7_Lean Manufacturing_Costing the Value Stream

Lean manufacturing: costingthe value stream

Patxi Ruiz-de-Arbulo-LopezDepartment of Business Management,

University of the Basque Country (UPV/EHU), Bilbao, Spain, and

Jordi Fortuny-Santos and Lluıs Cuatrecasas-ArbosDepartment of Business Management,

Universitat Politecnica de Catalunya (Technical University of Catalonia),Manresa, Spain

Abstract

Purpose – The purpose of this paper is to identify the shortcomings of traditional cost accountingtechniques in lean companies and then it seeks to analyse the validity and convenience of value streamcosting (VSC) as a tool in a company that has adopted some concepts of lean manufacturing.

Design/methodology/approach – The paper reviews the relevant literature in order to discuss thedeficiencies of costing methods in lean manufacturing. It evaluates the requirements of VSC andprovides a concrete illustration of VSC in the continuous improvement process of a point of salesterminal assembly line.

Findings – The paper evidences the possible mistakes of cost accounting. The necessity and validityof VSC in lean manufacturing are presented, followed by a case example. In order to make continuousimprovement decisions, VSM, VSC and box score offer complete information on the performance of thevalue stream.

Research limitations/implications – Although accompanied by an application on a real casestudy, this is not an empirical investigation on the adoption of VSC.

Practical implications – VSC requirements agree with the fundamentals of lean management.Therefore, VSC is a valid tool for lean companies, although the applicability depends on the maturityof the lean implementation.

Originality/value – This paper contributes to the lean accounting literature because themanagement accounting literature still lags behind the lean transformation. This is one of the firstpapers on VSC in relevant journals and the first one to combine VSC and box scores with value streammapping. The paper will be useful to academics involved in new accounting systems but also topractitioners who are implementing lean manufacturing.

KeywordsLeanaccounting,Value streammap,Value streamcosting,Activity-based costing,Box score,Lean production, Costs

Paper type Research paper

1. IntroductionGlobal competition has prompted many companies to adopt new manufacturingapproaches such as lean manufacturing in order to be more competitive (Shah andWard, 2003).

Lean manufacturing (Womack et al., 1990) can be defined as an extension ofjust-in-time (JIT) or the Toyota production system (TPS), first described in English bySugimori et al. (1977). One feature of such system is its focus on the elimination ofwaste or muda (in Japanese) – anything that does not add value to a product – bymeans of continuous improvement activities.

The current issue and full text archive of this journal is available at

www.emeraldinsight.com/0263-5577.htm

Received 8 October 2012Revised 8 December 2012

9 February 2013Accepted 10 February 2013

Industrial Management & DataSystems

Vol. 113 No. 5, 2013pp. 647-668

q Emerald Group Publishing Limited0263-5577

DOI 10.1108/02635571311324124

Lean: costingthe value stream

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Lean manufacturing places emphasis on the flow of materials from when a productbegins to be manufactured until it is completed. According to Womack and Jones(1996), processes are seen as value streams and wasteful activities keep products fromflowing down the value stream. A tool used to monitor flow and spot ways to removewaste, is value stream mapping (VSM) (Rother and Shook, 1998). Maps show the flowof materials and information through all manufacturing operations and they giveinformation on cycle time, downtime, inventories, and so on.

After four decades of research, the operational benefits of implementing leanmanufacturing practices are clear (Cua et al., 2001). Operational excellence and theelimination of waste should lead to an improvement in efficiency, a reduction in costand eventually an increase in net profit. But this is not the case and many firms findthat their accounting methods clash with their lean manufacturing initiatives and thismay discourage the adoption of lean manufacturing (Ahlstrom and Karlsson, 1996;Meade et al., 2006).

Some alternative costing techniques have been developed. One of them, called valuestream costing (VSC), recommended for mature lean companies (Maskell and Baggaley,2004), will be studied in this paper.

2. Research approachThe issue of the lack of adaptation of costing systems to lean manufacturing, despiteits practical relevance, has been scarcely discussed in the academic literature. Womackand Jones (1996) wonder what kind of management accounting system would be rightfor lean companies. VSC might be the answer, but more research is necessary to basedecisions on solid ground.

The aim of our paper is to assess research on the VSC model and to test itsapplication. Our operative method follows these steps:

(1) to define and clarify what is VSC, its purpose and usage;

(2) to compile and summarize previous literature in order to facilitate the task ofresearchers interested in lean accounting;

(3) to define the current state of the research on VSC;

(4) to make a critical assessment of VSC (including possible contradictions andinconsistences in literature); and finally

(5) to put forward possible future directions for research.

The first research method used to achieve our aim is a complete review of the literature.It is the same used by other authors who make a classification or develop a frameworkor a research agenda on different topics related to accounting such as Neely et al. (1995) orStolowy and Breton (2004). Research papers have been retrieved from differentdatabases byusing searchwords like “value stream” “VSC”or “lean accounting”. Themainidea was first to pinpoint the problems that stem from using traditional absorption costingsystems and activity-based costing (ABC) and then to introduce VSC and analyse it.

After that, since there are no evidences in literature of how VSC is calculated in detail,we want to document how to apply VSC in a real process. VSC is a new method andprobably few companies have implemented it. Therefore, a survey is not appropriated.In fact we have not found a single company that has implemented VSC in our country yet,so we apply VSC to a process previously described in literature of a lean company

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undertaking continuous improvement activities. This will help us determine whether VSCcanmodel the processes of a company and support the development of leanmanufacturing.Different approaches to management accounting (Ahrens and Chapman, 2007) may beappropriate depending on the circumstances of the researchwork (Hancock andAlgozzine,2011). Case based papers that address the emergence of accounting practices are commonin literature because the qualitative approach is useful when little is known about an issue.

