Managerial Economics

Cost Centers Versus Profit Centers

One internal transaction cost in multiple-division companies is how to coordinate the divisions that make internal exchanges so they will achieve what is best for the overall corporation. This challenge is not merely a matter of communication but of providing proper motivation for the individual units.

Large vertically integrated companies often have at least one upstream division that creates a product and a downstream division that distributes it or sells it to consumers. One design for such companies is to have a central upper management that decides what activities and activity levels should be provided by each division. These instructions are given to the division managers. With the output goals of each ...