My question is - what are the cost drivers of each support department costs and
ID: 2571972 • Letter: M
Question
My question is - what are the cost drivers of each support department costs and why?
Gordon County Hospital (GCH) is a rural hospital. The financial statements for GCH are provided in Exhibit 1. The new CEO of the hospital is concerned that GCH does not have appropriate costing for management purposes. Accordingly, she has discussed with the hospital's controller the current costing methodology. The controller has explained that the revenue centers are considered profit centers so that all direct costs of each revenue center are subtracted from revenues generated in primary patient care, labs, and imaging. All of the support department costs are considered overhead and not currently allocated to any of the profit centers. The controller who began in the financial services area as an Accounts Receivable clerk and worked her way up the chain of command to controller indicates that the hospital is operating at a profit of about $12 million. Furthermore, she states that each of the profit centers is profitable. the primary patient care profit center has a $20 million profit followed closely by labs as can be seen through Exhibit 1. The CEO has asked the controller to allocate the overhead, or support service department cost, to each of the profit centers. Accordingly, the controller returns to her office and is contemplating how to allocate support Service department costs to each of the profit centers. She knows that you have recently completed an MBA and asked for your advice about how to allocate support service department costs. You tell her that there are several methodologies that would be appropriate. You know that perhaps the simplest approach would be to use the direct method to allocate service department cost to each of the profit centers. She responds that she knows that the overhead cost allocation should follow some logical and systematic basis along the lines of what has caused the cost. She asked for your advice about what you believe would be the best method to allocate each service department cost. You reflect on the nature of each service department one by one. You know that financial services essentially does all the billing and handling of insurance. Facilities you understand takes care of all of the maintenance of the hospital. Maintenance of equipment for specialized equipment is done by technicians who are specially contracted by each profit center and their costs are therefore considered direct to each profit center. The hospital employs housekeeping personnel that clean the hospital, wash laundry and so forth. The administration is responsible for overseeing the operations of the hospital. Personnel department is essentially a human resource department.
Exhibit 1 Gordon County Hospital Projected Revenues by Patient Services
Department Primary Patient Care $ 40,000,000
Labs $ 34,000,000
Imaging $ 6,000,000
Total Revenues $ 80,000,000
Projected direct Costs Primary Patient Care $ 20,000,000
Labs $ 15,000,000
Imaging $ 3,000,000
Total Costs $ 38,000,000
Support Services Departments (Overhead Costs): Financial Services $ 1,500,000
Facilities $ 3,800,000
Housekeeping $ 1,600,000
Administration $ 4,400,000
Personnel $ 2,550,000
Total Costs $ 13,850,000
Total costs of both patient and support services $ 51,850,000
Projected profit $ 28,150,000
Explanation / Answer
Statement showing different support services costs and their cost drivers:-
Nature of Support services cost Amount in $ Cost Driver Reason Financial Services 1,500,000 No. of Insurance Contracts handled As Financial services essentially does all the billing and handling of insurance Facilities 3,800,000 Area of different profit centers As Facilities is regarding the maintenance of all the Hospital, it should be divided among various profit centers on the basis of area occupied in the hospital by each profit center. Housekeeping 1,600,000 Area occupied by each center Similarly to Facilities, Housekeeping expense also allocate according to area occupied in hospital. Administration 4,400,000 No. of hours of operating of each center As Administration is responsible for overseeing the operations of hospital, it should be allocated on the basis of no. of hours of operation in each center. Personnel 2,550,000 No. of employees in each center As Personnel expenses are related to Human resource department it should be divided on the basis of no. of employees in each profit center.Related Questions
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