Lean Accounting in the Defense Environment by Vince Trnka

image

Brian Maskell writes:  This is another in our series of “guest” blogs.

I first met Vince Trnka at the University of Kentucky. I was teaching a 3-day class on Lean Accounting and Vince was palpably excited about the work. Soon after, he became a Lean Accounting Pioneer CFO in the context of defense industry suppliers.

What made this a Lean Accounting success story?  Strong leadership and vision from the company’s senior management team. 

Mr. Trnka writes: I have worked in the defense industry for 35 years and have been engaged in Lean Accounting since 2006.  My company is a large defense contractor.

Some Background

At my company, we were running a typical MRP system and assigning cost to specific contracts.  We placed emphasis on making large batch buys to reduce material costs and ran large lots through the factory to spread the set up cost over a large batch run.  Cash management was largely driven by direct procurements on cost-reimbursable contracts and by assigning inventory to contracts having the progress payment clause.  This approach was typical with U.S. defense contractors in the early 2000’s.

Within the company, we talked about moving to a Lean manufacturing environment, but most of our business was sole-source and we were achieving a decent profit. Getting motivated to change was a struggle. Then, along came competition, defense cuts and a change in control.  The acquiring company was a “Lean” company and our management was strongly encouraged to move in this direction.

As our manufacturing systems were undergoing Lean transformation, a number of issues needed to be addressed, among them: we needed to measure the efficiencies we were experiencing in the factory; and government contracting did not lend itself to Lean Accounting as an acceptable cost recovery system.

I had some false starts looking for a method of accounting for Lean; everything said Lean Accounting was nothing more than activity based costing.  After some research I came across Brian Maskell’s book Practical Lean Accounting [i] and attended his seminar in Kentucky.  After this three day course, I knew this was exactly what I was looking for, but I needed to bring the training back to my facility.

I knew the Lean transformation was not strictly a finance function, but that it needed to be totally supported by all areas of the company.  Brian came to our facility and provided the same training to my management team and key value stream members.  It was not an easy sell, but the logic and simplicity of using the techniques Brian was teaching made believers out of our most entrenched MRP people.  Don’t get me wrong. I do think MRP is a good tracking tool for our cost-reimbursable business, but we found most of the business could benefit from Lean Accounting.

Next, we sent a number of our key finance and manufacturing people for more specialized training.  We selected to pilot Lean in a product area where we were having quality issues, costs were increasing, and we had a large inventory investment. But even more importantly, where we were losing market share.  This product area was unique and widely-used in a very sophisticated and growing market.  Competition was strong and not just from U.S. businesses.  As in most government business, the low bidder would get the award.  We were considering dropping this product line if we could not improve quality and reduce cost.  Perfect for incubating Lean techniques!

What we Did

We moved all the stock out of the stock room and on to the factory floor.  This created a big supermarket of parts, but made visible all the stock we had, as well as the task in front of us: reducing the cash investment in stock and flowing this stock into the production cycle.

At this time we took a leap of faith and removed these parts from MRP (for planning) and went to a visual kanban system.  As a word of caution, we found out later on a different product line you cannot run MRP and kanban on the same parts at the same time.

We also physically moved the buyers to the production area and expensed material and labor as incurred.  This is an act of heresy in the government accounting world, but our overall objective was to improve quality, throughput and cash flow.

This also meant that we needed to do a physical inventory count during the closing process. This is where upper management support was very important because we had to change how we counted inventory.  WIP inventory on the floor was assigned a value-added labor amount which was predetermined based on where the product was staged.  We needed to modify the pricing model used for the government contract and went to a value stream pricing model.  Making these changes took strong management support.

After three months, our inventory turns went from 2.5 to over 10. Capacity more than tripled because we eliminated the stock room and reorganized the production line.  Profitability improved. We moved to weekly income statements, eliminated non-value added (aka wasteful) functions and addressed quality issues immediately during the production process not at the end. And we reduced lot sizes.  All these actions allowed us to compete successfully in the market place and significantly pick up more market share.

In Conclusion

I am very sure if we had not converted to Lean manufacturing methods and used Lean Accounting to measure how we were doing, we would have discontinued this product line.

The success of this product line using Lean Accounting and Lean manufacturing techniques had very profound effects on the company.  We expanded this approach into other product lines and achieved more favorable results.  And, we expanded Brian’s methods into two other sites.

Lesson learned:  To achieve real success, the management team needs to be totally engaged and visible throughout the whole process.

 


[i] Maskell, Brian H.,  Baggaley, Bruce, and Grasso, Lawrence, Practical Lean Accounting: a proven system for measuring and managing the lean enterprise, now available in its second edition  (Boca Raton. FL, Taylor & Francis Group, CRC Press, 2012)

This entry was posted in Lean Accounting and tagged , , , , , . Bookmark the permalink.

3 Responses to Lean Accounting in the Defense Environment by Vince Trnka

  1. Lawrence Grasso says:

    Dear Vince, The experience you recount is very encouraging. I’ve been to a number of facilities with DOD as heir primary customer. While they’ve had great success with kanban and visual controls on the shop floor, their lean progress comes to a screeching halt at the financials. They are unwilling to expense materials and labor as incurred, citing DOD contracting agreements and/or corporate desire for roll-up of financial results across a number of sites. I’d love to hear more details on how you were able to overcome these obstacles, particularly your modification of the pricing model used for government contracts.

  2. Paul Todd says:

    What strikes me about this story and others like it is that the traditional accounting reports made it very clear that the product should be dropped, and it certainly would have without the actions taken by Mr. Trnka and his team.

    This clear, by-the-numbers decision has been repeated for 50 years, across many companies and industries, by smart people following conventional wisdom. How many businesses have been outsourced, exited, or otherwise destroyed by this seemingly sound methodology?

    This is the opportunity and the challenge of Lean Accounting – righting a wrong that has been decades in the making.

  3. Joe says:

    Great takeaways here. But, for me, the big one is alignment. Everybody, from top management on down, and all around. Amazing things can happen when everyone is on the same page and consistent on message.

Leave a Reply

Your email address will not be published. Required fields are marked *