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Management accounting calculates organizational performance for decision-making, coordination and motivation using techniques such as cost allocation, responsibility centers, transfer prices, product costing, and performance measurement and budgeting, all are expected to contribute to increased firm value. Operations management has a parallel agenda, but has other techniques. These specify flows of materials, resources and products, outline layout in manufacturing and service settings and are concerned with non-financial aspects of performance such as time, quality, flexibility and innovation, which are steps, in a chain leading to increased firm value.
Whereas management accounting typically focuses on performance numbers that managers use (at a distance for control or decision-making, operations management primarily focuses on' hands-on' technological, organizational and architectural dimensions of operations. These differences are often described as creating a tension between the two disciplines, and accounting is often portrayed as a problem for operations management due to its hierarchical and financial focus and its orientation towards standards and control. These characteristics of accounting are said to fit poorly with changing operations practices that emphasize lateral relations, learning, continuous improvement, empowerment and non-financial performance. These tensions have led some to argue that accounting should be discounted from operational control.
In this chapter we critically examine this claim, arguing that there are several connections between accounting and operations controls. In particular hierarchy, financial criteria ,standards and control still play significant roles in operation management, even through they may seem provocative to the operations management rhetoric of laterality, empowerment,
learning and non-financial success. However, in discussing these concerns, we intent to develop a new understanding/of the interrelationship between, operation management and management accounting to learn more about the role of account and the characteristics of operations management. There are many connections between management accounting and operations management; the remainder of this chapter discusses these.
The chapter is organized as follows. The next section outlines central issues in new operation management practice. Then, we describe how operations management research depicts the 'problem of accounting' and follow this with an outline of how management accounting research has responded to the challenges from new operations management principles. The chapter ends with concluding remarks.
Operations management: central issues
Skinner (1974) argued that the role of manufacturing or operations is strategic. Several commentators, researchers and others have followed his suggestions for increasing a company's competitive advantage through manufacturing (Hayes and Wheelwright, 1984; Schonberger, 1986; Womack et al., 1991). Numerous complex management concepts have been introduced to delineate better ways to manage modern operations. Total quality management (TQM), just in time 0IT), lean manufacturing, agile manufacturing, time-based management, world class manufacturing and flexible manufacturing are just a few examples.
Operations management books say that operations management is about the frictions posed by time and space on organizations and beyond. It requires time and energy to transport things from one location to another; movements of parts to and along assembly lines can be cumbersome; and coordinating people around a product, process or service raises complex temporal and locational challenges. Therefore, a central concern is how people, technology and materials should be organized given different production characteristics such as volume, variety, variation in demand, and types of customer contact. Operations management is concerned with how production processes, both within and beyond organizational boundaries, meet external demands for the firm's products or services. It is possible to identify two extreme types of manufacturing systems. One combines high volume, low product variety, low variation in demand and low customer contact. The other is the opposite, namely low volume and high product variety, high variation in demand and high customer contact. The first represents a manufacturing system run for maximum efficiency, whereas the other concentrates on flexibility.
Material requirement planning and just in time systems
The 1980s was an important period for operations management because two directly opposing systems of manufacture stood face to face: the American and the Japanese. Previously, the superiority of the American system was taken for granted in most of the modern world, but Japanese manufacturing success challenged it. The discussion revolved around the relative merits of a production organization based on hierarchical intervention using MRP systems and a lateral view of production organization based on JIT (see Table 1.1).
JIT's imperatives are to eliminate: (i) work-in-progress inventories by reducing batch size, (ii) raw material inventories by making suppliers deliver directly to the production line at the right time (just before use), (iii) errors by emphasizing total quality management, (iv) finished-good inventories by only producing to order, and (v) costs of handling materials by designing the factory layout to minimize the movement of components. JIT is a pull-system: demand based on the KanBan, a production order that travels upstream and pulls production through the manufacturing system. Detailed production planning is thus lateral; central production planning is primarily concerned with capacity planning and investments. Figure 1.2 details the different flows of information within MRP and JIT systems.
The arrows in bold from left to right show movements of materials and goods. The two-way arrows illustrate links between central planning and the work of stations. The dotted lines illustrate KanBan information going from right to left.
The principles of each system are very different. Increasingly, MRP principles are ridiculed for being traditional and in conflict with world class manufacturing practices.
