Solving the Standard Costing Problem 09242013...

Solving the Standard Costing Problem Solving the Standard Costing Problem Lean Accounting SummitLean Accounting Summit

October 15October 15--17 2013 17 2013 -- Orlando FLOrlando FLOctober 15October 15 17, 2013 17, 2013 Orlando, FLOrlando, FL

Brian H MaskellPresident BMA IncPresident, BMA Inc

Lean Accounting Summit 2013 Solving the Standard Costing Problem

Copyright 2013 BMA Inc. All rights reserved.

Solving the Solving the Standard Costing problemStandard Costing problem

WHAT IS THE STANDARD COSTING PROBLEM?WHAT IS THE STANDARD COSTING PROBLEM?

VALUE STREAM ACCOUNTING: THE SOLUTION

BOX SCORES

© BMA Inc. 2013 All rights reserved

Standard Costing is AntiStandard Costing is Anti--LeanLean

Standard Costing is expensive and wasteful.

Standard Costing Actively Works Against Lean Goals

and Improvement

Motivates people to do the wrong things.

and Improvement


Are complex and confusing to people

Provides misleading, wrong, and harmful

information.HERE ARE SOME

EXAMPLES



Drill on CNC Machine

Inspect & Pack

Actively Works Against Lean Goals and Improvement

Machine on Lathe

Batch 2500

Grinding

1 minute

4 minutes6 minutes

4 minutes


Total labor time: 15 minutesLabor cost: $5.00Overhead cost: $15.00Material Cost $1.50TOTAL COST: $21.50

Lead Time: 6 weeksInventory 25 daysBatch size 2500 (10 days)On‐Time delivery = 82%

Lean manufacturing changesLean manufacturing changes• Create a cell.• Use an drilling machine with quick change over• Use an drilling machine with quick change over.• Reduce the batch size.• Reduce the lead time.• Reduce inventory.• Almost perfect delivery.C t d dditi l it th CNC hi


• Created additional capacity on the CNC machine.



Drill on Drilling

Machine on

Provides misleading, wrong, and harmful information.

Drilling Machine

the Lathe

GrindingInspect& Pack

4 minutes

4 i t6 i t

4 minutes Lean Cell


4 minutes6 minutes

Total labor time: 18 minutesLabor cost: $6.00Overhead cost: $18.00Material Cost $1.50TOTAL COST: $25.50

Lead Time: 2 daysInventory 5 daysBatch size 250 (1 day)On‐Time delivery = 98%

We have made great improvement.

Actively Works Against Lean Goals and Improvement

BUT…. the product cost has gone up and the project is cancelled.

In fact, the changes were highly beneficial both operationally and


financially.

It is the standard costing that is leading us in the wrong direction.



Traditional Income StatementPeriod 1 Period 2

REVENUEOEM $998,977 $1,039,440

What does Gross Profit mean?

Complex and confusing to people

Systems $1,002,466 $1,009,246$2,001,443 $2,048,686

Cost of Goods Sold $1,621,169 81% $1,687,800 82%

GROSS PROFIT $380,274 19% $360,886 18%

ADJUSTMENTSPurchase Price Variance ($60,466) ($59,467)

Materials Usage Variance $94,533 $96,733Labor Variance ($19,718) ($93,895)

$ $

Why have the earnings fallen so much in period 2?

How would you explain this


Overhead Absorption Variance $38,341 $182,577

SG&A $129,889 6% $135,215 7%

NET PROFIT $197,695 10% $99,723 5%

explain this someone in production?

“Plain English” Income Statement“Plain English” Income Statement

What does Gross

Period 1 Period 2REVENUE

OEM $998,977 $1,039,440Systems $1,002,466 $1,009,246

$2 001 443 $2 048 686 What does Gross Profit mean?

Why have the earnings fallen so much in period 2?

How would you explain this

$2,001,443 $2,048,686

Materials $829,936 41% $849,526 41%Direct Labor $305,767 15% $312,984 15%

Support Labor $340,245 17% $342,421 17%Machines $113,862 6% $116,550 6%

Outside process $60,043 3% $53,731 3%Facilities $40,250 2% $41,200 2%

Other Costs $12,009 0.6% $9,664 0.5%TOTAL COST $1,702,112 $1,726,076

GROSS PROFIT $299,331 15% $322,610 16%


psomeone in production?