3. The limitations of traditional costing systemsTraditionally, costing systems are used as means to control manufacturing performance:deviations between the actual cost of the products and a standard value show how welleach cost centre is doing. To determine the cost of a product, besides direct materialsand direct labour, indirect manufacturing costs (overhead) are allocated to the product.Overhead allocation rates are usually based on volume-related cost drivers such as labour.

Equation (1) shows how absorption costing methods compute the unit cost C of eachproduct i in period t, where j are different materials and parts and k are different costcentres:

Ci;t ¼SjMaterial costj;i;t þ Direct labour costi;t þ SkOverhead allocatedk;i;t

Equivalent units of productioni;tð1Þ

The cost of materials used in the process (equation (1)) and the equivalent number ofunits of production (equation (3)) are calculated taking into account the inventory ofraw materials and of work in process (WIP):

Cost of materialsj;i;t ¼ Purchasesj;i;t 2 ðInventoryj;i;tþ1 2 Inventoryj;i;tÞ ð2Þ

Equivalent unitsi;t ¼ Units completedi;t þ ðWIPi;tþ1 2WIPi;tÞ ð3Þ

Equations (4) and (5) show how overhead in cost centre k is allocated to product i. Weaccumulate all indirect costs and we divide them by the desired surrogate ofproduction activity (direct labour hours, production volume, etc.) to get an overheadrate. Then, overhead is allocated to product i according to the amount of the cost driverconsumed by the product:

Overhead ratek;t ¼½Employee cost þ depreciationþ tooling þ utilitiesþ · · ·�k;t

Budgeted activity unitsð4Þ

Overhead allocatedk;i;t ¼ Overhead ratek;t ·Allocation basisi;t ð5Þ

By the 1980s, some companies started claiming that their costing systems (especiallyas they are applied in the USA) yielded distorted costs.

Johnson and Kaplan (1987) describe how original management accounting wasreplaced by costing procedures developed in order to value inventories for financialreports. Consequently, cost accounting emphasizes financial management, not operatingmanagement.

Miller and Vollmann (1985) point out that the primary cost drivers for overhead aretransactions, not volume of production. Since indirect costs are increasingly important,incorrect allocations lead to big errors. Cooper and Kaplan (1988) conclude that costingmethods originally created for plants that make large runs of a single product are notacceptable for plants that manufacture families of different products.


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4. The rise (and fall) of ABCAs a sequel to Johnson and Kaplan (1987) and Johnson (1988) claims that managementaccounting must go beyond managing costs and help the company improve itsquality and flexibility. Therefore, it must be based on cost information acrossPorter’s value chain and in non-financial indicators of waste (resources consumedin activities). He appeals to JIT and he insists that if a company wants to becompetitive it has to manage and improve its activities on the shop floor, not its costs.Johnson’s paper brings a new approach to management accounting that is relevant toour study.

In the 1980s, ABC was created in order to fix the shortcomings of traditional costaccounting. ABC considers cost pools termed “activities”. Resources are assigned toactivities and then activities to products according to actual consumption by each.

Equation (6) shows how ABC computes the unit cost C of each product i in period t,where j are different materials and k different manufacturing and non-manufacturingactivities related to product i:

Ci;t¼SjMaterial costj;i;t

þSk

½Labourþall other costs considered�k;tTotal amount of driverk

·Amount of driver consumedk;i;t

ð6Þ

Some authors consider that ABC supports the principles of JIT (Cooper, 1996) becauseABC reveals the links between activities and the necessary resources and it allows theelimination of non-value added activities in processes. On the other hand, other authorsconsider ABC another method for allocating overhead (Womack and Jones, 1996) asource of wasteful activities (Plenert, 1999). Some adopters have abandoned it becauseof the amount of resources (people, time and money) it requires (Huntzinger, 2007).

5. Cost management for lean manufacturingTo determine whether lean companies need a specific costing system, it is necessary toknow the reasons why lean manufacturing is different from traditional manufacturing(Foster and Horngren, 1987; Swenson and Cassidy, 1993):

. In lean manufacturing inventories are low. Inventories are considered mudabecause they conceal management problems. Lean plants hold multiple productsand multiple processes. As in many companies, direct labour is low and overheadbecomes very important.

. Purchases are adjusted to consumption and manufacturing is adjusted todemand.

. While batch-and-queue manufacturing plants have mixed flows of products, inlean manufacturing, products with similar flows are grouped together in thesame value stream. These changes reduce the need for information (Huntzinger,2007). One-piece flow replaces batches.

. Cross-trained workers and teams are common (Plenert, 1999).

. Emphasis is placed on operational excellence.

. Activities that do not add value from the point of view of the customer (such asaccounting) are considered waste.

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The previous list outlines the elements that lean managers would expect fromaccounting:

. While a reduction in inventories is considered to be a great achievement in leanmanufacturing, accounting considers it a financial loss (Plenert, 1999).

. Since overhead is important, incorrect allocations lead to big errors. A betterallocation system is necessary. But not forgetting that lean manufacturingplaces emphasis on the reduction of costs, not in its allocation (Holzer andNorreklit,1991).

. Late reports intended for inventory valuation and for external reporting areusually too aggregate. The costing system has to track costs at cell level andsupport continuous improvement.

. A fixed standard and a top-down approach do not encourage either continuousimprovement or worker participation.

. In a continuous improvement environment, a standard is meaningless.

. Since purchases and inventories are simplified, related accounting tasks shouldbe simplified.

. Since lean manufacturing relies on worker involvement, information has to beunderstood by employees.

. Avoid reports on labour efficiency and machine utilization because they lead tokeeping operators and machines accumulating inventory (Plenert, 1999), whichis the antithesis of lean manufacturing.

6. Background literature on lean accounting and VSCDue to the problems of full costing and the complexity of ABC, other alternatives havebeen developed. The term “lean accounting” appears for the first time in a presentationby Maskell (2000). Without a formal definition, Maskell states that “lean accountingaims to provide information useful to people who are implementing and sustaininglean manufacturing”. He mentions value-stream cost management as an aspect of leanaccounting and a simplified form of activity cost analysis. We could trace the conceptof VSC back to Womack and Jones (1996), who, rather than categorizing costs bydepartments, propose an organization by value streams. While the idea of functionaldepartments is related to traditional manufacturing, the concept of value stream isrelated to lean manufacturing.