Today, lean or world class manufacturing is considered best practice. Karlsson and Ahlstrom (1996) illustrate how lean manufacturing integrates a firm's development, procurement, manufacturing and distribution activities. They suggest that the firm should be understood in lateral terms, arguing that assembling and moving a product or a service into, through and beyond the firm is fundamental to understanding value creation. Hierarchical activities are seen to be non-value adding and to violate lean manufacturing principles that 'specify value by specific product, identify the value stream for each product, make value flow without interruptions, let the customer pull value from the producer and pursue perfection' (Womack et al. 1991, p. 5).
In the lean firm, the product rather than the organization is central. Production technologies are developed around the product, and the value chain constitutes the processes that support the product - i.e. functions and entities exist to provide services to the product. The value chain provides a perspective on the firm but is also a performance criterion: everything that can or does impede progression to this end is non value adding. Therefore, time and waste are central concerns. Waste can have many forms - superfluous materials, time spent on activities that add no value to the customer, idle equipment and inventories are examples - and it is claimed that many companies waste 70-90% of their resources. Lean manufacturing attempts to eliminate waste through techniques such as cellular manufacturing, pull scheduling/just in time (KanBan), Six-sigma/ total quality management, rapid set-up, and team development. Cellular manufacturing is an example of how attention is directed to the flow of products between production locations. To enable this to happen quickly, blockages are erased through attention to waste and failure. To foster productivity and cost considerations, the firm must be flexible and dependable, which requires speedy response times and quality to be in place. This has been summarized as: quality -* speed -â-º dependability -+ flexibility -â-º cost-reduction (e.g. Slack et al, 2004, p. 680).
Lind (2001) demonstrates that lean manufacturing (or world class manufacturing) differs from traditional manufacturing in several respects (see Table 1.2). He identifies two extreme approaches to organizing manufacturing operations. Lean or world class manufacturing is portrayed as fast, flow orientated, responsive, decentralized and customer orientated, whereas traditional manufacturing is depicted as slow, hierarchical, bureaucratic, centralized and production oriented. There is little doubt which is preferred: lean or world class manufacturing claims to benchmark best practice whilst the traditional form is considered too rigid and ineffective. Lean manufacturing is more than a practice - it is an aspiration portrayed in positive terms that implies all organizational ills can be resolved by the one remedy. Proponents of lean manufacturing have no hesitation in advocating it. The best model is said to be in place, now practice should follow suit. No serious alternative is given and therefore there are no 'pros and cons' - only 'pros'. If lean manufacturing does not work it is often attributed to mistaken implementation.
Management accounting - a problem for operations management
Operations management is often quite hostile to management accounting, as the following quotes from Schonberger (1990) show:
Controlling what causes costs is logical, direct, and effective. It replaces the ineffective conventional approach to cost control, which is the carrot and the stick: a limp carrot and a thin stick. The cost-variance report was the stick. It said, Cut your costs, or else. But it offered no specific hints as to how. Tile limp carrot was the pay and reward systems - again not tied to much that was specific and clearly worthy of reward, (p. 188)
Don't try to pin down all costs . .. Instead, drive costs down and quality, response time, and flexibility up by plotting quality, cycle time, set up time etc. on large visible screens on the wall. This is the most cost effective way there is for upper managers and line employees alike to size up results and take pride in accomplishments, (p. 113).
Schonberger attacks accounting for its ambiguities and lack of answers on what to do. The 'non-monetary process data are the lifeblood of improvement projects . . . [They] tell what needs to be done and, to a very large extent, prioritize those needs. Cost data are not part of that improvement methodology' (Schonberger, 1996, p. 104). Here, accounting is a problem rather than a solution. It brings the carrot and the stick but no remedies for solving problems. It mystifies organizational arrangements through allocation mechanisms; consequently nobody understands what goes on. Even 'modern' accounting such as activity based costing is a problem. Its attention to activities and causation is fine, but the bureaucracy associated with the production and use of this information is problematic; and information is still too cursory: 'One reason is the ABC paradox. If the method employs few cost drivers, the cost data may be too imprecise to be useful at the level of an improvement project . . . Cost analysis will want to employ many cost drivers for greater precision. Then, however, the ABC methods become too complex to be understood, believed in, and willingly and confidently used by the improvement team' (ibid., pp. 105-6). Accounting is seen as a misspecification, and 'we can agree at least that the conventional accounting system with its overhead allocation does not tell a straight story. What it does, at the operational level, is process data' (ibid., p. 106). Operational data are claimed to be superior because they are clearer, but also because they incorporate a more valid theory of business behavior, e.g. total quality management:
TQM clarifies objectives and restates them as universal principles of good business practice. Less rework, flow distance, setup time, throughput time, process variation - the common stuff of continuous improvement - akvays are cost-beneficial. (Schonberger, 1996, p- 104; emphasis in original)
The critique of accounting is sweeping and fundamental: accounting misrepresents and distorts; it creates carrots and sticks but gives no indication of how things can be improved; and it develops bureaucracy. Operations, on the other hand, develop 'universal principles of good business practice' and create preferable actions through process-oriented information and actions. Accounting hinders important improvement activities by producing dysfunctional incentives and delaying information.
