Chapter 2

Theory of Constraints (Bottleneck of Production)

An example explaining the meaning of Bottleneck
A product passes through three processes A, B and C. Each unit of the product requires 7 hours, 9 hours and
6 hours per unit of machine time in processes A, B and C respectively. Total capacities available in the 3
processes are as below:
Process A 1,31,600 hours
Process B 1,58,400 hours
Process C 1,27,200 hours
You are required to ascertain the maximum possible production of the finished product and also identify the
bottleneck of production.
After you have answered the above example consider the following important matters:

Important points:
1. The process or department identified as bottleneck will work at 100% capacity utilisation where else
other departments or processes will not utilize their 100% capacities.
2. The processes or departments other than bottleneck will be having idle capacities.
3. The machine hours or labour hours in the bottleneck department will be considered as limiting factor or
key factor in situations of multiple products. In other words while deciding the profitability of multiple
products the capacity of bottleneck department shall be considered as limiting factor and the multiple
products shall be ranked for production on the basis of contribution per hour of capacity of bottleneck
department.

Different alternatives to handle situations of Bottleneck:

1. Hire out the idle capacities of departments other than bottleneck.
2. Expand the capacity of bottleneck department.
3. Outsource the work to be done by bottleneck department. In the other words the work done by
bottleneck department can be subcontracted to outside parties for handling the shortage of machine
capacity in Bottleneck department.
4.

To restrict the production to the extent of available capacity. (Status-Quo)

Q. 1.

Write a brief note on Optimized Production Technology (OPT) and Throughput Accounting (TA).

Ans.

1.

Goldratt and Core advocated a new approach to production management called Optimised
Production Technology (OPT).

2.

OPT is based on the principle that profits are expanded by increasing the throughput of the
plant i.e. rate at which raw material are turned into sales.

3.

The OPT approach determines what prevents throughput being higher by distinguishing
between (a) Bottleneck and (b) Non-Bottleneck Resources.

4.

This approach advocates that bottleneck resources/ activities should be fully utilized while
non-bottleneck resources / activities should not be utilized to 100% of their capacity since it
would result in increase in inventory.

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5.

The most widely recognized management accounting system developed for this purpose is
known as Throughput Accounting (TA).

Q.2.
Ans

Explain the Theory of Constraints (TOC) advocated by Goldratt.

1.
TOC focuses its attention on constraints and bottlenecks within the Firm that hinder speedy
production. The main concept is to maximize the rate of manufacturing output i.e. the
Throughput of the Firm.
2.
This requires examination of the bottlenecks and constraints, which are defined as under
(a) Bottleneck: It is an activity within the Firm where the demand for that resources is
more than its capacity to supply
(b) Constraints:
It is a situational factor, which makes the achievement of
objectives/throughput more difficult than it would otherwise be, e.g lack of skilled
employees, lack of customer orders or the need to achieve a high level of quality in
product output.
3.
Relationship between Constrain and Bottleneck: A bottleneck is always a constraint but a
constraint need not be a bottleneck. For example, let the major constraint be meeting the
delivery schedule for customer orders. The bottleneck in such a case may be certain machine
in the factory.
4.
Throughout is thus related directly to the ability to cope with the constraint and to manage
the bottleneck. This focus on throughput forced management to examine both the constraints
and the bottleneck in order to increase throughput.
5.
Operations of TOC: The main aim of TOC is to increase throughput contribution. This can be
done by techniques such as
(a) Linear programming for allocating the optimum use of bottleneck resources
(b) Use of shadow prices for decision-making; and
(c) Variance analysis using Activity Based Costing Techniques.
Thus, theory of constraint attempts to do the following
Objective: Maximise Throughput Contribution (i.e. Sales Revenue Less Direct Materials)
Constraints: Subject to (i) Production Capacity (Supply Constraints) and
(ii) Sales Demand (Demand Constraints)

Q.3
Ans.

What are the key measures advocated by the Theory of Constraints (TOC)?
TOC focuses on revenue and cost management when faced with bottleneck. It advocates the use of
three key measures, viz.
1.
2.

3.

Q.4.
Ans.

Throughput Contribution: It is the rate at which the system generates profits through sales. It
is defined as Sales Revenues Less Variable Costs.
Investments (Inventory): It is equal to the sum of Material Cost of Direct Materials Inventory,
Work-in-Progress and Finished Goods Inventory; R & D Costs and the costs of Equipment and
Buildings.
Other Operating Costs: It is equal to all operating costs (other than Direct Materials) incurred
to earn Throughput Contribution. Other Operating Costs includes Salaries and Wages, Rent,
Utilities, and Depreciation.

What are the key steps in managing bottleneck resource?

TOC describes the process of identifying and taking steps to remove the bottlenecks that restrict
output. It considers short-run time horizons and assumes other current operating costing to be fixed
costs. The key steps in managing bottlenecks resources are
1.

Identify System Bottlenecks: This involves identification of constraints, which restrict output
from being expanded / increased.

