How to Get Next Generation Lean Back into Focus

Oct. 23, 2016
Lean initiatives should focus on overall revenue-related waste reduction.

My previous column ("Next Generation Lean: Lean Processes Need to Continuously Improve") laid out the premise that there is a significant disconnect between Lean results, namely that while there are a large number of successful Lean transformation case studies, the greater percentage of companies that experiment with Lean are not satisfied with the results.

That column went on to explain that my personal response to this assertion is that while the basis of Lean—waste elimination—is valid, its application needs to evolve in order for Lean to remain relevant. This column will discuss one conceptual area where such evolution is needed—Lean’s focus.

Most Lean practitioners have an almost-exclusive focus on elimination of waste. You may ask, “What can be wrong with that? Getting rid of waste is a good thing, isn’t it?” Sure, but in Lean’s current perspective the waste focused on is usually limited to elements included in a product’s Cost-of-Goods-Sold (COGS). In other words, most kaizen projects target processes of on-the-shop-floor manufacturing flow. But again, you may ask, “What can be wrong with that?”

I liken the Lean practitioner COGS focus to supply management personnel who spend most of their efforts on managing piece-price. If you are long-term reader of this column you will know that I believe a single-minded concentration on price reduction relegates supply management to a tactical, secondary role in most companies. The reason for this is that while lower piece-prices can be a good thing, they only tell a portion—usually the smaller part—of the story on how supply management can positively impact an organization’s bottom line.

In my mind, Lean’s focus on reduction of COGS-type waste causes the same result with the practice of Lean, i.e., it marks Lean as tactical and secondary. Sure, shop floor improvements in-and-of themselves are a “good” thing, but rarely do they have recognizable impact on a company’s overall business results.

I believe that this point gets to the root of why projects conducted by expert Lean practitioners tend to have broader and more significant impact than those conducted by all-of-the-rest practitioners. From my discussions with them it seems that while elite practitioners tell their clients that what they are delivering is “standard Lean,” their project focus is actually greatly expanded beyond the typical Lean focus. Specifically, elite Lean practitioners focus on reducing all waste involved in satisfying customer demand, including that in the supply chain all the way through manufacturing and distribution to the customer. And elite Lean practitioners have the capability to be effective with this approach based on extensive manufacturing backgrounds, i.e., they don’t rely on what is currently a fairly limited Lean infrastructure.

If this rationale is correct, then, what is needed to level-out Lean impacts across a wider range of projects—to reduce the disconnect issue—is to both expand the concept of what Lean focuses on and then somehow systemize the school-of-hard-knocks knowledge possessed by elite practitioners into more structured Lean doctrine such that it can be easily understood and applied by all-of-the-rest practitioners.

I also need to point out another downside of the current Lean practitioner focus on COGS waste. Namely, it creates a barrier to recognition of project impact. Why? Cost-of-Goods-Sold is a standard accounting device for allocating manufacturing costs to product. It is comprised of material, labor and overhead. On the other hand, I have yet to see even one example of a routinely reported executive financial exhibit labeled waste. So, while it may be relatively easy to allocate waste reductions in material and labor to standard financial accounts, it is almost impossible to get accountants and CFOs to transpose real—but more generic—overhead waste reductions to accounts where they are financially quantified and recognized. And today, reductions in overhead waste tend to be the over-riding impacts of Lean projects!

What this means to standard practice is that on top of limiting overall impact, Lean’s current focus on COGS-related waste also leads to under-reporting of project success! And if there is one thing I’ve learned over the years (also through the school of hard-knocks)—and I have the scars to prove it—it is all but impossible to get accountants to think outside of their standard-accounting-principles box, so don’t waste time trying to make it happen. Rather, find a way to talk to them in a language they will accept—currently recognized executive level financial exhibits.

Changing its focus to overall revenue-related waste reduction will position Lean to overcome the two fore-mentioned barriers. Why? Because revenue-based projects not only have a broadened scope, their impacts rely less on overhead reductions than do COGS waste reductions. This means that improvements to revenue are easier both to find and to get accountants to accept. The expansion of focus to overall revenue can be accomplished by expanding Lean’s scope from COGS-associated waste to the waste associated with all aspects of satisfying customer demand, i.e., order fulfillment. It will also dramatically increase the impacts available for delivery. Let me explain.

Order fulfillment effectiveness is usually measured by a metric akin to customer fill rate. If you can’t supply a customer with a desired product when that customer wants it (and is willing to pay you for it), you will generate no revenue. The higher the customer fill rate, the more revenue if—and this is a big IF—the costs associated with supporting that performance have been controlled. How does one control these costs? By eliminating waste, i.e., conducting Lean projects—if those projects are conducted under the right strategy. An order fulfilment scope, by-the-way, does include COGS-type wastes but also incorporates many others.

