In the last few years both scholars and managers have been asking a radical question: are traditional management accounting systems based on product standard costing still valid in an economic environment which is very different from the one in which they have been conceived?
Those systems have been conceived in the era of mass production, an era in which the number of products offered to the market was very limited and demand was likely to absorb all available production.
The absolute dogma of that era was total utilization of productive capacity.
Nowadays the situation is quite different: the number of products has enormously increased and demand is all but stable and uniform.
As a consequence production must be flexible and capable to adapt to a quite unpredictable and fluctuating demand.
In order to face this new challenge, new productive models have been conceived and applied, the most effective and widespread of which is the so called “Lean Production” , a model which, among other things, suggests to reorganize production processes creating “value streams”, i.e. processes that include all the activities (design, manufacturing, purchasing, order processing, shipping etc.) needed to bring the product to the customers or, in other words, to create value for the customer.
Strangely enough management accounting systems have remained anchored to the past with the consequence that they are unable to measure the results of the lean transformation and useless and sometimes even misleading for those who have to make important decisions.
If to all this we add that standard costing systems are complex and expensive, as is well known to all those who are familiar with them, it becomes very clear that a profound revision of management accounting is absolutely needed.
In order to adapt management accounting systems to the new requirements a new approach, called “Lean Accounting” has been developed and applied first in the U.S. and then in many other countries especially in Europe.
Lean Accounting includes principles and methods particularly useful to support management to understand the effects of the lean transformation on profit and loss, on cash flow and on non financial performances.
The “pillars” of Lean Accounting are:
1. Value Stream Costing As a lean company is organised by “Value Streams”, costs are not charged to products but to value streams.
2. Performance measurement Management accounting should not provide only financial information; it should also measure the performances at various levels: production cell, value stream, plant, company and these measures, in order to be really effective, must be frequent and timely. Measures like on time deliveries to customers and from suppliers, inventory turns, O.E.E., flow index etc. must become part of management accounting.
3. Decision making Very important decisions such as that of making or buying or that of accepting or refusing an order, must never be taken based on standard costs (which are mere abstractions and can lead to wrong decisions).
A correct decision in these cases can be made only considering the real contribution of the decision to the profit and loss of the value stream as a whole.
4. Transaction elimination As in a Lean environment controls are built into the work and are aimed at immediately identifying and correcting problems, subsequent controls based on the processing of thousands and sometimes millions of transactions are totally useless.
5. Measuring the effects of the lean transformation Traditional systems are incapable of measuring the true effects of a lean transformation. In particular they are incapable to measure the effects on the “flow”, i.e. the capability to respond flexibly and promptly to the requests of the market eliminating queues, delays, reworks, scraps and everything that can impede the flow.
6. Changing the budgeting process In an economic environment unstable and unpredictable like the present one this process appears totally inadequate and must be replaced by the so called SOFP (Sales, Operational, Financial Planning), a method based on a monthly updating of the budget.
The SOFP is a rolling budget for each value stream and for the entire company which is revised every month always looking ahead to the next twelve months.
7. When implementing Lean Accounting it is important to follow a correct approach The already numerous experiences made in the U.S. and the still few experiences made in Italy prove that it is necessary to proceed by steps and gradually follow the lean transformation process.