Applied Managerial Finance_Assessment3

Capella University – Flex Path

Tuesday, May 11, 2021

Executive Summary

Headquartered in Boston, MA, ABC Hospital Corporation takes pride as one of the fastest growing healthcare organizations in the United States due to its modern healthcare services. From a humble beginning in 2000, the organization has more than 2,000 serving at least 500,000 patients in its 50 facilities spread across 40 states in the United States. The corporation also seeks to expand its operations outside the United States, starting with Canada in 2022. Thus, it must have a healthy financial performance to oversee its operations and finance its expansion strategy. An analysis of the company’s financial statement between 2017 and 2019 show that the company should increase its profitability, and improve its liquidity as well as solvency performance. The company’s net margin in 2017, 2018, and 2019 were less than 1 percent. Current ratios in 2017, 2018, and 2019 were 0.93, 0.95, and 0.98, respectively. Debt to equity ratios in 2017, 2018, and 2019 were 1.36, 1.35, and -3.55. In the market, investors are more likely to invest in the company as evidenced by its price/book ratios of 0.37, 0.40, and 0.42 in 2017, 2018, and 2019, respectively.

Company Background

Founded in 2000, the ABC Hospital Corporation is at the forefront of offering quality healthcare services to patients. From a small clinic in Boston, MA, the organization has grown to become one of the United States’ integrated health systems. With at least 2,000 caregivers spread around the country, ABC Hospital has nearly 500,000 patient visits per year, at 50 locations. ABC Hospital is a leading provider of high-quality specialized care, focused on offering clinical experience as well as superior patient outcomes. The organization’s integrated healthcare system comprises of outpatient clinics, wellness centers, inpatient clinics, and hospitals spread across 40 states in the country. In 2022, the company’s newest hospital will open outside the United States in Canada. The organization provides different types of services such as cardiology and heart surgery, urology, gastroenterology and gastrointestinal surgery, nephrology, and rheumatology. Other services include orthopedics, pediatrics, pulmonology, diabetes and endocrinology, neurology and neurosurgery, cancer, and gynecology. It also specializes in ophthalmology, ear, nose and throat, psychiatry, and rehabilitation.

Company’s Overall Financial Analysis

An analysis of income statement shows that ABC Hospital’s revenue increase from $153.143 million in 2017 to $167.939 million and $179.589 million in 2018 and 2019, respectively. Operating expenses for the years ending 2017, 2018, and 2019 were $3.485 million, $3.168 million, and $4.026 million, respectively. Operating income increased from $1.060 million in 2017 to $1.443 million in 2018 before declining to $1.112 million in 2019. Net income for the years ending 2017, 2018, and 2019 were $364,484, $1.658 million, and $855,365 respectively.

An analysis of the company’s balance sheet indicates that current assets for the years 2017, 2018, and 2019 were $25.894 million, $28.132 million, and $33.055 million, respectively. Total assets for the three years were $37.670 million, $39.172 million, and $44.275 million, respectively. Total current liabilities increased from $27.870 million in 2017 to $29.581 million and $33.853 million in 2018 and 2019, respectively. Long term debt in 2017, 2018, and 2019 were $4.159 million, $4.034 million, and $3.618 million, respectively. Total equity in 2017, 2018, and 2019 were $3.050 million, $2.993 million, and -$839,636.

A review of consolidated cash flow statements for 2017, 2018, and 2019 indicate a decrease in net cash provided by operating activities from $1.504 million in 2017 to $1.411 million in 2018. However, net cash flow from operating activities increased to $2.344 million in 2019. Net cash used in investing activities in 2017, 2018, and 2019 were $498,041, $1.111 million, and $375,832, respectively. Net cash used in financing activities in 2017, 2018, and 2019 were $1.313 million, $242,873, and $1.087 million, respectively.

Financial Ratio Analysis

It is possible to assess ABC Hospital’s financial health by determining some of its vital financial ratios. Horngren et al. (2012) indicate that ratio analysis is a diagnostic tool used to determine sources of financial successes or troubles at an organization. Generally, there are five categories of ratios: liquidity ratios, profitability ratios, solvency ratios, asset management ratios, and market value ratios. Liquidity ratios focus on the ability of a company to pay its short term financial obligations by using its current assets (Table 1 shows ratio analysis for ABC Hospital Corporation). Common examples include current ratio, cash ratio, and quick ratio. An analysis of ABC Health’s liquidity performance shows its current ratios for 2019, 2018, and 2017 at 0.98, 0.95, and 0.93, respectively. While the company’s current ratio increased over the three financial years, it is not in a better position to finance its short-term financial obligations by using its current assets. In 2019, for instance, the company had 98 cents in current assets for every $1 in current liabilities.

