Connecting Continuous Improvement to the Bottom Line
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Presented by Nick Katko Lean is a long-term business strategy, primarily focusing on employees and learning. Through various continuous improvement practices, employees learn to master their work, solve the right problems and help an organization learn how to do things tomorrow it cannot do today. The operational impact of continuous improvement is well known. Eliminating waste creates capacity, which can be used to serve customers better, improve productivity and improve employee satisfaction. But what about the financial impact? Oftentimes conventional financial analytical practices do not capture the true financial benefits of continuous improvement. This becomes a “problem to be solved.” This webinar will explain how to make the true cause-effect relationships between continuous improvement and financial improvement visible throughout the organization. Integrating these relationships will improve the quality of business decision-making and leverage continuous improvement for financial success for the entire organization. In this webinar, you will learn: * the numbers to establish the true cause-effect relationships between continuous improvement and financial improvement. * how to use the economics of lean to calculate the financial benefit of continuous improvement * how continuous improvement achieves cost reduction over time * why certain conventional financial analyses can show that continuous improvement is “not working” financially About Nick Katko: Nick is the President and owner of BMA. Since 2002, Nick has leveraged his Lean Accounting experience and philosophy in assisting BMA clients in developing, leading, and coaching them in their Lean Accounting transformations. Clients Nick has served a range of organizations worldwide, from family-owned businesses to multi-national companies in industries such as manufacturing, healthcare, software, engineering, and service. Nick is an early pioneer of Lean Accounting. In the 1990s, as CFO of Bullard, Nick implemented a complete lean management accounting system in conjunction with Bullard’s Lean transformation, which included eliminating standard costing. Nick is a regular speaker at the annual Lean Accounting Summit and has also presented at conferences in the United States, Europe, Asia, and Australia. Nick has written extensively on lean accounting. He is the author of “The Lean CFO – 2nd edition” (2023), which is an updated version of the 2013 publication “The Lean CFO.” The Lean CFO has been translated and published in Turkish and Italian. Nick co-authored “Practicing Lean Accounting” (2021), which has also been published in Italian.
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Connecting Continuous Improvement to the Bottom Line
- 1. Connecting Continuous Improvement to the Bottom Line Hosted by Host: Mark Graban Senior Advisor, KaiNexus Mark@KaiNexus.com Presenter: Nick Katko President, BMA nkatko@maskell.com
- 2. About Nick Katko • President and owner of BMA • Early pioneer of Lean Accounting • Former CFO, Bullard • Author of books including: • The Lean CFO – 2nd edition (Feb 2023) • Practicing Lean Accounting
- 3. How lean works financially The Box Score Lean cost management Using Box Scores to measure continuous improvement Conventional financial analyses and continuous improvement Wrap up & questions Learning Objectives & Agenda
- 4. Numbers Drive Thinking Habits and Decisions Numbers drive thinking Thinking drives behavior Behavior drives decisions Decisions drive the numbers
- 5. The Economics of Lean
- 6. Economics of Lean Continuous Improvement Creates Capacity Use capacity to deliver value Use capacity to achieve cost reduction Sustainable financial success
- 7. Cause – Effect: Improved Financial Performance Improved operating performance Improved capacity usage Improved financial performance
- 8. Increases sales without increasing fixed costs Reduces fixed costs as a % of sales Reduces variable costs, improves contribution margin Increases capacity without increasing costs Improves performance and increases capacity Improves cash flow How Lean Thinking Can Drive Financial Performance
- 9. Box Score: A tool to drive new thinking habits Performance measures to see improvement Improvement in value stream profitability using VSP&L Capacity to measure waste elimination
