## Learning Outcomes

After reading this article, you will be able to explain the concept of throughput accounting and the theory of constraints (TOC), identify bottleneck resources, calculate the throughput accounting ratio (TPAR), and apply TOC’s five-step improvement process. You will be able to calculate, interpret, and use TPAR in multi-product decision situations, and suggest methods for improving performance where resource constraints apply—all directly relevant to ACCA Performance Management (PM).

## ACCA Performance Management (PM) Syllabus

For ACCA Performance Management (PM), you are required to understand how throughput accounting and the theory of constraints are applied to managing bottlenecks within organisations. In your revision, ensure you are prepared to:

- Explain the difference between traditional costing and throughput accounting approaches
- Identify and quantify bottleneck resources and calculate throughput measures
- Apply and interpret the throughput accounting ratio (TPAR)
- Use TOC’s five-step process to maximise profitability when resources are limited
- Rank products to maximise throughput in a multi-product environment

## Test Your Knowledge

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, look more closely at that area during your revision._

1. Which cost is treated as the only variable cost in throughput accounting for short-term decision making?
2. What does it suggest if a product’s TPAR is less than 1?
3. List the five steps in the theory of constraints process.
4. When producing multiple products in a factory with a bottleneck, how should you decide which to prioritise?

## Introduction

Traditional costing methods often assume that any resource can be increased as needed, but in reality, most production and service settings experience limitations—known as bottlenecks. These bottlenecks restrict the capacity of the entire system. Throughput accounting focuses specifically on maximising the use of these scarce resources.

In throughput accounting, only direct materials are considered variable in the short term. All other costs—including direct labour and overheads—are treated as fixed operating expenses.

> **Key Term: throughput**
> The sales revenue from goods and services minus direct material costs. It reflects how quickly a company generates cash through sales.
> **Key Term: operating expense**
> All factory costs except direct material; assumed to be fixed in the short term for throughput accounting.
> **Key Term: bottleneck**
> The resource (such as a machine, process, or employee group) with the lowest capacity that limits the output of the entire system.

### Throughput Accounting Principles

Throughput accounting aims to maximise returns from the use of a scarce resource by focusing on throughput per bottleneck hour. Most questions for the PM exam focus on machine time or skilled labour as the constraint.

In the exam, be ready to:

- Identify the system’s bottleneck resource
- Calculate throughput per unit and per bottleneck hour
- Calculate cost per bottleneck hour
- Compute and interpret the throughput accounting ratio (TPAR)

> **Key Term: throughput per bottleneck hour**
> Throughput earned for each hour of bottleneck resource used. Calculated as (throughput per unit) divided by time required from the bottleneck per unit.
> **Key Term: throughput accounting ratio (TPAR)**
> The ratio: (throughput per bottleneck hour) divided by (cost per bottleneck hour). A measure of profitability under resource constraints.

### Worked Example 1.1

A factory makes three products that all use the same bottleneck machine, which can be operated for 2,000 hours per month. Product details are as follows:

|                    | Alpha | Bravo | Charlie |
| ------------------ | ----- | ----- | ------- |
| Selling price      | \$24  | \$19  | \$14    |
| Direct material    | \$10  | \$7   | \$8     |
| Machine hours/unit | 0.8   | 0.6   | 0.4     |

Demand for all three products exceeds capacity.

**Required:** Which product or products should be prioritised to maximise throughput?

> **Answer:**
> Calculate throughput per unit:
>
> - Alpha: \$24 - \$10 = \$14
> - Bravo: \$19 - \$7 = \$12
> - Charlie: \$14 - \$8 = \$6
>   Throughput per bottleneck hour:
> - Alpha: \$14 / 0.8 = \$17.50
> - Bravo: \$12 / 0.6 = \$20.00
> - Charlie: \$6 / 0.4 = \$15.00
>   Priority: Bravo first, then Alpha, then Charlie.

### Calculating and Interpreting the TPAR

Once you have identified a product’s throughput per bottleneck hour, compare it to the total cost per bottleneck hour to assess if it generates sufficient return.

Calculation steps:

- **Throughput per bottleneck hour** = Throughput per unit ÷ time on bottleneck per unit
- **Cost per bottleneck hour** = Total factory costs (excluding direct materials) ÷ total bottleneck hours
- **Throughput accounting ratio (TPAR)** = Throughput per bottleneck hour ÷ cost per bottleneck hour

A TPAR > 1 indicates the product is generating sufficient throughput to cover operating expenses and generate profit. TPAR < 1 indicates losses for each bottleneck hour used by the product.

### Worked Example 1.2

A business makes a single product using a bottleneck department. Relevant details:

- Selling price: \$50 per unit
- Material cost: \$18 per unit
- Each unit requires 0.2 hours on the bottleneck machine
- Total factory costs (excluding materials): \$96,000 per month
- Available bottleneck machine hours: 8,000 per month

Calculate TPAR for the product and interpret the result.

> **Answer:**
> Throughput per unit = \$50 - \$18 = \$32
> Throughput per bottleneck hour = \$32 / 0.2 = \$160/hour
> Cost per bottleneck hour = \$96,000 / 8,000 = \$12/hour
> TPAR = \$160 / \$12 = 13.33
> TPAR > 1, product is profitable per bottleneck hour.
>
> **Exam Warning:**
> Labour is usually treated as a fixed cost in throughput accounting. Only include direct labour as variable if the scenario specifically tells you that it can be varied in the short term.

