Recently, the local news station covered a story about a report published by an independent research company stating that in the last five years, the Rogue Valley has experienced a steady increase of residents with pancreatic and testicular cancer. In response to this report and because of the shrinking market share, the chief executive officer (CEO) of the hospital has tasked the chief strategy officer (CSO) and the chief financial officer (CFO) with exploring whether it should make additional investments in cancer treatment services that will allow the organization to increase its capacity to serve more patients and gain a larger sector of the market.

Based on their analysis, the CSO and CFO have presented you with the following two options to review prior to the meeting with the CEO:

Option 1: ABC Hospital invests $11,995,000 in the development of a new state-of-the-art cancer treatment center. Based on their estimates, the first year cash flow will be $2,000,000, the second year cash flow will be $4,000,000, the third year cash flow will be $5,000,000, and the fourth year cash flow will be $8,000,000. The expected return of 8.9% is used as the discount rate.

Option 2: ABC Hospital invests $5,095,000 in a joint venture with a reputable oncology group and the hospital agrees to a 55% interest in the joint venture. Based on the estimates, the first year cash flow will be $1,500,000, the second year cash flow will be $3,000,000, the third year cash flow will be $4,500,000, and the fourth year cash flow will be $6,500,000. The expected return of 8.9% is used as the discount rate.

The Assignment

Explain which of the two options you would recommend to the CEO. You may only select one option. Support your position and show your calculations. It is essential that you use at least two different financial ratio calculations.