Baggaley and Maskell (2003a, b) present a maturity path towards leanmanufacturing. They suggest an organization based on value streams and, to avoidthe shortcomings of standard costing, they present VSC in the same way that they doin their book Practical Lean Accounting (Maskell and Baggaley, 2004). The bookdescribes lean accounting and as “a new method of managing a business that is builtupon lean principles and lean methods” and devotes a full chapter to VSC.

Maskell and Baggaley (2004) suggest that VSC can only be implemented after acompany has achieved the maturity stage of lean manufacturing: a company organizedby value streams where people are assigned to value streams with no overlap andwith few or no shared services. Purchases and manufacturing are adjusted to demand,with low and stable inventories. The production process is under control, with lowvariability, few incidences, low lead times and control over the rate of output. Under the


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previous conditions, VSC focuses a company’s attention on the resources that are beingused throughout a complete value stream rather than on individual products.

The costs associated to a value stream k (equation (7)), in a period t include all theactivities in the value stream (purchasing, manufacturing, quality assurance, engineering,design, maintenance, accounting, shipping, customer service, etc.), with no distinctionbetween direct costs and indirect costs. All labour costs are included. Ideally, each resourceis assigned to a single value stream, rather than being split among several. Otherwise,allocation (Akt) will be necessary (Ward et al., 2003):

Cost of a value streamk;t¼

Materials Labour and supervison

þOutside processing þEngineeringþprocurement

þDepreciation; supplies þUtilitiesþ facility costs

26664

37775k;t

þ Shared resources� �

t·Ak;t

ð7Þ

VSC considers all conversion costs as fixed and it considers material cost as the only costrelevant in decision making. In practice, some aspects may be fixed while other elementsare variable. Costs are generally fixed in the very short-term and variable in the long-termso classifying a cost as either fixed or variable depends on the time frame considered.

Similar information can be found in a later book (Maskell and Katko, 2007).Finally, a definition of lean accounting appears in Maskell (2004) “Lean accounting

is the general term used for the changes required to a company’s accounting, control,measurement, and management processes to support lean manufacturing and leanthinking”.

Kennedy and Brewer (2005) explain that a company implemented leanmanufacturing and experienced problems with cost accounting. It implemented valuestream cost analysis but the paper does not include any application of the method.

Kennedy and Huntzinger (2005) explain that “lean manufacturing is aboutmanaging the flow of goods and information through the value stream”. Therefore,value streams must be identified and mapped. Finally, they suggest constructing valuestream cost statements.

Some conference presenters at the 2005 “Lean Accounting Summit” developed adocument called “The principles, practices, and tools of lean accounting” (Maskell andBaggaley, 2006) that explains that lean accounting is based on five principles:

(1) lean principles applied to accounting;

(2) accounting supports the lean transformation;

(3) reports easy and timely;

(4) lean accounting helps making plans by informing on how the changes taking placein the value stream affect both the operational and financial performance; and

(5) transition to lean accounting without jeopardizing financial and operationalcontrol.

Maskell and Baggaley (2006) indicate that lean accounting includes differenttechniques such as visual performance measures, VSMs, target costing, box scores,

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Hoshin Kanri or VSC. The later, based on the principle “accounting techniques supportthe lean transformation” is intended for cost management and defined as “a simplesummary direct costing of the value streams”. They point out that the full cost ofspecific products need not be known. They contend that all sales, unless a product isbeing sold at a price below its direct material costs, contribute to the profitability of thecompany (like Goldratt and Cox (1986) in The Goal) and that decisions on a product aretaken according to criteria related to the value chain as a whole.

If individual product costs are needed, total value stream expenses other than directmaterials (total conversion costs) are divided by the number of units (of all kinds)(equation (8)). Otherwise, some features and characteristics of the product or the flowspeed of a product can become cost drivers:

Average units costi;k;t ¼ Direct Materiali;k;t þ½Other value stream costs�k;t

SjUnits producedj;k;tð8Þ

Maskell and Kennedy (2007) after explaining how traditional accounting systemshinder the lean transformation, state (quoting Maskell and Baggaley, 2006) that leanaccounting, more that a new method, is the adaptation of familiar financial andmanagement accounting methods to the needs of lean organizations, with the aims of:

(1) providing information to motivate lean transformation;

(2) eliminating waste from the accounting processes while maintaining financialcontrol;

(3) complying with reporting regulations requirements; and

(4) supporting continuous improvement.

Then, they recommend VSC “similar to that used by some process manufacturers,where the process yields many individual products, but the costing system is designedaround the process as a whole” to control costs, drive cost reduction and be the basisfor decision making.

Van der Merwe and Thomson (2007) give a definition of lean accounting: “Leanaccounting refers to attempts to derive monetary management information based onLean principles”. They question that accounting is a real problem; that lean accountingsupports external reporting and that all conversion costs are fixed.

Brosnahan (2008) describes how one company implemented lean accounting, on thebasis of value stream management. VSC implementation is not described.

Kennedy andWidener (2008), bymeans of a the experience of a company that adoptedlean accounting, develop a theoretical framework that assists in understanding theaccounting practices associated with lean manufacturing. Fullerton et al. (2013) buildon Kennedy and Widener (2008) by examining a structural equation model thatprovides evidence on the extent to which a lean manufacturing implementation is relatedto several accounting practices. Using survey data from American companies, they finda direct positive relation between the extent of a lean manufacturing implementationand VSC.

Gordon (2010) describes VSC which “has the advantage (over ABC) of simplicityas well as the ability to properly capture cause and affect relationships between costsand activities”. The paper provides an illustration of VSC in a factory, but not howit is derived from its processes.


