Centralized Organizations Centralization is a business structure in which one individual makes the important decisions (such as resource allocation) and provides the primary strategic direction for the company. * Most small businesses are centralized in that the owner makes all decisions regarding products, services, strategic direction, and most other significant areas. * However, a business does not have to be small to be centralized. * Many businesses in rapidly changing technological environments have a centralized form of management structure. * The decisions made by the lower level management are limited in a centralized environment. Bie eens) eeeCentralized Organizations The advantages of centralized organizations include: * clarity in decision-making * streamlined implementation of policies and initiatives * control over the strategic direction of the organization. The primary of centralized organizations can include: * limited opportunities for employees to provide feedback * ahigher risk of inflexibility. Bie een eee |AeA Og NPAT -_ Decentralization is a business structure in which the decision-making is made at various levels of the organization. Typically, decentralized businesses are divided into smaller segments or groups in order to make it easier to measure the performance of the company and the individuals within each of the sub-groups. * Inorder to be successful, a company must work hard to develop strategic competitive advantages that distinguish the company from its peers. The organizational structure must allow the organization to quickly adapt and take advantage of opportunities. * Many organizations adopt a decentralized management structure in order to maintain a competitive advantage. Bie eens) eeeWER EW IPL CLS) ADVANTAGES: Quick decision and response times — itis important for decisions to be made and implemented in a timely manner. In order to remain competitive, it is important for organizations to take advantage of opportunities that fit within the organization's strategy. + Better ability to expand company — it is important for organizations to constantly explore new opportunities to provide goods and services to its customers. * Skilled and/or specialized management — organizations must invest in developing highly skilled employees who are able to make sound decisions that help the organization achieve its goals. + Increased morale of employees — the success of an organization depends on its ability to obtain, develop, and retain highly motivated employees. Empowering employees to make decisions is one way to help increase employee morale, + Link between compensation and responsibility — promotional opportunities are often linked with a corresponding increase in ‘compensation. In a decentralized organization, a compensation increase often corresponds to a commensurate increase in the responsibilities associated with learning new skills, increased decision-making authority, and supervision of other employees. + Better use of lower and middle management — many tasks must be performed in order to achieve success in an organization. Decentralized organizations often rely on lower and middle management to perform many of these tasks. This allows managers to gain valuable experience and expertise in different areas. Bier een re aonDecentralized Organizations hice DISADVANTAGES: Coordination problems—'t is important for an organization to be working toward a common goal. Because decision-making is delegated in a decentralized organization, iti often dificult to ensure that al segments ofthe company are working ina consistent manner to achieve the strategic goals ofthe organization. Increased administrative costs due to duplication of efforts—because similar decisions need to be made and activities undertaken across all divisions of an organization, decentralized organizations are susceptible to duplicating efforts, which results in inefficiency and increased costs. Incongruity in operations—when autonomy is dispersed throughout the organization, as isthe case in decentralized organizations, division ‘managers may be tempted to customizealterthe operations of the division in an effort to maximize efficiency and suit the best interest ofthe division. inthis structure itis important to ensure the shortcuts taken by one division ofthe organization do not conflict with or disrupt the ‘operations of another division within the organization. Each department/division is often self-centered—_it is nat uncommon for separate divisions within an organization to be measured on the performance of the division rather than ofthe entire company. Ina decentralized organization, i is possible fo division managers to prioritize divisional goal over organizational goals. Leaders of decentralized organizations should encure the organization's goals remain the priority for all divisions to attain. Significant, int almost total, reliance on the divisional or department managers—-because divisions within decentralized organizations have a high Level of autonomy, the division may become operationally isolated from other divisions within the organization focusing solely onthe Priorities ofthe division. divisional or departmental managers do nat have a wide breadth of experience or skis, the division may be at a Aisadvantage due to limited access to other expertise. Beet een) eenResponsibility Accounting beable refers to an accounting system that collects, summarizes, and reports accounting data relating to the responsibilities of individual managers. A responsibility accounting system provides information to evaluate each manager on the revenue and expense items over which that manager has primary control (authority to influence). * Decentralized organizations use a responsibility accounting system to tie together lower-level managers’ decisions with accountability for the outcome of those decisions. In a responsibility accounting system, lower-level managers have decision-making authority, but they are also accountable for the effect on business that their decisions have. Responsibility accounting is a system that involves identifying responsibility centers and their objectives, developing performance measurement schemes, and preparing and analyzing performance reports of the responsibility centers. Responsibility