POINTS TO REMEMBER: STRATEGIC COST MANAGEMENT

(Responsible Accounting)

RESPONSIBLE ACCOUNTING
- Accounting information system that will be used to evaluate the performance of both the
segment and the segment manager.
SEGMENT
- A business unit/department/branch

4 DIFFERENT TYPES OF SEGMENT or CENTERS:

1. Revenue Center
2. Cost Center Responsibility Centers
3. Profit Center
4. Investment Center

SEGMENT’S RESPONSIBILITY (Things they are accountable for)

Revenue Center- managers are responsible for generating sales revenue. Example, sales
and marketing department.
Cost Center- HR, Accounting department. Departments that do not generate revenue but
incurs cost. These department will be evaluated based on cost incurred. Goal: Minimize
cost.
Profit Center- Responsible for revenue and cost. Managers should be able to maximize the
revenue generating potential of that department as well as cost minimization. Uses
operating income.
Investment Center- Most complex among the responsibility centers. Aside from generating
profit, maximizing revenue and minimizing cost, managers of this department will also be
evaluated based on amount of assets that are needed to generate the income. Uses not only
operating income but rather the ROI (Return on Investment).

QUESTION: What is the basis in evaluating the performance of the manager and the segment?
- Only factors that they can control or controllable variables/factor.
PROFIT CENTER’S PERFORMANCE MEASURE: SEGMENTED INCOME STATEMENT
Pro forma:
Revenue XXX
Less: Variable MOH (DL, DM, VOH) (XXX)
Manufacturing Margin XXX
Less: VSAE (XXX)
Contribution Margin XXX
Less: Controllable Fixed Costs (XXX) *BASED ON UNITS PRODUCED
Segment Controllable Margin XXX
Less: Non-controllable but traceable (XXX)
Segment Margin XXX
Less: Allocated/Common Costs (XXX)
OPERATING INCOME XXX

CLASSIFICATION OF FIXED COSTS IN RESPONSIBILITY ACCOUNTING

Controllable

FIXED COSTS
Non-controllable
>Non-controllable but traceable
>Not traceable but allocated (Common Cost)

EVALUATION:
>Relevant in deciding whether the manager of a segment is doing a good job: CONTROLLABLE
MARGIN
>Relevant in deciding whether the segment is doing well: SEGMENT MARGIN
>Better performance between two segments of same size and performance: SEGMENT MARGIN
>Better performance of manager between two segments of same size and performance:
CONTROLLABLE MARGIN

INVESTMENT CENTER’S PERFORMANCE MEASURE: ROI

Formula: Return on Investment

𝑶𝒑𝒆𝒓𝒂𝒕𝒊𝒏𝒈 𝑰𝒏𝒄𝒐𝒎𝒆 (𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑒𝑥𝑝𝑒𝑛𝑠𝑒 𝑎𝑛𝑑 𝑡𝑎𝑥 𝑒𝑥𝑝𝑒𝑛𝑠𝑒 𝑛𝑜𝑡 𝑖𝑛𝑐𝑙𝑢𝑑𝑒𝑑)
𝑹𝑶𝑰 =
𝑨𝒗𝒆𝒓𝒂𝒈𝒆 𝑶𝒑𝒆𝒓𝒂𝒕𝒊𝒏𝒈 𝑨𝒔𝒔𝒆𝒕
𝑹𝑶𝑰 = 𝑷𝒓𝒐𝒇𝒊𝒕 𝑴𝒂𝒓𝒈𝒊𝒏 × 𝑨𝒔𝒔𝒆𝒕 𝑻𝒖𝒓𝒏𝒐𝒗𝒆𝒓
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐼𝑛𝑐𝑜𝑚𝑒 𝑆𝑎𝑙𝑒𝑠
𝑹𝑶𝑰 = ×
𝑆𝑎𝑙𝑒𝑠 𝐴𝑣𝑒. 𝐴𝑠𝑠𝑒𝑡
 GROSS OPERATING ASSETS vs NET OPERATING ASSETS
>The difference lies only on the Depreciation Expense.
>Weakness of ROI: If it uses the net operating asset as the denominator, even if through the years
the segment has even performance (same OI), the ROI will still reflect improvement in the numbers
even though there is really no improvement.
>Only when using the gross operating that the ROI will be able to reflect that there is really no
improvement on the segment’s performance.

*Note: Working Capital included in Operating Assets

Usually, net operating assets are used in computing the ROI.

RESIDUAL INCOME

Formula: Residual Income

𝑹𝒆𝒔𝒊𝒅𝒖𝒂𝒍 𝑰𝒏𝒄𝒐𝒎𝒆 = 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐼𝑛𝑐𝑜𝑚𝑒 − 𝑀𝑖𝑛. 𝑅𝑒𝑞𝑢𝑖𝑟𝑒𝑑 𝐼𝑛𝑐𝑜𝑚𝑒

𝑴𝒊𝒏 𝑹𝒆𝒒𝒖𝒊𝒓𝒆𝒅 𝑰𝒏𝒄𝒐𝒎𝒆 = 𝐴𝑣𝑒. 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐴𝑠𝑠𝑒𝑡𝑠 × 𝐷𝑒𝑠𝑖𝑟𝑒𝑑 𝑅𝑎𝑡𝑒 𝑜𝑓 𝑅𝑒𝑡𝑢𝑟𝑛

>used by the top management

ECONOMIC VALUE ADDED

Formula: EVA

𝑬𝑽𝑨 = 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐼𝑛𝑐𝑜𝑚𝑒 𝑎𝑓𝑡𝑒𝑟 𝑇𝑎𝑥 − [(𝐴𝑣𝑒. 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑎𝑠𝑠𝑒𝑡𝑠 − 𝐴𝑣𝑒. 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠) × 𝑊𝐴𝐶𝐶]
𝑬𝑽𝑨 = 𝐸𝐵𝐼𝑇(1 − 𝑇𝑎𝑥) − [(𝑎𝑣𝑒. 𝑂𝑝 𝐴𝑠𝑠𝑒𝑡𝑠 − 𝑎𝑣𝑒. 𝑂𝑝 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠) × 𝑊𝐴𝐶𝐶

>used by the investors