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By :- Par ul Wadhwa Kunal Juneja RESPONSIBILITY ACCOUNTING BY: PARUL WADHWA KUNAL JUNEJA PGDM SEC-A 

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By :-Parul WadhwaKunal Juneja

RESPONSIBILITY 

ACCOUNTING 

BY:PARUL WADHWA 

KUNAL JUNEJA 

PGDM SEC-A 

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RESPONSIBILITY ACCOUNTING 

It refers to a contr ol system of management accounting andrepor ting.

The basis of Responsibility Accounting is thecreation/recognition of var ious responsibility/decision centres

in an organization.

It mainly collects and reports planned and actual

accounting information about the inputs andoutputs of responsibility centres.

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In other words, the executive in charge of everyresponsibility centre would have author ity to incur costsrelating to his responsibility centre and accountable to them.

If he does not have the author ity to incur costs he will also not be responsible for their contr ol.

The performance of the managers of the var iousresponsibility centres is judged by assessing how far theyhave been able to monitor those costs which were under their contr ol.

This is done by furnishing the depar tment heads withperformance repor ts fr om time to time.

These repor ts will exclude all appor tioned and policy costsnot subject to their contr ol.

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OBJECTIVES OF RESPONSIBILITY ACCOUNTING 

To contr ibute the contr ibution of a division to thetotal organization.

To evaluate the quality of performance.

To motivate, consistent with the goal of theorganization.

Hence responsibility accounting ismeasurement of evaluation of performance.

It focuses on what and not how well the

performance is.

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 CENTRE

It is that responsibility centre in which inputs, but not outputs, are measured in monetary terms.

Accounting system records only the cost incurred byt

he cent

re but

 t

he revenues earned are excluded. Performance is judged on the basis of the cost 

incurred by that depar tment but what is done w.r.t to output is of no consequence.

In other words, the performance in an expense centreis the efficiency of operation in that centre in terms ofthe quantity of inputs used in pr oducing some giveno

ut

put

.

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SUITABILITY:Firstly

,

suitable in this category are centres like legal deptt.,accounting deptt., public relation deptt. and the personneldeptt.

In each of these deptts. Like legal advice(legal deptt.), good

public relation(public relation deptt.), reliable accountingrepor ts(accounting deptt.), and better qualifiedpersonnel(personnel deptt.).

We know their output cannot be measured in monetary

terms. The only measurable performance measure is their efficiency in the use of inputs.

Thus, such divisions can be evaluated only as expense centres.

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Secondly, if a pr oduction centre is pr oducing one

single output, its performance can be measured as

expense centre in terms of efficiency andeffectiveness.

Although, the output cannot be expressed inmonetary terms but the cost per unit would beindicative of the efficiency of the deptt.

Thirdly, an expense centre can also be suitably

employed to measure performance if the

responsibility of deptt. Manager is to pr oduce astated quantity of outputs at the lowest feasible cost.

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DISADVANTAGES

OFEXPENSE CENTRE

I

s not

a useful basi

s fo

r measurement

asit

 i

gno

resoutput(revenue)measured in financial terms.

Only monetary measure represents the common denominator to measure the overall output of the responsibility centrepr oducing multi pr oducts like pr oduction deptt. So thereefficiency and effectiveness cannot be measured.

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PROFIT CENTREA pr ofit centre is that segment of activity of a business whichis responsible for both revenues and expenses and disclosesthe pr ofit of a par ticular segment of activity.

It is created as a result of decentralization of operations to 

measure the performance of divisional executives.Each pr ofit centre has a pr ofit target and also enjoys author ityto adopt such policies as are necessary to achieve its targets.

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ADVANTAGES OF PROFIT CENTRE

Firstly, it pr ovides a powerful tool for measur ing how

well the pr ofit manager of the pr ofit centre hasperformed.

Secondly, since performance is measured by pr ofit,

therefore the managers will be motivated to takedecisions about inputs and outputs in such a way that the

pr ofit of a pr ofit centre is maximized. Thus it is goodtraining gr ound for general management responsibility.

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Thirdly, top management can safely delegate the

author ity to the divisional managers because the pr ofit centre repor ts pr ovide adequate information about howwell the operating managers are doing their jobs.

Thus, profit centre provides a broader and more

inclusive measurement of performance than theexpense centre.

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DISADVANTAGES OF PROFIT

CENTREy Division may compete with each other and may take decisions

to increase pr ofits at the expenses of other divisions therebyoveremphasizing shor t term results.

y It may adversely affect co-operation between the divisionsand lead to lack of harmony in achieving organizational goalsof the company. Thus it is hard to achieve the objective ofgoal congruence.

y It may lead to reduction in the companys overall totalpr ofits.

y The cost of activities which are common to all divisions maybe greater for decentralized structure than for centralized

st

ruct

ure.It

mayt

hus result

 i

n dupli

catio

no

f st

aff acti

viti

es.

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Top management loses contr ol by delegating decision

mar king to divisional managers. There are r isks ofmistakes committed by the divisional managers which thetop management may avoid.

Ser ies of contr ol repor ts prepared for several depar tments

may not be effective form the point of view of topmanagement.

It may under utilize corporate competence.

