Profit Centres

In recent years, there has been a tendency for organizations to grow in size, and the problem of control which this growth has created has encouraged the devolution of Publisherity in large organizations by the creation of organizational structures based upon the concept of 'divisions'. The rationale underlying this process of decentralization is founded on the belief that divisionalization enhances overall corporate profitability. Several reasons are adduced for this belief. Firstly, the responsibility for decision making is transferred to executives who are 'on the spot', and who are directly concerned with the particular problems of manufacturing and marketing divisional products. Hence, they are able to devote all their energies to these problems, whereas under systems of centralized control, top management is able to devote less time to the problems of individual divisions. Secondly, it is considered that the greater degree of freedom enjoyed by divisional executives increases their motivation towards the attainment of organizational goals, and in particular the profit goal. Thirdly, the opportunity which divisionalization affords of using accounting information to measure the contribution of each division towards the profit goal, also reveals areas of weakness and may suggest possibilities for profit improvement. Finally, the decentralization of the decision-making process provides a training ground for managers as they progress successively through the organization to higher levels of responsibility.

Conventional accounting measurements of performance, such as the return on capital employed, may serve a useful purpose in evaluating the financial performance of individual divisions, where they are completely independent of each other. Where, however, the activities of individual divisions are inter-related, so that the output of one division provides a substantial part of the input of another division, the usefulness of conventional accounting measurements of financial performance is less clear. Under these circumstances, there is a need to establish a price for transferring these so-called intermediate products between the divisions, and this price will clearly affect their profits.


Learn More About Transfer Pricing in 2015

Read on: Expense Centres

An expense centre may be defined as a responsibility centre in which the manager has no control over revenue but is able to control expenditure. It will be recalled that we drew a distinction between the accumulation of costs for product costing purposes and for control purposes. In product costing, we noted that costs are first allocated and apportioned to service departments and production departments; next, that service department costs are apportioned to the production departments; finally, overhead recovery rates are computed to enable overhead costs to be absorbed into product costs. Since... see: Expense Centres