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Baxendale, S. J. and P. S. Raju. 2004. Using ABC to enhance throughput accounting: A strategic perspective. Cost Management (January/February): 31-38.

Summary by Erin Lagor
Master of Accountancy Program
University of South Florida, Fall 2004

ABC Main Page | TOC Main Page

The purpose of this article is to make the argument that while throughput accounting is useful, it is of even greater value when used in conjunction with ABC. Specifically, when TOC and ABC are used together, marketing managers are provided with the information they need to make strategic decisions.


Baxendale and Raju reference other articles that are related to this topic. It might be helpful to read those summaries before continuing to read the summary of this paper. This article combines the data in examples from Cooper & Kaplan, and Chapters 12 & 13 of Goldratt’s The Haystack Syndrome into a larger illustration for demonstrative purposes.


ABC may be used to enhance the management accounting information derived from a throughput accounting system based on TOC. Information derived from ABC and TOC supports strategic decision making. In the early stages of ABC there was a tendency to ignore the idea of isolating unused capacity costs by activity. But in a 1992 Accounting Horizon article Cooper and Kaplan addressed the treatment of unused capacity costs at the activity level. A given level of production could result in less than the full capacity of an activity being assigned to products. Cooper and Kaplan illustrated their ideas with the example of a “Process Purchase Orders” activity. There was an assumption within this article that there was a relationship between the level of production for each product and the number of purchase orders required. Some products used the “Process Purchase Orders” activity more intensely than others.

In the Haystack Syndrome, Goldratt developed an example called the PQ case (See Chapter 12) in which he demonstrated TOC and throughput accounting. In Goldratt’s example there were two products (P & Q) and there were four production activities (A, B, C, and D) at the PQ plant. Goldratt demonstrated that the ‘five steps of focusing’ could be actualized if truly variable costs, like raw materials, were subtracted from the selling price for each unit of product, in order to arrive at the throughput per unit for each product. In his example, Goldratt specified the practical capacity for each of the four operations in the PQ plant, as well as the extent to which each of the two products used each of the four operations.

Limitations of throughput accounting/theory of constraints

In the Baxendale/Raju article, throughput accounting is used to structure the combined information from the Cooper/Kaplan example and the Goldratt case. In the demonstration created in this article, an income statement is created based on 350 unit sales of product P and 100 unit sales of product Q. When the $49,000 of operating expenses are deducted from total throughput, the result is a loss of $12,750 (See below).

Throughput Accounting Information*
Product P Product Q Total
Units produced & sold 350 100 NA
Revenues $42,000 $14,000 $56,000
Purchase parts $1,750 0 $1,750
Raw material 1 7,000 0 7,000
Raw material 2 7,000 2,000 9,000
Raw material 3 0 2,000 2,000
Throughput $26,250 $10,000 $36,250
Operating expense 49,000
Profit or (loss) ($12,750)

Capacity Utilization in Minutes
Activity Product P Product Q Unused Capacity Monthly Capacity Percent of Capacity Used
A 5,250 Minutes 1,000 Minutes 3,350 Minutes 9,600 Minutes 34.90%
B 5,250 Minutes 3,000 Minutes 1,350 Minutes 9,600 Minutes 14.10%
C 5,250 Minutes 500 Minutes 3,850 Minutes 9,600 Minutes 40.10%
D 5,250 Minutes 500 Minutes 3,850 Minutes 9,600 Minutes 40.10%
Order Processing 648 Orders 353 Orders 250 Orders 1,250 Orders 20.00%
* Adapted from Baxendale & Raju, Exhibit 1, p. 32.

All activities have unused capacity in the demonstration. In total, the “Order Processing Activity” would have 20% of its activity unused. TOC focuses on the constraint in order to arrive at the optimal product mix. In Goldratt’s example, it was determined that the constraint was Activity B. It was further determined that Product P made the more profitable use of the constrained activity than Product Q. Goldratt’s example illustrated an internal constraint. When the constraint is internal, an optimal product mix decision must be made. However, when the constraint is external, like when it is within the market, determining how many P’s versus how many Q’s to produce will not suffice. Instead, the company must deal with the external constraint by making strategic decisions such as how to expand the market, how to increase market share, what new markets should be cultivated, and/or which new products should be developed.

