Responsibility Accounting Responsibility Accounting

• The responsibility accounting The responsibility accounting model is defined by 4 essential model is defined by 4 essential elements:-elements:-

– Assigning responsibility Assigning responsibility – Establishing performance measures Establishing performance measures

or benchmarksor benchmarks– Evalutating performance Evalutating performance – Assigning rewards Assigning rewards

Responsibility Responsibility Accounting...Accounting...

Is a system for evaluating the Is a system for evaluating the performance of managers and the performance of managers and the activities they supervise.activities they supervise.

A responsibility center is a part, A responsibility center is a part, segment, or subunit of an segment, or subunit of an organization whose manager is organization whose manager is accountable for specific activities.accountable for specific activities.

3 Types of Responsibility 3 Types of Responsibility AccountingAccounting

-- Functional-basedFunctional-based

-- Activity-basedActivity-based

-- Strategic-basedStrategic-based

FUNCTIONAL - FUNCTIONAL - based Responsibility Accounting based Responsibility Accounting

SystemSystem A functional-based responsibility A functional-based responsibility accounting system assigns accounting system assigns responsibility to organizational units responsibility to organizational units and expresses performance measures and expresses performance measures in financial terms.in financial terms.

It is the responsibility accounting It is the responsibility accounting system that was developed when most system that was developed when most firms were operating in relatively firms were operating in relatively stable environments.stable environments.

Elements of Functional Based Elements of Functional Based Accounting SystemAccounting System

Individualin Charge

OperatingEfficiency

UnitBudgets

StaticStandards

Responsibilityis Defined

OrganizationalUnit

FinancialOutcomes

StandardCosting

CurrentlyAttainable

Performance Measuresare Established

Chapter 1 -Chapter 1 - 66

Performanceis Measured

ControllableCosts

FinancialMeasures

FinancialEfficiency

Actual versusStandard

Individuals are RewardedBased on

Financial Performance

Bonuses

SalaryIncreases

Promotions

ProfitSharing

Elements of a Functional-Based Elements of a Functional-Based Responsibility Accounting Responsibility Accounting

SystemSystem

ACTIVITY-ACTIVITY-based Responsibility Accounting based Responsibility Accounting

SystemSystemAn activity-based responsibility An activity-based responsibility accounting system assigns accounting system assigns responsibility to processes and uses responsibility to processes and uses both financial and nonfinancial both financial and nonfinancial measures of performance.measures of performance.

It is the responsibility accounting It is the responsibility accounting system developed for those firms system developed for those firms operating in continuous improvement operating in continuous improvement environments.environments.

Chapter 1 -Chapter 1 - 88

Responsibilityis Defined

Process

Financial

Team

ValueChain

Performance Measuresare Established

Dynamic

Value-Added

Optimal

ProcessOriented

Elements of an Activity-Based Elements of an Activity-Based Responsibility Accounting Responsibility Accounting

SystemSystem

Chapter 1 -Chapter 1 - 99

Performanceis Measured

QualityImprovement

TrendMeasures

TimeReductions

CostReductions

Individuals are RewardedBased on Multidimensional

Performance

Bonuses

SalaryIncreases

Promotions

Gain-sharing

Elements of an Activity-Based Elements of an Activity-Based Responsibility Accounting Responsibility Accounting

SystemSystem

STRATEGIC-STRATEGIC-Based Responsibility Accounting Based Responsibility Accounting

SystemSystemA strategic-based responsibility accounting system A strategic-based responsibility accounting system (Balanced Scorecard) translates the mission and strategy (Balanced Scorecard) translates the mission and strategy of an organization into operational objectives and of an organization into operational objectives and measures for four different perspectives:measures for four different perspectives:

The financial perspectiveThe financial perspective

The customer perspectiveThe customer perspective

The process perspectiveThe process perspective

The infrastructure (learning and growth) perspectiveThe infrastructure (learning and growth) perspective

Chapter 1 -Chapter 1 - 1111

Responsibilityis Defined

Customer

Infrastructure

Financial

Process

Performance Measuresare Established

BalancedMeasures

Link toStrategy

CommunicateStrategy

Alignment ofObjectives

Elements of a Strategic-Based Elements of a Strategic-Based Responsibility Accounting Responsibility Accounting

SystemSystem

Chapter 1 -Chapter 1 - 1212

Performanceis Measured

CustomerMeasures

InfrastructureMeasures

FinancialMeasures

ProcessMeasures

Individuals are RewardedBased on Multidimensional

Performance

Bonuses

SalaryIncreases

Promotions

Gain-sharing

Elements of a Strategic-Based Elements of a Strategic-Based Responsibility Accounting Responsibility Accounting

SystemSystem

Investment center(investments, revenues & costs)

