Spring 2013 issue of Horizons

More than 90% of respondents to our survey who attended the program indicated that process improvement was important or very important to their organizations’ cultures.

The first step in the process is to understand your company’s value proposition. Every company has its own approach as to how it provides value to its customers and the specific niche it provides to their market. Understanding this value proposition is crucial to understanding which costs on your income statement are value-added costs. Keep in mind, that the customer is the end user of your product, not the distributor and others within your supply chain. While you should work together with these customers, it is the user of the product whose needs should be met and therefore whose perception of value you should monitor and understand. This understanding of the value proposition requires input from all aspects of the business including: sales, marketing, production, engineering, and administration. Once we understand our value proposition, we can begin to categorize costs into those that add value to the end customer and those that do not. This can provide a framework from which to view our opportunities to eliminate waste or make investments in value-added costs. Categorizing costs can be simplified by using the table outlined below. Follow the recommendation after determining which quadrant of the table each cost belongs in.

Identification In economics, value-added costs simply refer to the direct expenses of a product, including direct materials and direct labor. Companies engaged in process improvement initiatives such as Lean or Six Sigma, view value from their customers’ perspective. Costs necessary for the product to function in a manner expected by the customer or features of the product that the customer is willing to pay for are considered “value-added costs.” Expenses incurred that do not add to the final product, or expenses the customer does not find necessary to enhance the product are “non-value-added costs.” Accounting’s Role Accounting and finance can play a key role in helping the management team understand and evaluate the costs included within their company’s income statement. Traditionally, costs have been analyzed without thought as to whether or not they add value to the end customer. In a typical manufacturing environment, costs are analyzed based on their behavior, such as fixed or variable, or in cost categories such as direct or indirect. This can lead to cutting costs or eliminating processes that are actually valued by the customer. Simply reducing the largest cost of your product, direct materials, may have an adverse effect on profit. For example, moving to a cheaper material might result in more frequent product failure, thereby resulting in fewer sales and reduced profits.

ADD

EVALUATE

Value-Added

ELIMINATE

REDUCE

Non-Value-Added

Necessary

Not Necessary

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