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2.

Describe how to exploit the bottleneck: Only the bottleneck can restrict or enhance the flow
of products. So it is essential to ensure that the bottleneck activity is fully utilized. Decision on
the optimum-mix of products to be produced by the bottleneck activity, must be made.

3.

Sub-ordinate decision: Optimum Production plan of bottleneck activity will determine the
production schedule of the non-bottleneck activities.
Example: A product requires multiple parts processed on different machines. Some operations
cannot be started until parts from previous operations are available. This results in waiting
time as under
(a)

Parts that require processing at a bottleneck machine must wait in line until the
bottleneck machine is free.

(b)

Parts made on non-bottleneck machines must wait until parts coming off the bottleneck
machines arrive.

Hence, the workers of non-bottleneck machines should not be motivated to improve their
productivity if the additional output cannot be processed by bottleneck machine. Producing
more of non-bottleneck output, results into increase in WIP inventories but, no increase in
sales volume; so, the preferred course of action is that bottleneck machine should set up the
pace for non-bottleneck machine.
4.

Bottleneck Removal or Improvement: This involves either of two actions (d)

Remove the bottleneck: e.g. replacing a bottleneck machine with a faster one. If the
bottleneck activity has been replaced by a new bottleneck activity it is necessary to
return to Step 1 and repeat the process.

(e)

Increase bottleneck efficiency and capacity: This might involve providing additional
training for a slow worker or changing the product design to reduce the processing time
required by a bottleneck activity.

Q.5.

(Bottleneck Basic)
X Ltd. has three departments A, B and C through which a product passes through. Each unit of the
product requires 3 hours, 4 hours and 6 hours per unit of machine time in department A, B and C.
respectively. Total capacities available in the 3 departments are as below:
Department A 60,000 hours
Department B 72,000 hours
Department C 1,18,800 hours
You are required to ascertain the maximum possible production of the finished product and also
identify the bottleneck of production.

Q.6.

(Hiring out the idle capacity)

AB Ltd manufactures product X. The company operates a single shift of 8 hours for 300 days in a
year. The capital employed in the business is ` 18 crores.
The manufacturing operations of the company comprise of four production departments. The
company at present produces 9,000 units of product X at maximum capacity. However the capacity
utilization of all the four departments are not equal and the present individual capacity utilizations
are as under:
Department
A
B
C
D

Capacity Utilisation %
75
100
70
50

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The present return on capital of the company has gone down to 10% from the earlier cut off rate of
15% due to increased cost of production. As the company cannot operate more than one shift; the
management is considering two alternative proposals to increase the return on capital employed.
Alternative I
To hire out the surplus capacity of departments A, C and D. The cost and revenue projections are as
under:
Department
Hire Charges per Hour
Incremental Cost per Hour
`
`
A
2,500
2,000
C
1,800
1,500
D
1,600
1,200
Alternative II
To increase the installed capacity of the factory to 12,000 units by adding plant and machinery in
department B at a capital cost of ` 4 crore. Any balance surplus capacity in other departments after
meeting the increased volume to be hired out as per alternative 1. The additional units would fetch
an incremental revenue of ` 1,600 per unit.
You are required to evaluate the two proposals and suggest to the management, which of the two
proposals is to be accepted
(May 2000)
Q.7.

(Bottleneck Multi Products) ZED Ltd. manufactures two products P and Q and sells them at ` 215
and ` 320 per unit respectively. The variable costs per unit are as under:
Particulars
Raw materials:
Material X
Material Y
Direct wages (` 6 per labour hour):
Department A
Department B
Department C
Department D
Variable Overheads

Product - P

Product - Q

22.00
8.00

28.00
32.00

36.00
18.00
54.00

54.00
36.00

23.00

72.00
14.30

The company procures raw materials against import license. The company operates at single shift a
day of 8 hours for 300 days in a year. The numbers of workmen engaged are 30, 16, 18 and 24 in
departments A, B, C and D respectively. Neither the workers are subject to transfer from one
department to another nor is any new recruitment possible at present. Fixed costs are ` 12,000 per
month.
You are required to find out the following:
(a) The product-mix to yield maximum profit.
(b) The most profitable product if only one product is to be manufactured. Whether answer will
differ if license to import raw materials is released only for ` 1,80,000.
(Nov 1996)
Q.8.

(Sub Contracting) A company manufactures two products P and Q. Both the products pass through
the companys two departments A and B. The market demand for a month is 2,500 units of P and
2,000 units of Q. The company has a normal capacity of 600 hours in department A and 520 hours in
department B per month. Overtime is acceptable upto 50% of normal hours in each department. The
details relating to the products are as under:

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Products
P
10
18,000

Direct material cost per unit

Fixed overheads per month

Q
5
6,400

Departments
A
B
Direct labour time per unit (Minutes)
Product: P
6
12
Q
18
12
Direct wage rate per hour
Normal time
`
10
12
Overtime
`
15
18
In the event of the company not being able to fulfill the demand for want of capacity, the balance
quantity of the products can be sold by buying from a sub-contractor, who has agreed to supply
product P at ` 18 and product Q at ` 12 per unit.
Required:
1. Calculate the quantity of each product to be manufactured and/ or to be sub-contracted in a
most economical way of fulfilling the market demand
2. Present a statement showing the total costs involved in your solution (i) above.
(May 2001)
Q. 9.

