Management Control System Ch. 4 Responsibility Center

1. MANAGEMENT CONTROL
SYSTEM
CITRA DEWI WULANSARI
14/374248/PEK/19683
REGULER 36
Ch.4 Responsibility Center & Revenue
Expenses

2. Concept of MCS
2
 Management Control :
“is the process by which managers assure that the resources
obtained are used efficiently and effectively in the accomplishment of
organizational goals” : Anthony
Efficiency : doing the things right ie. Relationship between input and
output
I/P efficiency O/P
Effectiveness : doing the right things ie. Relationship between output
and objectives
O/P effectiveness OBJECTIVES
System is a prescribed way or a systematic way of carrying out a
set of activities which are usually repetitive in nature

3. Responsibility Centers - Basic
3
 Responsibility Centers (RC) constitute the
structure of a control system and the
assignment of responsibility to organizational
units must reflect the organizations strategy.
 RC is an organization unit that is headed by a
manager who is responsible for its activities
 RC exists to accomplish some purpose that are
called as its objectives

4. 4
Responsibility Centers – Core
operation
 RC receives inputs. Using capital and assets it
converts this input in an output, that can be either
tangible (goods) or intangible (services)
 Management is responsible for ensuring the
optimum relationship between inputs and outputs
Work
Inputs Outputs
Resources used
Measured by “cost”
Goods or services

5. Responsibility Centers –
Measuring inputs and outputs
5
 Cost is a monetary measure of the amount of
resources used by a RC
 It is much easier to measure the cost of input
than to calculate the value of outputs. For
example, a college can easily measure how
many students have passed but it is difficult to
measure how much education each of them
acquired

6. Responsibility Centers – Measuring inputs
and outputs – Efficiency and Effectiveness
6
 Efficiency and effectiveness are the 2 performance
measurement criteria for RC
 Efficiency is a ratio of input to output (doing things right)
 Effectiveness is determined by the relationship between
a RC’s output and its objectives (doing right things)
 These 2 e’s are not mutually exclusive; each RC has to
be efficient and effective as well
 Profit as a measure of performance measures both
efficiency and effectiveness because profit is the major
objective (effectiveness) and it is also the difference
between output and input (efficiency)

7. 7
Responsibility Centers - Types
Inputs
Work
Outputs
(monetary value) (physical)
Optimal relationship
Can be established
Example – Manufacturing Function
Above is the relationship between input and output in case of
An ENGINEERED EXPENSE CENTER
Characteristics : - 1. Input can be measured in monetary terms
2. Output can be measured in physical terms
3. Optimum relationship between amount of input
for one unit of output can be established

8. 8
Responsibility Centers - Types
Inputs
Work
Outputs
(monetary value) (physical)
Optimal relationship
cant be established
Example – R & D Function
Above is the relationship between input and output in case of
An DISCRETIONARY EXPENSE CENTER
1. Reflects management’s decisions regarding certain policies
2. Weather to match or exceed the marketing efforts of competitors
3. To find the appropriate amounts to spend for R&D

9. 9
Responsibility Centers - Types
Inputs
Work
Outputs
(monetary value
only for costs
directly incurred)
(monetary value)
Inputs not related to
outputs
Example – Marketing Function
Above is the relationship between input and output in case of
a REVENUE CENTER
1. Mostly are sales unit that do not have authority to set selling price
2. Focus on target revenue only
3. Market demands is hard to predict

10. 10
Responsibility Centers - Types
Inputs
Work
Outputs
(monetary value) (monetary value)
Inputs are related to
outputs
Example – BU
Above is the relationship between input and output in case of
a PROFIT CENTER, the role of profit :
1. Profit as an objectives is an important measure of effectiveness
2. Profit is the difference between revenue (output) and expense
(input)
3. Thus, profit measures both effectiveness and efficiency
“Who may be effective but not efficient, with the frugal manager, who
uses less input but produces less than the optimum output ?”

11. 11
Responsibility Centers - Types
Inputs
Capital
employed
Outputs
(monetary value) (monetary value)
Profits are related to
capital employed
Example – BU
Above is the relationship between input and output in case of
an INVESTMENT CENTER :
- Chapter 7 Measuring & Controlling Asset Employed

12. Responsibility centers
Engineered & Discretionary expense center
12
Point Engineered EC Discretionary EC
Nature of expenditure Engineered costs are those for
which standards can be easily
established
Discretionary costs are those for
which standards cant be easily
established
I/p - o/p relationship Optimal relationship can be
established
Optimal relationship cant be
established
Application Manufacturing function Service function
Budget preparation Budget represents unit cost of
performing task efficiently
Budget determined by the
magnitude of the job to be done
Budgetary control Difference between budget and
actual is a measure of efficiency
(since input and output optimum
relationship can be established)
Being “within budget” is
important
Difference between budget &
actual is not a measure of
efficiency (since input and
output optimum relationship cant
be established)
Doing the task is more important
(doesn’t mean that budget is not
to be adhered; emphasis differs)
Financial control During performance More at planning stage

