I was once on a team that maintained a SaaS application that was in some sort of bizarre super-position of "cost center" and "profit center" a few years back.
The company technically sold the app and made money from it, but they also tended to give it away almost for free as long as the buyer was going to be paying lots of money for the company's $FLAGSHIP_BUSINESS_SERVICE that integrated with the app. (Think of it like a free mobile game with micro-transactions.)
The primary way customers interacted with $FLAGSHIP_BUSINESS_SERVICE (and generated micro-transaction revenue) was through our application. However because the application wasn't what the customer was actually paying for, the executives had an impossible time deciding whether to treat the app like a cost or a profit center.
Whenever the app was working fine and everybody was happy the executives were convinced it was a cost center and looked down on it. Whenever it wasn't working fine and companies began to get angry and threaten to take their business elsewhere suddenly the executives would realize that without the SaaS application they wouldn't be able to sell more $FLAGSHIP_BUSINESS_SERVICE.
Long story short, it was a strange and frustrating experience in many ways.
My best conclusion is that there is no definition of "cost center" and "profit center" that makes sense. I challenge anyone to give me such a definition.
This is as good a place as any to put this:
Peter Drucker originally coined the term "profit center" around 1945. He later recanted, calling it "One of the biggest mistakes I have made". He later asserted that there are only cost centers within a business, and "the only profit center is a customer whose cheque hasn’t bounced."
Most places I’ve worked had the attitude that profit center = sales and everyone else was a cost to be controlled or eliminated. It shouldn’t be really surprising that management thinks management is the most valuable function, and actually making the product is not.
I used to think that the team building the product was a profit center. The more time we spend solving customer problems, the more revenue the company generates.
The reality is they view engineering teams like assembly line workers. The revenue was generated by the sales team and now they come to the engineers to get the bad news of how much that revenue is going to cost them.
not sure this is an airtight definition, but think about employee skill vs revenue in a particular department. if you're selling software, you would expect revenue to go up a lot if you increase the overall skill of the developers. if you're a restaurant, you probably don't see a huge increase in revenue from hiring a very good website designer. basically, how hard is it to get people who do a "good enough" job? maybe "not very hard" means you're looking at a cost center and "very hard" means you're looking at a cost center.
of course the problem is that things are very interrelated at a company. maybe you can't hire good developers if you don't have good HR people to recruit them. if you have bad or not enough cleaning staff, maybe none of your "profit center" employees are actually willing to work for you because your office is filthy. maybe the event planning staff do really good parties that help with retention.
I guess I'm inclined to agree with you that there's no clear, workable definition of "cost center" or "profit center", but there are certainly areas of your company that generate more ROI than others, and I think that's kinda the point of this (crude) way of thinking about it.
I understand that we're mostly agreeing, and I think that we both have an intuition for what it means for something to be a profit center.
Still, I'd like to show a gap in what you said: You talk about what kind of increase in revenue you'd have if such and such people did a better job, and what kind of ROI you'd get from each department.
But the question is, an increase relative to what, or an ROI relative to what?
Let's take the billing department. If you made sales for $10 million, and your billing department works okay, then you would have a revenue of $10 million. If you hired the best billing experts on earth, you still would get just $10 million. So that might make you look at the billing department as a cost center rather than a profit center.
But maybe if the billing department fucked up royally, either by not charging a customer, or overcharging them and hurting the relationship, or breaking obscure laws and getting the company in legal trouble. Then you could be out a lot more than $10 million.
So in effect, you could view the billing department's ROI as "how big a disaster they can prevent, and how good they are at preventing it." That kind of thinking makes sense for any department in the company.
That's the reason why I don't see the logic behind branding some departments as profit centers and some as cost centers.
I agree with you 100% and have attested to the same claims on other threads. With small exceptions, businesses exist to make profit. The whole discussion going all the way back to the original terms should be recast as "ROI positive centers" and "ROI negative centers". From that perspective I would agree, it's better to be working for an "ROI positive center" in the company. And even though it might seem the security compliance department is ROI negative, if the alternative is being shutdown by a government agency or paying heavy fines then it really is ROI positive; it just might be harder to make those calculations up front.
The janitor unlocking the doors in the morning is a cost centre but nothing would get done without one. I agree with the coiner that there are only cost centres.
However, close to the top of the pyramid is where the money is at. I think that's more important than whether it's core business or whatever.
If the balance of a department is positive then its a profit center. It's a matter of income attribution inside of a company and can be manipulated by people in charge.
Profit centers consist of people who can directly attribute revenues or savings to the work that they do. Everyone else is a cost center. No, it's not fair.
The bullshit is hidden in the word "directly". You can define this word to mean whatever you'd like to mean. You can say a salesperson directly adds revenue to the company, but it's not really directly, the billing department is much closer to the actual money. You allow yourself to take the billing department for granted, but that's just because you don't work for the billing department. In the same way you could view the developers as the profit center, and take the sales department for granted.
