The current assignment aims to evaluate the two different provided alternatives in the context of Sooner Health Network. The organization is involved in providing primary care and specialty physicians having special emphasis on obstetrics/gynecology, pediatrics and elder care. In order to evaluate the two alternatives, capital budgeting method is deemed to be favorable. Capital budgeting could be defined as the technique where an organization ascertains and analyses potential big expenses or investments (Almazan, Chen & Titman, 2017). It is necessary for all business organizations to pursue all opportunities and projects, which maximize the value of the shareholders. Thus, this paper would evaluate the two alternatives based on which recommendations could be provided to the management of Sooner Health Network for maximizing its profit margin.
In order to evaluate the two options, it is necessary to compute the cost per unit based on the provided data in the case study. Based on the provided information, the base case output is represented as follows:
|
Activity |
Cost Driver |
Volume |
Cost per Unit |
Alternative 1 |
Alternative 2 |
|
Appointment scheduling |
Receptionist time |
3 min |
$ 0.20 |
$ 0.60 |
$ 0.60 |
|
Patient check-in |
Receptionist time |
5 min |
$ 0.20 |
$ 1.00 |
$ 1.00 |
|
Ultrasound testing |
Technician time |
30 min |
$ 0.40 |
$ 12.00 |
$ 12.00 |
|
Physician time |
1.5 min |
$ 3.00 |
$ 4.50 |
$ 4.50 |
|
|
Supplies |
per procedure |
$ 9.00 |
$ 9.00 |
$ 9.00 |
|
|
Patient check-out |
Receptionist time |
5 min |
$ 0.20 |
$ 1.00 |
$ 1.00 |
|
Film processing |
Technician time |
10 min |
$ 0.40 |
$ 4.00 |
$ 4.00 |
|
Film reading |
Contract terms |
per procedure |
$ 40.00 |
$ 40.00 |
$ 40.00 |
|
Billing and collection |
Overhead costs |
per procedure |
$ 6.80 |
$ 6.80 |
$ 6.80 |
|
General administration |
Overhead costs |
per procedure |
$ 1.25 |
$ 1.25 |
$ 1.25 |
|
Transportation, setup, and breakdown |
Technician time |
18 min |
$ 0.50 |
$ – |
$ 9.00 |
|
Total Cost |
$ 80.15 |
$ 89.15 |
|
Capital and maintenance cost |
||
|
Particular |
alternative 1 |
alternative 2 |
|
Capital cost per machine |
$ 300,000 |
$ 100,000 |
|
capital cost discount |
5% |
0% |
|
cost of van |
$ – |
$ 40,000.00 |
|
annual van maintenance |
$ – |
$ 1,000 |
|
Annual machine maintained |
||
|
one units |
0 |
500 |
|
three units |
1500 |
|
|
Expected machine /van life |
5 |
5 |
|
Capital cost |
$ 60,000 |
$ 28,000 |
|
Maintained cost |
$ 1,500 |
$ 1,500 |
|
Total annual capital cost |
$ 61,500 |
$ 29,500 |
|
Operating cost |
$ 192,360 |
$ 213,960 |
|
Total cost |
$ 253,860 |
$ 243,460 |
The operating costs of the two options would be identical at $80.15 for each procedure, if there have been no costs of set-up, transportation and breakdown costs. However, since there is extra transport expenses associated with the second alternative of $9 for each procedure, the operating costs have been $89.15 for each procedure. By considering all relevant costs, the first alternative has yearly cost of $253,860, while for the second alternative; the cost is obtained as $243,960. Thus, based on cost, the second alternative is deemed to be favorable.
