What is Marginal Cost Of Production

The marginal cost of production is the change in total cost that comes from
making or producing one additional item. The purpose of analyzing marginal
cost is to determine at what point an organization can achieve economies of
scale.

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Marginal Cost of Production

BREAKING DOWN Marginal Cost Of Production
The marginal cost of production calculation is most often used among
manufacturers as a means of isolating an optimum production
level. Manufacturers often examine the cost of adding one more unit to their
production schedules. This is because at some point, the benefit of producing
one additional unit and generating revenue from that item will bring the overall
cost of producing the product line down. The key to optimizing manufacturing
costs is to find that point or level as quickly as possible.

Marginal cost of production includes all of the costs that vary with the level of
production. For example, if a company needs to build a new factory in order to
produce more goods, the cost of building the factory is a marginal cost. The
amount of marginal cost varies according to the volume of the good being
produced. Economic factors that impact the marginal cost include information
asymmetries, positive and negative externalities, transaction costs, and price
discrimination. Marginal cost is not related to fixed costs.

Marginal cost is an important factor in economic theory because a company

that is looking to maximize its profits will produce up to the point where
marginal cost (MC) equals marginal revenue (MR).

How Marginal Cost of Production Works

Production costs consist of fixed costs and variable costs. Variable cost refers
to the costs required for each unit of output. Fixed costs refer to overhead
costs that are spread out across units of output.

For example, consider a hatmaker. Each hat produced requires seventy-five

cents of plastic and fabric. Your hat factory incurs $100 dollars of
fixed costs per month. If you make 50 hats per month, then each hat incurs $2
of fixed costs. In this simple example, the total cost per hat, including the
plastic and fabric, would be $2.75 ($2.75 = $0.75 + ($100/50)).

But if you cranked up production volume and produced 100 hats per month,
then each hat would incur $1 dollar of fixed costs, because fixed costs are
spread out across units of output. The total cost per hat would then drop to
$1.75 ($1.75 = $0.75 + ($100/100)). In this situation, increasing production
volume causes marginal costs to go down.

Marginal Costing | Advantages and

Disadvantages
. The marginal costing technique is very simple to
understand and easy to operate. The reason is that the fixed costs are
not included in the cost of production and there is no arbitrary
apportionment of fixed costs.
2. The current year fixed costs is not carried forward to the next year.
As such, cost and profit are not vitiated. Cost comparisons become
meaningful.
3. The contribution is used as a tool in managerial decision-making.
It provides a more reliable measure for decision-making.
4. Marginal costing shows more clearly the impact on profit of
fluctuations in the volume of sales.

5. Under absorption and over absorption of overheads problems are

not arisen under marginal costing.
6. The marginal costing technique can be combined with standard
costing.
7. The prevailing relationship between cost, selling price and volume
are properly explained in clear terms.

8. It shows the relative contributions to profit that are made by each of

a number of products and show where the sales effort should be
contracted.
9. The management can take short run tactical decisions with the help
of marginal costing information.
10. Marginal cost pricing method is highly useful for public utility
undertakings. It helps them in maximizing output or better capacity
utilization. This is possible only when lowest possible price is
charged. The lowest limit is set by marginal cost of the product. When
public utility concerns adopt marginal cost pricing, it helps in
maximizing social welfare.
11. This method enables the firms to face competition. This is the
reason why export prices are based on marginal costs since
international market is highly competitive.

12. This method helps in optimum allocation of resources and as such

it is the most efficient and effective pricing technique and it is useful
when demand conditions are slack.

13. Marginal cost pricing is suitable for pricing over the life-cycle of a
product. Each stage of the life-cycle has separate fixed cost and short-
run marginal cost.

Disadvantages of Marginal Costing

The disadvantages, demerits or limitations of marginal costing are
briefly explained below.

1. The total costs cannot be easily segregated into fixed costs and
variable costs.
2. Moreover, it is also very difficult to per-determine the degree of
variability of semi-variable costs.
3. Under marginal costing, the fixed costs remain constant and
variable costs are varying according to level of output. In reality, the
fixed costs do not remain constant and the variable costs are not
varying according to level of output.

What is a Break-Even Analysis?

A break-even analysis is a financial tool which helps you to determine at what stage your
company, or a new service or a product, will be profitable. In other words, it’s a financial
calculation for determining the number of products or services a company should sell to
cover its costs (particularly fixed costs). Break-even is a situation where you are neither
making money nor losing money, but all your costs have been covered.
Break-even analysis is useful in studying the relation between the variable cost, fixed cost
and revenue. Generally, a company with low fixed costs will have a low break-even point of
sale. For an example, a company has a fixed cost of Rs.0 (zero) will automatically have
broken even upon the first sale of its product.

