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You are conducting capital project analysis for a hospital. Download and read thescenario. Download Show more You are conducting capital project analysis for a hospital. Download and read thescenario. Download and use the spreadsheet for analysis. Present your analysis as a 3-page report in a Word document formatted in APA style. Project Analysis Case Study Boca Grande Hospital Boca Grande Hospital is a 250-bed investor-owned hospital located in Boca Grande Florida which is known as the Tarpon Capital of the World for its fine fishing. The hospital was founded in 1946 by Rob Winslow a prominent Florida physician on his return from service in World War II. Winslow relinquished control of the hospital in 1967 while it was still small and in a relatively quiet setting. However in recent years the Florida lower west coast has experienced a population explosion which has fostered high economic growth as well as a continuing need for healthcare services. Today under a succession of excellent CEOs Boca Grande Hospital is acknowledged to be one of the leading healthcare providers in the area. Boca Grandes management is currently evaluating a proposed ambulatory (outpatient) surgery center. (For more information on ambulatory surgery see the Federated Ambulatory Surgery Association Web site at http://www.fasa.org). Over 80 percent of all outpatient surgery is performed by specialists in gastroenterology gynecology ophthalmology otolaryngology orthopedics plastic surgery and urology. Ambulatory surgery requires an average of about one and a half hours minor procedures take about one hour or less and major procedures take about two or more hours. About 60 percent of the procedures are performed under general anesthesia 30 percent under local anesthesia and 10 percent under regional or spinal anesthesia. In general operating rooms are built in pairs so that a patient can be prepped in one room while the surgeon is completing a procedure in the other room. The outpatient surgery market has experienced significant growth since the first ambulatory surgery center opened in 1970. By 1990 about 2.5 million procedures were being performed but by 2006 the number had grown to over 6 million. This growth has been fueled primarily by three factors. First rapid advances in technologymainly in laser laparoscopic endoscopic and arthroscopic technologieshave enabled many procedures historically performed in inpatient surgical suites to be switched to outpatient settings. Second Medicare has been aggressive in approving new minimally invasive surgery techniques so the number of Medicare patients utilizing outpatient surgery services has grown substantially. Finally patients prefer outpatient surgeries because they are more convenient and third-party payers prefer them because they are less costly. All of these factors have led to a situation in which the number of inpatient surgeries has remained flat over the last few years while the number of outpatient procedures has continuously grown at over 10 percent annually. Rapid growth in the number of outpatient surgeries has been accompanied by a corresponding growth in the number of outpatient facilities nationwide. The number currently stands at about 2700 so competition in many areas has become intense. Somewhat surprisingly there is no outpatient surgery center in Boca Grandes immediate service area though there have been rumors that local physicians are exploring the feasibility of a physician-owned facility. Boca Grande owns a parcel of land adjacent to the hospital that is a perfect location for the surgery center. It bought the land five years ago for $150000 and last year the hospital spent (and expensed for tax purposes) $25000 to clear the land and put in sewer and utility lines. If sold in todays market the land would bring in $200000 net of all fees commissions and taxes. Land prices have been extremely volatile in the Boca Grande area so the hospitals standard procedure is to assume a salvage value equal to the current value of the land. Of course land is not depreciated for either book or tax purposes. The building which will house four operating suites will cost $5 million and the equipment will cost an additional $5 million for a total of $10 million. Assume that both the building and the equipment fall into the Modified Accelerated Cost Recovery System (MACRS) five-year class for tax depreciation purposes. (In reality the building would have to be depreciated over a much longer period than the equipment.) The project will probably have a long life but Boca Grande typically assumes a five-year life in its capital budgeting analyses and then approximates the value of the cash flows beyond Year 5 by including a terminal or salvage value in the analysis. To estimate the salvage value Boca Grande typically uses the market value of the building and equipment after five years which for this project is estimated to be $5 million before taxes excluding the land value. (Note that taxes must be paid on the difference between an assets salvage value and its tax book value at termination. For example if an asset that cost $10000 has been depreciated down to $5000 and then sold for $7000 the firm owes taxes on the $2000 excess in salvage value over tax book value.) The expected volume at the center is 20 procedures a day. The average charge per procedure is expected to be $1500 but charity care bad debts managed care plan discounts and other allowances lower the net revenue amount to $1000 per procedure. The center would be open five days a week 50 weeks a year for a total of 250 days a year. Labor costs to run the surgery center are estimated at $672000 per year including fringe benefits. Utilities including hazardous waste disposal will add another $50000 in annual costs. If the surgery center is built the hospitals cash overhead costs will increase by $36000 annually primarily for housekeeping and buildings and grounds maintenance. In addition the center will be allocated $25000 of Boca Grandes current $2800000 in administrative overhead costs. On average each procedure will require $200 in expendable medical supplies including anesthetics. Although the hospitals inventories and receivables will rise slightly if the center is constructed its accruals and payables will also increase. The overall change in net working capital is expected to be small and hence not material to the analysis. The hospitals marginal federal-plus-state tax rate is 40 percent. One of the most difficult factors to deal with in project analysis is inflation. Both input costs and charges in the healthcare industry have been rising at about twice the rate of overall inflation. Furthermore inflationary pressures have been highly variable. Because of the difficulties involved in forecasting inflation rates Boca Grande begins each analysis by assuming that both revenues and costs except for depreciation will increase at a constant rate. Under current conditions this rate is assumed to be 3 percent. When the project was mentioned briefly at the last meeting of the hospitals board of directors several questions were raised. In particular one director wanted to make sure that a complete risk analysis including sensitivity and scenario analyses was performed prior to presenting the proposal to the board. Recently the board was forced to close a day care center that appeared to be profitable when analyzed two years ago but turned out to be a big money loser. They do not want a repeat of that occurrence. One of Boca Grandes directors states that the hospital was putting too much faith in numbers. After all she pointed out that is what got us into trouble with the day care center. We need to start worrying more about how projects fit into our strategic vision and how they impact the services that we currently offer. Another director who is also the hospitals chief of medicine expressed concern over the impact of the ambulatory surgery center on the current volume of inpatient surgeries. This concern prompted an analysis by the surgery department head which indicated that an outpatient surgery center could siphon off up to $1000000 in cash revenues annually. When pressed the department head indicated that such a reduction in volume could also lead to a $500000 reduction in annual cash expenses. To develop the data needed for the risk analysis Jules Bergman the hospitals director of capital budgeting met with department heads of surgery marketing and facilities. After several sessions they concluded that three input variables are highly uncertain: number of procedures per day average revenue per procedure and building and equipment salvage value. If another entity enters the local ambulatory surgery market the number of procedures per day could be as low as 10. Conversely if acceptance is strong and no competing centers are built the number of procedures can be as high as 25 per day compared to the most likely value of 20. The average net revenue amount with an expected value of $1000 is a function of the types of procedures performed and the amount of managed care penetration. If surgery severity remains high (that is if a higher number of complicated procedures are performed than anticipated) and managed care penetration remains low the average revenue can be as high as $1200. Conversely if the severity is lower than expected and managed care penetration increases the average revenue can be as low as $800. Finally if real estate and medical equipment values stay strong the building and equipment salvage value can be as high as $6 million but if the market weakens the salvage value can be as low as $4 million compared to an expected value of $5 million. Jules also discusses the probabilities of the various scenarios with the medical and marketing staffs but after considerable debate no consensus is reached. To add to the confusion one member of the medical staff who has just returned from a University of Michigan…