Lean Accounting

What is Lean Accounting ?

Introduction :

What we now call lean manufacturing was developed by Toyota and other Japanese companies. Toyota executives claim that the famed Toyota Production System was inspired by what they learned during visits to the Ford Motor Company in the 1920's and developed by Toyota leaders such as Taiichi Ohno and consultant Shigeo Shingo after World War II. As pioneer American and European companies embraced lean manufacturing methods in the late 1980's they discovered that lean thinking must be applied to every aspect of the company including the financial and management accounting processes.
The purpose of Lean Accounting is to support the lean enterprise as a business strategy. It seeks to move from traditional cost accounting to a system that measures and motivates good business practices in the lean enterprise.

Contents :                             

  1. Meaning of Lean Accounting.
  2. Need & Objectives of Lean Accounting.
  3. Advantages of Lean Accounting.
  4. Application of Lean Accounting.

A) Thrusts for Lean Accounting :

There are two main thrusts for Lean Accounting. They are as follows :

1) Application of Lean Methods :
The first is the application of lean methods to the company's accounting, control, and measurement processes. This is no different than applying lean methods to any other processes. The objective is to eliminate waste, free up capacity, speed up the process, eliminate errors and defects, and make the process clear and understandable.

2) Changing of Accounting and Other Processes :
The second (and more important) thrust of Lean Accounting is to fundamentally change the accounting, control, and measurement processes so they motivate lean change and improvement, provide information that is suitable for control and decision-making, provide an understanding of customer value, correctly assess the financial impact of lean improvement, and are themselves simple, visual, and low-waste. Lean Accounting does not require the traditional management accounting methods like standard costing, activity-based costing, variance reporting, cost-plus pricing, complex transactional control systems, and untimely and confusing financial reports These are replaced by :
  1. Lean-focused performance measurements.
  2. Simple summary direct costing of the value streams.
  3. Decision-making and reporting using a box score.
  4. Financial reports that are timely and presented in "Plain English" that everyone can understand.
  5. Radical simplification and elimination of transactional control systems by eliminating the need for them.
  6. Driving lean changes from a deep understanding of the value created for the customers.
  7. Eliminating traditional budgeting through monthly sales, operations and financial planning processes (SOFP).
  8. Value-based pricing.
  9. Correct understanding of the financial impact of lean change.
As an organisation becomes more mature with lean thinking and methods, they recognize that the combined methods of Lean Accounting in fact creates a Lean Management System (LMS) designed to provide the planning, the operational and financial reporting, and the motivation for change required to prosper the company's on-going lean transformation.
Up until 2006 the methods of Lean Accounting were not clearly defined because they had been developed by different people in different companies. 
A meeting was held at the 2005 Lean Accounting Summit conference including a number of leaders in the field, and a decision was made to develop a document called "The Principles, Practices, and Tools of Lean Accounting" (PPT) (Lean Accounting PPT). While the methods of lean accounting are continually evolving, the PPT lays out the primary methods of Lean Accounting and shows how they fit together into a Lean Management System. The PPT emphasises not only the tools and methods of Lean Accounting, but also the need for focusing on customer value and the empowerment (or respect) for people. The PPT was published in Target, the Journal of the Association of Manufacturing Excellence (AME) in 2006.

Needs of Lean Accounting :

Everybody working seriously on the lean transformation of their company eventually bumps up against their accounting systems. Traditional accounting systems (particularly those using standard costing, activity-based costing, or other full absorption methods) are designed to support traditional management methods. As a company moves to lean thinking, many of the fundamentals of its management system change and traditional accounting, control, and measurement methods become unsuitable. Some examples of this are :

1) Complexity of Traditional Accounting Systems :
Traditional accounting systems are large, complex processes requiring a great deal of non-value work. Lean companies are anxious to eliminate this kind of non-value work.

2) Limitations of Measurement and Reports :
They provide measurements and reports like labour efficiency and overhead absorption that motivate large batch production and high inventory levels. These measurements are suitable for mass production-style organisations but actively harmful to companies with lean aspirations.

3) Presentation of Financial Impact :
The traditional accounting systems have no good way to identify the financial impact of the lean improvements taking place throughout the company. On the contrary, the financial reports will often show that bad things are happening when very good lean change is being made. One example of this is that traditional reporting shows a reduction in profitability when inventory is reduced. Lean companies always make significant inventory reductions and the accounting reports show negative results.

4) Use of Technical Words and Methods in Traditional System :
Traditional accounting reports use technical words and methods like "overhead absorption", "gross margin", and many others. These reports are not widely understood within most organisations. This may be acceptable when the financial reports are restricted to senior managers, but a lean company will seek to empower the entire workforce. Clear and understandable reporting is required so that people can readily use the reports for improvement and decision-making.

5) Misleading Standard Product Costs :
Traditional companies use standard product (or service) costs which can be misleading when making decisions related to quoting, profitability, make/buy. sourcing, product nationalisation,and so forth. Lean companies seek to have a clearer understanding of the true costs associated with their processes and value streams.