Components of Break Even Analysis

Fixed costs
Fixed costs are also called as the overhead cost. These overhead costs occur after the
decision to start an economic activity is taken and these costs are directly related to the level
of production, but not the quantity of production. Fixed costs include (but are not limited to)
interest, taxes, salaries, rent, depreciation costs, labour costs, energy costs etc. These costs
are fixed no matter how much you sell.
Variable costs
Variable costs are costs that will increase or decrease in direct relation to the production
volume. These cost include cost of raw material, packaging cost, fuel and other costs that
are directly related to the production.

Calculation of Break-Even Analysis

The basic formula for break-even analysis is driven by dividing the total fixed costs of
production by the contribution per unit (price per unit less the variable costs).
For an example:
Variable costs per unit: Rs. 400 Sale price per unit: Rs. 600 Desired profits: Rs. 4,00,000
Total fixed costs: Rs. 10,00,000 First we need to calculate the break-even point per unit, so
we will divide the Rs.10,00,000 of fixed costs by the Rs. 200 which is the contribution per
unit (Rs. 600 – Rs. 200). Break Even Point = Rs. 10,00,000/ Rs. 200 = 5000 units Next, this
number of units can be shown in rupees by multiplying the 5,000 units with the selling price
of Rs. 600 per unit. We get Break Even Sales at 5000 units x Rs. 600 = Rs. 30,00,000.
(Break-even point in rupees)

Contribution Margin
Break-even analysis also deals with the contribution margin of a product. The excess
between the selling price and total variable costs is known as contribution margin. For an
example, if the price of a product is Rs.100, total variable costs are Rs. 60 per product and
fixed cost is Rs. 25 per product, the contribution margin of the product is Rs. 40 (Rs. 100 –
Rs. 60). This Rs. 40 represents the revenue collected to cover the fixed costs. In the
calculation of the contribution margin, fixed costs are not considered.

When is Break even analysis used?

Starting a new business: If you wish to start a new business, a break-even analysis is a
must. Not only it helps you in deciding, whether the idea of starting a new is viable, but it will
force you to be realistic about the costs, as well as guide you about the pricing strategy.
Creating a new product: In the case of an existing business, you should still do a break-
even analysis before launching a new product—particularly if such a product is going to add
a significant expenditure.
Changing the business model: If you are about to the change your business model, like,
switching from wholesale business to retail business, you should do a break-even analysis.
The costs could change considerably and this will help you to figure out the selling prices
need to change too.

Breakeven analysis is useful for the

following reasons:
 It helps to determine remaining/unused capacity of the concern once the breakeven
is reached. This will help to show the maximum profit on a particular product/service
that can be generated.
 It helps to determine the impact on profit on changing to automation from manual (a
fixed cost replaces a variable cost).
 It helps to determine the change in profits if the price of a product is altered.
 It helps to determine the amount of losses that could be sustained if there is a sales
downturn.

Additionally, break-even analysis is very useful for knowing the overall ability of a business
to generate a profit. In the case of a company whose breakeven point is near to the
maximum sales level, this signifies that it is nearly impractical for the business to earn a
profit even under the best of circumstances.
Therefore, it’s the management responsibility to monitor the breakeven point constantly. This
monitoring certainly reduces the breakeven point whenever possible.

These steps can be explained as under:

1. Define the problem:
The first and the foremost step in the decision-making process are
to define the real problem. A problem can be explained as a
question for and appropriate solution. The manager should
consider critical or strategic factors in defining the problem. These
factors are, in fact, obstacles in the way of finding proper solution.
These are also known as limiting factors.

For example, if a machine stops working due to non-availability of

screw, screw is the limiting factor in this case. Similarly fuse is a
limiting or critical factor in house lighting. While selecting
alternative or probable solution to the problem, the more the
decision-making takes into account those factors that are limiting or
critical to the alternative solutions, the easier it becomes to take the
best decision.

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Other examples of critical or limiting factor may be materials,

money, managerial skill, technical know-how, employee morale and
customer demand, political situation and government regulations,
etc.

2. Analysing the problem:

After defining the problem, the next important step is a systematic
analysis of the available data. Sound decisions are based on proper
collection, classification and analysis of facts and figures.
There are three principles relating to the analysis and
classification as explained below:
(i) The futurity of the decision. This means to what length of time,
the decision will be applicable to a course of action.

