ABC of Accounting – Analytical or cost centre accounting

In this new blog of our ABC Accounting series we are going to discuss the concept of analytical accounting or cost centres.

Analytical or cost centre accounting

Cost centre accounting has the function of detecting the consumption of costs and distributing them in the operating departments individually, as well as detecting the origin of the costs involved in the manufacture of a product or provision of a service we perform.

In companies that produce and sell different products, or offer different services, a uniform distribution of costs between departments would not be correct, because these costs are likely to affect more than one department of the company differently.

In the same way when we talk about income, these should be assigned to each department or business unit according to the criteria with which we have created the cost centres.

Analytical or cost centre accounting creates clearly differentiated areas of responsibility, which control the cost centres profitability and assess whether management is effective and efficient. In addition, they allow defining responsibilities for each cost centre, area or department.

General costs and direct costs

There are general costs that cannot be assigned directly to a single individual cost centre, but must be distributed among several cost centres using a distribution key, whether 50/50% or 60/20/20% for example.

Some examples of general costs that must be distributed through distribution rules among various departments can be: company taxes, insurance premiums or salaries (if an employee works in several products / services or in several areas of the company).

The direct costs are those unique to a single cost centre in question. Examples of direct costs that can be accounted for directly at your cost center can be: wages (if the employee only works on a product / service or only in one department), depreciation of fixed assets or supplies of the department.

The cost centres correspond either to the departments of the company or to independent business units. The basic requirements for the definition of a department or cost centre are objective necessity and economic viability.

The structure of the company in cost centres

As we said, the cost centres generally correspond either to the company’s departments or to independent business units.

In the case of a classification of departments by function or activity, we could distinguish as one of the most common the following:

  1. Shopping area.
  2. Production area.
  3. Administration area.
  4. Sales area.

This structure is sufficient for most small businesses. The larger the company, the more cost centres can be disaggregated according to the activity. For example:

  1. Shopping area:
    1. Purchase of materials
    2. Materials test
    3. Materials management, etc.
  2. Production area:
    1. Mounting.
    2. Technical management, etc.
  3. Management Area:
    1. Commercial management.
    2. Financial Department
    3. Accounting, etc.
  4. Sales area:
    1. Advertising.
    2. Sales
    3. Warehouse of finished products.
    4. Shipping, etc.

In the case of business units, we speak of independent units that alone could function as a company and that, in fact, can in turn be divided into cost centres according to the criteria of functions or activity.

Most accounting programs offer the possibility of a breakdown in cost centres. This is the case with Reviso, which has a simple module of cost centres that allows assigning expenses and income to each of them in an easy and intuitive way.