Lean Accounting Focuses On Identifying And Developing Strategies Accounting Essay

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INTRODUCTION TO LEAN ACCOUNTING

Lean accounting focuses on identifying and developing strategies that will best support businesses in optimizing their accounting systems. The application of lean accounting emphasizes the elimination of waste, increased inventory turnover, and reduced inventory levels ("The Low Down on Lean Accounting", 2007). Without an accurate cost measurement system, a firm is unable to capitalize on its strengths and reduce or eliminate weaknesses. The implementation of a lean accounting system saves both time and money, factors which support an increase in a firms overall profit. An understanding of cost drivers and the variances from standard costs are necessary for developing a clear view of any business today (Maskell, What is Lean Accounting).

Not only is lean accounting widely discussed in the academia world, businesses throughout the country host presentations and summits dedicated to discussing the topic. Lean accounting focuses on accurate measurements of cost drivers helping to ensure that the reported accounting information is reliable and highly accurate in its reflection of the firm's current financial position. Implementation of lean accounting practices assist in motivating a firm to continue to promote their lean initiatives rather than deliver numbers that are not necessarily an accurate reflection of company profitability (Waddell, 2010).

Lean accounting is unlike traditional accounting in its measurements and practices and is based on a number of core principles that represent a departure from traditional accounting principles. The application of a lean accounting system offers many benefits that a traditional accounting system lacks. Although firms throughout the world have been slow to change to the lean accounting system, there are a variety of reasons why firms should and must make the change.

LEAN ACCOUNTING VS. TRADITIONAL ACCOUNTING

Lean accounting is based on the idea that accurate information for management analysis and decision making comes first, and that financial statements in accordance with the Generally Accepted Accounting Principles (GAAP) can be derived from the lean accounting data (Waddell, 2010). Traditional management and cost accounting is the reverse of this principle, starting with GAAP compliant accounting statements, and then attempting to derive information for management from those statements. Unlike the data and information provide from a lean accounting system, effective management information cannot be derived from statements created using the traditional accounting method.

The application of lean accounting transcends the traditional accounting process by reexamining how assets and liabilities are measured ("Is Standard Costing Still Relevant? Evidence from Dubai",2010). Since traditional cost accounting does not accurately reflect the cost savings that a lean system provides, it is apparent that the traditional accounting method is not the best available cost measurement tool. As described in the novel, The Goal: A Process of Ongoing Improvement, by Eliyahu Goldratt, the identification of how a firm measures its performance, as well as assigning costs to drivers, is a key step in initiating any new process. To fully understand lean accounting and analyze its benefits, a side by side comparison to the traditional accounting methods must be conducted (The Goal: a Process of Ongoing Improvement, 1992). While traditional accounting methods represent the measurement techniques of a different business era, lean accounting methods represent the measurement techniques of firms today. Just as businesses models transformed throughout the years, as did the emphasis on traditional cost drivers. It is highly important that the accounting measurements of firms evolve as well. Lean accounting takes into consideration the importance of various factors, evaluates them, and ultimately creates better and more simplified information for users.

In the article "Lean Accounting: What's It All About?," authors Frances Kennedy and Peter Brewer, discuss how traditional accounting systems are essentially "anti-lean." Kennedy and Brewer argue that the financial information in which traditional accounting systems supplies, motivates large batch production and high inventory levels. This false motivation and anti-lean initiative supporting large batch production and high inventory levels supports my claim that traditional accounting methods provides financial information that is misleading to its users. The relevance of traditional accounting amongst businesses today must be questioned by accountants in all industries. Without accurate data derived from accounting measurements, the overall performance of a firm is distorted and can easily be mis-understood by its users. Lean accounting is intended to replace traditional accounting and measurement systems, and is not intended be an additional tool for firm analysis (Is Standard Costing Still Relevant? Evidence from Dubai, 2010). It is evident that lean accounting practices reflect the correct financial measurement for companies in the modern era especially for firms implementing lean manufacturing.

Under traditional accounting practices the primary task of accountants is to assign specified costs to every item the firm produces. The assigned costs are typically captured and tracked in units of raw inventories, work-in-process, and finished goods inventories, and become cost of goods sold on the Statement of Cash Flows as each unit is purchased by a customer (Operations Management: an Active Learning Approach, 2002). Numerous transactions are recorded and processed daily by firm's accountants to ensure that costs of materials and direct labor are assigned correctly and that production overhead costs are allocated as accurately as possible. In contrast, lean accounting focuses on all costs of value streams, or the start-to-finish work activities associated with individual product. The concept of the value stream is an important byproduct of the lean accounting implementation. The value stream is the sequence of activities required to design, produce, and provide a specific good or service, and along which information, materials, and worth flows (Business Dictionary). Since lean accounting practices virtually eliminate inventories, costs are streamlined and no longer tracked into and out of inventory. This significant work reduction created by implementing lean accounting helps company accountants focus on finding new uses for available capacity and helping line operators identify, prioritize, and capitalize on cost opportunities.