It leads to complication associated with transfer pr icingpr oblems.

It becomes difficult to identify and define precisely suitablepr ofit centres.

It confuses divisions result with managers performance.

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PROFIT CENTRE EVALUATION Controllable variable costs: These costs are directly

contr olled by the divisional managers and vary accordingto the divisions activity levels ,namely , the divisions

var iable cost of goods sold, and var iable administrativeand mar keting costs.

Controllable contribution margin:

Sales revenue - controllable variable cost=divisionscontrollable contribution margin.

It measures the pr ofitability of the sales of a depar tment.

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Controllable fixed costs: These are those fixed costs of

a per iod that are directly and exclusively related to thedecisions of the management of a division. E.x. divisionalrental charges for equipment and pr oper ty, executivessalary

Controllable segment margin: The excess ofcontr ollable margin over contr ollable fixed costs is thecontr ollable segment margin. This should be compared

wit

hthe prev

ious per 

iods resul

ts and pre de

term

inedbudgeted amounts.

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Where a divisional manger of a company isallowed some discretion about the amount ofinvestment under taken by the division,

assessment of results by pr ofit alone (as for apr ofit centre) is clearly inadequate.

The pr ofit earned is related to the amount of

capit

alinves

ted.

Such divisions are called as investment centers for this reason.

INVESTMENT CENTRES

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Investment centres consider not only costs andrevenues but also the assets used in the division.

The essenceo

finves

tmen

tcen

tre analys

is

is

therelationship between the pr ofits and assets used

to generate these pr ofits.

It can be used as a basis for evaluating the

contr ibution of a division, and also for theevaluation of the performance of the divisionalmanager.

There aretw

oways

torela

te

inc

ome

toasse

ts:-

Return on investment(ROI).

Residual income.

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Return on investment(ROI)

ROI or EARNING POWER is the measure of the overall pr ofit andoperational efficiency of a firm or segment.

ROI = Divisional pr ofit / Divisional investment.

The earning power of division depends upon combination of two factors

Pr ofitability on sales.

The pr ofitability of investment, which is revealed by investment turnover.

Earning power = net pr ofit margin X investment turnover.

It employs that the performance of the firm/segment can beimpr oved either by generating more sales volume per rupee ofsales or by increasing the pr ofit margin per rupee of sales.

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Return on investment will be segment return oninvestment(SROI).

SROI= (segment pr ofit contr ibution) / (segment 

resource/asset(SR/SA)). SROI can be used for both evaluation of division, as well as the

evaluation of the divisional manager.

There are two var iation of SROI:-

SROI= SPC before interest / segment total assets SROI(net)= SPC after interest / segment net assets.

SROI is useful in evaluating the total earning power of all theassets employed by the segment.

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ADVANTAGES ROI is generally accepted measure of overall

performance.

It is compatible with the common sense that investment are made to achieve the goal of a desired rate of return.

ROI serves as a common base so that a compar ison canbe made between the performance of the different 

divisions.

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ROI analysis can pr ovide optimum utilisation of theassets of the firm.

It encourages divisional manager to obtain/retain assetsthat pr ovide satisfactory return on investment and to discard/dispose off assets that are not givingacceptable returns.

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LIMITATIONS

It suffers fr om all the limitation of pr ofit centre analysis.

It suffers fr om operational limitations:- Determination of investment base.

Determination of net income.

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Determination of investment base

The pr oblem of measur ing investment in assets fall into two categor ies:-

Pr oblem of allocation

Pr oblem of valuation

Pr oblem of allocation

these ar ises out of different treatment of assets that areshared/pooled among different divisions. The most common of

such assets are cash, receivables and inventor ies.

Pr oblem of valuation

This pr oblem ar ises due to method used for valuations of assetsof a division.

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Determination of net income There is a pr oblem in income measurement as a rate of return

is to be calculated. These relate to calculation of tax andi

nt

erest

. These items are outside the contr ol of the divisional manager.

The items having a bear ing on net income can be treated indifferent ways. The se creates pr oblems in the measurement 

of net income for the ROI analysis.

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Segment residual income The performance of the division is measured in terms of

residual income, which tr ies to overcome the pr oblems of

ROI method. RI= operating income of division imputed capital charge

= Divisional pr ofit (cost of capital x investment base).

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Advantages and limitations of residual income

y This method encourages the investment in the assets, which areearning more than the required rate of return.

y It allows different rates for different divisions/assets .

y Manager are aware of the oppor tunity cost.

y Charging each division with the cost of capital ensures that thedecision taken by the different depar tments are in line with theoverall objectives of the organization.

yLIMITATIONS:y Pr oblem of measur ing the income and investment are present in this method

also.

y Deciding the required rate of return is a difficult task.

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Performance reporting

Responsibility accounting is tailored according to theorganization, makes the following assumptions:-

The areas of responsibility are defined for which the manager should be held responsible.

Managers are responsible only for items over which they canexercise contr ol.

Managers should actively par ticipate in establishment of goalsand budgets against which the performance is to be measured.

Goals should be attainable with efficiency and effectiveness. Performance repor ts should contain significant information

relating to each area of responsibility.

Responsibility managers should try to achieve targets for their 

area of responsibility only.

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