Finance in healthcare

Finance in healthcare

Healthcare finance: 14.3 Capitol Healthplans, Inc. is testing two different approaches to providing home health care to its members. Both methods involve contracting out services, and the method chosen has no effect on health outcomes or revenue. As a result, the decision’s incremental cash flows are all outflows. The projected flows are as follows:

Method A ($300,000) Method B0 ($120,000)

1 (66,000) (96,000)

2 (66,000) (96,000)

3 (66,000) (96,000)

4 (66,000) (96,000)

5 (66,000) (96,000)

a. What is the IRR of each alternative?

b. Which method should be used if the cost of capital for both methods is 9%? Why?

14.4 The Great Lakes Clinic has been asked to provide exclusive healthcare services for the World Exposition next year. The clinic’s managers, while flattered by the request, want to conduct a financial analysis of the project. The clinic will require an initial investment of $160,000 to get up and running. The Exposition is expected to generate a net cash inflow of $1 million in each of the next two years. However, the clinic must pay the exposition organizers a fee for the marketing value of the opportunity. This fee is $2 million and must be paid at the end of the second year. a. What are the expected cash flows from the project? b. What is the IRR of the project? c. Assuming a 10% project cost of capital, what is the project’s net present value (NPV)?

14.5

Assume you are Porter Memorial Hospital’s chief financial officer. The CEO has requested that you conduct an analysis of two proposed capital investments, Project X and Project Y. Each project necessitates a net investment outlay of $10,000, with a cost of capital of 12%. The following are the expected net cash flows for the project: Project Year X Project Y0 ($10,000) ($10,000) 1 6,500 3,0002 3,000 3,0003 3,000 3,0004 1,000 3,000

a. Determine the payback period, net present value (NPV), and internal rate of return for each project (IRR).

b. What project (or projects) are financially feasible? Explain your response.

14.6

Big Sky Health Systems, Inc.’s director of capital budgeting has estimated the following cash flows in thousands of dollars for a proposed new service:

Yearly Net Cash Flow Expected0 ($100)1 702 503 20

The capital cost of the project is 10%.

a. What is the payback period for the project?

b. What is the net present value of the project?

c. What is the IRR of the project?

15.1 Merton Medical Clinic’s administrators are reviewing a proposed project. The project’s most likely NPV is $120,000, but as evidenced by the NPV distribution below, there is significant risk involved:

NPV0.05 probability ($700,000)

0.20 (250,000)

0.50 120,0000.20 200,0000.05 300,000

a. What is the expected NPV and standard deviation of NPV for the project?

b. Should the most likely NPV or the expected NPV be used in the base case analysis? Explain your response.

15.2 Heywood Diagnostic Enterprises is weighing the following net cash flows and probabilities for a project:

Year Probability = 0.2 Probability = 0.6 Probability = 0.20 ($100,000) ($100,000 ($100,000) 1 20,000 30,000 40,0002 20,000 30,000 40,0003 20,000 30,000 40,0004 20,000 30,000 40,0005 30,000 40,000 50,000

Salvage value is included in the Year 5 values. Heywood has a corporate cost of capital of 10%. a. What is the expected (i.e., base case) NPV of the project assuming average risk? (Hint: The base case net cash flows are the cash flows expected in each year.) b. What are the most likely, worst-case, and best-case NPVs for the project? c. What is the expected NPV of the project based on the scenario analysis? d. What is the project’s NPV standard deviation? e. Assume Heywood’s managers believe the project is less risky than average. Furthermore, to account for differential risk, the company’s policy is to adjust the corporate cost of capital by 3 percentage points up or down. Is the project financially viable?

