Throughput Accounting

 

Measurements play a pivotal role in the success of any organization. Traditionally, organizations have been using what is called Cost Accounting for many critical measurements and make business decisions based on these measurements. The origins of Cost Accounting lie in the need for Product Costing in the organizations. Product Costing was originally created to ease local and daily decisions. However, there are several problems with cost accounting that lead to severely flawed business decisions and result in high inventory levels, sub-optimal product mix, poor measurements and misdirected focus. In 1984, Eli Goldratt, father of Theory of Constraints, created a flutter in APICS when he said that

“Cost Accounting is the enemy no 1 of productivity”.

It created huge controversy as people resist change. After all, Product Costing has been the most common way of making decisions, especially in manufacturing.

Throughput Accounting provides a viable and robust alternative to traditional Cost Accounting. It is based on a focus on Throughput which is defined as the rate at which the organization generates the “goal units” (i.e. the rate at which the system generates money through sales which is sales minus the Totally Variable Costs). Other variables are Investment which is the money tied up in the organization and Operating Expenses which is all the money organization spends to generate “goal units” i.e. to turn investment into throughput.

In the throughput world, the first priority is to increase throughput, followed by reducing Investment and reducing Operating Expenses in that order. This is very different from the traditional cost accounting where there is lot of focus on reducing expenses which may often jeopardize throughput.

Adoption of Throughput Accounting leads to removal of several distortions in measurements and business decisions and leads to superior business performance. However, introduction of Throughput Accounting can be quite challenging due to resistance to change.