“Account” for the future with Throughput Accounting

Jun 10, 2022 | Business

Profit, profit, profit…it’s on everyone’s mind all the time! Some fabricators have a bunch of spreadsheets running simultaneously to calculate things like cost per acquisition, sales, revenues, net profits, expenses, etc while some keep it all in their noggin (impressive but not recommended as a sustainable business model, officially).

Unfortunately, whether you are using the countless spreadsheets or doing calculations in your head, you are looking at the past. You can easily tell how many countertops you sold last month and how much money you made, but what if you want to make more money this month? How much more will you earn if you sell 10 more countertops than last month? That’s where throughput accounting comes in!

What Is Throughput Accounting?

Throughput accounting (or TA for those who prefer cool acronyms) is an accounting approach that focuses on two factors: cash from sales and truly variable expenses of producing an additional unit. Essentially, it aims to determine how much impact selling one more product will have on your business.

By using throughput accounting, you can find out the actual cost (and profit) of producing 5 countertops versus 55 or even 55,555. It helps manufacturers make better management decisions about how to get the most cash flow out of each incremental unit of production.

How to Calculate Throughput

Your business has fixed expenses. Things like rent or mortgage, insurance, equipment payments, and maintenance are all fixed. These costs typically won’t change even if you go from producing 10 countertops to 50.

These fixed expenses are all calculated into your profit. Remember, sales minus expenses equal profit. But, if you want to produce ten more countertops next month, those fixed expenses won’t change, redistributing the profit margins and messing up all your glorious spreadsheet calculations! 

Since fixed expenses don’t change, throughput accounting takes them out of the equation and focuses only on truly variable expenses.

What are Truly Variable Expenses?

Truly variable expenses (TVE) are costs that do change per job. These are things like raw materials, outsourcing, commissions, etc. Every time you sell another countertop, these costs increase.

1. Calculate Truly Variable Expenses

The first step to calculating throughput is to determine your TVE. It can be a bit tricky, but there is a nifty trick to help you out.

Truly Variable Expenses (TVE) = Total Expenses – Fixed Expenses

Pretend you shut down your shop for a month and didn’t fabricate or sell a single countertop. What would you still have to pay for? These are your fixed expenses.

Then, just subtract your fixed expenses from your total expenses and voila, you have your truly variable expenses!

2. Use the Throughput Equation

Once you have your truly variable expenses, it’s time to figure out the piece of your TVE that can be attributed to each individual job. To do that, subtract your TVE from your total sales. If that sounds like too much accounting and you don’t feel like taking off your shoes, just pop the numbers into the throughput equation:

Throughput ($T) = Sales – Truly Variable Expenses (TVE)

Ready for an example? Let’s say the typical kitchen sale is $5,000 and your truly variable expenses are $3,000 per job. Just subtract the TVE from the sales and you get throughput at $2,000 per job. That means with each additional countertop you sell, you’ll get another $2,000 after all is said and done.

When calculating throughput, you simply ignore pesky details like profit and fixed expenses. Since we’re only looking at a single job, they’re not really important. However, you can use throughput to calculate profit over a period of time.

Calculating Profit Over a Period of Time

While knowing your throughput is great and all, you’re a business owner. You want to know profits! Luckily, throughput can help with that, too.

Net Profit = Throughput ($T) – Operating Expenses

Using this formula, you can easily determine how much profit you’ll make over X number of jobs.

For example, let’s say your throughput is $2,000 per countertop and your operating expenses are $10,000 per month. If you’re wondering how much money you’ll make by producing ten countertops in a month (10 countertops x $2,000), the equation would look something like this:

10($2,000) – $10,000 = $10,000

What if you want to see what producing 12 countertops in a month would look like?

12($2,000) – $10,000 = $14,000

Keep plugging away until you get the numbers you like! You can even use throughput to find break even points in your countertop operation:

Really, is there anything throughput accounting can’t do!?

Benefits of Throughput Accounting for Countertop Manufacturers

Most accounting practices are record-based, meaning they keep track of trends in the past. But how does that help manufacturers who want to figure out future decisions?

The main benefit of throughput accounting for countertop manufacturers is that it answers the big “what if” questions about the future. What if we produce 15 countertops next month instead of 12? Using the calculations, managers can make better decisions about the future and where they want production to go.

The best part of throughput accounting is that you don’t even need to know how many units you’ll sell each month. While there’s still some guesswork involved, throughput accounting is much more accurate than simply taking a guess at how many units you’ll sell. It gives you a target instead of a shot in the dark.

As you saw in the table above, throughput accounting also makes it easy to determine break-even points. Especially if you’re starting up a new process or want to invest in a new piece of machinery (or super awesome software), you can quickly create a throughput table to determine how many units you need to make to actually earn some money.

Applying Throughput to Your Countertop Manufacturing Business

What’s the best way to apply this magic formula to your countertop manufacturing business? The most impactful thing you can do is to maintain detailed spreadsheets about your expenses and profits to help calculate averages. It’s also helpful to use in-depth job management software like Systemize to keep track of your production.

There’s still a decent amount of guesswork that goes into throughput accounting, but the more information you have, the more accurate your calculations will be. It might even take some additional research into your operations to make more accurate estimates—but it’ll definitely be worth the trouble!

Once you have the numbers, start to think about your fixed operating expenses and truly variable expenses for your jobs. These numbers are essential for throughput accounting, and they’re not necessarily easy to find. Do your best and always keep tweaking to make them a little more accurate!