The costs assuming 10% increase and 20% increase in the input costs are represented as follows:
|
Sensitivity 10% Increase |
Sensitivity 20% Increase |
||||||
|
Activity |
Cost Driver |
Volume |
Cost per Unit |
Alternative 1 |
Alternative 2 |
Alternative 1 |
Alternative 2 |
|
Appointment scheduling |
Receptionist time |
3 min |
$ 0.20 |
$ 0.66 |
$ 0.66 |
$ 0.72 |
$ 0.79 |
|
Patient check-in |
Receptionist time |
5 min |
$ 0.20 |
$ 1.10 |
$ 1.10 |
$ 1.20 |
$ 1.32 |
|
Ultrasound testing |
Technician time |
30 min |
$ 0.40 |
$ 13.20 |
$ 13.20 |
$ 14.40 |
$ 15.84 |
|
Physician time |
1.5 min |
$ 3.00 |
$ 4.95 |
$ 4.95 |
$ 5.40 |
$ 5.94 |
|
|
Supplies |
per procedure |
$ 9.00 |
$ 9.90 |
$ 9.90 |
$ 10.80 |
$ 11.88 |
|
|
Patient check-out |
Receptionist time |
5 min |
$ 0.20 |
$ 1.10 |
$ 1.10 |
$ 1.20 |
$ 1.32 |
|
Film processing |
Technician time |
10 min |
$ 0.40 |
$ 4.40 |
$ 4.40 |
$ 4.80 |
$ 5.28 |
|
Film reading |
Contract terms |
per procedure |
$ 40.00 |
$ 44.00 |
$ 44.00 |
$ 48.00 |
$ 52.80 |
|
Billing and collection |
Overhead costs |
per procedure |
$ 6.80 |
$ 7.48 |
$ 7.48 |
$ 8.16 |
$ 8.98 |
|
General administration |
Overhead costs |
per procedure |
$ 1.25 |
$ 1.38 |
$ 1.38 |
$ 1.50 |
$ 1.65 |
|
Transportation, setup, and breakdown |
Technician time |
18 min |
$ 0.50 |
$ – |
$ 9.90 |
$ 10.80 |
$ – |
|
Total Cost |
$ 88.17 |
$ 98.07 |
$ 106.98 |
$ 105.80 |
|
Capital and maintenance cost |
Sensitivity 10% Increase |
Sensitivity 20% Increase |
||||
|
Particular |
alternative 1 |
alternative 2 |
Alternative 1 |
Alternative 2 |
Alternative 1 |
Alternative 2 |
|
Capital cost per machine |
$ 300,000 |
100000 |
$ 300,000 |
$ 100,000 |
$ 300,000 |
$ 100,000 |
|
capital cost discount |
0% |
0% |
0% |
0% |
0% |
0% |
|
cost of van |
0 |
40000 |
$ 40,000 |
$ 40,000 |
||
|
annual van maintenance |
0 |
1000 |
$ 1,000 |
$ 1,000 |
||
|
Annual machine maintained |
||||||
|
one units |
0 |
500 |
500 |
500 |
||
|
three units |
1500 |
$ 1,500.00 |
$ 1,500.00 |
|||
|
Expected machine /van life |
5 |
5 |
5 |
5 |
5 |
5 |
|
Capital cost |
$ 60,000 |
$ 28,000 |
$ 60,000.00 |
$ 28,000 |
$ 60,000 |
$ 28,000 |
|
Maintained cost |
$ 1,500 |
$ 1,500 |
$ 1,500.00 |
$ 1,500 |
$ 1,500 |
$ 1,500 |
|
Total annual capital cost |
$ 61,500 |
$ 29,500 |
$ 61,500.00 |
$ 29,500.00 |
$ 61,500.00 |
$ 29,500.00 |
|
Operating cost |
$ 192,360 |
$ 213,960 |
$ 370,293.00 |
$ 411,873.00 |
$ 449,316.00 |
$ 444,351.60 |
|
Total cost |
$ 253,860 |
$ 243,460 |
431,793.00 |
441,373.00 |
510,816.00 |
473,851.60 |
|
operating cost |
10% increase |
20% increase |
|
|
alternative 1 |
80.15 |
88.17 |
106.98 |
|
alternative 2 |
89.15 |
98.07 |
105.80 |
|
Total life time |
|||
|
Alternative 1 |
1,269,300.00 |
2,158,965.00 |
2,554,080 |
|
Alternative 2 |
1,217,300.00 |
2,206,865.00 |
2,369,258.00 |
|
Total cost including capital and Maintained cost |
|||
|
Alternative 1 |
253,860.00 |
431,793.00 |
510,816.00 |
|
Alternative 2 |
243,460.00 |
441,373.00 |
473,851.60 |
|
Total per procedure |
|||
|
Alternative 1 |
105.78 |
179.91 |
212.84 |
|
Alternative 2 |
101.44 |
183.91 |
197.44 |
From the above table, based on each procedure, the total cost of the first alternative with 10% increase has increased from $105.78 to $179.91, while for alternative 2; the costs have risen from $101.44 to $183.91. Thus, in this case, the first alternative seems to be more attractive. As there has been increase in costs, it is obvious that the cost per procedure would increase as well.
