Responsibility accounting and Responsibility Centre

Responsibility accounting

Responsibility accounting involves a company’s internal accounting and budgeting. The objective is to assist in the planning and control of a company’s responsibility centers—such as decentralized departments and divisions.

Responsibility accounting usually involves the preparation of annual and monthly budgets for each responsibility center. Then the company’s actual transactions are classified by responsibility center and a monthly report is prepared. The reports will present the actual amounts for each budget line item and the variance between the budget and actual amounts.

Responsibility accounting allows the company and each manager of a responsibility center to receive monthly feedback on the manager’s performance.

Responsibility Centre

A responsibility center is a part or subunit of a company for which a manager has authority and responsibility. The company’s detailed organization chart is a logical source for determining responsibility centers. The most common responsibility centers are the departments within a company.

When the manager of a responsibility center can control only costs, the responsibility center is referred to as a cost center. If a manager can control both costs and revenues, the responsibility center is known as a profit center. If a manager has authority and responsibility for costs, revenues, and investments the responsibility center is referred to as an investment center.

1: Cost Center

A cost center is often a department within a company. The manager and employees of a cost center are responsible for its costs but are not responsible for revenues or investment decisions.

A manufacturer’s cost centers include each of its production departments as well as the manufacturing service departments such as the maintenance department or quality control department. Other examples of cost centers include the human resource department, the IT department, the accounting department, and so on.

Cost centers are not limited to departments. There might be several cost centers within a department. For example, each assembly line could be a cost center. Even a special machine could be a cost center.

Cost centers are usually associated with the topic of decentralization, responsibility accounting, and planning and control.

2. Revenue Center
A manager of a revenue center is held accountable for the revenue attributed to the sub-unit. Revenue centers are responsibility centers where managers are accountable only for financial outputs in the form of generating sales revenue. A revenue center's manger may also be held accountable for selling expenses such as sales persons' salaries, commissions, and order receiving costs.

3. Profit Center
Profits are the excess of revenue over the total expenses. Therefore, the manager of a profit center is held accountable for the revenues, costs, and profits of the center. A profit center is aresponsibility center in which inputs are measured in terms of expenses and outputs are measured in terms of revenues.

4. Investment Center
The manger of investment center is held accountable for the division's profit and the invested capital used by the center to generate its profits. Investment centers consider not only costs and revenues but also the assets used in the division. Performance of an investment center are measured in terms of assets turnover and return on the capital employed.

Transfer Pricing

The amount charged when one division sells goods or services to another division is called transfer price. 

The basic purpose of transfer pricing is to induce optimal decision making in a decentralized organization (i.e., in most cases, to maximize the profit of the organization as a whole).

Purposes of Transfer Pricing

There are two main reasons for instituting a transfer pricing scheme:

• Generate separate profit figures for each division and thereby evaluate the performance of each division separately.

• Help coordinate production, sales and pricing decisions of the different divisions (via an appropriate choice of transfer prices). Transfer prices make managers aware of the value that goods and services have for other segments of the firm.

• Transfer pricing allows the company to generate profit (or cost) figures for each division separately.

• The transfer price will affect not only the reported profit of each center, but will also affect the allocation of an organization’s resources.

Main objectives of a transfer pricing system

1. To achieve goal congruence: The transfer prices should be such that actions which will have the effect of increasing a division’s reported profit will also have the effect of increasing the company’s reported profit. This maximises the likelihood that the division managers will act in the company’s best interests.

2. To ensure that divisional autonomy is maintained: In principle the top management of a company could simply issue precise instructions to divisions as to what goods to transfer to each other, in what quantities, and at what prices. This would seem to solve the problem of transfer pricing at a stroke, and to achieve optimization (for the company as a whole) by diktat. However, most organizations are unwilling to go down this road, because of the enormous benefits of allowing divisional autonomy. It would be very difficult to make division managers accountable for their profits if they were not given a free hand in making important decisions.

3. To ensure that the information provided: (e.g., division Profit & Loss Accounts) is useful for evaluating the economic performance of divisions and the managerial performance of division managers. 

Accounting as an aid to management

The main object of Accounting is to record financial transaction systematically in the books of accounts and to find out profit-loss and financial position of a business. Ascertainment of profit-loss and financial position, interpretation and analysis of accounts and statements, development of accounting system, collection of statistical and economic data, formulation of financial principles and financial planning and controlling result as per plan etc. are the main function of accounting. In the modern age accounting is directly related with financial management. The function of management are planning, organizing, collecting business elements, motivating, coordinating and budgeting etc. 

Accounting helps the management in the following ways:

(1)Planning: Proper planning is very much needed for successful completion of various management activities. These planning – cash planning, sales planning, procurement planning, determining quantity of stock, development of planning, fixing up target – profit et are very much dependent on accounting data and information.

(2)Organization: Accounting plays a very vital role in proper execution of the important function of management-organization. Accounting helps management-organization by providing information like percentage of profit over capital, capital investment position, management efficie3ncy in controlling etc.

(3)Motivation: Labor-employees are to be motivated for achieving expected performance. Financial help is one of the main motivating factors of work. The management is to be aware of financial position of the business for providing financial benefits. Accounting helps the management by providing necessary information for taking proper decision.

(4)Co-ordination: One of the main function of the management is to achieve the final target of the business by coordinating various activities of different departments. Accounting helps in coordinating various activities of different department of the business.

(5)Control: The main function of the modern management are planning and controlling. Controlling is essential for completion of activities according to plan. Accounting can help management much in controlling. 

(6)Preparation of final accounts: The management’s responsibility is to communicate operating results for a certain period and financial position of a business concern to the owners and parties concerned.

(7)Media of communication: Accounting plays a vital role as a media in communicating various information of different departments, business and management plan of action to various departments.

(8)Budgeting: Preparation of various budgets is essential to run the business successfully. The historical information which is needed in preparation of budget is supplied by accounting.

(9)Professional advice: An efficient and honest accountant helps the management with valuable professional advice for the development of its business. In the modern age with the complexities of business management has also become complex. In this aspect the role of accounting is very important. Accounting is an essential tool of management.