- 10. Lean Performance Measurements • Improve on-time delivery Delivery • Improve quality Quality • Reduce lead or processing time Lead time • Increase output with same resources Productivity • Reduce costs over time Cost • Prevention of incidents Safety • Respect for people Morale www.maskell.com
- 11. Measuring Capacity Total available time • Total time of resources Productive Capacity • Value add activity time Nonproductive Capacity • Time spent on non-value added activities (necessary and waste) Available Capacity • Time created through improvements
- 12. Value Stream Income Statement Motors Systems Spare Parts New Product Design Support Costs TOTAL DIVISION Sales $326,240 $748,894 $453,215 $1,528,349 Additional Revenue $0 $0 $12,422 $12,422 Material Costs $111,431 $232,774 $149,561 $87,909 $12,764 $594,439 Conversion Costs $57,628 $70,406 $81,579 $203,769 $37,645 $451,027 Outside Process Costs $32,433 $22,991 $22,661 $7,531 $85,616 Other Costs $16,040 $57,816 $29,459 $72,721 $176,036 Tooling Costs $4,843 $12,544 $6,588 $23,975 Value Stream Profit $103,865 $352,363 $175,789 ($364,399) ($57,940) $209,678 ROS 31.8% 47.1% 38.8% -23.7% -3.8% 13.7% $925,314 $918,807 ($6,507) $51,147 $152,024 9.9% Division ROS Corporate Overhead Division Profit VALUE STREAMS Opening Inventory Closing Inventory Inventory Change 1. Identify value streams and revenue 4. Actual operating profit by value stream 5. Segregate allocations 3. Separate all functional costs from value streams 2. Identify actual direct and shared costs
- 13. Box Scores Drive New Thinking Habits Operating Performance Capacity Usage Financial Performance
- 15. Defining Costs • Varies directly with short-term volume changes Variable Cost • Does not vary with short-term volume changes • Influenced by management decisions Fixed Costs • More costs are considered fixed in lean organizations Lean Thinking
- 16. • actions taken to lower current spending or investment levels • tangibly reflected on financial statements in the short-term Actual cost savings • actions taken to avoid having to incur costs in the future • cost measurements improve over time Cost avoidance How Lean Achieves Cost Reduction
- 17. Measuring Cost Reduction • contribution margin improvement • sales less direct variable costs Variable cost reduction • actual costs as a % of sales • gross margin • expense type (e.g. labor cost) Fixed cost reduction • Any cost allocation method (product cost, cost per patient, etc.) • numbers that have been “GAAP adjusted” for financial reporting Avoid using
- 18. Labor Cost Drivers • OT, temps, contract labor • Temporary capacity needs is the driver Variable • Full-time employees • Permanent capacity needs is the driver Fixed • Labor cost = cost of capacity • Capacity requirements = demand + process waste Lean Financial Thinking
- 19. Labor Cost Reduction Actual Savings • reduce overtime, temps, contract labor • not replace • promote internally & backfill • fill internally • insource outsourced operations Cost Avoidance • direct redeployment • cross training • assign to improvement activities • other temporary assignments
- 20. Box Scores & Continuous Improvement
- 21. Measuring the Impact of Continuous Improvement Productive Capacity 51% 43% Non-Productive Capacity 30% 19% Available Capacity 19% 37% Productive Capacity 53% 53% Non-Productive Capacity 32% 17% Available Capacity 15% 29% CAPACITY Employee Machines Sales per Person $7,472 $7,472 On-Time Shipment 92% 94% First Time Through 71% 78% Dock-to-Dock Days 33.0 18.5 Average Cost $419.46 $413.97 Accounts Receivable Days 54.0 50.0 OPERATIONAL CURRENT STATE FUTURE STATE Revenue $332,569 $332,569 Material Costs $111,431 $108,446 Conversion Costs $116,753 $116,753 Total Costs $228,184 $225,199 Value Stream Profit $104,385 $107,370 Return on Sales 31% 32% Inventory Value $209,336 $113,026 Cash Flow $123,117 $288,926 FINANCIAL Improvements in delivery, quality and flow Improvements created capacity Actual cost impact: decrease in material due to improvements
