IN MATRIX FORMAT

C. IN MATRIX FORMAT

Product Costs

produces the intended or expected results. Efficiency is used in its engineering sense— that is, the amount of output per unit of input. An efficient operation either produces

a given quantity of outputs with a minimum consumption of inputs or produces the largest possible outputs from a given quantity of inputs. Effectiveness is always related to the organization’s objectives. Efficiency, per se, is not. An efficient responsibility center is one that does whatever it does with the low- est consumption of resources. However, if what it does (i.e., its output) is an inade- quate contribution to the accomplishment of the organization’s objectives, then it is ineffective.

Example If a department responsible for processing incoming sales orders does so at a low cost per order processed, it is efficient. If, however, the department is slow in answering customer queries about the status of orders, thus antagonizing customers to the point where they take their business elsewhere, the department is ineffective.

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Chapter Twenty-Two

Control: The Management Control Environment

means “doing the right things.” In many responsibility centers a measure of efficiency can be developed that re- lates actual costs to a number that expresses what costs should be for a given amount of output (that is, to a standard or budget). Such a measure can be a useful indication, but never a perfect measure, of efficiency for at least two reasons: (1) recorded costs are not a precisely accurate measure of resources consumed, and (2) standards are, at best, only approximate measures of what resource consumption ideally should have been in the circumstances prevailing.

A responsibility center should be both effective and efficient; it is not a case of one or the other. In some situations both effectiveness and efficiency can be encompassed within a single measure. For example, in profit-oriented organizations, profit measures the combined result of effectiveness and efficiency. When an overall measure does not exist, classifying the various performance measures used as relating either to effective- ness (e.g., warranty claims per 1,000 units sold) or efficiency (e.g., labor-hours per unit produced) is useful.

Types of Responsibility Centers

As previously noted, an important business goal is to earn a satisfactory return on in- vestment (ROI). Return on investment is the ratio:

Investment

The three elements of this ratio lead to definitions of the types of responsibility cen- ters important in management control systems. These are (1) revenue centers, (2) ex- pense centers, (3) profit centers, and (4) investment centers.

Revenue Centers If a responsibility center manager is held accountable for the outputs of the center as measured in monetary terms (revenues) but is not responsible for the costs of the goods or services that the center sells, then the responsibility center is a revenue center. Many companies treat regional sales offices as revenue centers. In retailing companies, it is customary to treat each selling department as a revenue center.

A sales organization treated as a revenue center usually has the additional re- sponsibility for controlling its selling expenses (travel, advertising, point-of-purchase displays, and so on). Therefore, revenue centers are often expense centers as well. However, a revenue center manager is not responsible for the center’s major cost item—its cost of goods and services sold. Thus, subtracting just the selling expenses for which the manager is responsible from the center’s revenues does not result in a very meaningful number, and certainly does not measure the center’s profit.

Expense Centers

If the control system measures the expenses (i.e., the costs) incurred by a responsibility center but does not measure its outputs in terms of revenues, then the responsibility cen- ter is called an expense center. Every responsibility center has outputs; that is, it does something. In many cases, however, measuring these outputs in terms of revenues is nei- ther feasible nor necessary. For example, it would be extremely difficult to measure the monetary value of the accounting or legal department’s outputs. Although measuring the revenue value of the outputs of an individual production department generally is rela- tively easy to do, there is no reason for doing so if the responsibility of the department

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manager is to produce a stated quantity of outputs at the lowest feasible cost. For these rea- sons, most individual production departments and most staff units are expense centers.

Expense centers are not quite the same as cost centers. Recall from Chapter 18 that a cost center (or cost pool) is a device used in a full cost accounting system to col- lect costs that are subsequently to be charged to cost objects. In a given company most but not all cost centers are also expense centers. However, a cost center such as Oc- cupancy is not a responsibility center at all and, hence, is not an expense center.