early by-product of a lean strategy. Again, the key point here is about the company’s intent in adopting lean thinking. There are likely companies where a strategic imperative to cut costs prompted their adoption of lean management. Still, I would argue that if they’re faithful to lean principles, they improve their cost structure with a focus on – and certainly not to the detriment of – delivering customer value and modeling respect for the people who do the work. 

I think it’s helpful here, especially in understanding the importance of lean accounting practices, to refer to Taiichi Ohno (industrial engineer, businessman, and father of the Toyota Production System), who is quoted as saying, “Costs do not exist to be calculated. Costs exist to be reduced.”

“Instead of being creative with accounting, Ohno advocated reducing cost by being creative in how we look at our work to find ways to make it easier, better, and faster.”
               — Jon Miller

In a 2019 blog, “Not All Costs Exist To Be Reduced,” Jon Miller says, “His [Ohno’s] point was that traditional accounting can fool us into justifying inefficient operations, building up inventory, or acquiring assets because the numbers look good. Instead of being creative with accounting, Ohno advocated reducing cost by being creative in how we look at our work to find ways to make it easier, better, and faster. Today, there are lean accounting methods that allow us to reflect the reality of costs more accurately in a lean operation, where traditional cost accounting does not.” Miller goes on to say that “focusing [solely or primarily] on costs can limit opportunities for value creation.”

For me, then, an organization’s cost-improvement approach must come back to its strategy. What does the company need to accomplish or become capable of in order to grow and thrive in serving its customers? It may be cost improvement, creating capacity, improving quality or delivery, accelerating innovation, or a combination of these. At the same time, I think it’s important to remember the lean tenet of respect for people, that the lean strategy is grounded in people-centered learning and improvement. With clarity around both strategy and intent, organizations can drive meaningful, sustainable, and best-in-class improvements to financial performance.

Improving Accounting: Error Proofing

Chapter 7 – Improving Quality in Accounting: Error Proofing

The Practicing Lean Accounting Blog Series are excerpts from a new book, Practicing Lean Accounting by Nick Katko and Mike De Luca. For updates on publication and purchase, please sign up for the BMA mailing list at www.maskell.com.

Improving quality: error proofing

In lean accounting, the approach to improving quality is called error proofing. Error proofing is a systematic approach to reduce defects over time by:

  1. Detecting defects as rapidly as possible
  2. Reducing the effect of defects that occur
  3. Preventing defects from occurring

DETECTING DEFECTS PROPERLY

In an error proofing system, detecting defects rapidly means creating a systematic response in daily accounting activities after a defect is detected. Defects need to be measured and initial root cause analysis performed on a daily basis. 

Daily measurement of the defect rate creates visibility by turning something abstract – a defect in information – into a number everyone can see. It reveals the extent of the problem and also measures the impact of improvements being made. A defect rate measurement can be broad, the total defect rate, or more specific, such as defect rate by type, to achieve greater visibility into the extent of the problem. 

REDUCING THE EFFECT OF DEFECTS THAT OCCUR

In lean accounting, a defect in an accounting process is considered an abnormal condition and, as we explained in daily lean management in Chapter 6, standard responses need to be developed to reduce the effect the defect has on the process. 

Standard responses are how the process, and the employees working in the process, should react to the defect. Standard responses can contain the following elements:

  • A target resolution time
  • A specific sequence of activities
  • Dedicating a portion of a process team’s daily capacity to defect resolution
  • Specific responses based on the source of the defect – inside accounting, inside the company or outside the company 

PREVENTING DEFECTS THROUGH PROCESS IMPROVEMENT

The third step in an error proofing system, is to build fail safe mechanisms into processes and activities to:

  • Prevent defects from occurring (the ideal solution) or
  • Detect defects at the source and prevent defects being passed to subsequent process steps (the next best solution)

In error proofing in lean accounting, go see is the essential method to improving processes to prevent defects because the source of most defects occurs outside the accounting function. Go to the source of the defect and observe the specific activities of the work performed. Identify the root causes of why the defect occurs. 

If the source of the defect is outside of accounting, but within the company, it’s best to use a cross-functional team for any improvement activity. If the source of the defect is outside of the company, it may not be possible to do a physical go see, but it is possible to apply PDCA to any defect to determine the root cause. It’s important to note here that there may be limitations to the amount of improvement which can be done with parties outside of a company if this is the source of the defect.

Here is an important point to remember regarding any process improvement for defects that requires cross-functional support. Fixing defects impacts the party where the source of the defect occurs as much as it does accounting. When accounting can take the initiative to work collaboratively to eliminate defects it discovers, it will benefit the other party as much as it does accounting. 

ERROR PROOFING WRAP UP

Defects are the bane of accounting’s existence. As such, it is a great place to begin improving accounting because of the immediate impact it can have on process performance and the burden of work on accounting teams. Developing an error proofing system is also a great way to learn and demonstrate PDCA in all accounting processes – payables, receivables, payroll and month-end.

Practicing PDCA in Lean Accounting

Chapter 6 – Practicing PDCA

The Practicing Lean Accounting Blog Series are excerpts from a new book, Practicing Lean Accounting by Nick Katko and Mike De Luca. For updates on publication and purchase, please sign up for the BMA mailing list at www.maskell.com.

PDCA is Plan, Do, Check, Adjust 

The easiest and simplest way to describe Plan Do Check Adjust is the application of the scientific method inside businesses. The scientific method is a rational, rigorous methodology to test a hypothesis through systematic observation and measurement. It’s how scientists conduct an experiment and study the results of the experiment to determine if it was successful or not.

For lean organizations, PDCA is both a framework for thinking and the specific steps to solve problems. PDCA can be applied to a single issue, to deal with the natural problems that occur during a work day in any process and to reduce recurring problems through designing and implementing an improved process. Because PDCA is a rational thinking process, it must be learned and practiced regularly, which means not skipping any process steps or abandoning it in favor of top-down management practices when managers see fit.

