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Chapter 5
Responsibility centres
Chapter learning objectives: Lead Component Indicative syllabus content B.1 Discuss decision making in responsibility centres. (a) Discuss the information needed for decision making in different organisational structures.
- Relevant cost information for cost centre managers: controllable and uncontrollable costs and budget flexing.
- Relevant revenue and cost information for profit and investment centre managers: cost variability, attributable costs, controllable costs and identification of appropriate measures of profit centre ācontributionā.
- Alternative measures of performance for responsibility centres. B.2 Discuss issues arising from the use of performance measures and budgets for control. (c) Discuss the criticisms and behavioural aspects of budgeting in responsibility centres.
- Behavioural issues in budgeting: participation in budgeting and its possible beneficial consequences for ownership and motivation; participation in budgeting and its possible adverse consequences such as ābudget paddingā and manipulation; setting budget targets for motivation; implications of setting standard costs etc.
- Criticisms of budgeting and the arguments for and against ābeyond budgetingā.
1. Decentralisation
Decentralisation: divisionalisation or decentralisation is an organisational structure common in large organisations where autonomous units are created. Each unit is given decision-making power and is accountable for its results. Advantages Disadvantages
- Better decision-making by division managers as they are more aware of the local conditions, thus leading to more informed decisions. - The top managers could lose control if there is a lack of communication and information available from the different divisions.
- Faster decision-making because fewer people are involved in the decision- making process. The top management will not usually be involved. - In a divisional structure, the costs that are shared by the divisions are likely to be greater than in a centralised structure.
- This leaves the top management free to focus on strategic-level planning. - Decentralisation may result in divisions focusing on only those aspects that are beneficial for them. The decisions taken as a result may not be in the best interests of other divisions or the organisation as a whole.
- The authority granted to the divisional managers will be a motivational factor for them. - This dysfunctional decision making can be prevented by not transferring all the authority. The head office should maintain some power and authority. This will help them ensure goal congruence, encourage long-term views, provide feedback to the managers and increase their motivation to work in the best interests of the organisation.
- Both long-term and short-term costs should be regulated by the senior management.
Indirectly attributable costs
- There are certain costs that are not attributable to any one responsibility centre but are shared by the different profit centres.
- These costs should be appropriately allocated between them so that the responsibility centre managers are aware of the importance of other overhead costs and generate enough profits to cover them as well.
- However, these costs are not under the control of the responsibility centre managers.
- The apportionment of these costs may cause problems, as overhead apportionment is usually based on judgement.
Illustration
The following is a report for the profit centres of an organisation: Centre A Centre B Centre C Total $ $ $ $ Sales revenue 320,000 260,000 420,000 1000, Variable costs 170,000 100,000 200,000 470, Directly attributable costs 70,000 120,000 70,000 260, Controllable costs 240,000 220,000 270,000 730, Gross Profit 80,000 40,000 150,000 270, Other Overhead Costs (50,000) (50,000) (80,000) (180,000) Net profit 30,000 (10,000) 70,000 90, In this example, other overhead costs, i.e. indirectly attributable costs, have been apportioned to each profit centre. The results without including these costs (gross profit) are all positive, whereas the results after deducting these costs (net profit) show a different view.
4. Budget styles
5. Behavioural impacts of budget control
- Budgetary control systems will have varying impacts on the attitudes of managers.
- Control systems should be designed in such a way as to encourage positive attitudes that will be advantageous for the organisation.
Budgets as targets
- It is important, therefore, that targets are not too easy, causing disregard for budget figures, nor excessively difficult to meet, which can cause demotivation.
Avoiding risks
Managers are reluctant to take any risks in case they do not to hit the target. If they adopt a safe approach, they will hit the target, so why to take a risk and consider new opportunities? This can cause stagnation for the business.
6. Chapter summary
