Breakeven is the point at which the company is not generating either profits or losses.This is the point at which the company is generating just the level of revenue which compensates for both the variable costs and the fixed costs.Variable costs fluctuate with the level of patients arriving for the scans.
The greater the number of incoming patients for MRI scans, the greater the variable costs. However the fixed costs, which involve the lease payments, which are periodic, will not vary regardless of the number of patients coming in for the scan.
Therefore, while greater number of patients means greater variable costs, it also means that there will be greater scope for the company to cover the fixed costs. That is of course given the fact that the price is higher than per unit variable cost. That is the case under the present scenario. The price that each customer pays for an MRI scan is $2100 while the cost that the company has to incur for each scan is $1200. The difference between the price and the variable cost goes towards covering the fixed costs. That is why the breakeven equation stands as it does.
As mentioned before, breakeven is the point at which there are neither profits nor loses for the company. As a result profit at this point can be considered as zero. The level of sales at which profit is zero means that under the present circumstances, the number of MRI scans that the hospital has performed cover for not only the variable costs but fixed costs as well. In the present scenario the payment that the hospital receives in return for performing the MRI scan is $2100 which is much higher than the cost of performing that scan which is $1200. Therefore, the company will have no problem in covering for the variable costs.
What the hospital has to worry about is covering the fixed cost. Therefore the objective here is to determine the number of patients at which the difference between total revenue and total variable costs equals the fixed costs. The equation generates the 100 patients that R Squared must scan each month to cover not only the variable costs of performing each scan but also the fixed costs of operating the MRI scan equipment. 100 patients indicate the minimum number of patients that R Squared must scan each month in order to be able to stay in business, i.
e. get back both the variable cost and the fixed costs. However General Hospital is ensuring 125 patients each month. This is very good for R Squared because at that number of patients, the hospital will be generating a level of profit that is higher than the $10000 calculated in question 2. Therefore R Squared will accept this contract. Question 4 If R Squared does not accept this contract it could reach an agreement with General Hospital whereby part of the costs for operating the equipment could be borne by General Hospital.
This will reduce both the variables costs and the fixed costs for R Squared. In that scenario the management of the company could afford to accommodate a lower number of patients as it has to cover for a lower level of costs. Of course since 125 patients on a monthly basis means nearly $22500 of profits, there is no reason for the management not to accept this contract. However the management could be targeting a higher level of profits from its MRI division. In that case, a strategic alliance in the form of cost sharing as mentioned before could help both parties reach an agreement.