What is a cost center?

A cost center is typically defined as a segment or department within an organization that incurs costs but does not directly generate revenue. This concept is essential in management accounting, as it allows organizations to assess performance based on costs rather than revenue generation. For example, departments such as human resources, accounting, or research and development are often considered cost centers because they provide support functions that are necessary for the operation of the company but do not sell products or services directly.

In contrast, other options do not accurately capture the essence of a cost center. A department that generates revenue and incurs costs describes a profit center rather than a cost center, as profit centers are responsible for both revenue generation and cost control. The idea that a department tracks only fixed costs does not encompass the wider range of costs that may be incurred, such as variable costs or semi-variable costs, making it an incomplete description. Finally, a department that is responsible for setting company-wide prices pertains more to strategic or pricing roles within a company, and again, this does not fit the definition of a cost center. Therefore, the characterization of a cost center as a department that incurs costs without directly generating revenues is accurate and forms the basis for its role within the organization.