Advantages of integrating ABC and TOC

ABC takes the information used in TOC and adds monetary values. One can apply ABC to Goldratt’s example: resource cost drivers can be used to trace resource costs to Activity B. Next, the cost traced to Activity B can be divided by the activity cost driver (labor hours) for Activity B. The resulting activity-charging rate would be multiplied by the number of minutes of Activity B required to make Product P. This will give us the budgeted cost of Activity B in producing one unit of Product P. Activities that have no unused capacity or activities that have negative unused capacity are regarded as the constraints.

ABC differs from TOC in that it traces resource costs to activities. After resource costs have been traced to activities, one divides the activity cost (required by ABC) by the activity capacity (required by TOC and ABC) to arrive at the activity-charging rate (required by ABC). Next, that activity-charging rate is multiplied by the quantity of the activity costs driver demanded by each product from each activity (required by TOC and ABC). Based on the budgeted number of units produced, each activity’s budgeted production cost is compared to that activity’s budgeted capacity costs to arrive at the costs of unused capacity for that activity (expressed in financial amounts by ABC and in non-financial amounts by TOC). The ABC approach yields the same activity for the unused capacity information that TOC yields. As a result of tracing operating expenses to products and to unused capacity, an ABC income statement provides additional information concerning the per unit profitability of each product that a TOC income statement alone would not provide.

Possible misuse of activity-based costing information

There is the danger that the information shown on an ABC income statement might be misinterpreted and misused. There might be a temptation to eliminate a product that shows a loss on the income statement. Thus, a decision-making approach that focuses on the throughput of each product must be used. If a product has a positive throughput it should not be eliminated from the product offerings. Eliminating a product that appears unprofitable on an ABC income statement may be a problem for the following reason: the fixed operating expenses that had been attributed to that product will still exist. And those fixed operating expenses will merely move from that discontinued product to the cost of unused capacity for each of the activities that were involved in the production of that product.

Goldratt also had concerns about accountants who try to cut costs on activities that have unused capacity. Unused capacity related to non-constrained resources is actually essential. It provides a protective buffer to give greater assurance that the constrained activity operates without interruption.

Activity-based costing and marketing

In this section, the authors demonstrated ABC’s value to marketing. They do so by using an example in which a particular company has three somewhat diverse products that have identical throughput per unit. The company has unused capacity in all of the activities and they are likely to remain that way unless more products are sold. So what product should be the focus of an advertising campaign?

The TOC approach would not be an effective way to answer this question since the constraint in this example is an external one. The only really effective way of determining which product demands the fewest resources, and thus is the product that should be the focus of the campaign, is by converting TOC’s non-financial measures into financial measures using ABC’s activity-charging rate. Activity-based financial measures can be used to create an ABC income statement. The ABC income statement provides the information that marketing decision makers need to determine the product that uses the fewest internal resources. And most importantly, this information is expressed in financial terms. From there, the marketing decision makers will be able to decide on the product that should be the focus of their campaign.


The tracing of resource costs to activities is the major difference between ABC and TOC. ABC advocates tracing costs to obtain product costs, whereas TOC adamantly discourages attempts to determine product costs. However, both ABC and TOC are concerned about the unused capacities of activities. When the constraint is an internal one, TOC is sufficient to support short-term decision making. However, when the constraint is external, TOC information by itself is not sufficient to support marketing decision makers. So what is needed in order to make strategic judgments concerning the development and promotion of new products? The answer is to use TOC information in conjunction with ABC information.


Related summaries:

Campbell, R. J. 1995. Steeling time with ABC or TOC. Management Accounting (January): 31-36. (Summary).

