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					HSCI 615 Information Management
and Quantitative Decision-Making
and Control



  Chapter 2 Break-Even Analysis

             Brian Malec, Ph.D.
      Professor of Health Administration
Breakeven analysis
 Point where revenue = expenses
 Below break-even organization will incur a
  net loss for the project
 Above this point the organization will realize a
  profit for the project
 Breakeven Analysis

 There are many different approaches to
  breakeven in project analysis:
      Time breakeven
      Input variable breakeven
          Utilization
          Charge
 We will focus on payback (or payback
  period), a measure of time to breakeven.
What Things are Included in the
Breakeven Analysis?
 Fixed costs – do not change with volume
    Depreciation, straight rent, property tax, business
      license
 Variable costs – increase in direct proportion with
   volume
       Cost of goods sold, supplies
 Semivariable costs – have a fixed and variable
   component.
       Employees
Steps in Break Even-Analysis
 Classify all costs as either fixed or variable
    Break semivariable into the two component parts
 Next graph the costs
    Fixed is a straight line
    Total costs – graph two points
        Volume =0, TC = FC

        Total sales and total costs for the year

 Then graph the revenues
    Start at (0,0) with a slope of 1
 Break-even – point where total cost and total
   revenue intersect
     Case Problem

   Jefferson Community Health Plan
   Considering a new facility because of a proposed new contact with ARGO industries
      Construction costs $1.8 mil
      Capital equipment $500K
      Fixed annual operating expenses $370K
      Variable annual operating expenses PER 100 ENROLLEES
            Supplies and materials =15,000
            Clinical staff   =76,000
            Support staff = 18,000
            Contract services    = 48,000
      ARGO wants to contact at annual capitation of $1800 per enrollee
      Estimated 1500 enrollees


   Questions
      Would the proposed new contact with ARGO cover the full costs for the new satellite
        health center?
      If not, how many additional enrollees from the community would be required?
      To break-even on the basis of the ARGO contract, what capitation payment should
        Jefferson negotiate?
Basic Break-even Model

 TR = REV x N
      Total revenue equals Revenue per units times the
       number of units.
 VC = COST x N
      Variable cost equals the Cost per units times the
       number of units
 TC = VC + FC
      Total Cost equals Variables Costs plus Fixed Costs
 Model Assumptions
 Cost account system already in place and they can draw upon the
  experiences of existing units in the organization. If that was not
  the case you would have to research many of the following
  assumptions.
      Supplies and Materials $1500 per 100 enrollees
      Clinical staff costs   $76000 per 100 enrollees
      Support staff         $18000 per 100 enrollees
      Contract services      $48000 per 100 enrollees
      Total Variable Cost $157,000 per 100 enrollees or
            $1570 per enrollee per year
More assumptions


 Fixed Costs
      Construction      $1,800,000
      Equipment         $ 500,000
           Total      $ 2,300,000 amortized over ten
                         years or
         $230,000 per year

      Fixed operating expenses per year = $370,000
      Therefore Fixed Cost = $230,000 + $370,000 or
           $600,000 per year
Solving the Case

 TR = 1800 x N
 FC = 600,000
 VC = 1570 x N
 TC = FC + VC = 600,000 + (1570 x N)
 Break-Even will occur at:
      TR = TC
      1800N = 600,000 + (1570 x N)
      N = 600,000 / (1800 – 1570)
      N = 600,000 / 230
      N = 2609 enrollees per year required to break-even
      General Model N = FC / (REV-Cost)
Solution to Case

 For 1500 enrollees promised by ARGO the loss would be:
       TR = 1800 x 1570           = 2,700,000
       TC = 600,000 + (1570 x 1500) = 2,955,000
            Loss at 1500 enrollees   = $ 255,000

 To Break-even on the basis of the proposed contract:
       TC = TR
       VC + FC = TR
       (cost x N) + FC = REV x N
       (1570 x 1500) + 600,000 = REV x 1500
       REV = 2,955,000 / 1500
       REV = $1970 per enrollee required to break-even with 1500
        enrollees
Additional observations
 Model variations – figure 2.3 has two break-even points. Why?
 Real world relationships between costs and revenue can be
  “lumpy”
 Analysis and interpretation of results
       $1800 per enrollee will not meet fixed and variable costs
       Need to evaluate the potential of attracting 1109 more enrollees
       Or management could attempt to negotiate a higher capitation
        rate from ARGO of $1970 per enrollee
 Management can conduct market research
       Have further negotiations with ARGO
       Consider an initial operating loss during the first year
       Consider cutting variable expenses
“Imagination is more important than
knowledge" –

                                  Albert Einstein

				
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posted:8/19/2012
language:English
pages:14