When considering any investment, it is important to take into account the potential costs and benefits, regardless of the whether the investment is a new service, facility or simply an additional piece of equipment. Bayside Memorial Hospital is considering adding an open Magnetic Resonance Imaging (MRI) machine system to its facility and the following report will detail the potential cash flow this asset will add to the facilities revenue. This system will drastically reduce the current constraints of this facility existing MRI by being able to support pediatric and obese patients. This report will detail the results of the cash flow analysis, specifically covering sunk costs, strategic value, incremental cash flow, opportunity costs and inflation effects. Based on those results I will make a recommendation for or against an investment on this machine, this recommendation will be geared towards to the board of directors for Bayside Memorial.
To begin with, it is important to define the terms that will be used to support the recommendation for the purchase of this asset. Incremental cash flows are an organizations influx of potential cash per pay if the project/investment was undertaken period, with the amount of potential cash flow without having made the investment subtracted. Sunk costs are a cost or an outlay of costs that have already occurred or been committed to and therefore have no bearing when estimated the viability of a new project. Opportunity Costs is term that describes how much a project’s investment will take up potential resources for another project for example, if a business spends 10K on a system A, it now cannot spend that money on system B. Inflation effects is a description of the effect that future market inflation will have on a potential investment and is best applied to each specific area of cash e.g. labor and supply respectively. Strategic value is an inherent advantage that an investment provides, that is not included in the cash flow analysis such as building a restaurant in a busy section of town that does not have a competing establishment (Gapenski, 2017).
In the cash flow analysis, there is an annual $1.3 million dollar return on investment at the five-year mark, with $2.5 million startup cost, this equals out to a return rate of roughly eleven-percent at five years. With those figures, it is predicted that at the five years mark the investment has already recouped its losses in comparison to the initial startup costs and is now generating over half of its startup cost annually. The analysis shows a continual increase in revenue each year and an overall $200k increase between years one and five, the costs increase for labor and supplies trends with the predicted inflation rate of five percent. Since the machine will be installed in the hospital itself there is no estimated opportunity cost and currently, there is no other imaging service available for Bayside Memorials patient population, making this MRI of great strategic value. The cash flow analysis limited because it does not give us the Incremental cash flow or the Sunk cost of maintaining the current MRI machine (Gapenski, 2017).
Besides the predicted net cash flow at five years, it is important to note that while the labor and supply costs for the machine do increase annually (trending with inflation), the net revenues increase beyond the five percent inflation rate. It is also worthy to note that the machine pays for its initial start-up costs at the 4.5-year mark, meaning that Bayside memorial will see its first pure profit halfway through year five (Gapenski, 2017). Working purely from the analysis, a new MRI machine sounds like a good investment for Bayside Memorial with a solid net income and predictable associated costs. However, this investment does come with a heavy start-up cost and a slow return on investment rate, if a dedicated imaging center were to be made available, it might be cheaper to scrap the old system and contract imaging services out. In conclusion, I would only recommend this investment if there were no additional imaging services in development that would be available before the five-year profit mark would be met.
Gapenski, L. C. (2017). Fundamentals of Healthcare Finance (2nd ed.). Retrieved from https://bookshelf.vitalsource.com/books/9781567935714
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