15.3 Consider the project in Chapter 14 Problem 14.7.

a. Conduct a sensitivity analysis to determine how changes in the number of procedures per day, average collection amount, and salvage value affect the NPV.

b. Perform a scenario analysis. Assume the hospital’s staff determined that the three most uncertain variables were the number of procedures performed per day, the average collection amount, and the salvage value of the equipment. In addition, the following data were created: Average Equipment Scenario Count Procedures for calculating probabilities Collection Value of Salvage Worst 0.25 10 $ 60 $100,000 Almost certainly 0.50 15 80 200,000 Best 0.25 20 100 300,000

c. Finally, assume that the average project at California Health Center has an NPV coefficient of variation in the range of 1.0-2.0. (Hint: The coefficient of variation is defined as the standard deviation of the net present value divided by the expected net present value.) The hospital adjusts for risk by adding or subtracting three percentage points from its corporate cost of capital of ten percent. Is the project still profitable after adjusting for differential risk? d. In Parts b and c, what type of risk was measured and accounted for? Should the hospital’s administrators be concerned about this?

15.4

United Medtronics’ executives are weighing the following four projects for the upcoming fiscal year. The corporate cost of capital for the company is 14%. IRRA $15,000 17 percent project cost B 15,000 16C 12,000 15D 20,000 13

a. What is the optimal capital budget for the company?

b. Assume Medtronics executives want to factor in differential risk in the capital budgeting process. Project A is at average risk, Project B is at below-average risk, Project C is at above-average risk, and Project D is at average risk. What is the optimal capital budget for the firm when differential risk is taken into account? (Hint: The firm’s executives reduce the IRR of high-risk projects by three percentage points while increasing the IRR of low-risk projects by the same amount.)

16.1

Park Place Clinic writes $1,000 checks on a daily basis. Those checks typically take four days to clear. The clinic typically receives $1,000 in checks that take three days to clear each day. What is the average net float at the clinic?

16.2 On the WestCoast, Drugs R Us operates a mail-order pharmaceutical business. Every day, the firm receives an average of $325,000 in payments. From the time customers mail their checks to the time the firm receives and processes them, it takes the firm four days on average to receive payment. In San Francisco, a lockbox system comprised of ten local depository banks and a concentration bank would cost $6,500 per month. Customers’ checks would be received at the lockbox locations one day after they were mailed, and the daily total would be wired to the concentration bank for $9.75 per check. Assume that the firm can earn 10% on marketable securities and that there are 260 working days per year, resulting in 260 transfers from each lockbox location. a. What is the annual total cost of running the lockbox system? b. What is the monetary value of the system to Drugs R Us? c. Should the company start the lockbox system?

16.4 Langley Clinics, Inc. spends $400,000 per year (at gross prices) on medical supplies from its main supplier, Consolidated Services, which offers Langley terms of 2.5/10, net 45. Langley is currently paying the supplier the full amount due on Day 45, but it is considering taking the discount, paying on Day 10, and replacing the trade credit with a bank loan with a 10% annual interest rate. a. How much free trade credit does Langley receive from Consolidated Services? (Throughout this problem, assume 360 days per year.) b. How much expensive trade credit do you have? c. What is the annual cost of the expensive trade credit? d. Should Langley use the bank loan to replace its trade credit? Explain your response. e. How much of the trade credit should be replaced if the bank loan is used?

Milwaukee Surgical Supplies, Inc. sells on 3/10, net 30 terms.

The year’s gross sales are $1,200,000, and the collections department estimates that 30% of customers pay on the tenth day and receive discounts, 40% pay on the thirtyth day, and the remaining 30% pay 40 days after the purchase. (Assume a year of 360 days.) a. What is the average collection period for your company? b. What is the current receivables balance of the company? c. What would be the firm’s new receivables balance if Milwaukee Surgical tightened its collection policy, resulting in all non-discount customers paying on the 30th day? d. Assume the firm’s annual cost of carrying receivables is 8%. How much would the firm save in annual receivables carrying expense if the credit policy was tightened? (Assume that the entire receivables amount had to be financed.)

The current ratio of 17.1 a. Modern Medical Devices is 0.5. Which of the following actions would increase (improve) this ratio? Pay off current liabilities with cash. Collect some of the current receivables. Pay off some long-term debt with cash. Purchase more inventory on credit (i.e., accounts payable). Sell some of the current inventory at a loss. b. Assume the firm has a current ratio of 1.2. Which of the following actions would improve this ratio?

