Financing a $12 Million Ambulatory Surgery Center Expansion: Tax-Exempt Bonds, a Bank Term Loan or a Physician Joint Venture
[Student Name]
University of Phoenix
HCS/385: Health Care Finance
Week 5 Summative Assessment
[Instructor Name]
[Date]
The health system, surgery center and all figures are a composite written for a model presentation.
Slide 1: The Decision Before the Board
Approve a financing plan for a $12 million, two-room expansion of the system's ambulatory surgery center.
Three options: tax-exempt revenue bonds, a 10-year bank term loan or a joint venture with the center's surgeons.
Speaker notes
Good evening. The operations committee has already approved the expansion itself; what the board must decide tonight is how to pay for it. I will show what each financing option costs each year, what it does to our debt capacity and what it gives away, and then I will recommend one. The cheapest option in annual payments is not the cheapest in total dollars, and the option with no debt at all costs us something we cannot easily buy back.
Slide 2: Why the Center Is Expanding
Two operating rooms today, running at about 92% of scheduled block time.
Orthopedic and spine cases are shifting from the hospital to outpatient settings.
Projected added cash flow from two new rooms: about $1.9 million a year once volume ramps.
Speaker notes
Our surgeons are turning away cases, and joint replacement and some spine procedures are moving to ambulatory centers because payers pay less there and patients recover at home. Surgery centers also run efficiently: Munnich and Parente (2014) found that procedures took considerably less time in ambulatory surgery centers than in hospital outpatient departments, which lowers cost per case and lets the same rooms serve more patients. If we do not add capacity, competitors will. The finance office projects about $1.9 million a year in added cash flow, net of operating costs, once the new rooms reach expected volume in year two.
Slide 3: Where We Start
Cash flow available for debt service: about $28 million a year.
Existing annual debt service: $9.5 million.
Current debt service coverage ratio: about 2.95.
Bond covenant minimum: 1.75.
Speaker notes
Debt service coverage compares the cash we generate for paying debt with what we owe each year in principal and interest (Pink & Song, 2020). Today we generate about $2.95 for every dollar of debt service. Our existing bond covenants require at least 1.75, and rating agencies look more favorably on systems well above the minimum. Every option tonight will be judged partly on how much of that cushion it uses.
Slide 4: Option A, Tax-Exempt Revenue Bonds
$12 million, 30 years, about 4.25% interest.
Annual debt service: about $715,000.
Issuance costs: about 2%, or $240,000.
New coverage ratio: about 2.74.
Speaker notes
As a nonprofit, the system can borrow through a state health facilities authority, and because investors do not pay federal tax on the interest, the rate is lower than a taxable loan (Cleverley & Cleverley, 2018). Spreading repayment over 30 years produces the lowest annual payment of the three options, about $715,000. The trade-offs are issuance costs for underwriters, bond counsel and the rating process, covenants that restrict future borrowing and total interest of about $9.5 million over the life of the bonds, because we are borrowing for a long time.
Slide 5: Option B, 10-Year Bank Term Loan
$12 million, 10 years, about 6.5% interest.
Annual debt service: about $1.67 million.
New coverage ratio: about 2.51.
Total interest: about $4.7 million.
Speaker notes
A bank loan is faster to arrange and has minimal issuance costs. Its rate is higher because it is taxable to the lender, but the shorter term means we pay much less interest in total, about $4.7 million instead of $9.5 million. The price is a payment more than twice as large each year, which takes coverage down to about 2.5 and leaves less room for the new cancer center planned for the following year.
Slide 6: Option C, Physician Joint Venture
Surgeons buy 49% of the expansion for about $5.88 million.
System funds its 51% share, about $6.12 million, with 30-year bonds.
System debt service: about $365,000 a year; coverage about 2.84.
System keeps 51% of the expansion's cash flow.
Speaker notes
Joint ventures between hospitals and physicians are common in ambulatory surgery. They share capital costs and align surgeons with the center's success, because their own investment rides on efficient, full rooms (Brigham & Houston, 2022). This option uses the least of our debt capacity. What we give up is about half of the $1.9 million in added annual cash flow, for as long as the venture exists, and a share of control over scheduling, staffing and future decisions. Joint ventures with referring physicians also require careful legal structuring under federal fraud and abuse rules, which adds cost and time.
Slide 7: Side-by-Side Comparison
Annual system debt service: A $715,000 · B $1.67 million · C $365,000.
Coverage after financing: A 2.74 · B 2.51 · C 2.84.
