RIDEOUT HEALTH. November 13,2015. Ms. Samantha K. Yang Account Associate Wells Fargo Bank, N.A. 625 Marquette Avenue Minneapolis, MN 55402

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1 RIDEOUT HEALTH November 13,2015 Ms. Samantha K. Yang Account Associate Wells Fargo Bank, N.A. 625 Marquette Avenue Minneapolis, MN Re: City of Marysville Insured Revenue Bonds (The Fremont-Rideout Health Group) Series 2003A CSCDA - Insured Revenue Bonds (The Fremont-Rideout Health Group) Series 2006A City of Marysville, California Revenue Bonds (The Fremont-Rideout Health Group) Series 2011 Dear Samantha: In accordance with Section 3.11 (b) and (c) of the Master Indenture, and Section 3 of the Continuing Disclosure Agreements of Series 2003A, 2006A, and 2011 please find enclosed the audited combined financial statements of The Fremont-Rideout Health Group (Attachment 1) and the Annual Report schedules (Attachments 2-5). Please note that Attachment 6 has been intentionally omitted and will be provided within the next few weeks well in advance of the December i h deadline. Management is planning on tentatively scheduling a bondholder's conference call on December 9, 2015 to discuss the results from operations for fiscal year The details of the conference call will become available at a later time when we provide you Attachment 6. It is our understanding that Wells Fargo Bank will provide copies of our Annual Report to each Repository as required by the Continuing Disclosure Agreement, and will send a report to us certifying that the Annual Report has been provided pursuant to the Continuing Disclosure Agreement. If you have any questions regarding our financial statements or annual report, please do not hesitate to call me at (530) Chief Financial Officer Enclosures cc: Ed Gonzalez Director, Financial Services 989 Plumas Street, Yuba City, CA T F rideouthealth.org

2 To the Board of Directors The Fremont-Rideout Health Group, Rideout Memorial Hospital, and United Com-Serve We have audited, in accordance with auditing standards generally accepted in the United States of America, the consolidated statement of financial position of The Fremont-Rideout Health Group and Affiliates (the Group) as of June 30, 2015, and the related consolidated statements of operations and changes in net assets and cash flows for the year then ended and have issued our report thereon dated October 6, The aforementioned consolidated financial statements of the Group included the consolidated statement of financial position of The Fremont-Rideout Health Group, Rideout Memorial Hospital, and United Com-Serve (the Obligated Group) as of June 30, 2015, and the related consolidated statements of operations and changes in net assets, and cash flows for the year then ended. In connection with our audit, nothing came to our attention that caused us to believe that any Default or Event of Default [as defined in (1) Financial Covenants and pursuant to that certain Master Indenture of Trust, dated as of November 1, 1986, among The Fremont-Rideout Health Group (formerly known as United Communities Medical Services), Fremont Medical Center (formerly known as Fremont Hospital), Rideout Memorial Hospital (formerly known as Rideout Hospital Foundation), collectively, as borrowers, and Wells Fargo Bank, N.A., successor to Mellon Bank, N.A., as Master Trustee, as amended and supplemented pursuant to that certain Supplemental Master Indenture for Obligation No. 8, dated as of December 1, 2003, and as amended through Master Lease-Purchase and Sublease-Purchase Agreement No dates as of October 7, 2011, and in (2) Appendix C to Supplement to Official Statement, dated November 1, 2011, for $112,460,000 City of Marysville, California Revenue Bonds (the Fremont-Rideout Health Group) Series 2011] had occurred with the terms, covenants, provisions, or conditions of the agreements insofar as such Default or Event of Default relate to the financial covenants. However, our audit was not primarily directed toward obtaining knowledge of such Default or Events of Default. This report is intended solely for the information and use of the Board of Directors and management of the Obligated Group and Wells Fargo Bank, N.A. and is not intended to be and should not be used by anyone other than these specified parties. Sacramento, California October 6, 2015

3 THE FREMONT-RIDEOUT HEALTH GROUP CERTIFICATE OF NO DEFAULT I, Tarun K. Ghosh, hereby certify that I am the duly elected Chief Financial Officer of The Fremont-Rideout Health Group (the "Corporation"), a non-profit public benefit corporation organized and existing under and by virtue of the laws of the State of California, and that as such I am authorized to execute this Certificate on behalf of the Corporation. In accordance with Section 3.7(b) of the Master Indenture of Trust, I hereby certify that, we have calculated Income Available for Debt Service and Maximum Annual Debt Service (as those terms are defined in the Master Indenture of Trust) for the fiscal year ended June 30, 2014 and the results of those calculations are as follows: Income Available for Debt Service $ 15,437,000 Maximum Annual Debt Service $10,272,000 Long-Term Debt Service Coverage Ratio 1.50 In accordance with Section 3.11(c)(ii) of the Master Indenture of Trust, I hereby certify that, without undertaking an independent investigation or obtaining an Opinion of Counsel, nothing has come to my attention, which would lead me to believe that any Event of Default has occurred IN WITNESS WHEREOF, I have hereto set my hand this 13 1h day of November THE FREM By:_=~:...::...:...=== Tarun K. Ghosh Chief Financial Officer