Profitability ratios assess an organization’s ability to generate profit, thus essential for investors interested in investing in profitable companies. Common examples of profitability ratios are net margin and return on equity. Net margin is a ratio of net income to net revenue while return on equity measures returns to shareholders on their stock investments in an organization (Weil, Schipper & Francis, 2014). ABC Hospital’s net margin increased from 0.24% in 2017 to 0.99% in 2018 before declining to 0.48% in 2019. In essence, ABC Hospital could not manage to keep 1 cent for every $1 of sales revenue. The company’s return on equity in 2017, 2018, and 2019 were 13%, 57%, and 30%, respectively. The increase in return on equity between 2017 and 2018 suggests that the organization managed to increase its profit generation without requiring much capital. The lower net profit margins and declining return on equity between 2018 and 2019 imply that the company is less profitable.

Solvency ratios are important metrics used to assess the ability of an organization to meet its long-term debt obligations. They indicate whether an organization has sufficient cash flow to finance its long-term liabilities. Common examples of solvency ratios are debt ratio, debt to equity ratio, and interest coverage ratio (Weil, Schipper & Francis, 2014). ABC Hospital’s debt to equity ratios in 2017, 2018, and 2019 were 1.36, 1.35, and -3.55, respectively. In essence, the company used $1.36 and $1.35 in debt for every $1 of shareholders’ equity. Hence, the debt level in 2017 and 2018 was 136% and 135% of equity. The company is financially stable because of its lower debt to asset ratio.

From an investor’s perspective, it is important to determine the difference between the market value of an organization’s stock and its book value. In this regard, price to earnings ratio and price to book ratios are vital (Scott, 2015). ABC Hospital price to earnings ratio increased from 9.14 in 2017 to 10.63 in 2018 and 12.10 in 2019. The company’s share price remained static at $83.62 across the three years. However, its earnings per share declined from $9.15 in 2017 to $7.87 and $6.91 in 2018 and 2019, respectively. For an investor, ABC is less profitable because one will have to invest $12.10 in 2019 to receive $1 of the organization’s earnings. The company’s price to book ratio also increased from $0.37 in 2017 to $0.40 and $0.42 in 2018 and 2019, respectively. In essence, investors were willing to pay 42 cents for every dollar of book value equity.

Table 1: Ratio Analysis for ABC Hospital Corporation

Trend Analysis

An analysis of ABC Hospital’s income statement shows that revenue increased by 17.27 percent between 2017 and 2019, and operating expenses increased by 15.52% during the same period. The company’s operating income increased by 4.91 percent between 2017 and 2019. Net income also increased by 134.68 percent during the period. Table 2 shows trend analysis for income statement. Table 3 shows the trend analysis for balance sheet statement items between 2017 and 2019. Current assets and total assets increased by 27.66% and 17.53% between 2017 and 2019, respectively. Current liabilities also increased by 21.47% over the same period. However, long term debt and total equity decreased by 13.01% and 127.53% between 2017 and 2019, respectively. Net cash provided by operating activities increased by 55.85% between 2017 and 2019. There was also an increase of 347.56% in net cash used in financing activities during the same period. However, net used in investing activities decreased by 24.54 percent between 2017 and 2019. Table 4 shows trend analysis for cash flow statements between 2017 and 2019.

Table 2: ABC Hospital’s income statement trend analysis between 2017 and 2019

Table 3: ABC Hospital’s balance sheet statement trend analysis between 2017 and 2019

Table 4: ABC Hospital’s cash flow statement trend analysis between 2017 and 2019

Competitive Comparative Analysis

A ratio analysis of HCA Hospital’s financial statement for the year 2019, ABC Hospital’s major competitor, shows that it had a net margin of 6.83%. In essence, it performed better than ABC Hospital during the year in as far as net margin is concerned. However, its return on equity of -125% is significantly lower than ABC Hospital’s return on equity of 30 percent. Unlike ABC Hospital, HCA Hospital is in a better position to finance its short-term financial obligations as evidenced by its current ratio of 1.44. However, HCA Hospital is more insolvent as evidenced by its high debt to equity ratio of -11.96% compared to ABC Hospital’s debt to equity ratio of -3.55

Table 5: HCA Hospital ratio analysis for 2019

Conclusion

An analysis of ABC Hospital Corporation’s shows that the company is not in a position to meet its short term financial obligations. In addition, it is highly insolvent as evidenced by high debt to equity ratio. The company is less profitable as evidenced by net margins of less than 1 percent in 2017, 2018, and 2019. Nonetheless, the company’s price to book value of less than $1 is good news to prospective investors.

Recommendations

ABC Hospital should:

i. Increase its market share and reduce operating expenses to increase its net income

ii. Pay off current liabilities and have a faster conversion cycle of accounts receivable to improve its current ratio

iii. Increase revenue to increase its debt-to-equity ratio. As it increases it sales revenue it can reinvest some of the money and pay down its debt.

References

Horngren, C., Harrison, W., Oliver, S., Best, P., Fraser, D., & Tan, R. (2012). Financial accounting (7th ed.). Melbourne: Pearson Higher Education AU.

Scott, W. R. (2015). Financial accounting theory (7th ed.). Toronto, ON: Pearson Canada Inc.

Weil, R. L., Schipper, K., & Francis, J. (2014). Financial accounting: An introduction to concepts, methods and uses (14th ed.). Mason, OH: Cengage Learning.