13. Responsibility centers
Profit center & Revenue center
13
Profit Center Revenue Center
Meaning A responsibility center that is
responsible for both revenues
and expenses is profit center.
A responsibility center that is
responsible for revenues but not
for the expenses is revenue
center.
I/p - o/p relationship Optimal relationship is
established between value of
output (revenue) and value of
input (expense)
Optimal relationship cant be
established between value of
output (revenue) and value of
input (expense)
Application Business units Marketing offices
Goal Maximizing profit by controlling
both revenue and expenses
Maximizing revenue

14. Responsibility Centers –
General control characteristics of Discretionary EC’s
14
 Budget preparation – based on the magnitude of the task to be
done. Tasks divided into 2 :
 Continuing
 Special
 Incremental Budgeting
 Zero Based Review
 Cost variability – not in short run
 Type of Financial control – planning important
 Measurement of performance – Doing the planned work is
important

15.  Incremental budgeting is budgeting based on
slight changes from the preceding period's
budgeted results or actual results.
 This is a common approach in businesses
where management does not intend to spend
a great deal of time formulating budgets, or
where it does not perceive any great need to
conduct a thorough re-evaluation of the
business.
Budgetary control –
Incremental Budgeting

16.  Drawbacks in incremental budgeting method :
1. The current level’s expenditure is accepted and
not reexamined during the budget preparation
process.
2. Managers typically want to increase the
resource level, thus tend to request additional
budget.
3. Overhead cost are sometimes drastically
reduced without any adverse consequences.
Budgetary control –
Incremental Budgeting

17. Budgetary control –
Zero based review
17
• In contrast to incremental budgeting, Zero Based Review
starts the budget from the scratch (de novo)
• Managers are required to justify the items with proper
bases
• Thus ZBR is an intensive review of the budgetary
allocations
• Certain basic questions are asked like – should the activity
under review be performed at all? What should the quality
level be?
• It is a good way of doing budgeting and can eliminate a lot
of waste. However it demands some time and energy.

18.  Variable costs are costs that change in proportion to
the good or service that a business produces.
 Discretionary expense centers, managers tend to
approve changes that correspond to anticipated
changes in sales volume.
 Uneconomical to adjust the work force for short-run
fluctuations.
 Example : allowing additional personal when volume is expected
to increase and layoff when volume is decrease.
Budgetary control –
Variable cost

19.  The objective is to become cost competitive by
setting a standard and measuring the actual
cost.
 Allowing the manager to participate in the
planning of discretionary expense budgeting.
 Financial control is primarily exercised at the
planning stage before the cost are incurred.
Budgetary control –
Financial control

20.  Spending amount that is “on budget” is
satisfactory, spending more may will cause for
concern, spending less may indicate the planned
work is poorly done.
 Total control over discretionary expense centers is
achieved primarily through nonfinancial
performance measure.
 The best indication for quality service is the
satisfaction and opinion of the user.
Budgetary control –
Measurement of Performance

21. Responsibility Centers –
Administrative & Support Centers – Control problems & Budget
preparation21
 2 important reasons for control problems
 Difficulty in measuring output
 Lack of goal congruence
 Budget preparation
 Section covering costs of “being in business”
 Discretionary activities
 Justification for proposed increases in budget

22. Responsibility Centers
R&D centers – control problems, budget preparation & performance
measurement22
 Budget preparation
 One should understand R & D continuum
• Basic research – applied research – development –
production engineering – testing
 No scientific way of determining R & D budget
 Some companies use % of revenue for R&D budget
 For basic research, budget can be a lump-sum amount
 For testing, number of testing can be a budget base
 Performance measurement
 Monthly/quarterly reports on budgeted and actual
expense
 2 types of financial reports – one reporting total
R&D expense, the other reporting it separately for
each RC
 Effectiveness of research is informed though
progress reports ( these are not financial reports)

23. Responsibility Centers –
Marketing Centers – activities and related controls
23
 Logistic Activities
 These RCs are similar to expense centers in
manufacturing plants and can be safely called as
engineered expense centers
 Marketing activities – control problems
• Measuring output is easy, evaluating effectiveness is
difficult because of influence of “other” factors on sales
• Marketing expenses are often budgeted at % of sales
not because sales volume cause marketing expenses
but because it gives larger affordability
• “Order-getting costs” are that way discretionary and
controls cannot be easily standardized