- 22. Financial Benefit: Increase Sales Without Increasing Costs Sales per Person $7,472 $7,472 On-Time Shipment 92% 94% First Time Through 71% 78% Dock-to-Dock Days 33.0 18.5 Average Cost $419.46 $413.97 Accounts Receivable Days 54.0 50.0 Productive Capacity 51% 43% Non-Productive Capacity 30% 19% Available Capacity 19% 37% Productive Capacity 53% 53% Non-Productive Capacity 32% 17% Available Capacity 15% 29% Revenue $332,569 $332,569 Material Costs $111,431 $108,446 Conversion Costs $116,753 $116,753 Total Costs $228,184 $225,199 Value Stream Profit $104,385 $107,370 Return on Sales 31% 32% Inventory Value $209,336 $113,026 Cash Flow $123,117 $288,926 OPERATIONAL CURRENT STATE FUTURE STATE FINANCIAL CAPACITY Employee Machines $9,904 94% 78% 8.5 $364.43 54.0 60% 24% 16% 69% 20% 12% $427,938 $139,545 $115,557 $255,102 $172,836 40% $62,086 $156,921 INCREASE SALES
- 23. Improvement • Surgical instrument flow from operating rooms to instrument process and back is reduced from 10.6 hours to 3.6 hours Improvement Event Financial Benefit Performance Measurements Productivity + On-timedelivery Quality Cost Days inventory Lead/Flow/Process time + Safety Morale Capacity Productive + Nonproductive - Available + - Value Stream Income Statement Revenue + VariableCosts + Contribution Margin + Valuestream direct costs Labor Machine Other - Total direct costs ValueStream Profit +
- 24. Improvement • Reducing changeover time from 4 hours to 15 minutes Improvement Event Financial Benefit Performance Measurements Productivity + On-timedelivery + Quality Cost Days inventory + Lead/Flow/Process time + Safety Morale Capacity Productive + Nonproductive - Available + - Value Stream Income Statement Revenue + VariableCosts + Contribution Margin + Valuestream direct costs Labor Machine Other Total direct costs ValueStream Profit +
- 25. Improvement • Installing error proofing machine that reduces defect rate from 2.7% to zero Improvement Event Financial Benefit Performance Measurements Productivity + On-timedelivery + Quality + Cost + Days inventory + Lead/Flow/Process time + Safety Morale Capacity Productive Nonproductive - Available + Value Stream Income Statement Revenue VariableCosts - Contribution Margin + Valuestream direct costs Labor Machine Other Total direct costs ValueStream Profit +
- 26. Improvement • Getting wireless headsets for customer service phone agents – better ergonomics and staff satisfaction. Shorter hold times for customers Improvement Event Financial Benefit Performance Measurements Productivity + On-timedelivery Quality Cost Days inventory Lead/Flow/Process time Safety + Morale + Capacity Productive Nonproductive Available Value Stream Income Statement Revenue VariableCosts Contribution Margin Valuestream direct costs Labor Machine Other Total direct costs ValueStream Profit
- 27. Wrap Up
- 28. Conventional Financial Analyses & Continuous Improvement • All assume a cash outflow • Most C.I. creates time/capacity ROI, NPV, IRR, Payback • All subjectively allocate fixed costs • Avoid using! Cost allocations “Cost per___” • this is short-term financial thinking • use economics of lean Lower costs on P&L • will not be realized on P&L • seeing “$” drives poor thinking Monetize time savings
- 29. Practical Advice • Need to experience C.I. • C.I. will lead to financial improvement Accounting & Executives • Integrate into all analysis & decision-making to drive thinking Economics of Lean/Box Scores • Short-term impact must be ACTUAL • Long-term financial benefit of C.I. Short vs Long Term
- 30. Numbers: “The Box Score” Thinking: Lean relationships Behavior: PDCA Decisions: Improve economic value Box Scores Drive Thinking & Improvement
- 31. Lean Accounting Books Available on amazon.com Available February 6, 2023
- 32. Learn more • Nick Katko • nkatko@maskell.com • Free 30-minute chat about this webinar • BMA website: www.maskell.com • join our mailing list • monthly webinars • blogs • online courses & certification • BMA YouTube channel: https://www.youtube.com/c/BMATheLeanAccountingLeaders • over 30 webinar recordings • testimonials
- 33. Register or get notified of future webinars: www.KaiNexus.com/webinars NEXT WEBINAR: Habits & Continuous Improvement February 23, 2023 — 1 pm ET Greg Jacobson, MD & Morgan Wright
- 35. The KaiNexus Podcast • www.KaiNexus.com/podcasts • Subscribe via: – Apple Podcasts – Google Podcasts – Overcast – Stitcher – Other apps & services
- 36. Q&A • Web: – www.kainexus.com – blog.kainexus.com – www.maskell.com • Webinars on Demand: – www.kainexus.com/webinars • Social Media: – www.linkedin.com/company/kainexus – www.facebook.com/kainexus Host: Mark Graban Senior Advisor, KaiNexus Mark@KaiNexus.com Presenter: Nick Katko President, BMA nkatko@maskell.com