Many Western managers were introduced to lean production in 1990, with publication of "The Machine That Changed the World," based on a five-year study of Toyota by MIT's International Motor Vehicle Program. Since then, thousands of managers have used the principles of lean management to achieve faster cycle times, reduced defect rates and sharp gains in on-time deliveries. Lean management permits a marked reduction in inventory levels across the supply chain, which should result in better financial performance -- especially because companies achieve simultaneous declines in manufacturing and service costs. But, as the authors point out, the transition takes time and is full of obstacles. One predictable hurdle is the crisis in confidence that occurs when management isn't able to improve financial performance quickly. Lean transformations generally have short-term adverse impacts on the company's bottom line (that is, things get worse before better). Management needs to anticipate these challenges and explain them clearly. To help managers overcome the financial hurdles on the path to lean, the authors offer new tools for anticipating the deterioration in financial performance that occurs as a mass producer goes lean and for understanding the real performance improvements that take place during this period. Their approach, called "value-stream accounting," helps managers plan for the short-term financial impact, monitor progress, understand the operational improvements and develop strategies to maximize the longer-term benefit. Managers need to understand that the "bad" news isn't really bad -- it's part of the necessary process of establishing a stronger, more productive organization. The authors' approach replaces the traditional cost-accounting system with a transparent accounting system that tracks the company's value streams, which incorporate all of the value-adding and non-value-adding activities required to bring a product or service from start to finish.
This is an MIT Sloan Management Review article. Companies tend to assume that little can be done to reduce product costs once a design is set. This belief has shaped many cost management programs across diverse products' life cycles. Because of it, firms often focus on cost reduction during the design phase and cost containment during manufacturing. But are much of a product's costs truly locked in during design? Recent research suggests otherwise. In an extensive field study at the consumer products division of Olympus Optical Co. Ltd., the authors found that the company is able to obtain significant cost reductions in manufacturing. Indeed, the research demonstrated that costs can be aggressively managed throughout the product life cycle. Furthermore, the authors found that Olympus Optical applies various cost management techniques in an integrated manner, with the outputs of some techniques acting as inputs to others, thereby increasing the program's overall effectiveness. The observations suggest that companies competing aggressively on cost might consider adopting some form of an integrated cost management program that spans the entire product life cycle.
While it is true that there is great promise in integrated cost systems, there is also great peril, according to Harvard Business School Professor Robert Kaplan and Claremont Graduate School Professor Robin Cooper. The authors explain that unless managers approach integration very thoughtfully--with extremely careful customization--they could end up with a system that performs neither function well and that drives decision making in the wrong direction altogether. Operational-control and ABC systems have fundamentally different purposes. Their requirements for accuracy, timeliness, and aggregation are so different that no single, fully integrated approach can be adequate for both purposes. If an integrated system used real-time cost data instead of standard rates in its ABC subsystem, for example, the result would be dangerously distorted messages about individual product profitability--and that's precisely the problem ABC systems were originally designed to address. Proper linkage and feedback between the two systems is possible, however. Through activity-based budgeting, the ABC system is linked directly to operations control: managers can determine the supply and practical capacity of resources in forthcoming periods. Linking operational control to ABC is also possible. The activity-based portion of an operational control system collects information that, while it mustn't be fed directly into the activity-based strategic cost system, can be extremely useful once it's been properly analyzed. Finally, ABC and operational control can be linked to financial reporting to generate cost of goods sold and inventory valuations--but again, with precautions.
Explores Toyota's target costing system, considered to be the most advanced such system of any major Japanese manufacturer. Specifically, describes Toyota's process of setting rigorous cost-reduction goals and the steps taken to achieve them.
In the past, companies took a cost-plus approach to pricing, charging high prices when a product was first released, then lowering prices when production was scaled up. Lean competitors make that approach impossible, however, as they are quick to introduce competitive "me too" products to market. To gain and hold market leadership today, a company must design the cost out of its products from the outset. Target costing is a cost-management technique that lets a company do just that: The company determines how much customers are willing to pay for a product and then designs the product within cost limits that will permit it to sell profitably at the predetermined price.
Illustrates the budget planning process at a Japanese firm. Also describes a highly traditional cost accounting system, and shows how variances are used for performance measurement.
Documents the emergence of the functional group management system at Olympus's camera manufacturing facility. This system increases the pressure on the work force to decrease costs and improve output by treating the facility's 10 autonomous groups as profit centers, not cost centers. This case illustrates how Japanese firms use profit pressure to improve performance.
Explores Olympus Optical's strategic response to major losses in its camera business. Key to Olympus's recovery were its extensive product planning process, a quality improvement program, and an aggressive cost-reduction program. In particular, the case details Olympus's target costing system, which enabled the firm to design high-quality products at low cost.
Illustrates how Japanese firms use profit pressures to increase efficiency. In particular, explores how pseudo profit centers create pressure on workers to increase revenues and reduce costs, and the use of semiautonomous teams in a traditional Japanese workforce.
Documents how Higashimaru's plant manager converted a reluctant workforce into one that was open to change. Illustrates "human reengineering" and shows how the plant manager prepared workers for a factory modernization program.
Explores how Sony manages its Walkman line in both the domestic (Japanese) and Western markets. Describes a simple target costing system, a simple Japanese cost accounting system, and the management of product proliferation.
Describes Kyocera's unusual approach to profit centers. The firm's basic units of operation are profit centers called "amoebas," which are sales or manufacturing units with full responsibility for their planning, decision making, and administration. Amoebas are expected to find ways to improve production and lower costs, reflecting the belief of Kyocera's founder that profits are generated during the manufacturing process.
Describes Komatsu's profit planning and product costing systems. Komatsu can boast a high degree of employee dedication to achieving its profit plan. Also explores the logic behind the design of a new cost system at Komatsu that is less accurate at the product level but more accurate at the product-line level.
Komatsu, a leading manufacturer of construction equipment, seeks to expand aggressively through the 1990s. Key to its competitiveness is a strict adherence to target costs throughout the product development process. Komatsu conducts several design-for-manufacturability cost studies to ensure a product's profitability, sets target costs for suppliers, and uses cost reduction techniques when necessary. Because it is a crucial element of the design and manufacturing processes, Komatsu's target costing system is central to the firm's plans for growth, globalization, and diversification.
Describes Nissan's sophisticated target costing system in the context of new product introduction. On the basis of consumer analysis and a life cycle contribution study, Nissan conducts an exhaustive analysis of component costs to determine whether a new model can be profitably manufactured. Cost reduction measures are then pursued both internally and with suppliers to ensure that the model can be produced to the target cost. The target costing system is central to Nissan's continued competitiveness in the fiercely contested Japanese automobile market.
Activity-based cost management (ABC) can help managers find the places in their organizations where improvement is likely to have the greatest financial payoff. To best utilize ABC, managers must separate whatever expenses are required to produce individual products from those required to process batches, to maintain a product, or to keep a manufacturing facility up and running.