Health Care Finance and Reimbursement
Christianeguerra
carlossbyOUCHarrisMemorialHospital-Part1.pptxAnalyzing Financial Position Part 1 Reviewing the 13 Critical Drivers of Performance
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In Developing A Dashboard Reporting System What Needs To Be Done?
In general, four critical questions must be answered:
What is most important to the facility’s success?
What are the critical drivers that influence performance attainment?
What are the most relevant measures that reflect critical driver relationships?
What relevant benchmarking data are available to assess performance?
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Sustainable Growth
In the example on the next slide our healthcare organization needs to increase its investment in assets, or resources, by $100 million (to a total of $200 million) over the next seven years to rebuild its mission.
This level of future investment should be a byproduct of the facility’s strategic plan.
A strategic plan should provide some information about projected service levels, which in turn should drive expected investment.
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| Sustainable Growth | |||||||||
| Present Financial Position | |||||||||
| Assets $100 | Debt $50 | ||||||||
| Equity 50 | |||||||||
| Total $100 | |||||||||
| Future financial position (7 Years Later) | |||||||||
| Debt $100 | |||||||||
| Equity 100 | |||||||||
| Asset s $200 | Total $200 |
Growth Rate
Debt Policy
Profitability Target
Sustainable Growth
The rate of annual asset growth for the example is approximately 10% per year.
This rate equals the average rate of asset growth in many voluntary not-for-profit hospitals during the last five years.
Although this growth rate may seem high, remember that this rate incorporates
replacement of assets at higher prices
new technology
entry into new product lines requiring new equipment and
increases in working capital such as accounts receivable.
The healthcare organization depicted has chosen a financial mix of 50% equity and 50% debt.
This means that seven years later, the target financing mix will be $100 million of debt and $100 million of equity to finance the $200 million investment in assets.
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Growth in Equity
If your healthcare organization anticipates growth rates in equity of only 5% over the next decade, it is almost certain that your asset growth potential will be no greater than 5%.
Although the objective is not to add assets or investments for the sake of growth, healthcare organizations that remain viable must add new investments.
Healthcare organizations with low rates of growth in equity must likely will experience most of their asset growth in working capital areas such as accounts receivable and supplies.
These healthcare organizations will invest very little in innovation and replacement of existing equipment and plant and very little in new capital required for entry into new markets.
If they are surrounded by healthcare organizations that are not experiencing low equity growth rates, their market share will decrease as a relative delivery capability deteriorates.
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If ‘Sustainable Growth’ is the key principle to be a viable organization, then, the healthcare organization must be focused on Equity Growth.
Growth rate in equity can be expressed as follows .
Health Care Organizations: The Problem with Equity
Most voluntary not for profit healthcare organizations do not have a source of equity, other than net income.
This means that no transfers of funds from sources, other than accounts receivables, government or large restricted endowments, exist to increase the healthcare organization’s change in equity from the level of reported net income.
In these situations the term “change in equity/net income” equals (1);
Therefore, growth rate in equity can be defined as net income divided by equity, or Return On Equity (ROE).
ROE is therefore the primary financial criteria that should be used to evaluate and target financial performance for voluntary not for profit healthcare organizations, when transfers of new equity are not likely.
ROE is also the primary financial criterion that should be used to evaluate and target financial performance for taxable for private firms.
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Improving ROE
A healthcare organization can improve its ROE in a variety of ways.
First, it can improve its Operating Margins .
Second, it can increase its Non-Operating Gain Ratio.
Third, it can increase its Total Asset Turnover.
Fourth, it can reduce its Equity Financing Ratio.
Operating Margins: Income derived from patient care operations only.
Non-Operating Gain Ratio: Profit realized from the activities that are not directly related to direct patient care, such as from the sale of an asset, i.e., real estate.
Total Asset Turnover: Asset turnover measures a firm's efficiency at using its assets in generating sales or revenue - the higher the number the better. It also indicates pricing strategy: companies with low profit margins tend to have high asset turnover, while those with high profit margins have low asset
Equity Financing Ratio: Is a debt to equity ratio - basically how much you owe (your liabilities) vs. how much you have (your equity)
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In the Case of our Dashboard Report, We will Identify 13 Critical Performance Driver Categories:
Market Factors
Pricing
Coding
Contract Negotiation
Overall Cost
Labor Costs
Departmental Costs
Supply And Drug Costs
Service Intensity
Non-operating Income
Investment Efficiency
Plant Obsolescence
Capital Position
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Case Example: For the remainder of this lesson we illustrate the use of financial analysis techniques using the Harris Memorial Hospital and Harris Community Foundation (HCF)
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Dashboard: Overall Performance 1. Return On Equity (ROE) 2. Financials Strength Index: (FSI) 3. Total Margin (TM)
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Return on Equity (ROE)
Harris’s value for ROE is 9.0%, which indicates that the firm has a positive bottom line.
A review of the data in the Combined Financial Statements shows that Harris has reported sizable balances of both Operating and Nonoperating Income in 20X7 and 20X6.
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Total Margin
Total Margin measures the return on revenue from both operating and nonoperating sources.
Harris is realizing positive returns on both areas, but nonoperating returns in 20X7 were lower than those in 20X6.
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Financial Strength Index
The final overall measure is a Financial Strength Index.
This index attempts to measure the four areas of financial position that collectively determine a firm's financial strength:
Profits – measured by total margin (non-normalized average target: 4%)
Liquidity – measured by days cash on hand (normalized average target: 120 days)
Debt Expense – measured by debt financing percent (normalized average target: 50%)
Age of Physical Facilities – measured by average age of plant (normalized average target: nine years)
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Financial Strength Index
Simply stated, firms that have high profits, lots of cash, little debt, and new plants have great financial strength.
Firms with losses, little cash, lots of debt, and old physical facilities will not be in business long.
Each of the four measures is normalized around a predefined average for the measure.
This permits us to add the four measures to create a composite indicator of total financial strength.
Harris has a very strong overall financial strength index due primarily to its favorable total margin position and strong cash position.
Harris’s strong cash position is also a factor that impacts total margin.
In 20X7 nearly 50% of Harris's total net income was derived from investment income.
Debt levels at Harris are also below normative values, which further enhances its overall financial strength.
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The Future for Harris
A critical objective for Harris in coming years will be to maintain its current financial position.
We now focus our attention on reviewing the 13 Critical Drivers of Performance listed earlier to identify possible areas of opportunity for Harris.
Market Factors
Pricing
Coding
Contract Negotiation
Overall Cost
Labor Costs
Departmental Costs
Supply and Drug Costs
Service Intensity
Non-operating Income
Investment Efficiency
Plant Obsolescence
Capital Position
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