Total interest: A about $9.5 million over 30 years · B about $4.7 million over 10 years · C about $4.8 million on the system's share.
Share of added cash flow kept by the system: A 100% · B 100% · C 51%.
Speaker notes
Laid side by side, the options sort into two groups. Options A and B keep all the new cash flow and differ in timing: bonds cost less each year and more in total, the bank loan the reverse. Option C uses the least debt but surrenders about $930,000 a year in cash flow, which over ten years comes to about $9.3 million, roughly twice the bank loan's total interest. Once the expansion reaches its projected $1.9 million, coverage improves under every option, to about 2.93 under the bonds and about 2.68 under the bank loan.
Slide 8: Risks
Volume risk: if the new rooms fill slowly, debt service starts before cash flow does.
Rate risk: bond rates are set at pricing; a delay of several months could raise them.
Capacity risk: using coverage now narrows options for the cancer center.
Speaker notes
The main risk is timing. Debt payments begin within a year, but the added cash flow ramps up over two years. Under the bonds, the first-year payment is small enough to be covered by current operations even if the new rooms fill slowly. Under the bank loan, a slow ramp would press coverage harder. We also want to keep enough borrowing room for the cancer center, which is a larger project and a higher priority for the community.
Slide 9: Recommendation
Finance the expansion with 30-year tax-exempt revenue bonds (Option A).
Include a call provision allowing early redemption after 10 years.
Revisit a physician joint venture only if surgeon recruitment requires it.
Speaker notes
We recommend Option A. It has the lowest annual payment of the options that keep all the new cash flow, preserves the most coverage for the cancer center and fits a building and equipment with a long useful life. The total interest is higher, so we recommend a call provision that lets us redeem the bonds early if rates fall or cash accumulates. We do not recommend the joint venture now, because it gives away half of a profitable expansion to solve a financing problem we do not have, but it remains an option if we need it to recruit surgeons.
Slide 10: Next Steps and Measures
Board resolution authorizing the bond issue.
Engage underwriter and bond counsel; target pricing within 90 days.
Quarterly report to the finance committee: operating-room volume, cash flow against projection and coverage ratio.
Speaker notes
If the board approves tonight, finance will return next month with the underwriter's pricing estimate and the final covenants. Once construction starts, the committee will see quarterly reports on case volume, cash flow and coverage, so any gap between the projection and results appears early. Thank you. I welcome your questions.
References
Brigham, E. F., & Houston, J. F. (2022). Fundamentals of financial management (16th ed.). Cengage Learning.
Cleverley, W. O., & Cleverley, J. O. (2018). Essentials of health care finance (8th ed.). Jones & Bartlett Learning.
Munnich, E. L., & Parente, S. T. (2014). Procedures take less time at ambulatory surgery centers, keeping costs down and ability to meet demand up. Health Affairs, 33(5), 764-769. https://doi.org/10.1377/hlthaff.2013.1281
Pink, G. H., & Song, P. H. (2020). Gapenski's healthcare finance: An introduction to accounting and financial management (7th ed.). Health Administration Press.
How this HCS 385 Week 5 example is structured
The University of Phoenix library guide for HCS/385 lists the Week 5 summative assessment as the Business Operations Presentation, and the week covers long-term financing. The deck is built the way a board presentation is built: the decision on the first slide, one question per slide after that and the numbers shown with their inputs. Speaker notes carry the explanation a presenter would give aloud, and the final slides turn the comparison into a recommendation with conditions. Students search this week as HCS 385 Week 5, HCS385 Wk 5 or HCS/385 Wk 5; all three are the same assignment.
HCS/385 Week 5 questions, answered
What does HCS/385 Week 5 usually ask for?
The University of Phoenix library guide for HCS/385 lists the Week 5 summative assessment as the Business Operations Presentation. Many sections ask students to present a financial analysis of health care operations, often including financing decisions, with slides and speaker notes. Your own instructions set the scenario and slide count.
What is a debt service coverage ratio?
It compares the cash flow an organization has available to pay debt with the principal and interest it owes in a year. A ratio of 2.5 means the organization generates two and a half dollars of available cash for every dollar of debt service. Lenders and bond covenants usually set a minimum.
Why do nonprofit hospitals use tax-exempt bonds?
Because interest paid to investors on qualifying bonds is exempt from federal income tax, investors accept a lower rate, so nonprofit hospitals can borrow for long terms at lower interest than a taxable bank loan. Bonds carry issuance costs and covenants, so they suit larger projects.
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