Liability accounting.
The creation of divisions enables the operation of a liability accounting system. Responsibility accounting is an accounting system that segregates revenues and costs into areas of personal responsibility to monitor and evaluate the performance of each part of an organization.
A responsibility center is a department or organizational function whose performance is the direct responsibility of a specific manager.
In the weakest form of decentralization, a cost center system could be used. As decentralization strengthens, the accountability accounting framework will be based on profit centers. In its strongest form investment centers are used.
Investment centers.
When the manager of a division of a company is allowed some discretion over the amount of investment made by the division, the evaluation of results only for profits (as for a profit center) is clearly inadequate. The profit obtained must be related to the amount of capital invested. These divisions are sometimes called investment centers for this reason. Return is measured by return on capital employed, often referred to as return on investment and other ancillary ratios, or by residual income (RI).
An investment center is a profit center with additional responsibilities for capital investment and possibly financing, and whose performance is measured by the return on investment.
Managers of subsidiary companies will often be treated as investment center managers, responsible for profits and capital employed. Within each subsidiary, major divisions can be treated as profit centers, and each division manager has the authority to decide the process and output volumes for the division’s products or services. Within each division, there will be departmental managers, section managers, etc., who can be treated as cost center managers. All managers should receive regular and regular performance reports for their own areas of responsibility.
The amount of capital employed in an investment center should consist only of directly attributable fixed assets and working capital.
o Subsidiary companies must often remit excess cash to the central treasury department at the group’s headquarters. Therefore, directly attractable working capital would normally consist of stocks and fewer creditors, but minimal amounts of cash.
o If an investment center is assigned a part of the fixed assets of the central office, the amount of capital employed in these assets must be recorded separately because it is not directly attractive to the investment center.