How Do You Quantify Process Waste (Muda)

Just the other week, I had the privilege of visiting with three or four companies that were doing lean process improvement. In every visit, each company invited me into their “war room” where they took great pride in showing me their process and value-stream maps and the other trappings of their continuous improvement efforts.

What struck me, was that despite the general excellence and detail of their value-stream maps, populated as they were with copious amounts of technical process data, there was something vital missing: the process waste or muda expressed in real dollar terms.

For example, a company would typically identify its setup or changeover times on its value-stream map. Usually, this would be expressed in units of time—the hours and minutes incurred per setup. The company would then undertake setup reduction efforts designed to reduce the setup time and achieve faster flows, smaller lot sizes, and more flexible production.

However, what companies often really want to know is: What is the financial impact and benefit that would result from reducing this setup time? Equally important, they may want to know how much each setup is costing to perform using the current setup method. Because setup is an activity, it should be possible to trace relevant costs incurred by the resource consumption required to perform the activity. This insight offers a possible solution path for gaining financial visibility into that activity's costs.

If I have one criticism of the lean movement today, it’s this: Too many companies doing lean, or process improvement in general, cannot predict or show the financial effect of the changes they have made. They can show improvement in the technical dimensions of cycle times, setup times, and the like, but the expression and visibility of these improvements in real and precise financial terms is often missing.

In any company, revenue is generated and costs incurred through the performance of activities. Whether those activities are involved with selling, manufacturing, servicing, etc. is immaterial—the fact remains that an activity is the fundamental productive unit of an enterprise because resources are being consumed to carry out needed business processes.

Activities consume costs, not products. Activities are the discrete operations and tasks that make up processes. They are the necessary work operations that result in products and other process outputs. Given this, it should be possible to conduct an activity-based analysis of value-stream processes that shows how costs are being incurred.

Such an analysis has the objective of tracing costs to specific activities in the value stream. In addition, by identifying the cost drivers at the activity level, it is possible to determine how costs are being incurred. Under this approach, it is then possible to express process activities in both technical and financial terms and, most important, to know what financial benefit will result when a specific activity is improved or eliminated.

As an example, consider a receiving process for incoming material. Analysis of this process to identify the outputs might reveal that these outputs consist of completed receiving forms, receiving inspection forms, move tickets, and the like. From these outputs, we can then analyze the activities that are performed to produce them. These activities can be broken down into their duration and frequency per period of time, and the activities themselves can be classified as value added or nonvalue-added. Finally, we can calculate a capacity-cost rate for this receiving process by determining the relevant costs incurred to supply the capacity in this process for a given period time. From all of this data, it is then possible to build simple time-based equations that express the costs incurred by each activity.

While there are many approaches to implementing activity analyses, a method that I have found to work well, and which is synergistic with lean, is made up of the following key steps:

1. First, the value stream is identified. If it is a mixed-model environment, where a mix of different products is flowing, a product-quantity analysis is performed to identify the main product families, their process flows, and their demand attributes.

2. Next, a product family is selected and its value stream is mapped. All key processes are mapped and the map is populated with the usual lean data, including demand rates, takt time, process-cycle times, setup times, defect rates, and inventory data. An additional piece of analysis I usually perform at this point is to identify all the process outputs—what is being produced by the process—which may include outputs other than just the product.

3. Once the value-stream map is completed, an activity analysis for each process is performed. This involves identifying all relevant process costs to establish a capacity-cost rate (the cost incurred to supply the process capacity per unit of time), and includes an activity tear down of the process to identify and quantify the key activities which are performed to produce the process outputs. Costs are then traced to specific activities using the process capacity-cost rate as an enabler.

4. From the process activity analysis, a fully-costed activity model of the process is built out that shows the dollar value of the nonvalue-adding activities. Unused capacity is also identified and dollarized. A “Muda Dollars Index” for each process is also developed, showing how lean the process is in dollar terms and highlighting the potential for cost reduction.

5. From the activity analysis model, the opportunities for improvement are identified, prioritized, and planned. Typically, the nonvalue-adding activities are ranked in terms of their cost contribution, from highest to lowest. The nonvalue-adding activities with the highest cost burden or contribution are then selected for kaizen, assigned to a process improvement project team, and moved through successive plan-do-check-act cycles. At the conclusion of each cycle, the process is remeasured and the financial savings predicted by the activity analysis are verified.

Activity analyses are extremely useful for highlighting the financial costs of excess process capacity, or conversely, process bottlenecks or cases where there is insufficient capacity. In cases of excess capacity, the cost of the supplied, but unused, capacity is highlighted. This shows management where costs are being incurred to supply a capacity that is being underutilized and thus not contributing to profit. In those cases where insufficient capacity exists, an activity analysis can show how much process costs will increase as decisions are made to supply extra capacity.

With today’s current interest in lean, it is worthwhile to note that a process can be made too lean. That is, a process may be made “anorexic” where it lacks responsiveness and flexibility. Activity-based analysis holds to the same tenet—that it is impossible to reduce all process costs to zero, since theoretically one would be removing all capacity from the process. The objective, as with lean, is to remove all the costs associated with nonvalue-added work and reduce the process, as near as possible, to pure value added.

A financial activity analysis is a powerful adjunct to the technical analysis of lean. It answers the oft-asked question: How much are we saving if we make changes? This is a key question that is difficult to answer without the financial information it reveals. The financial activity analysis also provides power and punch to the lean effort by targeting improvement efforts where they will have the greatest cost benefit.

While cost reduction is important, especially in today’s economic climate, it’s not the whole story. The fact remains that cost reduction, no matter how effectively it’s done, always has a lower limit and threshold. Companies must figure out how they will create, secure, and maintain healthy revenue streams to be sustainable. That, however, is a topic for a future column.

About The Author

Stewart Anderson

Stewart Anderson is a partner with Kaizen Solutions Inc., a Toronto-based consulting and advisory firm in the areas of continuous improvement and business strategy. His expertise covers a range of areas including corporate strategy, process improvement, and lean thinking. He has advised companies in the manufacturing, service, and contract manufacturing industries. Anderson is a certified trainer in lean manufacturing principles and techniques and is currently pursuing a bachelor of arts in economics. Contact Anderson at (905) 436–1643, or via e-mail at stewart@kaizenimprovement.ca.

Twitter: @AndersonStewart

Blog: stewartanderson.wordpress.com