In this part of the chapter, we take a more detailed look at how companies measure the finan- cial perspective of the balanced scorecard for different business segments of the company. We focus now on the financial performance measurement of each type of responsibility center.
Responsibility reports are performance reports that capture the financial perfor- mance of cost, revenue, and profit centers with a focus on responsibility and control. Recall that performance reports compare actual results with budgeted amounts and display a vari- ance, or difference, between the two amounts. Because cost centers are only responsible for controlling costs, their performance reports include only information on actual costs versus budgeted costs. Likewise, performance reports for revenue centers contain only actual revenue versus budgeted revenue. However, profit centers are responsible for both controlling costs and generating revenue. Therefore, their performance reports contain actual and budgeted information on both their revenues and costs.
A unique factor of responsibility reports is the focus on responsibility and controllability.
Because the responsibility reports are used for performance evaluation, the focus is only on what the manager has responsibility for and control over. It is not logical to evaluate a manager on items he or she cannot control or is not responsible for.
Controllable Versus Noncontrollable Costs
A controllable cost is one that the manager has the power to influence by his or her decisions. All costs are ultimately controllable at the upper levels of management, but con- trollability decreases as responsibility decreases. That means lower-level management has responsibility for a limited amount of costs. Responsibility accounting attempts to associate costs with the manager who has control over the costs. Results are shown on a responsibility report, sometimes called a responsibility accounting performance report. Responsibility reports are completed for each manager of a business segment.
Let’s consider the production manager at Smart Touch Learning. This manager is responsible for efficiently and cost-effectively producing quality products. The production manager is, therefore, responsible for controlling the direct materials usage by properly training production workers, thus avoiding waste. On the other hand, the production man- ager does not make investment decisions, such as the decision to replace older, inefficient manufacturing equipment with new equipment. That type of decision is made at a higher level of management. Therefore, a responsibility report for the production manager would
Learning Objective 3 Use responsibility reports to evaluate cost, revenue, and profit centers
Responsibility Report Performance report that captures
the financial performance of cost, revenue, and profit centers with a focus on responsibility and controllability.
Controllable Cost A cost that a manager has the power to influence by his or her decisions.
Try It!
Classify each key performance indicator according to the balanced scorecard perspective it addresses. Choose from the following:
financial perspective, customer perspective, internal business perspective, or learning and growth perspective.
9. Number of repeat customers 10. Employee turnover
11. Revenue growth
12. Number of on-time deliveries
13. Number of defects found during the manufacturing process
Check your answers online in MyAccountingLab or at http://www.pearsonhighered.com/Horngren.
For more practice, see Short Exercises S24-3 and S24-4. MyAccountingLab
not include depreciation expense on the manufacturing equipment because that cost is beyond his or her control. Likewise, the manager does not control his or her own salary, so that item would also not be listed on the report.
Responsibility Reports
Let’s look at responsibility reports for cost, revenue, and profit centers.
Cost Centers
Cost center responsibility reports typically focus on the flexible budget variance—the differ- ence between actual results and the flexible budget. Recall that a flexible budget uses stan- dard (budgeted) costs at the actual level of activity. Therefore, the flexible budget variance highlights the differences caused by changes in cost, not by changes in sales or production volume. Exhibit 24-4 illustrates the difference between a performance report and responsibility report for a cost center using the regional payroll processing department of Smart Touch Learning. Because the payroll processing department only incurs costs and does not gener- ate revenue, it is classified as a cost center.
