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Health checkThroughput Accounting
Throughput Accounting is an important measurement and decision making tool, based on Eli Goldratt’s Theory of Constraints (TOC).
Throughput Accounting changes the way an organisation thinks internally about revenue recognition, costs and profitability and therefore changes the figures used for decision making – essentially changes the Management Accounting. It does not change the legal and annual accounts – the basis of these is prescribed by company and tax law – but no owners or managers of any significant business base their decisions on these “external” accounts anyway!
The benefits, from using Throughput Accounting as a measurement and decision making tool, are:
- Focusing sales efforts on those products that truly make more money – product/service viability/mix decisions
- Better judgment on which investments contribute to truly making money
- Make/buy decisions that are based on the real effect on the bottom line
- Clearer understanding of the contribution that sub-systems make to the system as a whole
- More realistic reporting of the effectiveness of the system as a whole in relation to its goal – making money now and in the future.
Many of the distortions that exist in traditional management accounting systems are overcome with Throughput Accounting. These distortions arise because traditional management accounting tries to apply the same measures that are used to judge a whole system/organisation (profit and return on investment) to day to day decisions by dividing the system into sub-systems and then into activities.
Under Goldratt’s TOC approach three measures are used for decision making, in this order:
- Throughput (T)
- Investment (I)
- Operating Expense (OE)
“Throughput” is the name given to the money that is generated from sales – which means the value of sales less the TVC – Truly Variable Cost – only the cost of making and selling additional units.
“Investment” is the name given to the money tied up in the system
“Operating Expense” is the name given to all the money (other than TVC) incurred to turn investment into sales – this includes wages etc.
Any decision can be made based on evaluating the effect of the proposal on T, I & OE in that order. Under traditional management accounting the cost of any proposal is usually the first and sometimes only consideration – leading to poor local decisions.
One of major paradigm shifts under TOC relates to cost, the absorption of this into inventory and the impact on profitability. Click here to see an example.
Contact us to find out more about the difference that Throughput Accounting could make to your business decision making, either complete the form below or call us on (0) 1234 834510. Alternatively, click here to enrol for a programme on Throughput Accounting.
Throughput Accounting Success Tips
> Not understanding which products are really profitable leads to many arguements!
> Bringing outsourced work in house is very profitable!
> Many cost savings promised never become reality!
Throughput Accounting Articles
> What is the Role of the Finance Function
> Measurements that Mean Something
> How can a Finance Professional Lead Change in an organisation?