Inventory Adjustment ($41,593) ($161,426)Corporate Allocations $60,043 $61,461

NET PROFIT $197,695 10% $99,723 5%



P f

6 minutes 6 minutes

Product B

3 minutes 6 minutes

M t


Prepare for Mounting

Align &Secure

Inspect & Pack

Product B

Output10 per hour

Product AMountComponents


Actual Production Cost = $580 per hourMaterial cost = $42 per item

Product Cost = ?

Secure Pack

6 minutes6 minutes

10 per hour

4 minutes4 minutes

Product A

St d d C t $90 06

Product B

St d d C t $109 85


Standard Cost = $90.06

Material $42

Labor 17 m@ $24.23/hr =$6.87

Overhead 600% = $41.19

Actual Cost = $100Material $42

d i $ 80/10 $ 8


Material = $42

Labor 24m @ $25/hr = $9.69

Overhead 600% = $58.18

Actual Cost = $100Material $42

d i $ 80/10 $ 8


Production $580/10 = $58

Standard Cost too low

Production $580/10 = $58

Standard Cost too high



Traditional Approach Actual Impact

Motivates people to do the wrong things:Outsourcing Product B


Outsourced Cost = $85.00

“Savings” of $24.85 /unit

New Material Cost = $ 85Old Material Cost = $ 42

Increase in Actual Material Cost = $ 43

Actual production cost per hour = $580 because no resources were eliminated


eliminated

Actual costs increase due to outsourcing

There is no “Standard” Cost!There is no “Standard” Cost!In a lean environment, the cost of the product is related to flow…

•Waste affects cost so that there is no one ‘standard’ cost of a product


•Waste affects cost so that there is no one standard cost of a product.

•Cost varies with production, FPY, scrap, mix, quality, downtime etc.

• If you control the flow, you control the cost.• By improving flow through the Value Stream we improve capacity = flexibility = growth at no additional cost.



Standard Costing is Expensive and Wasteful.


Thousands & Millions of Transactions; plus Reports & Meetings



Standard Costing is AntiStandard Costing is Anti--LeanLean

Standard Costing is expensive and wasteful

Standard Costing Actively Works Against Lean Goals


expensive and wasteful.gand Improvement


Are complex and confusing to people




Let’s Do Some Standard CostingLet’s Do Some Standard CostingUNIVERSAL VALVE COMPANY

ANNUAL BUDGET


Given this annual cost information, calculate the Labor Rate and Overhead Rate (as a percentage of Labor Rate) required for Standard Costing.



What’s the Standard Cost?What’s the Standard Cost?Calculate the Standard Cost for product

Pro Valve 602 given the following informationPro‐Valve 602 given the following information.




What’s the Margin?What’s the Margin?The company receives a request‐for‐quote from a customer for 3000 Pro‐Valve 602’s per month. The customer’s target price is $45 per unit.

Y i i i f 15% iYour company requires a minimum of 15% margin.Work out the profitability using Standard Costing.




How About Outsourcing?How About Outsourcing?The company has found a Far East supplier quoting a landed cost of $33.00 for the Pro‐Valve 602’s . The customer’s target price is $45 per $ g p $ punit. Your company requires a minimum of 15% margin. Work out the

profitability from outsourcing this product.




Lean AccountingLean Accounting

• Lean companies would never use a standard cost to make these kinds of decisions.

• They always look at the impact on the value stream as a whole.


VALUE STREAM ACCOUNTING

Solving the Solving the Standard Costing ProblemStandard Costing Problem

WHAT IS THE STANDARD COSTING PROBLEM?


BOX SCORES




All Costs & Revenues Are In the Value Streams.All Costs & Revenues Are In the Value Streams.Little or No AllocationLittle or No Allocation




Value Stream P&LValue Stream P&LProfit & Loss Report

5 Ma 05 Per UnitPercentage of

Sales5-May-05 Per Unit SalesSales $326,240 $173.90 1,876 Units

Additional Revenue $0

Material Costs $111,431 $59.40 34.16%Employee Costs $49,515 $26.39 15.18%

Machine Costs $8,113 $4.32Outside Process Costs $32,433 $17.29 9.94%Outside Process Costs $32,433 $17.29 9.94%

Other Costs $16,040 $8.55 4.92%Tooling $4,843 $2.58 1.48%

Value Stream Profit $103,865 $55 31.84%ROS 31.84% 31.84%

Hurdle Rate 42.00%


Cash FlowInventory $221,163 8.9 days

Accounts Receivable $2,348,928 36.0 daysAccounts Payable ($624,014) -28.0 days



“Plain English”“Plain English”FinancialFinancialStatement Statement

Clear, SimpleUnderstandableActionable




Monument CostsMonument CostsResources that are Shared Between Value Streams

PRODUCTION EQUIPMENT

Use a simple allocation method

PEOPLE Allocate the people based on time.

