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How Boeing tracks costs, A to Z.

When Boeing's internal customers clamored for better cost information, the company decided to empower its business units by giving them more responsibility for their own costs.

A few years ago, two of Boeing's internal customers, engineering and operations, told the finance department they weren't getting the cost information they needed to manage airplane design and production. They lacked relevant economic information on which to base their decisions.

When we heard that, we knew we had to do something to remedy the situation. Boeing's cost-accounting system worked for tax and financial accounting and could be used to determine product cost and profitability at an airplane model level. But we realized that at an operating level, we were giving our engineering and operations organizations budgets for only a few cost elements.

Further, the cost information we provided individual managers didn't align with their responsibilities or areas they could control or influence. Engineering and operations couldn't use the cost information they routinely received to perform reliable economic-design trade studies or to make economically sound investment decisions. They had to generate such information almost exclusively by special analysis.

At Boeing, we've committed ourselves to continuously improving our processes so we can stay ahead of the competition and maintain or increase our long-term market share. We are rethinking and reshaping our corporate strategies, the cornerstone of which is "Customer In," a concept that means we continually seek input from our internal and external customers through internal feedback, customer-satisfaction surveys and market research.

With this type of strategy, finance must be a partner in all aspects of a business, from marketing and product design to production and customer support. One of finance's most important jobs is to help create a systematic framework of financial and nonfinancial information and measures that contribute to making the decisions that ensure the enterprise's success.

Therefore, to improve the cost-management process, Boeing finance, operations and engineering decided to team together to study and rethink our managers' real information needs with respect to unit costs. The team spent some time identifying and reviewing "best practices" by studying industry, academia and our own internal practices. We came up with several key concepts aimed at improving the relevancy of our cost-management information.

FRONT-END ALIGNMENT

First, we decided to align our accounting practices to support the way we manage the enterprise. This includes being flexible and responsive enough so that we can change or redirect the system to enhance continuous process improvement, even in the middle of an accounting period.

Also, we realized we had to routinely provide the financial data that management needs to improve our processes and ultimately our products. We agreed that this data, which includes the costs of such items as materials, labor and energy, should represent the sum of all the resources actually used to build the part or assembly and that the area building that part or assembly must assume the responsibility for generating and tracking the data. From these key concepts, along with others like activity-based analysis, Boeing finance has been progressing toward implementing a modified process cost-accounting system.

Using process accounting means significantly changing cost-management practices and cost-assignment techniques. Part of the problem is that our current system was designed when our primary business was producing military aircraft. Our production methods, the makeup of our costs and the information we need about them have changed a lot since then.

Over time, our traditional job-cost system and cost-accounting practices have caused more and more costs that we'd traditionally categorized as overhead to be unloaded onto an ever-smaller direct-labor base. This evolved to the point where between 70 percent to 80 percent of the costs assigned to the final cost objectives of a manufacturing or engineering line organization were allocations from common overhead pools. Building and equipment maintenance, depreciation costs and the costs of industrial-engineering support activities and other support functions were lumped together in general overhead pools.

In today's factory, it's not uncommon to find that depreciation, technology, energy and nondirect labor expenses are often individually more significant than direct-touch or shop labor. The 20 percent to 30 percent of our costs that were mostly direct-touch labor assigned to the final cost objectives were the only cost elements the manufacturing or engineering line organizations had responsibility for and could directly link to the products they make. This meant that any process-improvement or cost-reduction initiative made by the line organization that didn't involve direct-labor savings wasn't directly reflected, or maybe not reflected at all, in the costs allocated to it. In many cases, the line organization couldn't be sure if total company costs would decrease or increase as a result of its actions.

To better manage the other 70 percent to 80 percent of the costs, traditional cost accounting and cost management separately identified significant chunks of the overhead cost and managed them individually. But identifying separate cost elements, such as depreciation, computing and nondirect labor, and trying to budget and control each one separately, didn't show the ways in which these cost elements interacted with one another.

These old accounting practices meant the overhead the manufacturing or engineering line organization did receive was based on the direct-labor dollars it incurred. Because technology-related costs were buried in overhead, this approach tended to move the dollars from areas with higher technology costs into units with the larger direct-labor elements. What we needed were ways to better align more of our costs directly to what we really do -- designing and assembling airplanes and manufacturing parts and assemblies for them.

THAT BILL HAS YOUR NAME ON IT

Aligning costs to operating decisions is an important component of the new management and operating philosophy we're striving to implement. The changes we're going through are substantial. We are moving from a functional enterprise to one organized around product processes, and from a company that allocates its resources by organization to one that aligns them to product processes. And we are replacing part/resource management with product-focused process management.

This new philosophy will allow us to match resources to small, focused product groups. These small business units will then contain one or more product-focused process units. Costs incurred at a broader level in the company will not become the responsibility of the product- or service-producing unit. Rather, these broader-level costs will be the responsibility of the general-purpose processes, such as the sales and marketing organization or the central tax staff. These groups will be accountable for the costs they are adding to the final product shipped to our customers.

