Chapter 12 - Responsibility Accounting and Performance Measures

Question 1

Responsibility Centers

Answer 1

THE BASIC PURPOSE OF RESPONSIBILITY ACCOUNTING IS MOTIVATION, ALTHOUG AUTHORITY, BUDGETING, AND VARIANCE ANALYSIS ARE PART OF IT.

Types of:

1) Cost center: responsible for costs only. Service center is a type of cost center. (PERF. MEASUREMENT: VARIANCE ANALYSIS)
2) Revenue center. (PERF. MEASUREMENT: VARIANCE ANALYSIS)
3) Profit center (revenue and costs). (PERF. MEASUREMENT: CONTRIBUTION MARGIN).
4) Investment center: revenues, expenses and invested capital (here is where you can use ROI for example).
5) Contribution center: for revenue and vairable costs.

Question 2

Performance measure for Investment Centers (both ROI and Residual Income are short term measures)

Answer 2

ROI = EBIT(=operating income)/assets of a business unit.
Disadvantage: managers might choose to toss positive ROI projects if these projects could reduce the investment center ROI.

Residual Income = Income of business unit (EBIT) - (Assets of business unit * required rate of return).
Advantage: allows the manager to account for opportunity cost and achieve goal congruence = for a given expected rate of return what project should the manager choose to maximize my return. Also maximized dollar returns.

> What is included in assets of business unit?
Total assets include all current assets such as cash, inventory, and accounts receivable in addition to fixed assets such as the plant buildings and equipment. (THIS MEANS: INCLUDES WORKING CAPITAL AND DOES NOT INCLUDE LAND NOT IN USE-VACANT LAND).

Question 3

Segment margin consideration
vs
Short run performance margin (manager segment performance)

Answer 3

SEGMENT MARGIN IS THE CONTRIBUTION MARGIN OF A SEGMENT OF A BUSINESS MINUS FIXED COSTS , IT DOES NOT INCLUDE ALLOCATED COMMON COSTS liKE CORPORATE INCOME TAXES, INTEREST, COMPANY WIDE R&D AND CENTRAL ADMINISTRATION COSTS.
VS
DOES NOT INCLUDE ALSO TRACEABLE FIXED COSTS (ONE LEVEL HIGHER AND REALLY REPRODUCES WHAT THE MANAGER CAN CONTROL).

Question 4

Considerations for Performance Measures between Investment Centers

Answer 4

1. Make sure centers are using similar accounting policies.
2. Accelerated method might be preferable to pay less taxes but the implication in ROI might make it better to use straightline.
3. In rising prices LIFO might result in highest COGS compared to FIFO.

Question 5

Allocating common costs method

Answer 5

> > Stand-alone method: allocate to each cost object in a proportional basis.
Incremental method: allocate in ascending order by total traceable cost until it is exhausted.

A large corporation allocates the costs of its headquarters staff to its decentralized divisions. The best reason for this allocation is to B.	Remind divisional managers that common costs  The allocation reminds managers that support costs exist and that the managers would incur these costs if their operations were independent. The allocation also reminds managers that profit center earnings must cover some amount of support costs.

Question 6

Transfer Pricing (main challenge)

Answer 6

The principal challenge is setting prices that motivate both buyer and seller making sure goal congruence is achieved (why buy internally if i can buy externally and vice versa).

Question 7

4 methods of transfer pricing

Answer 7

Variable cost: when selling division has excess capacity it allows the the buyer to purchase at the variable cost. In practice it has to be a bit more since the seller wants to have at least a positive CM.

Full absorption cost: includes materials, labor and full allocation of manufacturing overhead. Insures that selling division will not incur a loss. However, there is no motivation for the seller to control production csts since all costs can be passed along to the buying division.

Market price: best to be used in many situations. If operating at full capacity

Negotiation: bargain.

Question 8

In a highly decentralized organization, the best option for measuring the performance of subunits is the establishment of

Answer 8

a. Cost center
b. Revenue centers
c. Marketing centers
d. Product centers
Cost centers is the best answer because it is the most general. All subunits have costs but may not have revenues or investments.