What are the implications when a subdivision of a company has its own profit and loss?
Thanks,
Rob
Title edited to indicate subject.
Colibri
General Questions Moderator
Could you elaborate?
Thanks,
JKilez
Well, for example, at my old company, one of the departments was restructured to have it’s own P&L. I was never quite sure what that meant for the company as a whole.
Thanks,
Rob
Typically, accounting systems for any given company can be set up with as many or as few finely-detailed account headings as the company sees fit, to provide a detailed analysis of where the money is coming from, where it is going, and how it flows around the company – to as fine or coarse a degree of resolution as the company needs.
I’m guessing the OP’s example is a case of the company wanting to get a more detailed accounting from one particular division as to how much money it is contributing to the overall company profit, or how much that division is bleeding the company in losses. Further, this can also make the sub-division-level management more accountable for the group’s performance. With this more focused accounting for one sub-division, the upper management can better decide if heads need to roll there.
Every division and several subdivisions have their own P&L in the company I work for. It’s not unusual. Originally the subdivisions were part of their division’s P&L and weren’t separate, but they separated them out about ten years ago to get a better handle on the overall economics of the company (where it was making money, where it was losing money, etc).
I’d suspect any decent finance system would know p&L whether it was broken out or not. I think it is usually done to drive behavior.
If compensation and bonuses for a division depend on its P&L, the managers will get a lot more motivated. That is the upside. The downside is that you may lose synergies between divisions. And it might hard to incubate a new division that is an internal startup in this environment.
When I worked for the Bell System various parts of Western Electric did not have individual P&L. People in Microelectronics would do stuff to improve the quality of the end product even if it meant more costs for them. In my understanding IBM did the same thing. When things shifted internal customers could buy outside, and internal suppliers could try to sell outside. Theoretically this was good but it usually didn’t work out that way.
Are there tax implications?
Sometimes it makes sense and sometimes not. My daughter worked for a tiny publisher. They rented a house in Brooklyn and made a nice profit. Then a major publisher bought them out, closed the Brooklyn house and moved them to the headquarters in midtown Manhattan. I guess other departments squeezed a little to make room for them (there were only 7 employess, while the owner moved on). But the accountants had to attribute some of the cost of the midtown rental to them. Suddenly this tiny division was losing money. All the other departments were making more of course, but they were losing money although their actual costs were lower by the amount of the Brooklyn rental.
Here is another story of accounting gone mad. When I was in Japan I met a man who had worked for Hitachi. The accountants had decreed that every department had to make a profit. Now at some point, the company noticed that the engineers were buying multiple copies of the same books since whenever an engineer wanted to consult a book, he tended to buy it. So they set up a library facility so the engineers would buy only the books they needed constantly. The trouble was that the library had to earn money, said the bean-counters. So they had to charge everyone who looked into a book. Relatively few people did and so the cost went up and up. If you wanted to consult the same book more than once or twice, it cost your own department less to buy it for you. And so the library folded from disuse.
This is one of the hazards of cost accounting of fixed costs. The fixed cost doesn’t change, but it has to be allocated among however many people/divisions/whatever use it. This is why if a washer factory costs two million dollars to maintain (lights, insurance, security, heat, water, etc.) per year, but for some reason only made two washers during the fiscal year, then each of those washers “costs” one million dollars apiece plus the cost of the materials and any additional labor you brought in. Nobody wrote a check for that amount specifically to cover washers - the money would have been spent anyway. Effectively, you pay now and then later find out what you bought.
Things also can get weird when you try to cost-account-for a salaried person. Salaried people are supposed to get the job done, whatever that might be. The bean counters want to know that Salaried Guy spent 1/4 of his time on Project X, so they can say hey, since Salaried Guy makes $60,000 salary, he “cost” Project X $15,000. It doesn’t matter that if Salaried Guy hadn’t have worked on Project X, the company wouldn’t have paid him any more money.
Previous thread on the wacky world of cost accounting.
One reason to do this, at least for government contracting, is to document and establish separate overhead rates. Each P/L center can establish it’s own rates. When done right this can increase profits for all. In my experience it is usually done wrong… When my small company was bought up by a large one, they eventually split out our small hardware group to go with the big hardware group. The sudden huge increase in overhead promptly killed the small group. Their customers didn’t want to pay twice as much for the same piece of hardware. The large group hardly noticed their presence, nor their absence. A sad time for the engineers involved. Eventually it all worked out-the engineers established a small company and took business away from the large company and everyone was happy. 
Generally speaking, if a company has divisions that sell/produce different products or services along with separate marketing, support, production, etc… it makes sense to do P&L by division, if only so you can show that your gizmos are making money, and your widgets aren’t, which would be much harder to do accurately if P&L wasn’t calculated by divisions (widgets and gizmos).
However, it doesn’t really make sense (at least to me) to do it if the divisions aren’t really related to end-product sales or services, or if there’s one product/service and all the divisions are related to it.
It seems kind of dumb to look at separate P&L for say… the service division of a manufacturing company. Having fewer service calls and spare parts sold isn’t a BAD thing, if the manufacturing side is making the products more durable and with less problems. But if you looked at P&L for the service division, it would look like they’re not pulling their weight.