PDCA for Improvement

In lean accounting, teams learn to apply PDCA to problems and opportunities of various scopes and sizes to drive continuous improvement. The PDCA approach always follows the same thinking, but the amount of effort to complete an improvement activity is directly related to the scope. For small scope improvement activities the PDCA cycle can be quite short and can be part of a regular daily work routine in daily lean management. Larger-scope improvement activities take more time and effort to complete the PDCA cycle and they need to be planned and scheduled. 

Scoping and managing continuous improvement is necessary for a few reasons. Employees must dedicate time to improvement, so there needs to be a balance between improvement activities and work responsibilities. Continuous improvement should be considered a team-based learning process (rather than just something that is done alone), so it’s important to create coordinated activities and also share. Some employees may pick up on continuous improvement faster than others and it’s important not to get too far ahead of those who may need more time to learn. Finally, it’s important to strike a balance between smaller scope and larger scope improvement activities. 

Based on our experience helping companies improve accounting, we’ve developed a framework to scope improvement activities:

Quick Wins 

Quick Win improvements focus on the simple, obvious non-value added and unnecessary activities which can simply be stopped with no negative impact on delivering value. These can, and should, be completed in a short period of time, such as a day, once the team agrees on the change and how to check that it made an improvement.

Daily Improvement

When an improvement idea comes up that is within the accounting team’s control but bigger in scope than a Quick Win, the PDCA cycle typically takes one to two weeks. When the team holds itself to a short improvement cycle, it helps them move more quickly on small, incremental changes that will build on each other rather than trying to “boil the ocean” or get stuck in analysis-paralysis. These daily PDCA improvements can be accomplished in a series of short meetings (30 minutes) which follow the PDCA steps with follow ups in between each one. 

Process Improvements

Process improvements are planned in advance with an objective of achieving specific, measurable improvements in process performance. Process improvement events usually focus on:

  • Achieving a specific rate of improvement in a performance measure over a specified time frame
  • Solving a recurring problem that was not able to be solved in Quick Wins or Daily Improvement activities
  • Responding to a significant, sudden disruption in process performance.

Innovative and Transformational Improvements 

These improvements focus on radical redesign of a process. In accounting processes, conventional transformational changes typically focus on software-based automation and workflow management. Many of these types of changes are top-down company driven rather than lean focused. 

PDCA for Daily Lean Management

Daily lean management incorporates the four foundational practices (understand value, identify waste, using PDCA and lean measures) into a coordinated set of tools and routines designed for accounting teams to gain experience in these practices in the normal course of their work:

  1. Tools:
    1. Visual boards that the team uses to show the most important information about their work.
    1. Performance measurements that cover how the process is working as well as track improvement in outcomes.
  2. Routines:
    1. Daily huddles, stand-up meetings or status checks.
    1. Team problem-solving meetings.

Daily lean management focuses on planning the work, executing the work, reacting to abnormalities and identifying improvement opportunities for all accounting processes. 

Planning the Work

Planning the work is a three step process:

  1. Understand the demand on the process
  2. Understand the available capacity of the process
  3. Prioritize demand against available capacity

Executing the Work

Disruptions are a natural occurrence in any business process, so “executing the work” in daily lean management is not only performing the tasks to meet the daily work plan, it is also establishing real-time “check and adjust” routines to identify abnormalities and having standard responses that minimize the impact on completing a daily work plan. Another way to say this is to developing “routines to handle the non-routine” or “standards to handle the non-standard.”

The Daily Huddle – Plan, Check and Adjust

The final component of daily lean management is the daily team huddle. Daily huddles are short (10-15 minute) “stand-up” meetings around a visual board. Daily huddles are conducted using a standard agenda to answer five basic questions:

  • What is the plan for today?
  • How did the process perform yesterday? 
  • What problems and issues did we encounter? (Capture data and analyze themes)
  • What were the root causes of the problems and issues?
  • How should we address the problems and issues?

PDCA is natural for Accountants

Because PDCA is an analytical, objective and numbers-driven improvement system, it plays right into accountants’ strengths and skills. Accountants spend a great deal of time performing financial analyses and drawing conclusions. PDCA leverages these natural skills, applying them to operational analyses and conclusions. An accountant’s world revolves around numbers. PCDA uses numbers and data focused on operational improvement, which accountants must learn how to use through the use of daily lean management practices, then apply to process improvements. 

Using Lean Measures in Lean Accounting

Chapter 5 – Using Lean Measures

The Practicing Lean Accounting Blog Series are excerpts from a new book, Practicing Lean Accounting by Nick Katko and Mike De Luca. For updates on publication and purchase, please sign up for the BMA mailing list at www.maskell.com.

What sets lean performance measurements apart from conventional measurements is they are much more than reporting measures. They are part of a measurement system that is integrated into the daily work of process teams and are actively used to understand value, identify waste and practice PDCA. Let’s look at the four attributes which separate lean performance measurement systems from other types of measurements. 

Relevant

Lean performance measurements must be relevant to the strategic objectives of lean – deliver value and eliminate waste. They must also be relevant to any specific process being measured to reveal the actual problems and issues that are preventing value from being delivered. Measuring the following criteria of process performance will ensure that a process team will have the relevant information for understanding operating performance and making improvements:

Delivery (“What by when”)

Customers value the on-time delivery of a product or service. This is a pretty consistent value proposition across all types of customers, companies and also business processes. The key component of measuring on-time delivery is basing it on when the customer wants delivery

Quality (“Detect quality before delivery”) 

In Chapter 3, we explained one aspect of customer value is a certain level of quality specifications which must be achieved by any business process. It’s best to measure defects as frequently as possible; frequent feedback helps to understand the root causes of defects.

