GROUP NO: 07

 Responsibility accounting is a system of control where

responsibility is assigned for the control of costs. The
persons are made responsible for the control of costs.
Proper authority is given to the persons so that they are
able to keep up their performance.

 In case the performance is not according to the

predetermined standards then the person who are
assigned this duty will be personally responsible for it .
In responsibility accounting the emphasis is on men
rather than on systems.
 “ Responsibility accounting is that type of
management accounting that collects and reports both
planned actual accounting information in terms of
responsibility centres.”
Acc. To Anthony & Reece
 “ Responsibility accounting is a system of accounting
that recognises various decision centres throughout an
organisation and traces costs to the individual
managers who are primarily responsible for making
decisions about the costs in question”
Acc. To Charles T. Horngren
Inputs and Outputs
Planned and Actual information
Identification of Responsibility Centres
Relationship between organisation structure and
responsibility accounting system.
Performance reporting
Participative management
Transfer pricing policy
Management by exception
The Responsibility is the unit in the organisation
that has control over costs, revenues or investment
funds
It is an organisation unit for which a manager is
made responsible
The centre’s manager and supervisor establish
specific and measurable goals for the responsibility
centres
The goals should promote the long term interest of
the organisation
 There are four basic types of responsibility centres.
These centers indicate the degree of responsibility the
manager has for the performance of the center

 Cost or Expenses centre

 Profit centre
 Revenue centre
 Investment centre
1. Revenue Center -
Prime concern of the REVENUE CENTER – “TOPLINE”
e.g. Marketing center

Inputs RC’s Output

(Money directly TASK (Sales Generated
spent on achieving in money terms)
sales i.e. Mktg. Exp.) Generate Sales

• RC has no authority to decide price.

• RC is charged with cost of Marketing and not with cost of
goods produced
• No formal relationship possible between I & O
• Performance Measure for the RC can be Revenue Budgets.
A Revenue Center is responsible for selling an agreed
amount of products or services.
It's manager is usually responsible to maximize
revenue given the selling price (or quantity) and given
the budget for personnel and expenses.
Decision Rights –
 Promotion Mix –
 Performance Measures –
 Maximize total sales for a given promotion budget
 Actual sales in comparison with budgeted sales
Typically used when –
 RC manager has thorough knowledge about market
 Promotion plays significant role in generating sales
 RC manager can establish optimal promotion mix
 He can set optimal quantity and appropriate rewards
 Responsibility centers whose employees control costs, but
 Do not control their revenues or investment level.
 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).
 e.g. Manufacturing a
product
 Can be established
scientifically
 Cost varies with even small
fluctuations in volume
 Control is easier. Control
starts with planning & ends
with finished task.
 Financial Performance
measure suffice the purpose
of evaluation.
e.g. R&D Project
Can not be established
scientifically
Costs varies with bigger
volume changes
Review of task is the only
control measure for cost
control. Control is exercised
during planning stage itself, by
way of establishment of budget
Financial as well as non
financial Performance measure
need to be considered
 Inputs RC’s Output
(Money spent on (Physical units
TASK
production) Produced)

Decision Rights –
 Input Mix – Labor, Material, Supplies

 Performance Measures –
 Minimize total cost for a fixed output
 Maximize output for a given “cost budget”

Typically used when –

 RC manager can measure output & quality of output
 knows cost functions, optimal input mix
 can set optimal quantity and appropriate rewards
 2. Expenses Center –
2.1)Engineered Exp. Center e.g. Production Department

Engineered expenses are those expenses which are

arrived at with reasonable reliability.e.g. Material cost ,
labor cost.

Inputs RC’s Output

(Money spent on (Physical units
TASK
production) Produced)

• Performance Measure for the RC is std.cost: -

Std Cost of doing actual activity = Std. cost of unit activity * Quantum
of Actual activity
• One can establish relationship between I & O , hence
performance measurement is relatively easy
 2. Expenses Center –
2.2) Discretionary Expenses Center -e.g. R&D, Advt. Dept,
a Movie Project
Discretionary expenses are those expenses which can
not be established with perfect accuracy

Inputs RC’s Output

(Money spent on (Product
TASK
R & D) Development)

• Difficult to estimate Input (hence called MANAGED costs)

• Output can not be measured in monetary terms.
• Difficult to establish optimal relationship between I and O
• Performance Measure for the RC is Budgeted Input and Actual Input.
 Profit is most comprehensive measure of performance
 Function/Activity having highest influence on Bottom
Line suits best for Profit Center.
 Can be a Business Division or any of the functional unit
 Demands highest freedom/autonomy than any other RCs’

Output
Inputs RC’s (Money-profit
(Money spent for
TASK Earned out of sales)
earning profits)

Relationship can be established

Decision Rights –
 Input Mix – Labor, Material, Supplies
 Product Mix
 Selling Price
 Performance Measures –
 Actual Profits
 Actual Profit in comparison with budgeted profits
Typically used when –
 RC manager has knowledge about correct
price/quantity
 RC manager has knowledge to select optimal
product mix
• Improves quality of decision – RC Mgr are closest to the point of decision
• Improves speed of decision – less intervention by HQ
• HQ is relieved of day-to-day decisions making process – can
concentrate on more strategic decisions

• Provides training ground for general mgt. as RC’s acts as mini Cos’.
• Enhances profit consciousness with every expense made.
(mktg. mgr. will tend to authorize promotional
expenditure which increases the sales).

