abc vs toc

Topics: Cost accounting, Economics, Costs Pages: 47 (8621 words) Published: November 30, 2013
Int. J. Production Economics 63 (2000) 1}17

A comparative analysis of utilizing activity-based costing and the theory of constraints for making product-mix decisions
Robert Kee*, Charles Schmidt
University of Alabama, Culverhouse School of Accountancy, Tuscaloosa, AL 35487-0220, USA Received 3 July 1997; accepted 6 September 1998

Activity-based costing (ABC) and the theory of constraints (TOC) represent alternative paradigms for evaluating the economic consequences of production-related decisions. However, their application can lead to contradictory productmix decisions. To resolve this con#ict, it is frequently suggested that the TOC is appropriate for the short run, while ABC is appropriate for the longer term. This paper models the selection of a product mix with the TOC and an ABC model integrating activity-based cost with the capacity of production-related activities. The paper demonstrates that management's discretionary power over labor and overhead resources determines when the TOC and ABC lead to optimal product-mix decision. Equally important, it demonstrates that both the TOC and ABC may lead to a suboptimal product mix across a wide range of economic conditions. The paper develops a more general model of the product-mix decision and demonstrates that the TOC and ABC are special cases of this model. Finally, the paper discusses how the general model may be used to supplement information provided by the TOC and ABC. 2000 Elsevier Science B.V.

All rights reserved.
Keywords: Activity-based cost; Theory of constraints; Product-mix decision

1. Introduction
Activity-based costing (ABC) and the theory of
constraints (TOC) represent alternative paradigms
to traditional cost-based accounting systems. Both
paradigms are designed to overcome limitations of
traditional cost-based systems and, thereby, provide more relevant information for evaluating the

* Corresponding author. Tel. #1-205-348-2909; fax: #1205-348-8453. E-mail address: (R. Kee)

economic consequences of resource-allocation decisions. While their objectives are similar, the means used to achieve these objectives di!er signi"cantly. ABC models the causal relationship between products and the resources used in their production. This enables ABC to provide more

accurate product-cost information for evaluating
the pro"tability of the "rm's product lines and
customer base [1]. Conversely, the TOC represents
an application of general systems theory for optimizing production. It uses the most constrained of the "rm's activities to guide production and process
improvement decisions. Firms adopting the TOC

0925-5273/00/$ - see front matter
2000 Elsevier Science B.V. All rights reserved.
PII: S 0 9 2 5 - 5 2 7 3 ( 9 9 ) 0 0 0 0 5 - 5


R. Kee, C. Schmidt / Int. J. Production Economics 63 (2000) 1}17

indicate that it has aided in reducing lead time,
cycle time, and inventory, while improving productivity and quality [2]. One of the questions confronting many managers today is deciding which paradigm to select for production-related decisions. Studies comparing

the decision usefulness of ABC and the TOC are
contradictory. Low [3] and Spoede et al. [4], using
numerical examples, illustrate that the TOC leads
to a more pro"table product mix than ABC. Low
([3], p. 36) noted that the `activity-based cost allocation procedure was a great deal more complex than traditional costing procedures, but it was not
particularly helpful in a strategic sensea. Kee [5],
using a similar example, illustrates that an ABC
model integrating the cost and capacity of production activities outperforms the TOC. The generalizability of these studies is limited due to their use of numerical examples to illustrate the relationship between the TOC and ABC. Consequently, more rigorous analysis is needed to assess the generalizability of the Low [3], Spoede et al. [4], and Kee [5] studies

and to reconcile their contradictory...

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[3] J. Low, Do we really need product costs? The theory of
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[5] R. Kee, Integrating activity-based costing with the theory
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(1993) 50}56.
R. Kee, C. Schmidt / Int. J. Production Economics 63 (2000) 1}17
[8] J
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[15] E. Goldratt, What Is This Thing Called Theory of Constraints and How Should It Be Implemented?, North River
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[16] E. Goldratt, The Haystack Syndrome Sifting Information
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[17] E. Goldratt, R. Fox, The Race, North River Press,
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[19] G. Plenert, Optimizing theory of constraints when multiple constrained resources exist, European Journal of
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