Lead Time (“Speed is a competitive weapon”)

Lead time measures the length of time it takes a process to “complete an order.” Lead time is an important measure because it reveals both how the process performs as well as the delays between process steps. Average lead time is measured in  the unit of time, (weeks, days or hours), which is most applicable to the process being measured. 

Productivity (“Increasing output with same resources”)

Another impact of reducing waste and applying available capacity to value added activities is improving the productivity of any process. Productivity can be defined as increasing the output of a process with the same resources.  

Cost (“Costs do not exist to be calculated. Costs exist to be reduced.” Taiichi Ohno)

Accounting and accountants spend a great deal of time calculating and analyzing costs. What is important for accounting to understand is that many of the conventional methods of cost analysis it uses may not work well in lean organizations as performance measurements of cost. 

Lean thinking decreases costs over time in two ways:

  1. Improvement activities can generate actual cost savings that can be specifically identified during an improvement activity, such as a reducing overtime or scrapped/wasted supplies. These actual cost savings will be realized in the short-term on an income statement.
  2. Improvement activities can possibly prevent future cost increases. As we have previously explained (and will be repeated many more times in this book!), improvement activities create capacity in a process. Applying this available capacity to value added activities improves productivity and has the financial impact of avoiding future cost increases, such as hiring more employees, to meet increased demand on a process.  There is no short-term realized cost savings but the growth rate of costs in the long-term will be reduced.  

Safety

The typical lean measurement of safety is Incidents per Employee. Conventional thinking on measuring safety is that it’s primarily in manufacturing or healthcare. Safety in service businesses is also quite important. Conditions like repetitive motion injuries (e.g. carpal tunnel syndrome) and eye strain from computer use can impact employees in service businesses.  Also the idea of psychological safety which has to do with respect for people!

Morale: Respect for People

Lean performance measurements for morale focus on getting real-time feedback and measuring what contributes to desired outcomes. This can be done through simple and frequent staff input. Teams can check morale during their daily huddle for feedback about how well the team feels set up for success that day (good/neutral/bad) and track trends over time. Or the team will be asked if they went home yesterday evening feeling good about their day or not. 

Process Team Ownership

Process teams “own” their lean performance measurements. Process teams often calculate their own performance measurements, rather than having them calculated elsewhere in the organization. Calculating measures drives a better understanding of their purpose and creates ownership. The purpose of teams defining and calculating their own measures is for the team to understand and use them to identify improvement opportunities. 

Process teams self-monitor and self-report their performance measurements through the use of visual performance boards. Process teams are also responsible for using their lean performance measurements in performing PDCA to determine and address the causes of both positive and negative performance factors. 

Measure Frequently

Typically lean performance measurements are a combination of daily, weekly and monthly measures each used for a specific purpose, as we will now explain.

Daily Measures for Process Control

Daily measures are best for process control and detecting abnormalities in process performance, and they align with daily lean management practices. Daily measures answer questions such as:

  • How did the process perform today relative to requirements, targets or expectations?
  • What problems & issues were identified?
  • What is being done to address these issues?

Weekly Measures for Improvement

Weekly measures focus on measuring process improvement over time (such as lead time and productivity), rather than daily process control. The purpose of weekly measures is to determine the specific, recurring wasteful activities which are impeding the delivery of value, then conduct process improvement activities.  

Monthly Measures for the Lean Strategy

Monthly measures focus on measuring lean thinking from a strategic viewpoint. Lean organizations develop specific initiatives as part of their strategy deployment process. Monthly measures answer the question: Are the initiatives successful? Monthly measures allow company leadership to gauge whether adjustments need to be made to any initiatives. Like improvement measures, targets are usually set for strategic measures. These targets are usually annual targets. 

Create Visibility into Problems

Improvement can only occur if process problems are revealed, become visible and the extent of problems can be quantified. This is one characteristic by which lean performance measurements differ from conventional measurements, which focus more on reporting. Successful lean transformations focus on employees identifying the right problems and solving those problems using PDCA. Lean cultures embrace understanding process problems and openly discuss problems with no fear of personal blame on anyone. 

Lean Measurement Wrap Up: Measures that Matter

In the 21st century most companies rely on information technology systems to “run the business” and these systems create the capability to measure almost anything. In lean accounting, it’s important to measure what matters:

  • Serving customers better
  • Learning and improvement
  • Problems and issues

The seven categories of lean performance measurements create objective visibility and insight into process performance, and they create the opportunity to use the measures, in conjunction with PDCA, to drive improvement throughout a company. Let’s now move onto Chapter 6 – Using PDCA.

Identifying Waste in Lean Accounting

The Practicing Lean Accounting Blog Series are excerpts from a new book, Practicing Lean Accounting by Nick Katko and Mike De Luca. For updates on publication and purchase, please sign up for the BMA mailing list at www.maskell.com.

Waste is any action, activity or process that does not add value in the eyes of the customer. Waste consumes resource time and in the long run increases costs. In lean accounting this means always being on the lookout for waste and incorporating continuous improvement practices into all of accounting’s work to eliminate the waste and serve customers better. 

Being able to identify waste in accounting requires being able to look at any activity, whether it be the process step or tasks within the process step, and identify it as adding value or not adding value. Non-value added activities can be further broken down into two categories – necessary activities and unnecessary (or wasteful) activities. Being able to distinguish between value added and the two categories of non-value added activities is a learning process in lean accounting. It requires objectively studying a process, through the eyes of its customers. 

Accounting Activities: Value Added

Value-added activities for accounting processes are  the required, essential activities to transform information received in accounting to complete financial transactions or provide the quality information to both internal and external users. 