I'll say it again, I'll be happy to see an objective definition of profit centers and cost centers.
Profit center: spending more money on it can make you more money.
Cost center: spending more money will not be able to increase your revenue, hence the only way to improve your bottom line is by reducing costs.
A lot of the confusion on this thread was conflating necessary functions with profit centers. Billing and compliance are both necessary. Done poorly they can cost a lot of money. Done perfectly they can never increase the actual income of t he company. That is why sale and product development are traditionally the only parts of the business identified as profit centers. It doesn’t mean the others aren’t important just that they have different goals. Profit centers look to expand the business while cost centers look to increase efficiency through optimization.
They have different value during the life of a company. During growth, profit centers are the most valuable source of effort while for a mature company that has saturated its market cost centers are most valuable to focus on. The advice to stick to profit centers is somewhat equivalent to sticking to growth which nearly always has a higher return than optimization.
The billing department is a profit center because it converts accounts receivable into cash and there are metrics like days sales outstanding that can be used to directly measure their impact on the bottom line.
Cost centers on the other hand are indispensable, but evaluating their impact on the bottom line is hard to quantify and therefore subjective.
Again, it’s not fair to the invaluable work done by the cost centers, but that’s what it is.
That "directly" is carrying a lot of weight, though. The salesmen have nothing to sell without all of the work of the other employees. I prefer the conception of profit and cost in "The Goal": you have throughput (money from sale of your product), inventory (goods in the system not yet converted to sales), and operating expense, the cost of translating raw materials to goods or services (e.g. payroll, cost of electricity for your buildings). In that model it's obvious that salespeople are an expense like everybody else, and the profit from their sales is a reward of the effort of the entire system, not just the salespeople.
I suppose the real difference is between short term and long term.
If you double the number of salesmen, you can increase your income right now. Firing all the salesmen would drop the income to zero.
If you double the number of developers, there is no difference during the following month or two. If you fire all the developers, you can still continue selling the product for a few months, maybe years.
As a manager, you may be tempted to increase the short-term profit, grab your bonus, and get promoted to somewhere else, so that someone else will have to deal with the long-term impact.
Nah, you can totally have sales without a product - it's just not very sustainable.
It's a little tongue in cheek, but I think illustrates a real perspective - improving a product doesnt necessarily extract more revenue from existing customers. Selling more copies does extract more revenue from existing products though.
Indeed. Not long ago our sales team was our existing customer base. Users would call up their friends who work in other companies and tell them "you need to get this software".
We've since added a dedicated sales person, but we still get a significant amount of sales this way.
Yes that is true. Despite this, I think this is the way executives sees it. For example, without logistics, no physical products would reach customers. Despite this, logistics is traditionally a cost center.
The marketing department is a cost centre. The accountants are a cost centre. HR is a cost centre. Middle management is a cost centre. But the logic of profit centre vs cost centre is only applied to engineering departments, or workers in general. That’s really all you need to know about it.
Joga classes in the office can improve employees and management efficiency and their comfort of life so such spend can bring in millions in new business value by healthier and happier staff. Is joga trainer a profit center?
The better way to think about it is that you want to be close to the money. If you can quantify your contribution easily (I was the lead on product X that was a huge success/ brought in $Y additional revenue) you have little trouble getting some share of that success. If you can't (I fixed the tests so that they're no longer flaky and improved the overall product quality), then generally it's a lot harder to get the deserved recognition, even if your impact was actually larger! The trick is to go back to money, when you can (be specific, "build machines are costing us $X/Mo, people used to rebuild three times on average to get a "green status" so just by that I saved 0.66*$X/Mo; add an estimated y% of developer time; add cost of extra incidents/ support tickets if you can quatify it; and all of the sudden you can reasonably claim a larget $ amound that much more will easily get the attention of a high-level manager).
I was once on a team that maintained a SaaS application that was in some sort of bizarre super-position of "cost center" and "profit center" a few years back.
The company technically sold the app and made money from it, but they also tended to give it away almost for free as long as the buyer was going to be paying lots of money for the company's $FLAGSHIP_BUSINESS_SERVICE that integrated with the app. (Think of it like a free mobile game with micro-transactions.)
The primary way customers interacted with $FLAGSHIP_BUSINESS_SERVICE (and generated micro-transaction revenue) was through our application. However because the application wasn't what the customer was actually paying for, the executives had an impossible time deciding whether to treat the app like a cost or a profit center.
Whenever the app was working fine and everybody was happy the executives were convinced it was a cost center and looked down on it. Whenever it wasn't working fine and companies began to get angry and threaten to take their business elsewhere suddenly the executives would realize that without the SaaS application they wouldn't be able to sell more $FLAGSHIP_BUSINESS_SERVICE.
Long story short, it was a strange and frustrating experience in many ways.