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DeBusk (2012), contends that “Value stream costing is used to provide a valuestream profit and loss statement”. He describes the costs that should be included inVSC like Maskell and Baggaley (2004).

Kristensen and Israelsen (2012), after describing the interaction problems betweenlean manufacturing and management accounting, present a new lean accounting modeldeveloped to measure whether lean enterprise tools actually reduce waste. The modelcombines physical and monetary concepts.

Chiarini (2012), on the basis of a case study carried at a small company that isimplementing lean manufacturing, discusses whether ABC and value stream accountingare suitable for lean production bymeans of examples but the examplewhere value streamaccounting is analysed is very small, since this method was not applied by the company.

Li et al. (2012), from an academic perspective, examine the impact of threedifferent management accounting systems (traditional accounting, ABC and VSC) onlean manufacturing implementation through simulation modelling and statisticallydesigned experimental methods. The results demonstrate that VSC bridges the gapbetween the operational and the financial side of lean manufacturing.

After the revision of the literature, we conclude that most papers (mainly authoredby delegates at the 2005 Summit) are devoted to presenting and promoting a noveltyand are intended for an audience of practitioners more interested in lean manufacturingthan in accounting. We find many declarative statements without empirical evidence.The papers include the advantages of VSC but not its drawbacks. They clearly linkVSC to elements of lean manufacturing but they do no document the practice. There isno research on the implementation of lean accounting and VSC. It still lacks a definitionof lean accounting (and the explanation of its scope) and a definition of VSC.

Although Carnes and Hedin (2005) state that the management accounting literatureand curricula lag behind the adoption of lean accounting practices, the number, quality andapproach of papers published in 2012 reveal the increasing interest of researchers andpractitioners on theVSC topic. Besides,VSCbegins tobepresent in textbooks (Hansen et al.,2009) and in papers oriented towards education (Haskin, 2010).

7. Applying VSC to an assembly processIn order to demonstrate the method of designing a VSC system in a companyenvironment, in this section, we apply VSC to an assembly process described byCuatrecasas (2003). The process is devoted to the assembly of point-of-sales (POS)terminals (electronic cash registers). In the past, the plant had a process-oriented layoutwhere products moved on a batch-and-queue basis, and the plant adopted the principlesof lean manufacturing in order to raise production from 19 to 70 units per day.

The methodology that we follow to get to compute the cost of the product has eightsteps:

(1) Acquisition of numerical data on the process (including methods study andwork measurement).

(2) Charting the process (process chart, spaghetti chart) is a traditional way ofrecording work methods.

(3) Drawing a VSM. Following Rother and Shook (1998), we use VSM,a fundamental tool of lean manufacturing, to represent the process and theflow of materials through the value stream.

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(4) Computing physical values on the VSM (using common process managementformulas).

(5) Computing capacity usage (using common process management formulas).

(6) Costing the value stream. Since lean manufacturing places emphasis onoperational measures, in this paper, we integrate VSM with VSC in order tomeasure both operational and financial improvements.

(7) Lean accounting uses a box score to monitor the performance of a value stream(Womack and Jones, 1996). It is divided into three sections: operationalperformance, capacity information, and financial performance (Maskell andBaggaley, 2004). At each step of the improvement process, data are collectedfrom the VSM, the VSC and the capacity analysis.

(8) Manufacturing system redesign by means of work design techniques(methods engineering) and the theory of constraints (Goldratt and Cox, 1986)to adjust operations to the pace of the process. After that, the method goesback to the first step like the Plan-Do-check-Act wheel of continuousimprovement.

Being VSM a well-known technique, we follow (except for steps 5-7) the methodologydescribed in Serrano et al. (2008), and we refer the reader to that paper for a detaileddiscussion.

7.1 Organisation of manufacturing operations at the outsetFigure 1 shows a line layout with eight workstations after implementing leanmanufacturing. Manufacturing batch size is 35 units (adjusted to demand). All productoperations are shown in Figure 2 and Table I. Table I shows the distribution of tasksamong workstations. The plant manufactures two models of POS terminals. Timefigures correspond to the most complex model. Transports between operations areincluded but some of them are not necessary because of the layout.

Figure 3 is a VSM of the process. The map shows the same data that Table I, plusdetailed information about each step of the process. VSM helps isolate the value streamthat will be used in VSC.

Figure 2.Production processes

ALPCleaning of

screens

ALCCleaning of

glass

EMAssembly

TMTesting

CCMQuality Control

PAPackaging

Figure 1.Layout of manufacturingprocesses at the outset,

after the implementationof one-piece flow

34 35 36 37 38 39

52* * * *

50 51

60 6162

7071

72

**

31*11 21

10 20

LPCEM TM CCM

PA

Source: Authors, adapted from Cuatrecasas (2003)


655

POS terminal model A TypeProcessname No. Description of task

U/L

P/N

Time perunit (s)

People inworkstation

Cycletime (s)

ALP 10 Deliver screens to the work table L N 5 1 18111 Print stickers þ clean the LCD screen U P 11612 Deliver screens to the ALC process L N 0

ALC 20 Carry glasses from the warehouse L N 1021 Clean the protective glass U P 4022 Take the glasses to EM L N 10

Total LPC (ALP þ ALC) 181EM 30 Mounting the base U P – 1 375

31 Mounting tablet U P 37532 Putting tablet on base U P –33 Putting SATO logo on the base U P –34 Tablet final test U P 570 1 57035 Mounting the bezel frame U P 220 1 58036 Mounting the shaft of the bezel frame U P 18037 Placing SATO logo on the wedge U P 18038 Mounting the completed unit (tablet-

bezel-wedge)U P 840 1 857

39 Putting the pack logo on theassembled POS

U P 5

40 Placing the assembled POS ontotrolleys

U P 12

41 Trolleys with POS to TM mounting L N 0Total EM 2,382TM 50 Screening test U P 360 1 762

51 Running test U P 3052 Final machine testing U P 36053 Place POS in trolley U P 1254 Trolleys with POS to the quality

control departmentL N 0

Total TM 762CCM 60 Quality control of machine

functioningU P 30 1 162

61 Quality inspection of the machine U P 6062 Final check U P 6063 Place machine in trolley U P 1264 Trolleys to the packing area L N 0