One possible solution offered is to redesign management accounting to make it lean. Maskeli (1996, 2000) and others reappraise extant management accounting to make it relevant for lean operations. Maskeli, for example, claims that lean manufacturing needs lean accounting. The central concern is to transform the accounting focus from the scrutiny of those in remote places to providing local accounting information needed by managers such as cell leaders and process managers:
Value-stream cost management [is] a simplified form of activity cost analysis [which] provides cost information in a focused manner . . . Traditional companies focus on optimizing departmental effectiveness. Lean companies focus on perfecting the value-stream process. (Maskeli, 2000, p. 47)
Cost information is presumed to be simple; the lean firm does not need much information since variances are rare. Rather than building a complex costing system, lean accounting recommends simpler systems. For example, instead of advocating a complete variance reporting system, lean accounting suggests implementing back-flush accounting which assumes that operations have been carried out correctly and thus detailed evaluation procedures are redundant.
Lean accounting sees accounting transactions as potential waste. Instead, accounting techniques should also be developed just in time, i.e. when needed. Consequently, lean accounting has few standardized procedures; it is built around the needs of local users who seek adequate rather than perfect accounting information. Lean accounting would eliminate heavy support processes, reduce bureaucracies of 'number crunching', and deliver information just in time.
Table 1.3 illustrates how lean accounting is simple accounting and uses variants of target costing and activity analyses to help these activities to be executed efficiently. Maskeli (1996, pp. 8-9) provides a list of techniques that can be applied locally to enable lean accounting to aid lean manufacturing: activity-based cos ting/management, customer profitability, non-financial performance measurements, value-added analysis, process mapping, target costing, value engineering, life-cycle costing, quality function deployment, and competitive benchmarking. All these techniques could be used, not as a grand system of calculation, but as possible bases for ad hoc analyses. These analyses should be situational and not driven by abstract concerns for control. And how could this happen? Maskeli advocates simplifying accounting in the following sequence (1996, pp. 73ff):
Critical reflections on 'the problem of accounting' - a management accounting perspective
Both operations management and management accounting researchers say that changing operations environments are related to changing roles and functions of management accounting (Kaplan, 1983; Johnson and Kaplan, 1987; Womack and Jones, 1991). In this section we discuss the alleged problems of accounting put forward by operations management commentators and critically assess responses from management accounting scholars. The critique against accounting can be summarized in the following four concerns:
Accounting promotes financial performance measures rather than non-financial ones.
Accounting promotes hierarchical rather than lateral relations.
Accounting promotes standard (status quo) [situation rather than improvement.
Accounting promotes control rather than empowerment.
Even if management accounting can be described as financial and hierarchical, and concerned with standards and control, it may well have a role in the new manufacturing setting. In the following we explore why.
Claim 1: Relevance is lost because accounting promotes financial performance measures rather than non-financial ones
The reason why non-financial performance measures are more important in modern manufacturing is explained in two different ways. The first argument is that manufacturing strategy has changed (Hayes and Wheelwright, 1984). It is claimed that strategies focusing on cost efficiency are being challenged by differentiation strategies focused on flexibility speed and quality (Porter, 1980), and that lean manufacturing can combine both strategies. Thus, cost efficiency, flexibility, quality and speed can be obtained at the same time. This implies that the critical success factors for winning the new competitive battle are non-financial measures, such as speed, quality and flexibility. Leading (non-financial) indicators are what should be accounted for.
The second argument is that financial performance measures are too abstract and non-operational to inform empowered workers in the new manufacturing systems. When workers are empowered they need detailed information about operational concerns to make the right decisions. Financial accounting measures are presumed to be too aggregated to be useful for workers, whereas non-financial performance measures are perceived as more real and more useful for informing operational decision-making.