By way of comparison, think about a typical activity-based costing model, which you could use to develop the cost drivers for overhead and manufacturing activities. The overhead drivers include the square footage, the headcount, direct-labor hours and the number of products. Manufacturing's drivers are the unit volume, the number of shifts and the weighted unit volume. With an ABC model, you would use these drivers to link the overhead activities to the manufacturing processes and the manufacturing processes to products.

With process accounting, we trace the overhead costs to product-related manufacturing processes based on the business unit's responsibility for and ability to control and influence the costs that result from operating that process. This is important for several reasons. Under traditional accounting, a business unit can spend less money and thus help the company meet its overall cost-reduction targets. But it's the direct, measurable, cause-and-effect link back to the business unit's products that was missing. Reducing a few direct heads was about the only action the business-unit manager could take to actually see the business unit's costs, or rather the 20 percent to 30 percent of business-unit costs, go down.

Our new process-accounting approach has changed that situation dramatically. Today, the organization can exercise significant influence and control over the costs it incurs. In fact, the basic ground rule for assigning costs is the organization must be able to take some action on that cost element and see a predictable change in the overall costs being charged to it.

The costs the business unit is accountable for and can control now include those for detail and supplier parts, computing, depreciation, support labor and direct labor, and other nonlabor costs. The business manager has a much broader sphere of influence in which to exercise control and make improvements within the business unit.

But tracing this bigger bucket of costs to the business units is only part of the solution. The business units now need some tools with which they can manage their costs. Once they identify the resources they consume, they must analyze them and learn to recognize their process and resource cost drivers and the relationship among them by continually asking why a certain item or process costs what it does. Business units need to understand their cost drivers to increase product quality, cut costs, improve customer-response time and so on. Our business units will use their unit cost targets and ad-hoc analysis techniques for the data they will track internally.

As you can see from the example shown in the box, our basic approach is to compare and weight the individual parts produced in a product process, based on the differences between the parts or part families. We calculate the relative differences in the resources required to produce the different parts. Then we multiply the result -- the product weighting factor for each part or product -- by the expected production quantity for each part. The result is the business unit's expected production expressed in equivalent output units.

IT'S ALL RELATIVE

The normal procedure for determining these factors is to first identify the typical or base part or part family. Often that turns out to be the part that is the simplest. We give the base part a value of 1, 10 or 100, depending on the scale we want to use.

Then we review the other parts we produce, compare their features' relative value to the base part and determine their values. Take airplane skin panels, for example. We might assign a simple panel a value of one. A panel with a window could have a value of five, while a panel with an unusual shape could be a nine, and so on. This method also allows us to calculate the relative value of adding to or modifying various features.

Determining the relative value is probably the most complicated part of the whole process, but it's an essential aspect of process accounting. It's important to understand what's driving our current production costs, as well as the relative value of the parts being produced and the impact of process improvements and future production plans.

Individual business units can now project their costs for expected future levels of production. The product-producing business units will now be able to better understand how they fit into the total company production and cost picture.

With this knowledge, Boeing can relate many aspects of the total business to one another in a manner that allows us to take actions at all levels of the company -- actions with predictable results and a common focus. For example, we can now begin to trace the hidden costs of capacity to individual business units, and this brings up some different, interesting questions. What is the unit's excess capacity? What's the cost of holding inventory? Who's accountable for excess capacity and why?

Also, process accounting supports other concepts in our continuous process-improvement strategy, including total accountability, responsibility and control; flexibility; and total cost tied to customer value. With our process-accounting tools in hand, we can begin to answer the next round of questions we're asking ourselves in our continuing quest for quality.

A FRACTION OF THE COSTS

Boeing's new cost-accounting system allows individual business units to portray their planned unit costs in today's environment and how they might compare to the unit costs upper management wants to achieve. The business unites calculate their costs with the help of numerator and denominator charts like the ones below. The total dollar costs divided by good parts out equals the cost for good parts shipped. Typical elements included under total costs are shown in the numerator chart. The denominator chart shows how we calculate our costs for good parts shipped.

In this example, the expected production, from the denominator table, is 13,439 units of output. The cost to produce 13,439 units is estimated at $58.517 million (numerator table). Dividing 13,439 units into $58.517 million yields an expected average unit cost of $4,354.
Boeing's Cost Numerator...

Cost Element Product Plan Costs (in $ thousands)

Touch Labor 12,150
Support Labor 9,223
Raw Materials 15,113
Equipment Depreciation 2,990
Equipment Maintenance 2,357
Tooling Depreciation 1,983
Distributed Material 1,317
Distributed Material 503
Shop Supplies 915
Computing 6,662
Facilities Cost 3,552
Miscellaneous 1,752

Total $58,517
... and Output Denominator
 Product Weighing
Part Number Quantity Factor Units of Output

A 158 2.10 332
B 405 3.30 1,337
C 288 13.60 3,917
D 528 5.30 2,798
E 332 13.20 4,382
F 673 1.00 673
 2,384 13,439


Mr. Bowlby is cost management manager at Boeing Commercial Airplane Group in Seattle.
COPYRIGHT 1994 Financial Executives International
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1994, Gale Group. All rights reserved. Gale Group is a Thomson Corporation Company.

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Title Annotation:includes related article
Author:Bowlby, Robert J.
Publication:Financial Executive
Date:Nov 1, 1994
Words:2198
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