The responsibility accounting can be defined as an approach which links decision making authority with accountability for the outcomes of those decision. The responsibility accounting can be used in any part of an organization whose managers has control over and are accountable for cost, profit or investments.
Objectives of Responsibility Accounting:
The responsibility accounting is also called profitability accounting and activity based accounting. Responsibility accounting, as a control device, is relevant to divisional performance measurement, whereas other control devices are applicable to the organization as a whole. The objectives of responsibility accounting are summarized below:
To determine the contribution that a division makes to total organization.
To provide a basis for evaluating the quality of the divisional manager’s performance.
To motivate the divisional managers to operate his division in a manner consistent with the basic goals of the organization as a whole.
A responsibility Centre is a unit in the organization which is responsible for over costs, revenues and or investment funds. For the purpose of measuring divisional performance, the responsibility centers are divided into the following types:
Cost Center : The manager of a cost center has control over costs, but not over revenue or the use of investment funds. Service departments such as accounting, finance, general administration, legal and personnel are usually classified as cost centers. The managers of cost centers are expected to minimize costs while providing the level of products and services demanded by other parts of the organization.
Profit Center : The manager of a profit center has control over both costs and revenue, but not over the use of investment funds. For example, the manager in charge of Departmental Store would be responsible for both the revenues and costs, and hence the profits of the store, but may
72 not have control over major investments in the store. Profit center managers are often evaluated by comparing actual profit to targeted or budgeted profit.
Investment Center : The manager of an investment center has control over cost, revenue and investments in operating assets. For example, the vice president of the Truck Division at General Motors would have a great deal of discretion over investments in the division. Once the budget is approved for a particular investment, the investment managers would then be responsible for making sure that the investment must pays off as planned.
Responsibility Accounting Systems
One of the first requirements in developing a good responsibility accounting is a sound organization chart. The next step is to develop a chart of accounts that will collect data not by products or types of expense but by the degree of responsibility assigned to each center.
Responsibility Accounting Reports
Responsibility accounting reports are prepared according to responsibility levels shown in the organization chart. At each level the direct costs incurred by the unit manager are listed and then the costs incurred by each of the subordinate unit manager are shown. Finally the report would include the total cost for the company, that is the cost of the president’s office plus the cost of the immediate subordinates, like vice presidents of each center.
Exercise 27
M/s Douglass Company has two territories which are assigned to four Managers, Mr. A, Mr. B, Mr. C and Mr. D. The segment wise margin and assets held at their disposal are as under:
Territory East West
East West │ Mr. A Mr. B │ Mr. C Mr. D Segment Margin $ 66,000 34,000 │ 47,000 19,000 │ 14,000 20,000 Segment Assets $ 660,000 160,000 │ 336,000 324,000 │ 20,000 140,000
Required : Compute the return on investment of each Manager.
Answer 27 Return on Investment Territory East $ 66,000/ $ 660,000 = 10% Mr. A = $ 47,000 / 336,000 = 13.99% Mr. B = $ 19,000 / 324,000 = 5.86%
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Territory West
$ 34,000 / $ 160,000 = 21.25%
Mr. C = $ 14,000 / $ 20,000 = 70% $ 20,000 / $ 140,000 = 14.29%
Comments : A comparison of ROI on basis of territory reveals that the ‘West’ is contributing better return on investment as compared to the territory ‘East’.
As regards the individual contribution of the manager of each territory Mr. C and Mr. D’s performance are superior than the Managers of the territory East.
Exercise 28
M/s Saleem Ahmed, President of First Prudential Bank is concerned about the decreasing profit in 2003. The following cost information is available for the past two years.
2002 2003
Interest Cost $ 400,000 $ 390,000
Advertising cost 70,000 70,000
Promotion costs 5,000 6,000
Tellers salaries 50,000 50,000
Vice President’s salary 40,000 43,000
President’s salary 75,000 125,000
Analyze the above data and advise the President of First Prudential Bank the real factor responsible for the decline in the profit of the bank.
Answer 28
First Prudential Bank
Cost Information by Function
Percentage 2002 2003 Increase/ Decrease ________________________________________________________________________ Operating Cost Interest Cost $ 400,000 $ 390,000 Teller’s salaries 50,000 $ 450,000 52,000 442,000 - 1.77% Selling Cost Advertising 70,000 70,000 Promotion 5,000 75,000 6,000 76,000 1.33% Administrative Cost V. President 40,000 43,000 President’s salary 75,000 115,000 125,000 168,000 46.09%
74 The analysis of changes in the cost during the last two year reveals that the bank’s administrative cost has sharply increased in the year 2003 which is affecting the profitability of the bank.
Exercise 29
What is the relationship between responsibility accounting and cost control?
Answer 29
There is a direct relationship between responsibility accounting and cost control. Since responsibility accounting provides required data to the departmental heads, they remain aware when the cost overruns and can adopt corrective measures to control them.
Exercise 30
What items should be excluded from an assembly line foreman’s responsibility accounting report or performance report?
Answer 30
Non-controllable costs such as depreciation, insurance, property taxes, rent and his own salary should not be a part of foreman’s responsibility report.
Exercise 31
One of your client who operates a large retail service grocery stores that has a full range of departments. Their management is encountering difficulty in using accounting data as a basis for decision making to control costs concerning departments, products, marketing and so forth. List several overhead costs, or costs not applicable to particular departments and explain how the existence of such costs (sometimes called common costs or joint costs) complicates and limits the use of accounting data in making decision in such establishments.
Answer 31
There are many examples of “common costs” of a self service grocery store which falls under such type of costs. Some are rent, supervision, trucking and advertising.
Common costs are usually apportioned on various arbitrary basis to the various departments, but for managerial decisions such apportionments produce misleading results. Decisions such as discontinuing a department, adding a department, enlarging a department, or decreasing a department cannot be made on the data produced from the apportionments. For example, if a department is needed to be discontinued because it appears to be unprofitable, factors such as discontinuation will increase the cost of other departments as a result of having to absorb more of the shared of the common costs must be taken into consideration. Thus the overall operating results will be less favourable if the unprofitable department is discontinued. For decision making purposes, the incremental approach is more appropriate to arrive at correct decision under such conditions.
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