VALUE STREAM

The value stream serves as a simplified cost analysis tool providing cost information in a more clearly understood manner. Most companies have several value streams, each relating to a different grouping of products ("Lean Accounting for Lean Manufactures"). Value is created for customers through a series of processes and tasks performed by employees from various sectors of the firm. Lean accounting seeks to eliminate the waste associated with the flow of these tasks helping to increase profit. Initially the majority of firms focus on the value stream within their own operations since it extends to the company's suppliers and customers. Firms who continue to implement traditional accounting practices focus on optimizing departmental effectiveness while lean companies focus on constantly improving the value stream process.

As the value stream becomes lean, costs of activities within it are reduced. These reduced costs and better information enables companies to evaluate the benefits of lean improvements and helps firms establish their priorities for further improvements. While the transition is taking place there will be shared resources and shared employees, and a degree of allocation of the assigned costs to the value streams is necessary. Each dedicated resource and assigned costs that can be directly charged to a value stream is a step toward improved accuracy.

The benefits derived from the value stream created through lean accounting makes traditional cost accounting simply a poor choice for businesses today. Traditional cost accounting reports were developed to provide shareholders a financial view of the firm from an outside perspective (Maskwell, What is Lean Accounting?). Since shareholders have the right to know where the company whom they investment in stands financially, firms did not want to provide data that would appear negative, thus traditional cost accounting techniques were born. The information derived from traditional accounting was never intended to assist firm managers with operations like it has in today's environment. Lean accounting concepts better capture the performance of lean manufacturing operations for the use of firm managers.

BENEFITS OF LEAN ACCOUNTING

The benefits of implementing a streamlined lean accounting system by firms are extraordinary. Implementation of a lean system allows for a highly integrated accounting and finance department, as well as improved integration amongst the supporting units of a business. With a streamlined accounting process, firms will experience decreased cycle time, which improves their overall cash flow and profitability, as well as increase the overall strength of their financial controls (Cleveland, 2005). The information generated from a lean accounting system is more useful, accurate, and timely, then the traditional system thereby providing management with consistent information. With managers being able to rely on better and more consistent information, improved decision-making therefore occurs.

The retention of a firms employees can be highly beneficial. Employee retention is just one impact of lean accounting. Implementation of a lean accounting system can help current employees learn new skills to improve their knowledge in production systems. The knowledge generated improves the skills and capabilities of employees aiding the firm towards advancement. However, lean accounting requires a firm's management to be highly educated in the function of employee knowledge growth and its impact and ability to retrain employees.

Lean accounting implementation can also decrease the firm's overall operating costs after initial investments are made. The concept of lean accounting emphasizes speed and quality regardless of cost. Firms may need to spend money initially when changing to accounting systems in order to achieve lean accounting waste reduction and efficiency goals. However, the upfront expenses for firms who are not sure if lean accounting will provide long-term benefits is often used as an excuse not to change systems.

Increased business intelligence and analysis also occurs with the implementation of lean accounting. Lean accounting supports the identification, reduction, and elimination of wasted effort and non-value-added activities (Cleveland, 2005). As non-value added activities are eliminated, firms will experience increased capacity allowing them to focus on the value-added activities of the firm. The identification and understanding of value-added activities typically was not a concentration of accounting departments in the past. However, as accounting becomes more integrated with the firm and manufacturing, accounting will also assist as a value-added partner in the business working towards continuous improvement throughout the firm.

The benefits of implementing a lean accounting system support the decision making within a firm helping to increase sales thereby increasing overall profitability. Relying on standard costs derived from a traditional cost system will only lead to incorrect conclusions hurting a company. Each decision from investing to buying and selling is all impacted by the information that comes from the accounting system. The value stream that comes from the lean accounting system is extremely beneficial to firms making financial decisions. Lean accounting not only produces the value stream but helps to identify the important financial decisions a firm should make.

TOYOTA PRODUCTION SYSTEM

Toyota, developer of the Toyota Production System (TPS), also known as "lean manufacturing," a business philosophy that seeks to reduce waste, is the model for the lean process (Lean Enterprise Institute, What Is Lean- History). Toyotas' Production System was developed after examining many manufacturing elements including Henry Ford's mass production lines. In Toyotas examination of the Ford's mass production line they found that the production line was filled with over-production, large amounts of unused and wasted inventory, and a great deal of waiting (Lean Enterprise Institute ,What Is Lean- History). Through Toyota's identification of these weaknesses in Fords production line, Toyota formed a more productive and reliable production line for its products, known as the Toyota Production System (TPS). The Toyota process has been successful due to its production capabilities and implementation of Just-in-Time inventory (Katz, 2010). The Just-In-Time process eliminates wasted inventory and lowers costs by keeping only small amounts on hand to fill orders and when more is needed it is ordered.

