One of the problems that many manufacturing companies face in deploying lean in their operation is the conflict with how to account for inventory. In lean, we learn that inventory is waste and the root of all evil. It is something we need to eliminate. The standard-cost absorption accounting method, however, takes the opposite view: it rewards those who build inventory, allowing them to defer a portion of their production costs to a later period.
Going further, you will find that absorption accounting also changes behavior by making shop-floor managers more interested in hitting their absorption goals for the month than in making what the customers want. In most shops, managers know exactly the products which represent the most absorption hours, and, come to the end of the month, if they are behind on aborption hours, production will switch over to those high-absorption products, so that monthly profit and loss (P&L) statement look good. This populates inventory racks with goods customers don’t need or want.
In addition, standard cost accounting is not very accurate. The problem is standard cost accounting contains too many assumptions and allocations based on those assumptions that are easily disproved by a simple reality check.
Leaders looking at a company through the lens of a standard cost P&L statement cannot see detailed information about productivity and inventory levels, all of which have a huge impact on current and future competitiveness. The management team has been blinded to the company’s real issues. Unfortunately, their response is likely to be some form of cost-cutting, which generally makes things worse.
Moving to a lean accounting model eliminates the barriers of the traditional standard cost system and helps the entire organization to clearly see what is happening. Lean accounting is less costly and more accurate than standard cost accounting. Better information facilitates better decision making. A simplified and refocused accounting system also encourages the transition to lean.