Accounting Activities: Non-value Added but Necessary

Non-value added, but necessary accounting activities don’t create value, but must be performed due to policy, technology or regulatory requirements or current thinking. From an accounting customer’s viewpoint, these activities create no value, thus they are categorized as non-value added but necessary activities in lean accounting.  Because these non-value added but necessary activities cannot be eliminated, the goal in lean accounting is to spend less time on these activities by identifying and eliminating the wasteful tasks and seeking other methods to minimize the amount of time spent on these activities. 

Accounting Activities: Non-value added and Unnecessary

Non-value added and unnecessary activities, can be considered pure waste. It’s pretty easy to remember the 8 types of process waste using the acronym DOWNTIME:

D: Defects

In accounting, defects can be:

  • missing or incorrect information which prevents accounting work from being completed. 
  • accounting transactions with other parties which are incorrect
  • information delivered to internal and external user that is of poor quality (from the user’s viewpoint) or a transaction which is incorrect.

O: Overproduction

Overproduction is producing more, sooner or faster than required by the customer. In the case of overproduction, the customer can be the recipient of the output or process steps within a process. To better understand overproduction, let’s look at an example of recurring reports. 

Tom, a budget analyst in accounting, produces key indicator reports each month for the executive team’s review of current performance. The reports include trended financial and non-financial metrics at the total company, division and department level. For each indicator, there is a tabular and graphical representation, as well as text analysis and commentary. 

After listening to the executive team – customers of the report, Tom was able to reduce the content in the report by 75% which also reduced the time to prepare the report by 30%. The end result was improved customer satisfaction – making it easier for executive team to find the information they wanted and reducing their searching waste (sifting through all the content to find the specific information they were interested in), which we’ll explain more below.

W: Waiting Time

Waiting is any delay or queue in a process which interrupts the flow of the process. Waiting time usually occurs at the hand-off points in a process. Waiting time is really one of those hidden wastes because of the way those who work in a process think.  From an employee’s viewpoint, if they are waiting on something it may not necessarily be considered a problem as they can work on something else. Waiting time tends to become a problem for an employee when a deadline is fast approaching that the employee must meet. Not caring about waiting time is also often a management problem. Since employees can work on something else, management doesn’t consider it a waste of the employees time. 

N: Neglect of talent

This waste is the failure to appropriately utilize the talents and skills of employees. Many things can contribute to the neglect of human talents and skills:

  • Traditional management models which reserve problem solving for managers rather than allowing the people who do the work and therefore understand it best, to solve problems.
  • Educated, experienced and capable professionals are often relegated to work that doesn’t maximize the use of their skills and doesn’t directly connect their daily work to the success of the organization. 
  • Not taking advantage of existing accounting software capabilities and not properly training the accounting team on these capabilities.

T: Transportation

The waste of transportation is defined as unnecessary movement. The key word here is unnecessary. The goal is not to eliminate all forms of movement, but only the unnecessary. 

Transportation waste in accounting can also manifest itself in non-value added but necessary accounting activities like approvals and reviews, which are hand-offs. Multiple approvals or reviews create multiple hand-offs. 

I: Inventory

Inventory waste in accounting is simply information which is sitting idle and not being actively processed. The primary cause of inventory waste is batch processing. Whether it is multiple documents or pieces of information, they accumulate into a “batch” that then are processed as a batch. The challenge in accounting processes is to better understand the causes of all batches and queues and continually reduce batch sizes. 

M: Motion

The waste of motion is the unnecessary movement of employees. Motion can exist in the daily activities of accounting processes. The keystrokes of manually inputting information is motion. Poorly designed software can cause too many clicks to find or process information. Poorly designed workspaces can also cause unnecessary motion. Think about all the files and data stored in shared file locations and data warehouses. It’s more challenging to see this waste but it still impacts accounting in terms of the cost of the storage as well as the way it may complicate searching for the actual information that is needed.  

E: Excess Processing

Excess processing waste is:

  • producing something a customer does not want
  • process steps or activities that do not add any value to a product or service a customer wants. 

The great part of excess processing waste is that eliminating it is not difficult. Simply stop producing what the customer does not want or stop activity that isn’t adding value. The difficult part is identifying it, especially in accounting because a great deal of what is excess processing is embedded in non-value added but necessary activities and these activities are usually part of accounting’s routines. 

Practicing Identifying Waste

In lean accounting, practicing identifying waste means developing habits to learn how to recognize it, understand its impact and have a constant awareness of its presence, especially in daily work activities. Practicing identifying waste allows employees to distinguish between the activities which add value for the customer, and those that do not. Seeing waste and understanding it’s negative impact also creates the opportunity for improvement, and to connect to proven methods of improvement to reduce waste. How is waste made visible? By using lean measurements.

Understanding Customer Value in Lean Accounting

Chapter 3 – Understanding Customer Value

The Practicing Lean Accounting Blog Series are excerpts from a new book, Practicing Lean Accounting by Nick Katko and Mike De Luca. For updates on publication and purchase, please sign up for the BMA mailing list at www.maskell.com.

Customer value is best defined as the perceived benefits derived, in the eyes of the customer, from the use of a company’s products or services. When a customer buys something, the customer has one or more reasons for buying it. If the purchase meets those needs, then value is created. If the purchase doesn’t meet all of the customer’s needs, then value is not created. It is important to remember that value is about what the customer thinks, not what the company thinks.

Accounting is a highly specialized, technical function in a business. Becoming proficient in accounting requires education and practice. Accountants focus on being good accounting professionals, running an efficient accounting department, and getting work done in compliance with their company’s accounting policies and reporting requirements. 

Sometimes, though, accounting can focus too heavily on compliance reporting, which stems from a very narrow definition of customer value and requirements. When that happens, it blinds accounting to what their other customers value. Accounting can be so focused on the monthly reporting cycle, along with the applicable controls and policies, that accounting assumes this information also satisfies what its other customers want. This can make accounting appear to be out of touch, isolated, or difficult to work with, and lead to accounting having a poor reputation inside a business.