(ii) The impact of decision on other functions and areas of the

business.

(iii) The qualitative considerations which come into the picture.

3. Developing alternative solutions:

After defining and analysing the problem, the next step is to develop
alternative solutions. The main aim of developing alternative
solutions is to have the best possible decision out of the available
alternative courses of action. In developing alternative solutions the
manager comes across creative or original solutions to the
problems.

In modern times, the techniques of operations research and

computer applications are immensely helpful in the development of
alternative courses of action.

4. Selecting the best type of alternative:

After developing various alternatives, the manager has to select the
best alternative. It is not an easy task.

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The following are the four important points to be kept in

mind in selecting the best from various alternatives:
(a) Risk element involved in each course of action against the
expected gain.
(b) Economy of effort involved in each alternative, i.e. securing
desired results with the least efforts.

(c) Proper timing of the decision and action.

(d) Final selection of decision is also affected by the limited

resources available at our disposal. Human resources are always
limited. We must have right type of people to carry out our
decisions. Their calibre , understanding, intelligence and skill will
finally determine what they can and cannot do.

5. Implementation of the decision:

Under this step, a manager has to put the selected decision into
action.

For proper and effective execution of the decision, three

things are very important i.e.,
(a) Proper and effective communication of decisions to the
subordinates. Decisions should be communicated in clear, concise
and understandable manner.

(b) Acceptance of decision by the subordinates is important. Group

participation and involvement of the employees will facilitate the
smooth execution of decisions.

(c) Correct timing in the execution of decision minimizes the

resistance to change. Almost every decision introduces a change and
people are hesitant to accept a change. Implementation of the
decision at the proper time plays an important role in the execution
of the decision.
6. Follow up:
A follow up system ensures the achievement of the objectives. It is
exercised through control. Simply stated it is concerned with the
process of checking the proper implementation of decision. Follow
up is indispensable so as to modify and improve upon the decisions
at the earliest opportunity.

7. Monitoring and feedback:

Feedback provides the means of determining the effectiveness of
the implemented decision. If possible, a mechanism should be built
which would give periodic reports on the success of the
implementation. In addition, the mechanisms should also serve as
an instrument of “preventive maintenance”, so that the problems
can be prevented before they occur.

According to Peter Drucker, the monitoring system should be such

that the manager can go and look for himself for first hand
information which is always better than the written reports or other
second-hand sources. In many situations, however, computers are
very successfully used in monitoring since the information retrieval
process is very quick and accurate and in some instances the self-
correcting is instantaneous.

Ways to monitor Break even point

 Pricing analysis: Minimize or eliminate the use of coupons or other price reductions
offers, since such promotional strategies increase the breakeven point.
 Technology analysis: Implementing any technology that can enhance the business
efficiency, thus increasing capacity with no extra cost.
 Cost analysis: Reviewing all fixed costs constantly to verify if any can be eliminated
can surely help. Also, review the total variable costs to see if they can be eliminated.
This analysis will increase the margin and reduce the breakeven point.
  Margin analysis: Push sales of the highest-margin (high contribution earning) items
and pay close attention to product margins, thus reducing the breakeven point.
 Outsourcing: If an activity consists of a fixed cost, try to outsource such activity
(whenever possible), which reduces the breakeven point.

Benefits of Break-even analysis

 Catch missing expenses: When you’re thinking about a new business, it’s very much possible that
you may forget about few expenses. Therefore, if you do a break-even analysis you have to review
all your financial commitments to figure out your break-even point. This analysis certainly restricts
the number of surprises down the road.

 Set revenue targets: Once the break-even analysis is complete, you will get to know how much
you need to sell to be profitable. This will help you and your sales team to set more concrete sales
goals.

 Make smarter decisions: Entrepreneurs often take decisions in relation to their business based on
emotion. Emotion is important i.e. how you feel, though it’s not enough. In order to be a successful
entrepreneur, your decisions should be based on facts.

 Fund your business: This analysis is a key component in any business plan. It’s generally a
requirement if you want outsiders to fund your business. In order to fund your business, you have to
prove that your plan is viable. Furthermore, if the analysis looks good, you will be comfortable
enough to take the burden of various ways of financing.

 Better Pricing: Finding the break-even point will help in pricing the products better. This
tool is highly used for providing the best price of a product that can fetch maximum profit
without increasing the existing price.

