Responsibility Centers
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Transcript of Responsibility Centers
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Instructor: Dr. Zhu ZinanEmail: [email protected]
Office: BIZ1 #7‐24
ACC3602
Managerial Planning and Control
Semester II, AY 2014/15
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Lecture 2 Responsibility Centers
Relevant Chapters:• Merchant and Van der Stede, Management Control Systems:
Performance Measurement, Evaluation, and Incentives, Chapters 7
• Additional reading materials posted in IVLE (2 files)
Learning Objectives:1. Responsibility centers2. Allocation of service department costs: 3 methods3. Allocation of service department costs: dual cost allocation
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1. Financial responsibility centers
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• Results controls Financial results controls• Why are financial results control systems so widely used in practice? (Alternatively, we may ask why we focus on financial results?)– Financial objectives are paramount in for‐profit firms. Managers
of not‐for‐profit organizations, too, must monitor finances closely. (cash flow)
– Financial measures provide a summary measure of performance.
– Most financial measures are relatively precise and objective.– Core financial results control measurement elements are largely
in place.
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1. Financial responsibility centers
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• Financial results control systems have three core elements:– Financial responsibility centers
• The apportioning of accountability for financial results within the organization
– Planning and budgeting • To define performance expectations and standards for evaluating performance
– Motivational contracts (incentive contracts)• To define the links between results and various organizational incentives/rewards
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1. Financial responsibility centers
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• Responsibility center– An organization unit (entity) headed by a manager with responsibility for a particular set of inputs and/or outputs
• Financial responsibility center– A responsibility center in which the manager’s responsibilities are defined primarily in financial terms
– Four basic types: revenue centers, cost centers, profit centers, and investment centers.
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• Managers of revenue centers are held accountable for generating revenues (a financial measure of outputs)– E.g., sales departments in commercial organizations, fundraising
managers in not‐for‐profit organizations• However, most revenue center managers are also held
accountable for some expenses (e.g., salespeople’s salaries and commissions)
• Advantages/disadvantages
1. Financial responsibility centers: Revenue centers
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• Managers of cost (expense) centers are held accountable for expenses (a financial measure of the inputs consumed by the responsibility center)– Standard cost centers (engineered cost centers)
– E.g., manufacturing departments – Inputs and outputs can be measured in monetary terms– There is a ‘causal’ relationship between inputs and outputs
– Discretionary cost centers (managed cost centers)– E.g., R&D departments, human resources departments– Outputs produced are difficult to measure– Relationship between inputs and outputs is hard to establish
1. Financial responsibility centers: Cost centers
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• Standard cost centers (engineered cost centers)– Standard cost vs. actual cost
– Analysis of the cost of inputs that should have been consumed in producing the output vs. the cost that was actually incurred
– Additional controls– Volume produced, quality, etc.
• Discretionary cost centers (managed cost centers)– Ensuring that managers adhere to the budgeted expenses while successfully accomplishing the tasks of their center
– Subjective, non‐financial controls– For example, quality of service provided
1. Financial responsibility centers: Cost centers
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• Managers of profit centers are held accountable for generating profits (a financial measure of the difference between revenues and costs)
• In deciding whether an entity is a profit center, – Does the manager have significant influence over both revenues and costs?
– it is not important to consider– Whether the entity’s goal is to maximize profits– Whether any revenues are generated from outside the
organization
1. Financial responsibility centers: Profit centers
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RevenueCost of goods sold
Gross marginAdvertising + promotion
Research + development
Profit before taxIncome tax
Profit after tax
Gross MarginCenter
IncompleteProfit
Center
Before-taxProfitCenter
CompleteProfit
Center
Note: signifies that the responsibility center manager is held accountable for that financial statement line item.
1. Financial responsibility centers: Profit centers
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• Managers of investment centers are held accountable forthe accounting returns (profits) and the investments madeto generate those returns– E.g., top‐level managers in most organizations– Objective = return on capital– Involve a ratio of the profits earned to the investment capital
used, e.g., ROI– Absolute differences in profits are not meaningful if the various
organizational entities use different amounts of resources• In fact, managers have two performance objectives
– Generate maximum profits from the resources at their disposal– Invest in additional resources only when such an investment will
produce an adequate return
1. Financial responsibility centers: Investment centers
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1. Financial responsibility centers
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• Controllability principle– Employees should be held accountable only for what they control.