The nature of accounting’s work and interaction with others tends to create transactional relationships. In Lean accounting, the goal is to put the entire customer experience first, not just the transaction. In order to do this, accounting may need to develop better relationships with their different customers to understand their needs and requirements beyond the transactions. Relationships must be developed and maintained, and that requires “people skills” like listening, communication, and personal interaction. In order to develop excellent experiences for all of accounting’s customers, accounting needs to really get to know their customers!

Understanding customer value will also allow accounting to better determine if the quality of the information it provides to customers meets their needs. This is not to say that accounting does not already have some understanding of this, which it does from a financial reporting viewpoint and typical financial transactions such as paying invoices. Diving deeper into understanding value will prevent accounting from making assumptions about the quality of the information it supplies to their internal customers. 

Another important benefit to accounting in understanding customer value occurs when accounting begins to study its processes and make improvements. The principle of “flow and pull” means the goal of understanding processes is to flow the value to customers as fast as possible, at their rate of demand. In order to understand if progress is being made towards a goal, it must be measured. Understanding value will allow accounting to develop the proper performance measurements to know in real-time if value is being created and delivered. 

Making improvements is not a haphazard, random process. It is a disciplined, continuous learning activity requiring the ability to distinguish between the process steps which create value and those that do not. If customer value is understood, then it’s possible to differentiate between process steps which create value and those that do not. Focusing more effort on the value-creating activities and eliminating or reducing non-value added activities results in a better customer experience, and ultimately in increased customer satisfaction. 

Customer Value for Accounting’s Customers

Accounting has a variety of customers, both internal and external. Rather than address each type of customer specifically, let’s look at the broader categories of customers based on their primary interaction with accounting. 

Customer categoryQualityExperience
Users of external reporting information (Senior Leaders, Stakeholders, Regulators)Compliant with reporting requirementsRational explanations to make informed decisions, evaluations and assessments
Users of internal reporting information (Employees and Managers)Relevant & reliable informationClear understanding of performance to make better-informed decisions
Recipients of financial transactions (Company Customers, Suppliers, Employees)Right first timeEase of interacting with accounting to understand process and get support as needed

How to Practice Understanding Customer Value

In Lean accounting, practicing understanding customer value means having a constant awareness of the specific values pertinent to all of accounting’s varied customers. Creating constant awareness consists of three steps:

  1. Identify all of accounting’s customers
  2. Capture the “voice of the customer”
  3. Quantify customer value

Understanding customer value drives lean accounting transformations

Accounting’s ability to develop a deep understanding of what its customers value is what drives successful lean accounting transformations. Understanding customer value will have a direct influence on the other three foundational lean accounting practices. Understanding customer value will allow accounting to:

  • Identify waste and distinguish value-added activities from non-value added activities, which will be explained in Chapter 4
  • Develop lean performance measurements for its processes – and lead company efforts to develop a company-wide lean performance measurement system – in order to measure value creation as it is happening rather than waiting for customer feedback, which will be explained in Chapter 5
  • Develop an understanding of what and how to improve, using PDCA, to actually serve customers better, which will be explained in Chapter 6

Most importantly, this constant awareness of understanding value helps accounting recognize that each customer is a person, not a transaction or a report, and it is the job of accounting to make every customer encounter a delightful and satisfying experience.

Lean Thinking for Lean Accounting

Chapter 2 – Lean Thinking for Accounting

The Practicing Lean Accounting Blog Series are excerpts from a new book, Practicing Lean Accounting by Nick Katko and Mike De Luca. For updates on publication and purchase, please sign up for the BMA mailing list at www.maskell.com.

Lean thinking for accounting does not require you to become a lean expert. But it does require you to understand lean from different perspectives, all of which have an impact on both a company and a company’s accounting function. 

There are five perspectives of lean thinking which will impact a company’s accounting function: 

  • Strategy
  • Financial performance
  • Operating practices
  • Management practices
  • Culture

Let’s look at each perspective in detail, and examine their relevance to lean accounting. 

Lean as a Strategy

Lean thinking forms the foundation for a comprehensive business strategy. The overall goal of a lean strategy is to strive to serve customers better. Because a lean strategy is principle-based, it takes a long-term view of the business rather than a short-term view. Lean thinking principles also align the entire organization with the strategy. Because there is one overarching, never-changing goal – serving customers better – each business function learns and understands its role in helping the company to achieve that goal.

A lean strategy focuses on people-centered learning and improvement.  Successful lean transformations focus on employees identifying the right problems, and then solving those problems using the scientific method. Employees are constantly learning through the use of new practices, tools and methods that develop and deepen their skills. The result of this learning is improvement. Learning and improvement take time, which contributes to the long-term view of a lean strategy. 

Financial impact of a lean strategy

Long-term financial improvement is an outcome of a lean strategy. Lean is not a short-term cost-cutting methodology. Although some companies have better financial results as an early by-product of their lean strategy, there is usually a lag between operational improvement and sustained financial improvement. This lag occurs because learning and improvement take time. 

The primary outcome of most continuous improvement efforts is creating time, or as we shall call it in this book, capacity

The economics of lean will impact a company’s income statement and balance sheet. Serving customers better can possibly create a competitive advantage for a company, which will drive sales growth. From a cost perspective, continuous improvement becomes the primary method to manage costs, either by avoiding cost increases or reducing actual costs. On the balance sheet, lean can make a balance sheet stronger by increasing cash, decreasing inventory, and reducing debt. 

Operational impact of a Lean strategy

In Lean accounting, the operational impact of a lean strategy will impact accounting in two ways. First, to achieve sustained improvement in accounting processes, those processes must be managed and measured differently on a daily basis. Second, lean operating practices and measurement in value streams can be used by accounting to gain new insight into the true cause-effect relationships between business operating performance and financial performance. These new insights can be used to leverage sustained financial success. 

