Financial Forecasting Case Study
Eastside Memorial Hospital
Eastside Memorial Hospital is a 210-bed, not-for-profit, acute care hospital with a long-standing reputation for quality service to a growing community. Eastside competes with three other hospitals in its metropolitan statistical area (MSA)two not-for-profit and one for-profit. Eastside is the smallest of the four but has traditionally been ranked highest in patient satisfaction surveys. For a complete description of the hospital, along with its 20022006 financial statements, please refer to the accompanying spreadsheet.
As the newly hired assistant administrator, you have completed the financial and operating analyses assigned by Melissa Randolph, the hospital’s administrator. In fact, your presentation to the board of trustees went off so well that Melissa asked you to present the hospital’s preliminary five-year financial plan at the next board meeting. To aid in the planning process, she has provided the following information:
· Given your knowledge of the historical situation for Eastside, current trends in the healthcare industry, and the competitive situation facing hospitals today, use your best judgment to create the hospital’s financial plan. Make any assumptions you believe to be necessary to create an effective plan, including assumptions about inpatient and outpatient volume growth, capacity constraints, reimbursement patterns, hospital staffing patterns, input cost inflation, and so on. Be sure to completely document your assumptions in the report. The quality of your financial plan will be judged as much (or more) on the validity of your assumptions as on the mechanics of the forecasting process. (You have very limited specific information about Eastside, so use your general knowledge about trends in the hospital industry to make the forecasts.)
· The emphasis should be on the forecast for the coming year (2008), but you should also create rough pro forma income statements, balance sheets, and statements of cash flows for the coming five years, including key financial ratios. The five primary methods for forecasting income statement items and balance sheet accounts are:
o Percentage of sales (in which a growth rate is applied)
o Simple linear regression
o Curvilinear regression
o Multiple regression
o Specific item forecasting
You may need to use several of these methods in your forecast. (Hint: Spreadsheets have regression capability.)
· Use the financial analysis from the case in Week 1, Assignment 4 to aid financial forecasting in this case. Those areas which reflected poor hospital performance should have improved, and your forecasts should reflect anticipated operational improvements where applicable.
· Do not get so involved in the mechanics of the forecasting process that you forget to apply common sense to your forecasts. Think about what has happened in the past and what is likely to happen in the future with regard to utilization, prices, costs, and asset requirements. If the forecast does not make sense, modify it. For example, a mechanical application of statistical forecasting techniques might lead to a forecast containing five years of net operating losses. Regardless of statistical fit, such a forecast makes no sense because any hospital, if it expects to survive, will have to take actions to adjust either utilization or costs to ensure positive operating results. Thus, mechanically forecasted values do not represent what is likely to happen in the future, even though they might be a perfect reflection of historical trends. Also, a forecast that is wildly optimistic probably needs to be modified because payers will react negatively if hospital profits rise dramatically.
In closing, Melissa gives you her view of a good financial plan: “First and foremost, the plan must comprise pro forma financial statements, a table that summarizes the amount of finance generated internally, and external financing requirements. Second, key financial ratios must be calculated, and the hospital’s expected financial condition must be assessed with special emphasis on changes from the hospital’s current condition. Third, make sure that your pro forma financial statements are consistent with one another. The last assistant administrator could not figure out that some balance sheet accountsequity (fund) capital and accumulated depreciationare tied to income statement items, so he made a quick exit. Finally, be sure to make all your assumptions clear, and be prepared to answer questions from the board concerning the impact of changes in your assumptions on the financial plan.”