Midterm Deck - Sessions 1-7 Flashcards
Capital Definition
The residual value of our economic activity. People with claims to residual value become wealthy.
Finance Definition
Cashflows, capital markets, the flow thereof
Financial Accounting Definition
accounting done for an external audience, must follow clear rules (FASB, GAAP)
Accounting Definintion
• Accounting:
o Budgeting, is firm specific.
o Takes what’s opaque and makes it known to the outside world
o Is critical for the functioning of democracy and the for-profit sector.
Managerial Accounting Definition
Accounting for an internal audience; is for internal purposes only.
What is it not uncommon for firms to do between managerial and financial accounting?
To follow separate rules for each type of accounting.
Other names for Cash:
aka “electronic funds”, aka “M1”.
3 nuances of cash
Every firm must have access to a steady flow of cash
• Even rich firms can die for a lack of cash
• Firms guarantee cash by having a close relationship with a bank (i.e. “commercial paper”).
Other name for debt
borrowed money
Nuances of Debt
- Can take the form of a bank loan, but banks don’t like to put too much of their own money into one borrower.
- Low risk/low return instrument.
- Is traded and created in public debt markets
- Can be securitized or unsecuritized
- “Firm specific” collateral is a challenge; collateral only has value if it can be resold, and so may not offer much protection if the collateral is such that the lender cannot resell it in case of loan default.
- Credit Card debt is considered unsecuritized
What claim do creditors have on debt?
a first-order legal claim on all residual assets.
What is the purpose of capital markets?
To distribute risk.
Othername for equity
stock
Nuances of Equity
- In healthcare you see it often for durable medical equipment and new drugs
- Carries with it a concept of ownership; the holder of equity effectively owns a percentage of a firm’s revenue
- What we pay for the stock depends on what we think the firm will make in profit in the future
- Only control as much of the firm as you own by percentage
- You can have up to 100 owners of a firm before you must IPO
who can purchase equity?
- Private investors
- Private equity
- Angel investors
- Venture capitalists
3 types of capital
cash, debt, equity
Things that can lead to Market Failures
Public Goods, Externalities, Imperfect Information
What is a market failure?
When capital access and capital need don’t match up
What is a public good?
- buyer of good is forced to share the utility of the good with all others
• i.e.: a lighthouse provided by the government, defense, public security
• Education and Health are both public AND private goods
How are public and quasi-public goods financed?
• Public and Quasi public goods are handled through public funding.
Money for public funding comes from:
• Taxes
• Public Finance (borrowed via the debt markets)
• A Public Authority,
What is a public authority and what can it do?
which is a quasi-governmental agency with a board of governors; it can float debt independent of area government (so has tax-free access to the public debt markets)
o i.e. Port Authority of NY and NJ
o “Hospital Construction Bonds”
o “Dormitory Construction Bonds for Public Universities”
What is an externality
when you create costs for someone besides yourself
• i.e. cars that spew pollution, painting your house an ugly color
• can “charge” for externalities through public shaming, etc.
What is imperfect information?
Asymmetry of information between two sides of a transaction is rampant in health care. Its why healthcare markets fail and why we have regulation.
What does the ACA try to do
requires young, healthy people to pay too much for HC – is a social cost/contract. It’s a way to achieve social equity in finance, and redistribute wealth.
Healthcare Cashflows and Funding Mechanisms
o Cash – i.e. money people spend at CVS!
o Taxes – a huge amount of taxes (payroll) flow into provision, construction, training and research for HC
o Hospital Construction Bonds – are tax exempt to lenders
o Owner’s Equity – in for-profit hospitals, pharma, clinical practices
o Venture Capital – have recently seen venture capitalists buying orphan drug patents and pushing them through to get approval
o Philanthropy – historically a great deal of capital in HC has come from philanthropy. This has largely declined as hospitals became less dependent on this (are now more insured, have better access to debt markets, etc.)
Health Insurance is a form of a
generational cost shift
• Its true that on an individual basis “you never know”
• But it’s also true that as a whole, we do know – your health will get worse as you age.
• So, we over pay when we’re young so we can under pay when we’re old
• You’re effectively smoothing out your cost of care across your whole life (consumption smoothing)
• Yes, its redistribution, but its personal redistribution
risk distribution as per health insurance
Most people won’t draw down on their health care policy, but some do. So, the risk is distributed across all the policies in the pool.
risk aggregation as per health insurance
as policies are priced, companies try to assess individual risk (age, pre-existing conditions); so, we group ourselves (group policy) so that the group policy will be cheaper than the individual policy.
what is the crux of the ACA?
is the creation of artificial groups – by getting more people into the pool, risk is distributed (so it’s not just the sick buying in)
Prepayment
- we use it to prepay predictable costs.
- Was born out of corporate health plans
- Use it as a form of catastrophic protection
what does it mean when you go public?
offering an equity stake to the public
Profit =
= Revenues - Expenses
What is a budget?
o plan for a flow of funds (revenues + expenses) over a period of time (typically one year).
What factors are taken into account in planning a budget?
o It flows according to the organizational Mission (if non-profit) and its strategic plan (3-5 years out)
How is the budget a political document?
- It’s a compromise between constituents
- A good budget process goes through a variety of drafts
- Senior director calls for submissions from all departments, and its up to the manager of that department to justify its budget request
- ED then reconciles this and creates the budget
Name 3 types of budgets
- Master Budget (most senior budget)
- Operating Budget
- Financial Budget (aka Capital Budget)
What does the Operational Budget Do, and what types of costs does it include?
• Tracts organizational operations – what does it cost to keep the doors open? Includes: o Labor costs o Supplies and materials o Utilities o Administrative Costs
What type of accounting is used in an operational budget?
• Is accounted for on a cash basis
What do financial budgets/capital budgets include?
• Includes: o Equipment o Plant/Site Costs o Real Estate o Basically big long term fees
What type of accounting is used in financial budgeting?
accrual accounting
Accrual accouting is when
o You consider a value to be spent when an item is actually used (not when it’s purchased)
