Lean Cost Management at MarquipWardUnited: Lessons Learned & Corporate Insight: Part I Jerry Solomon Vice President of Operations MarquipWardUnited - Hunt Valley Bill Stabler Group Vice President, Finance Barry-Wehmiller, Inc. Rosemary Fullerton Associate Professor of Accounting -- Utah State University Agenda Part I Company background Reasons for changing the accounting system Organizational prerequisites Accounting transformation at MWU Hunt Valley Steps required to make the change Detailed accounting system changes Machine Shop Revisions to process Part II Accounting changes to Assembly Plain English Profit-and- Loss Statements Corporate considerations Auditor concerns Challenges and benefits Summary 1 1
Company Background LA Summit 2011 Solomon,Fullerton,Stabler 2 5,400+ Associates Worldwide Presence 42 Facilities with approx. 3.5 Million Square Feet of Manufacturing & Assembly Space More than 700 Engineers and Consultants Barry-Wehmiller Company was founded in 1885. With a rich history of strategic acquisitions, organic growth initiatives and diverse product offerings, Barry-Wehmiller Companies, Inc. has emerged as a worldwide industry leader through a process of Achieving Principled Results on Purpose. 3 2
Barry-Wehmiller Revenue Growth Annual growth has exceeded 20 percent for more than 20 years, strengthening our position as a great American company serving U.S. and global markets. $1,200 $1,000 $ Millions $800 $600 $400 $200 $0 FY '87 FY '88 FY '89 FY '90 FY '91 FY '92 FY '93 FY '94 FY '95 FY '96 FY '97 FY '98 FY '99 FY '00 FY '01 FY '02 FY '03 FY '04 FY '05 FY '06 FY '07 FY '08 FY '09 FY '10 FY '11 Fiscal Year 4 Corrugated, Folding Carton & Fine Paper Pharmaceutical Beverage $36 Balance of Markets $209 Industrial $215 $63 $85 Container Manufacturing $44 $197 $175 Tissue, Nonwovens & Film Converting $17 $36 Other Household & Personal Care Food Snack Food Barry-Wehmiller has grown from providing equipment for the beverage industry to being a diversified supplier of technology and services across a broad spectrum of industries. 3
MarquipWardUnited $250M+ division of Barry-Wehmiller Designs, manufactures, & sells custom box making equipment for the corrugated industry Low volume, high cost job shop environment Machine characteristics: Sale price in excess of $1million Total parts from 10,000 to 15,000 Throughput time is two to three months Network of approximately 450 suppliers Four value streams: new machines, parts, field service and upgrades 6 Solomon,Fullerton,Stabler LA Summit 2010 7 4
Solomon,Fullerton,Stabler LA Summit 2010 8 Solomon,Fullerton,Stabler LA Summit 2010 9 5
Video of Machine 10 New Product 6
Typical Plant Cost Structure Decades Ago Today Overhead 10 20% Labor 60 70% Overhead 25% Labor 15% Material 20-30% Material 60% 12 Typical Plant Cost Structure Decades Ago Today Overhead 10 20% Labor 60 70% Overhead 25% Labor 15% Material 20-30% Material 60% Where do we focus our improvement efforts? 13 7
Typical Plant Cost Structure Decades Ago Today Overhead 10 20% Labor 60 70% Overhead 25% Labor 15% But how much is really direct labor? Material 20-30% Material 60% 14 Why Not Standard Costing? Incentive is to produce labor hours, not product No linkage between labor hrs & customer demand Credit received for anything produced Labor cost no longer primary cost driver Very confusing, time consuming, & inaccurate Variances difficult to manage 15 8
Why Not Standard Costing? Examples from MWU sister plant In 6-month period: $1.5 M in aggregate standard cost variances for over 15,000 individual variance transactions. No one variance greater than $30,000! Annually, 252,00 individual direct labor records with 120 different shop rates. Over 100,000 mfg work orders closed out. 16 Why Accounting for Lean? "It was not enough to chase out the cost accountants from the plants. The problem was to chase cost accounting from my people's minds" Taiichi Ohno, founding father of the Toyota Production System 17 9