Managerial impact of a lean strategy

Lean organizations recognize that customer value is not created vertically, but horizontally through an organization, in value streams. A value stream is simply all of the actions, completed in the proper sequence, at the proper time, necessary to create value for a customer. 

Value streams have a significant impact in lean accounting, from both a financial perspective and an organizational perspective. From a financial perspective, value streams are the profit centers of a lean company – value streams generate revenue. And as profit centers, they also have costs. In lean accounting, value stream teams are accounting’s customers, requiring relevant and reliable information to optimize value stream performance and improvement. 

Accounting will gain new and valuable visibility into the links between overall financial performance and value stream performance by partnering with value stream teams in practicing lean financial management. 

Impact of Lean Strategy on Company Culture

The foundation of a lean culture is respect for people. Respect for people means lean companies “walk the talk”: they proactively create a psychologically safe, but challenging, environment for their employees. 

When modeling respect for people, an organization continually looks at what is getting in the way of employees being successful in their daily processes, and collaborates with them to identify and eliminate those barriers. In this way, an organization ensures the highest and best use of employees’ skills and capabilities in providing products and services to its customers. Respect for people creates empowerment and engagement at all levels of the organization – an “army of problem solvers” working together to deliver customer value.

Respect for people is also about challenging employees to new levels of service. For example, accounting’s traditional focus is on developing the technical skills of the accounting team. In Lean accounting, the goals are to balance the team’s technical expertise with focus on creating ways to better serve accounting’s customers. 

A Lean culture impacts lean accounting in these ways:

  • Learning – accountants are “doers” by nature, focusing on getting their work done. In Lean accounting, time must be set aside for learning both in daily work and periodic improvement activities.
  • Growth – improving technical competence in accounting is the conventional approach to accounting employee growth. In Lean accounting, that is still important, but must be balanced with developing a deeper understanding of the relationships between people, process, and performance in a Lean company.
  • Investment – in Lean accounting, the accounting function is not considered an “island of isolated experts.” Accounting must invest time, to incorporate Lean accounting practices into all aspects of their work.
  • Collaboration – Improving accounting will require collaboration with the cross-functional business processes of which accounting is a part. Lean financial management will require teamwork between accounting and operations. 

Conclusion

The accounting function in any company is much more than doing bookkeeping. Likewise, an accounting team is much more than bean counters. Accounting validates the financial impact of a company’s strategy. Accounting reports and analyzes financial performance at all levels of the company, which has a great deal of influence upon how a company is managed. Accounting influences company culture by serving as a company’s independent, objective, trusted advisors.

For these reasons, lean thinking for accounting requires understanding lean from different perspectives, in order to develop lean accounting practices and transform the accounting function from primarily transaction processing to lean financial leadership. 

Practicing Lean Accounting

Chapter 1 – Practicing Lean Accounting

The Practicing Lean Accounting Blog Series are excerpts from a new book, Practicing Lean Accounting by Nick Katko and Mike De Luca. For updates on publication and purchase, please sign up for the BMA mailing list at www.maskell.com.

The way the accounting function works, and the way accountants think, is very transactional. Accounting must process transactions based on specific time-frames: enter invoices daily, pay employees bi-weekly, pay suppliers weekly, close the books each month, send out monthly reports and analyses. These work routines create thinking patterns which focus on getting the work done to meet the deadlines. There is nothing wrong with this thinking, because it creates reliable and respected accounting functions in companies, which is a good thing. 

But to grasp lean accounting, the accounting function must expand its thinking beyond transactions, and into practices. Lean accounting is about continuous improvement, which means that the process of striving to improve never ends. Continuous improvement is not transactional, but must be practiced. The old saying “practice makes perfect” is applicable to lean accounting. The more that these new practices are mastered, the better you get at lean accounting. 

Lean accounting, simply defined, is the application of lean thinking to all accounting systems and processes – all of the roles and functions we just mentioned. What is unique about lean accounting, compared to other applications of lean thinking, is how it is applied to the dual roles of accounting. 

The overriding purpose and goal of lean thinking, in any industry, is to serve customers better. In financial accounting processes, what customers want is common knowledge, such as paying invoices on-time or closing the books quickly. In lean financial accounting, it’s about how to deliver these products and services in the least wasteful way possible. Lean accounting is about paying invoices on-time without having to get last minute approvals. Lean accounting is closing the books on-time without working punishing overtime.

Management accounting, on the other hand, is responsible for providing information (products) and consultation (services) to many internal users. The value that internal users receive from management accounting is the “decision-usefulness” of its products and services. Internal users want management accounting to provide clear insight into both financial and operational performance to make decisions that help the company achieve better results. Management accounting deals with the financial management of the entire company. 

Here is a summary of the practices of lean accounting

Foundational practices – These are standard lean practices which must be learned and mastered for any lean transformation.

  • Understanding Value. Accounting needs to think differently about who accounting’s customers are, what their needs are, and how accounting meets those needs.
  • Identifying Waste. Accounting needs to think differently about how it performs its work. What activities are really helping accounting serve its customers? What activities get in the way or slow down serving customer? Accounting may have gotten so used to these activities that they consider them to be “normal”.
  • Lean Measurement. Accounting needs to think differently about how to measure progress and results in a lean company, beyond the monthly financial statements.
  • Using PDCA. Accounting needs to think differently about managing and improving day-to-day work and how to begin eliminating all the activities that don’t serve its customers.

Applied practices. This is how the foundational practices are used to transform an accounting function into a lean accounting function.

  • Improving Accounting. Accounting needs to think differently in order to improve accounting processes. Accounting needs to look at its processes from a lean point of view, using all of the foundational practices, rather than simply from a technical point of view. Accounting will also have to collaborate cross-functionally, to drive long-term sustained improvement. 
  • Lean Financial Management. Accounting needs to think differently about the information and analyses it provides to internal users in a lean company, again using the foundational practices to inform this change in thinking. Accounting needs to lead in terms of aligning information and analytical practices to support a lean strategy. 

