Throughput Accounting (TA)

Throughput Accounting: Basic Assumption and Definations

As a managerial accounting methodology, the purpose of TA is to provide management with information that allows accurate decisions to be made, such as optimal allocation of resources, product-service mix, and so on. In addition, a managerial accounting system must provide management with an accurate picture of where the firm is, and where it should be going forward.

In TA, priority is given to the generation of revenues by the firm. Three basic metrics are used in the TA system: throughput, operating expense, and investment. Throughput(T) is defined as the rate at which the firm generates money. In most cases, throughput can be equated with sales revenue. The strict definition of throughput is given by the following equation:

The term “totally” variable costs serves to distinguish TA from the other extant managerial accounting methodologies, such as cost accounting and activity-based costing. TVC is restricted to the cost of selling one additional unit of product or service. In a manufacturing setting, TVC would be equated with raw material cost, whereas the TVC of a patient visit to a doctor's office would be the cost of the materials used during the visit such as gowns, gloves, printed forms, and so on. Throughput is similar to contribution margin, which is defined as revenue minus variable cost. This is equal to the dollar amount of revenue available to cover fixed costs. However, in TA, only totally variable costs are subtracted from revenues, as just shown. All other costs, other than totally variable costs, are included in operating expense (OE).

The second metric used in TA is “investment.” Goldratt uses the term “inventory,” and other managerial accountants utilizing TA sometimes use the term “assets.” In any event, whichever terminology is adopted, the parameter measured is the amount of money that the entity uses to purchase the items it plans to sell, or, if a service operation, the amount of money used to purchase the items needed to produce the service. For example, in a TA system the funds used to purchase dialysis machines and equipment by a dialysis provider are recorded under the category of investments. This somewhat restricted definition of assets used in TA differs from that recognized in the more standard accrual accounting treatment. For instance, in a manufacturing firm the expenses attendant to producing work in process and finished goods inventory are not recognized until the product is sold, via the matching principle of basic accounting. TA asserts that, although this GAAP-mandated methodology of recognizing expenses is appropriate (and required) when reporting financial data to outside agencies and shareholders, it does not provide an accurate managerial accounting picture of the firm's true profitability and cost structure. In TA, the only value attributed to inventory is the totally variable cost of producing the inventory. Importantly, the cost of producing a product or service, using TA, is recognized at the time the product or service is produced or rendered, rather than when the product is sold or payment is received for the service.

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