MMHA 6400 Week 4 Hospital Ratio Workup Example

Eight Ratios, Two Years: A Ratio Workup for Alder Bend Community Hospital

Student Name

Walden University

MMHA 6400: Healthcare Finance

Instructor Name

Month Day, Year

Eight Ratios, Two Years: A Ratio Workup for Alder Bend Community Hospital

Purpose and Method

This workup computes eight ratios from Alder Bend Community Hospital's fiscal year statements, which appear in the Week 3 annotated statements, and compares each only with the same ratio for the prior year. No external benchmark is used. Benchmarks depend on hospital size, ownership and region, and choosing one would invite a debate about comparability that distracts from the more useful question: which way is this hospital moving? Ratios are grouped under liquidity, capital structure, asset efficiency and profitability, following the standard classification (Reiter & Song, 2021). Dollar amounts are stated in thousands and, like the hospital, are invented for the exercise.

The Ratios

Table 1 shows each ratio with its formula, the inputs drawn from the statements and the results for both years.

Table 1

Alder Bend Community Hospital Ratio Workup (Dollars in Thousands)

Inputs come from Table 1 (statement of operations) and Table 2 (balance sheet) in the Week 3 statements; the $4,000 of debt falling due within the year is treated as the year's principal payment.

Liquidity

All three liquidity measures weakened. The current ratio fell from 2.05 to 1.88: the hospital still holds nearly two dollars of current assets for each dollar due within a year, but the cushion is thinner. Days cash on hand fell by about 15 days, from 164 to just under 150. That means the hospital could pay its cash operating expenses for about five months with no new revenue, still a reasonable position but a meaningful decline in one year, and just below the 150-day floor Alder Bend's board has set in its investment policy.

The most important movement is in receivables. Days in patient accounts receivable rose from 44.8 to 51.3, an increase of six and a half days. In plain terms, money the hospital has already earned is sitting in the billing office longer before it arrives. At current revenue, each day of receivables represents about $526,000, so the increase ties up roughly $3.4 million that would otherwise be in the bank. That figure explains much of the drop in days cash on hand. It is also the kind of problem administrators can fix, and finding its cause should come before any other liquidity decision (Cleverley & Cleverley, 2018).

Capital Structure

Debt to capitalization improved, from 33.4% to 31.6%, because the hospital repaid principal and its net assets grew with the year's surplus. A lower share of debt in the capital structure gives Alder Bend more capacity to borrow for future projects. Debt service coverage moved the other way, from 3.90 to 3.43, because the cash flow available to pay debt fell with the smaller operating income. Coverage of 3.4 times means the hospital generated more than three dollars of cash flow for each dollar of principal and interest due, comfortably above the levels lenders typically require in bond covenants, but the trend deserves watching if margins continue to slip. The two measures answer different questions. Debt to capitalization asks how much of the hospital's long-term funding is borrowed, a slow-moving balance sheet measure. Coverage asks whether this year's cash flow can comfortably carry this year's payments, which responds quickly to operating results. A board that watched only the first would conclude that borrowing capacity is improving and miss the pressure building in the second.

Asset Efficiency

Total asset turnover rose slightly, from 0.87 to 0.89: the hospital generated a little more revenue for each dollar of assets. Part of that improvement is real growth in volume, and part reflects the fact that net plant value shrinks as assets depreciate. Average age of plant rose from 12.9 to 13.6 years, which confirms that the hospital is replacing its buildings and equipment more slowly than they wear out. Older plant is cheaper to carry in the short run but will require capital spending later, and the board should know that the turnover improvement is partly borrowed from the future.

Profitability

Operating margin fell from 3.8% to 3.0%, a decline of $1.6 million in operating income relative to what last year's margin would have produced on this year's revenue. Research on hospital profitability finds that payer mix, cost control and market factors all influence margins (Bai & Anderson, 2016), and Alder Bend's revenue grew more slowly than its expenses this year. The margin is still positive, and the hospital still produced a $10 million surplus after investment income. But a hospital with a 3% operating margin has little room for a bad year, and the decline in operating income is the main reason debt service coverage fell.

What the Ratios Say Together

Taken as a set, the eight results show a hospital that is sound but losing ground on cash. Its capital structure is improving, its margin is thin but positive, and its plant is aging. The clearest and most fixable problem is the rise in receivable days, which ties up about $3.4 million and accounts for much of the drop in days cash on hand. Before Alder Bend commits to new capital spending, its leaders should find out why receivables are aging, whether from coding backlogs, payer denials or slower patient collections, and set a target for bringing them back toward last year's level.

References

Bai, G., & Anderson, G. F. (2016). A more detailed understanding of factors associated with hospital profitability. Health Affairs, 35(5), 889-897. https://doi.org/10.1377/hlthaff.2015.1193

Cleverley, W. O., & Cleverley, J. O. (2018). Essentials of health care finance (8th ed.). Jones & Bartlett Learning.

Reiter, K. L., & Song, P. H. (2021). Gapenski's healthcare finance: An introduction to accounting and financial management (7th ed.). Health Administration Press.