Explain the calculation and interpretation of the cost of capital
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Discussion Post #1: Topic: Cost of Capital
Explain the calculation and interpretation of the cost of capital. In your response, consider how this cost impacts a health care manager’s decision on expansion or contraction of services, etc.
Discussion Post #2:Describe how commitment to resilience and deference to expertise can aid the healthcare organization in complying with regulatory requirements and creating good performance measures.
Then 4(50-100) word responses to the following discussion posts
DP#1: There are multiple types of costs of capital, first the corporate cost of capital is “the weighted average of a businesses capital costs. Next there is the Also the discount rate that reflects the overall risk of the entire business” (Gapenski & Reiter, 2015). There is also the Cost of Debt capital which is a cost of capital formula for different business types that takes into consideration if there is debt owed to an investor-owned firm (Gapenski & Reiter, 2015). The next type is the cost of equity capital which is similar to the cost of debt capital. The cost of debt is based on the return, or interest rate, that investors require on debt securities. The cost of equity to is the rate of return that investors require on the firms common stock.
In regards to the calculation of the cost of capital there are a few formulas as well, for the cost of debt the formula is R(R₄) x (1 – T) where R(R₄) is the required interest rate and T is the tax rate (Gapenski & Reiter, 2015) so if a businesses before tax cost of debt is 7 percent and its tax rate is 25 percent its effective cost of debt capital is 5.25% which is used to determine. For equity capital it is much more complicated to calculate and the formula is R(R₄) = RF+[R(Rₘ) – RF] x β which is much more complicated but basically breaks down with R(R₄) being the required rate of return on equity, RF the risk free rate, R(Rₘ) is the required rate of return and β is the beta coefficient. This seems much more complicated but it gives you a required return on equity percentage which will help determine if something is risky or not to invest in. Finally the cost of equity capital is determined in a few ways, there is the build up method which means estimating the cost of equity for a small business that starts with a base rate then adding premiums to account for size, liquidity and unique risk characteristics (Gapenski & Reiter, 2015). The other methos is the pure play approach which is when you estimate the base cost of equity by using the beta of a larger business in the same field these are good ways to quickly estimate where your company stands but are not as accurate as the other methods so it would not be advisable to use this method if making a large scale decision for expansion.
Gapenski, L., & Reiter, K. L. (2015). Healthcare Finance: An Introduction to Accounting and Financial Management, Sixth Edition. Chicago: Health Administration Press.
DP#2: “The cost of capital is simply the return expected by those who provide capital for the busines” (Gallo, 2015). Any investment that a company makes has to earn enough money that investors get the return they expect and debt holders can be repaid. Senior leaders use cost of capital to evaluate individual investments and investors use cost of capital to assess the risk of an organization’s equity (Gallo, 2015).
“A wise company only invests in projects and initiatives that exceed the cost of capital” (Gallo, 2015). Once the finance department, CFO, or treasure department has determined what the rate is, managers know that is the number to beat if they want to win support for their projects or proposals. “If you make investments that don’t get a return that exceeds the cost of capital, you’re encouraging investors to go elsewhere,” explains Gallo (2015). “You’re basically saying that we’re not getting the return you expected.” Therefore it’s important that managers — often with the help of finance — take a close look at potential projects to make sure they exceed the cost of capital (Gallo, 2015).
When finance tells you that your new project or initiative needs a return that beats the company’s cost of capital, it’s helpful to know what that figure is and how it’s calculated. Armed with this information, you’ll be able to better make the case that your idea is worth the company’s investment (Gallo, 2015).
Gallo, A. (2015, April 30). A refresher on cost of capital. Harvard Business Review. https://hbr.org/2015/04/a-refresher-on-cost-of-capital
DP#3:Regulations and laws are always changing in healthcare. I work in dental, and it seems every month there is a new law or regulation we now have to adapt to. Commitment to resilience can help healthcare facilities with following those new laws. By having resilience, it means that the facilities offered training to their employees to adapt easier. Deference to expertise in healthcare means that you are committed to patient safety and quality of patient care. Expertise means that every employee has the training and skills to handle issues if needed.
Vbi, Hro corner: Understanding the ‘deference to expertise’ high reliability organization guiding principle. HRO Corner: Understanding the “Deference to Expertise” High Reliability Organization Guiding Principle | Veterans Benefits Info. Available at: http://veteransbenefitsinformation.com/latest-news/10526-hro-corner-understanding-the-qdeference-to-expertiseq-high-reliability-organization-guiding-principle.html#:~:text=For%20patient%20safety%20champions%2C%20the,can%20assume%20a%20leadership%20role. [Accessed August 28, 2022].
DP#4: Follow the laws or regulations can be tough. But the good thing about this it allows the process to be successful with the operation. The regulation compliancy the business which allow the organization to be aware of the regulation and the laws. Following all the laws and regulations can be very tough. But the benefit of the out come is worth it. Which allow us to see how well the program is working.
Ethical principle and responsible decision making,2022,