Throuput and Limiting Factor (Thin Co.)

Question: Throughput and Limiting Factor: Thin Co

Thin Co is a private hospital offering three types of surgical procedures known as A, B and C. Each of them uses a pre-operative injection given by a nurse before the surgery. Thin Co currently rent an operating theatre from a neighbouring government hospital. Thin Co does have an operating theatre on its premises, but it has never been put into use since it would cost $750,000 to equip. The Managing Director of Thin Co is keen to maximise profits and has heard of something called ‘throughput accounting’, which may help him to do this. The following information is available:

1          All patients go through a five step process, irrespective of which procedure they are having:

–          step 1: consultation with the advisor;

–          step 2: pre-operative injection given by the nurse;

–          step 3: anaesthetic given by anaesthetist;

–          step 4: procedure performed in theatre by the surgeon;

–          step 5: recovery with the recovery specialist.

2          The price of each of procedures A, B and C is $2,700, $3,500 and $4,250 respectively.

3          The only materials’ costs relating to the procedures are for the pre-operative injections given by the nurse, the anaesthetic and the dressings. These are as follows:

Procedure A       Procedure B       Procedure C

$ per procedure               $ per procedure               $ per procedure

Pre-operative nurse’s injections               700                         800                         1,000

Anaesthetic                                        35                           40                           45

Dressings                                             5·60                        5·60                        5·60

4          There are five members of staff employed by Thin Co. Each works a standard 40-hour week for 47 weeks of the year, a total of 1,880 hours each per annum. Their salaries are as follows:

–          Advisor: $45,000 per annum;

–          Nurse: $38,000 per annum;

–          Anaesthetist: $75,000 per annum;

–          Surgeon: $90,000 per annum;

–          Recovery specialist: $50,000 per annum.

The only other hospital costs (comparable to ‘factory costs’ in a traditional manufacturing environment) are general overheads, which include the theatre rental costs, and amount to $250,000 per annum.

5          Maximum annual demand for A, B and C is 600, 800 and 1,200 procedures respectively. Time spent by each of the five different staff members on each procedure is as follows:

	Procedure A	Procedure B	Procedure C
	Hours	Hours	Hours
	per procedure	per procedure	per procedure
Advisor	0·24	0·24	0·24
Nurse	0·27	0·28	0·30
Anaesthetist	0·25	0·28	0·33
Surgeon	0·75	1	1·25
Recovery specialist	0·60	0·70	0·74

Part hours are shown as decimals e.g. 0·24 hours = 14·4 minutes (0·24 x 60).

Surgeon’s hours have been correctly identified as the bottleneck resource.

Required:

(a)      Calculate the throughput accounting ratio for procedure C.

Note: It is recommended that you work in hours as provided in the table rather than minutes.(6 marks)

(b)      The return per factory hour for products A and B has been calculated and is $2,612·53 and $2,654·40 respectively. The throughput accounting ratio for A and B has also been calculated and is 8·96 and 9·11 respectively.

Calculate the optimum product mix and the maximum profit per annum.            (7 marks)

*Note: Though, it is mentioned as return per factory hour – it is throughput per bottleneck hr that is given

* For section a) – Remember you are calculating for Procedure C only

* Also for section b) You are doing the ranking as per TPAR

* Nurse, Advisor, Anaesthologist and Surgeon time is limited to 1880 hours

Answer Snapshot:

Part (a)

Part (b)

Optimal Production Plan

Profit Calculation

Finding the Bottleneck (Workings- *Miscellaneous not asked)

Part 1: Throughput and Limiting Factor

Part 2: Throughput and Limiting Factor

Throughput Accounting - TPAR

Throughput Accounting

Calc. of TPAR

Steps:

1. Throughput = S.P – Material cost

2. Throughput/ Bottleneck Hour = Throughput per unit

                                                                    Hours in bottleneck per unit (Hrs per unit)

3. COST per Bottleneck Hour = Total conversion cost

                                                 Tot. time available on bottleneck resource (Tot. Hours)

Total Conversion cost includes ALL THE PRODUCTION COST except the Direct Material COST

i.e. Tot Conv. Cost = Dir. Labour + Dir. Expenses + Indirect (Material, Labour and Expenses)

Conversion costs are the sum of direct labor and manufacturing overheads.

Conversion Costs = Direct Labor + Manufacturing Overheads

Since total manufacturing costs has three components: direct material, direct labor and manufacturing overheads, conversion costs may also be calculated using the following formula:

Conversion Costs = Total Manufacturing Costs – Direct Material

4. TPAR =  2/3

Egsample question:

Calculation of TPAR (Excel Screenshots)

ABC - Excel - Duff Co.

Qusestion 1

Duff Co manufactures three products, X, Y and Z. Demand for products X and Y is relatively elastic whilst demand for product Z is relatively inelastic. Each product uses the same materialsand the same type of direct labour but in different quantities. For many years, the company has been using full absorption costing and absorbing overheads on the basis of direct labour hours. Selling prices are then determined using cost plus pricing. This is common within this industry, with most competitors applying a standard mark-up.

Budgeted production and sales volumes for X, Y and Z for the next year are 20,000 units, 16,000 units and 22 ,000 units respectively.

The budgeted direct costs of the three products are shown below:

Product                                              X                      Y                      Z

$ per unit        $ per unit       $ per unit

Direct materials                                25                    28                    22

Direct labour ($12 per hour)          30                    36                    24

In the next year, Duff Co also expects to incur indirect production costs of $1,377,400, which are analysed as follows:

Cost pools    $	Cost drivers
Machine set up costs          280,000	Number of batches
Material ordering costs      316,000	Number of purchase orders
Machine running costs       420,000	Number of machine hours
General facility costs          361,400 –––––––––– 1,377,400                                            –––––––––– The following additional data relate to each product:	Number of machine hours

Duff Co wants to boost sales revenue in order to increase profits but its capacity to do this is limited because of its use of cost plus pricing and the application of the standard mark-up. The finance director has suggested using activity based costing (ABC) instead of full absorption costing, since this will alter the cost of the products and may therefore enable a different price to be charged.

Required:

(a)                Calculate the budgeted full production cost per unit of each product using Duff Co’s current method of absorption costing. All workings should be to two decimal places. (3  marks )

(b)                Calculate the budgeted full production cost per unit of each product using activity based costing. All workings should be to two decimal places.(11  marks)

Youtube links

Part 1
https://www.youtube.com/watch?v=F1KDwcZm55A

Part 2
https://www.youtube.com/watch?v=CGM6AfZjzf4

Part 3
https://www.youtube.com/watch?v=dwO4pMLTTew

Part 4
https://www.youtube.com/watch?v=ZqYznAs9MU0