Responsibility Accounting and Performance Measurement — Practice

Question 1

What type of responsibility centre is a sales office judged only on revenue generated?

Accepted Answer

A revenue centre.

Question 2

What is the formula for Residual Income?

Accepted Answer

RI = Controllable Profit - (Capital Employed x Cost of Capital %).

Question 3

Name the four perspectives of the Balanced Scorecard.

Accepted Answer

Financial, Customer, Internal Business Process, and Learning and Growth.

Question 4

A division has controllable profit of Rs. 25,00,000 and capital employed of Rs. 1,25,00,000. The cost of capital is 12%. Compute ROI and RI.

Accepted Answer

ROI = (25,00,000 / 1,25,00,000) x 100 = 20%. RI = 25,00,000 - (1,25,00,000 x 12%) = 25,00,000 - 15,00,000 = Rs. 10,00,000.

Question 5

Explain why it would be inappropriate to judge a cost-centre manager's performance using ROI.

Accepted Answer

A cost-centre manager has no control over revenue or capital investment decisions, only over the costs incurred in their area — judging them by ROI (which requires both profit and capital-employed figures) would hold them accountable for factors entirely outside their control, violating the basic principle of responsibility accounting.

Question 6

Classify the following into the correct Balanced Scorecard perspective

Accepted Answer

A

Question 7

A division currently earns ROI of 22% on capital employed of Rs. 80,00,000. It is offered a new project requiring Rs. 20,00,000 of additional capital, expected to earn Rs. 3,40,000 of additional annual profit. The company's cost of capital is 15%. Evaluate the project under both ROI and RI, and state which measure leads to the economically correct decision.

Accepted Answer

Project's own ROI = 3,40,000 / 20,00,000 = 17%. Since 17% is below the division's current 22% ROI, a manager judged on ROI alone would reject the project because it would pull the division's average ROI down. Project's RI contribution = 3,40,000 - (20,00,000 x 15%) = 3,40,000 - 3,00,000 = Rs. 40,000 (positive). Since the project's 17% return exceeds the 15% cost of capital, it genuinely benefits the company, and RI correctly signals acceptance while ROI would incorrectly signal rejection — RI leads to the economically correct decision here.

Question 8

Explain, with an example, why the Balanced Scorecard is described as forcing managers to look at leading indicators rather than only lagging (financial) indicators.

Accepted Answer

Financial measures like profit or ROI are 'lagging' indicators — they report the final outcome of decisions made in the past, often many months or quarters earlier, and by the time a financial problem shows up in the numbers, the underlying cause may already be deeply embedded. Non-financial measures such as employee training hours (Learning and Growth) or defect rate (Internal Business Process) are 'leading' indicators, because they signal an emerging problem or improvement before it fully shows up in the financial results — for example, a rising defect rate this quarter is likely to show up as falling customer satisfaction and reduced repeat sales in later quarters, giving management the chance to act on the leading indicator before the lagging financial damage is done.

Practice — Responsibility Accounting and Performance Measurement

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