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# Principles of Accounting

As a Chief Executive Officer of OHC Medical Center, a 600-bed hospital in the suburbs of a city with a population of over 1.5 million, I have analyzed the financial health of OHCMedicalCenter. The analysis is consists of four major parts, which are Liquidity ratios, Capital Structure ratios, Activity Ratios and Profitability Ratios.

Discussion

Liquidity Ratios

Liquidity ratio helps to determine the organization’s ability to pay its short term debts (Bull, 2008). Higher values of liquidity ratios are considered as higher margin of safety to pay off current debts. Liquidity ratios are calculated through current assets and current liabilities.  Liquidity ratios consist of three ratios, which are:

Current Ratio

Current ratio is calculated by dividing current assets from current liabilities (Gibson, 2009). The standard current ratio which must be possessed by every organization is 2:1. This means that every organization must have its double current assets as compared to their current liabilities.  As far as the liquidity ratio of OHC medical center is concerned, OHC has 1.5:1 in 2009, which is fallen bellow the standard. Current ratio shows the bad condition of OHC in 2009. It may hesitate investors to invest in OHC. However, the OHC has done well and covered this deficit in 2010. In 2010, the current ratio is 0.11 bit higher then standard it’s 2.11:1. This shows that OHC has performed well during the year 2010. Any investor will easily invest in OHC by considering such good current ratio.

Working Capital

Working capital is calculated by subtracting the Current Liability from Current Assets (Gibson, 2009). When organization has positive working capital then it is considered as good. And as far as the working capital of OHC is concern, its \$3,004,000 in 2009 and \$4,848,000 in 2010, which is proof of good financial health of OHC. It also has increased during the period, 2009 to 2010.

Quick Ratio

Quick Ratio is calculated by dividing quick assets from current liabilities (Gibson, 2009). This shows that the ability of organization to pay its debts quickly. The standard of quick ratio is 1:1. As far as the quick ratio of OHC is concerned its good in 2009 and with improvement it’s also good in 2010. The quick ratio of OHC in 2009 is 1.5:1 which 0.5 above from the standard is. And in 2010, it’s 2.1:1; this is much good then 2009. But this is showing idle quick assets in the OHC. OHC should use 1.1 extra quick assets in other activities from which they can increase their revenue. These quick assets are called idle quick assets.

Capital Structure Ratio

Capital Structure means the proportion of different types of capital within the organization (Bull, 2008). In the other words, it is the combination of preferred equity, common equity, specific short term debt and long-term debt. It represents how the organization is using sources of funds in order to finance its growth. There are several ratios in capital structure ratio but from the provided financial information of OHC, only two can be calculated. These are:

Debt to Equity Ratio

Debt to equity ratio is calculated by dividing total debt by total equity (Gibson, 2009). There is no fix standard of debt to equity ratio; it depends upon the nature of business. But as far as the debt to equity ratio of OHC is concerned, it’s 1.28: 1 in 2009 which is not good and it has increased during the period and has 1.95:1 in 2010. Normally capital intensive organizations have 2:1. But for OHC this high ratio is too much risky.

Capital Gearing Ratio

Capital gearing ratio is calculated by dividing long term debt by sum of long term debt and equity (Gibson, 2009). High capital geared organizations are in high risk and vice versa. OHC is 91.6% geared in 2009 which is high and showing that OHC may face problem in raising more finance. But in 2010, OHC has recovered and has 62.8% geared.  OHC has recovered to little extent, but OHC can be more recovered because OHC has some idle quick assets, OHC may utilize these idle assets in order to remain at safe side in future.

Activity Ratio

Every organization tries to sale their products and services more and more.Activity ratio indicates how organization can convert its resources in to sales or revenue. There are major two ratios in the Activity ratio, which are asset turnover and accounts receivable turnover.

Asset Turnover

Asset turnover is calculated by dividing revenue by total assets (Gibson, 2009). The Asset turnover ratio of OHC in 2009 is 139.5% which is too good but it is much declined to 105.2% in 2010. This means that OHC has utilized its assets in 2009 more than in 2010. This is showing decline trend in the performance of the OHC. However in individual years Asset turnover is good in 2009 but acceptable in 2010.

Accounts Receivable Turnover

Account receivable turnover have two components, one is how many times an organization receives its receivable and another component is after how many days an organization receives its receivable (Bull, 2008). In 2009, OHC is receiving its receivable 11.7 times in the year which is too good but in 2010, OHC is receiving only 6.8 times in the year. OHC has to improve its recovery department. And as far as Accounts Receivables turnover’s second component is concerned, it’s also too bad. OHC is receiving receivables after 31 days which is good but its increasing by 2010. Which is showing bad condition, OHC is recovering after 57 days which is approximately two months.

Overall, as OHC has much cash or liquid assets available. So at least this bad performance may not lead to deficit in available cash.

Profitability Ratio

Profitability ratios measure the ability of an organization to generate profit as compared to its cost of the period and other relevant expenses incurred (Bull, 2008). There is no fix standard for profitability ratios. Performances are judged after comparing the percentages with the percentages of competitors or with the previous year or period’s percentage. Some of the examples of Profitability ratio are Return on asset and net profit margin.

Return on Asset

Return on asset is calculated by dividing revenue by total assets. Return on asset of OHC 130% in 2009 and 100.4% in 2010. This declined trend shows bad performance of OHC.

Net Profit Margin

Net Profit Margin is calculated by dividing net profit by revenue. OHC has good net profit margin in 2009 which is 64.4%. This percentage has increased in 2010 which is 68.9%. It means that OHC has controlled its operating expenses. The increase in percentage of net profit margin shows good performance of OHC.

Conclusion

The performance of OHC is very good as far as its liquidity is concerned. The results of liquidity ratios are very impressive and show that OHC can easily face all the problems relating to liquidity. In-fact there is some surplus in quick assets. But results of capital structure ratios show that the OHC is standing at risky position. OHC may face some problems in raising funds in future. The results of Profitability ratios are not much good. OHC is not utilizing its assets properly as compared to last year. But OHC has performed well and increased its net profit margin.

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