Throughput Accounting and Constraint Management
Costing
Throughput Accounting and Constraint Management
Syllabus tag: KASNEB CPA | Advanced Level | CA34S3 Advanced Management Accounting | Topic 4 Throughput Accounting and Constraint Management
Lesson objectives
By the end of this topic, you will be able to:
- Explain the theory of constraints and its assumptions
- Compute throughput and the throughput accounting ratio
- Rank products by return per bottleneck minute
- Apply the five focusing steps
- Contrast throughput accounting with marginal and absorption costing
Why this matters
CA25 ranked products by contribution per unit of the limiting factor. Throughput accounting takes that idea further and treats the bottleneck as the only thing that matters, on the reasoning that an hour lost at the constraint is an hour lost for the whole factory.
The theory of constraints
Every system has at least one constraint limiting its output. Improving anything other than the constraint improves nothing — it merely builds inventory in front of the bottleneck.
Two assumptions underlie the whole approach:
- Material cost is the only truly variable cost. Labour is treated as fixed, because staff are paid whether or not the line runs
- All other costs are Total Factory Cost, fixed in the short run
That first assumption is what distinguishes throughput accounting from marginal costing, which treats direct labour as variable. It is a claim about the modern factory rather than a rule of arithmetic, and it is truer of an automated plant than a casual-labour workshop.
The measures
Throughput = Selling price − Direct material cost
Return per bottleneck minute = Throughput / Minutes on the bottleneck
Cost per factory minute = Total Factory Cost / Bottleneck minutes available
Throughput accounting ratio = Return per bottleneck minute / Cost per factory minute
A ratio above 1 means the product earns more per bottleneck minute than the factory costs to run for that minute. Below 1, making it destroys value however healthy the conventional margin looks.
Worked example
Total Factory Cost is KES 4,620,000 for a period with 92,400 bottleneck minutes available.
Cost per factory minute = 4,620,000 / 92,400 = KES 50.00
| Product A | Product B | |
|---|---|---|
| Selling price | 1,800 | 2,400 |
| Direct material | (700) | (950) |
| Throughput | 1,100 | 1,450 |
| Bottleneck minutes | 22 | 25 |
| Return per bottleneck minute | 50.00 | 58.00 |
| TA ratio | 1.00 | 1.16 |
Product B should be made first. It earns 58 per bottleneck minute against A's 50, even though A uses less bottleneck time in total.
Product A's ratio of exactly 1.00 is the break-even case: making it covers the factory cost of the minutes it consumes and adds nothing. If B could absorb all available capacity, A should not be made at all.
Note that the ranking would differ if you used contribution per unit — B's throughput is higher in absolute terms, but the decision turns on the bottleneck minutes, not the units.
:::checkpoint A third product has a throughput of KES 900 and uses 20 bottleneck minutes. Compute its return per minute and TA ratio, and say where it ranks and whether it should be made. :::
The five focusing steps
- Identify the constraint
- Exploit it — get the maximum from it without spending: no idle time, no defective units passing through it, schedule the highest-return products on it
- Subordinate everything else to it — other processes run at the constraint's pace rather than their own maximum
- Elevate it — invest to increase its capacity
- Repeat, because the constraint will have moved elsewhere
The order matters and candidates reverse it. Exploit before elevate: extract everything free from the existing constraint before spending money on more capacity. A company that buys a second machine while the first sits idle during lunch breaks has skipped step 2.
Step 3 is the counterintuitive one. Non-bottleneck resources should deliberately run below their capacity, because output they produce beyond what the constraint can absorb becomes inventory, not sales.
Comparison with other systems
| Absorption | Marginal | Throughput | |
|---|---|---|---|
| Variable costs | Production costs | All variable costs | Materials only |
| Labour treated as | Product cost | Variable | Fixed |
| Inventory valued at | Full production cost | Marginal cost | Material cost only |
| Ranking basis | Full-cost margin | Contribution per limiting factor | Return per bottleneck minute |
Throughput accounting values inventory at material cost alone, which is the lowest of the three. That is deliberate: it removes any incentive to build inventory to absorb overhead, the behaviour the marginal-versus-absorption comparison in CA25 exposed.
Limitations
- It is short-term. Treating labour and overhead as fixed is defensible over weeks and not over years, when capacity can be changed
- It says little about pricing or product design, where full costs matter
- It can under-value inventory for external reporting, so IAS 2 figures must be prepared separately
- It assumes the bottleneck is identifiable and stable, which is harder in a job shop with a changing product mix
:::checkpoint A manager proposes buying a second machine for the bottleneck process. On investigation, the existing machine is idle for 40 minutes each shift during breaks and produces 6% defective units. Advise on the proposal using the five focusing steps. :::