Accounting Transformation at MarquipWardUnited Baltimore Solomon,Fullerton,Stabler LA Summit 2011 18 Production Flow Vendors Stores Raw Materials Purchased Parts Machined Parts Purchased Parts & Machined Parts Machine Shop Assembly Machined Parts Solomon,Fullerton,Stabler LA Summit 2011 19 10
Pre - Lean System at MWU Standard costs Report inventory and cost of goods sold at preset standards for material, direct labor, and overhead Activity and price variances recorded monthly Twelve different variances reported Budgeted numerous variances Acknowledged inaccuracy of standard rates Solomon,Fullerton,Stabler LA Summit 2011 20 Standard Rates Pre - Lean Material standards Constant for year Most recent year-end prices for each item Direct labor standards Processing times reported for all machining operations Hourly rates for each part per processing times Overhead rates Rates several years old Allocated per relationships to direct labor Include all indirect product costs Solomon,Fullerton,Stabler LA Summit 2011 21 11
Reasons for Accounting Changes at MWU Inaccurate and outdated overhead standards contribute to poor make/buy and product development decisions A tremendous amount of time devoted to account for and review variances with little benefit Month-end close activity is stressful and consumed by work order close-outs and variance analysis Only unfavorable variances typically reviewed LA Summit 2011 Solomon,Fullerton,Stabler 22 Accounting for Lean Traditional concepts of standard costing, labor reporting, and variances replaced with performance metrics Inventory valuation simplified material only at detail level, other costs in pools Metrics maintained by employees at the work cell and form basis for continuous improvement Solomon,Fullerton,Stabler LA Summit 2011 23 12
Organizational Prerequisites for Accounting for Lean Transformation Significant progress on Lean manufacturing journey Identification of product families/value streams Willingness to reorganize into value streams People/Leadership Equipment Space Identification of monuments and rules for sharing Leadership buy-in Realization and acceptance that financial reporting will change 24 Information Flow Prior to Lean Journey P M P E U A A N R C A C I S G C H S K N A I H I S V L N N E & O E E & E M I S E B S C R P S L H I I L H Y I N N N O P G G G P Information Flow Information Flow Traditional Challenges 1. Work is pushed from silo to silo 2. Optimization occurs functionally 3. Tremendous communication challenges 25 13
MWU Value Streams C U S T O M E R Aftermarket Value Stream - May 2005 Start Date Sales, Engineering, Purchasing & Planning, Assembly, Pack, Ship & Install, Part Time - Accounting, HR and IT Parts Value Stream - Q1-2006 Start Date Sales, Engineering, Purchasing & Planning, Assembly, Pack, Ship & Install, Part Time - Accounting, HR and IT New Equipment Value Stream - 2007 Start Date Sales, Engineering, Purchasing & Planning, Assembly, Pack, Ship & Install, Part Time - Accounting, HR and IT Field Service Value Stream - 2009 Start Date Sales, Ship, Install & Train Part Time - Accounting, HR and IT C U S T O M E R Monuments/Shared Resources Machine shop ( not for long!) Accounting/HR/IT 26 Value Stream Costing Labor Costs Materials Value Stream Fixed Costs of Value Stream Conversion Costs (Consumables & other non BOM items) Solomon,Fullerton,Stabler LA Summit 2011 27 14
Steps in Accounting Transformation 1. Define new costing categories value stream costing 2. Restate historical product costs (spending) and month-end inventory into new categories 3. Establish methodology to track product costs by value stream 4. Segregate product costs and all other costs into Value Streams 5. Identify costs remaining in overall Plant value stream 6. Prepare format for monthly Plain English P&L s 7. Determine valuation scheme for inventory by area machine shop and assembly Solomon,Fullerton,Stabler LA Summit 2011 28 Steps in Accounting Transformation (continued) 8. Decide on changeover date and restate inventory based on new methodology 9. Educate management about changes 10. Discuss changes with corporate 11. Identify how required corporate reporting will be maintained 12. Discuss changes with external auditors 13. Review process for improvement ideas Solomon,Fullerton,Stabler LA Summit 2011 29 15
