Throughput Versus Contribution Margin
Throughput versus Contribution margin
Throughput can be described as the rate at which a business, typically a system generates its outputs – be it products or services. Throughput is one of the important metric for any business and typically, most businesses target on increasing their throughput by adopting various best practices.
Let us consider the example of a system that produces two types of products – P and Q. On an average, about 100 units of P and 50 units of Q are sold every week bearing a selling price of INR 90 and INR 100 respectively. Now, let us have a closer look at the system which is depicted as below.
As depicted in the flow chart, the production set up has 4 machines – A, B, C and D which has different cycle times each. The operational expenses for producing the parts P and Q are INR 6000/week. In order to come up with a decision on which products to produce in what quantities, we can use various approaches. In our case, we restrict ourselves with the – throughput method and the contribution margin method, to determine the optimum mix of the products to be produced in the available time slot of 2400 minutes available every week.
We begin with the contribution method for understanding whether it can be taken as a basis of measurement for taking any decision. In order to do that, we calculate the contribution margin for both the products.
Contribution margin can be calculated as follows,
For P, CM = 90 – (20 – 20 – 5) = INR 45
For Q, CM = 100 – (20 – 20) = INR 60
Now that we have determined the contribution margin for both the products, we go ahead and determine the cycle time required to produce each product. From the above calculation, it is apparent that we have to produce more of the product Q since it has a high contribution margin. So, we proceed with producing all the 50 units of Q that are required for the week.
From the above figure, we can determine the cycle time required for producing a part of P and Q. In order to produce an unit of P, A and B run simultaneously for 15 min each and then the output from A is processed in the machine C for 10 min followed by the output of machine B being processed in the machine C again for another 5 min. Finally, the output from the machine C and a purchased component are processed in yet another machine D for 15 more minutes. The resulting cycle time is 45 minutes with a pitch of 15 minutes.
Similarly, to produce a unit of Q, we start with a unit of RM2 and RM3 processed in machine B and A for 15 min and 10 min respectively. Since these two activities occur simultaneously, a total of 15 minutes is being spent at this stage. The output of machine B is further being processed in machine C for 5 min and at the same time, output from machine