Total CCM 162PA 70 Packing and sealing the machine U P 120 1 200

71 Place packaged machine onto pallet U P 3072 Take pallet to finished product

storage areaL N 50

Total PA 200Totalprocessingtime

3,687

Notes: U – one-piece flow; L – in batches; P – productive; N – non-productive (transport or wait)Source: Based in Cuatrecasas (2003)

Table I.Description of tasks andtimes for the assemblyprocess at the outset,after the implementationof one-piece flow

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With a cycle time (Ci) of 857 seconds (the longest operation), daily capacity is 33 POSterminals in an eight-hour shift (equation (9)). In a month (25 days or 200 workinghours), the value stream produces 825 units:

Daily capacity ¼Effective daily work time

Ci

ð9Þ

Since times per each operation are shown in Table I and Figure 3 (VSM), it is possibleto compute (Table II) how much of the value stream’s resources are used productively(equation (10)), how much time is devoted to non-value added activities (equation (11)),and how much available capacity is within the value stream (equation (12)).Non-productive time also includes waiting between cycles (equation (13)). In theseequations, j represents workstations, while i, k and z are operations:

Productive timej ¼ SiCapacity ·Value added task timei;j ð10Þ

Non-Productive timej¼SkCapacity ·Non-Value added task timek;jþWait timej ð11Þ

Idle timej ¼ Working time2 ð productive timej þ non-Productive timejÞ ð12Þ

Wait timej ¼ Capacity · Process cycle time2 Sztask timez;j� �

ð13Þ

VSC uses the information from the VSM to calculate the cost of the whole value stream(Table III). The average cost of the value stream per POS terminal is e58.68.

In order to calculate the cost of the value stream, we have considered the costs ofmaterials, labour costs and machine depreciation as well as other costs such as soft

Figure 3.Current state VSM at

the outset, afterthe implementation

of one-piece flow

Weekly orders

ALP-ALC

C/T = 181 s

1 operator

zero defects

EM1 TM PACCM

daily

Suplier

Customers

33 unitsper day

Productioncontrol

Shift : 8 hours

Monthly forecast

Monthly forecastWeekly orders

200 hours

C/T = 200s

1 op.

Defective = 0

200 hours

1712 0

½ day

181 s

0.36 days

375 s 580 s 762 s

0

162 s

0

200 s

0

Processing time3,687 s

Average waittime 1.01 days

Orderlead time32,825 s

(9.11 hours)

EM3 EM4EM2

1 op.

C/T = 375 s

Zerodefects

200 h

1 op.

C/T = 570s

Zerodefects

200 h

1 op.

C/T = 580s

Zerodefects

200 h

1 op.

C/T = 857 s

Zerodefects

200 h

1 op.

C/T = 762 s

Zerodefetcs

200 h

1 op.

C/T = 162 s

Zerodefects

200 h

2 1 1 1 0

0.06 days 0.03 days 0.03 days 0.03 days

570 s 857 s


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tooling and consumables which are directly related to the productive tasks at eachworkstation, in one month. Unlike full absorption costing, other departments (sharedamong several value streams) have not been considered in order to avoid allocations.

Material costs (for each step i ) are calculated according to equation (14) (Productionis 825 units). The amounts of raw materials and parts in each step of the process(unit material cost) have been previously estimated (0, 2, 4 or 5.5 euros per unit).Material costs are calculated from how much material has been purchased for the valuestream over the period. For this approach to be valid, there needs to be low rawmaterialsand work-in-process inventories, which must be under good control. If inventories arelow, then the materials will be used quickly and will accurately reflect the material cost

WorkstationsLabourcapacity(permonth) (units) Total LPC

EM(1)

EM(2)

EM(3)

EM(4) TM CCM PA

Productive (hours) 827.75 35.75 85.94 130.63 132.92 196.40 174.63 37.13 34.38(%) 52 18 43 65 66 98 87 19 17

Non-productive

(hours) 348.79 5.74 0.00 0.00 0.00 0.00 21.77 159.27 162.02

(%) 22 3 0 0 0 0 11 80 81Available (hours) 423.46 158.52 114.06 69.38 67.08 3.60 3.60 3.60 3.60

(%) 26 79 57 35 34 2 2 2 2Total (hours) 1,600.00 200.00 200.00 200.00 200.00 200.00 200.00 200.00 200.00

(%) 100 100 100 100 100 100 100 100 100Productivetasks

(s/cycle) – 156 375 570 580 857 762 162 150

Non-prod.tasks

(s/cycle) – 25 0 0 0 0 0 0 50

Wait firstunit

(s) – 0 181 556 1,126 1,706 2,563 3,325 3,487

Wait nextpiece

(s/cycle) – 0 0 0 0 0 95 695 657

Table II.Study of the capacityof each workstation atthe outset, after theimplementation ofone-piece flow

VSC for the POSassembly process

Materialcost (e)

Outsidecost (e)

Employeecost (e)

Machinecost (e)

Othercost (e)

Totalcost (e)

Customer servicePurchasingLPC (ALP þ ALC) 1,650.00 4,000.00 357.50 6,007.50EM (operations 30-33) 4,537.50 4,000.00 429.70 8,967.20EM (operation 34) 4,000.00 2,000.00 653.15 6,653.15EM (op. 35-37) 2,475.00 4,000.00 1,329.20 7,804.20EM (op. 38-41) 4,000.00 982.00 4,982.00TM 4,000.00 2,000.00 6,000.00CCM 4,000.00 4,000.00PA 4,000.00 4,000.00Other departments

