Can Financial Service businesses emulate Lean Manufacturing to earn more profit?

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1 Can Financial Service businesses emulate Lean Manufacturing to earn more profit? Financial service businesses have cut costs dramatically over the past few years. However, meeting profit expectations is still a challenge. For some businesses, meeting profit expectations at current, lower levels of business is proving to be a major headache. In other cases, business and revenue levels appear to be improving, but management fear that costs are going to ramp up to cope and thus expectations for profit growth will still be difficult to achieve. What can we do to manage costs better? One approach is to follow the lead provided by manufacturing. Manufacturing has been facing relentless cost pressure for decades. They ve faced outsourcing, offshoring, product obsolescence, currency moves etc. but many businesses remain profitable, even in the UK. Manufacturing has not maintained profitability by sporadic, half-hearted cost reduction projects or periodic bouts of headcount slashing. They have developed a mindset, methods and tools to identify and eliminate waste in all its forms at every opportunity. And they have used approaches that involve their people and that bring them along with the changes. It is not about cost reduction penny-pinching, cutting investment, taking out people it is about finding better ways to get work done. It is about freeing-up resources because you no longer need to use them. Resources that can be used to increase capacity to support business growth or to enable costs to be cut if that is what has to be done. The mindset, methods and tools that manufacturing have developed to eliminate waste and thereby free-up resources are primarily : Obtaining a clear understanding of what adds value to the customer Focusing on process flow and what causes time delays Analysing activities to identify the extent to which each contributes to customer value and then eliminating those activities that do not add value, i.e. eliminating waste Identifying and eliminating the root-cause of errors that impact the value adding activities Emphasising standardisation to achieve reliability in delivering quality Quantifying and eliminating the cost of complexity Many Quick Wins are available in Lean manufacturing projects by implementing changes to eliminate non value-adding work. The change management approach for Lean Manufacturing is tailored to fit the culture of each business. It also incorporates procedures to help the managers and staff define the problem and the solution, to support them during the change and to provide them with the skills necessary monitor and improve performance thereafter.

2 In our experience this manufacturing approach is effective in financial service processes in both the front and back office because mostly they are characterised by : Causes of waste in processes Slow Non value add Over-engineered Work in progess Hand-offs Being slow - the value add to lead-time ratio (that is the time spent adding value for a customer relative to the time from start to finish) is often less than 10% Having many non-value-adding steps - most of the steps in financial service processes do not add value (in some cases in excess of 80%) Being over-engineered - many of the risk and compliance activities are in excess of what is required Having excessive work in progress - many transactions spend most of their time in queues waiting processing, approval, further information etc. Having too many hand-offs - hand-offs from one person or department to another introduce time delays and error. And the manufacturing approach can be successfully tailored to engage the different types of people that work in financial services. Financial Services companies have a head start on Manufacturing because their managers and staff are, as a broad generalisation, more people orientated, more individualistic and have more freedom in the workplace to act and make decisions. Toyota the role model for Lean Manufacturing The Toyota Production System which is the role model for Lean Manufacturing came into being after World War II. It was created by Taiichi Ohno who defined seven forms of waste or muda that need to be eliminated from processes. The ways and means of doing so have evolved over the years and they continue to evolve as new perspectives on waste emerge. In the 2002 annual report to shareholders, Fujio Cho, President, Toyota Motor Corporation, stated that for Toyota, its continuous cost-reducing activities are indispensable to succeed against keen global competition. His report

3 went on to describe the current initiative - the Global Body Line system. This flexible system for body welding has the versatility to cope with large or small production volumes. Its introduction has reduced the cost of model changes, shortened the set-up period required for new lines, and enhanced energy savings. It also enables us to exchange real-time information and start up production of new models concurrently at our production bases in Japan and overseas. All of these are modern versions of the seven forms of waste defined by Ohno. Cho then emphasises the point that Toyota continues to seek to identify and eliminate new forms of waste. Building on these successes, Toyota will continue to work toward groundbreaking improvements in the efficiency of its production processes, focusing on both cost reduction and quality improvement. There is now a large body of tools, methods and organisation designs that can be usefully deployed into financial services to identify and eliminate waste. The mindset, methods and tools of Lean Manufacturing The mindset of Lean Manufacturing is clearly demonstrated by Cho s statement above about continuous cost-reducing activities. Manufacturing has been involved in decades of improvement activity Total Quality Management and Six Sigma being two of the better known quality initiatives that have crossed into Financial Services. Lean Manufacturing with its focus on speed and efficiency (using fewer resources, less capital, etc.) and being involved with matters such as set-up time, work in progress, batch processing does not appear, on the face of it, to have that much relevance to Financial Services. But its focus on speed goes right to the heart of Financial Services where Time is Money because such a large proportion of cost goes on salaries and related benefits. Anything that helps us spend less time on what we do has got to add considerable value. Our experience is that quality tools are, in most instances, only really effective when they are used as optimisation tools to take you from 90% to 95% or better (six sigma targets 3.4 errors in a million occurrences). However, the problem in financial services is that many processes are nowhere near 90% as efficient as they could be, and many are probably below 50%. So the real question is how to get a broken process up to 90% or better?

