Fall 2002

Theory of Constraints Enhances Performance

Bottlenecks are useful on bottles, but in manufacturing, reducing flow reduces profit. Finding and fixing bottlenecks is at the heart of the theory of constraints, a management philosophy that views business operations in terms of factors that limit performance.

TOC, as the theory is known, grew out of the writings of Eliyahu M. Goldratt, whose 1984 novel, The Goal, presented the story of a factory manager struggling to improve performance dramatically in time to avoid a threatened shutdown. Reaching his goal, the hero finds, depends on identifying what is holding him back — the constraint to success — and finding a way to turn the constraint into an advantage.

A Single Key to Improvement

Unlike management improvement techniques that attempt to upgrade performance across the enterprise, TOC concentrates on breaking a single production roadblock. In fact, TOC advocates believe that to improve processes throughout the enterprise actually can be counterproductive if the area of constraint remains unchanged. Like a traffic plan that feeds increasing numbers of vehicles onto a congested highway, improving production across the board makes matters worse by increasing stress at the constraint point.

For example, a manufacturer unable to obtain key parts or supplies would increase its costs, not its profits, with the waste that would come with improved sales, warehouse, or delivery capacity. Either the required supplies need to be found or the product line needs to be modified to align with available resources.

Equipment, Labor, Processes

Constraints in manufacturing often involve equipment or skilled labor. Identifying constraints is an organized way of asking a simple question: “What is keeping us from making more money?”

TOC efforts usually begin with an assessment conducted with the guidance of a consultant trained to examine the interdependency of business processes. Analysis is often framed in the specialized vocabulary developed to understand the logical processes of cause and effect and to identify necessary remedies. The distinctive TOC terminology stretches to seven pages and includes such terms as the current reality tree, the evaporating cloud, the future reality tree, and the prerequisite tree.

Operational Measurements

Once the constraint has been pegged and a strategy has been devised to deal with it, progress is monitored by measuring throughput, operating expense, and inventory. Throughput is defined as sales revenue minus the cost of raw materials. Labor costs are considered a part of operating expense, which includes everything spent on turning inventory into throughput.

Inventory encompasses the manufacturing system’s total investment, including buildings, land, and other items traditionally considered depreciable assets. Formulas expressing the relationship of throughput, operating expense, and inventory are used to determine net profit, return on investment, productivity, and turnover.

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The articles in this newsletter are general in nature and are not a substitute for accounting, legal, or other professional services. We assume no liability for the reader's reliance on this information. Before implementing any of the ideas contained in this publication, consult a professional advisor to determine whether they apply to your unique circumstances.

© 2002