### Theory of Constraints (TOC): Five-Step Approach

TOC is a practical methodology for identifying and managing bottlenecks. The process is cyclical and continuous, encouraging ongoing improvement. The five focusing steps are:

![Throughput accounting ratio calculation from selling price, material cost, bottleneck time, operating expenses, and capacity, including interpretation relative to one.](https://static.pastpaperhero.com/images/acca-pm-costing-systems-throughput-accounting-and-theory-of-constraints_00.png)

_TPAR is derived sequentially using throughput per unit, throughput per bottleneck hour, cost per bottleneck hour, and the benchmark of 1._

1. **Identify the bottleneck** (the system’s constraint)
2. **Exploit the bottleneck** (maximise its productivity)
3. **Subordinate other activities** (align other processes to support the bottleneck)
4. **Upgrade the bottleneck** (make long-term changes to increase capacity)
5. **Repeat** (if the bottleneck has moved, return to Step 1)

> **Key Term: theory of constraints (TOC)**
> A continuous improvement methodology for dealing with bottlenecks, focusing on maximising throughput from constrained resources.

### Worked Example 1.3

Petron Ltd manufactures garden tools. Production passes through three departments. Current monthly capacities:

- Stamping: 15,000 units
- Assembly: 10,000 units
- Finishing: 16,000 units

Market demand: 12,000 units/month.

**Required:** What is the bottleneck and what actions could Petron Ltd take to improve throughput?

> **Answer:**
> Assembly is the bottleneck (can only make 10,000 units). To improve throughput, the company should: (1) prioritise production to high-margin tools, (2) reduce downtime in assembly, (3) cross-train workers, or (4) consider investing to expand capacity in assembly. After resolving, repeat the TOC steps to see if another bottleneck appears.

### Multi-Product Decision-Making with a Bottleneck

Throughput accounting is particularly important in multi-product settings when there is a single binding constraint. Follow these key steps:

- Identify the bottleneck
- Compute throughput per unit for each product
- Calculate throughput per bottleneck hour for each product
- Rank products by throughput per bottleneck hour
- Allocate bottleneck hours in order of ranking until capacity is exhausted

If more than one resource is limiting, linear programming may be required.

### Worked Example 1.4

A plant has a bottleneck work centre with 3,000 machine hours/month.

|     | Throughput/unit | Machine hours/unit | Max demand (units) |
| --- | --------------- | ------------------ | ------------------ |
| X   | \$12            | 0.5                | 4,000              |
| Y   | \$9             | 0.3                | 2,500              |
| Z   | \$20            | 1.2                | 1,000              |

**Required:** What is the optimal product mix?

> **Answer:**
> Calculate throughput per bottleneck hour:
>
> - X: \$12 / 0.5 = \$24
> - Y: \$9 / 0.3 = \$30
> - Z: \$20 / 1.2 ≈ \$16.67
>   Priority: Y, X, Z.
>   Allocate bottleneck hours:
> - Y: Max demand 2,500 × 0.3 = 750 hours
>   Remaining hours: 3,000 - 750 = 2,250
> - X: Max possible = 2,250 / 0.5 = 4,500 units, but demand limited to 4,000 units (needs 2,000 hours). After producing all of Y and X: 3,000 - 750 - 2,000 = 250 hours
> - Z: 250 / 1.2 ≈ 208 units

### Improving TPAR and System Profitability

If a product’s TPAR is less than 1 or barely above, you should:

- Increase selling prices (if possible)
- Reduce material costs per unit through negotiation or specification change
- Reduce total operating expenses
- Increase bottleneck efficiency (e.g., reduce setup time, breakdowns)
- Focus production on the products with the highest throughput per bottleneck hour

> **Revision Tip:**
> _Once a bottleneck is addressed or relieved, always re-assess the system—another bottleneck is likely to emerge elsewhere. Repeat the TOC cycle for continuous improvement._

### Throughput and TOC in Service and Public Sector Contexts

Throughput accounting and TOC methodology apply to non-manufacturing contexts as well. Service industries—such as clinics, call centres, and public sector organisations—also experience bottlenecks that limit output.

### Worked Example 1.5

At a medical imaging centre, capacity is:

- Scanning: 40 patients per day
- Radiologist interpretation: 32 scans per day

Which is the bottleneck, and what should be done to improve throughput?

> **Answer:**
> The radiologist’s interpretation is the bottleneck, as only 32 patients can complete the entire process per day. To increase throughput: (1) Reduce reporting delays, (2) reschedule radiologist hours, or (3) add staff. Targeting the bottleneck maximises patient throughput.

## Summary

Throughput accounting helps maximise profit when output is limited by a scarce resource. By focusing on maximising throughput per bottleneck hour and using the TPAR, you can prioritise the product mix and actions to improve short-term system profitability. TOC’s five steps enforce continuous focus on constraints to ensure ongoing improvement.

## Key Point Checklist

_This article has covered the following key knowledge points:_

- Define throughput, operating expense, bottleneck, TOC, and TPAR
- Explain how throughput accounting differs from traditional costing
- Identify bottleneck resources and their impact on production
- Calculate and apply throughput per unit, per bottleneck hour, and TPAR
- Use the theory of constraints five-step process to improve throughput
- Prioritise products and production when resources restrict output
- Recognise throughput and TOC applications in service and public sector settings

## Key Terms and Concepts

- throughput
- operating expense
- bottleneck
- throughput per bottleneck hour
- throughput accounting ratio (TPAR)
- theory of constraints (TOC)


Costing systems - Throughput accounting and theory of constraints