4 95% 90% Increasing process efficiency 50% Core process Lean Manufacturing Six Sigma In our experience this is the role of Lean Manufacturing. To deliver its value, the application of Lean Manufacturing to Financial Services focuses on: 1. Value to the customer 2. Process flow and time delays 3. Waste 4. Root-cause of errors 5. Standardisation 6. Complexity 7. People side of change Each of theses items is discussed below. 1. Value to the customer Lean manufacturing seeks to obtain a clear understanding of what adds value to the customer. Although not one of Ohno s original wastes, we agree with those authors who identify not producing what the customer wants as a type of waste (1). The battlefield in Financial Services is the customer experience at the point of sale and in the journey through the processes. The aim is to increase brand equity by increasing customer loyalty or the share of the customers wallet. One needs to understand what the customer wants at each point of contact. For example, a financially sophisticated customer is looking for slick and fast services the number of rings, the number of clicks versus a less astute or less experienced customer who is looking more for hand-

5 holding through the process. Similarly, in a standard query the customer wants it sorted with no problems versus a personal injury claim where customer wants empathy. Lean Manufacturing s Value Stream Mapping is easily adapted to identify what customer value means at each step in the process. Lean Manufacturing enables one to keep one s promises to the customer but be mindful of the costs. 2. Process flow and time delays Lean Manufacturing s Value Stream Mapping approach focuses on the flow of products through processes and what causes time delays. One of the key measures compares how long something is worked on relative to the total time it is in process. For example, how long is a credit card application worked on in the total time from receiving the application from the customer to sending the card to the customer? In many cases the worked time is in minutes whilst the total time covers many days, if not weeks. Reducing the total time is critical not only to get the customer to use the product sooner (or at all) but also because cost inexorably attaches itself to time. The longer a transaction is in process the more times it will be handled, the more chance it will go missing and the more likely that the processing will not be finished in one sitting and someone will have to re-start the processing somewhere in the middle. Lean Manufacturing enables one to service customers faster and cut costs. 3. Waste The kernel of Lean Manufacturing is all about eliminating waste. As mentioned above, at least 8 types of waste have been defined in the methodology. However the essence of waste is to ask If a customer was observing you knowing that he or she was paying for what you are doing, would the customer be happy? If the answer is no then one goes through an exercise to determine how one can eliminate that step or at least minimise its cost. It is key to have staff who are doing the work involved these evaluations to ensure buy-in. In our experience, staff are more stringent than management or consultants in the assessment of what adds value to the customer. In addition, they are vitally interested in ensuring that wherever the process is changed it follows the elimination of the root cause of the work so that the change really does eliminate the work. In our experience around 80% of the steps in most Financial Service processes add no value to the customer as illustrated below. Considerably more mileage can be made from attacking waste than from fine-tuning the value adding work.

6 Once the non value adding work has been eliminated one can focus on the relatively small number of value-adding steps. These steps can then be redesigned to achieve a competitive breakthrough. Lean Manufacturing enables one to decimate waste and thereby cut costs dramatically without negatively impacting customers and, hopefully, even to improve customer service. 4. Root-cause of errors Fixing errors is an obvious source of waste. In trying to eliminate errors it is important to ensure that they are eliminated at the root of the cause to ensure that they are no longer part of anyone s work. There are a number of tools and methods to identify and analyse error including many that were originally part of the Six Sigma toolset. It is critical to use these tools because errors and their sources are often not that obvious even to skilled professionals such as accountants. One needs to be careful when fixing broken processes that one does not focus too much on eliminating error. Repeatedly attacking errors delivers diminishing returns because sooner or later eliminating error involves systems changes and the costs of this may be out of proportion to the benefits. One is obviously not tolerant of errors that impact the customer, but many errors in Financial Services originate in fellow suppliers. One needs to be pragmatic. Bigger savings can often be made by making the error handling routines more efficient. After the step-change benefits from implementing Lean Manufacturing have been realised one can return to fixing the source of errors as part of continuous improvement. Lean Manufacturing enables one to attack error at the root-cause and thereby cut costs by cutting rework. 5. Standardisation Standardisation is used to achieve reliability in delivering quality. If each member of staff handles each product and each customer differently each time, quality customer service becomes a matter of chance. But, in many models of customer service, reliability is one of the key components of a quality service(2). Decades after the introduction of the Toyota Production System, Toyota still has initiatives to standardise as evidenced in the quotation above regarding the Global Body Line system which is seeking to put all vehicle models onto one body welding process. This clearly illustrates that what is viewed as essential differentiation at one time can be viewed as an area for standardisation at another time. The introduction of standardisation in Financial Services may be resisted by staff who view it as a reduction in their independence and ability to add value to the customer. This does not have to be the case it depends on the motives behind the change. For example, we have seen workflow introduced to de-skill work but we have also helped implement workflow that has enabled staff to tackle more skilled work by providing more support. In this latter