accounting is an underlying concept of accounting performance measurement systems. The basic idea is that large diversified organizations are difficult, if not impossible to manage as a single segment, thus they must be decentralized or separated into manageable parts. These parts, or segments are referred to as responsibility centers. Bee reneeThe physical resources utilized in an organization; such as quantity of raw material used and labor hours consumed, are termed as inputs. These inputs expressed in the monetary terms are known as costs. * Similarly outputs expressed in monetary terms are called revenues. Thus, responsibility accounting is based on cost and revenue information. Se Pecunia De ee EC UIE nd SITLCS LACS * Effective responsibility accounting requires both planned and actual financial information. ¢ tis not only the historical cost and revenue data but also the planned future data which is essential for the implementation of responsibility accounting system. * It is through budgets that responsibility for implementing the plans is communicated to each level of management. * The use of fixed budgets, flexible budgets and profit planning are all incorporated into one overall system of responsibility accounting. Bee Cnc | |TACO OO SCS TIS MC) Identification of Responsibility Centers * The whole concept of responsibility accounting is focused around identification of responsibility centers. The responsibility centers represent the sphere of authority or decision points in an organization. * Cost center, revenue center, profit center, investment center Be ea noeTCLS LACS cena Relationship between Organizational Structure and Responsibility Accounting System * Responsibility accounting system should parallel the organizational structure and provide financial information to evaluate actual results of each individual responsible for a function. Bea oe rTCUCL COLAC TISIUNE CCU ol + After identifying responsibility centers and establishing authority-responsibility relationships, responsibility accounting system involves assigning of costs and revenues to individuals. Only those costs and revenues over which an individual has a definite control can be assigned to him for evaluating his performance. Bre ea enc | melFundamental Aspects of Responsibility Accounting Participative Management + The function of responsibility accounting system becomes more effective if participative or democratic style of management is followed, wherein, the plans are laid or budgets/ standards are fixed according to the mutual consent and the decisions reached after consulting the subordinates. Bein CoaTCLS LCUCS ISIN cOi Management by Exception * Aneffective responsibility accounting system must focus attention of the Management on significant deviations and not burden them with all kinds of routine matters. Bien een) ence ynTCL OLACUCS ISIN cOniy Human Aspect of Responsibility Accounting * To ensure the success of responsibility accounting system, it must look into the human aspect also by considering needs of subordinates, developing mutual interests, providing information about control measures and adjusting according to requirements. eu pea De PERCU Uuc i 14Responsibility Centers Cost Center aon = Investment Center Profit Center Sir Chua's Accounting Lessons PHWis ace ~~ A cost center is a department or function within an organization that does not directly add to profit but still costs the organization Money to operate. Cost centers only contribute to a company's profitability indirectly, unlike a profit center, - which contributes to profitability directly through its actions. Managers of cost centers, such as human resources and accounting departments are responsible for keeping their costs in line or below budget. Sen eu ea MT eSae oC Shas * A cost center indirectly contributes to a company's profit through operational efficiency, customer service, or increasing product value. + Cost centers help management utilize resources in smarter ways by having a greater understanding of how they are being used. * Any associated benefits or revenue-producing activities of these departments are disregarded for internal management purposes. * The manager of a cost center is only responsible for keeping costs in line with budget and does not bear any responsibility regarding revenue or investment decisions. See su ea MT eeWis alg EXAMPLES OF COST CENTERS Cost centers include a company's accounting department, the information technology (11) department, and maintenance staff. Manufacturing entities typically have a cost center for quality control. The customer service center of an entity only generates costs such as salaries and telephone expenses, and is therefore a cost center. Beet eens) iedin Variance analysis is a key tool for measuring performance of a cost center. + Cost compared to budget: Cost center will usually have budgets to work to. However, it says nothing about what the cost center achieved; it could spend 10% less than budget bbut produce only 50% of the output expected. * Cost per unit: Since a cost center manager is responsible for costs, cost per unit produced or supplied is an obvious measure. A simple way to calculate this is to divide the ‘costs incurred in a period by the units produced in the period. + Efficiency, capacity utilization, and production volume ‘ratios: These relate to the use of time (and hence labor costs) in the cost center. When setting a budget for a cost center, it is normal to specify how long it should take to produce each item (standard hours per unit) and how many hours the factory is expected to work. Seu ea Desc cle ee Wi algRevenue and Profit Center A revenue center is a responsibility center where a manager would only be accountable for the generation of revenues with no control over costs. A profit center is a responsibility center where a manager is responsible for generating revenues, o while also planning and controlling costs and expenses. A profit center is a branch or division of a company that directly adds to the corporation's bottom line profitability. A profit center is treated as a separate business, with revenues accounted for on a stand alone basis. Beet een InvestRevenue and Profit Center * Profit centers are crucial to determining which units are the most and