• Financial responsibility centers (behavioral angle)– Hold employees accountable for the performance areas that management wants them to pay attention to.
• Examples:– Charging corporate administrative (overhead) costs to segments
– How are these costs allocated?
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2. Allocation of service department costs
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Carry out the central purposes of the organization
Do not directly engage in Operating activities
Operating Departments
Service Departments
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To encourage operating departments to wisely use service department
resources.
To provide operating departments with more complete cost data for making decisions.
To help measure the profitability of operating
departments.
To create an incentive for service
departments to operate efficiently.
Service department costs are charged to operating departments for a variety of reasons including:
2. Allocation of service department costs
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DifficultyService departments may
provide services to each other (interdepartmental or reciprocal services)
MethodsDirect methodStep method
Reciprocal method
2. Allocation of service department costs
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Servicedepartment(Cafeteria)
Service department(Janitorial))
Operatingdepartment(Machining)
Operatingdepartment(Assembly)
Cost of servicesbetween servicedepartments areignored and all
costs areallocated directly
to operatingdepartments.
2. Allocation of service department costs: Direct method
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Direct Method Example
Service department Allocation base
Cafeteria Number of employeesJanitorial Square feet occupied
Service Departments Operating Departments
Cafeteria Janitorial Machining AssemblyDepartmental costs before allocation 250,000$ 160,000$ 100,000$ 60,000$ Number of employees - 20 60 20 Square feet occupied 1,000 - 4,500 4,500
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Direct Method Example
Service Departments Operating Departments
Cafeteria Janitorial Machining AssemblyDepartmental costs before allocation 250,000$ 160,000$ 100,000$ 60,000$
Cafeteria allocation (250,000) 0 187,500 62,500
Janitorial allocation ? ? ? ?
Total after allocation ? ? ? ?
$250,000 ×20
60 + 20 = $62,500
Allocation base: number of employees
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Direct Method Example
Service Departments Operating Departments
Cafeteria Janitorial Machining AssemblyDepartmental costs before allocation 250,000$ 160,000$ 100,000$ 60,000$
Cafeteria allocation (250,000) 0 187,500 62,500
Janitorial allocation 0 (160,000) 80,000 80,000
Total after allocation 0 0 367,500$ 202,500$
$160,000 ×4,500
4,500 + 4,500 = $80,000
Allocation base: square feet occupied
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Service departmentcosts are allocated
to other service departments and
to operatingdepartments, usually
starting with theservice departmentthat provides the
greatest amount ofservice to otherdepartments.
Service department(Cafeteria)
Service department(Janitorial)
Operatingdepartment(Machining)
Operatingdepartment(Assembly)
2. Allocation of service department costs: Step-Down method
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Step Method
Service department(Cafeteria)
Service department(Janitorial)
Operatingdepartment(Machining)
Operatingdepartment(Assembly)
Once a servicedepartment’s costs
are allocated, other service
department costsare not allocated
back to it.
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Step Method
Janitorial willhave a new
total to allocateto operating
departments: itsown costs plus
those costsallocated from
the cafeteria dept.
Service department(Cafeteria)
Service department(Janitorial)
Operatingdepartment(Machining)
Operatingdepartment(Assembly)
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Step Method Example
Service Departments Operating Departments
Cafeteria Janitorial Machining AssemblyDepartmental costs before allocation 250,000$ 160,000$ 100,000$ 60,000$
Cafeteria allocation (250,000) 50,000 150,000 50,000
Janitorial allocation 0 ? ? ?
Total after allocation 0 ? ? ?
$250,000 ×20
20 + 60 + 20 = $50,000
Allocation base: number of employees
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Step Method Example
Service Departments Operating Departments
Cafeteria Janitorial Machining AssemblyDepartmental costs before allocation 250,000$ 160,000$ 100,000$ 60,000$
Cafeteria allocation (250,000) 50,000 150,000 50,000
Janitorial allocation 0 (210,000) ? ?