Cost center(costs/expenses)

Revenue center(revenues)

Profit center(revenues & costs)

Responsibility Responsibility CenterCenter

Responsibility Responsibility CenterCenter

Responsibility Responsibility CenterCenter

Cost or Expense CenterCost or Expense Center** Basically this can be divided into 2 types Basically this can be divided into 2 types

-- ImpersonalImpersonal-- PersonalPersonal

** Purpose behind set of thisPurpose behind set of this

-- Recovery of CostsRecovery of Costs

-- Control of CostsControl of Costs

Cost UnitsCost UnitsProduction or Service

Cost Unit Production or Service

Automobile Per. Unit Produced Production

Breweries Bottles of Production

Production

Cable Meters of cables produced

Production

Hotel Per guest room occupied

Service

Power & Electricity Kilowatts of power generated/transmitted

Service

Revenue Center

- When any manager is responsible for income of his department and at the same time he/she is not responsible for any kind of Expenses involved then said center is said to be revenue center

For exp. Sales depart can be said as revenue centewr forwhole organisation, as it is concerned only with revenues.

PROFIT CENTER

Profit Excess of income over expense for a specific period is called profit.

Profit CenterFurther a profit center can be defined as specific unit or department in an organization which deals in specific product. While an organisation is dealing in multiple products, with a condition that that specific unit or department is making profit.

For Exp. Honda (India)'s Activa manufacturing unit can be said as profit center as it is one of the most profit earning unit for Honda (India).

-PROFIT CENTER(advantages)-It measures effectiveness and efficency of the manager.- Representative of index of performance level-Motivate to optimize the output-Serve as a good training ground-Better performance than cost centre-

PROFIT CENTER

Limitations-It increase in work and record keeping-It increase in cost of operating the system-It results in conflict-Disagreement exists

PROFIT CENTER

Transfer Pricing

When divisions transfer products or render services to each other, a transfer pricing used to charge for the products or services.

I) Cost Based MethodFull Cost PricingMarginal Costing Total Cost-plus Pricing

II)Market – Based Pricing MethodMarket Pricing MethodNegotiated Pricing

PROFIT CENTER

It can also be measured in ROI

Income of the investment centerROI = -----------------------------------------

Assets of the investment center

INVESTMENT CENTRE

It's a profit centre in which imports are expenses and output are revenue and in which assets employed are also measured.

Managers are accounatable for production and sales decision along with investment decision.

Advantages- Useful tool to mgmt control- Helps in evaluating the performance of divisional manager- Helps the top-mgmt to determine the objectives of organization

and to prepare realistic targets- Decision making is delegated to centers managers so it helps in

DECENTRALISATION.- Cost consciousness among devisional managers- Improves the over all Efficiency of business- It leads to improve efficiency in yet another way- Motivating technique for Divisional managers

Limitations- If top-mgmt doesn’t support the system heartily, it will fail.- If the organization structure is not properly organized there

would be imbalance in delegation of AUTHORITY and RESPONSIBILITY.

- The targets fixed must be REALISTIC.- Defective reporting system will have adverse reflection, not

presenting reports on time will discourage the operating managers.

IF BUDGETING INCLUDED IF BUDGETING INCLUDED THEN ONLY REQUIREDTHEN ONLY REQUIRED

Management by Management by ExceptionExceptionPerformance reports show Performance reports show

differences between budgeted and differences between budgeted and actual amounts.actual amounts.

Management by exception is the Management by exception is the practice of focusing on important practice of focusing on important variances so that managers can variances so that managers can direct their attention to areas that direct their attention to areas that need improvement.need improvement.

JUST AN EXAMPLEJUST AN EXAMPLEManagement by Management by

ExceptionExceptionPlantation Sporting Goods Store No. 13Monthly Responsibility Report (Budget)

Month YTDRevenues $50,000 $388,000Cost of goods sold 35,000 271,600Wages 6,700 51,992Repairs 2,000 15,520General 1,300 10,088Fixed costs 4,000 28,000Operating income $ 1,000 $ 10,800

Management by Management by ExceptionException

Plantation Sporting Goods Store No. 13Monthly Responsibility Report (Actual)

Month YTDRevenues $55,000 $408,000Cost of goods sold 37,400 277,440Wages 7,370 54,672Repairs 550 8,160General 900 8,160Fixed costs 4,000 28,000Operating income $ 4,780 $ 31,568

Management by Management by ExceptionException

Plantation Sporting Goods Store No. 13July 20xx, Responsibility Report

Budget Actual Variance (F/U)Revenues $50,000 $55,000 $5,000 (F)Cost of goods sold 35,000 37,400 2,400 (U)Wages 6,700 7,370 670 (U)Repairs 2,000 550 1,450 (F)General 1,300 900 400 (F)Fixed costs 4,000 4,000 --- Operating income $ 1,000 $ 4,780 $3,780 (F)

Management by Management by ExceptionException

J.J., manager of Plantation J.J., manager of Plantation Sporting Goods Store No. 13, will Sporting Goods Store No. 13, will investigate why cost of goods sold investigate why cost of goods sold and wages were more than and wages were more than budgeted.budgeted.