Right size the equipment to each

value stream

Cross train so everybody is in a single

SHORT TERM LONGER TERM


based on time.VS

All Allocation is bad and misleading. We always work to avoid & eliminate allocations.

Support and Other CostsSupport and Other CostsResources Not in the Order Fulfillment Value Streams

NEW PRODUCT DEVELOPMENT

Usually Separate NPD Value Streams

SALES & MARKETING

Best in the Order Fulfillment VS’s.Second Best Separate Sales VS’s.

ADMIN & OTHER Shown Separately as Support


ADMIN & OTHER SUPPORT

Shown Separately as Support Costs. Not allocated to the VS’s.



Motors Systems Spare Parts

New Product Design

Support Costs

TOTAL DIVISION

Sales $326,240 $748,894 $453,215 $1,528,349Additi l R $0 $0 $12 422 $12 422

VALUE STREAMS

CompanyCompany--Wide Income StatementWide Income Statement

Additional Revenue $0 $0 $12,422 $12,422

Material Costs $111,431 $232,774 $149,561 $87,909 $12,764 $594,439Conversion Costs $57,628 $70,406 $81,579 $203,769 $37,645 $451,027

Outside Process Costs $32,433 $22,991 $22,661 $7,531 $85,616Other 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) $209,678ROS 31.8% 47.1% 38.8% -23.7% -3.8% 13.7%

$


$925,314$918,807($6,507)

$51,147

$152,0249.9%Division ROS

Corporate Overhead

Division Profit

Opening InventoryClosing InventoryInventory Change

VALUE STREAM INCOME STATEMENT

EVERYBODY UNDERSTANDS IT

Simple, Real Information.No Accounting Adjustments.

ACCURATE INFORMATION

Real Revenue. Real Spending. Real Profits & Cash Flow.

ON‐TIME Typically Created Weekly. Value Stream Takes Action in Real Time.

EXCELLENT Frequent Review and Real Data


EXCELLENT CONTROL

Frequent Review and Real Data Leads to Stability & Control.

CONTINUOUS IMPROVEMENT

Fully Understandable Information Drives Continuous Improvement



Back to the Universal Valve CompanyBack to the Universal Valve Company

• Just as the purchasing guy was about to pick up the phone and order a boat load of Pro‐Valve 602’s ……..

• The Value Stream Leader says “What if we make these in house?”

• Let’s take a look…….. Here’s the current


Let s take a look…….. Here s the current Value Stream Income Statement

HERE IT COMES



Value Stream CostingValue Stream CostingWork out the profitability using Value Stream Costing.

You need to get 2 new machines and 2 operators to support this volume increase to 3000 units/month




What Should Universal Valve Do?What Should Universal Valve Do?


Value Stream Costing shows the REAL financial impact of the three approaches.



Solving the Solving the Standard Cost ProblemStandard Cost Problem



BOX SCORES


BOX SCORES

The Box Score Summarizes the The Box Score Summarizes the Performance of the Value StreamPerformance of the Value Stream

• The Box Score shows a Three Dimensional view of the value stream

• Provides an understanding of the operational, financial, and capacity impact of actions and decisions


• Leads to better understanding and better decisions



How to Use the Box Score How to Use the Box Score

The Box Score is standard work for showing the performance of value streams.




Universal Valve Company Box ScoreUniversal Valve Company Box ScoreProPro--Valve 602 Sales DecisionValve 602 Sales Decision




BOX SCORE FOR WEEKLY PERFORMANCE REPORTING

The weekly Box Scores shows the performance of the value stream over

time. It shows the impact of changes and improvements.




Solving the Solving the Standard Costing ProblemStandard Costing Problem



BOX SCORES


BOX SCORES

Brian MaskellPresident BMA IncPresident, BMA Inc.

[email protected]

+1 609 230 1080




Solving the Standard Costing Problem 09242013...

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