Exhibit24-4 | Performance Report Versus Responsibility Report—Cost Center
Payroll Benefits Salaries
Actual
Results Flexible
Budget Flexible
Budget Variance % Variance*
Wages
Equipment Depreciation Supplies
Other Expenses Total Expenses
* % Variance = Flexible Budget Variance / Flexible Budget
* % Variance = Flexible Budget Variance / Flexible Budget
$ 3,000 0.0%
4.5%
5.0%
7.5%
3.3%
0.0%
$ 3,000 $ 0
$ 30,000 $ 1,350
$ 31,350
2,000 100
1,900
1,850 2,000 150
15,500 15,000 500 U
U
F F U
U 22.0% U
F F U 1,100
3,000
6,100 5,000
3,000 0
SMART TOUCH LEARNING
Payroll Processing Department Performance Report For the Month Ended July 31, 2020
Other Expenses Wages
Actual
Results Flexible
Budget Flexible
Budget Variance % Variance*
Supplies
Total Expenses
$ 15,500 3.3%
7.5%
1.3%
$ 15,000 $ 500
1,850 2,000 150 F
U
F U
5.0%
F
U U
100 F
$ 19,250
1,900 2,000
$ 19,000 $ 250 SMART TOUCH LEARNING
Payroll Processing Department Responsibility Report For the Month Ended July 31, 2020
The performance report shows all costs incurred by the department. The salaries, wages, and payroll benefits are the costs related to the employees of the Regional Payroll Processing Department. The other expenses listed on the reports are direct costs of that department. This report is useful when management needs to know the full cost of operating the department. For example, if Smart Touch Learning is considering outsourc- ing the payroll function and eliminating the department, then management needs the full cost information to make the decision. (This type of decision is covered later in the short- term business decisions chapter.) However, if Smart Touch Learning wants to evaluate the performance of the department manager, then the responsibility report is more useful.
Notice the items that are included in the performance report but are not included in the responsibility report:
• Salaries—The department manager does not control his or her own salary.
• Payroll Benefits—Costs such as health insurance are determined at a higher level and are not controlled by the department manager. Other payroll costs, such as payroll taxes, are determined by law and also are not controlled by the department manager.
• Equipment Depreciation—The department manager does not have the authority to make investment decisions and, therefore, is not held responsible for the cost.
Managers use management by exception to determine which variances in the responsibility report are worth investigating. Management by exception directs management’s attention to important differences between actual and budgeted amounts. For example, management may investigate only variances that exceed a certain dollar amount (for example, more than
$1,000) or a certain percentage of the budgeted figure (for example, more than 10%). Using percentage variances help highlight the proportion of the variance by showing the relative change between the budgeted and actual amounts. For example, the flexible budget vari- ance for wages was $500 unfavorable which is only a 3.3% unfavorable variance ($500 /
$15,000). However, for supplies, the flexible budget variance is only $150 favorable but is a 7.5% favorable variance ($150 / $2,000). Variances expressed as percentages help man- agers identify which variances need investigation. Smaller variances signal that operations are close to target and do not require management’s immediate attention. Companies that use standard costs can compute cost and efficiency variances to better understand why significant flexible budget variances occurred.
Revenue Centers
Revenue center responsibility reports often highlight both the flexible budget variance and the sales volume variance. The responsibility report for the Premium Tablet Sales Depart- ment of Smart Touch Learning might look similar to Exhibit 24-5, with detailed sales volume and revenue shown for each type of premium tablet computer sold. The Sales Department is part of the Premium Tablet Department (for simplicity, the exhibit shows volume and revenue for only one item).
Exhibit24-5 | Responsibility Report—Revenue Center
Number of Premium Tablets
Actual Sales
Flexible Budget
Variance Flexible Budget
Sales Volume
Variance Static Budget
Net Sales Revenue
10 F
$ 5,000 F $ 40,000 80 90
$ 47,250
0
$ 2,250 F
90
$ 45,000 SMART TOUCH LEARNING
Premium Tablet Sales Department Responsibility Report For the Month Ended July 31, 2020
Recall that the sales volume variance is due strictly to volume differences—selling more or fewer units than originally planned. The flexible budget variance, however, is due strictly to differences in the sales price—selling units for a higher or lower price than origi- nally planned. The budgeted sales price is $500 per tablet ($45,000 / 90 tablets). However, the actual sales price was $525 per tablet ($47,250 / 90 tablets) which resulted in a $2,250 favorable flexible budget variance. Both the sales volume variance and the flexible budget variance help revenue center managers understand why they have exceeded or fallen short of budgeted revenue.
Profit Centers
Managers of profit centers are responsible for both generating revenue and controlling costs, so their performance reports include both revenues and expenses. Exhibit 24-6 shows an example of a profit center performance report for the Standard Tablet Computer Department.
