Responsibility Budgeting

Responsibility Centered Budgeting Creating an internal free market economy (“Each tub on its own bottom”) The gist of 20th century thinking management control is expressed by the mantra: The gist of 20th century thinking management control is expressed by the mantra: let the managers manage; make the managers manage. Responsibility budgeting is the stock answer to the question of how to empower managers to manage and, at the same time, motivate them to use their collective intelligence to create value through exchange in product and financial markets and by establishing and sustaining mutually beneficial relationships with customers, suppliers, and especially other members of their organizations. Responsibility budgeting is the stock answer to the question of how to empower managers to manage and, at the same time, motivate them to use their collective intelligence to create value through exchange in product and financial markets and by establishing and sustaining mutually beneficial relationships with customers, suppliers, and especially other members of their organizations.

Principles of Responsibility Budget Management Best operating decisions are made closest to point of implementation Degree of decentralization positively related to the size and complexity of the organization Correct decisions are more likely in an information-rich environment Authority should be commensurate with responsibility, and vice versa Responsibility and authority require clear rewards and sanctions

Good planning and performance are facilitated by stable environments The relationship of the parts to the whole should be reflected in the assignment of responsibility The legitimacy of institutional and local responsibility has to be recognized The existence of a mutually supportive academic and administrative plan is assumed

Recommendation: Budget Hearings/Discussions What they can achieve –Openness among decision-makers helps clarify common values –Accountability of the leadership is reinforced, building trust –Group problem-solving enhances a sense of empathy and community –Cross-fertilization between units - spreading good ideas –Positive motivation for leadership –Propagation of accurate information, dispelling rumors and misunderstandings

Budget Construction Under Responsibility Center Management Current year’s approved based budget Budget adjustments Adjusted (Planning) based budget Next year’s income estimates Allocations to units Development of detail Summarization and review Approval of next year’s budget Dissemination

Responsibility Budgeting The most common remote control system used by large-scale organizations in the private sector. The most common remote control system used by large-scale organizations in the private sector. (a) units and managers are evaluated relative to the targets they accept, (b) only financial measures are used to measure and reward accomplishment or punish failure, and (c) financial success or failure is attributed entirely to managerial decisions and/or employee performance. Types of Responsibility Centers Discretionary & Engineered expense centers Revenue centers Cost centers Standard cost centers Quasi-profit centers Profit centers Investment Centers

Responsibility budgets I Responsibility budgets I For expense centers the budget is a spending plan For discretionary expense centers, fixed spending targets For engineered expense centers, flexible spending targets (i.e., the budget has two components, a discretionary component and a component that varies directly with volume) For a cost or profit centers the budget is a performance target or goal For cost centers, the target is a unit-cost standard For quasi-profit centers, the target is a quasi-profit measure: (Standard Cost [units delivered] – Actual Unit Cost [units delivered]). For profit centers, the budget is a profit target [revenue – cost of goods sold.] The budget of an investment center is also a target or goal – usually return on assets [ROA or ROI] or residual income [EVA or RI] The main difference between investment centers and all other responsibility centers is that the former approve their own capital budgets

Responsibility Budgeting vs. Budgetary Control Responsibility budgeting differs from budgeting in two respects: Distinction between controllable and no controllable items Performance reports Either emphasize or include only items controllable by the individual manager Responsibility Reporting System Involves preparation of a report for each level of responsibility in the company's organization chart. Permits management by exception at each level of responsibility.

Responsibility Centered Budgeting Strengths –Dynamic responsiveness when funding sources are connected to the generating activities –Decreases tendency for artificial salesmanship –Development of more responsible local leadership Vulnerabilities –Can promote harmful internal competition –May create barriers for cross-center cooperation –Undermines sense of community –Can leave vital but “not profitable” university functions unprotected