Cornerstones of Cost Management 2nd Edition by Don Hansen ,Maryanne Mowen

Exercise 36

Objectives of Cost Allocation
Dr. Fred Poston, "Dermatologist to the Stars," has a practice in southern California. The practice includes three dermatologists, three medical assistants, an office manager, and a receptionist. The office space, which is rented for $5,000 per month, is large enough to accommodate four dermatologists, but Dr. Poston has not yet found the right physician to fill the fourth spot. Dr. Poston developed a skin cleanser for his patients that is nongreasy and does not irritate skin that is still recovering from the effects of chemical peels and dermabrasion. The cleanser requires $0.50 worth of ingredients per eight-ounce bottle. A medical assistant mixes up several bottles at a time during lulls in her schedule. She waits until she has about 15 minutes free and then mixes 10 bottles of cleanser. She is paid $2,250 per month. Dr. Poston charges $5.00 per bottle and sells approximately 5,000 bottles annually. His accountant is considering various ways of costing the skin cleanser.
Required:
1. Give two reasons for allocating overhead cost to the cleanser. How should the cost of the office space and the medical assistant's salary be allocated to the cleanser? Explain.
2. Suppose that Healthy You magazine runs an article on Dr. Poston and his skin cleanser, which causes demand to skyrocket. Consumers across the country buy the cleanser via phone or internet order. Now, Dr. Poston believes that he can sell about 40,000 bottles annually. He can hire someone part time, for $1,000 per month, to mix and bottle the cleanser and to handle the financial business of the cleanser. An unused office and examining room can be dedicated to the production of the cleanser. Would your allocation choice for Requirement 1 change in this case? Explain.