17.4

Take a look at the financial statements for BestCare HMO, a non-profit managed care plan: BestCare HMOStatement of Operations and Net Asset Change The fiscal year ended on June 30, 2004. (in thousands) Revenue: Premiums generated $26,682 in revenue. Co-insurance is 1,689, and interest and other income is 242. $28,613 in total revenue Salary and benefit expenses $15,154 Medical supplies and medications 7,507 3,963 in insurance Bad debt provision 19Depreciation 367Interest 385 $27,395 in total expenses $1,218 in profit

Net assets at the start of the year: $ 900

End-of-year net assets: $2,118

Balance Sheet for BestCare HMOBalance

June 30, 2004 (in thousands)

$ 2,737 in cash and cash equivalents

Net premiums owed 821Supplies 387

$ 3,945 in current assets

$ 5,924 in net property and equipment

$9,869 in total assets

Net Assets and Liabilities

Medical services accounts payable $ 2,145 Expenses incurred 929 payable notes 141 241 Current portion of long-term debt $3,456 in total current liabilities $ 4,295 in long-term debt $7,751 in total liabilities $ 2,118 in net assets (equity)

$ 9,869 in total liabilities and net assets

Conduct a Du Pont analysis on BestCare. Assume the following industry average ratios: Total profit margin 3.8 percentage points Turnover of total assets 2.1Multiplier of equity 25.5 percent return on equity (ROE) b. Calculate and interpret the following BestCare ratios: Average for the Industry 8.0 percent return on assets The current ratio 41 days 1.3 days cash on hand 7-day average collection period 69 percent debt ratio Debt-to-equity proportion TIE (times interest earned) ratio Fixed asset turnover ratio 2.8 5.2

17.5 Take a look at the financial statements for Green Valley Nursing Home, Inc., a for-profit long-term care facility:

Green Valley Nursing Home, Inc. Income Statement and Retained Earnings

The fiscal year ended December 31, 2004.

Revenue: $3,163,258 in net patient service revenue

106,146 in other revenue

$3,269,404 in total revenue

Salary and benefit expenses $ 1,515,438 Medical supplies and medications 966,781 296,357 for insurance and other expenses 110,000 provision for bad debts 85,000 depreciation 206,780 in interest $ 3,180,356 in total expenses $89,048 in operating income Income tax provision 31.167

$57,881 in profit

$ 199,961 in retained earnings at the start of the year

End-of-year retained earnings of $257,842

Balance Sheet for Green Valley Nursing Home, Inc. December 31, 2004

Current Assets: $ 105,737 in cash

200,000 in marketable securities

215,600 in net patient accounts receivable

87,655 supplies

$ 608,992 in current assets

$2,250,000 in property and equipment

356,000 less accumulated depreciation

$ 1,894,000 in net property and equipment

$ 2,502,992 in total assets

Shareholders’ Equity and Liabilities

Current Liabilities: $ 72,250 Accounts payable

192,900 in expenses incurred

100,000 in notes payable

80,000 is the current portion of long-term debt.

$445,150 in total current liabilities

$1.7 million in long-term debt

Shareholders’ Equity: $10 par value common stock $ 100,000 257,842 in retained earnings $357,842 in total shareholder equity

$ 2,502,992 in total liabilities and shareholder equity

Green Valley should be subjected to a Du Pont analysis. Assume the following industry average ratios: Total profit margin 3.5 percentage points 1.5Equity multiplier total asset turnover 13.1 percent return on equity (ROE)

b. Determine and explain the following ratios:

5.2 percent is the industry average return on assets (ROA). The current ratio Cash on hand: 2.0 days 22 days The average collection time is 19 days. 71 percent debt ratio Debt-to-equity ratio 2.5 TIE ratio 2.6 1.4 Fixed asset turnover ratio

c. Assume that Green Valley has 10,000 shares of stock outstanding and that some of them recently sold for $45 per share.

