Page 66 - DMGT514_MANAGEMENT_CONTROL_SYSTEMS

Unit 4: Responsibility Centers

(iv) If the output of a product/division is fairly homogeneous, a profit centre may not Notes
offer substantial advantage (e.g. cement),
(v) There may be friction between profit centres. It may generate too much interest in
the short-term profit exposures than the long-term results.
3. If headquarters management is more capable or better informed than the average profit
centre manager, the quality of decisions at the unit level may be reduced.
4. Measurement of expenses: Some expenses are incurred for the organization as a whole,
how these expenses are to be considered for the profit centre evaluation, is another matter
where there is scope for the difference of opinion.
5. Transfer prices: A transfer price is a price used to measure the value of goods/services
furnished by a profit centre to another responsibility centre within a company. The
determination of an appropriate transfer price is one of the major problems of profit
centres. The implication of the transfer price is that for the selling division (the division
from where goods/services are being transferred), it will be a source of revenue, whereas,
for the buying division (the division which is receiving/acquiring the good/services), it
is an element of cost. It will, therefore, have a significant bearing on the revenues, costs
and profits of responsibility centers. Hence, the need for correct determination of transfer
prices. The determination is complicated because a wide variety of alternative methods
are available.
6. Competent general managers may not exist in a functional organization because there
may not have been sufficient opportunities for them to develop general management
competence.
7. There is no completely satisfactory system for optimizing the profits of each individual
profit centre that will optimize the profits of the company as a whole.

4.6.3 Other Profit Centres

In addition to business units, there are other profit centers which are not natural profit centers
but constructed profit centres. Some examples are given below:
1. Marketing in a functional organization or in business units: A marketing activity can be
made into a profit centre by charging the cost of the goods sold to the marketing manager.
A transfer price provides the marketing manager with the relevant information to make
the optimum revenue/cost trade-offs, since managers are measured on profitability, there
is a check on how well these decisions are being made. Also, this gives motivation to
managers to maximize profits. The transfer price should be based on standard cost and not
on actual cost of products sold. This separates manufacturing cost performance from the
marketing performance.
The marketing should be given a profit responsibility when the marketing manager is in
the best position to make the cost/revenue trade-offs as for example, different conditions
existing in different geographical areas e.g. a foreign marketing activity. In such a situation,
it is difficult to centrally control such divisions as how to market a product, how much to
spend on sales promotion, how to train the salesman or dealers, etc.

2. Manufacturing: The manufacturing activity is usually an expense centre and the
management of such activities is judged on the basis of performance against standard
costs and overhead budgets. This measure can cause problems since it does not necessarily
indicate how well the manager is performing all aspects of the job e.g. manager may skip
on quality control, shipping products of inferior quality to obtain standard cost credit or

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