Cover fixed costs: Doing a break-even analysis helps in covering all fixed cost.

Process of Profit Planning and

Control – Explained in 4 Steps
Profit is considered as a significant element of a business activity.
According to Peter Drucker, “profit is a condition of survival.

It is the cost of the future, the cost of staying in a business.” Thus,

profit should be planned and managed properly.

An organization should plan profits by taking into consideration its

capabilities and resources. Profit planning lays foundation for the
future income statement of the organization. The profit planning
process begins with the forecasting of Les and estimating the
desired level of profit taking in view the market conditions.
Figure-6 shows the steps involved in the profit planning
process:

The steps involved in profit planning process (as shown in

Figure-6) are explained as follows:
1. Establishing profit goals:
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Implies that profit goals should be set in alignment with the

strategic plans of the organization. Moreover, the profit goals of an
organization should be realistic in nature based on the capabilities
and resources of the organization.

2. Determining expected sales volume:

Constitutes the most important step of the profit planning process.
An organization needs to forecast its sales volume so that it can
achieve its profit goals. The sales volume can be anticipated by
taking into account the market and industry trends and performing
competitive analysis.

3. Estimating expenses:
Requires that an organization needs to estimate its expenses for the
planned sales volume. Expenses can be determined from the past
data. If an organization is new, then the data of similar organization
in same industry can be taken. The expense forecasts should be
adjusted to the economic conditions of the country.

4. Determining profit:
Helps in estimating the exact value of sales.

It is calculated as:
Estimated Profit = Projected Sales Income – Expected Expenses

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After planning profit successfully, an organization needs to control

profit. Profit control involves measuring the gap between the
estimated level and actual level of profit achieved by an
organization. If there is any deviation, the necessary actions are
taken by the organization.

Profit control involves two steps, which are as follows:

1. Comparing estimates with the goal:
Involves comparing the estimated profit with the expected profit. If
there is a large gap between the estimated profits and the expected
profits, the measures should be taken.

2. Using alternatives to achieve the desired profit:

Includes the following:
a. Making changes in planned sales volume by increasing sales
promotion, improving product quality, providing better service, and
providing after sales support to customers.

b. Reducing planned expenses by minimizing losses, implementing

better control systems, improving product quality, and increasing
the productivity of human resource and machines.

When to Discontinue a Product Line

Susmita B. February 06, 2018

Every successful product will go through various stages in its lifetime;

Introduction, Growth, Maturity and Decline. When the majority of products
in a product line reach the late ‘maturity’ or early ‘decline’ phase, the
product manager can do either of the two things. He/She can either decide
to launch a new version of it or just discontinue and withdraw it from the
market. However, deciding when exactly to discontinue a product line is a
tricky matter.
There are several factors to consider before actually discontinuing a
product line. It is important to analyze the performance of the product line
as a whole as well as the performance of the individual products within that
product line.

Profit: A product line may have been around in the marketplace for many
years and have been profitable in its initial and growth stages, however,
that does not guarantee that it will be so indefinitely. If managers keep
continuous track of a product's financial performance, they may discover
that its sales and profitability decline over time, sometimes at a very rapid
rate. This is the time managers need to start analyzing other factors to see
if the product has any positive effect on the business. If it is discovered that
the product's only benefit is income, which is no longer coming in,
managers may go ahead and discontinue the product.

Resource Utilization: Even if a product line is profitable, it may just drain

your resources for very little benefit. Ensuring that resources are utilized by
all your product lines optimally is very important. Managers should analyze
the margin, overhead cost, labor cost, maintenance cost, marketing
expenses, etc., that are spent to keep a product line running. If a product
line merely absorbs resources in exchange for minimal return, then it may
be better to eliminate it and pave the way for other product lines that can
utilize input resources more effectively.

Product Mix: Managers should constantly assess whether the company's

product lines have the right depth and breadth to satisfy their customer's
needs. It is easier to drop a product line if there is a wide enough product
mix, since other product lines will help retain current customers and
potentially fill the gap of the dropped product line. While discontinuing a
product line, managers can also increase the breadth of other product lines
to retain current customers.

Brand Image: Market turbulence never lets a product line succeed for long
unless it is continually improved. Every brand needs a makeover eventually.
It is important to recognize if a product line no longer fits your brand
image. Managers may have to discontinue a product if they can’t take the
risk of spoiling the company's overall brand image.

