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CHAPTER 12 UHFM 7TH EDITION Michigan Home Health is considering opening an office in a new market. The organization has identified the number of home

CHAPTER 12 UHFM 7TH EDITION

Michigan Home Health is considering opening an office in a new market. The organization has
identified the number of home visits, revenue per home visit, and the level of fixed costs of
the new office as being the major sources of uncertainty in the investment decision. To get a
better understanding of the sensitivity of the new office NPV to these variables, the following
data have been assembled:
ChangeNPV
fromNumberRevenueLevel of
baseof homeper homefixed
casevisitsvisitcosts
-30%-$814-$57$82
-20%-$515-$11$82
-10%-$216$36$82
0%$82$82$82
10%$381$129$82
20%$680$176$82
30%$979$222$82
Construct a graph to show the sensitivity of the new office NPV to each variable.

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image text in transcribed UNDERSTANDING HEALTHCARE FINANCIAL MANAGEMENT Chapter 12 -- Project Risk Analysis PROBLEM 3 Consider the project contained in Problem 7 in Chapter 11 (California Health Center). a. Perform a sensitivity analysis to see how NPV is affected by changes in the number of procedures per day, average collection amount, and salvage value. Remember supplies vary with number of procedures. b. Conduct a scenario analysis. Suppose that the hospital's staff concluded that the three most uncertain variables were number of procedures per day, average collection amount, and the equipment's salvage value. Furthermore, the following data were developed: Equipment Number of Average Salvage Scenario ProbabilityProceduresCollection Value Worst 0.25 10 $60 $100,000 Most likely 0.50 15 $80 $200,000 Best 0.25 20 $100 $300,000 c. Finally, assume that California Health Center's average project has a coefficient of variation of NPV in the range of 1.0 - 2.0. (Hint: Coefficient of variation is defined as the standard deviation of NPV divided by the expected NPV.) The hospital adjusts for risk by adding or subtracting 3 percentage points to its 10 percent corporate cost of capital. After adjusting for differential risk, is the project still profitable? d. What type of risk was measured and accounted for in Parts b. and c.? Should this be of concern to the hospital's managers? ANSWER UNDERSTANDING HEALTHCARE FINANCIAL MANAGEMENT Chapter 12 -- Project Risk Analysis PROBLEM 5 Allied Managed Care Company is evaluating two different computer systems for handling provider claims. There are no incremental revenues attached to the projects, so the decision will be made on the basis of the present value of costs. Allied's corporate cost of capital is 10 percent. Here are the net cash flow estimates in thousands of dollars: Year 0 1 2 3 System X System Y -$500 -$1,000 -$500 -$300 -$500 -$300 -$500 -$300 a. Assume initially that the systems both have average risk. Which one should be chosen? b. Assume that System X is judged to have high risk. Allied accounts for differential risk by adjusting its corporate cost of capital up or down by 2 percentage points. Which system should be chosen? ANSWER UNDERSTANDING HEALTHCARE FINANCIAL MANAGEMENT Chapter 12 -- Project Risk Analysis PROBLEM 10 Michigan Home Health is considering opening an office in a new market. The organization has identified the number of home visits, revenue per home visit, and the level of fixed costs of the new office as being the major sources of uncertainty in the investment decision. To get a better understanding of the sensitivity of the new office NPV to these variables, the following data have been assembled: Change NPV from Number Revenue Level of base of home per home fixed case visits visit costs -30% -$814 -$57 $82 -20% -$515 -$11 $82 -10% -$216 $36 $82 0% $82 $82 $82 10% $381 $129 $82 20% $680 $176 $82 30% $979 $222 $82 Construct a graph to show the sensitivity of the new office NPV to each variable

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