Question

Your insurance firm processes claims through its newer, larger, high-tech facility and its older, smaller, low-tech facility. Each month, the high-tech facility handles 10,000 claims, and incurs $100,000 in fixed costs and $100,000 in variable costs. Each month, the low-tech facility handles 2,000 claims, and incurs $16,000 in fixed costs and $24,000 in variable costs. If you anticipate a decrease in the number of claims, where will you lay off workers?

Answer 1

Answer :-

Given :-

Each month :-

the high-tech facility - handles 10,000 claims,

incurs $100,000 in fixed costs and

$100,000 in variable costs.

Each month :-

low-tech facility - handles 2,000 claims, and

incurs $16,000 in fixed costs and

$24,000 in variable costs.

	High tech	low tech
Variable cost	100,000	24,000
No. Of claims	10,000	2,000
Variable cost per claim	10	12

High tech facility :-

100,000 variable costs/ 10,000 claims = $10.

$10 in variable cost per claim

Total cost per claim = $20

Low tech facility :-

24,000 variable costs/ 2,000 claims = $12.

$12 in fixed cost per claim

Total cost per claim = $18

Now, If you anticipate a decrease in the number of claims, then the firm should utilize the high tech facility and lay off workers at the low tech facility. This is because the fixed cost is not dependent on production, so fixed cost will not change with lower claim levels. Since the variable cost is lower at the high tech facility, you would save more by utilizing the high tech facility.