by A responsibility center is a functional entity within a business that has its own goals and objectives, dedicated staff, policies and procedures, and financial reports. It is used to give managers specific responsibility for revenues generated, expenses incurred, and/or funds invested. This allows the senior managers of a company to trace all financial activities and results of a business back to specific employees. Doing so preserves accountability, and may also be used to calculate bonus payments for employees.
There may be many responsibility centers in a business, but never less than one such center. Thus, a responsibility center is usually a subset of a business. These centers are usually stated on a firm’s organization chart.
From an accounting perspective, a financial report should be issued to each responsibility center that itemizes the revenues, expenses, profits, and/or return on investment for which the manager of each center is solely responsible. This can result in quite a large number of customized reports being issued on an ongoing basis.
The use of multiple responsibility centers requires a certain amount of corporate infrastructure to develop each center, track its results, and manage expectations with the various managers.
Types of Responsibility Centers
A responsibility center may be one of four types, which are:
Revenue center. This group is solely responsible for generating sales. A typical revenue center is the sales department. A revenue centre is a segment of the organisation which is primarily responsible for generating sales revenue. A revenue centre manager does not possess control over cost, investment in assets, but usually has control over some of the expense of the marketing department. The performance of a revenue centre is evaluated by comparing the actual revenue with budgeted revenue, and actual marketing expenses with budgeted marketing expenses. The Marketing Manager of a product line, or an individual sales representative are examples of revenue centres.
Cost center. This group is solely responsible for the incurrence of certain costs. A typical cost center is the janitorial department.
A cost or expense centre is a segment of an organisation in which the managers are held responsible for the cost incurred in that segment but not for revenues. Responsibility in a cost centre is restricted to cost. For planning purposes, the budget estimates are cost estimates; for control purposes, performance evaluation is guided by a cost variance equal to the difference between the actual and budgeted costs for a given period. Cost centre managers have control over some or all of the costs in their segment of business, but not over revenues. Cost centres are widely used forms of responsibility centres.
Profit center. This group is responsible for both revenues and expenses, which result in profits and losses. A typical profit center is a product line, for which a product manager is responsible.
A profit centre is a segment of an organisation whose manager is responsible for both revenues and costs. In a profit centre, the manager has the responsibility and the authority to make decisions that affect both costs and revenues (and thus profits) for the department or division. The main purpose of a profit centre is to earn profit. Profit centre managers aim at both the production and marketing of a product.
The performance of the profit centre is evaluated in terms of whether the centre has achieved its budgeted profit. A division of the company which produces and markets the products may be called a profit centre. Such a divisional manager determines the selling price, marketing programmes and production policies.
Profit centres make managers more concerned with finding ways to increase the centre’s revenue by increasing production or improving distribution methods. The manager of a profit centre does not make decisions concerning the plant assets available to the centre. For example, the manager of the sporting goods department does not make the decisions to expand the available floor space for the department.
Benefits
- Participation in organizational plans and policies: Although profit centre managers are independent in the management of their business units, they function within the umbrella of overall organization. They get opportunities to participate in the discussion of plans and policies at the firm level. This widens their perspective and inculcates the habit of taking an integrated and macro view of activities in place of a narrow division specific view. In this process, profit centres managers can get trained to be the senior managers of their companies or other firms in the future.
- Better planning and decision making: Profit centres managers are independent in managing the activities and are responsible for profit and success of their business units. This encourages them to make better planning, profitable decisions and exercise control. It creates a sense of accountability among the profit centre managers.
- Beneficial competitive environment: All profit centres managers target success and profit by managing costs and aiming higher revenues. This creates a competitive environment among the managers managing their respective business units which is not only beneficial for them but also contributes in achieving the overall objectives of the firm and in maximizing the firm profit.
Contribution Centre:
It is centre whose performance is mainly measured by the contribution it earns. Contribution is the difference between sales and variable costs. It is a centre devoted to increasing contribution. The main responsibility of the manager of such a responsibility centre is to increase contribution. Higher the contribution better will be the performance of the manager of a contribution centre.
A manager has no control on fixed expenses because these expenses are constant and depend on policy decisions of the higher level of management. He can control contribution by increasing sales and by reducing variable costs. The manger of such a centre is to see that his unit operates at full capacity and contribution is maximum.
Investment center. This group is responsible not only for profits, but also for the return on funds invested in the group’s operations. A typical investment center is a subsidiary entity, for which the subsidiary’s president is responsible. An investment centre is responsible for both profits and investments. The investment centre manager has control over revenues, expenses and the amounts invested in the centre’s assets. He also formulates the credit policy which has a direct influence on debt collection, and the inventory policy which determines the investment in inventory.