8,662.50 0.00 32,000.00 4,000.00 3,751.55 48,414.05

Table III.VSC for the assemblyprocess at the outset,after the implementationof one-piece flow

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of the product manufactured during that time. The costs of consumables, supplies, andother day-to-day expenses are similarly assigned to the value stream:

Material costt ¼ SiUnit material costi ·Productioni;t < Purchasest ð14Þ

Labour costs are computed according to equation (15) (in the example, Working time isone month). The monthly cost of each employee j is e2,000. In a lean company, labourcosts would be taken from the payroll:

Labour costt ¼ SjMonthly salaryj ·Working timej;t < Payrollt ð15Þ

In a similarway,machine depreciation in period t is computed according to equation (16).The monthly cost of each machine k is e2,000. In the example, Time is one month:

Depreciationt ¼ SkMonthly depreciationk ·Timek;t ð16Þ

The costs of other resources associated with each step of the process are computedaccording to equation (17). The productive time for each workstation i is taken fromTable II. Only productive time is considered. When a workstation is idle, auxiliarymaterials are not consumed. Unit costs are 0, 5 or 10 euros per hour, depending on theworkstation:

Other costt ¼ SiUnit costi ·Productive timei;t ð17Þ

Costs are collected for the total value stream and are summarized over the selectedperiod.

Next, several improvement activities will be undertaken on the shop floor in order tomake the process more efficient. VSM and VSC will be used at each stage. We willstudy whether the operational improvements are mirrored in the costs.

7.2 Stage 1In order to improve flow, we focus on the bottleneck (the workstation that carries outtasks 38-40). Task 38 will now be done in a way that requires 720 seconds.Furthermore, as the four workstations in EM have longer processing times than theothers, it seems necessary to implement a parallel assembly line with four more people.Next, the constraint workstation is the one carrying out operations 50-53. Theimprovement consists in making operations 50 and 51 in a single workstation (witha 390 seconds cycle) and making operations 52 and 53 in a different workstation(a 372 seconds cycle). Figure 4 shows the new plant layout after the aforementionedimprovement actions.

Figure 5 shows the VSM of the new situation. For this arrangement, the bottleneckis the operation with a cycle time of 390 seconds. Using equation (9), daily capacity is73 units. Improvements are also reflected in flexibility (time reduction), labourefficiency and work-in-process reduction.

Labour costs have increased (Table IV) because of the new operators. The effectof allocating external costs on the basis of labour might be devastating. However,the cost of the value stream per POS terminal has fallen because of the higherefficiency.


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7.3 Stage 2The second stage of efficiency boosting is devoted to line balancing. It was observedthat the time of the first workstation in the TM process (the constraint at stage 1) couldbe reduced to 375 seconds by performing two operations simultaneously. The CCM andPA workstations were merged. In the first EM workstation, only one person isnecessary. Figure 6 shows the layout at stage 2.

The VSM of this stage is shown in Figure 7. Table V shows the capacity for eachworkstation. Due to a better balance, the output has increased with less resources andcapacity usage has increased. Now the daily production is 76 units.

Operational improvements in labour efficiency, cycle time and lead time should bereflected in costs. Table VI shows the calculation of the cost of the value chain for amonthly production of 1,900 units. The cost of the value stream per unit drops again.

Figure 5.Current state VSM afterthe first improvements(stage 1)

Weekly orders

ALP-ALC

C/T = 181 s

1 operator

Zero defects

EM1 TM PACCM

daily

Supplier

customers

73 unitsper day

Production control

Shift : 8 hours

Monthly forecast

Monthly forecastWeekly orders

200 hours

376

½ day

181 s

0.08 days

187.5 s 290 s

0.01 days

390 s

0.01 days 0 days

200 s

0

EM3 EM4EM2

2 op.

C/T = 187.5 s

Zerodefects

200 h

2 op.

C/T = 285 s

Zerodefects

200 h

2 op.

C/T = 290 s

Zerodefects

200 h

2 op.

C/T = 358.5 s

Zerodefects

200 h

1 op.

C/T = 390 s

Zerodefects

200 h

1 op.

C/T = 162 s

Zerodefects

200 h

285 s 358.5 s

5 1 2 1

0.07 days 0.01 days 0.03 days

TM2

1 op.

C/T = 372 s

Zerodefects

200 h

1 0 0 1 op.

C/T = 200 s

Zerodefects

200 h

372 s 162 s

0 days


Average waittime 0.72 days


(4.67 hours)

Figure 4.Plant layout after the firstimprovements (stage 1)

34 35 36 37 38 39

52* * * *

50 51

60 6162

7071

72

**

31

*11 21

10 20

LPCEM

TM CCM

PA

34 35 36 37 38 3931

Source: Authors, adapted from Cuatrecasas (2003)

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Finally, Table VII shows a box score that allows comparing the key parameters beforelean manufacturing, after implementing one-piece flow, after stage 1 and after stage 2.It reveals that the plant has improved both its operational and financial results.

Finally, we calculate the cost of a product by using ABC techniques (Table VIII). Eachtask of the process is considered as an activity. Cost drivers are man hour and machinehour. Next, the cost per unit of cost driver is computed. Such costs include labour,depreciation, auxiliary materials and all the resources necessary to perform the activity.Therefore, a man hour may be e30 in one activity and e20 in another activity. Man hoursandmachine hours consumed by each activity are taken from theVSM (Figure 7). There isa difference between the values yielded by VSC andABC because VSC allocates all actuallabour and depreciation costs to the products. In ABC, a fixed cost such as depreciation isallocated according to a standard consumption of resources (drivers). Then ifmachines areunder-utilized, only a fraction of the plant depreciation is allocated to products. ABC doesnot take into account the operator wait time (due to a poor line balance).