Customer Demand: This is an ever changing factor and the most sensitive
and important one to consider when deciding whether or not to continue a
product line. If a product line no longer appeals to customers, then it has
no value in the market and also in the business. In this case, managers
should discontinue or shrink a product line in order to make room for
other, more successful lines to flourish. An increasing return rate of
products from either retailers or customers could be one tell tale sign of
when customer demand is waning. Other indications could be less
favorable reviews on eCommerce sites or the need to drastically increase
advertising spend to maintain customer demand.

If the answers for most of these criteria turn out to be negative, then
managers can be sure that they should discontinue a product line in order
to have a positive effect on their business. If some of the criteria seem
positive, while others are negative, this decision could be much harder. In
these cases it might be helpful to build a cross functional team across
departments to assess from various vantage points what to do about the
product line.

What are the Pre-Requisites of Responsibility

Accounting?
Pre-requisites for responsibility accounting:
 The area of responsibility and authority of each responsibility center should be clearly defined.
 The set of goals, which each manager of a responsibility center is supposed to achieve,
should be clearly stated.
 The performance report of a responsibility center should include only the revenues expenses,
profits and investments that are to be controlled by the executives of that center.
 The items, which may require management's attention like variances, should be highlighted in
the performance report for each responsibility center.
The help of managers of responsibility center may be sought while establishing the goals of the
center.

Types of Responsibility Centres:

Responsibility centres can be classified by the scope of
responsibility assigned and decision-making authority given to
individual managers.

The following are the four common types of responsibility

centres:
1. Cost Centre:
A cost or expense centre is a segment of an organisation in which
the managers are held responsible for the cost incurred in that
segment but not for revenues. Responsibility in a cost centre is
restricted to cost. For planning purposes, the budget estimates are
cost estimates; for control purposes, performance evaluation is
guided by a cost variance equal to the difference between the actual
and budgeted costs for a given period. Cost centre managers have
control over some or all of the costs in their segment of business,
but not over revenues. Cost centres are widely used forms of
responsibility centres.

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In manufacturing organisations, the production and service

departments are classified as cost centre. Also, a marketing
department, a sales region or a single sales representative can be
defined as a cost centre. Cost centre may vary in size from a small
department with a few employees to an entire manufacturing plant.
In addition, cost centres may exist within other cost centres.

For example, a manager of a manufacturing plant organised as a

cost centre may treat individual departments within the plant as
separate cost centres, with the department managers reporting
directly to plant manager. Cost centre managers are responsible for
the costs that are controllable by them and their subordinates.
However, which costs should be charged to cost centres, is an
important question in evaluating cost centre managers.

2. Revenue Centre:
A revenue centre is a segment of the organisation which is primarily
responsible for generating sales revenue. A revenue centre manager
does not possess control over cost, investment in assets, but usually
has control over some of the expense of the marketing department.
The performance of a revenue centre is evaluated by comparing the
actual revenue with budgeted revenue, and actual marketing
expenses with budgeted marketing expenses. The Marketing
Manager of a product line, or an individual sales representative are
examples of revenue centres.

3. Profit Centre:
A profit centre is a segment of an organisation whose manager is
responsible for both revenues and costs. In a profit centre, the
manager has the responsibility and the authority to make decisions
that affect both costs and revenues (and thus profits) for the
department or division. The main purpose of a profit centre is to
earn profit. Profit centre managers aim at both the production and
marketing of a product.

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The performance of the profit centre is evaluated in terms of

whether the centre has achieved its budgeted profit. A division of
the company which produces and markets the products may be
called a profit centre. Such a divisional manager determines the
selling price, marketing programmes and production policies.

Profit centres make managers more concerned with finding ways to

increase the centre’s revenue by increasing production or improving
distribution methods. The manager of a profit centre does not make
decisions concerning the plant assets available to the centre. For
example, the manager of the sporting goods department does not
make the decisions to expand the available floor space for the
department.
Mostly profit centres are created in an organisation in which they
(profit divisions) sell products or services outside the company. In
some cases, profit centres may be selling products or services within
the company. For example, repairs and maintenance department in
a company can be treated as a profit centre if it is allowed to bill
other production departments for the services provided to them.
Similarly, the data processing department may bill each of
company’s administrative and operating departments for providing
computer-related services.

An example of profit centres in a super market having different

retail departments is displayed in Exhibit 11.3.

In profit centres, managers are encouraged to take important

decisions regarding the activities and operations of their divisions.
Profit centres are generally created in terms of product or process
which has grown in size and has profit responsibility. In some
organizations, profit centres are given complete autonomy on
sourcing supplies and making sales.

