Difference Between Cost Center and Profit Center (With Table)

Cost Center vs Profit Center

People often get confused when using terms cost and profit center while talking about the management structure in an organization.

A cost center is a subunit or department in an organization that is accountable for adjudging the cost of the organization.

Whereas the profit center is a subunit that focuses on maximizing and moderating revenue in the organization. 

Cost centers and profit centers as separate units help the organization to identify and come up with a solution to reduce costs and maximize sales, respectively.


Parameter of ComparisonCost centerProfit center
DefinitionCost center is responsible for managing all the costs in an organizationProfit center is responsible for moderating all the revenues in an organization.
PurposeEvaluation of costs helps in minimizing costs in an organization.Revenue reports can help to increase revenue by generating more sales.
Area of operationNarrowWide
Assessment of performanceBy subtracting Actual cost from the standard CostBy deducting the Actual cost from the Budgeted cost.
Role in the organizationLess challengingMore challenging
IntentionCost center only needs to meet the budget of the organization.A profit center is intended to show a return on the investment.

 

What is the Cost Center?

Cost center helps an organization to evaluate the costs and different ways in which it can reduce them. It is also considered as a subunit or a separate department in an organization.

Although the work is less demanding, the work is crucial for identifying where costs are getting incurred.

Cost centers only deplete the resources of the organization without directly contributing to generate revenue.

Remedial solutions are also offered by this department to reduce costs. The costs incurred have to be well within the budget of the organization.

Types of cost centers include- personal, impersonal, service, operation, production and production cost centers.

Defining a few of the types of cost centers:

  1. Service cost centers: This type of cost centers provide support to the profit center to enable better functioning in an organization.
  2. Production cost centers: This type of cost center helps in the production processes of a company. The advantage of this type of center is how they facilitate processing products. 
Types of cost center
Types of cost center
 

What is a Profit Center?

A profit center is an essential subunit in an organization that is responsible for the revenues, profits and costs.

Profit centers pose a more demanding job profile yet have a great impact on the organization.

The budgeting, investment, and returns are all calculated from the reports by the profit center.

Profit centers have responsibilities specific to the production and sale of goods. Businesses run for the sole purpose of generating profits.

Without profit centers, it will be impossible for the business to survive. Profit centers are backed by cost centers to help generate profits.

There are two types of profit centers:

  1. A subunit in a huge organization: Profit centers can be subunits or strategic units in a huge organization.
  2. A department in an organization: Sales division of a company usually handles the work of a profit center. The sales division is a department under the organization. Therefore it is an example of this type of profit center.
Components of Profit Center
Components of Profit Center

Main Differences Between Cost Center and Profit Center

  1. Profit centers have a wider area of operation than Cost center as they tend to be responsible for revenues, profits, and costs.
  2. The type of work that goes into the cost center is easy as it only involves handling costs. However, handling revenues, profits, and costs is a difficult task for the Profit center when compared to cost centers.
  3. Cost center approaches are short term as the cost incurred by an organization might keep fluctuating with time. As for-profit centers, its approach is both short and long term. It is so because reports regarding the current profit situation can be helpful in making future decisions.
  4. Cost centers help to indirectly generate profits while facilitating the Profit centers, which are directly associated with generating profits.
  5. The performance of a profit center is identified by deducting the actual cost from the budgeted cost. However, the performance of a cost center is estimated by subtracting actual cost from the standard cost.
  6. Cost centers do not participate or facilitate the generation of profits or returns. Cost centers simply give the estimation of the cost incurred. Profit centers give detailed reports of profit, revenue, along with the cost of generating solutions for maximizing sales.
  7. There can be several cost centers in an organization, but there is only one profit center.
  8. Cost centers only track the expenses made by the company, whereas profit centers work to generate profits.
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Frequently Asked Questions (FAQ) About Cost Center and Profit Center

Why cost center is created? ?

The department in a company that does not add profits directly is called a cost center.

A cost center is created to make a profit through customer service, increasing product value, or operational efficiency.

A cost center indirectly generates profit for the company.

What are the types of cost centers?

There are five important types of cost centers, and they are:

  1. Production Cost Centers: Production cost centers are related to the processing and manufacturing department.
  2. Service Cost Center: Service cost center provide services to other cost centers.
  3. Personal Cost Center: These cost centers are related to a person or a group of persons.
  4. Impersonal Cost Center: These cost centers provide services to equipment or location or both.
  5. Process Cost Center: This cost center also deals with manufacturing concern but to a particular or specific process of manufacturing.

How does a cost center work?

A cost center works by indirectly contributing to a company’s profit. A manager is hired to control and contain the subunit’s cost.

The managers are evaluated on their performance to control and contain costs.

There are various departments of cost centers such as research and development, accounting department, marketing, advertising, legal department, and customer service.

These are the subunits of an organization which incurs cost.

Is marketing a profit center? ?

Yes, marketing is a profit center that generates profits for a company.

Due to marketing, the product and services of a company will come into existence, which will lead to more sales and make more profit.

The marketing department’s performance will be based on its contribution to generating profit.

What is a profit center manager? ?

A profit center manager is a manager of a company’s profit center.

A profit center’s manager’s primary duties include taking care of both revenue and cost by getting more sales and controlling the activities that generate cost.

What are costs and profits?

A cost is all the expenses that occur throughout the process of a product or service. A profit is an amount that remains after paying for the cost.

For example:
A company produces a pen and the cost of that pen is 10 rupees. The company sells that pen for 12 rupees. It means the cost of the company is 10 and it is selling the pen for 12. Hence the company will earn a profit of 2 rupees.

The basic formula is Profit=Cost-Earnings.


 

Infographic

Cost Center vs Profit Center

 

Conclusion

Cost centers and profit centers are both crucial units to any company or business. The report generated by these centers helps the organization to take measures related to money matters.

Separate profit and cost centers are an investment that the small companies don’t usually make. The functionality and advantages of these centers outweigh the money needed to set up these centers.

Without profit centers, cost centers could still generate profits in a company, but it is not true vice versa. The profit center needs the backing of the cost center to generate profits.

All the cost centers in an organization are profit centers, but all the profit centers are not cost centers.

To optimize profits, the profit center executives make decisions on operating expenses and product pricing.

Cost center reports are great for internal accounting, which comes under managerial accounting.

Whereas profit center reports are great for internal and external accounting decision-making.

Many huge companies have profit and cost centers. In start-ups and small companies, there are existing departments that handle the work of these centers.

Though these departments are not as efficient as a separate cost and profit centers, they are economical investments for smaller organizations.


 

Word Cloud for Difference Between Cost Center and Profit Center

The following is a collection of the most used terms in this article on Cost Center and Profit Center. This should help in recalling related terms as used in this article at a later stage for you.

Cost Center and Profit Center 2
Word Cloud for Cost Center and Profit Center

 

References

  1. https://en.wikipedia.org/wiki/Cost_centre_(business)
  2. https://en.wikipedia.org/wiki/Profit_center