This week we tackle Chapter 6 of Tame your Work Flow, Throughput accounting ties a number of threads together for me. The big one is the linkage between getting value from process improvement and the mental models created by cost accounting.
Having lived through more than a few economic downturns in my career, the author’s comments that cost accounting has a reductionist perspective (reduce expenses at the expense of growth) at the beginning of this section resonates with my observations. The knee jerk reaction in nearly every crisis is to reduce cost rather than increase revenue (the former is always easier albeit more painful and detrimental in the long run). I am not suggesting being frivolous with the accounts, but rather a focused approach. The idea of focus is at the heart of Section 3, Chapter 6, Introduction to Throughput Accounting and Culture.
Throughput accounting uses a systems thinking approach that evaluates the time from order to cash cycle using money as the basis of measurement. Everything from getting an order to collecting the cash is fair game to evaluate in order to find the constraint. Without using the words, the authors make a strong case for value stream mapping. As we have discussed, changes anywhere except at the constraint will not improve throughout, and therefore are an exercise in futility.
The authors use three basic measures to evaluate a change in throughput accounting
- Financial Throughput (FT), which is revenue minus totally variable expenses.
- Investments, which is the cost of the tools, buildings, networks, and the like.
- Operating expense includes everything else, including most labor.
The hardest part for me in this chapter is the need to decouple the cost accounting mental model I have been trained (and retrained) on as a manager and business owner. For example, the concept of totally variable expenses is difficult. The authors use a very black and white definition. Totally variable expenses will have a perfect correlation coefficient (1) with revenue. In many cases labor is not a total variable expense, therefore, it is an operating expense. Note: the increased use of zero-hour contracts in some parts of the world even in knowledge work makes this less black and white than in the standard corporate model (a mental model).
The authors suggest that when making decisions the process should approach this measurement structure in order. The impact on FT should be the highest priority, which boils down to, does it increase revenue? This is fundamentally at odds with every organization that starts with reducing investments or cutting costs without regard to the constraint. As discussed in Stop Talking About Values and Start Talking About Behaviors, culture and behavior are inextricably linked; what you do is a window into how you think. Refocusing on throughput accounting requires a change in culture.
As discussed in the last chapter, the constraint (and there is always a constraint) controls the throughput of any system. One of the classic metaphors used to illustrate this concept is traffic patterns. In my community, we are currently having a rash of hit and run accidents. FYI – cars, alcohol, and bicyclists are a bad mix, which is exacerbated if the system is imperfect. Nearly all of the major streets have bike lanes. Great? The problem is the bike lanes disappear at intersections when more street is needed for turn lanes (this is called squeezing). This is a bottleneck (and the constraint) where the majority of accidents happen. If we agree on the constant then investing in a fix can be agreed upon easily. In this case, not squeezing the bike lanes (to zero) would be the best investment because it reduces the constraint. This is at odds with the first solution everyone could agree upon BEFORE the constraint was identified, which was more policing and vigilance. The root cause would not have been addressed and would have spent the money needed to attack the constraint.
Using financial throughput (one of the types of flow identified in Chapter 1) feels like it attacks a core mental model of most leaders. Rather than replacing the model of cost accounting, both are needed (financial reporting is based on cost accounting models). As coaches, we need to help leaders understand both sets of models but guide them toward using financial throughput to make operational decisions.
Remember to buy a copy of Tame your Work Flow to support the authors and blog!
Week 1: Logistics and Front Matter – https://bit.ly/2LWJ3EY
Week 2: Prologue (The Story of Herbie) – https://bit.ly/3h4zmTi
Week 3: Explicit Mental Models – https://bit.ly/2UJUZyN
Week 4: Flow Efficiency, Little’s Law and Economic Impact – https://bit.ly/2VrIhoL
Week 5: Flawed Mental Models – https://bit.ly/3eqj70m
Week 6: Where To Focus Improvement Efforts – https://bit.ly/2DTvOUN