Accounting System Changes in the Machine Shop 30 Accounting for Lean Machine Shop Initial questions: 1.How to value inventory without detailed tracking 2.How to manage capacity without labor reporting 3.How to determine part costs without standard costing 4.How to record monthly expenses on financial statements 5.How to charge machine shop costs to three other value streams 31 16
Inventory Valuation Pre - Lean Record raw materials on balance sheet at standard Apply direct labor and overhead through work in process Track and record each machining process Continually update perpetual inventory records Send part to Stores with new part number when completed in machine shop 32 Inventory Valuation the Lean way Determine relationships of individual inventory components (materials, labor, & conversion costs) Determine relationships of individual components of spending costs Eliminate tracking of labor & overhead Value labor, conversion, & fixed costs in total Determine ratios for labor, conversion costs, & fixed costs as a % of material costs 33 17
Inventory Valuation the Lean Way Record actual material costs Expense all labor, conversion, & fixed spending costs Determine ending material inventory Determine ending inventory for labor, conversion costs, & fixed costs per cost ratios related to material Adjust ending to/from inventory account on Plain English P&L 34 Restatement of Inventory at Year-End and 1 st Month of New Year Month PackCo Machine Shop Inventory Raw Material Direct Labor Overhead Labor Conversion Fixed Total Inventory December 31, 2006 - Traditional Close $ 765,000 $ 95,000 $ 290,000 $ 1,150,000 January 1, 2007 - Lean Approach $ 765,000 $ - $ - $ 254,513 $ 76,801 $ 53,686 $ 1,150,000 PackCo Machine Shop Inventory Month Raw Material Direct Labor Overhead Labor Conversion Fixed Total Inventory December 31, 2006 - Traditional Close $ 765000 765,000 $ 95,000 $ 290,000 000 $ - $ - $ - $ 1,150,000 150 000 January 1, 2007 - Lean Approach $ 765,000 $ - $ - $ 254,513 $ 76,801 $53,686 $ 1,150,000 January 31, 2007 $ 700,000 $ - $ - $ 236,255 $ 71,292 $ 49,835 $ 1,057,382 35 18
Lean Accounting & Recession 36 Lean Accounting & Recession Effects $ Millions $140.0 $120.0 $100.0 $80.0 $60.0 $40.0 $20.0 $0.0 $89 $89 F08 Q1 F08 Q2 $119 F08 Q3 Annualized Total Qtrly Orders $64 F08 Q4 $62 F09 Q1 $29 F09 Q2 $56 F09 Q3 $88 F09 Q4 $109 F10 Q1 $85 F10 Q2 $94 F10 Q3 $88 F10 Q4 In Jan 2009, volume dropped over 50% Faced with such a dramatic event: Workplace behaviors changed Customary key indicators and ratios needed adjustments Lean accounting system needed reevaluation 37 19
Changes to Lean Accounting In 2007 and 2008, a steady flow of production made inventory valuation easier initial lean accounting method worked well In 2009, flow came to a halt with the economic downturn; Suppliers inability to respond JIT Furloughs fluctuated workforce No layoff policy Associates worried about future & productivity waned Artificial demand pushed through plant to keep people working As a result, our lean approach to inventory valuation method no longer produced consistent, reliable results. Ratios of costs no longer valid! Changes needed!! 38 Lean Accounting Journey Original lean accounting inventory valuation approach: WIP labor & conversion costs determined per ratio of materials The ratio of labor & conversion costs rarely fluctuated Starting in 2009, relationships among materials, labor, & conversion costs became disconnected. Needed new approach: operations provided work order data showing completion stage of WIP in terms of labor hours By applying actual labor & conversion rates to labor hours, in total, month- end inventory more accurately valued than using initial lean method 39 20
