One would think that Robert S. Kaplan, then the Arthur Lowes Dickinson Professor of Accounting at Harvard University Business School, would know what he was talking about when he said in 1984, “Efforts to revitalize manufacturing… cannot succeed if outdated accounting and control systems remain unchanged. Yesterday’s accounting undermines production.” [1]
Eight years later, others were still saying the same thing.
Dr. Eliyahu M. Goldratt argued frequently and adamantly that cost accounting was hugely destructive to productivity and other business improvements. [2, p. 27]
“The basic argument is that the standard cost procedures and the performance measures supported by these cost systems all too often trigger dysfunctional actions within the organization in general and specifically within the manufacturing system. The reason for the occurrence of these dysfunctional actions is that traditional cost accounting systems try to maximize the efficiency of individual subsystems instead of optimizing the performance of the total system." [3, p. 11]
What Do We Mean by “the total system”?
The “system” to which we refer consists of all the moving parts in the business—the organization—that form a chain of dependent events working together to produce a profit (in a for-profit organization).
Cost accounting would have you believe that if you optimize each part of the system individually—e.g., sales, inventory, production, accounting, etc.—that the system itself will be optimized. This, however, is not true.
A crude, but very clear, example of this is optimizing production and quality control. Production is optimized—i.e., produces the most; is most efficient—when it need not pay particular attention to quality. Quality control, however, is optimized—and is usually measured and rewarded—based on the quality of the products being produced. In business, balancing these so-called two silos against each other for the benefit of “the system,” is frequently called “making trade-offs.”
But, take a look at this illustration.
The “system” is really a money-making machine (again, in a for-profit scenario). The entire system is optimized when Throughput is maximized and Operating Expenses are minimized.
Toyota recognized this when they determined that “quality” must be measured by the customer’s entire “experience” in its dealings with the enterprise. Toyota recognized that everything from sales (the channel) and marketing, to the purchase price, to the quality of the vehicle, to the time of delivery, to the after-market maintenance, and much, much more contributed to what the customer decides is “quality.”
This forced Toyota to rethink its entire supply chain from the outside—beginning at the customer.
Looking for Results From “the total system”
The “long-term result [from a business system] is not a mechanistic sum of individual results produced independently by separate parts; it emerges holistically from the system of relationships among a community of interconnected and interdependent parts.” [4]
This is a message that far too few supply chain managers today have come to understand, or at least, apply. Many times, I find, that even if the supply chain managers have come to grips with it, they are still wrestling (or given up wrestling) with the financial side of the organization where most of the participants are still entrenched in cost-world thinking.
“Toyota seems always to have known this, because their strategy for reducing cost and increasing profit is not to cut costs or pump up revenues; rather, it is to continuously improve the system of relationships among all parts of the business, in ways that eliminate waste and increase flow. In other words, they believe that improving the system, not simply moving or changing its parts, is the surest way to improve long-term financial results.” [4]
A System View Essential to Achieving Supply Chain Agility
While there is much, much more I could say here—and probably will in future articles, I am convinced that when supply chain managers and their financial watchdogs quit measuring for “cost” and start measuring for “Throughput” (revenues less only truly variable costs), that great improvements will come forth in supply chain agility.
Beyond that, when supply chain leaders begin to see that their entire supply chain is “a system” and that improvements must be made to the weakest link in the system to improve the flow of Throughput-producing product to the end-user, then everyone in the supply chain can begin enjoying an improved bottom-line.
A great starting point is to do as Lora Cecere suggested at the Supply Chain Insights Global Summit: Start thinking about your supply chain “outside-in” instead of “inside-out.”
We would like to hear your thoughts on this matter. Please leave your comments here, or feel free to contact us directly, if you prefer.
[1] Kaplan, Robert S. "Yesterday's Accounting Undermines Production." Yesterday’s Accounting Undermines Production. Accessed September 26, 2013. http://hbr.org/1984/07/yesterdays-accounting-undermines-production/ar/1.
[2] Goldratt, Eliyahu M., and Jeff Cox. The Goal: A Process of Ongoing Improvement. Great Barrington, MA: North River Press, 1992.
[3] Umble, M. Michael., and Mokshagundam L. Srikanth. Synchronous Manufacturing: Principles for World-class Excellence. Guilford: Spectrum, 1996.
[4] Johnson, H. Thomas. "Manage a Living System, Not a Ledger." Manufacturing Engineering. Society of Manufacturing Engineers, Dec. 2006. Web. 18 Nov. 2009.