Campbell, R., P. Brewer and T. Mills. 1997. Designing an information system using activity-based costing and the theory of constraints. Journal of Cost Management (January/February): 16-25. (Summary).

Coate, C. J. and K. J. Frey. 1999. Integrating ABC, TOC, and financial reporting. Journal of Cost Management (July/August): 22-27. (Summary).

Corbett, T. 2000. Throughput accounting and activity-based costing: The driving factors behind each methodology. Journal of Cost Management (January/February): 37-45. (Summary). (According to Corbett, the underlying assumptions of ABC and TOC are the exact opposites and accountants cannot agree with both).

Demmy, S. and J. Talbott. 1998. Improve internal reporting with ABC and TOC. Management Accounting (November): 18-20, 22 and 24. (Summary).

Goldratt, E. M. 1990. What is this thing called Theory of Constraints. New York: North River Press. (Summary). (In Chapter 4 Goldratt says that the word "cost" is a dangerous and confusing multi-meaning word and that the word "product cost" is "an artificial, mathematical phantom" p. 49).

Goldratt, E. M. 1990. The Haystack Syndrome: Sifting Information Out of the Data Ocean. New York: North River Press. (Summary). (In Chapter 7 Goldratt tells us that the business world today has changed and cost accounting has been slow to react. They have not reexamined the fundamentals, the financial statement logic, to create new solutions. Instead, they have formulated ineffective answers like “cost drivers” and “activity-based costing.” We can no longer allocate based on direct labor. So allocating expenses at the unit level, batch level, group level, and company level is meaningless. These cannot be aggregated at their respective levels nor at the top. So why do it?).

Goldratt, E. M. and J. Cox. 1986. The Goal: A Process of Ongoing Improvement. New York: North River Press. (Summary).

Holmen, J. S. 1995. ABC vs. TOC: Its a matter of time. Management Accounting (January): 37-40. (Summary).

Huang, L. 1999. The integration of activity-based costing and the theory of constraints. Journal of Cost Management (November/December): 21-27. (Summary).

MacArthur, J. B. 1993. Theory of constraints and activity-based costing: Friends or foes? Journal of Cost Management (Summer): 50-56. (Summary).

MacArthur, J. B. 1996. From activity-based costing to throughput accounting. Management Accounting (April): 30, 34, 36-38. (Summary).

Martin, J. R. Not dated. Chapter 7: Activity Based Product Costing. Management Accounting: Concepts, Techniques & Controversial Issues. Management And Accounting Web.

Martin, J. R. Not dated. Comparing Dupont's ROI with Goldratt's ROI. Management And Accounting Web.

Martin, J. R. Not dated. Comparing Traditional Costing, ABC, JIT, and TOC. Management And Accounting Web.

Martin, J. R. Not dated. Drum-Buffer-Rope System. Management And Accounting Web.

Martin, J. R. Not dated. Global measurements of the theory of constraints. Management And Accounting Web.

Martin, J. R. Not dated. Goldratt's dice game or match bowl experiment. Management And Accounting Web.

Martin, J. R. Not dated. TOC problems and introduction to linear programming.  Management And Accounting Web.

Rezaee, Z. and R. C. Elmore. 1997. Synchronous manufacturing: Putting the goal to work. Journal of Cost Management (March/April): 6-15. (Summary).

Ruhl, J. M. 1996. An introduction to the theory of constraints. Journal of Cost Management (Summer): 43-48. (Summary).

Ruhl, J. M. 1997. The Theory of Constraints within a cost management framework. Journal of Cost Management (November/December): 16-24. (TOC Illustration).

Westra, D., M. L. Srikanth and M. Kane. 1996. Measuring operational performance in a throughput world. Management Accounting (April): 41-47. (Summary).

Yahya-Zadeh, M. 1999. Integrating long-run strategic decisions into the theory of constraints. Journal of Cost Management (January/February): 11-19. (Summary).