There are of course traditional methods for overcoming some of these issues and problems. Indeed, few of the methods of Lean Accounting are new ideas. They are mostly adaptations of methods that have been used for many years, and have been codified into a lean management system designed to support the needs of lean thinking organisations.

Lean Management Accounting Objectives :

  • Provide accurate, timely, and understandable information to motivate the lean transformation throughout the organization, and for decision-making leading to increased customer value, growth, profitability, and cash flow.
  • Support the lean culture by providing information that is relevant and actionable, and empowers continuous improvement at every level of the organization.
  • Present lean management accounting financial statements that fully comply with generally accepted accounting principles, external reporting regulations, and internal reporting requirements.

Use lean tools to eliminate waste from the accounting processes while maintaining thorough financial control.

Advantages of Lean Accounting :

1) Provides information :
Provide accurate, timely, and understandable information to motivate the lean transformation throughout the organisation, and for decision-making leading to increased customer value, growth, profitability, and cash flow.

2) Eliminates Waste :
Use lean tools to eliminate waste from the accounting processes while maintaining thorough financial control.

3) Complies with Standards :
Fully comply with generally accepted accounting principles (GAAP), external reporting regulations, and internal reporting requirements.

4) Supports Lean Culture :
Support the lean culture by motivating investment in people, providing information that is relevant and actionable, and empowers continuous improvement at every level of the organisation.

Where does Lean Accounting Apply ?

As with most lean methods Lean Accounting was developed to support manufacturing companies, and most of the implementation of Lean Accounting has been within manufacturing organisations. Now that lean methods are moving into other industries like financial services, healthcare, government, and education there are some initial examples of the application of Lean Accounting in these industries. There are as yet no published cases of the use of lean accounting outside of manufacturing.

Application of Lean Accounting :

A) Getting Started :

1) Application to Accounting Processes :
In the early stages of lean it is important to apply lean improvement throughout the organisation; and these is nowhere more suitable than the accounting processes. These include the month-end close, accounts payable, accounts receivable, payroll, cost accounting, expense reporting, and so forth. There are three reasons for applying lean improvement methods to the accounting processes :

1) The processes will be improved and the company's operations made better.
2) The finance people will learn a lot about lean methods. Lean is not learned from books but by actual hands-on experience.
3) The removal of waste will free up time for the finance people to work on the introduction of Lean Accounting.


Some people object to making changes to the accounting processes because they ask why we would want to spend time making processes better when in fact we will be eliminating them in the future. The answer to this is that with lean we are always interested in making many small improvements. We are not looking for the "silver bullet" that will solve all problems. On the contrary, we are looking to engage the entire work force in many smaller changes that lead to massive improvement over time. It is, of course, our objective over time to largely eliminate most of these wasteful accounting processes, but at the earlier stages of lean change we are content to improve the processes, provide learning to the finance people, and free up their time for the more significant lean changes in the future.

2) Lean Performance Measurements :
The control of the production (and other processes is achieved by visual performance measurements at the shop-floor and value stream level. These measurements eliminate the need for the shop-floor tracking and variance reporting favored by traditional cost accounting systems. There are (at least) three levels of operational performance measurements.





Plan do Check Act Improvement 

Typical Frequency


Company or Plant Measurements


Enable the senior managers of the company monitor the achievement of the company's strategy.

Strategy Development




Value Stream Measurements


Track the performance of the value stream and provide information to drive continuous improvement (CI).

Continuous Improvement




Cell and Process Measurements


Enable the cell team to monitor and control their own activities.

Identify defects and eliminate them

Hourly or by shift


Continuous Improvement (CI) is motivated and tracked using value stream performance boards. Typically these visual boards are updated weekly and used by the value stream Cl team to identify improvement areas, initiate PDCA projects, and monitor their progress. These boards show the value stream performance measurements, pareto charts (or other root cause analysis), and information about the Cl projects. The boards also show the current and future state maps together with the project plan to move from current to future state. The Value Stream Performance Boards become "mission control" for both break-through improvement and continuous improvement of the value stream.

Measurements include :

  1. Productivity (sales/person).
  2. Process control (on-time shipment to customer requirement).
  3. Flow (dock-to-dock days or hours).
  4. Quality and Standardised Work (first time through without scrap or rework).
  5. Linearity and overall improvement (average cost).
  6. People participating in CI.
  7. Safety (Safety cross showing lost time, accidents, near-misses, etc.).
Cell and process measurements are reported frequently - of ten hourly - by the people working in the cell or the process. The measurements are used to control the process and identify defects. When defects are identified they are "fixed in the short term to serve the customers today and solved over the longer term so that they never occur again.

Its include :
  1. Day-by-the-Hour production quantities.
  2. First Time Thru without scrap or rework.
  3. WIP to SWIP (work-in-process inventory within the cell or process compared to the standard work-in-process required within the process).
  4. Operational equipment effectiveness - OEE (for machine driven operations and particularly for bottleneck or constraint machines.).
  5. "Just-Do-It" suggestions per person.