What is the price-to-earnings ratio?

What is the market-to-book ratio?

18.1 Suncoast Healthcare intends to purchase a new x-ray machine for $200,000. The company can either lease the machine through an operating lease or purchase it through a loan from a local bank. Prior to acquiring the machine, Suncoast’s balance sheet looked like this: $100,000 in current assets Debt $ 400,000 900,000 in net fixed assets Equity 600,000 $1,000,000 in total assets $1,000,000 in total claims a. What is the current debt ratio of Suncoast? b. How would the debt ratio change if the machine was leased? If it is bought? c. Does the financial risk of the business differ between the two acquisition options?

Important information for writing discussion questions and participation

Welcome to class

Hello class and welcome to the class and I will be your instructor for this course. This is a -week course and requires a lot of time commitment, organization, and a high level of dedication. Please use the class syllabus to guide you through all the assignments required for the course. I have also attached the classroom policies to this announcement to know your expectations for this course. Please review this document carefully and ask me any questions if you do. You could email me at any time or send me a message via the “message” icon in halo if you need to contact me. I check my email regularly, so you should get a response within 24 hours. If you have not heard from me within 24 hours and need to contact me urgently, please send a follow up text to

I strongly encourage that you do not wait until the very last minute to complete your assignments. Your assignments in weeks 4 and 5 require early planning as you would need to present a teaching plan and interview a community health provider. I advise you look at the requirements for these assignments at the beginning of the course and plan accordingly. I have posted the YouTube link that explains all the class assignments in detail. It is required that you watch this 32-minute video as the assignments from week 3 through 5 require that you follow the instructions to the letter to succeed. Failure to complete these assignments according to instructions might lead to a zero. After watching the video, please schedule a one-on-one with me to discuss your topic for your project by the second week of class. Use this link to schedule a 15-minute session. Please, call me at the time of your appointment on my number. Please note that I will NOT call you.

Please, be advised I do NOT accept any assignments by email. If you are having technical issues with uploading an assignment, contact the technical department and inform me of the issue. If you have any issues that would prevent you from getting your assignments to me by the deadline, please inform me to request a possible extension. Note that working fulltime or overtime is no excuse for late assignments. There is a 5%-point deduction for every day your assignment is late. This only applies to approved extensions. Late assignments will not be accepted.

If you think you would be needing accommodations due to any reasons, please contact the appropriate department to request accommodations.

Plagiarism is highly prohibited. Please ensure you are citing your sources correctly using APA 7th edition. All assignments including discussion posts should be formatted in APA with the appropriate spacing, font, margin, and indents. Any papers not well formatted would be returned back to you, hence, I advise you review APA formatting style. I have attached a sample paper in APA format and will also post sample discussion responses in subsequent announcements.

Your initial discussion post should be a minimum of 200 words and response posts should be a minimum of 150 words. Be advised that I grade based on quality and not necessarily the number of words you post. A minimum of TWO references should be used for your initial post. For your response post, you do not need references as personal experiences would count as response posts. If you however cite anything from the literature for your response post, it is required that you cite your reference. You should include a minimum of THREE references for papers in this course. Please note that references should be no more than 5 years old except recommended as a resource for the class. Furthermore, for each discussion board question, you need ONE initial substantive response and TWO substantive responses to either your classmates or your instructor for a total of THREE responses. There are TWO discussion questions each week, hence, you need a total minimum of SIX discussion posts for each week. I usually post a discussion question each week. You could also respond to these as it would count towards your required SIX discussion posts for the week.

I understand this is a lot of information to cover in 5 weeks, however, the Bible says in Philippians 4:13 that we can do all things through Christ that strengthens us. Even in times like this, we are encouraged by God’s word that we have that ability in us to succeed with His strength. I pray that each and every one of you receives strength for this course and life generally as we navigate through this pandemic that is shaking our world today. Relax and enjoy the course!

Hi Class,

Please read through the following information on writing a Discussion question response and participation posts.

Contact me if you have any questions.

