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What is a Responsibility
Center?
Responsibility
Centersfurther defined
It is an organization unit for which a
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Revenue Centers
Cost Centers
Profit Centers
Investment Centers
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Generate Sales
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Revenue Center
A Revenue Center is responsible for selling
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rewards
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2. Expense/Cost Centers
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
Cost/Expenses Center:
Engineered Expenses V/s Discretionary
Expenses
e.g. R&D Project
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.
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Cost Center
Inputs
(Money spent on
production)
RCs
TASK
Output
(Physical units
Produced)
Decision Rights
Input Mix Labor, Material, Supplies
Performance Measures
Minimize total cost for a fixed output
Maximize output for a given cost budget
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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
(Money spent on
production)
RCs
TASK
Output
(Physical units
Produced)
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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
(Money spent on
R & D)
RCs
TASK
Output
(Product
Development)
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Inputs
(Money spent for
earning profits)
RCs
TASK
Output
(Money-profit
Earned out of sales)
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Profit Center
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
CANDIDATES FOR PROFIT CENTER
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production division
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Performance Measure
Revenue
Less VC of Mfg. & Marketing
1. Contribution Margin
2. Direct Profit
3. Controllable Profit
Less Other Corporate Allocations
5. Net Profit
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Responsibility Centers
4. Investment Centers
Inputs
(Money spent for
Starting & running
the business)
Output
RCs
TASK
(Money/net profit
Earned on account
of investment)
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Investment Center
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
opportunities
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Return on Investment
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.
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Return on Investment
Return on Assets
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
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Employed Assets
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Return on Investment
Return on Capital
Employed
Net Profit
2) Return on Capital Employed = ------------------------- *
100
Capital Employed
Capital implies the long term
funds
supplied by creditors &
Alternatively it can be
owners
Net Working Capital + Fixed
Assets
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Return on Investment
Return on Shareholders
Equity
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.
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EVA
(Stern &
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1. EVA is Profitability
measure in money
term. Can not be
used for comparison
with other Business
Unit or Industries.
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2. EVA provides an
effective measure
than ROI. EVA
Stresses upon
recovery of cost of
capital. And
welcomes every
rupee earned over
and above COC.
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(shareholders worth maximization may not be suitable measure for RCs performance evaluation
Because it is consolidated effect of entire company)
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Return On Investment
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Maple
Sales
Operating income
Assets invested
Desired ROI
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$100,000
$ 10,000
$ 25,000
40%
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Oaks
$100,000
$ 10,000
$ 12,500
40%
Juniper
$100,000
$ 20,000
$ 25,000
40%
Sales
Operating income
Assets invested
Desired ROI
Maple
$100,000
$ 10,000
$ 25,000
40%
Oaks
$100,000
$ 10,000
$ 12,500
40%
Juniper
$100,000
$ 20,000
$ 25,000
40%
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Sumter
$100,000
$ 10,000
$ 25,000
$ 5,000
15%
Poe
$100,000
$ 20,000
$ 5,000
15%
E 13. Solution
Lake
Sales
$100,000
After-tax operating income $ 10,000
Total assets
$ 25,000
Current liabilities
$ 5,000
Cost of capital
15%
Sumter
$100,000
$ 10,000
$ 12,500
$ 5,000
15%
Poe
$100,000
$ 20,000
$ 25,000
$ 5,000
15%
EVA=
After-tax operating income - Cost of capital(TA-CL)
Lake: $10,000 15%($25,000-$5,000) = $7,000
Sumter: $10,000 15%($12,500-$5,000) = $8,875
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1999
1998
1997
1996
Operation Profit
1,206
956
711
464
- Less
Depreciation
129
101
58
55
318
286
281
173
11
17
562
361
219
2,118
1,703
1,412
688
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18
19
22
402.42
306.54
268.28
151
754
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351.58
255.46
92.72
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1.
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1.
Solution
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Solution
P
1.
2.
3.
company
I
I
4.
5.
6.
7.
8.
9.
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DC
C
C
Expense/Cost Centers
Profit Centers
Investment Centers
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Output measured in
monetary terms
Input measured in
monetary terms
Output measured in
monetary terms
Output measured in
monetary terms