Responsibility Accounting

Introduction

• The role of management is to plan, organize, integrate, and inter-relate the organizational activities in such a way so that it can support to achieve organizational objectives.

• This role is facilitated through management control systems.

• A control system is a set of formal and informal systems to assist the management in steering the organization towards its goals.

• Control systems are employed in all organizations.

Management Control Systems

• The purpose of management control system assists the management in coordinating the activities of the organization and in steering of those activities towards the achievement of the firm’s overall purposes, goals, and objectives.

Functions

• Planning the activities of an organization.• Coordinating the activities of the

organization.• Communicating information to different

levels of the hierarchical structure.• Evaluating information and deciding the

action to be taken.• Influencing the people to change their

behaviour.

Control System

• Set of formal and informal system

• Assist the management in steering the organization

Accounting Database For Control

• Financial Accounting – review firms progress to date

• Cost Accounting – cost data for planning, control and decision making

• Decision Accounting – helps to arrive at right decision

• Control Accounting – permits inclusion of goals other than profit

• Responsibility Accounting – conveys costing information to manager of responsibility centre

Responsibility Accounting

• Responsibility Center– Revenue center – outputs are measured in

monetary terms– Expense center – inputs and expenses are

measured in monetary terms– Profit center – financial performance in terms

of profit – Investment center – control over sales

revenues and costs, and the assets used to generate profits

Responsibility Structure

• Functions– Efficiency Measure – performance in terms of

input for given level of outputs– Process Measure – pertains to production

process– Effectiveness Measure – output in terms of its

goals and objectives

Inter-Profit Center Relations

• Setting transfer price – Transfer price is the value of transfer of

services between profit centres

• Goal congruence

• Fairness in setting transfer price

PRICING DECISION

• Price does not make profits – sales make profit• Price consists of three components:

– Cost of production,– Various costs including the cost of getting it to customers,

and– Profit

• Price – (Eric Kohler) -the money consideration asked for or offered in exchange for a specified unit of a good or service.

• Price means the monetary value attached to a good or service after due consideration of all the factors influencing it including the cardinal (subjective) factor of utility.

Need For Pricing Decision

• One of the most important operating decisions that a management must make is the pricing decision.

• Pricing refers to the assignment of a selling price to a product or service provided by the company.

• Long range survival of company depends on its pricing decisions

• Pricing activities are more extensive than many people realize.

Objectives Of Pricing

• Attain the target result in short period

• Achieve and sustain market share

• Have consistency of the price

• To keep up profit motivation

• To sustain competitors’ forces effectively and efficiently

Factors Influencing Pricing Decisions

• Pricing decisions may be influenced by internal factors, such as costs and profit objectives, and by external factors, such as competitors’ pricing actions or regulatory pricing on profit guidelines.

• Pricing decisions are not only influenced by some factors, but in their turn, also influence some factors.

• The price of a product plays an important role in buying decisions, and thus acts as a major influencing factor in buying habits

Cost Factors And Pricing

• Every component of a service of product has different, specific cost.

• Cost components include material, labour, and overheads costs.

• Set prices to maximize profits and eliminate any unprofitable services.

• Price are set to maximize profits and eliminate unprofitable products and services

Cost-Plus Pricing

• Cost-plus pricing is the term used for any pricing method under which a price is set by adding some predetermined margin on the costs of the work to be executed.

• Total cost-plus profit percentage• Marginal cost-plus contribution percentage• Marginal cost-plus key-factor margin• Standard cost-plus pricing• Break-even pricing

Advantages Of Cost-Plus Pricing

• Required profit will be made if budgeted sales volume are achieved

• It is useful method in contract costing

• It is quick and economic to employ

• Useful in justifying selling process to customers

Disadvantages Of Cost-Plus Pricing

• There will always be problems associated with the selection of a suitable basis

• If prices are set on the basis of normal volume and actual volume turns out to be considerably lower, for whatever reason, cost-plus can give management a false sense of security.

• Cost-plus pricing overlooks the need for flexibility in different stages of a product’s life cycle.

Internal pricing of products -Transfer Pricing

• Transfer pricing involves assigning a monetary value to inter-departmental transactions.

• Selling prices are generally established by competition.

• When one division of a large company buys a product or service from another division of the same company, a special kind of a selling price called a transfer price is established.

Objectives Of Transfer Prices

• Inventory valuation

• Executive responsibility control

• Goal congruence

• Autonomy

• Motivation

Bases Of Transfer Prices

• Transfer prices at market price

• Cost based transfer prices– Standard v/s actual costs– Fixed v/s variable costs

• Transfer pricing at shadow price

• Transfer at negotiated prices

• Hybrid pricing methods