My course is Financial Management of HealthCare Organizations.
Discussion Board-Module 6:
In the Cost Variance Analysis chapter, Chapter 17 of our text, two important concepts relating to Classical Statistical Theory and Decision Theory are covered. Please review and discuss your experience with these theories and how the application could be applied to your work place 1. (Classical Statistical Theory) Discuss how the calculation of the coefficient of variation (ratio of the standard deviation to the mean) can be applied in budget variance analysis and what budget models is the application best applied. 2. (Decision Theory) Discuss how sensitivity analysis can be utilized in cost control using examples when preventative or detective objective measure values are not available.
Respond to at least 2 classmate (appx. 50 – 100 words).
My first classmate :
1. A coefficient of variation (CV) is a statistical measure of the dispersion of data points in a data series around the mean. The coefficient of variation is a useful statistic for comparing the degree of variation from one data series to another. How this relates to the budgeting is through “large values for a coefficient of variation in a budgeting context imply large control limit corridors by setting both the upper and lower limits of the variation for some time. ” (Cleverly, et al., 2011). By doing this, the company is creating a control limit corridors if the coefficient of variation that falls within the control limits not investigated. However, if the coefficient falls outside the control limits, that means something went wrong, and there will be an investigation. Substantially, the coefficient of variation with the help of control limits helps determine what the best investment is (Cleverly, et al., 2011)
– Sensitivity analysis is defined as “a technique used to determine how different values of an independent variable impact a particular dependent variable under a given set of assumptions” (Investopedia, n.d.). Sensitivity analysis involves changing values of variables in cost-benefit analysis in order to determine the effects on net present value (NPV). Sensitivity analysis shows the normally used value of the benchmark of NPV, which are profitability measures changes with changes in variables affecting them.
– On the other hand, preventive measures are actions taken to prevent something from happening. Detective measures are indicators that something bad has already happened. It means that the cost will have exceeded the projected value. Preventive and detective sensitivity analysis is used to determine the riskiness of a project. If NPV is very sensitive to changes in variables affecting it, then the project is risky.
This is how it works: in the absence of preventive or detective measure, sensitivity analysis can be used to control costs by showing how marginal a project is. For example, if a slight change in prices of inputs or outputs makes positive NPV be negative, then the project is said to be marginal. In this case, project sensitivity analysis demands that proper cost control be introduced to control the marginality of a project such as proper management of the distribution cost, which may affect prices of a commodity.
Cleverley, W. O., Cleverley, J. O., & Song, P. H. (2011). Essentials of health care finance (7th ed.). Sudbury, MA: Jones & Bartlett Learning
Investopedia. (n.d.). Coefficient Of Variation – CV. Retrieved from http://www.investopedia.com/terms/e/excesskurtosis.asp
My second classmate :
When it comes to the classical statistical theory approach, there is a direct emphasis on using a control chart to monitor “a physical process of comparing output observation with predetermined tolerance limits.” What this means is that financial managers have the ability to forecast outcomes much more effectively and efficiently. This is actually something that I currently train in my position today. During my training, I work with managers to show them how to run reports that can depict this forecast information. These reports give managers the opportunity to identify revenue based on various filtering criteria. This reporting package allows for detailed analysis of revenue and usage information. Essentially, the purpose of this is to not only monitor gross revenue performance but also to ensure timely capture of patient information. In essence, this workflow provides for detailed revenue measurement across timeframes, changes, and organizational changes. Metrics are measured against projected performance with variances outlined by owner. Ultimately, this allows financial managers to drill down using percentages to baselines or percent to targets to view specific value via color scheme thresholds. Ultimately, this type of control chart can detect when a situation is likely out of control, especially when there are huge variances.
With the classical statistical theory, the coefficient of variation determines the volatility of an investment, and “it helps to determine the amount of volatility in comparison to the expected return rate of investment. Dividing the volatility, or risk, by the absolute value of the investment’s expected return, determines the COV” (Investopedia).
According to Business Management Ideas, when it comes to the decision theory, “Sensitivity analysis, as a technique, attempts to make the strategist more aware of the ‘states of nature’ and of their impacts on business situations” (Business Management Ideas). In my current position, this is something that I have to be considerate of always. Every decision that I take, I have to ensure that I am aware of the impact it will have, especially during the training of my end-users. Moreover, “The desired result may be to maximize profit, revenue, or market share or to minimize costs, absenteeism, defective output, etc”(Business Management Ideas).