Compute the worth of Arcadia Hospital in 2005 using rules of thumb, adjusted book value, and discounted cash flow valuation (for this final method, use the table provided). Assume the cash flow for 2005 is the same as 2006. ($655 million)
1) Rules of thumb:
2) Adjusted book value:
3) Discounted cash flow:
Cash Flow amount
Capitalization Rate
6%
8%
10%
12%
Value
Part II: Compare your findings for each valuation method, and discuss any differences or similarities between the calculated values. What method do you think gives the most accurate picture of the worth of Arcadia in 2005? Explain your answer.
1) Rules of thumb: The worth of a hospital can be estimated using certain industry-specific rules of thumb, such as a multiple of revenue, net income, or EBITDA (earnings before interest, taxes, depreciation, and amortization). However, since the question does not provide any specific rule of thumb, we cannot calculate the worth of Arcadia Hospital using this method.
2) Adjusted book value: The adjusted book value is calculated by taking the net book value of the hospital's assets and adjusting it for any over- or under-valued items. To calculate the worth of Arcadia Hospital using this method, we need the balance sheet or financial statements of the hospital for the year 2005.
If we have access to these financial statements, we can find the net book value of Arcadia Hospital's assets for 2005. Then, we need to adjust this value based on any significant changes in the market value of assets since the time of purchase. For example, if the hospital acquired a piece of equipment for $1 million in 2000, but the current market value of that equipment is $1.5 million, we would make a positive adjustment of $0.5 million to the net book value.
Once we have the adjusted net book value, we can consider factors such as the hospital's reputation, location, growth prospects, and industry conditions to arrive at an estimated worth.
3) Discounted cash flow: The discounted cash flow (DCF) valuation method considers the future expected cash flows of a hospital and discounts them to their present value using a discount rate. In this case, we are given the cash flow for 2006, which is $655 million. To estimate the worth of Arcadia Hospital in 2005 using DCF, we need to discount the cash flow of 2006 to its present value in 2005.
To do this, we choose an appropriate discount rate based on the riskiness of investing in the hospital. In the question, four capitalization rates are provided: 6%, 8%, 10%, and 12%. These rates represent the required return or discount rate that an investor would apply to the future cash flows.
Using the chosen capitalization rate, we calculate the present value of the cash flow for 2006 by dividing the cash flow by (1 + discount rate)^number of years between 2006 and 2005.
For example, using a discount rate of 8%, the present value of the cash flow for 2006 would be $655 million / (1 + 0.08)^1 = $605.09 million. Therefore, the estimated worth of Arcadia Hospital in 2005 using DCF with a capitalization rate of 8% would be approximately $605.09 million.
Part II: To compare the findings for each valuation method, we would need to have the calculated values for the adjusted book value method and the DCF method using each of the provided capitalization rates.
However, based on the information given, it is not possible to determine which method gives the most accurate picture of the worth of Arcadia Hospital in 2005. Each method has its own limitations and assumptions, and the accuracy of the valuation depends on the quality of data and the appropriateness of the assumptions made. Without further information and calculations, it is not possible to determine the accuracy of each method for this specific case.