8. Concluding remarks and directions for future researchTraditional costing lost credibility in the 1980s.because the allocation of overhead toproducts on the basis of volume-related drivers distorted costs. Traditional performance


Materialcost (e)

Outsidecost (e)

Employeecost (e)

Machinecost (e)

Othercost (e)

Totalcost (e)

Customer servicePurchasingLPC (ALP þ ALC) 3,650.00 4,000.00 790.80 8,440.80EM (operations 30-33) 10,037.50 8,000.00 950.50 18,988.00EM (operation 34) 8,000.00 4,000.00 1,444.80 13,444.80EM (op. 35-37) 5,475.00 8,000.00 2,940.30 16,415.30EM (op. 38-41) 8,000.00 1,868.10 9,868.10TM (op. 50-51) 4,000.00 2,000.00 6,000.00TM (op. 52-54) 4,000.00 4,000.00CCM 4,000.00 4,000.00PA 4,000.00 4,000.00Other departments

19,162.50 0.00 52,000.00 6,000.00 7,994.50 85,157.00

Table IV.VSC for the assemblyprocess after the first

improvements (stage 1)

Figure 6.Plant layout at stage 2

34 35 36 37 38 39

52* * * *

50 51

60 61

62

7071

72

**

31*11 21

10 20

LPCEM

TM CCM

Source: Authors, based in Cuatrecasas (2003)

PA

34 35 36 37 38 39


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indicators drive behaviours against lean principles and lean does not show financialbenefits. Some companies moved to ABC. If well executed, it assigns costs by identifyingcause and effect relationships and identifies non-value added activities. It is veryaccurate, but it consumes a lot of resources. In the 1980s and 1990s, some articlesclaimed changes in accounting to fit the JIT/lean philosophy. As an answer to that call,lean accounting has emerged. One of its techniques is VSC. It is a relevant approachbecause it represents a novel approach to costing, linked with the lean concepts of flowand VSM.

Figure 7.Current state VSMfor stage 2

Weekly orders

ALP-ALC

C/T = 181 s

1 operator

Zero defects

EM1 TM CCM + PA

daily

supplier

Customers

76 unitsper day

Production control

Shift: 8 hours

Monthly forecast

Monthly forecast

Weekly orders

200 hours

389

½ day

181 s

0.12 days

375 s 290 s

0.01 days

375 s

0.01 days 0 days

EM3 EM4EM2

1 op.

C/T = 375 s

Zerodefects

200 h

2 op.

C/T = 285 s

Zerodefects

200 h

2 op.

C/T = 290 s

Zerodefects

200 h

2 op.

C/T = 368.5 s

Zerodefects

200 h

1 op.

C/T = 375 s

Zerodefects

200 h

1 op.

C/T = 362 s

Zerodefects

200 h

285 s 368.5 s

0 1 1 1

0 days 0.01 days 0.01 days

TM2

1 op.

C/T = 372 s

Zerodefects

200 h

1 0

0

372 s 362 s

0 days


Average wait time0.67 days


(4.53 hours)

WorkstationsLabour capacity(per month) (units) Total LPC

EM(1)

EM(2)

EM(3)

EM(4)

TM(1)

TM(2)

CCMPA

Productive (hours) 1,835.08 82.33 197.92 300.83 306.11 388.97 197.92 196.33 164.67(%) 83 41 99 75 77 97 99 98 82

Non-productive (hours) 239.61 13.19 0.00 95.00 89.72 6.86 0.00 1.58 33.25(%) 11 7 0 24 22 2 0 1 17

Available (hours) 125.31 104.47 2.08 4.17 4.17 4.17 2.08 2.08 2.08(%) 6 52 1 1 1 1 1 1 1

Total (hours) 2,200.00 200.00 200.00 400.00 400.00 400.00 200.00 200.00 200.00(%) 100 100 100 100 100 100 100 100 100

Productive tasks (s/cycle) – 156 375 570 580 737 375 372 312Non-prod. tasks (s/cycle) – 25 0 0 0 0 0 0 50Wait next piece (s/cycle) – 0 0 90 85 6.5 0 3 13

Table V.Study of the capacityof each workstationat stage 2

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This paper has analysed the literature on VSC and lean accounting. We have foundhow these practices were initially elaborated, disseminated and documented thoughpublications and we have found that both the implementation of VSC and the researchon VSC are still at an early stage, but there is an increasing interest on the topic.Besides, the many articles devoted to promoting these techniques, recent academicpapers focus on the comparison between ABC and VSC.

After reviewing the literature and having applied VSC, we define lean accounting as abusinessmanagement system, built on the principles of lean thinking,made up of severaltools relating to financial and operational measures intended to support continuousimprovement and control at cell, value stream and plant (or company) levels. It combinesthe use of lean techniques to make accounting more efficient and an acounting processthat captures the benefits of lean manufacturing and drives lean behaviour. If a valuestream is the process in which a product/service is designed, produced and distributed,VSC is a technique under the lean accounting umbrella, introduced around the year 2000,


Materialcost (e)

Outsidecost (e)

Employeecost (e)

Machinecost (e)

Othercost (e)

Totalcost (e)

Customer servicePurchasingLPC (ALP þ ALC) 3,800.00 4,000.00 823.30 8,623.30EM (operations 30-33) 10,450.00 4,000.00 989.60 15,439.60EM (operation 34) 8,000.00 4,000.00 1,504.15 13,504.15EM (op. 35-37) 5,700.00 8,000.00 3,061.10 16,761.10EM (op. 38-41) 8,000.00 1,944.85 9,944.85TM (op. 50-51) 4,000.00 2,000.00 6,000.00TM (op. 52-54) 4,000.00 4,000.00CCM þ PA 4,000.00 4,000.00Other departments

19,950.00 0.00 44,000.00 6,000.00 8,323.00 78,273.00

Table VI.VSC for the assembly

process at stage 2

Box score Period of timeDatacategory Measurements Batch Flow Stage 1 Stage 2

Operational Manufacturing batch size (units) 500 35 35 35Transfer lot size (units) 10 1 1 1Daily production (POS terminals) 19 33 73 76Productivity (units per person per day) 2.38 4.13 5.62 6.91Manufacturing lead time (s) 735,140 32,825 16,827 16,302Processing time (s) 4,075 3,687 3,567 3,552Average VSC product cost (e/unit) N/A 58.68 46.66 41.20Average work-in-process (units) 248 17 18 14