Response 1: Financial information is useful at the shop floor
Although financial accounting information is often portrayed as irrelevant and too aggregated for decision-makers at the operational level of the organization, management accounting researchers have shown that financial performance measures are often used at the shop floor (Preston, 1986; Jonsson and Gronlund, 1988). For example, Jonsson and Gronlund (1988) illustrate how financial performance measures play a significant role in operational improvement processes in a flow-based production layout. They describe how operators and a foreman together conducted a follow-up
Investigation on tool consumption, based on a deviation found via a standard cost system. The team scrutinized the operation in a shaft-line step by step. Finally they discovered the reason for the deviation. The part that was processed consisted of a shaft with a disc at one end. The joint material between the two parts was too hard for the tool used. Either the material had to be softer, or a harder tool had to be used. They contacted the supplier of the raw material for the part and learnt that the joint could not be softened without losing quality. Since quality is the prime objective, the only thing to do was to get a harder, more expensive tool. After two months both operations and tool consumption were back in balance (Jonsson and Gronlund, 1988, p. 526). Similarly, Kaplan and Cooper (1998) argue that activity-based cost calculations are useful for operational decisions even if considerable resources are needed to develop accurate cost driver rates. Thus, financial information seems to be useful and meaningful at the shop floor. If disaggregated or reorganized, it can be a stimulus for learning and improvement of the manufacturing system.
Management accounting research also argues that a focus on cost does not necessarily neglect the importance of flexibility, speed and quality. On the contrary, cost information is important for understanding the economic consequences of, and providing incentives for, flexibility, quality and speed. Flexibility is often defined as the ability to produce a wide range of continually changing products with a minimal degradation of performance. The ability to produce diverse products at low cost is critical in integrated manufacturing systems (Schonberger, 1986; Womack et ah, 1991). Cost allocation has been widely researched, and it is concluded that traditional absorption cost systems using volume-based allocation bases for indirect costs are obsolete in modern manufacturing settings (Kaplan, 1983). Overhead costs do not correlate significantly with production volume in manufacturing system that pursue flexibility (Miller and Vollmann, 1985). Activity-based costing (ABC) has been offered as a solution to this problem (Kaplan, 1988), hence providing more accurate cost information that is aligned to the new operational reality - not least by revealing the cost of flexibility.
The cost of quality, often defined as 'all expenditures associated with ensuring that products conform to specifications or with producing products that do not conform' (Ittner, 1996, pp. 114-15), has been addressed in the management accounting literature. Concerns with the cost of quality originated in the early 1950s in the quality control literature (Juran, 1979/1951). This introduced the economic conformance level (ECL) model as a primary tool for exploring dimensions of quality costs. This model is now included in numerous management accounting textbooks, and it helps conceptualize quality cost by dividing it into appraisal and prevention costs (conformance costs), and internal and external failure costs (non-conformance costs). This provides insight into the economics of quality and provides a framework for discussing an optimal level of quality.
Finally, cost accounting has also been related to concerns about production time. JIT (Schonberger, 1986) and time-based management (Stalk, 1988) mobilize throughput as a key strategic parameter, and Eliyahu Goldratt's theory of constraints (TOC) addresses the relationship between cost accounting and throughput (Goldratt, 1990). The theory of constraints sees throughput as being in opposition to inventor)'. Excess inventories
can: increase cycle time, decrease due date performance, increase defect rates, increase operating expenses, reduce the ability to plan, and ultimately reduce sales and profits. Since excess inventories can create so many problems, Goldratt is critical of accounting practices that are said to provide artificial incentives to build inventories.
Interest in throughput and TOC is reflected in management accounting research (Noreen et al., 1995; Dugdale and Jones, 1996). TOC prefers a minimal variable costing system, where only three variables are relevant: (1) throughput - measured as cash received from sales less material costs; (2) operating expenses - all organizational expenses other than material costs; and (3) inventory - measured as assets acquired (facilities, equipment and materials) but not yet converted to cash. The goal is to maximize throughput while keeping steady, or preferably reducing, operating expenses and inventory. Under the TOC, direct materials are treated as a variable cost, while direct lab our and all other costs are treated as fixed. This minimizes incentives to overproduce, and maximizes incentives to focus on throughput subject to the capacity of the individual production activities of the firm.
Therefore, management accounting seem to be crucial in lean manufacturing systems because it provides information for operators for local decision-making and learning, contributes to understanding the economics of the new manufacturing strategy, and creates incentives according to the goals of lean manufacturing systems.
Response 2: Non-financial information and the problem of the real
Non-financial information may be more tangible or 'real', as operations management writers point out. However, this does not preclude lean manufacturing companies from having cost accounting systems and overhead allocations. In any case, non-financial information may not necessarily be more 'real'. Are common sense understandings of quality, speed, flexibility etc. as unproblematic as operations management assumes? For example, does the concept of quality have a clear and robust common sense status? Looking into practice, both financial and non-financial criteria have a problem of representation. Flexibility, innovation and quality, which all are important success criteria in lean production, can be represented in measurements in many different ways. For instance, product quality can be accounted for by customer satisfaction measured among first year users of a company's products. But there are other equally defensible possibilities, such as the satisfaction of second year users with experience of the product. Or, it is possible to say that satisfaction measures are really not about quality, which is more of an engineering concept established through measures of incorrect parts per million. These are different measures of the same concept. They mean different things. It is not obvious that non-financial data are as unambiguous and real as operations management writers claim.