the least profitable within an organization. * The managers or executives in charge of profit centers have decision-making o authority related to product pricing and operating expenses. Managers also face considerable pressure as they must ensure that their division's sales from products or services outweigh the costs—that their profit center produces profits year after year, either by increasing revenue, decreasing expenses, or both. Ben een ieRevenue and Profit Center Beet een) EXAMPLES OF PROFIT CENTERS Individual restaurants in a large restaurant chain Manufacturing divisions in large corporations Individual retail stores in a large retail chain Local branches in a regional or nationwide distribution business Other organizational subunit deliberately established to maximize the profits the subunits Any other department or subunit where profitability can be measured by matching revenues and costs eenRevenue and Profit Center eet ei) of How to measure the performance of a profit center? Profit compared to budget: Profit centers will usually have budgets to work to so this simple comparison is very Useful. Profit per unit because a profit center manager is responsible for costs and revenues, profit per unit produced or supplied is an obvious measure. A simple way to calculate this is to divide the profit for a period by the units produced inthe period. Gross profit percentage: this is the gross profit divided by sales and expressed as a percentage. Net profit percentage: this isthe new profit divided by sales and expressed as a percentage. Expenses over sales: these can be useful ratios to see if expenses (such as administration expenses) are keeping in line with salesInvestment Center Companies evaluate the performance of an investment center according to the revenues it brings in through investments in capital assets compared to the overall expenses. An investment center is a center that is responsible for its own revenues, expenses, and assets and manages its own financial statements which are typically a balance sheet and an income statement. Because costs, revenue, and assets have to be identified ‘separately, an investment center would usually be a ‘subsidiary company or a division. Bree ea eo)Investment Center Division of a large organization Branch offices of banks Subsidiary companies University campuses Business units ‘One can classify an investment center as an extension of the Bee ec)Investment Center How to measure the performance of an investment center? + Return on investment, calculated as earnings divided by investment. + Residual income, calculated as earnings minus expected target return. + Economic value added, calculated as after-tax earnings minus cost of capital. Sir Chua's Accounting Lessons PH eeeInvestment Center How to measure the performance of an investment center? + Return on investment, calculated as earnings divided by investment. + Residual income, calculated as earnings minus expected target return. + Economic value added, calculated as after-tax earnings minus cost of capital. x regureate ot) Bree eta Te eteThe following data were taken from the records of Mariah Company, a division of Great Meow Corporation for the year ended December 3, 2020 Sales 12,000,000.00 Less: Variable costs and expenses 8,000,000.00 Contribution margin 4,000,000.00 Less: Direct fixed costs and expenses 1,000,000.00 Segment income 3,000,000.00 The company used an average assets of P8,000,000 in 2020. The cast of capita is 12% Calculate for the following: 1. Return on sales 2 Asset turnover 3. Return on investment ‘4, Residual income Bien eens) Segment income Divide by: Net sales Retum on sales Nit sales Divide by: Average assets Asset turnover Return on sales Muttily by: Asset tumover Rotum on investment ‘Segment income Divide by: Average assets Retum on investment Segment income Less: Minimum income required 6,000,000 x 12% Residual income 3,000,000 12,000,000 25% 12,000,000, 8,000,000 1.50 25.00% 15 37.50% 3,000,000 8,000,000 37.50% 3,000,000 960,000 2,040,000 ee) aeLanguage Corporation operates two autonomous divisions, English Company and Korean Company. The divisions reported the following data with respect to their 2020 operations: Eas Segment income 5,000,000 0,000,000 Divide by: Average assets 25,000,000 _ 160,000,000 oe ee Return on iavestment 20.00% ‘18.75% Segment operating income 5,000,000 30,000,000 Average assets 25,000,000 160,000,000 Segment income 5,000,000 30,000,000 eed ; : Less: Minimum income required polars ot a 25,000,000 x 12% 3,000,000 160,000,000 x 12% 19,200,000 Residual income 2,000,000 10,800,000 Calculate for the return on investment and residual income of both divisions. Bier een)The following information relates to Dahyun Division of Twice Company. Twice's minimum cost of capital for its segments is 15% (Tax rate is 40%). Records Fair value Sales $5,000,000, Variable costs 1.400.000 Direct fixed costs 1,800,000 Total assets 400.000 6500.00 Current liabilities 00,000 00,000 {8% Long-term liabilities 1.50000 100,000 Shareholders’ equity 2500000 4,000,000 Calculate for the economic value added, using the: 1. Book value of net assets 2. Fair value of net assets 3. Book value of long-term equity 4, Fair value of long-term equity Segment came Bis x15 een Pe eta 272m vous Asis Sales La: Vrtle cont Ganrbston mang Las: Ore aad costs Operating income Muy be Tate complerant Nt operating prof afro (NOPAT) “ott assets per rears Less: Curent atts Longton abies ook vale of et ae Foie of ase Las: Goran atts Longer abies Faievate of ro asa Tota assets per records Las: Coren abies Book wae of eng tarm ty Fairvae oases Les: Coren tities Fat vave of ong equity one 7080000 ovate 1,080,500 vate "080 000 700,000 ——aisp00 ss 03 —~“s0900 “ase.Problem 3 Economic Value Added and residual income are methods businesses can use to evaluate investment opportunities. These methods evaluate how much money in excess of the business’ cost of capital the investment is projected to generate. EVA is the more complicated calculation, as it makes more adjustments to the accounting measures of the investment. EVA is based economic profit, or how much value the investment adds to the business. Residual income is also based on economic profit, but it is more reliant on accounting conventions. Bie een) : ron.com|