Capacity Productive (%) N/A 52 68 83Non-productive (%) 22 10 11Available capacity (%) 26 22 6

Financial(VSC)

Revenue (e/month) N/A 57,750.00 127,750.00 133,000.00Material costs (e/month) 8,662.50 19,162.50 19,950.00Conversion costs (e/month) 39,751.55 65,994.50 58,323.00Value stream gross profit (e/month) 9,335.95 42,593.00 54,727.00Value stream ROS (%) 16.2 33.34 41.15

Table VII.Box score for the value

stream at stage 2


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based on the value stream concept, intended to avoid the pitfalls of traditional costing,that aims at capturing the cost of materials, labour and every resource directly withinthe value stream with little or no allocation, in value-stream-based lean manufacturingsystems, in order to allow – in an easy, understable and timely way – costing a productfamily (at an intermediate level of detail), driving continuous improvement and decisionmaking, in combination with non-financial performance measures.

Then, this paper outlines a new pragmatic product costing approach (VSC) using acase study. To the best of our knowledge, our paper is the first one that describes howto apply VSC to a real-world lean company. We have used VSC to demonstrate thevalue of lean improvements. Maybe they could not be justified using other costingmethods or, at least, deriving the results would be much harder, as we have seen in theexample. Since lean is an operations-focused culture, it is interested in simple measuresthat timely support on-going improvement. The aim is not to know “how much doesthe product cost?” but “how can we improve the process to cut cost?”

As insights from practice, we can identify the benefits and drawbacks of VSC. Themain benefits are:

. VSC is able to model the processes on the shop floor while it simplifies theaccounting process (compared to traditional costing and ABC);

. it gives cost information as relevant as ABC; and

. while ABC fails to identify unused capacity usage, a key element in leanmanufacturing, VSM-VSC techniques encourage continuous improvement sincethey reflect operational improvements.

The main drawbacks are that it requires a completely lean company (organized aroundvalue streams) and that it only offers a rough estimation of the cost of the product.While avoiding allocations, VSC is less accurate than other costing systems such asABC. Another drawback of VSC is that a methodology treating all items as equalmight work well for short-term performance measurement and short-term decisions,

Cost driverCost

(e/hour) Time (seconds)Consumed

(hours of driver) Cost (e)

Tasks (code)11 and 21 Man hour 30 156 0.043 1.30031 Man hour 25 375 0.104 2.60434 Machine hour 35 570 0.158 5.54235-37 Man hour 30 580 0.161 4.83338-41 Man hour 25 737 0.205 5.11850-51 Machine hour 30 375 0.104 3.12552-54 Man hour 20 372 0.103 2.06760-64 and 70-71 Man hour 20 312 0.087 1.733Total value added tasks 26.32Tasks and processes (code)10, 12, 20, 22 Man hour 20 25 0.007 0.139CCM þ PA Man hour 20 50 0.014 0.278Total non-value added tasks (transport) 0.42Total material cost 10.50Total unit cost 37.24

Table VIII.Calculation of the unitcost at stage 2 by meansof ABC

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but not when considering the long-term. We have seen how operational improvementsin flow (capacity and lead time) go hand in hand with the cost of the value stream andthe average cost per piece. There is a positive correlation between lean practices andfinancial parameters. We have seen how VSC integrates with other tools of leanmanufacturing such as VSM because they share the principles of lean manufacturing.

As another practical insight, we have defined a VSC process that begins with a VSMwhich generates the necessary information to compute some costs of the value stream.

The external validity and generalization of results in case-based research isproblematic because it is difficult to make the results applicable to all companies.Nevertheless, the elements of accounting (labour, overhead, raw materials, etc.) in ourexample are common to all companies and only the quantity of shared tasks betweenvalue streams depends on the organization of each company.

Following the path of ABC, in the future, empirical research could focus on thefollowing issues: the diffusion of VSC across organizations; factors influencing theadoption of VSC; factors influencing the success of VSC; problems of implementation;impact of VSC on the organization; impact of VSC on the profits; factors influencing theaccuracy of VSC and finally, because the relation between the differnet elements of leanaccounting is unclear, it is necessary to get to know idf they are standalone tools orthey work better in an integrated framework.

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Further reading

Fiume, O. (2007), “Lean strategy and accounting: the roles of the CEO and CFO”, in Stenzel, J. (Ed.),Lean Accounting: Best Practices for Sustainable Integration, Wiley, Hokoken, NJ, pp. 43-65.

About the authorsPatxi Ruiz-de-Arbulo-Lopez is an Associate Professor of Business Management at the TechnicalSchool of Engineering of the University of the Basque Country at Bilbao (Spain). He is aneconomist and he received his PhD from the University of the Basque Country. He has authoredseveral books and journal articles on the new ways of accounting that suit lean manufacturing.

Jordi Fortuny-Santos is an Associate Professor of Operations Management at the TechnicalSchool of Engineering at Manresa (Barcelona, Spain). He is an industrial engineer and he


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received his PhD from the University of Lleida (Spain). His research focuses on a variety ofproblems that arise in manufacturing environments. His research papers can be found innational and international journals. Jordi Fortuny-Santos is the corresponding author and can becontacted at: [email protected]

Lluıs Cuatrecasas-Arbos was a Professor of Operations Management until he retired in 2012.He is an industrial engineer and he received his PhD from the Technical University of Catalonia(Spain). He is the President of the Instituto Lean Management Espana (Spanish branch of theLean Enterprise Institute). He has authored many books and his research has appeared inleading international journals.

To purchase reprints of this article please e-mail: [email protected] visit our web site for further details: www.emeraldinsight.com/reprints

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