Month-End Machine Shop Inventory Valuation Method Today YEAR Year Oct-10 Nov-10 Dec-10 MONTH End FY11OCT FY11NOV FY11DEC Days FY 2010 21 18 22 Actual Actual Actual MACHINE SHOP STD HOURS Beginning Parts In Process (Actual Hours) 2,549 2,173 1,790 + Std Run Labor Hours-Machines 5,582 5,483 6,584 + Std Run Labor Hours-Aftermarket 1,133 976 1,559 + Std Run Labor Hours-Parts 1,761 1,399 1,652 + Total Std Run Labor Hours Reported 8,476 7,858 9,795 Hrs per Day (Check ) 404 437 445 - Total Std Hours Closed to Stock (8,852) (8,241) (9,591) Ending Machine Shop Std Hrs. 2,549 2,173 1,790 1,994 Mach Shop Std Rate Per Hour $ 86.49 $ 86.49 $ 86.49 Total Payroll, Conv. & Fixed $'s in Machine Shop $ 200,000 $ 187,943 $ 154,817 $ 172,461 Net Cost (To)/From Inventory $ 12,057 $ 33,126 $ (17,644) 40 Machine Shop Current State Current State Machine Shop Gear Material Cylinder Material Cross Tie Cylinder Assembly Floor Space Cross Tie Material Gear 21
Machine Shop Future State Future State Machine Shop Cross Tie Material Cylinder Material Cross Tie Cylinder Additional Assembly Floor Space Assembly Floor Space Gear Material Gear Managing Machine Shop Capacity Eliminate direct labor financial reporting Maintain direct labor hours Report physical activity by part Provide more visibility to material flow Track actual material costs 43 22
Determining Part Costs Calculate individual part costs for decision making outside system Separate variable cost file for each part number Determine variable labor and conversion costs Identify significant conversion spending categories: maintenance & tooling Identify machine types: manual & automatic Use to make outsourcing & new product development decisions. 44 Current Outsourcing Process Machine Shop Sourcing Strategy Confirm core necessities and therefore non- core necessities Work both ends of the parts spectrum simultaneously Outsource non-core parts immediately starting from the most obvious Create cells and improve core parts performance 45 23
Current Outsourcing Process Shaft & Cylinder Machined Parts Current State Number of SKU s 137 Estimated current cost - $3,525,000 Number of associates 10 W-2 of 10 associates - $734,000 Est. # of standard hours per annum 12,850 Condition of equipment Various Spending required WC 218 rebuild - $100 - $200K, others TBD 46 Out-Sourcing Option Summary ($000 s) Current State Outsource Option 1 Premium @ Current Volume Premium w/growth Model Total Variable Costs $ 2,980 Fixed Costs 545 Total Standard 3,525 Costs Less Non Cash 230 Fixed Costs Est. Cash Costs $ 3,295 $ 4,615 $ 1,315 $ 1,975 The next two competitive suppliers had cost increases of about 30 50% above option 1 and would only be able to handle a portion of the product line 24
Will we ever really know the cost of an individual part? Problems with system generated std and actual part costs Was the time clocked correctly? Was the machinist working two machines simultaneously? Was this part batched with another similar part this time to reduce the set-up? Were the estimated expenses to arrive at a standard correct? Were the estimated hours to arrive at a standard correct? Was the lot size the same on all batches? Solomon,Fullerton,Stabler LA Summit 2010 48 Tips for the Transition Track material only discretely Shut off all financial reporting of labor & overhead activity by zeroing out appropriate fields in cost system Analyze operations from a materials cost and variable overhead mindset 49 25
Reporting Monthly Expenses All changes in conformity with GAAP Lean closer to actual than standards All non-material spending costs expensed Ending inventories determined using estimation techniques Monthly adjustment made from/to inventory 50 Machine Shop Costs to other Value Streams Machine Shop still monument that serves other value streams Raw material transferred per discrete part value Labor, conversion, & fixed costs flow to three value streams based on total hours delivered, not by discrete part Goal to eliminate machine shop monument & create right-sized machine shops for each value stream 51 26
Questions 52 27