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Unit 4: Responsibility Centers

The alternative bases that may be used include: Notes
(a) Total assets available: This base includes assets, regardless of their individual purpose.
(b) Total assets employed: This base excludes excess or idle assets, such as vacant land or
construction in progress.
(c) Net working capital plus other assets: This is same as (a) except that current liabilities are
deducted from the total assets available. In a sense, this represents an exclusion of that
portion of current assets which is supplied by short-term creditors. The main justification
is that the manager often has control on the short-term credit. An able manager should
optimize use of such credit within some overall constraints.
(d) Shareholders equity: This base centers attention on the rate of return that will be earned by
the business owners.
Base (d) is important to the owners but is not so significant to the operating manager. He is
usually concerned with the utilization of assets, not with the long-term sources of assets. Business
has two major management functions - operating and financing and measurement of operating
performance (how available assets are employed) should not be influenced by financing decisions
(what sources of assets were selected).

Example: It would be not proper to use shareholders’ equity as the basis for comparing
the operating performance of two managers of similar companies, if one company is debt free
and the other debt-ridden.
Bases (a), (b) and (c) are always superior to shareholders equity for measuring the performance
of division managers. If the division manager’s mission is to utilize all assets, at least he can
without regard to their financing, consider (a) as the best. If top management directive force him
to carry extra assets which are not currently productive, then (b) is the best. If the manager has
direct control over the amount of the division’s short-term trade credit and bank loans, then (c)
is the best. In practice, (a) is used most often, although (c) is not far behind. The figure used for
total available assets should be the average amount during the period under review i.e., by
summing the beginning and ending balances and dividing by two; in other instances, a moving
or weighted average may be needed to achieve accuracy.

Self Assessment

Multiple Choice Questions:
10. Which of the following is considered to be third line of influence that top managers have
over profit centres?
(a) Rewards (b) Responsibility
(c) Motivation (d) None of the above

11. Which centres focus on cost and quality variables, do not produce revenues, and have
budgets only for the inputs?
(a) Investment centres (b) Profit centres

(c) Expense centres (d) Revenue centres

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