Introduction

Due to a reduction in fund deposit and a consequent decrease in funds available for loans, First Bank required Alpine Village Clinic to prepare an estimation of its semi-annual credit line and borrowing. Alpine had not taken any initiative to develop such a budget. It was very challenging to make the cash budget breakdown for the first time through applying sensitivity analysis in finding the clinic’s financial borrowing capacity up to mid-2010 from the time the report was requested.

The management of Alpine Clinic had ignored the critical aspect of budgeting for cash despite the growth and expansion of its credit value. It was a hard task for Alpine Clinic to come up with an informative cash budget report in response to First Bank’s request given that the clinic’s management had not been maintaining proper records of its cash flow for quite a lengthy period (Alexander, 2012). In regards to the challenges experienced by Alpine Clinic management, it is therefore essential for the clinic to maintain a daily cash budget.

This paper looks at the problems experienced in Alpine Clinic finance department, the alternatives that were available for the clinic, the feasible solutions, and suggests recommendations for future consideration.

Background Information

Alpine Village Clinic is located in winter hotel in the suburbs of Aspen city, Colorado. Though the clinic is open throughout the year, its business is majorly seasonal due to varying number of patients in different months of the year. The clinic’s high peek falls in winter from December to March during the period of skiing when most injuries occur. At some point, the doctors contemplated shutting down the clinic during summer but operating the clinic selectively for a specific period in the year proved to be inefficient. Nonetheless, there seemed to be reasonable demand during the summer period that justified the clinic’s continuous operation through the year. Two doctors; Doctor James Peterson and Doctor Amanda Cook who served as an orthopedist and financial officer respectively ran the clinic.

First Bank, which is the clinic’s primary lender, had forecasted a decrease in deposits made in the bank. The bank, therefore, asked its credit customers to provide an estimate of their borrowing needs for the first half of 2010. Dr. Cook requested Doug to prepare an approximation of the clinic’s line of credit to present at the meeting (Gapenski, 2009).

A line of credit refers to a short-term agreement for a loan through which a bank accepts to lend firms or businesses some quantified maximum sum of money. Through that agreement, certified firms can borrow based on their credit line worthiness. Upon the expiry of a line, it can be renegotiated for as long as the business still finds the credit funds useful to its course. Payment of the borrowed amount can be made at any time, but an outstanding amount should be cleared upon expiration. Interest accrues daily basis on the sum is drawn down. Also, there is a commitment fee that should be paid up front to safeguard borrowing worthiness of the line.

Problems

The underlying question that anyone would ask after reviewing the state of cash budgeting at Alpine Clinic is whether the management would still proceed to request for a credit line in the period given by the First Bank. If indeed the clinic was going to make such a request, then how much would be their line of credit estimation given that no cash budget existed? In reality, the clinic was going to request a line of credit for the specified period amounting to about USD200, 000 since they would be in a cash deficit of USD 171,752 from January through March.

Also, the outstanding loan amount by the time First Bank requested for the cash budgeting outline was totaling to $500,000 meaning that if the billing fell by ten percent, then it would have covered the expenses. However, if it went down by approximately 20%, then neither the standing line of credit nor the recommended loan figure would have included the costs.

Another problem that arose with First Bank’s request is that monthly cash budget could not have revealed the full stretch of borrowing needs that required to be met. To find out whether her concerns were valid, Doctor Cook proposed that Doug prepares daily cash estimation for January as a test case scenario. In reality, the daily billing forecast was to be estimated as one divided by the number of days in January and then multiplied by the month’s billing. However, this would not have been possible because the cash budget model had no provision for either the interest paid on the line of credit borrowing or the interest accrued on the cash surpluses. Faced with such a challenge, Dr. Cook proposed a modification to be done on the monthly cash budget to accommodate the missing links.

The modification would be based on the assumption that the maximum required loan of USD 48,250 is usually tabulated on the cash budget monthly whereas a maximum credit of $150,024 would appear on the daily budget as from 15th January since the cash expenditures on 1st and 15th. It is therefore evident that the monthly budget could not have revealed the full stretch on borrowing because it would be less significant as the loan balance appearing on the daily budget depreciates towards USD 48,250 (Gapenski & Pink, 2014).

The management was fully aware of the impact the modification on the financial estimation would have on the clinic’s line of credit. Usually, the cash budget is a prediction of the expected values rather than figures known with a high level of certainty. Therefore, it was challenging to apply the actual patients’ billings, and the deposits since a slight variation in the forecasted amount would result in misleading forecasted surpluses as well as deficits. Knowing how the different changes in the basic assumptions would influence the predicted surplus or deficit was of much interest at the given state of the clinic’s cash budget. Doug was, therefore, working on a financial estimation that will most likely leave the clinic’s future borrowing capacity on a very awkward situation of poor predictability.

Additionally, it was apparent that allowing Doug to use the actual figures of patients’ billings and deposits would result in a no bad debt losses being created in the cash budget required by the First Bank. A bad debt loss occurs when a rendered service is not paid for a specified period thus resulting in a delayed collection. Alpine Village Clinic operated in such a way that the earliest payment made by clients came thirty days after the rendered service and not later than sixty days. How would the clinic proceed in presenting a cash budget without bad debt losses when they existed? Therefore, using the actual billings and collections to predict the clinic’s first half of 2010 line of credit was merely a bad debt expense. The outcome of this scenario did not give a true reflection of the clinic’s financial forecasting hence creating a loophole in its future borrowing capacity (Dorrell & Gadawski, 2012).