Sustaining practices. This is how lean accounting can provide leadership for a company’s lean transformation. 

  • Lean Financial Leadership. Accounting, and companies, both need to think differently about the role that accounting plays in a lean company, with regards to supporting and sustaining improvements, not just in accounting, but across the entire company, to realize the financial benefits from its lean strategy.

Understanding Customer Value: How Accounting Applies this Foundational Lean Concept to its Work

Excerpted and adapted from the upcoming book Practicing Lean Accounting by Nick Katko and Mike De Luca, to be published in early 2021.

Why does Accounting need to understand customer value?

Accounting is a highly specialized, technical function in a business. Becoming proficient in accounting requires education and practice. Accountants focus on being good accounting professionals, running an efficient accounting department, and getting work done in compliance with their company’s accounting policies and reporting requirements.

Sometimes, though, accounting can focus too heavily on compliance reporting, a very narrow definition of customer value and requirements. When that happens, it blinds accounting to what their other customers value. Accounting can be so focused on the monthly reporting cycle, along with the applicable controls and policies, that accounting assumes this information also satisfies what its other customers want. This assumption can lead to accounting appearing to be out of touch, isolated, or difficult to work with and lead to accounting having a poor reputation inside a business.

The nature of accounting’s work and interaction with others tends to create transactional relationships. In lean accounting, the goal is to put the entire customer experience first in thinking, not just the transaction. To better understand customer needs and requirements beyond the transactions, accounting may need to develop better relationships with their various customers.

Understanding customer value will also allow accounting to better determine if the quality of the information or service it provides meets its customers’ needs. This is not to say that accounting does not already have some understanding of this, which it does from a financial reporting viewpoint and typical financial transactions such as paying invoices. Diving deeper into understanding value will prevent accounting from making assumptions about the quality of the information it supplies to its internal customers.

Another important benefit to accounting in understanding customer value occurs when accounting begins to study and improve its processes. The principle of flow and pull means that accounting’s goal, like any other function, is to flow value to customers at their rate of demand. To understand if you are making progress toward achieving a goal, you must measure it. Understanding value will allow accounting to develop the proper performance measurements to know in real time if value is being created and delivered.

Making improvements is not a haphazard, random process. It’s a disciplined, continuous learning activity requiring the ability to distinguish between the process steps that create value and those that do not. When customer value is understood, it becomes possible to differentiate between process steps that create value and those that do not. Focusing more effort on the value-creating activities and eliminating or reducing nonvalue-added activities results in a better customer experience and, ultimately, increased customer satisfaction.

Customer Value for Accounting’s Customers

Accounting has a variety of customers, both internal and external. Rather than address each type of customer specifically, let’s look at the broader categories of customers based on their primary interaction with accounting, what defines quality, and what informs their experience.

Customer categoryQualityExperience
Users of external reporting information (senior leaders, shareholders, investors, boards, etc.)Compliant with reporting requirementsRational explanations to make informed decisions, evaluations, and assessments
Recipients of financial transactions (company customers, suppliers, employees)Right the first timeTimeliness; ease of interacting with accounting to understand the process and get support as needed
Users of internal reporting information (all levels of management)Relevant and reliable informationA clear understanding of performance to make better-informed decisions and take appropriate action

Users of external reporting information

This group of accounting’s customers includes internal customers, such as senior leaders or owners; stakeholders, such as investors, shareholders, and banks; governing bodies, such as boards and trustees, government, or other regulatory agencies. These users value information that meets reporting compliance requirements and allows them to make informed decisions about a company and evaluate its performance.

As most accountants know, meeting compliance reporting requirements is one of the essential responsibilities for an accounting function. It is the fiduciary responsibility of the accounting function to a business. Accounting professionals are trained in compliance. Because compliance is so important, accounting processes, controls, and procedures are put in place to ensure compliance is achieved before the information is distributed to these customers. Unreliability – or the perception of unreliability in accuracy or timeliness – in externally reported financial information can have grave consequences for a company.

Because accounting understands value to these customers quite well, there is an opportunity  to develop a better understanding of the processes that create this value. Improving these processes through the elimination of waste will create more capacity (time), allow the work to flow faster and error-free, and possibly relieve overburdening of the employees who perform these activities.

Recipients of financial transactions

Accounting processes financial transactions between a company and other parties related to cash receipts and disbursements. The recipients of these transactions are another group of accounting’s customers and include a company’s customers, suppliers, and employees. What these customers value from accounting are  financial transactions completed “right the first time,” in a timely fashion, and for accounting to be easy to work with.

Company’s Customers

Accounting’s primary interaction with a company’s customers is through the invoicing or billing process. A company’s customers expect all the information on the invoices they receive from accounting to be accurate. Inaccuracies become especially annoying to customers if they sent the company a purchase order specifying all terms and conditions but received an inaccurate invoice.

Although accounting doesn’t provide the product or service that the customer is purchasing, it can shape the customer’s experience and impact customer loyalty through how easy and seamless billings and payments are.

Another thing to consider when determining value is to evaluate how easy it is for a company’s customers to interact with accounts receivable. Are invoices easy to understand? Are payment methods straightforward? If a customer has a question about an invoice, does accounting have a quick response time to an inquiry, and is the resolution process simple, friendly, and customer-focused? It’s situations like this, when the quality of an invoice is in question, that understanding customer value, in the eyes of the customer, is most important. Although accounting doesn’t provide the product or service that the customer is purchasing, it can shape the customer’s experience and impact customer loyalty through how easy and seamless billings and payments are.

Suppliers

The mirror image of a company’s relationship with its customers is its relationships with its suppliers. Many companies do everything possible to please their customers but treat their suppliers poorly. For example, under the guise of “cash management,” a company may set payment terms to suppliers beyond the standard 30 days and require their suppliers to accept these terms or not do business with the company.