Disagreements over what quality and customer value are, or what flexibility may mean, reveal doubts about the extent to which non-financial data are real and whether they relate to people's intuitive feelings and experiences. As a result, financial systems may persist despite their difficulties, since information about the economics of flexibility, quality and innovation is important for understanding the effects of various non-financial measurements.
There is, therefore, ambiguity in the translations from quality to dependability to speed to flexibility to cost-reduction suggested by lean management and other conceptualizations of modern manufacturing. Each element in the sequence is a problem, and the sequence is unstable because each element is ambiguous and its impact on later concepts is uncertain. Consider the following sequence:
Quality -* Customer satisfaction -â-º High demand (1)
This sequence says that a quality product leads to customer satisfaction, which in turn leads to high demand for the product. This is plausible and it follows the logic often associated with non-financial information; it leads from one concept into another. However, the logic is not universal. It is equally possible to outline the following sequence:
Quality -â-º High cost -â-º High price -â-º Low demand (2)
Sequence 2 starts in the same place as sequence 1 but takes another route. Quality may also lead to high cost because it requires expensive production methods, costly materials, or sophisticated monitoring systems. High cost may in turn lead to high price and thus to low demand. Sequence 2 is no truer than sequence 1, but it is equally probable. This illustrates that non-financial data may be no easier to understand than financial data. It too carries ambiguity and must be interpreted; hence it is not self-evident common sense as operations management writers often claim.
Claim 2: Relevance is lost because accounting promotes hierarchical rather than lateral relations
The presumption that modern manufacturing is characterized by uncertainty and dynamic relations implies that planning is no longer possible through hierarchies -including management accounting - and it should be replaced by mechanisms of mutual adjustment. Management accounting, understood as a hierarchical planning tool based on standards, forecasts and variance analysis, is accused of producing planning errors and dysfunctional consequences in complex and uncertain organizational settings. In this respect, management accounting is seen as parallel to MRP (see above). The complexities and dynamics often present in new operational settings are presumed to be better accommodated by lateral rather than hierarchical coordination to ensure quality, flexibility, innovation and productivity. New organizational devices, such as multi-skilled workers, cross-functional teams, self-management principles and liaison roles, are proposed as answers to complex and dynamic environments that require fast and innovative responses.
Thus, hierarchical planning is replaced by other means like KanBans, cross-functional meetings and automation that diffuse production scheduling and information across organizational units and individuals in manufacturing systems. In this situation, the accounting system is presumed to be interactive (Simons, 1995) where workers are expected to be self-managing, planning and learning about operations through customized information.
Response 1: If only information sharing was unproblematic
If coordination involved only cross-functional meetings and liaison roles to share information, it would not be so troublesome. Cross-functional teams and liaison roles are central in the new manufacturing setting, but what incentives and abilities to share information exist in such arrangements? Several accounting researchers argue that to facilitate cross-functional coordination it is necessary to establish incentives, clarify organizational goals and report performance results. Cost accounting and performance measurement may play an important role here.
The non-insulated allocation scheme, in which the allocated costs of one organizational department depend on another department's operating performance, creates incentives for mutual monitoring, information sharing and cooperation by managers in different organizational units. For example, two departments in a high-tech firm share the same factory building and both are profit centre's. Assume that the common costs of the shared factory space are $1 million per month. In January and February, the computer modem department has profits of $8 million before allocations. The disk drive department has profits of $8 million in January and $2 million in February. If common costs are allocated on the basis of actual profits, then profits-after-cost-allocations for one department depend on the performance of the other department (Zimmerman, 2006, p. 360).
Also, performance measures concerning inventory levels, quality, sales, etc., may be important information either for building incentives, or for directing attention to problems and challenges. If for instance a purchasing manager is responsible for inventory levels and quality in the production department, this may affect his or her purchasing behavior and provide incentives for a lateral view of the organization. And, even if there are no incentive problems (as some operations management commentators argue), this information may still be useful because there are limits to information sharing in lateral relations. The individual decision-makers in the value chain do not necessarily have knowledge of the whole value chain, even when there is mutual integration with the decision-makers further upstream and downstream. In order to disseminate this insight, information and accounting may be needed. Thus, opportunism and bounded rationality challenge the stability, or even the possibility, of information sharing and decision-making in a lateral perspective. Here, a hierarchy may create incentives or provide information that enables the lateral orientation.
