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Weekly Overview

Week Five

Overview

Issuing stocks and selling bonds are the most effective and quickest ways for a company to raise capital to fund a business. Because bonds are a form of debt, health care organizations must balance the amount of total debt in the business against the total equity and stock investments. Firms that carry higher percentages of debt are deemed riskier than others in the marketplace. This creates a higher cost to raise capital in the future. Thus, evaluating the debt-to-equity trade-off has a critical impact on the overall cost of operating the business.

Health care facilities rely on various budgets and financial planning techniques to manage short-term and long-term objectives. Some of these budgets track the organization in total and others will filter down to various departments or divisions of the health care facility. Key executives are the employees that are interested in the organization-wide results while supervisors and managers of departments are concerned with the specific areas of the business they are responsible for. In addition, the department budgets put direct accounting on managers to drive results, whether it is to generate revenue, manage expenses effectively, or both. In addition, managers are tasked with achieving financial objectives, but in a manner that still delivers quality services to patients. Managing the bottom line without regard to quality care will, in most cases, lead only to short-term success.

That said, managing costs without compromising the delivery of care has become more critical than ever because of pressures to compete in the health care space. Thus, many companies devote a lot of effort to cost analysis, including the management of fixed versus variable costs, and direct versus indirect costs. In addition, cost-benefit analysis is often performed to determine if a particular product or service is worthy of moving forward with.

What you will cover

1. Health Care Financial Environment

a. Explain why corporations invest in stocks and debt securities.

1) Stocks and bonds are the most effective ways for corporations to raise money or capital for future growth. Companies have to weigh the cost of borrowing by issuing debt instruments such as bonds vs. selling shares of stock ownership. Existing debt levels and bond ratings, which affect the rates set on bonds, are both factors in this decision.

b. Explain how debt and stock investments are reported in financial statements.

1) Stock investments: Typically, a company's stock may be sold at a price above its par value. In this case, the amounts in the journal entries, as well as the entries opposite the preferred stock and common stock headings in the stockholders' equity section of the balance sheet, are calculated by multiplying the number of issued shares by the par value per share of the stock. The amount by which the price of the stock exceeds the par value is recorded as paid-in capital in excess of par or additional paid-in capital.

a) Example 1: A company issues one million shares of $1 per-share par value common stock at a price of $10 per share.

Journal Entry:

Cash $10,000,000

Common stock $1,000,000

Paid-in capital in excess of par $9,000,000

Balance Sheet Presentation:

Stockholders' Equity

Paid-in capital:

Common stock, 1,000,000 shares, $1 par per share $1,000,000

Paid-in capital in excess of par $9,000,000

Total paid-in capital $10,000,000

Note: The amount of paid-in capital in excess of par is calculated as follows:

(issued price per share - par value per share) x number of shares issued.

If the stock issued is a no-par value stock, the entries are as follows:

Journal Entry:

Cash $10,000,000

Common stock $10,000,000

Balance Sheet Presentation:

Capital stock will be reported as: 1,000,000 common shares $10,000,000

b) Example 2: The same company buys back 10,000 shares at a price of $13 per share. (Stock that is repurchased by a company is called Treasury Stock.)

Journal Entry:

Treasury Stock $130,000

Cash $130,000

Balance Sheet Presentation:

Stockholders' Equity

Paid-in capital:

Common stock, 1,000,000 shares, $1 par per share $1,000,000

Paid-in capital in excess of par $9,000,000

Total paid-in capital $10,000,000

Less: Treasury stock, at cost $130,000

2) Bond investments:

a) Example: A company issues 100 bonds at $1,000 face value. The journal entry to record the sale is:

Cash $100,000

Bonds Payable $100,000

c. Analyze consolidated financial statements to make business decisions in health care.

1) Health care staffing:

a) A Full-Time Equivalent (FTE) is the basic staffing concept in health care

1) An FTE is a block of 40 hours per week

2) FTEs may include productive time or nonproductive time. Productive time is a worker’s time spent attending to work. Because people need time off and the organization continues 24 hours a day, 7 days a week, a distinction is made between paid FTEs, which includes productive and nonproductive time, and worked FTEs, which is productive time.

b) Employee positions that require 24 hours a day, 7 days a week coverage are computed as follows:

1) 24 hours x 7 days = 168 hours per week divided by 40 = 4.2 FTEs; it takes just over four people to cover one position a week.

2) Three shifts of 8 hours a day = 24 hours; five shifts of 8 hours for each employee is 40 hours a week; three shifts x 40 = 120 hours in 5 days.

3) On weekends, three shifts x 2 = six shifts x 8 hours = 48 hours.