Toyota has set the standard in lean accounting helping to make lean principles commonly accepted in the business world today. Lean principals are now being applied in all forms of businesses including healthcare, construction, and the service industry (ROI, Inc., 2005). Of the many businesses and corporations implementing lean principals, an increasing number of firms are realizing that standard accounting practices don't support or encourage lean efforts and a change to lean accounting must also follow. Firms who practice lean manufacturing techniques are now also turning to the principles of lean accounting.

CONVERSION TO LEAN ACCOUNTING

While most businesses associate lean concepts to the manufacturing processes, it is now becoming more important for companies to adopt lean principals throughout the firm. A prime example of a support function that utilizes a lean concept is the accounting function. Since accounting is a support department, it should apply lean techniques after the manufacturing department has incorporated lea (Cleveland, 2005). Many companies ignore or simply forget that they should adopt lean accounting after or while they are successfully implementing lean manufacturing to accurately measure the new production system. If a company still uses old accounting processes after lean manufacturing implementation, then the company will experience a ballooning effect of accounting costs (Cleveland, 2005). This ballooning effect occurs because lean manufacturing increases the volume of transactions between suppliers and buyers to maintain a steady flow of production within the company. Since lean manufacturing's goal is to keep inventories low in order to maintain lower quantities of materials and supplies, inventory orders will need to be placed more often.

Firms across the United States and around the world have been slow in the implementation of lean accounting practices. Resistance to change has been described as a "cultural issue," according to Philip Atkinson, and if lean accounting techniques are not applied failure for a business is imminent. Just as businesses must update strategies and technology, the accounting used in its evaluation must also evolve (Atkinson, 2010). Another issue firms are facing is that accountants are reluctant to accept lean accounting principles, since it is a newer accounting concept with mixed reviews in the business environment. Lean accounting often distorts the pricing process for individual goods or services. Indirect costs usually represent the general and administrative expenses of the company. Price distortion is the result of lean accounting failing to consider the indirect costs of production processes. Companies may find they have a difficult time maintaining profitability when using lean accounting due to this issue.

APPLICATION OF LEAN ACCOUNTING

As the implementation of lean accounting processes expands throughout firms, the guiding principles of traditional accounting essentially become ineffective as a management tool. The Generally Accepted Accounting Principles (GAAP) do not recognize lean accounting as a proper cost accounting reporting method (Operations Management: an Active Learning Approach, 2002). Instead, businesses must turn to and use the traditional absorption income statements where product and period costs are separated, whereas lean accounting separates the income statement into value streams. This occurs because of the fact that the traditional approach is retrospective in nature and attempts to work from back to front. This practice is contradictory to the forward aiming nature of lean accounting principles. In a firm adhering to lean principals, the value stream processes requires a new approach to management cost accounting. In the transition to lean accounting practices, traditional accounting practices begin to disappear as they are removed from operations or value stream flows(Operations Management: an Active Learning Approach, 2002).

Going lean is not as simple as a conversion to a new system. In the article, "Taking Lean to Extremes," the anonymous author discusses the benefits a lean accounting system can offer if implemented correctly as well as the damages an incorrect implementation can cause as well. Implementation of a lean system must be done slowly with each step carefully measured. Cutting costs is not always beneficial for firms if the firm is comprised by the cost cutting. Employees as well as supplier performance are two major components that need to be carefully analyzed when implementing lean. The effects that a lean accounting process can have on both employees and supplier performance will certainly impact a firm. The author of "Taking Lean to Extremes," discusses the importance of a critical assessment in order for the lean accounting to succeed in a firm.

CONCLUSION

Lean accounting evolved from concerns that the traditional accounting practices were inadequate for the new direction of businesses operations. While lean practices were quickly adopted in manufacturing, the adoption of lean in accounting and transition from traditional accounting practices is a difficult bridge for many companies to cross. However, the expansion of lean accounting practices from the limited number of firms who first implemented lean practices have help to drive the adoption of lean accounting principles and practices to more firms today. As more firms go lean they help contribute to the increasing body of knowledge on practical lean accounting implementation. A growing number of academic and manufacturing experts are also studying and contributing to the enhancement of the underlying principles guiding lean accounting (Waddell, 2010). Companies using lean accounting find they have better information for decision-making as well as simpler and timelier reports that can be clearly understood by everyone within the firm. With a better understanding of the finances firm management can see and understand the financial impact of lean accounting thereby better able to focus the business around the value created. Lean accounting actively drives the lean transformation helping a firm to grow by adding more value for the customers as well as increasing cash flow and value for the stock-holders and owners (What's Lean Accounting All About?, 2005).

Lean accounting is both a popular and controversial topic in cost accounting today as accountants across the world question its validity in business world. For companies who are deciding in what direction to move while examining their future growth, lean accounting must be considered. The principals guiding lean accounting allow for firms to cut out waste from their processes thereby eliminating many transaction and organization costs. Lean accounting practices is a process driven not number driven, thereby differentiating it from other cost accounting methods. By improving the process within the company, profits, although not guaranteed, should increase in the firms following years.

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