Response 2: Accounting as prior to operations management
Operations management's critique of accounting may also be due to it looking in the wrong places for accounting. It may be that operation management's attention to non-financial measures does not recognize how accounting sometimes creates the space within which non-financial measures are used.
Mouritsen and Bekke (1999) discuss how time - whether lead time, throughput time, speed or punctuality - is a one-dimensional performance indicator. To make this one-dimensional measure work, the production space is designed by forcing other criteria out. Certain mechanisms to simplify production are developed before time can function as a management tool. One mechanism is to develop a group of mobile workers who go to the place in the factory where there is a bottleneck. Rather than making
Complex decisions about how to use scarce capacity, which would require more than time information to execute, capacity is made variable. Another mechanism is to place component inventories with suppliers and thus simply eliminate raw material inventories from the factory. A third mechanism is to turn finished goods into marketing devices in sales companies, which removes finished goods from the factory and makes them the responsibility of others; again the 'waste' of inventories has been erased. These three mechanisms all, in their different ways, take financial decisions about capacity and levels of inventories out of the hands of production managers. They do not face decisions involving conflicting tradeoffs between different financial and economic effects. All three mechanisms mediate between productivity and flexibility, or between inventories versus capacity utilization. They all help to produce the situation where time can become the singular decision parameter.
Even more radical is Miller and O'Leary's (1993,1994) discussions of modern manufacturing, where they find accounting to be several things. Miller and O'Leary show linkages between accounting calculation, the development of the product, manufacturing systems, the person and national aspirations for productivity. They show how strategic and competitor accounting, capacity cost analyses, and investment bundles showing the constellation of investments in new production technology needed, were introduced to shape manufacturing systems. Accounting develops debates about competitiveness and relates this to how different types of manufacturing systems are possible. To Miller and O'Leary, accounting calculations are used to justify a manufacturing system that is lean or modern rather than based on a hierarchical view of the factory. Here, management accounting calculations help managers to develop a programmer of advanced management. This takes shape prior to manufacturing and influences the form of the manufacturing system, which may then be governable more by non-financial means.
Both sets of authors claim that accounting calculations push decision-making criteria that are at odds with lean management away from the factory, which makes lean manufacturing possible. Accounting calculations (about supplier costs, inventory costs and capacity constraints) promote factory design decisions that reduce the need for operations managers to make decisions about tradeoffs between flexibility, productivity, investment in inventories, cost arrangements with suppliers, etc. Accounting calculations are invisible to operations because they externally control the boundaries of the factory; they are not visible inside because the debates surrounding such choices are insulated from operations.
Claim 3: Relevance is lost because accounting promotes standardization rather than learning and continuous improvements
Standard cost systems and variance analysis are criticized for providing incentives that conflict with aspirations for 'zero defect' strategies and lateral relations emphasized in lean and world class manufacturing. Standard cost systems and variance analyses have been criticized for promoting the 'status quo', i.e. standards provide incentives to accept a given level of production defects in the production system rather than to find the cause of the defects. Standards do not stimulate individuals to exceed standards. Furthermore, standards are often considered as mechanisms that
lead to sub-optimization in organizations. Johnson (1992 p. 49) argues that 'achieving standard direct cost "efficiency" targets leads to larger batches, longer production runs, more scrap, more rework, and less communication across processes. Ironically, managers' efforts to achieve high standard cost efficiency ratings have tended over time to increase a company's total costs and to impair competitiveness, especially by increasing lead times ... Indeed, motivating people to act in response to standard cost variances will, in most cases, throw processes further and further out of control.'
Response 1: Understanding the motivational consequences of standards
One concern with standards in the operations management literature is that they normalize defects and waste in the production system. Waste and defects are included in the product cost calculations and thereby accepted. Workers get used to them rather than chasing and eliminating them, which would be the obvious thing to do in a zero defect strategy embedded in lean and world class manufacturing. Many management accounting researchers respond that this is really not a problem, because standards can easily be adjusted and updated in today's management accounting systems. Targets for improvement can also be included in standards and thereby motivate higher performance. The problem is that standards may not be updated or are not challenging.
