Cost centre and profit centre are integral to business success, even though those function differently with a different set of objectives.
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What is the Cost Centre?
A cost centre is a department or sub-unit in an organisation that focuses on costs incurred by it. Its function involves controlling and reducing high costs that may be incurred by a company.
For instance, a customer service centre would not directly generate revenue or profit for an organisation but helps in controlling costs which may arise from unmitigated customer complaints and grievances.
It must be noted in this regard, that the cost centre itself incurs a cost, but it enables a profit centre to generate more revenue and profit.
It may be measured by comparing standard costs against targeted costs. It will help to understand how, or to what extent targets are met.
There exists a difference between cost centre and cost unit. Cost unit is necessarily measured in terms of service or product unit. On the contrary, the cost centre is a division within a company.
Importance of Cost Centre
Cost centres, even though they do not directly generate revenue, play a critical role in business success. In the absence of cost centres, there will be no research and development, marketing department, or customer service department. Without R&D, a company will not be able to innovate on its service or product.
Lack of marketing department will impede customer awareness, adversely affecting its sales.
Types of Cost Centre
1. Service Cost Centres
Service cost centres extend support to profit centres so that the latter can function efficiently. The Human Resources department is an example of service cost centres. The HR department is intricately connected to the sales department.
2. Production Cost Centres
These centres directly enable the processes of production. For instance, an assembly line is held as a product cost centre. It ensures seamless production.
What is the Profit Centre?
A profit centre is that department in a company that engages in the generation of profit and revenue, and also takes into account the costs associated with it.
For instance, a sales department is directly related to profit generation of a company. It also determines revenue projections.
Profit centre does not operate in silos but backed by cost centres.
There are multiple ways of measuring the performance of a profit centre. One of the most popular methods is to compare between profit and budget.
Importance of Profit Centre
A profit centre is crucial for an organisation or a company because its primary function is to generate profit. It also helps in the computation of investment returns.
As measures adopted by profit centres lead to profits and revenue, it also helps in efficient decision-making. Activities that are most likely to increase costs are done away with. A profit centre also has a role to play in budgetary control.
Types of Profit Centre
1. Intra-Organisational Department
Departments of such profit centres are located within a company. For instance, a sales division as a department exists within a company. It is the most important profit centre in any organisation.
2. Strategic Unit of a Larger Organisation
For a multi-national corporation or larger corporates, there are strategic sub-units located outside the entity. For instance, in the case of a large hotel chain, a restaurant will act as a strategic unit profit centre.
Cost Centre vs Profit Centre
The difference between cost centre and profit centre is discussed below.
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1. What is a Cost Centre?
Ans. A cost centre is usually a department within an organisation or a company. The employees and the manager of that department will be responsible for the costs incurred. However, they will not be directly accountable for investment decisions or revenue generation.
2. What is a Profit Centre?
Ans. A profit centre is that department or business unit of a company that focuses on generating revenues and curtailing losses. Those departments are closely monitored by management and are most likely to attract additional funding among other departments.
3. Mention a Few Differences Between a Cost Centre and a Profit Centre.
Ans. The objective of a cost centre is putting cost under control and taking measures for cost reduction. On the contrary, a profit centre is solely focused on the maximisation of profit. It makes the area of operations for a profit centre particularly wide. A cost centre is narrow in its reach.