In my last post I discussed the critical role that “time” plays in forming the underlying basis and foundation of the Lean philosophy. The effectiveness of process flows can be best measured by time. Flow itself is a time based metric. And all process waste is, first and foremost, a waste of time.
Thus “time” is a (if not the) crucial factor in making TPS/Lean work. But how do you make time visible? If improvements are based on improving process flows, and flows are measured by time, how do you see it? If flows are improved by removing waste, and waste is a consumer of time, how do you measure it?
Today’s financial accounting systems do not handle “time” very well (or hardly at all if you exclude depreciation and interest). While the P&L is generated based on time (monthly, quarterly, etc.), the time factor is completely lost when the typical metrics are generated based on a variable and fully absorbed unit cost.
The Balance Sheet is even worse from a “time” stand point since the numbers represent a single point in time. Cash and inventory appear to just sit there doing nothing.
Lead time considerations are nowhere to be seen in either type of financial statement.
But at the gemba, the concept of time is not as much of a problem since everyone can see it in real time. So making the improvements there is not the problem. Reporting the improvements to the “outside” is the problem.
I have battled with this conundrum throughout my nearly three decades of working with TPS/Lean. Anybody else have this problem? ….I thought so!
But I may have found a way to help bridge this visibility and communication gap. As part of my independent research, I have been studying Production Theory as developed by the Austrian School of Economics. And no, you don’t have to travel to Vienna to learn this stuff. The “school” was founded in the latter half of the 19th century by a bunch of economists who happened to be located in Vienna. It then spread throughout the western world. It was the only school of economics that really looked at “production” in great depth. It was considered the premier school of economics until John Maynard Keynes showed up in the late 1930’s. Governments liked him much better.
In their outline of the “Production Structure” the Austrians identify three “original” factors of production. These are factors that are involved in every stage of production, from the earliest stages to the last stage (consumer goods). And these “original” factors are Time, Land and Labor.
- Land: factors available from nature such as physical space, basic raw materials, basic energy sources, etc.
- Labor: energy applied to the system from all the functioning brains in the production system (from physical labor to entrepreneurial decision making)
- Time: that which will be consumed no matter what else is happening in the system.
From these three “original” factors come the “produced” factors of production which are termed “Capital Goods” (or “Consumer Goods” in the last stage of production). The “original” factors already exist in man’s environment but “Capital Goods” must be produced from some combination of original factors and other “produced” factors if required.
But the important point to be considered here is that “time” is given equal and distinct consideration as a factor of production. When, dear readers, was the last time anyone asked you about time variances along with material and labor variances? Yep, me too.
But this was not always the case. Here is a revealing and pertinent quote from our good friend Henry Ford:
“Time waste differs from material waste because there can be no salvage.”
He was around when the Austrians held sway over current economic thought.
So what can we do with this new (but old) way of thinking? For one thing, inventory is no longer just an idle asset on the balance sheet. Inventory is consuming two factors of production: Land (space) and Time. And it is wasting both of these factors. And “time is money”. Right? Go talk to your accounting manager about this. Let me know how it turns out.
Of course, the same can be said of customer orders, production orders, Kanban cards, maintenance requests, etc…
A true measure of productivity should include all three original factors of production including time. But how do we do it in such a way that the “outside” will intuitively grasp its importance?
In the Austrian Production Structure theory they have a tool called the Hayekian Triangle (yes, Friedrich Hayek was an “Austrian”). This is simply a chart of cumulative production cost versus time. As expected, cumulative production cost rises as the time line of the production system increases. They do all kinds of interesting things with this curve but for our purposes there is one important takeaway: as the production lead time increases, more cash must be invested into the system to sustain production. Fortunately the reverse is also true: as the production lead time decreases, less cash investment is needed.
The late Westinghouse Electric Corporation used a similar tool called “Cost-Time Profiling” (CTP). They saw the relationship between time and cost and used it on a regular basis. They were founded in 1886. Think they were familiar with Austrian Economics? You know where my bet is going. You can read about it here. And CTP would be a very useful tool in helping us visualize the usefulness of the productivity metric I will be discussing below. I encourage everyone to read the article.
Let me quote Taiichi Ohno again:
“All we are doing is looking at the time line from the moment the customer gives us an order to the point when we collect the cash. And we are reducing that time line by removing the non-value-added waste.”
And why was he following that strategy? The Austrians, Ford and Westinghouse knew.
Here is one approach that I have taken:
Production Cost ($/unit time) x Total Production Lead Time = Cumulative Cash Invested ($)
The first term is generated every time a P&L is generated – just note the time period used and match that with the lead time units. Cash invested is readily available from the Balance Sheet. The lead time should also be available based on the time when a production/customer order is placed and when the item is transferred/shipped. But lead time is not always readily available. It is usually the hardest of the three variables to quantitatively define. But no problem – just calculate it based on the other two, readily available, parameters.
This formula can be based on product families, total plant production, etc., and can be further broken down to encompass only certain process areas/functions. This metric acts as a bridge between the P&L and the Balance Sheet while incorporating a time factor into the latter.
(Note: I came up with this formula about three and a half years ago. I have since learned that this formula is a modified version of “Little’s Law”. It does work.)
When using this financial version of Little’s Law, it becomes obvious that productivity improvement (effective cash utilization) is gained both by reducing production costs as well as by reducing lead time.
Reducing production cost is well recognized by everyone as the inevitable “cost reduction program”. This is usually a hit or miss effort and, at least in my experience, never seems to totally show up on the bottom line.
Lead time reduction, while not normally recognized as cost reduction, requires the entire production system to be analyzed. Lead time reduction is a tremendous cash generator by not only selling rather than making inventory, but by removing cash absorbing complexities (waste) throughout the system (true cost reduction).
Which brings us back once more to this key Lean principle:
The underlying principle behind TPS/Lean is the systemic creation of the shortest possible lead time for the continuous flow of materials and information in order to generate the highest quality and lowest cost.
Continuous flow is the heart of “Just-in-time” – you don’t want it to stop. And continuous flow is the key to “shortest lead time”. And where you see flow stop, treat it like an emergency (Jidoka), find the root cause and fix it right away (Kaizen). (See “What is Lean? – Part 2 and Part 3”).
Keeping a focus on continuous flow and lead time will yield very significant gains when Lean is initially implemented. As old inventory is worked off in lieu of new production, lead times will be dramatically reduced. Lead time reductions will also lead directly to lower production costs as various wastes are removed from the system. 50 – 80% improvements across the board are readily achievable based on my experience.
Both the Little’s Law productivity formula and ROI are effective Lean metrics due to the fact that the P&L and the Balance Sheet are merged into a single entity. For discussions on ROI see my posts “Lean River System – Part 3 and Part 4” as well as “ROI versus the P&L”. With respect to my productivity formula and the Lean River System, note that “production cost/unit time” is the river input, “cash invested” is the river volume and “lead time” is the time it takes to traverse the river from the input source to the river output.
In a later post I will go one step further and combine both ROI and the financial version of Little’s Law into a single algorithm that everyone can use to make correct Lean decisions. I call it the “Everyman’s ROI”. (I may have to change the name. We don’t want a politically incorrect algorithm to be on the loose out there).
I hope all this was helpful to you in our journey to better understand “Why” Lean works.