(Sub Contracting) A company manufactures two products EXE and WYE, which pass through two of
its departments exclusively used for them. A market research study conducted by the company
reveals that the company can sell either 38,500 units of EXE or 31,500 units of WYE in a year. The
manufacturing cost and selling price details are as under:
EXE
`

WYE
`

Selling price per unit

375
540
Costs per unit:
Department 1 :
Direct materials
58
100
Direct labour
5 hour
50
7.5 hour
75
Department 2 :
Direct materials
21
26
Direct labour
7.5 hour
90 10 hours
120
Overheads :
Department 1
Department 2
Variable overhead rate per direct labour hour
` 2.40
` 3.60
Fixed overheads
` 5,00,000
` 10,00,000
Budgeted direct labour hours
1,75,000
2,80,000
Since the quantity which can be sold exceeded the production capacity, the company has been
considering the use of sub-contracting production facilities. Accordingly, when tenders were floated,
two contractors responded as under:
Contractor DS offers to produce upto a maximum of 17,500 units of EXE or 14,000 units of WYE in a
year for the type of work done by department 1 of the company. The price charged by DS is ` 138
per unit of EXE and ` 212 per unit of WYE. These prices included the cost of direct materials used in
department 1 of the company.

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Contractor DW can produce upto a maximum of 11,200 units of EXE or 7,000 units of WYE in a year
for the type of work done by department 2 of the company. The price charged by DW is ` 150 per
unit of EXE and ` 192 per unit of WYE. These prices included the cost of direct materials used in
department 2 of the company.
Required:
1. If the company does not wish to use the sub-contracting facility, which of the two products and
in what quantity should be produced and sold by the company by using its own manufacturing
capacity to earn maximum profit? Calculate the resultant maximum profit.
2. If the company wishes to produce either 38,500 units of EXE or 31,500 units of WYE by using
sub-contracting facility, state which of the two products should be produced to maximize the
profits. Calculate the resultant maximum profit?
(May 2003)

Practice Section
Q. 10. A Company manufactures two products X and Y. Companys fixed cost per annum is ` 5 lacs.
These products are sold for ` 288 per unit of X and ` 432 per unit of Y. Standard cost data are:

Direct Raw Material

Direct wages ` 8 per hour in Departments:
1
2
3
4
Variable overhead

Product X

Product Y

40

80

48
24
72
32

72
48
96
28

The Company operates 8 hours shift for 300 days in a year. Number of workers engaged by each
department is given below:
Department
No. of Workers

1
45

2
24

3
27

4
36

Required:
1. How many units of each product should be manufactured and what is the resultant maximum
profit, if numbers of employees cannot be increased or transferred?
2. If only one product is to be manufactured by the Company, which of the products would give the
maximum profit and what is the amount of such profit ?
(May 06, 11 Marks)
Q. 11. Vikram Ltd. produces 4 products using 3 different machines. Machine capacity is limited to 3,000
hours for each machine. The following information is available for February, 2009:
Products
A
B
C
D
Contribution (Sales-direct material) `
1,500
1,200
1,000
600
Machine Hours Required/Unit:
Machine 1
10
6
2
1
Machine 2
10
9
3
1.5
Machine 3
10
3
1
0.5
Estimated Demand (units)
200
200
200
200

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From the above information you are required to identify the bottleneck activity and allocate the
machine time.
(June 09, 7 Marks)
Q. 12. A company produces three products A, B and C. The following information is available for a period:
A
B
C
Contribution
30
25
15
(` per unit)
(Sales Direct materials)
Machine hours required per unit of production:
Hours
B

A
Machine 1
Machine 2
Machine 3

10
15
5

2
3
1

C
4
6
2

Throughput
accounting ratio
133.33%
200%
66.67%

Estimated sales demand for A, B and C are 500 units each and machine capacity is limited to 6,000
hours for each machine.
You are required to analyse the above information and apply theory of constraints process to
remove the constraints.
How many units of each product will be made?
(Nov 08, 5 Marks)

Q. 13. H. Ltd. manufactures three products. The material cost, selling price and bottleneck resources details
per unit are as follows:
Product X
Product Y
Product Z
Selling Price (`)
66
75
90
Material and other variable cost (`)
24
30
40
Bottleneck resource time (minutes)
15
15
20
Budgeted factory costs for the period are ` 2,21,600. The bottleneck resources time available is
75,120 minutes per period.
Required:
1. Company adopted throughput accounting and products are ranked accordingly to product
return per minute. Select the highest rank product.
2. Calculate throughput accounting ratio and comment on it.
(Nov 2010, 5 Marks)

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