Resposibility accounting Flashcards
What is resposibility accounting
Responsibility accounting dictates that decision rights are linked with the specialized knowledge necessary to exercise the decision rights and that the performance measurement system measure the performance of outcomes that depend on the decision rights assigned to agents.
What role does the firms internal accounting system play in resolving organizational problems?
The internal accounting system is most useful in decisions monitoring and is an important part of the seperation of decision management and control. Accounting departments, being independent of operating management, are part of the firms internal contracting system designed to reduce agency costs. Accounting report are one measure of an agents performance.
Describe three different types of responsibility centers. Include any shortcomings the centers might have.
Cost center: This centers gol is either to maximize output given a fixed amount of resources or to minimize input costs given a fixed output.The performance measures are (1) actual versus budgetet ouput (2) actual versus budgetet cost. If measured on total cost, the quality of the output may be a problem. If measures on average cost, the incentive to increase inventory exist.
Profit center: Profit centers are given a fixed amount of capital; they control pricing and the input mix. The performance measure is the center’s budgetet versus actual profit. Managers have the incentive to build inventories and request more capital asets as long as they are not chared the opportunity cost of the assets.
Investment center: Investment centers have all the decision rights of profit centers plus some control over the amount of capital invested.The performance measyre is either ROI or residual income. Problem with ROI: (1) ROI is not a measyre of the centers economic rate of return - horizon problems (2) managers have the incentive to reject profitable problems if expected ROI is less than the mean ROI. Residual income suffers from horizon problems. It is absolute number and cannot be used to compare centers of different size.
How does EVA differ from residual income
EVA and residual income are based on the same formula. EVA might adjust accounting earnings, uses WACC and links performance measurement to compensation.
What is the controllability principle and what are its limitations?
The controllability principle holds managers resposible for only those decisions they have the authority to affect. One limitations is that while managers may have little control over the likelihood of some event, if they can influence the cost or benefits of the event, they should still be held accountable. Second limitation is that the performance of managers can often be better gauged by comparing it with the performance of others even though the managers being evaluated may have no control over others performance.
What two points must be kept in mind when examing performance-based measurement systems?
1) All performance measurement schemes, including account-based schemes, are likely to produce misleading results and induce dysfunctional behavior if used mechanically and in isolation from other measures.
2) No system is perfect. Is the system better than the next best alternative?
