Kaizen Costing - the Forgotten Way

General kaizen costing has two categories. The first deals with direct costs, such materials, direct labor, and equipment maintenance. The second deals with the indirect costs. These costs include interactions with vendors, parts administration, and other costs that relate to the acquisition of externally sourced items.

Add a note here (a) KAIZEN COSTING FOR DIRECT COSTS. Kaizen costing for direct costs aims to remove unnecessary inefficiencies from existing product designs and production processes. As the firm removes these inefficiencies, the overall direct costs of production-- and hence, product costs--decline. In most settings, kaizen costing for direct costs is the responsibility of small groups of individuals who have responsibility for a distinct part of the production process. It creates a continuous pressure on these groups to reduce direct costs by a specified amount in the current period.

Add a note hereThe process of setting direct cost-reduction objectives typically starts with the corporate profit plan. These plans incorporate assumptions about the level of cost- reduction objectives that the firm will achieve each period. The level of cost reduction demanded over time reflects the long-term cost-reduction pressure that the firm faces in the marketplace and top management's belief in the firm's improvement potential. The corporate cost-reduction objective incorporated into the profit plan identifies the level of cost reduction that the entire firm must achieve in the period. The plan typically does not, however, specify how the firm will achieve those savings. The process of establishing detailed cost-reduction objectives begins with identifying and then decomposing the corporate-level objective to the material and labor level. This is accomplished in four steps:

Add a note here Step 1.

Add a note hereIdentify a corporate level objective.

Add a note here Step 2.

Add a note hereDecompose the corporate-level objectives to the divisional and then plant level. A predominately top-down negotiation process between corporate and plant management will identify these plant-level objectives.

Add a note here Step 3.

Add a note hereDecompose the plant-level objectives to the production group level. Typically, a more balanced negotiation process between plant management and group leaders establishes these objectives.

Add a note here Step 4.

Add a note hereDistribute the group-level objectives to the material and labor level.

Add a note here

Add a note here (i) Corporate-Level Cost-Reduction Objective. Management develops the annual plan based on the corporation's long-term and/or medium-term plans, adjusted for current market conditions. The plan identifies the firm's sales and profit objectives for the coming year. These profit objectives reflect assumptions regarding the level of cost reduction that the firm will achieve during the year. Management then quantifies these assumptions into a specific cost-reduction objective for the corporation for the year.

Add a note hereFirms can use two approaches to setting plant-level cost-reduction objectives: the market-driven approach and the engineering-driven approach. In the market-driven approach, the cost-reduction objectives predominantly reflect the price pressures that the firm encounters in the marketplace. In the engineering-driven approach, the firm establishes cost-reduction objectives based on the savings that it can achieve. The most appropriate approach depends on how consistently the firm can remove direct costs from its products. The more consistent its history, the more effective the engineering-driven approach.

Add a note hereThe market-driven approach starts with estimating the cost-reduction pressure that the firm faces in the marketplace and uses that estimate to set a corporatewide cost-reduction objective. Management then decomposes this objective to the plant level as shown in Exhibit 8.2. As denoted in Exhibit 8.2, the primary communication route is top-down, with the bottom-up communication more a reaction to the top-down communication than initiated in its own right. The magnitude of the corporate-level cost-reduction objective reflects the competitive pressure that the firm faces. As the competitive pressure grows, the firm must increase the cost-reduction objective accordingly to maintain its planned profit levels. Typically, the cost-reduction objective reflects long-term anticipated competitive pressures adjusted for current conditions. The corporate planning process, particularly the firm's annual plan, communicates the desired magnitude of the cost-reduction objective.

Add a note here Exhibit 8.2: Period-Specific Kaizen Subtraction Approach: Top-Down Process

Add a note here Image from book

Add a note hereThe engineering-driven approach starts by establishing corporate-wide cost-reduction rates for each major cost element (see Exhibit 8.3). Cost elements include items such as direct material, indirect material, labor, and maintenance. These rates reflect historical experience and provide the basis for computing the plant and corporate-level cost- reduction objective. Management then compares the resulting overall level of cost reduction to the cost-reduction pressure encountered in the market. As Exhibit 8.3 shows, if management decides that the cumulative cost reduction lies below what the market dictates, it will pressure the plant to increase the individual plant-level objectives. These revised objectives begin again at the cost-element level and flow bottom-up. As denoted in Exhibit 8.3, the primary communication route is bottom-up, with the top-down communication more a reaction to the bottom-up communication than initiated in its own right.

Add a note hereThe engineering-driven approach calculates the corporate-level cost-reduction objective using corporatewide or plantwide cost-reduction factors for all of the major cost elements of the firm's production processes. While practice varies, corporate planners identify cost-reduction factors for relatively few cost elements--perhaps 10 to 15. The factors reflect historical achievement levels. For example, if the firm has reduced the costs of a class of direct material by 3 percent a year, the planners will begin at 3 percent to estimate the current factor