Problems with standard setting may affect employees' performance due to the challenge of asymmetric information. Managers and supervisors do not necessarily know the job or process that they evaluate and employees may exploit that for their own benefit. In these cases, games may arise around standard setting. For instance, 'quota restrictions' may be practiced by employees to hide their abilities to perform. They ma}' consciously under-perform in order not to improve the standard, which may mean that performance standards decrease or at least do not increase. The solution is often described in terms of trust between managers and supervisors on the one side and employees on the other. Can employees trust that they will benefit from their improvement of manufacturing performance? Mistrust may promote dysfunctional behavior in regard to standard setting.
A standard can have different properties and there ma}' be a discrepancy between motivational and planning purposes. If improvement targets are included in the standard, these may challenge the coordination of planning activities. Effective motivation often requires standards that are higher than what is normally achievable (Locke, 2000) and frequent adjustment is necessary, in contrast, standards for planning must be achievable (i.e. accurately reflect the estimated performance of the system) and only adjusted for changes in the planning schedule. In the management accounting literature this problem has been examined either through discussions on how standard setting represents a trade-off between planning and motivation, or how accounting systems should incorporate multiple standards - some for planning and others for motivation. Lean management has a tendency to ignore such concerns and assumes that obtained standards are the relevant ones.
Response 2: Standard setting and lateral relations
As Johnson claimed, management accounting would argue that standard setting and lateral relations do not necessarily have to conflict. It depends upon what standards
are set for - what is the object for the standard? Is it for a machine, an individual task, a group activity or a value chain? If standards are set for individuals or groups and related to the incentive system this may lead to sub-optimization, as the individuals or groups will improve their own performance measures at the expense of the whole process or the lateral relations. These issues concern how the performance measures conflict with or support a lateral view of the organization. As described above (see discussion of claim number 2), performance measures may produce 'corridor thinking', but they may also support a lateral view by tying individuals' or groups' performance evaluation to performance in organizational entities further upstream or downstream. This has consequences for the extent to which the individual or group is oriented towards their own or others' performance and incentives for integration and lateral thinking-
Claim 4: Relevance is lost because accounting promotes top-down control rather than empowerment
In lean manufacturing employees are presumed to be well-inforfl^^/a.rigrted witrVcor-
porate goals and competent, which implies that employ
be controlled by accounting, but should manage themselves,
management and empowerment, essential in lean manufacturing sy:
to accounting numbers that are diagnostic levers of control whereby op*
planned, monitored and evaluated by upper-level managers.
Response 1: The replacements of accounting -yes, there are alternatives, but still. . .
Management accounting research tends to agree: the limitation of accounting or diagnostic control in the age of empowerment is recognized (Simons, 1995). The replacement of accounting has various justifications. Some argue that when there is high uncertainty over means and ends, clan control should replace bureaucratic (accounting) control (Ouchi, 1980). Employees are presumed to internalize norms and values consistent with behavior that enhances organizational value. In these settings trust, socialization and social sanctions are crucial for explaining how well norms and values will direct behavior in a way valued by an organization.
It is debatable to what extent uncertainty over means and ends exists in lean and world class manufacturing. Nevertheless team spirit is often presumed to be an important ingredient in the empowered lean and world class manufacturing system. Norms and values, rather than diagnostic control mechanisms, are thought to influence employees' aspirations. However, even if the scope of the accounting system is different this does not mean that hierarchical accountability ^eliminated. Accounting no longer accounts for individual performance, but for teajfij^kform-ance. Measuring the team rather than the individual may lead to the^^uo^of team normsT>r rules, because team members become a new entity that is collectively held accountable. This implies that members monitor and correct each other. Therefore, it is not a replacement of accounting, but rather a change in the role of measurement.
Sometimes employees are not only disciplined by norms, but also by technology or physical architecture. For instance, Alles et at (1995) argued that monitoring by
Numbers is less important in modern manufacturing than in traditional systems, because low inventory levels stop employees hiding or shirking. Alles et al. analyzed worker motivation, inventory level decisions and incentive systems when firms change to JIT and found that reduced WIP (work in progress) buffers improved information available to managers. It facilitated their identification of bottlenecks in the line, process flaws and improvements made by workers, which improved their insight into the production process. Direct observation of JIT production processes provided effective visibility, so workers could not shirk or hide. Technology ousted opportunism.
Self-management implies that authority for decision-making and control are given to employees. Here, accounting numbers are interactive levers of control used for individual learning and decision-making rather than top-down monitoring and performance evaluation. However, inter-active accounting numbers may, paradoxically, not only guide individual decision-making and planning. They may also have a disciplinary effect, as workers cannot control how these numbers are used for surveillance by others. Thus, local, operational data is not only useful locally; it can become part of wider systems of accountability. Paradoxically, self-management and lean manufacturing can bring stronger hierarchical systems of accountability.