Suppliers are an essential part of a company’s supply chain. A well-functioning supply chain in a lean organization is necessary to support the value streams which produce the company’s goods and services that drive revenue generation. From the suppliers’ point of view, the overall experience between suppliers and accounting must create value. Yes, suppliers must perform, and those performance criteria must be clearly spelled out. The same is true for accounting.

Employees

The value to employees of accurate, timely paychecks and other reimbursements is well understood by accounting. Like customers and suppliers, it’s the overall experience employees have with accounting that matters. The process steps employees may have to perform to be paid or resolve a discrepancy can be cumbersome to an employee and contain unnecessary activities. These activities take up employees’ time, so developing minimal-waste lean processes for employees to record time or expenses creates value in the eyes of employees.

Users of internal reporting

One of accounting’s largest and most customer groups is the business managers (including senior leaders and owners). These managers get a combination of financial and operating information from a company’s management accounting system (of which accounting is the steward) and direct analytical support from accounting to measure performance, perform analysis and make decisions.

Management accounting is the link between a company’s strategy and its operating practices and ensures alignment between the two. Management accounting information and analytical practices also support the customer-facing value streams in a company that produces the goods and services that drive revenue growth.

The value to users of internal reporting information is that it helps them make good business decisions. For any decision-maker, information must be both relevant and reliable. Relevant information improves decision-makers’ capabilities to predict future outcomes or provide more accurate feedback on performance. For information to be relevant, it also needs to be delivered in a timely fashion. Reliable information represents reality at the time an analysis is performed, and that the quality (accuracy) and lack of bias in the analysis can be counted on.

Lean transformation changes what managers value

In any company embarking on a lean transformation, in any industry, the definition of relevant and reliable information will change in some form or fashion. A lean transformation also has an impact on the types and frequencies of analytical practices and accompanying decisions. Another way to say this is that a lean transformation changes what accounting’s internal customers value from accounting. It is very important for accounting to recognize this and be proactive about developing their lean accounting vision.

A helpful context for understanding and prioritizing what information is valuable to accounting’s internal customers is to compare value from the perspective of the company’s customers to what accounting understands to be the relevant and reliable information to its internal customers. It’s important to keep these two perspectives of value aligned so that the work accounting does to improve value to its internal customers will ultimately improve the company’s delivery of value to its customers, the ultimate purchasers of the company’s products or services.

Why a Lean Quoting Process – Part 3

This is an excerpt from Ed Grinde’s new book Leveraging Lean with Lean Quoting, now available on amazon.com.

This is the third and final article on developing a new lean quoting process.  In the first two articles I discussed (1) the need for a lean quoting process and (2) the part of the process that moves most quotes quickly through to completion.  This last article talks about what happens to the few that fail a filter and must go to the daily opportunity review process.  Those are the orange boxes below.

As shown in the flow chart above, any quote that fails a filter due to capability, capacity, material content, or strategic direction will go to the daily opportunity review boards.  This is a meeting at a location set up to have all functions of the value stream come together to discuss these quote opportunities that will drive the sales, and profits, of the value stream to a higher level by using lean accounting to take advantage of the gains you have made with your lean improvements.  

This meeting needs to be a priority for all concerned, and this is not a meeting for just the quote team.  You want to have people representing the plant floor, the quote team, value stream engineering, the value stream leader, accounting, sales representatives, and occasional visits from the general manager, marketing, and continuous improvement.  At this meeting key and/or large quoting opportunities will be discussed as a team and the decisions made will be by the team.  

The purpose for this cross-functional team is 3-fold.  First is that when it comes to these key quotes you want to hear all functions concerns/issues, if any, about the quote.  Next, with all functions regularly attending these meetings you can get most answers right there at the meeting that the quote team would previously have to wait hours if not days/weeks to get an answer. Lastly, this is a great learning opportunity for all attendees.  They will learn more about the overall business and will make better decisions in the future with what they learn at this meeting.  

What this standup meeting setup could look like is shown below.

The key reason for a stand-up meeting is that you want the meeting to be fast and focused.  If you allow folks to sit down it will make it easier for people to have side conversations and become a distraction to the meeting.

Note that there are 4 boards.  They are the Current Opportunities, Financial Impact, Key Opportunities Quoted Status, and the Opportunity Gap Board.  Also, of interest is that this should be a stand-up meeting, ADA considerations notwithstanding.  At the start it will be best if the value stream leader runs the meeting, but after everyone is comfortable with the process you should encourage others to take turns running the meeting.  

How the boards work is as follows:

  • The Current Opportunities Board will have all quotes that failed a filter and the final disposition has not been made.  There will be key data about the job being quoted, action items assigned with due dates, and any other pertinent comments.  After deciding to quote or not quote, you take the opportunity off the board.
  • The Financial Impact Board is where you will review how large opportunities will impact the value stream profits using lean accounting.  It will contain the lean P&L for the value stream in question, other value streams, and the plant P&L.  It will also show non-financial data to consider such as impact to inventory, is there a quality concern, and will it affect your value stream capacity.
  • The Key Opportunities Quoted Board will be used to track the jobs you decided to quote and will stay there until the job is won or lost.  Once a job is either won or lost you take it off this board.
  • The Opportunity Gap Board is where you will document jobs you passed on because you were lacking either the capability or capacity to do the job.  You will use this board in your annual or semi-annual value stream assessment to see where you can expand your core competencies and what the potential sales level could be.  It also helps marketing see where new opportunities may lie.

The first few meetings will be a bit awkward because most of these participants are not used to be asked their thoughts and opinions on future business opportunities.  But as you continue with these daily meetings, and encourage active participation, they will become more comfortable with the process and start interjecting their thoughts and opinions.