The project life does not have any impact on operating costs per procedure; however, the impact would be on capital costs per procedure. This is because with the increase in asset life, the number of procedures rises and the capital cost amortization per procedure would be lower (Andor, Mohanty & Toth, 2015). In case of the useful life of 3 years as well as that of 7 years, the total cost for the second alternative is deemed to be lower compared to the first alternative. Hence, in terms of the useful lives of the alternatives, the organization would have to incur lower cost for the second alternative.
As the clinical project aspects are not dependent of the alternative, the significant subjective factors include the difference between mobile and fixed equipment. Initially, it is probable that the ultrasound machine life is dependent of the selected alternative. The second alternative having its set-up on one machine and daily transportation would have increased wear and tear on the machine due to transportation cost (Chittenden & Derregia, 2015). Moreover, no information is provided in the case information about potential rise in demand for demand profile or ultrasound service at all the clinics. Therefore, when three machines would be installed, the organization would be allowed to appoint additional technicians along with raising capacity with no extra capital expenses (Daunfeldt & Hartwig, 2014). This implies the presence of managerial flexibility in the first alternative, which is not present in the second alternative.
Conclusion:
Based on the above discussion, it could be stated that the second alternative has lower cost compared to the first alternative in terms of cost. The scenario is similar for 10% and 20% increase in base case values as well as for the different economic lives. Thus, Sooner Health Network is recommended to accept the second alternative for maximizing its return on investment.
References
Almazan, A., Chen, Z., & Titman, S. (2017). Firm Investment and Stakeholder Choices: A Top?Down Theory of Capital Budgeting. The Journal of Finance, 72(5), 2179-2228.
Andor, G., Mohanty, S. K., & Toth, T. (2015). Capital budgeting practices: A survey of Central and Eastern European firms. Emerging Markets Review, 23, 148-172.
Chittenden, F., & Derregia, M. (2015). Uncertainty, irreversibility and the use of ‘rules of thumb’in capital budgeting. The British Accounting Review, 47(3), 225-236.
Daunfeldt, S. O., & Hartwig, F. (2014). What determines the use of capital budgeting methods?: Evidence from Swedish listed companies. Journal of Finance and Economics, 2(4), 101-112.
De Andrés, P., De Fuente, G., & San Martín, P. (2015). Capital budgeting practices in Spain. BRQ Business Research Quarterly, 18(1), 37-56.
Johnson, N. B., & Pfeiffer, T. (2016). Capital budgeting and divisional performance measurement. Foundations and Trends® in Accounting, 10(1), 1-100.
Kengatharan, L. (2016). Capital budgeting theory and practice: a review and agenda for future research. Applied Economics and Finance, 3(2), 15-38.
Rossi, M. (2014). Capital budgeting in Europe: confronting theory with practice. International Journal of Managerial and Financial Accounting, 6(4), 341-356.
Rossi, M. (2014). Capital budgeting in Europe: confronting theory with practice. International Journal of Managerial and Financial Accounting, 6(4), 341-356.
Rossi, M. (2015). The use of capital budgeting techniques: an outlook from Italy. International Journal of Management Practice, 8(1), 43-56.
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