• Provides best performance indicators of Co’s individual component.

• Since output is clear cut evident, it evokes competition.
• Ensures better and safer delegation of authority.
• Ensures better motivation and evokes commitment.
• Caliber of RC mgr. may hamper the decision.

• Incase of more integrated company there may be problems of

cost sharing, transfer pricing, sharing credit for revenue.
• Divisionalisation may impose additional cost of admn/support units.
• Functional set up may not have competent of GM to manage RC.
• Functional units once cooperated may now be in competition with
one another- (as profit of one is loss to another).
• May encourage short term motive at the expense of Co’s overall goal.

• Optimization of RC’s profit not necessarily mean optimization of

company’s profits.
• Decentralization makes top mgt. to rely more on MC reports
 4. Investment Centers –
Output
Inputs
(Money/net profit
(Money spent for RC’s
Earned on account
Starting & running TASK of investment)
the business)

• Objective – Make sound investment decision

• It compares Business units profits with assets employed to

earn that profit i.e. efficiency of assets employed.
• It satisfies both the goals of business organizations i.e.
to earn the profit and
to achieve optimal relationship in profits earned and
assets employed
Decision Rights –
 Input Mix – Labor, Material, Supplies
Product Mix
Selling Price
Capital Investment

 Performance Measures –
 Actual ROI
 Actual Residual Income i.e. EVA
Actual ROI & RI in comparison with budgeted ROI & RI

Typically used when –

 RC manager has knowledge about correct price/quantity
 RC manager has knowledge to select optimal product mix
 RC manager has knowledge about investment opportunities
 Return on Investment-
 Relating the profits of a firm with the
investment made.
 ROI can be computed in many different ways
depending upon the need and relevance.

1. Return on Assets - ROA

2. Return on Capital Employed - ROCE

3. Return on Shareholder’s Equity - ROE

 Net Profit
1) Return on Assets = --------------- * 100
Assets
ROI terminology would change depending on what
Assets base one takes for computation; it can be -
 Total Assets,
 Fixed Assets,
 Gross Assets,
 Net Assets,
 Tangible Assets or
 Employed Assets
 Net Profit
2) Return on Capital Employed = ------------------------- * 100
Capital Employed

 Capital implies the long term funds

supplied by creditors & owners
 Alternatively it can be
Net Working Capital + Fixed Assets
 Net Profit
3) Return on Shareholders’ Equity = ---------------- * 100
Equity Capital

Equity includes the preferential capital, however the ordinary

shareholder bears the entire risk.
Net Worth represents the equity capital plus the reserves and
surpluses the portion solely represented by equity holders’.

Net Profit- Pref. Divi.

Return on Shareholders’ Equity = ------------------- * 100
Net Worth
As lender require certain interest on their money,
owners too expect certain rate of return on their funds.
(taken together both termed as cost of capital).

Hence no "real" money is made or value is created

until the operating profits exceed the rupee return
required by the owner and the lenders.
Increase in EVA,  Increase in Market Value of the
firm
 Economic Value Added

•EVA is another of the way to relate profits to assets

employed.
• Economic Value Added = Net Profit – Capital Charge
Capital Charge = Capital Employed * Cost of Capital

• EVA=Net profit – (Cost of Capital * Capital Employed)

• This is nothing but Residual Income which adds to the value

of the firm
1. ROI is a ratio. Simple 1. EVA is Profitability
& easy to understand, measure in money term.
Meaningful in absolute Can not be used for
sense. Being a common comparison with other
denominator of Business Unit or
industries it can used Industries.
for comparison.
2. Different ROI % 2. EVA provides an
provides different effective measure than
incentives across BUs’ ROI. EVA Stresses upon
(e.g. BU having current ROI recovery of cost of
of 30 will be discouraged to capital. And welcomes
go for additional investment every rupee earned over
giving 25% ROI, even and above COC.
though the ROI is greater
than Cost of Capital OR
BU mgr can improve its ROI
by just disposing the assets
which give lesser ROI than
current one)
3. ROI does not allow 3. EVA enables to use
different treatment for different rates of interest
different kind of assets for different types of
i.e. it treats all assets involving different
assets/investments at risks. e.g. low rate for
par. inventory investment
whereas higher rate for
fixed investment.
 4. It is difficult to define 4. EVA has got strong &
an explicit relationship positive correlation with
between ROI and market value of the firm.
Market value of the
firm. (ROI not
necessarily indicate the
market value of the
firm.)

(shareholders worth maximization may not be suitable measure for RC’s performance evaluation
Because it is consolidated effect of entire company)