Theory of constraints and Throughput account

Question 1

Throughput accounting (TA) - Definition

Answer 1

TA is an accounting system based on the theory of costraints. It is very similar to marginal costing but can be used for longer-term decision making about production capacity It is an alternative system of cost and management accounting in a JIT environment.

Question 2

Theory of constraints definition

Answer 2

A production system where the key financial concept is the maximisation of throughput while keeping conversion and investment costs to a minimum.

Question 3

Cost treatment in TA

Answer 3

*The only variable cost is materials. All other factory costs are fixed in the short run - this means that labour is treated as a fixed cost in TA.
*In a JIT environment, producing solely for inventory is bad. Products should not be made unless there is a customer waiting for them. WIP should be valued at material cost only, so that no value is added to profit until a sale is made.
*Profit is determined by the rate at which throughput can be generated, that is how quickly raw materials can be turned into sales to generate cash. Producing just to increase inventory creates no profit and so should not be encouraged.