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Responsibility Center
A responsibility center is an organization unit that is headed by a manager who is responsible for its activities. A company is a collection of responsibility centers, each of which is represented by a box on the organization chart. These responsibility form a hierarchy. From the standpoint of senior management and the board of directors, the entire company is a responsibility center, though the term is usually used to units within the company.
In an Organization
Responsibility center receive inputs, in the form of materials, labor and services. Using working capital (e.g., inventory, receivables), equipment and other assets, the responsibility center performs its particular function with the ultimate objective of transforming its input into output. The products produced by a responsibility center may be furnished either to another responsibility center, where they are inputs, or to the outside market place, where they are outputs of the organization as a whole.
Let us suppose that each terminal is treated as a responsibility center. How should the company measure the performance of each terminal, its mangers, and its employees?
Measuring outputs
Measuring outputs is more difficult. This is because: Input may be extended this year but outputs (benefits) may be received over several years (e.g. employee training). It would be difficult to make the causal relationship e.g. marketing expenses, IT investments, accountants and generation of revenue and profits.
Efficiency
Efficiency is generally measured by comparing actual costs to standard costs. Ratio of outputs to inputs, or the amount of output per unit of input. Issues:
Standard costs do not remain stationery. Recorded costs are often different from actual resources (costs) consumption.
Lesson: Establishing a responsibility center is easy; Measuring its efficiency in a reasonable manner is difficult.
Effectiveness
Relationship between a responsibility center s output and its objectives (what it was intended to do or perform or deliver). If the output contributes to satisfying the objectives, the more effective it is. The new advertising and marketing efforts has increased awareness and recognition of our product. Advertising and marketing has been effective.
Role of Profit
The goal of every for-profit organization is earn profits (effectiveness). If the organization could use the least input to get the maximum earnings, profits will be high (efficiency). Therefore, profit is an indicator of both efficiency and effectiveness. However, not every unit within an organization earns profit and therefore, this measure cannot be used for all responsibility centers. Therefore, an organization must establish various types of responsibility centers.
Revenue Centers
Responsibility Centers whose members control revenues but, Not the manufacturing or acquisition cost of the products or service they sell, or the level of investment in the responsibility center. In other words, you cannot link the input to the output.
Expense/Cost Centers
Responsibility centers whose employees control costs, but Do not control their revenues or investment level. Input are measured in monetary terms, but whose output are not Examples: Production department in a manufacturing unit, a dry cleaning business Two types of costs:
Engineered: those costs that can be reasonably associated with a cost center direct labor, direct materials, telephone/electricity consumed, office supplies. Discretionary: where a direct relationship between a cost unit and expenses cannot be reasonably made; Management allocates them on a discretionary basis (e.g. depreciation expenses for machines utilized).
Engineered costs
Should be measurable in monetary terms, outputs in physical quantities. Works well in units such as production, distribution, accounting receivables, payables where repetitive tasks are performed. Developing standard costs for such activities is more reliable than in other cases. Multiply standard cost per unit x no. of units produced or processed = this is the ideal cost. Compare it to actual costs and the difference is indicative of efficiency or lack thereof.
Engineered costs Important to remember The fundamental purpose of all responsibility centers is accountability; evaluating performance. And a engineered cost center, Does not merely compare costs but also Holds the managers accountable for obtaining/producing right quality of product Volume of production, speed of processing.
Discretionary costs
Mostly administrative and support service costs More difficult to measure in physical quantities or precisely on monetary terms (e.g. customer relations or even R & D). Discretionary means, management allocates them based on established polices (not arbitrarily). More caution is required while using discretion cost numbers. Difference between budgeted expenses and actual expenses does not indicate efficiency. Suppose if the actual cost is less than budget, does it mean good or bad? Suppose if the actual cost is higher than budget, does it mean good or bad?
Profit Centers
When a responsibility center s financial performance is measured in terms of profit (i.e., by the difference between the revenues and expenses), the center is called as profit center. A functional organization is one in which each principal manufacturing or marketing function is performed by a separate organization unit. When such an organization is converted to one in which each major unit is responsible for both the manufacture and the marketing, the process is termed divisionalization.
Investment Centers
Responsibility centers whose managers and employees control revenues, costs, and the level of investment. It is also like an independent business (common when an organization acquires another organization).
Expense/Cost Centers
Profit Centers
Investment Centers
An alternative to Controllability
Some argue that performance measures should be chosen to influence decision-making behavior. For example, if market prices for raw material is increasing, what can a manager do? Perhaps, enter into long term contract for fixed prices for raw materials. If electricity consumption cost is going up, find out how consumption can be economized (better machines, lighting, reduce waste).
Vice President
Food Products
Profit center
Cost center
TRENTON RESTAURANT
OTHER RESTAURANT
CENTRAL KITCHEN
HUMAN RESOURCE
PHYSICAL RESOURCE
Profit center
Profit center
Cost Center
REVENUE center
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