7 case, staff appreciated that standardisation was aimed at making routine the routine parts of the process, whilst freeing them to focus on the value-adding parts of the process. Lean Manufacturing enables one to deliver reliable customer service by reducing needless variability. 6. Complexity Business has a balancing act to perform it faces market forces that drive it to increase complexity by introducing new products and broadening the range and it faces cost pressures, which seek to move in the opposite direction. Getting out of balance on either side reduces competitiveness. There are several indicators that the complexity is at work: Costs are increasing faster than business volumes. Indicators of complexity such as the number of products, the number of customers or the number of processes are increasing There is a lack of standardisation. Almost everything is handled a different way. Whilst there may be a number of processes where things should be done differently, depending on who the customer is or what the product is, the level of customisation is excessive Customers are complaining that the company is hard to do business with there are too many options Repeated errors and delays seem to be impossible to pin down there just does not seem to be a root-cause that anyone can find There are a number of approaches to attacking complexity from last minute customisation for value adding differentiation, standardisation and, ultimately, eliminating products or customers if their profitability does not compensate for the complexity that they drive. Lean Manufacturing enables one to simplify the business and to cut the costs of complexity. 7. People side of change As in all change programmes it is important to engage the staff involved. Lean Manufacturing is very different to Business Process Re-engineering. Toyota did not succeed because it used BPR approaches and methods. Lean Manufacturing actively involves the line staff in developing the new processes; it actively recognises and addresses the concerns of the staff. BPR often failed because it was genius-led and did not engage the hearts and minds of the staff doing the work. Whilst Lean Manufacturing has a number of tools and methods that require a reasonable level of numeracy, these can be kept in the background. There are many tools and methods which use observation or data gathering and the application of simple rules for analysis in which staff are the key participants. And to the extent that there are people who are impacted but not active participants in the change programme, communication is, as always, the key.

8 Lean Manufacturing has a lot of hard manufacturing terminology. One of the first things that may need to be done is to select terminology that fits the culture of the business and does not alienate Financial Service staff. For example, the term non value-adding may be too threatening when applied to someone s work you may prefer non-performing, being reminiscent of loans, or, as was suggested to us in Singapore, not-right-first-time. You may also want to build on current initiatives, which have taken hold and add Lean Manufacturing mindsets, methods and tools. At one Life Company, a customer service improvement initiative has been running successfully over several years. This program was well branded and widely known throughout the company. It made good sense to introduce process improvement as the next phase. Lean Manufacturing enables one to bring staff along with the change and make the new process stick. Why Lean Manufacturing Adds Value to Financial Services In the previous section we reviewed, at a high level, how Lean Manufacturing is used and can be used in Financial Services to deliver substantial change. We identified that Lean Manufacturing enables one to : keep one s promises to the customer but be mindful of the costs service customers faster and cut costs decimate waste and thereby cut costs dramatically without negatively impacting customers and, hopefully, even to improve customer service attack error at the root-cause and thereby cut costs by cutting rework deliver reliable customer service by reducing needless variability simplify the business and to cut the costs of complexity bring staff along with the change and make the new process stick. In this section we review the characteristics of Financial Service processes that indicate they will benefit significantly from using Lean Manufacturing methods. Slow processes The key indicator that processes are inefficient is when they take a lot longer that they ought to when one considers what is actually done. When one adds up the time taken for the individual steps that a transaction goes through (the value add time) one might arrive at a processing time of minutes or hours. However when one looks at the total time from when the customer initiates a transaction to when the service is delivered for the customer (the lead time) it is likely to be days or weeks. Why does it take so long? Lean Manufacturing sets out to cut this lead time dramatically. In JSK s experience the value add to lead time ratio in Financial Services is generally below 10%. We helped one of our clients cut the

