While just about everyone is worked up about manufacturing costs – companies outsourcing to Asia and Mexico for lower costs, other companies launching aggressive cost cutting efforts, politicians urging one government intervention or another concerning energy costs or another pressing concern, and economists and investment analysts lecturing to the world on cost competitiveness and cost structures – it seems more than a little ironic that most senior managers have absolutely no idea what the cost of the product they make is. It would seem to me that getting accurate cost information would be the first order of business before launching into grand strategies to change the costs.

In most manufacturing companies, direct labor amounts to less than 10% of the total cost – more often down around 5% or less. The sheer lunacy of assuming that the cost of making something is this relatively insignificant number plus anywhere from 400-800% to cover everything else should be obvious. Yet that’s the way it’s done almost everywhere.

Consider a very direct analogy:

If you had your car repaired and when it came time to pay the bill, how would you react if they said you owed $100 - $60 for parts, $5 for the labor to install the parts, and $35 for other things? They can’t really explain those “other things”. They are just money that they spent somewhere in the garage on something and they can’t really tell you how spending it had anything to do with fixing your car, or whether that money had to be spent at all. They just know that there was a bunch of money gone somewhere, so they put it on your bill.

If you demanded a better way of calculating the bill, and they responded by saying that it is the way it has always been done, and that the government said it was OK to calculate bills that way, and that other places that calculated repair bills more accurately were different and their methods wouldn’t work in this particular garage, and that there really was no better way, and, finally, that this was probably pretty accurate – just take their word for it - would you accept that?

Of course not, but you accept it from your accounting department every day.

That is the spiel manufacturing management has been getting from cost accounting since 1953. That is when the SEC accepted ARB (Accounting Research Bulletin) 43, which codified most of this.

American manufacturing has been in a global fight for survival for decades, battling to be cost competitive with the rest of the world, armed with absurdly inaccurate data – to the point of being useless – leading to decisions that often create more harm than good. Everything in manufacturing has changed and advanced since the Japanese manufacturing invasion of the 1970’s – except accounting.

Innovation is the buzzword these days. You wouldn’t know it by visiting a manufacturing cost accounting deprtment. Innovation in manufacturing accounting consists largely of adopting spreadsheets in the 1980’s. They are a living example of how technology often does little more than process junk at speeds previously thought to be impossible. Their systems exemplify the old ‘Garbage In - Garbage Out’ axiom.

Managers show up at the starting line of the Indy 500 to do global battle everyday - and accounting hands them the keys to an Edsel. The best thing senior management can do for their lean transformation - in fact for their very survival - is to give the keys to the Edsel back to accounting and tell them to motor on down to the Lean Accounting Summit, and trade it in on a 2006 model.