ReviewReviewPurpose & benefits of budgetingPurpose & benefits of budgetingMaster BudgetMaster Budget

Operating BudgetOperating BudgetCapital Expenditures BudgetCapital Expenditures BudgetFinancial BudgetFinancial Budget

Sensitivity AnalysisSensitivity AnalysisResponsibility Accounting & Responsibility Accounting &

Responsibility CentersResponsibility Centers

Departmental Departmental AccountingAccounting

AppendixAppendix

Allocation of Indirect CostsAllocation of Indirect Costs

Indirect costs are allocated to Indirect costs are allocated to departments or responsibility departments or responsibility centers using the following steps:centers using the following steps:

1 Choose an allocation base for the Choose an allocation base for the indirect cost.indirect cost.

2 Compute an indirect cost allocation Compute an indirect cost allocation rate.rate.

3 Allocate the indirect cost.Allocate the indirect cost.

Choose an Allocation Choose an Allocation BaseBase

Cost or Expense BasisIndirect labor Time spentBuilding depreciation Square feetHeat, lights, etc. Square feetJanitorial services Square feetPayroll and personnel # of employeesPurchasing # of purchase orders placed

Choose an Allocation Choose an Allocation BaseBase

Let’s consider the Healthy Clinic, a Let’s consider the Healthy Clinic, a provider of Ear, Nose, and Throat provider of Ear, Nose, and Throat (ENT) plus Audiology services.(ENT) plus Audiology services.

Rent for the year is $120,000.Rent for the year is $120,000.Total square footage occupied by the Total square footage occupied by the

clinic is 12,000.clinic is 12,000.What is the rent per square foot?What is the rent per square foot?$120,000 ÷ 12,000 = $10$120,000 ÷ 12,000 = $10

Compute a Cost Compute a Cost Allocation RateAllocation Rate

Other expenses amounted to Other expenses amounted to $100,000 and are allocated on the $100,000 and are allocated on the basis of professional services basis of professional services expenses.expenses.

Total professional services expenses Total professional services expenses amounted to $250,000.amounted to $250,000.

ENT accounted for $175,000 of these ENT accounted for $175,000 of these expenses and Audiology for $75,000.expenses and Audiology for $75,000.

Compute a Cost Compute a Cost Allocation RateAllocation Rate

What is the allocation rate?What is the allocation rate?$100,000 ÷ $250,000 = 40%$100,000 ÷ $250,000 = 40%40% of what?40% of what?40% of professional services 40% of professional services

expenses.expenses.

Allocate the Indirect Allocate the Indirect CostCost

ENT occupies 9,000 square feet.ENT occupies 9,000 square feet.How much rent is allocated to ENT?How much rent is allocated to ENT?9,000 9,000 ×× $10 = $90,000 $10 = $90,000How much rent is allocated to How much rent is allocated to

Audiology?Audiology?12,000 – 9,000 = 3,000 square feet12,000 – 9,000 = 3,000 square feet3,000 3,000 ×× $10 = $30,000 $10 = $30,000

Allocate the Indirect Allocate the Indirect CostCost

How much of the “other expenses” How much of the “other expenses” are allocated to ENT?are allocated to ENT?

$175,000 $175,000 ×× 40% = $70,000 40% = $70,000How much to Audiology?How much to Audiology?$75,000 $75,000 ×× 40% = $30,000 40% = $30,000

Evaluate Evaluate PerformancePerformance

Healthy ClinicDepartmental Partial Income Statement

For the Year Ended December 31, 20xx (in thousands)

Total ENT AudiologyService revenue $500 $350 $150Professional services 250 175 75Margin $250 $175 $ 75Rent expense 120 90 30Other 100 70 30Operating income $ 30 $ 15 $ 15

Evaluate Evaluate PerformancePerformance

ENT generates a professional margin ENT generates a professional margin of $175,000 compared to $75,000 by of $175,000 compared to $75,000 by Audiology.Audiology.

However, the margin per square foot However, the margin per square foot is $175,000 ÷ 9,000 = $19.44 for is $175,000 ÷ 9,000 = $19.44 for ENT and $75,000 ÷ 3,000 = $25.00 ENT and $75,000 ÷ 3,000 = $25.00 for Audiology.for Audiology.