Product- The business can divide according to their several differentiated products.
Department- The business can be divided up through sections that perform a specific function.
Location- Branches in a different areas (geographical)
The financial benefit for managers can expect when creating cost centres are that the costs of centres can be compared and the high cost centres can be improved. This assists in identifying the strengths or weaknesses in the business so efficiency can be improved.
Another financial benefit is that decisions can be made about distributing budgets. It can help reduce costs through training techniques like benchmarking. It also gives in-depth information about the operation of the business so that targets can be established for improvements.
The benefits that employees may receive due to cost and profit centres are: the cost and revenue can act as motivators so control can be delegated and can get higher pay by keeping cost down or achieving profit targets. The extra responsibility may improve performance through the diverse and varied work, and learn more skills as a result. This may bring job satisfaction when the employee reaches their target.
A business may improve their pricing policy through cost and profit centres by analyzing all the costs in each product. The appropriate decision can be made as to price their product in which profit can be made. Also in attempting to reduce costs there will be higher profits coming in. The business will know right number of batches to produce in relation to demand.
The benefits to the managers of using cost and profit centres are that managers of the centres can be given targets to achieve. Also performance can be assessed of the success or failure of individual departments can be identified and the corrective action can be taken and help concentrate on less efficient, as problems can be traced easily.
The two additional costs of cost and profit centres are: direct costs and indirect costs.
The difficulties of dividing costs in cost centres are which techniques to use. Full costing is when costs are allocated according to the output the center produces. It can also be inaccurately distributed like a two person department pays the same costs of a ten person department. Also not all the costs can be directly associated with the centre, for example admin. It is impossible to allocate fixed costs evenly as others may use the areas of one department.
Cost centres may be inappropriate when the firm only produces a single product as comparisons cannot be made and focusing on the costs is more time consuming that can be spent on other targets. It also applies to a firm that has unskilled workers as costs can be higher than anticipated and the output level does not reflect the performance of the employee.
