In my last post, I discussed some of the different types of constraints that can exist within many manufacturing companies. I also focused the discussion on one particular type of constraint, referred to as a strategic constraint.
In this post, I will continue our discussion on accounting systems that are used to maximize profitability within your company. I will also talk about organizational paradigms that must be considered. As mentioned previously, throughout this series, I will continue to reference a book I highly recommend, entitled Throughput Accounting Techniques by Etienne Du Plooy(1).
Understanding organizational paradigms
Throughput-oriented thinking and traditional cost-oriented thinking are two markedly different approaches that influence decision making in very different ways. Throughput accounting is typically a challenge for most cost-oriented thinkers, because cost-oriented thinking traditionally supports the belief that improving part of the system will improve the performance of the entire system, regardless of whether or not the part being improved is actually a system constraint.
Organizations operate with certain paradigms, with some being more cost-focused, some being more service-focused, and some being more production-focused. As organizations work to achieve their goals, they choose a set of strategies and tactics they believe best suit them. Their thinking is largely influenced by what they know, and to a lesser extent by what they don’t know. Some organizations develop strategies and tactics that appear to be well formulated, but when their financial results are confirmed, the expected returns just aren’t there. This proves that the chosen strategy might not have been the right one.
While there are many paradigms in today’s complex systems, cost-focused systems are deeply rooted in the costs of materials, assets, and activities where almost every expense is justified by accumulated and allocated cost. Within organizations with a cost paradigm, you will see the application of methods that analyze and evaluate cost relevance for independent parts of a system or business. The perceived independent parts are considered equal to the system’s whole. When subsequent analyses are made, they are based on qualitative and quantitative factors affecting cost variability and cost drivers which, in turn, affect decisions made on the information provided to cost centers and whole systems. Finally, decisions are then made based on the cost-focused paradigm as it’s what many in organizations with this paradigm believe is the only one that exists.
Throughput-focused paradigms are focused on system flow. From a management accounting perspective, the flow is measured in monetary speed terms. Throughput-oriented analyses are often constraint-based, where the main focus is maximizing holistic system value. Acknowledging that system capacities are limited is an important feature of throughput accounting.
Quantitative factors affecting cost variability are never presumed, but are clearly defined. Qualitative factors are generally the domain of continuous improvement tools such as Lean, Six Sigma, Kaizen, or the Theory of Constraints (TOC) to name a few. Throughput accounting has been used in conjunction with these methods. The information provided by throughput accounting is therefore based on systemic facts and not subject to the assumptions of cost-focused paradigms.
A paradigm is a view of the theories and methodologies of a subject, so shifting from one paradigm to another involves a change of your basic assumptions. A paradigm shift is a significant change in approach and underlying principles. TOC challenges assumptions and considers that change must be significant enough to be accepted. Change is wrongly assumed to always require multiple choices.
Using throughput accounting measures, the Theory of Constraints highlights that changing only a single or a few things causes significant change in the performance of the system. TOC’s process of ongoing improvement focuses on identifying, managing, and focusing on the leverage points that exist within every system, but requires a shift in paradigm towards throughput accounting.
Coming in the next post
In my next post, we will dive much deeper into the basic measures of throughput accounting and demonstrate why using it will help companies significantly improve their profitability.
If you’d like to read more about accounting in a manufacturing environment, check out my series Problems with Traditional Management Accounting.
Until next time,
(1)Etienne Du Plooy, Throughput Accounting Techniques, General Media Press, Garsfontein, South Africa, 2016
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