Let’s now look at just a few of the customer fill rate-related tracked executive level financial exhibits that are open to Lean under this evolving concept focus.

Inventory Turns

This metric quantifies how responsive your factory is in supporting customer fill rates. An inventory turns metric of 365 means that you can respond in one day to new customer demand, given that you have access to the raw material needed to fill that demand and available capacity. An inventory turns metric of 30 days, on the other hand, means it takes you about a month to support that unanticipated customer demand. The revenue issue then becomes whether your customers will wait a month for delivery of your product or turn to and buy from a competitor.

In today’s world of intense competition the answer here is that if competitors have a comparable product on hand, you’ll likely lose the sale if you cannot deliver it relatively quickly.

Finished Goods Inventory

Pre-built (and many times pre-positioned) finished goods inventory is needed to support customer fill rates when a manufacturer does not have the capability to manufacture responsively, i.e., inventory turns are too low to operationally support variations in market demand. There are many costs associated with having to rely on pre-built finished goods, including:

• The financial carrying charges associated with COGS inventories;

• Transportation, warehousing and material handling expenses;

• Damage related product losses and/or rework expenses;

• Discounts needed to sell overbuilt inventory, i.e., both SKUs and quantities. (Pre-built amounts are based on forecasts, which always contain error.)

• Lost sales related to underbuilt inventory, i.e., both SKU and quantities.

In addition, raw material inventory looms large in order fulfillment when suppliers don’t have the manufacturing flexibility needed to operationally support those shorter-fused variations in customer demand.

I have yet to meet an accountant or CFO that wouldn’t willingly credit Lean proponents or practitioners of any other continuous improvement philosophy who reduced either the amount of finished goods inventory; the need for transportation, warehousing and material handling; product damage and/or associated rework; the need to carry raw material inventory; and a reliance on forecasts, and yet were able to maintain customer fill rates. So I ask you: How many Lean projects today actually focus on, impact and take credit for reducing waste in such areas? I suspect a relative low percentage.

Adopting the revised concept that Lean activities need to be tied to order fulfillment waste reduction leaves us with having to define a new Lean implementation strategy that prioritizes those activities that will most improve manufacturing responsiveness. Under such a strategy, Lean activities that would not improve a company’s manufacturing responsiveness in a quantifiable manner would be triaged for later in favor of those that would.

You probably wonder how Lean even became a topic covered in a column devoted to Next Generation Supply Management. It is due to the need to inventory raw material when suppliers cannot support order fulfillment responsiveness needs and the fact that safety-stock quantities (whether held in-house or forced back to suppliers) are based on forecasts.

My experience as a manager and executive is primarily in supply management. I earned my early stripes based on developing what turned out to be a very effective OEM supplier development function. This entailed a need to understand the field of manufacturing almost as that of supply management. Why? Because—and here is a key point—the vast majority of the constraints to an OEM’s manufacturing responsiveness are found in its supply base. Sure, improvements can always be made to internal OEM operations and/or distribution. But without an understanding of actual supplier operational capability and a commitment to work with targeted suppliers on reducing their order fulfillment waste, you will pay for a lot of pre-built safety-stock raw material inventory and, more often than not, it will either be more or less than is needed! In other words, safety stocks cost money to maintain and are seldom sized for what is actually needed.

This and my previous article laid out the case that a change in conceptual focus is needed for Lean to evolve such that it delivers more consistent, high-impact results. As I’ve previously suggested, I suspect today’s elite Lean practitioners already know this and have adjusted their practice of Lean accordingly. The issue then becomes, “How do we institutionalize this conceptual change to Lean practice such that it isn’t seen as over promising and under delivering?”

I’ll take the first step in explaining my answer to HOW in my next column, which will address order fulfillment-based Next Generation Lean strategies.

About the Author

Paul Ericksen | Executive Level Consultant; IndustryWeek Supply Chain Advisor

Paul D. Ericksen has 40 years of experience in industry, primarily in supply management at two large original equipment manufacturers. At the second he was chief procurement officer. He then went on to head up a large multi-year supply chain flexibility initiative funded by the U.S. Department of Defense. He presently is an executive level consultant in both manufacturing and supply chain, counting Fortune 100 companies among his clientele. His articles on supply management issues have been published in Industrial Engineering, APICS, Purchasing Today, Target and other periodicals. 

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