Response 2: Responsibility centers are still in demand but with different scope
Management accounting will still be used for control and monitoring because responsibility centers are still in place in modern manufacturing settings, though several accounting researchers illustrate how the number and shape of cost centers change in JIT settings. Foster and Horngren (1987) remind us that any significant change in operations is likely to justify a corresponding change towards a smaller number of cost centers when JIT is implemented.
Other types of responsibility centers, like 'pseudo profit centres', are also promoted by management accounting as relevant in changing operations management practices. Kaplan and Cooper (1998) observe that some companies motivate their employees by providing them with profit information about operations. Profit is a more comprehensive financial signal than cost, and profit enhancement a more powerful impetus for improvement than cost reduction it is argued. These systems provide psychological benefits by focusing teams on actions directed at increasing profits, rather than emphasizing the negative action of decreasing or avoiding costs. In addition, having measures of team profitability encourages the team to align its actions with overall firm performance (ibid. p. 65). They provide incentives for continuous improvement even when employee work teams are not organized as 'real' profit centers. Employees do not have the authority to decide pricing, product mix or output; these decisions remain with higher management. Thus, hierarchical systems of accountability still play a significant role in modern manufacturing settings -however, their scope may have changed.
Operations management stresses lateral rather than hierarchical relations in organizations. Accounting calculations are dismissed as a servant of hierarchy that fails to trace the flow
of products and cannot satisfactorily help improve operations. Accounting calculations are presented as enemies of quality, flexibility and even cost reduction because they mystify the affairs of the firm. Instead, non-financial operating data and empowered, competent and self-managing employees are advocated, as they can identify how to improve the business.
Management accounting research has responded to challenges posed by manufacturing by analyzing its claims on the relevance of non-financial information, flattening the organizational structure, supporting local decision-making and motivating continuous improvement. Accounting research challenges the claims made by lean thinking, especially its ideas of information sharing, motivation, trust and learning in organizations.
However, management accounting and operations management have much to say to each other because, as Bromwich and Bhimani (1994) note, many challenges facing modern management accounting come from an operations environment. Our analysis corroborates this view: new ways to conceive of management accounting emerge from studying its interaction with operations management. Both have similar concerns and conclusions about the importance of non-financial information in modern manufacturing environments. However, our analysis challenges the caricature of accounting often made in debates about operations management and more generally.
We suggest that the language of operations is not a purely non-financial one. Employees do understand financial language to some degree. Standard cost systems are used as a catalyst for improvement processes and 'pseudo profit centers' provide incentives for continuous improvement. Furthermore, management accounting is important as it describes the economics of flexibility, speed and innovation. Management accounting also has a role in illuminating and analyzing the structure of the factory. The abstraction of financial data cannot systematically be avoided by introducing non-financial performance measures. Flexibility, quality, speed and customer orientation can be represented in many ways, which makes both financial and non-financial measures abstract and incomplete.
In order to realize lateral relations, there is an impact of hierarchy. Also lateral relations require incentives, organizational goals and reporting of performance results. Opportunism, as well as bounded rationality, means that information sharing and decision-making in a lateral perspective is not without challenges. Hierarchy may provide incentives and information used to facilitate a lateral orientation. Management accounting plays a role here.
We also argue that standard cost systems and variance analysis do not necessarily conflict with aspirations for 'zero defect' strategies and lateral relations as is suggested by many operations management commentators. Many management accounting researchers respond that this may not be a problem because standards can be adjusted and updated in today's management accounting systems. This adjustment has to be careful though, because optimistic standards may be more relevant for motivation purposes than for coordination.
The limitations of accounting or diagnostic control in the age of empowerment are recognized. Other means of control exist and are applied in the new operational setting. For instance, in lean manufacturing norms and values, rather than diagnostic control mechanisms, often discipline employees. This does not mean that hierarchical accountability is eliminated; rather the scope of responsibility centers changes. Management accounting does not only account for individual performance, but also for team process and value chain performance.
Operations management has challenged management accounting for some time. However, management accounting may equally be a challenge for operations management, as the boundaries around and within operations depend upon calculations that connect flows of products and services, individuals with organizational goals, and ideas of competitiveness to profitability and control. Operations management and management accounting can learn from each other. As Bromwich and Bhimani (1994, p. 248) argue: '[wjithin a context of dynamic change, management accounting cannot afford to be inward oriented. Its continued development must rest on its rich history side by side with an appreciation of pressures, constraints and opportunities that enable it to maintain a proactive edge.' Operations management can enable management accounting to develop and vice versa