Alternate_Working_Capital_Policy

Alternate Working Capital Policy Like many hospitals in the United States, Elijah Health Center (EHC) is financially vulnerable, due to years of funding cutbacks, reductions in Medicaid reimbursements, cuts Medicare payments, and increase in the discounting pressure of managed care. Finding alternative working capital is crucial to reduce future difficulties for EHC. In this paper, recommendations for EHC’s financial problems will be discussed in the following areas: alternate sources of short-term financing available to EHC, how account receivable and inventory did affect EHC business policies, review of the cash conversion cycle for EHC and its important to EHC’s working capital management. Alternate Short Term Funding Like many health care firms, Elijah Health Center (EHC) experiences a short-term need for working capital from time to time during their operating cycles. Finding capital funding is a major issue for many health care organizations. Capital funding is defined as funding used to expand or renovate a building, purchase major equipment or construct a new facility for a health care provider (McGlaun, 2009). The need for funds may have resulted from a predictable seasonality in the receipt and disbursement of cash or it may represent an unexpected business event (Cleverley & Cameron, 2007). Usually, commercial banks are the main sources of short-term loans. However, alternate resources, both private and public, are also available. Private funds come from organizations such as charitable giving organizations, foundations, direct giving programs, community groups and voluntary agencies whereas public funds come from the government such as federal, state, and local agencies (McGlaun, 2009). Depending on the need of the fund, health care organizations can choose from single payment loan, line of limit, revolving credit agreements, term loans, and letter of credit. The single-payment loan is the simplest credit arrangement and is recommended for a specific purpose such as purchase of medical equipment. Regardless if the note is either on a discount or an add-on basis, borrow receives the full amount of the loan when the loan is originated. A line of credit is an agreement that allows a firm to borrow up to a specified limit during a defined loan period. Terms and conditions are required to lend the fund. Normally, commitment fee is charged to cover costs and risks incurred (Cleverley & Cameron, 2007). A line of credit is highly recommended for EHC to resolve the irregular amounts of short term needs. Health care organizations can always obtain funds in short term credit markets at higher interest rates. Although higher short term interest rates make financing working capital more expensive, they create opportunities for gains in short term investments and quickly cover an organization’s short term needs. Affect of Account Receivable and Inventory Cash Conversion Cycle Working capital management is all about conversing cash (to take advantage of short-term investment opportunities) while ensuring that the levels of accounts receivable and inventory that are necessary for day-to-day operations are available (McLean, 2003). Effective cash management is related to the controlling of the cash conversion cycle. According to Cleverley and Cameron, the cash conversion cycle represents the time that it take a firm to go from outlay of cash to purchase the needed factors of production, such as labor and supplies, to the actual collection of cash for the produced product or service, such as a completed treatment for a given patient. In a steady state, the cash amount entering the cash conversion cycle every day will be equal to the amount of cash recovered from patient accounts every day. Hence, the longer the conversion cycle, the greater the amount of resources is locked up in the cycle. Asset tied up in the cash conversion cycle earn no return and therefore incur substantial opportunity costs (McLean, 2003). As the EHC’s patient volumes and revenues are growing at a rapid rate, cash budgeting is crucial for effective cash management. The focuses of cash budget and also are representing the intervals of the cash conversion cycle are purchase of resources, production/sale of service, billing, and collection. Estimation for these intervals is crucial to budgeting. As sales of service increases, a long period of collection period will tie up all asset and require the hospital to finance a larger amount of working capital. Cash budgeting help prepare an accurate estimate of future cash flows. In this way, the organization can arrange short term financing or invest surplus. In term of the cycle, the hospital should pay for its factors of production in the beginning of the cycle and wait to receive payment from patients/third parties at the end of the cycle (Cleverley & Cameron, 2007). Conclusion The management of working capital is important because it involves decisions that have great impact on operating cash flows of the health care organization. Many factors influence the cash conversion cycle. However, though careful monitor and accurate estimation of cash budgeting, organization will reduce the chances of being in financial crisis. Accelerating the collection of cash from customers and to slow down the payment to suppliers and employees are ways to help the firm to resolve low working capital. Short term funds are available. Organization should utilize these alternate funding facets in time of needs. Different funding come with different level of risk and interest rate. The firm should choose the most reasonable one for the firm. References McGlaun, J. (2009). Capital funding. Rural Assistance Center. Retrieved January 18, 2009, from http://www.raconline.org/info_guides/funding/capital.php NY: Delmar Learning. January 18, 2009, from University of Phoenix, Simulation, FIN/HC571 – Healthcare Finance Course Web site.