Exhibit24-6 | Performance Report—Profit Center
Contribution Margin Net Sales Revenue
Actual Flexible
Budget Flexible
Budget Variance % Variance
Variable Expenses
Traceable Fixed Expenses Department Segment Margin
4.9% F 4.6% U
12.4% U 6.0% F
5.5% F
$ 5,243,600
$ 975,800 4,183,500
84,300 1,060,100
$ 5,000,000
$ 925,000 4,000,000 1,000,000 75,000
$ 243,600 F 183,500 U
$ 50,800 F 60,100 F 9,300 U SMART TOUCH LEARNING
Standard Tablet Department Performance Report For the Month Ended July 31, 2020
Notice how this profit center performance report contains a line called “T raceable Fixed Expenses.” Recall that one drawback of decentralization is that subunits may duplicate costs or assets. Many companies avoid this problem by providing centralized service departments where several subunits, such as profit centers, share assets or costs. For example, the payroll processing cost center shown in Exhibit 24-4 serves all of Smart Touch Learning. In addition to centralized payroll departments, compa- nies often provide centralized human resources departments, legal departments, and information systems departments.
When subunits share centralized services, management must decide how to allocate those costs to the various segments that utilize their services. If the costs are not allocated, the subunit’s performance report will not include any charge for using those services. How- ever, if they are allocated, the performance report will show a charge for the traceable portion of those expenses, as shown in Exhibit 24-6.
Most companies charge subunits for their use of centralized services because the subunit would incur a cost to buy those services on its own. For example, if Smart Touch
Keep in mind, however, that even if the department is charged for the services, the charge would most likely be included in the department’s performance report but not be included in the department’s responsibility report. Responsibility accounting holds the man- ager with the most influence for the cost accountable for the cost. The manager for the Standard Tablet Department would most likely not have any control over cost decisions made for the payroll processing department. Exhibit 24-7 shows the responsibility report for the department. Notice that the traceable fixed expenses are not included.
Exhibit24-7 | Responsibility Report—Profit Center
Contribution Margin Net Sales Revenue
Actual Flexible
Budget Flexible
Budget Variance % Variance
Variable Expenses
4.9% F 4.6% U 6.0% F
$ 5,243,600
$ 1,060,100 4,183,500
$ 5,000,000
$ 1,000,000 4,000,000
$ 243,600 F 183,500 U
$ 60,100 F SMART TOUCH LEARNING
Standard Tablet Department Responsibility Report For the Month Ended July 31, 2020
Fraser Marrero is the sales representative for the northwest terri- tory of Tidwell, Inc. Tidwell considers each sales territory a business segment. The company provides each sales representative with a monthly income statement for his or her territory, and sales rep- resentatives are evaluated based on these statements. Tidwell also has a bonus system. Year-end bonuses for sales representatives are determined based on the success of the sales territory.
Fraser is taking some time to analyze his income statements for the first nine months of the fiscal year. Fraser has worked hard to build better relationships with existing customers while also adding new customers. The sales revenue for his territory has been steadily increasing. Unfortunately, the operating income for the territory has not shown much improvement. Fraser has had some increases in travel costs, but they have been in line with the increases in sales. Other costs, however, have increased sig- nificantly. The income statements show the allocation of corpo- rate administrative costs such as salaries for office personnel and depreciation on office equipment.
“How am I ever going to earn a bonus with all these addi- tional costs?” Fraser wondered. “I don’t have any control over them, but I still seem to be held responsible for them. I need to talk to the sales manager.”
Fraser schedules a meeting with the sales manager, Tony Voss. How should the sales manager respond?
Solution
All employees need to understand the goals of the company and work toward achieving them. Tony should explain why Fraser is
being evaluated the way that he is so he can work to improve his performance, which should also benefit the company as a whole. The sales manager should explain that sales territories are expected to generate enough sales to cover their own territory’s costs, a portion of the corporate overhead costs, and also contrib- ute toward companywide profits. Fraser receives benefits from the corporate office, such as payroll processing, customer order pro- cessing, and collections of accounts receivable from his customers.
Therefore, it is appropriate for a portion of the corporate costs to be allocated to his territory. The current reporting system allows upper management to determine which territories are achieving the company’s overall profitability goals.
Alternate Solution
Fraser has a right to question the sales manager about the evalu- ation system. Fraser should be evaluated only on those items that he has control over, which is a key component of responsibility accounting. If the corporate office installs a new computer system, which increases depreciation, the current system allocates a por- tion to his territory, causing an increase in expenses and a decrease in operating income. Fraser, however, has no control over this decision and should not be held responsible for it. Fraser should request that Tidwell, Inc. not only provide the performance reports it is currently generating, but also responsibility reports for each territory. The responsibility reports should include only those items the sales representatives have significant control over and are able to influence. Performance evaluations and bonuses should be based on the responsibility reports.