9 lead-time for claims processing where everything was taking weeks. About 25 percent of claims were settled in minutes, the bulk of the rest settled in days, and only a small proportion taking weeks and then with good cause as evidence to accept or repudiate the claim was gathered. These dramatic changes were achieved within three months. Non-value-adding steps Taking a long time to respond to customers is one thing, but then when one looks at the work that is actually done one asks why do they do that?. Very few processes are performed the way they were designed. Entropy is the scientific word for it. Over a period of time steps are added to cope with changes in the way business is done or even because the way the process was originally designed did not cater for all circumstances. In JSK s experience around 80 percent of the steps in Financial Service processes are waste; they add no value. However, for the most part one can t just stop doing them because they are necessary at the moment. One of the most prevalent justifications for staff rejecting new processes is that they know that existing problems will recur and that they will be in trouble because there are no steps in the new process to handle them. A clear action plan is required to eliminate the reason for why these steps are done. Over-engineered Many processes have an excessive level of control in response to perceived regulatory or risk requirements. In JSK s experience 90 percent of controls have some aspect that is waste in that it does not help achieve what the control should be trying to achieve. Useless controls are characterised by flawed logic or bad timing. Often controls rely on the experience of a supervisor to recognise error when one actually needs a clear definition of the error one is seeking to trap and guidance on how to identify whether or not it is an error. In addition, there are the controls that are no longer relevant because the regulations have changed and someone just added a new control for the new regulations. And in some cases the control is just simply too rigorous for what is required. It is certainly not in the best interest of compliance and risk officers to minimise controls. You only have to go through the experience of a know your customer interrogation designed for new business when all you want to do is change your address to know that controls have got out of control. A clear understanding of the end-to-end process and the compliance requirements and transaction risks is required to achieve effective but affordable control. Excessive work in progress Lean Manufacturing attacks work in progress as a primary driver of cost (3). In Financial Services

10 work in progress is characterised by incomplete transactions (and often they are awaiting approvals, review or rework which are non value adding to start with) or work that has been allocated but not yet started (someone else may be underutilised and could do that work). Work in progress can hide in in-trays, in cupboards and in workflow systems. Often there is little if any knowledge how many transactions are in progress and why there is a delay. In JSK s experience in excess of 50 percent of processes, and almost all the high volume processes, have work in progress. Many companies monitor the level of transactions in progress and view some level of work in progress as being acceptable. Very few determinedly reduce work in progress on a continuous basis as a matter of policy. When work in progress exceeds the target level companies add capacity. This would appear to be a rational response. But before adding capacity in the form of additional staff or new technology one should attack work in progress as this often just as effective and costs little. Too many hand-offs Hand-offs occur when a transaction is transferred from one person or department to another for further work. Hand-offs arise because of the specialisation of work between departments and also because it is often viewed as good practice from an internal control point of view. Hand-offs always involve some transfer of knowledge about what has happened so far. If the knowledge transfer is not perfect, error is introduced. And the hand-off introduces time delay and puts the transaction into work in progress. All in all, very good reasons to avoid hand-offs. Yet JSK s experience is that well in excess of 90% of processes have excessive hand-offs. One of the most powerful Lean Manufacturing concepts that one can introduce into financial services is the concept of cellular manufacturing. This organisational method replaces the movement of transactions from department to department with a process whereby the transaction is dealt with from start to finish within one team. The team has all the technology and skills to complete the transaction. The behavioural, productivity and customer service changes that this method introduces are dramatic because it eliminates most hand-offs and almost all the negative consequences of the hand-offs that remain. In Conclusion The author has been involved in applying Lean Manufacturing mindsets and methods in a variety of Financial Service companies in areas as diverse as the banking hall, new business, customer service, claims, and the Finance function as indicated in the figure below.

11 The results have been impressive a real step-change improvement in lead-times and the resources used for processing. If you want to achieve dramatic change in your organisation s processes please contact the author s consulting company, JSK Solutions. JSK is expert in applying lean manufacturing methods in Financial Services to deliver competitive advantage to its clients. In JSK we work with clients and their staff to control costs, increase capacity and improve customer experience. We improve key performance measures by at least twenty percent and we stand by our promises. Bibliography (1) Womack and Jones, Lean Thinking (London: Simon & Schuster, 1998) (2) For example, Parasuraman, Zeithaml and Berry SERVQUAL: A Multiple-Item Scale for Measuring Consumer Perceptions of Service Quality, Journal of Retailing, Spring 1988, pp (3) George, Lean Six Sigma for Service (New York: McGraw-Hill, 2003)