Reduce Material Costs or Reduce Labour Costs?
Manufacturing cost reduction is at the centre of lean thinking. It's by no means the whole thing but if your lean efforts aren't guiding you to better financials, what's the point in pursuing a lean path. Strong lean thinking positively shifts Turnover (over the longer term), Profit and Cashflow. Remembering Alan Miltz's mantra "Revenue is vanity, profit is sanity, but cash is king" is helpful.
In a deeper sense lean thinking and a sharp cost reduction brain, ceaselessly searching for kaizen and low cost innovation, will give a better return on assets (ROA) and a smarter return on Investment (ROI)
At the most basic level of cost reduction we want to know:
What type of costs to attack to make a real impact
Where to find the source of these costs in the factory
How to identify concrete opportunities to reduce costs
Once you know whether your prime focus is to reduce material costs or reduce labour costs or overhead costs, the next task is finding where they're hiding!
Helpfully, the 80/20 or Pareto rule reaches across the last 120 years to support us in our cost reduction efforts today.
Let's focus on the cost of poor quality, one of the most significant as it increases both labour and material costs. The cost of poor quality manifests as scrap cost (after you've added value to materials!), the cost of rework, additional inspection, management time to sort out problems and, left unresolved, the cost of lost customers and revenue.
What is the 80/20 rule? (Pareto principle)
Vilfredo Pareto, who appears to have sported an early hipster beard, observed that 80% of the land in Italy was in the hands of 20% of the population. Whilst this isn't particularly interesting to us, the extension of this principle is.
How does the 80/20 Pareto help in manufacturing cost reduction?
Whether you work in manufacturing operations as a Team Leader, Supervisor, Operations Manager or Operations Director, at some point you'll be on the end of a sharp admonishment to "reduce costs". It's a fair request, we have to survive and stay ahead of hungry competition. Pareto's 80/20 rule is our friend, giving us the focus to discover that...
...If I have 19 part numbers coming through my patch, 4 of them are likely to account for 80% of the scrap, or...
...if I have 25 machines on my patch, 5 or so of them will generate 80% of my breakdown losses...
This is pretty useful to know. The next section looks at how to use Pareto charts (a visual tool to show 80/20 results) via a fizzy drink canning factory.
80/20 a fizzy drink factory example
Using simple Pareto logic takes you from
Reactively wandering around in your fizzy drink canning factory hoping to get lucky and spot where to start dealing with scrap cost to
Proactively collecting data on the 3 canning lines you run; Cola, Lemon and Orange
Hand-drawing a Pie chart and 2 levels of Pareto charts (see 3 charts below, based on the data table above) to work out that you need to go to the Orange line to tackle the highest number of defects:
Then, looking harder into the Orange canning line points us to look at "Orange dented cans". Suddenly we have a problem solving focus that we know will tackle a real problem.
So, rather than having to spread your limited continuous improvement/kaizen time thinly across 3 lines and 5 defect, you have 1 defect to focus on, on 1 line. This already gives you a stronger chance of success, safe in the knowledge that any reduction of scrap there is a bigger win than anywhere else.
Beware this pitfall though
Let's introduce a wrinkle into the data. The data we used above reflected the "quantity" of scrap made and, logically, leads us problem solve dented orange cans
In a cruel but instructive twist, below we've revealed the final column on the fizzy drink factory scrap data table. When "Cost per Scrapped Can" is used to show the value, rather than quantity of scrap, it leads us somewhere else. In fact, we'd be wanting to Problem Solve dented cola cans on an entirely different line.
A sobering reminder to always keep an eye on the cost of scrap and rework whilst you're totting up the quantity.
a data table of fizzy drink defects
Key takeaways for your cost reduction strategy
Of course, It's not always exactly 80/20 but the 80/20 principle works pretty universally. By the way, hand drawn is almost always best as we learn by creating. We've trained too many operational leaders who had been blindly plugging numbers into excel spreadsheets of NASA level complexity, without the faintest idea what the outcome meant. No understanding = no action = no kaizen.
To sustainably improve, you generally need to:
Measure where you are now
Find a focus
Check after whether you've made an impact or not. Data Analysis gives you this.
A word of caution though, data is a dangerous beast. Analysing data is NOT the purpose of analysing data, improving your business is. The small story below illustrates this.
Toyota Sensei story
15 years ago I stood complaining to one of our Toyota sensei that a rubber moulding supplier we were helping had no data collection, and therefore we couldn't help them.
Upon hearing this tragic news via our interpreter his face screwed up as he turned and headed to the shopfloor. Once there, he established when the scrap bin had last been emptied and proceeded to tip the rubber defects out onto the floor.
In front of my eyes he created a live pareto of parts and said
"No data Russell-san, really?"
Another day, another lesson. Data is more than numbers. If you'd like our blank pie and pareto pro-formas contact us through our website here, and we'll send them over.
Back to the beginning of reducing Manufacturing Costs
As stated at the beginning, knowing your cost make-up, the split between Material, Labour and Overheads, is a really important start point for cost reduction. This YouTube video should help