Total after allocation 0 ? ? ?
New total in Janitorial = $160,000 (original Janitorial cost)plus $50,000 (allocated from Cafeteria).
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Step Method Example
Service Departments Operating Departments
Cafeteria Janitorial Machining AssemblyDepartmental costs before allocation 250,000$ 160,000$ 100,000$ 60,000$
Cafeteria allocation (250,000) 50,000 150,000 50,000
Janitorial allocation 0 (210,000) 105,000 105,000
Total after allocation 0 0 355,000$ 215,000$
$210,000 ×4,500
4,500 + 4,500 = $105,000
Allocation base: square feet occupied
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Recognizes all interactions of
service departments.
The usage of one service departmentby another is used to determine thetotal cost of each
service department.
Servicedepartment(Cafeteria)
Service department(Janitorial)
Operatingdepartment(Machining)
Operatingdepartment(Assembly)
2. Allocation of service department costs: Reciprocal method
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Reciprocal Method Example
Cafeteria Janitorial Machining AssemblyDepartmental costs before allocation 250,000$ 160,000$ 100,000$ 60,000$ Number of employees - 20 60 20 Square feet occupied 1,000 - 4,500 4,500
Cafeteria Janitorial Machining AssemblyAllocation ratios:
Cafeteria --- 0.2 0.6 0.2Janitorial 0.1 --- 0.45 0.45
Proportion of Output Used by
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Reciprocal Method ExampleSpecify a set of equations that express the relationships between the departments.
Cafeteria (CA) = dept. costs + Share of Janitorial’s cost= $250,000 + 0.1 JA (1)
Janitorial (JA) = dept. costs + Share of Cafeteria’s cost= $160,000 + 0.2 CA (2)
Solve for CA and JA,CA (Cafeteria) = $271,429JA (Janitorial) = $214,286
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Reciprocal Method ExampleAllocated to
Machining Assembly
Cafeteria 162,857 54,285
Janitorial 96,429 96,429
Total 259,286$ 150,714$
Total Cost
271,429$
214,286
$271,429 × 0.6
$214,286 × 0.45
$271,429 × 0.2
$214,286 × 0.45
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Comparison of Methods
Direct Method Step Method Reciprocal Method
Machining Assembly Machining Assembly Machining AssemblyDepartmental cost before allocation 100,000$ 60,000$ 100,000$ 60,000$ 100,000$ 60,000$
Cafeteria allocation 187,500 62,500 150,000 50,000 162,857 54,285
Janitorial allocation 80,000 80,000 105,000 105,000 96,429 96,429 Total after allocation 367,500$ 202,500$ 355,000$ 215,000$ 359,286$ 210,714$
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Comparison of Methods
Cost Allocation Accuracy
The Direct method does not consider interactions among service departments.
The Reciprocal method is more thorough in considering interactions among service
departments.
The Step method considers some interactionsamong service departments.
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VariableCosts
Charge to userdepartments at a
budgeted rate timesthe actual usage ofthe allocation base.
FixedCosts
Allocatebudgeted amountsto user departmentsin proportion to the
capacity demanded bythe user department.
3. Allocation of service department costs: Dual cost allocation
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Dual Cost Allocation
Maintenance Dept
Budgeted Costs FY10
Variable $120,000Fixed 360,000Total $480,000
Machine Hours Usage
Normal Budgeted FY10 Actual FY10
Machining 6,000 8,000 7,000 Assembly 4,000 4,000 5,000
Total 10,000 12,000 12,000
Dual Rate: VC: $120,000/12,000 = $10 per MHFC: Machining = $360,000 x 0.6 = $216,000
Assembly= $360,000 x 0.4 = $144,000
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Dual Cost AllocationDual Rate
Machining AssemblyDept Dept
VC allocation: $10×7,000 MH 70,000$ $10×5,000 MH 50,000$ FC allocation 60%x$360,000 216,000 40%x$360,000 144,000 Total cost 286,000$ 194,000$
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End of Lecture 2
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