As managers get more decision making responsibilities because of decentralized management, organizations must find ways to evaluate those managers in an effective way. The first step in the process is assigning responsibility centers to each manager.
A responsibility center is a segment of the company for which a manager is responsible. This allows the company to gather quantitative information regarding the segment in order to assess the performance of the manager. There are four types of responsibility centers:
- Cost Center – The majority of managers are responsible for cost centers. A cost center is a segment where the manager is only responsible for managing costs. Examples of cost centers include human resource departments and production departments. These departments are not concerned with revenue generation. Therefore, managers are evaluated on their ability to manage costs. When attempting to determine if a segment is a cost center, determine if revenue is a factor. If revenue is not a responsibility of the manager of the department, the department is a cost center.
- Revenue Center – While revenue is a major factor for most businesses, revenue centers are actually the smallest portion of responsibility centers. Typically, revenue centers are sales territories and sales departments. These managers are evaluated based off their ability to generate revenue. This segment is rare because most managers that are generating revenue are also responsible for managing the costs of generating that revenue.
- Profit Center – These responsibility centers are also quite common. A profit center manager is responsible for generating revenue but also managing costs to increase profitability. These managers include retail managers, like Target or Wal-Mart store managers. These managers must maximize profitability in their stores, but major decisions about asset management (like renovations and improvements) are outside their scope of responsibility.
- Investment Center – While we spend a lot of time discussing profit, asset management is just as important. If assets are not managed efficiently to maximize the profit that can be made with those assets, the company runs the risk of hurting cash flow and future profitability. Managers in an investment center are responsible for asset management and profit maximization. These managers have the ability to approve the construction of new factories, stores, and the purchase of major equipment. Investment center managers include CEO’s of major companies and small business owner-managers. If asset management is involved, the segment is an investment center.