Another issue with Alpine Village Clinic was a target cash balance without compensating balance. Although the target cash balance was grounded on First Bank’s recompensing balance requirement, the loan for the term was to be settled in September 2010. The problem, therefore, arose with setting the clinic’s target cash balance where the compensating balance was not required.

Another puzzle in estimating the cash budget is that the patient volume is expected to rise over the forecasting period. This situation most likely would result in surpluses, which can lead to miscellaneous expenses. According to the available financial projection, it was visible that the billings would fall below the estimated level. In a situation where the billing estimate was projected at 90%, there would be an increase in the deficit from January through March, with a consequent reduction in the surplus from April through June. However, if the collections were to be stretched out by say 10%-to-20%-to-70%, the deficit would shoot, but the excess would reduce.

Alternatives and Reasons for Rejection

Given the problems that Alpine Clinic underwent in preparing the cash budget, some other options could have been considered under the situation. First, Dr. Cook could have regarded as relying on the previous years’ estimation to predict the current situation. This could have offered firsthand information on how the clinic’s credit line has been functioning.

However, using records to serve the current scenario proved to be challenging and messy in the sense that the number of patients’ inflow is not always a constant figure even during high peek period between December to March. Using daily cash budget could have been the most helpful point of reference, but none existed since the management did not maintain any. Therefore, relying on the old records could have misled the clinic’s management on arriving at the appropriate cash budget for the required period.

Another alternative was to use the billings made in the past to mirror the collections to be made and use that information to prepare a cash budget. Using this scenario, Doug who was tasked with the preparation of the cash estimate would follow the clinic’s cash collection experiences over the last period and convert the figures into cash collections for actual medical services offered. This information would be critical for the management to present to the bank to prove the clinic’s status of future borrowing capacity.

Nonetheless, this option was mischievous since the clinic’s total billings do not map directly on the cash collections for a fixed period. The problem, in this case, is that First Bank had made the point clear that it needed a financial projection for the first half of the year 2010. However, the billings information available as of September 2009 was not going to serve as a full reflection of the clinic’s cash collection for the beginning of the next year. In practice, about 20% of the patients served by the clinic make immediate payment for the services rendered to them. The remaining part of the billings is typically settled by the third-party payers, who give the next 20% within thirty days and then rest which is 60% within sixty days from the time the service was received (Gapenski, 2009).

Possible Solution and a reason for choosing the solutions

Dr. Cook’s main worry was the possibility of having surplus funds from the cash budget approximation derived from modified records. The management was concerned with the best way to utilize such surpluses should they arise. The forecasted period usually attracts summer visitors, which consequently make the months’ operations financially attractive hence opening more doors for surplus funds (Gapenski, 2012).

However, the management looked into the matter of possible surplus as an opportunity rather than a problem. The surplus funds could be invested in cash regenerating activities for the clinic. Because the summer attracts several clients the idea of expanding the clinic’s operation to include hospitality services like accommodations to skiing enthusiasts apart from only serving their medical needs.

This option was considered appropriate by the management because it would be a proper ground setting of becoming financially independent. With this venture, the clinic would maximally benefit from the summer clients surges and keep more funds to plan for its next high peek financial needs without entirely depending on the bank’s lending that had already shown a diminishing trend. Also, the summer clients would get a satisfying array of services at the clinic. Most of the clients with minor requirements such as massage therapies would have their accommodation needs satisfied at the clinic’s premises. Consequently, Alpine Clinic would be maintaining an internal environmental managerial condition with minimal external forces.

Conclusion

Reflecting on the circumstance under which Alpine operated to meet its financier’s needs, it is prudent that the practice of maintaining a daily cash budget be implemented. It is more comfortable and accurate to make financial projections based on correct information that depicts the actual daily expenses. Making economic estimations on modified records can cause over budgeting or underestimation, where in both cases the mistakes may lead to mismanagement.

Recommendations

Based on the available information, a situation where no commitment fee is needed, a large credit line of about $400,000 would be most appropriate for the clinic.

However, if a charge is put on the magnitude credit line, then a smaller range would be the best option. About $200, 000 is recommended since it takes care of the 20% amount below the projection.

Other considerations include getting an estimation of reducing cost in the event where utilization goes down. Also, the management should consider receiving credit from alternative sources as well as learn to tolerate risks.

References

Alexander, D. (2012). Principles of Emergency Planning and Management. Edinburgh Portland: Dunedin Academic PressInternational Specialized Book Services distributor.

Dorrell, D. & Gadawski, G. (2012). Financial forensics body of knowledge. Hoboken, N.J: Wiley.

Gapenski, L. & Pink, G. (2014). Cases in healthcare finance. Chicago Arlington, VA: Health Administration Press AUPHA Press.

Gapenski, L. (2012). Healthcare finance : an introduction to accounting and financial management. Chicago, Ill: Health Administration Press.

Gapenski, L. (2009). Fundamentals of healthcare finance. Chicago, Illinois Arlington, Virginia: Health Administration Press Association of University Programs in Health Administration.