Profit centre

What it means

A profit centre is a unit of a company responsible not only for its costs but also for its revenue and resulting profit. It may be a branch, division, product line, online shop or sales team. Its manager has authority over prices, product range and costs and is assessed on the profit achieved.

Unlike a cost centre, which is judged only on keeping to its cost budget, a profit centre shows how much value that part of the business creates. It is part of management accounting and allows a larger company to be run in a decentralised way.

Calculating a profit centre’s result requires deciding how shared company costs, such as accounting, IT or management, are allocated to it and how services between centres are priced. Internal transfer prices serve this purpose and should be as close to market prices as possible.

How it works in practice

For clients with several sites or product lines, we help set up the books so that revenue and costs are assigned to centres at the time of posting. A monthly income statement by centre then shows which part of the business drives results and which holds them back.

For centre managers we prepare a handful of KPIs: revenue, gross margin, direct costs and the centre’s contribution towards shared costs. Separating the result before and after overhead allocation helps avoid judging managers on costs they cannot influence.

If centres trade with each other, for example production selling to sales, internal prices must be agreed. For separate companies within a group, such prices are subject to transfer pricing rules and must be at arm’s length for tax purposes too.

What to watch out for

Unfair overhead allocation is a risk. If shared costs are allocated by revenue, a successful centre may look worse than it is and a loss-making one better. Management should also watch each centre’s contribution before overheads, not just net profit.

Profit centres can also create rivalry between parts of the company at the expense of the whole, for instance when centres compete for the same customers. The performance system should encourage cooperation, not only maximising each centre’s own result.