Question

Cost Behavior, High-Low Method, Pricing Decision

St. Teresa's Medical Center (STMC) offers a number of specialized medical services, including neuroscience, cardiology, and oncology. STMC's strong reputation for quality medical care allowed it to branch out into other services. It is now ready to expand its orthopedic services and has just added a free-standing orthopedic clinic offering a full range of outpatient, surgical, and physical therapy services. The cost of the orthopedic facility is depreciated on a straight-line basis. All equipment within the facility is leased.

   Since the clinic had no experience with in-patient orthopedic services (for patients recovering from hip and knee replacements, for example), it decided to operate the orthopedic center for two months before determining how much to charge per patient day on an ongoing basis. As a temporary measure, the clinic adopted a patient-day charge of $190, an amount equal to the fees charged by a hospital specializing in orthopedic care in a nearby city.

   This initial per-day charge was quoted to patients entering the orthopedic center during the first two months with assurances that if the actual operating costs of the new center justified it, the charge could be less. In no case would the charges be more. A temporary policy of billing after 60 days was adopted so that any adjustments could be made.

   The orthopedic center opened on January 1. During January, the center had 4,200 patient days of activity. During February, the activity was 4,500 patient days. Costs for these two levels of activity output are as follows:

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Required:

2. Use the high-low method to separate the mixed costs into fixed and variable.

	Laboratory:	Pharmacy:
Variable	$ per patient day	$ per patient day
Fixed	$	$

3. The administrator of the orthopedic center estimated that the center will average 4,300 patient days per month. If the center is to be operated as a nonprofit organization, determine the amount it will need to charge per patient day? Round your interim calculations and final answers to the nearest cent.

$ Charge per patient day

How much of this charge is variable?

$ Variable charge per patient day

How much of the charge per patient day is fixed?

$ Fixed charge per patient day

4. Suppose the orthopedic center averages 4,800 patient days per month. How much would need to be charged per patient day for the center to cover its costs?

$ per patient day

Answer 1

Solution:

	Laboratory	Pharmacy
High number of patients	4,500	4,500
Highest cost @ 4500 patients day	127,200	251,300
Low number of patients	4,200	4,200
Lowest cost @ 4,200 patients day	120,300	235,700
Variable cost = ( Highest cost - Lowest cost) /(4,500 - 4,200 patients day)	23	52
Fixed cost = Total cost - Variable cost
$ 120,300 - $ 23 * 4,200 patients day	23,700	-
$ 235,700 - $ 52 * 4200 patients day		17,300
	Laboratory	Pharmacy
Variable	23	52
Fixed	23,700	17,300

4,300 patient days
	Total	Per patient day
Variable cost
Pharmacy	223,600	52
Laboratory	98,900	23
Laundry	20640	4.80
Total variable cost	343,140	79.80
Fixed cost
Salaries	55,000	12.79
Aides	32,000	7.44
Pharmacy	17,300	4.02
Laboratory	23,700	5.51
Depreciation	25,000	5.81
Administration	27,000	6.28
Lease	36,000	8.37
Total fixed cost	216,000	50.23

Total cost to be charged = Total variable cost + Total fixed cost
Charge per patient	130.03
Variable charge per patient'	79.80
Fixed charge per patient	50.23