Management And Accounting Web

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

Summary by Michael Becker
Master of Accountancy Program
University of South Florida, Summer 2003

ABC Main Page | TOC Main Page

The author’s purpose is to show how ABC (Activity-Based Costing) and TOC (Theory of Constraints) can be used to help a company improve production and save money.

The author worked as a consultant for Southwestern Ohio Steel (SOS), where he developed a pricing model that contributed to a change in not only the company’s cycle-time but also their customer mix. This article presents one approach, as well as some caveats, on how this can be accomplished.

SOS’s steel sheet cutting process includes a blanking-line operation. It is on the blanking-line that the coils of steel sheet are uncoiled, cut, and then any remaining steel sheet is re-coiled. However, the activities of re-coiling, removal, recording, and finally the cleanup of the line extend the blanking-line time so that new orders cannot be processed until the crew completes these aforementioned activities. In order to alleviate this internal bottleneck which only serves to increase costs, the cycle-time costs had to be analyzed.

There are three different cost areas to consider:

1. Historical - payroll for workers, supplies and utilities, supervisory and support costs, depreciation, and rent allocation. These costs are the ABC costs that would be assigned to the blanking department

2. Temporary - these costs include the additional monies paid for overtime pay, taxes, etc. that the company pays due to inefficiencies in their blanking-line process.

3. Opportunity - these costs represent the lost sales the company suffers due to their inefficient cycle time. An estimate of the opportunity costs per blanking hour provides the financial justification for reducing cycle time, as the cost of lost sales is high.

In order to reduce the cost per production run, setup time was selected as the preferential area to be made more efficient. In order to alleviate the cycle time problem, management considered purchasing a new automatic loading mechanism that could drastically reduce the cycle time.

Obviously, the preferred option would be to reduce the cost area noted above which represented the highest cost per hour. The greatest cost per hour is represented by the opportunity cost. Note: the reduction of the temporary costs (overtime) can be calculated objectively as ‘overtime hours’ not worked. However, the reduction of the opportunity costs is a subjective calculation since a specific lost sale can be attributable to not only internal bottlenecks and inefficiencies, but also to such things as poor customer service and quality defects. It is also noted that unless the company is currently operating at full capacity, any additional investment to reduce temporary costs (which, with idle capacity, would already be zero) or opportunity costs (which should also theoretically be zero) would be wasteful. That is, “[i]n the nonconstrained process, the investment to reduce setup time may not be justified.”

The author notes that in a nonconstrained environment (e.g., at a plant that is producing below full capacity), there is, besides using additional capital investment, another potential way to reduce cycle time and costs. This other possible method is via employee cooperation. When employees are motivated to work harder and better, significant cost and time reductions can occur. This reduction appears regardless of whether the environment is constrained or nonconstrained.

In conclusion, the author notes that when internal bottlenecks are present, any reduction in the cycle-time related to the bottleneck can have a significant benefit. However, when the operating environment is nonconstrained, reducing cycle-time may have either little or no benefit whatsoever.


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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).

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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).

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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.

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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).