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LIMITING FACTOR ANALYSIS

Where there are no constraints, produce all products that give profit/contribution. If a constraint exists,

ration the resource available amongst the products that will produce the highest contribution despite

the limitation.

Examiner can test this analysis under:

1. Key factor analysis using contribution per limiting factor

2. Throughput accounting

3. Linear programming

Both 1 and 2 use similar analysis and they will be the object of my discussion.

Using contribution per limiting factor

1. use only when there is a single constraint

2. follow the below steps

a. identify the limiting factor (labour hours, material, etc)

b. cal. contribution per unit

c. cal. contribution per limiting factor (i.e. contribution/labour hour per unit assuming labour is the

limiting factor)

d. rank according to c above

e. allocate resources and determine the optimum production plan.

Throughput accounting

Concept.

1. In the short-run, only direct material costs are variable. Labour and overheads (conversion costs) are

fixed and are grouped together and called Total factory costs. (NB: This is the differentiating factor from

the conventional method above where we assume direct material, direct labour and variable o/hs to be

variable costs)

2. In a JIT environment, goods should only be produced when there is demand for them. This ensures

faster time to market. Producing for inventory does not create sales.

3. Factory spends money when goods are produced. The company makes money when goods are sold.

Overall profitability is determined by the relative rate at which the company makes money and the rate

at which the factory spends money.

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*throughput calls constraint bottleneck resource

*throughput means steady, smooth flow of production.

*a bottleneck resource is that factor that will not allow production to flow without delay.

*In a process, it is the process that will take the longest time that will delay other processes. Other

processes will have to wait for it.

Question 1

The factory has 50 production lines each of which contain the three processes: Raw material for the sheetmetal is first pressed then stretched and finally rolled. The processing capacity varies for each processand the factory manager has provided the following data:

Processing time per metre in hoursProduct A Product B Product C

Pressing 050 050 040Stretching 025 040 025

Rolling 040 025 025

Required:(a) Identify the bottleneck process and briefly explain why this process is described as abottleneck. (adapted from F5 June 2009, Q1) (3 marks)

Solution:You dont have to do any calculation. By observation, you will see that for product A, pressing will take thelongest time and other processes (stretching and rolling) will have to wait. The same thing goes forproduct B and C.

*the process with the lowest output, will be the bottleneck if output is the yardstick.

Format for key factor analysis

PRODUCTS A B C$ $ $ $ $ $

Selling price 400 600 500Variable cost/unitDm 20 30 40dl 10 10 10v. o/hs 15 (45) 15 (45) 20 (70)Contribution/unit (a) 355 555 430Labour hour(key factor)/unit (b) 5hrs 15hrs 10hrsContribution/labour hour(a/b) $71 $37 $43Ranking 1

st 3

rd2

nd

Allocation of available resource (total labour hours)Hours hrs/unit units

Product A 5,000 5 1000Product C 15,000 15 1000Product B (the remaining hrs if any) 2,000 10 200

22,000 2200

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Throughput format

Product A Product B Product CSelling price 700 600 270Raw materials 30 25 18Throughput 670 575 252Bottleneck hours 050 050 040

Throughput per bottleneck hour* (a)1340 1150 630Fixed costs per hour(b) 900 900 900TPAR 149 128 07

Working* 67/05 = 134 575/05 = 115 252/04 = 63.

Decision rule:Any product(s) with throughput accounting ratio (TPAR) of less than 1, do not produce. HERE PRODUCTC.Produce product(s) with TPAR> 1. HERE PRODUCT A AND B.

*Any product with a TPAR1, the rate at which cash is generated from sales is higher than the rate at which the factory isspending money.

*Companies should improve on TPAR