Important information on Writing a Discussion Question

• Your response needs to be a minimum of 150 words (not including your list of references)
• There needs to be at least TWO references with ONE being a peer reviewed professional journal article.
• Include in-text citations in your response
• Do not include quotes—instead summarize and paraphrase the information
• Follow APA-7th edition
• Points will be deducted if the above is not followed

Participation –replies to your classmates or instructor

• A minimum of 6 responses per week, on at least 3 days of the week.
• Each response needs at least ONE reference with citations—best if it is a peer reviewed journal article
• Each response needs to be at least 75 words in length (does not include your list of references)
• Responses need to be substantive by bringing information to the discussion or further enhance the discussion. Responses of “I agree” or “great post” does not count for the word count.
• Follow APA 7th edition
• Points will be deducted if the above is not followed

• Remember to use and follow APA-7th edition for all weekly assignments, discussion questions, and participation points.
• Here are some helpful links
• The is a great resource

 

 

18.2

Big Sky Hospital intends to purchase a new $1.5 million MRI with a four-year useful life. It can either obtain a bank loan for the entire amount and purchase the MRI or lease the equipment. Assume that the decision is based on the following facts: By Because the MRI is classified as a three-year asset for tax purposes, the MACRS allowances are 0.33, 0.45, 0.15, and 0.07 in Years 1 through 4, respectively. Maintenance costs are estimated to be $75,000 per year, payable at the start of each year regardless of whether the MRI is leased or purchased. The marginal tax rate in Big Sky is 40%. The bank loan would have a 15% interest rate. If leased, the lease (rent) payments would be $400,000 per year for the next four years. The residual (and salvage) value is estimated to be $250,000. a. What are the lease’s NAL and IRR? Each value should be interpreted. b. Assume the salvage value is $300,000, but all other facts remain unchanged. What exactly is the new NAL? Is this the new IRR?

18.3 HealthPlan Northwest must invest $1 million in a new computer to track patient records across its three service areas. It intends to use the computer for only three years before purchasing a brand new system that will handle both billing and patient records. The company can either purchase the computer with a 10% bank loan or lease it for three years. Assume that the decision is based on the following facts: Because the computer is tax depreciable over three years, the MACRS allowances are 0.33, 0.45, 0.15, and 0.07 in Years 1 through 4, respectively. The marginal tax rate for the company is 34%. Tentative lease terms call for $320,000 in payments at the end of each year. The computer is worth $200,000 after three years of wear and tear, according to the best estimate. a. What are the lease’s NAL and IRR? Each value should be interpreted. b. Assume the bank loan will cost 15%, but all other facts remain the same. What exactly is the new NAL? Is this the new IRR?

18.4

Assume you’ve been asked to assign a monetary value to Briarwood Hospital’s ownership position. The following are its projected profit and loss statements and equity reinvestment (asset) requirements (in millions of dollars):

2005 2006 2007 2008 2009

Revenues net $225.0 $240.0 $250.0 $260.0 $275.0 Expenses in cash 200.0 205.0 210.0 215.0 225.0 Depreciation 11.0 12.0 13.0 14.0 15.0 Earnings before taxes and interest (EBIT) $ 14.0 $ 23.0 $ 27.0 $ 31.0 $ 35.0 8.0 9.0 9.0 10.0 10.0 Interest $ 6.0 $ 14.0 $ 18.0 $ 21.0 $ 25.0 Earnings before taxes (EBT) Taxes (40 percent) 2.4 5.6 7.2 8.4 10.0

Profit after taxes $ 3.6 $ 8.4 $ 10.8 $ 12.6 $ 15.0

Asset specifications $ 6.0 $ 6.0 $ 6.0 $ 6.0 $ 6.0

Briarwood’s equity cost is 16 percent. Briarwood’s long-term growth rate is estimated to be 4%. a. What is the hospital’s equity value? b. Assume that the expected long-term growth rate is 6%. What effect would this change have on the company’s equity value? What if the growth rate was only 2%?