4) 120 hours during weekdays, 48 hours during weekends, equaling 168; dividing 168 by 40 equals 4.2 FTEs.

c) The Fair Labor Standards Act (FLSA) has set the work week of hourly or wage workers at 40. Anything over 40 hours must be paid at an overtime rate.

d) Not all positions in a hospital require 24-hour coverage, and departments such as housekeeping, maintenance, dietary, admissions desk, medical records, and therapy functions have little staff on duty during the nights while patients sleep. Salaried workers who are not covered by the FLSA are counted as one FTE, no matter how many hours are worked.

e) Labor is the most expensive part of any health care organization’s budget, and labor costs or FTEs are measured on each shift, so overtime is avoided.

f) Some positions, especially nursing, may work a 10- or 12-hour shift, but time is still measured, budgeted, or controlled using the FTE calculation.

2) Trend analysis

a) Numbers, especially financial and statistical performance, are not as useful as when they are compared to similar numbers from other time periods, organizations, and so forth. If an organization has a cost per patient day, and it keeps going up each year, is that effective or controllable? Is it more or less than the cost per patient day of a similar organization?

b) Trend analysis sets key indicators side-by-side, comparing month-to-month, actual-to-budget, or organization-to-national trends. The intent is to inform management of whether the organization is performing better or worse than the other number and taking action for improvement: Trends are only useful if the numbers are comparable, which is a problem. There are few national standards that require data to be defined and gathered in the same way, so cost per respiratory care treatment may vary widely across the industry due to different ways of measuring that cost.

3) Summarize the utilization of forecasting and comparative data

a) Like trend analysis, forecasting is a tool managers use to plan for the future. A forecast of statistics and cost, a forecast of operating revenues and expenses, and a forecast of an organization’s needs in 1, 3, and 5 years enable an organization’s leaders to create a vision, develop a plan, and lead from an informed vantage point. This is the leaders’ unique role in an organization: No one can see the future, but it is incumbent to gather and use knowledge to create a best available forecast. The knowledge of local demographic trends and competitors’ efforts, of national and world news, and managers’ intentions must come together prior to budgeting or any significant decision.

1) Comparative data suffer from no standard definition and must be used with caution. Competitors avoid direct conversations about their operations, lest they be open to charges of collusion, and comparative data are most often available through trade organizations, such as the American Hospital Association, the Healthcare Financial Management Association, and government organizations such as the Centers for Medicare Services.

2) With their limitations, comparative data are vital. Only by comparison does anyone know if key financial indicators, such as cost per patient day, days in accounts receivable, FTEs per discharge, etc. are good or bad. Trend analysis and forecasting suffer from the possibility of poor data, but an analysis and decisions must be made, actions taken, and results compared. This is what leadership and management does.

b) Important sources of information for the future are physicians and staff who work at other local facilities and talk with the staff and physicians there. Because all health care begins with a doctor’s order, doctors are effective sources of information.

4) There are several cost analysis techniques to make decisions on the delivery of health care products and services. These include:

a) Direct costs

1) Expense directly connected to patient care

2) Salaries of caregivers who provide service to patients and the price of bedside medication and food

b) Indirect costs

1) Expenses of the environment that supports patient care

2) Salaries of maintenance and security workers, the facility utility bill, monthly lease payments on the building, malpractice insurance premiums, the overhead salaries of dietary, admissions, and administrative personnel

c) Marginal costs

1) The cost of one additional patient day, one more X-ray, etc.

2) Useful for estimating the range of volume that current space, equipment, and personnel may service without significant additional investment; often linked to marginal revenue to determine if the monetary benefit is worth the price.

d) Fixed costs

1) Money already spent for buildings, not directly dependent on present patient volume

2) For an imaging department, existing equipment and building space are fixed, whether patient utilization increases or decreases.

e) Semi-fixed costs

1) Costs that change when workload volume changes significantly

2) If necessary, to add a second imaging suite and a second shift to the department that jump in cost is semi-fixed; however, all costs are variable

f) Cost-benefit analysis

1) Comparing the price of a decision with its value

2) Key to this decision: all costs and benefits must be considered

g) Financing costs: interest expense, closing costs, and the tax effect of the method used to acquire and maintain an asset

1) This cost may or may not be considered independent of the cost-benefit analysis.

2) For a building, depending on the interest rate and other costs, it may be beneficial to issue a tax-exempt bond, despite the high price of mortgage insurance premiums and annual compliance tasks, rather than accept an operating lease via a real estate holding company.

Discussion starters

1. WHY DO COMPANIES INVEST IN SECURITIES? WHAT IS THE COST OF AN INVESTMENT IN A STOCK? WHAT IS THE COST OF AN INVESTMENT IN A BOND? HOW DO THE INTERNATIONAL FINANCIAL REPORTING STANDARDS AFFECT THE REPORTING OF SECURITIES IN THE UNITED STATES

2. What is meant by consolidated financial statements? When and why are consolidated financial statements necessary?

3. What must financial managers consider when operating in the global environment? What types of regulatory compliance might they face? What might they do to mitigate financial risk? Should there be global accounting standards? Why or why not?

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