I am considering expanding the hospital I direct in order to increase room for routine care services.
Question:
I am considering expanding the hospital I direct in order to increase room for routine care services. In order to expand, I have decided to move the orthopedics department elsewhere, freeing up space for the routine care department to expand. Needing to find a new place for orthopedics, I decide to keep the department on the same campus as the hospital in case inpatient care was needed. The decision is to build a new building on vacant land on the campus. Using expansion Revenue Method Expansion and Square Foot Expansion Allocations, I calculated the total indirect expenses to both the routine care and orthopedic care departments. Once allocated, I calculated the projected net income for each department, shown below.
Total Indirect Expenses Without Allocation: Routine Care – $307,500 Ortho Care – $195,150 Total Indirect Expenses After Allocation: Revenue Method, Allocation 1 Routine Care – $450,000 Ortho Care – $263,000 Total Indirect Expenses After Allocation: Square Foot Method, Allocation 2 Routine Care – $476,000 Ortho Care – $238,000 Department Net Income Before Allocation Routine Care – $86,500 Ortho Care – $1,850 Department Net Income After Allocation: Revenue Method Routine Care – $129,500 Ortho Care – $2,300 Department Net Income After Allocation: Square Foot Method Routine Care – $104,000 Ortho Care – $23,200 |
Interpreting the results from the calculations above, do you think the cost allocation method of using revenue as a cost driver is a “fair” allocation method? Why or why not?
Expert Answer:
