Types of cost centers
There are six main categories of cost centers that are crucial to the core operations of the company but do not generate profits on their own.
1. Impersonal cost center
Impersonal cost centers deal with equipment, machinery or locations. They may focus on locations, equipment, production or machines. For instance, a research and development department may be funded to create new products or find creative solutions to consumer problems.
2. Operation cost center
Operation cost centers are concerned with individuals or machines performing related tasks. For instance, IT departments ensure that networks, software, and hardware are secure, up to date, and functioning properly.
3. Personal cost centers
Personal cost centers focus on a specific individual or group of individuals. In order to address employee needs and recruitment, for instance, a company’s HR department collaborates with other departments.
4. Product cost center
Product cost centers focus on a particular product or area of manufacturing. A publishing company, for instance, might have a production division in charge of carrying out the actual printing of its books, newspapers, or magazines. A manufacturer might have assembly, painting or welding shops.
5. Process cost center
Process cost centers focus on a specific process or event. For instance, customer service departments manage any warranties or rebates that may be offered, handle customer complaints, and enhance the customer experience.
6. Service cost center
Service cost centers provide services to the company. For instance, a janitorial staff keeps the workplace neat and tidy so that the staff can be productive, safe, and healthy.
For instance, a small business might have a cost center that consists solely of a bookkeeper or office manager who oversees office administration and bookkeeping. As an alternative, a multinational corporation might have distinct cost centers for administrative personnel, accounting, and human resources (HR).
What is a cost center?
A position or division that incurs costs for the company but does not produce income on its own is referred to as a cost center. They are often administrative, service and support roles. These positions cannot be cut in order to save money because they are essential to a successful organization.
Cost centers can be full departments like IT departments or warranty departments, or they can be discrete roles like janitors or human resource personnel. Depending on the size of the company and the industry, there may be more or fewer cost centers. To make it easier to track the resources they use, cost centers are listed as separate units in the business. Managers are in charge of making sure the facilities function effectively and within the allocated budget.
Why are cost centers important?
Cost centers are crucial because these divisions benefit the business. These divisions and positions enable the rest of the company to turn a profit. Here are some justifications for why cost centers are crucial for a business to run:
How do cost centers work?
So that the accounting team can track costs and allocate resources, cost centers are given their own categories in the general ledger. Typically, managers are in charge of the cost center’s personnel as well as the department’s budget. Their duties may include:
Helping the finance and accounting department understand your business
Based on your company’s needs and how you spend your money, the finance and accounting department will assign cost centers to your business. They can view budgeting requirements more broadly than individual cost center managers, and they can help organize resource allocations so that they become more efficient over time.
Defining cost center processes
Cost centers should be established with a set of guidelines that specify the nature of their work and specifics regarding the control of suppliers, customers, and products. You should have a clear understanding of your purchase order processes, which vendors are authorized for orders, and how to handle invoices.
Defining management responsibilities
The management of the cost center’s budget should be the responsibility of the cost center managers. This responsibility should be listed in their management objectives. If possible, try to avoid giving a manager responsibility for several cost centers. To effectively manage the budget they are given, cost center managers should also be aware of the cost centers’ main objectives.
Assigning a budget
Budgets for cost centers should be transparent, and managers should keep tabs on their spending. This enables the finance and accounting department and cost center managers to comprehend the resources used by each cost center, how those resources are distributed within the cost center, and what adjustments are required for the upcoming fiscal year.
Using cost center monitoring to lower costs
By monitoring your cost centers for employee inefficiencies, excessive spending, and other costly issues, you can reduce your costs. Disciplined cost center structures can help you collect data that can help with reorganizations and future budget allocations. It will be extremely helpful to share cost management strategies and objectives with your cost center managers.
Example of a cost center
The HR division is an excellent illustration of a cost center. As an administrative division, it does not produce income but rather ensures the organization’s smooth operation. Employee data entry and storage, handling employee complaints, managing employee outreach, processing new hires, awarding promotions, and firing employees are all responsibilities of HR. HR might also perform recruiting, training and payroll duties.
If you are setting up the HR division as a cost center, take into account the following:
The manager should have knowledge of the HR division, be able to direct productivity, and support staff as needed. They ought to be able to strike a balance between meeting employee needs and controlling costs.
What is an example of a cost center?
The accounting, human resources, IT, maintenance, and research and development departments are a few examples of cost centers. Compared to a department, a cost center can be defined at a lower level. It might concern a specific job function, device, or production line.
What is cost center and its types?
Cost centers can be divided into two categories: production cost centers, which are locations where products are made or processed. Example of this is an assembly area. Cost centers for services, where goods and services are delivered to other cost centers Example of this is the personnel department or the canteen.
What is a cost center and profit center?
A company’s department that manages all of its costs is known as a cost center. A company’s department in charge of its profits is known as a profit center. Responsibilities. Reducing costs and effective cost control within the organisation. Helping in earning profits and maximising revenue.
How is cost center calculated?
The cost center, a crucial financial metric used to assess and control a company’s expenses, can be calculated. The cost center is determined by dividing the total cost of an enterprise by the volume of its output.