B) Financial Reports for Lean Operations :

1) Value Stream Costing :
Cost and profitability reporting is achieved using Value Stream Costing, a simple summary direct costing of the value streams. The value stream costs are typically collected weekly and there is little or no allocation of 'overheads". This provides financial information that can be clearly understood by everybody in the value stream which in turn leads to good decisions, motivation to lean improvement across the entire value stream, and clear accountability for cost and profitability. Weekly reporting also provides excellent control and management of costs because they can be reviewed by the value stream manager while the information is still current.

2) Plain English Financial Statements :
Lean accounting provides financial reports that are readily understandable to anyone in the company. The income statements are in "plain English" and the information is presented in a way that is no more complicated than a household budget. Plain English income statements are easy to use because they do not include misleading and confusing data relating to standard costs and hosts of incomprehensible variance figures. When used in meetings, plain English financial statements change the question from "What does this mean?" to "What should we do?"

3) Box Score Reporting :
Box Scores are used widely within lean accounting. The standard format of the box score shows a 3-dimensional view of value stream performance; operational performance measurements, financial performance, and how the value stream capacity is being used. The capacity information shows how much of the capacity within the value stream is used productively, how much is used to do non productive activities, and how much value stream capacity is available for use. The box score shows the value stream performance on a single sheet of paper and using a simple and accessible format. 

The box score shown on the right shows weekly value stream performance. Other box scores are used for decision-making, for assessing the financial impact of lean improvement, for selecting or prioritizing such issues as capital acquisitions using the 3P approach, and other reporting and decision-making requirements. Companies using lean accounting often have a standard box score format and require that all decisions relating to a value stream be presented using the standard box scores. This leads to operational and financial information being consistent and well understood when it is used.

4) Further Simplifying the Accounting Processes :

a) Transaction Elimination :
Traditional companies use complex, transaction-based information systems like MRP II or Enterprise Resource Systems (ERP) to maintain financial and operational control of their processes. Lean organisations bring their process under good control using lean methods, visual control, low inventories, short lead times and - most importantly - identifying and resolving the root causes of the problems that create the lack of control. Once these root causes have been addressed and the process brought under control, it is no longer necessary to use these complex and wasteful transactional systems, and they can be gradually eliminated.

b) Manufacturing Companies :
In manufacturing companies the transaction-heavy documents tend to be production work orders and inventory tracking on the computer. Over time, as lean methods eliminate the need for these documents in favor of visual management, these documents can be eliminated and the 1,000's of wasteful transaction can be eliminated. One large North American aircraft manufacturer eliminated 3 trillion transactions in one year using this approach. The "ideal" for a manufacturing company is to have only two types of transactions within the production processes, the receipt of raw materials and the shipment of finished product. These two transaction are legally required owing to change of ownership. Everything else within the production process can be addressed better, quicker, easier, and less wastefully using visual, lean methods.

c) Other Companies :
Other kinds of service companies like banks, healthcare, insurance and others, have similarly transaction-heavy processes that can be radically simplified through the use of lean methods of control. Almost every company can largely eliminate their purchasing and accounts payable processes together with the wasteful and complicated three-way matching through using lean methods.
Accounting controls have always been important, and it is essential that Lean Accounting enhance these controls, and does not weaken them. It is important to bring the company's auditors into the Lean Accounting process at the earliest stages. A primary tool to ensure that Lean Accounting changes are made prudently is the Transaction Elimination Matrix. Using the transaction elimination matrix we can determine what lean methods must be in place to enable us to eliminate traditional, transaction-based processes without jeopardizing financial (or operational) control. These decisions are made ahead of time and become a part of the overall lean transformation; in some cases driving the lean changes and improvements.

5) Focusing on Customer Value :

a) Target Costing :
Target Costing is the tool for understanding how the company creates value the customer and what must be done to create more value. Target Costing is used when new products are being designed and/or when the value stream team needs to understand the changes required to increase the value for the customers. The outcome of this highly cross-functional and co-operative process is a series of initiatives to create more value for the customer and to bring the product costs into line with the company's need for short and long term financial stability. These improvement initiatives encompass sales and marketing, product design, operations, logistics, and administrative processes within the company.

b) Value-based Pricing :
The first of the five principles of lean thinking is value to the customer. The prices of products and services are set according to the value created for the customers. Lean accounting includes methods for calculating the amount of value created by a company's products and services, and from that knowledge to establish prices. This approach is in stark contrast to many traditional companies that calculate their prices using the cost-plus method. The cost-plus method establishes prices by calculating a fully absorbed product cost and then adding on an acceptable profit margin. This cost-plus methods leads to serious errors in pricing because it creates a false linkage between price and cost. The price of a product is unrelated to the cost of manufacturing and supplying that product. The price of a product or services is entirely determined by the amount of value created by the product in the eyes of the customers. Lean accounting methods enable value-based pricing.