However, in other organisations, such independence may not be

found. Top management does not allow profit centre divisions to
buy from outside sources if there is idle capacity within the firm.
Also, the top management may be hesitant to part with designs and
other specifications to maintain quality and safety of the product
and due to fear of losing the market that the firm has already
created for its products.

Benefits of Creating Profit Centres:

The creation of profit centres in a diversified or
divisionalized firm has many benefits:
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(i) Better planning and decision making—Profit centres managers

are independent in managing the activities and are responsible for
profit and success of their business units. This encourages them to
make better planning, profitable decisions and exercise control. It
creates a sense of accountability among the profit centre managers.

(ii) Participation in organizational plans and policies— Although

profit centre managers are independent in the management of their
business units, they function within the umbrella of overall
organization. They get opportunities to participate in the discussion
of plans and policies at the firm level. This widens their perspective
and inculcates the habit of taking an integrated and macro view of
activities in place of a narrow division specific view. In this process,
profit centres managers can get trained to be the senior managers of
their companies or other firms in the future.

(iii) Beneficial competitive environment—All profit centres

managers target success and profit by managing costs and aiming
higher revenues. This creates a competitive environment among the
managers managing their respective business units which is not
only beneficial for them but also contributes in achieving the overall
objectives of the firm and in maximizing the firm profit.
Essentials of a Profit Centre:
The basic requirements of a profit centre are as follows:
(i) Operational autonomy:
Business unit managers should have sufficient freedom to take
operating decisions on a profit-oriented basis, for example,
regarding purchase, product mix, pricing and inventory. Unless
they have sufficient autonomy to take decisions in respect of the
above, the very purpose of delegating authority and treating profit
as a measure of divisional performance would be defeated. Top
management, therefore, must not impose its decisions on business
unit managers. However, the decision taken by these divisional
managers must be conducive to the achievement of the
organisational objectives and policies.

(ii) Sourcing inputs and markets for products:

Business unit managers must have authority to source supply and
markets to make profitable and sound make-or-buy decisions. Even
if they are not permitted to actually purchase from external
suppliers or from parties outside the organisation, they should be
able to gain full information regarding demand and supply
conditions and the prevailing and expected price trend in the
industry.

(iii) Measurable costs and revenues of different profit

centres:
The inputs and the outputs of the profit centres should be capable of
separate measurement. By this, the need for apportionment of
common input and output is minimised if not altogether eliminated.
This makes it essential that the boundaries of different profit
centres/divisions be clearly demarcated to preclude overlapping of
activities. In the absence of well-defined boundaries and consequent
overlapping of operations, unit managers may tend to take credit for
everything that goes well and blame the other division for whatever
goes wrong.

Also, it would be necessary not to include the corporate office and

other administration costs, over which the business unit/divisional
manager has no control, in the divisional profit performance
reports. When the boundaries of the responsibility centres have a
lot of overlapping operations/activities, managers are not
adequately motivated to take decisions from the point of view of the
likely impact on the profit of their unit.

(iv) Using profit as a measure of performance:

Although the contribution of a profit centre can not be measured
solely by the amount of profit contributed by it, profit must be
treated as the main measure of a business unit’s performance by the
top management. If the top management does not give weightage to
this, the divisional manager will tend to show less concern for this
vital aspect of performance.

Since the business unit manager can boost profit by ignoring the
need for repairs to plant and machinery or by deliberately reducing
certain expenses, it would be necessary to use three or four non-
profit measures of performance, for example, sales per employee,
and production hours lost as a result of breakdown of machinery for
evaluation.

(v) Size of profit centre:

Unless the division is large enough, it should not be treated as a
profit centre. A small workshop or a section of a department, for
instance, can not be regarded as a profit centre. There should be a
sizeable amount of work being performed in the business unit for it
to be under the charge of a senior executive such as a general
manager or divisional manager who could be given decision-making
powers and the responsibility for all its activities, including profit
performance.

4. Investment Centre:
An investment centre is responsible for both profits and
investments. The investment centre manager has control over
revenues, expenses and the amounts invested in the centre’s assets.
He also formulates the credit policy which has a direct influence on
debt collection, and the inventory policy which determines the
investment in inventory.

The manager of an investment centre has more authority and

responsibility than the manager of either a cost centre or a profit
centre. Besides controlling costs and revenues, he has investment
responsibility too. ‘Investment on asset’ responsibility means the
authority to buy, sell and use divisional assets.