4 THE FREMONT-RIDEOUT HEALTH GROUP Obligated Group Annual Report - Attachment 2 Fiscal Year Ended June 30, 2015 Members of the Obligated Group at June 30, 2015 The Fremont-Rideout Health Group Rideout Memorial Hospital United Com-Serve Health Facilities Owned and Operated: Licensed Staffed Licensed Staffed Licensed Staffed Beds Beds Beds Beds Beds Beds Rideout Memorial Hospital Intensive Care General Acute Care Fremont Medical Center Perinatal Pediatric Intensive Care NICU General Acute Care

5 THE FREMONT-RIDEOUT HEALTH GROUP Obligated Group Annual Report - Attachment 3 Fiscal Year Ended June 30, 2015 Debt Service Coverage Ratio June 30, 2015 June 30, 2014 June 30, 2013 Excess of revenues over expenses (23,652) 34,681 25,219 Depreciation and amortization 12,689 11,549 10,289 Interest expense 1,048 1,108 1,329 Change in Fair Value of Swaps (11) (1,107) (3,394) Change in Net Unrealized Gains/Losses in Securities 25,363 (21,515) (9,006) Income available for debt service 15,437 24,716 24,437 Maximum long-term debt service 10,272 10,272 10,272 Debt service coverage ratio Minimum long-term debt service coverage ratio required by Section 3.07(a) Capitalization Long-term debt, less current installments 144, , ,374 Unrestricted net assets 406, , ,037 Total capitalization 550, , ,411 Long-term debt as a percentage of capitalization 26.2% 25.5% 28.1%

6 THE FREMONT-RIDEOUT HEALTH GROUP Obligated Group Annual Report - Attachment 4 Fiscal Year Ended June 30, 2015 Sources of Patient Service Revenue: Medicare 50% 49% 49% Medi-Cal/CMSP 28% 26% 25% Contract Insurance 16% 16% 16% Private Insurance 1% 2% 2% Self-Pay 3% 5% 6% Other Government 2% 2% 2% Total 100% 100% 100%

7 THE FREMONT-RIDEOUT HEALTH GROUP Obligated Group Annual Report - Attachment 5 Fiscal Year Ended June 30, 2015 Utilization Data: June 30, 2015 June 30, 2014 June 30, 2013 Acute Care Licensed Beds Discharges 10,973 12,152 12,452 Patient Days 50,436 52,501 52,560 Average Daily Census Average Length of Stay Percent Occupancy 59.3% 61.7% 61.8% Emergency Room Visits 57,690 54,984 52,553 Outpatient Visits (Excluding Clinics) 73,739 81,876 86,713 Outpatient Clinic Visits 99,659 82,038 22,516

8 Report of Independent Auditors, Consolidated Financial Statements, and Supplemental Schedules The Fremont-Rideout Health Group and Affiliates June 30, 2015 and 2014

9 CONTENTS REPORT OF INDEPENDENT AUDITORS 1 2 PAGE CONSOLIDATED FINANCIAL STATEMENTS Consolidated statements of financial position 4 5 Consolidated statements of operations and changes in net assets 6 7 Consolidated statements of cash flows 8 9 Notes to consolidated financial statements SUPPLEMENTAL SCHEDULES Consolidating statement of financial position Consolidating statement of operations and changes in net assets 34 36

10 To the Board of Directors The Fremont Rideout Health Group and Affiliates Report on Financial Statements REPORT OF INDEPENDENT AUDITORS We have audited the accompanying consolidated financial statements of The Fremont Rideout Health Group and Affiliates, which comprise the consolidated statements of financial position as of June 30, 2015 and 2014, and the related consolidated statements of operations and changes in net assets, and cash flows for the years then ended, and the related notes to the consolidated financial statements. Management s Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of consolidated financial statements that are free from material misstatement, whether due to fraud or error. Auditor s Responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the auditor s judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that the audit evidence obtained is sufficient and appropriate to provide a basis for our audit opinion. 1

11 Opinion In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of The Fremont Rideout Health Group and Affiliates as of June 30, 2015 and 2014, and the results of its operations and its cash flows for the years then ended in accordance with accounting principles generally accepted in the United States of America. Other Matter Our audit was conducted for the purpose of forming an opinion on the consolidated financial statements as a whole. The supplemental schedules on pages 32 through 36 are presented for purposes of additional analysis and are not a required part of the consolidated financial statements. Such information is the responsibility of management and was derived from and relates directly to the underlying accounting and other records used to prepare the consolidated financial statements. The supplemental schedules have been subjected to the auditing procedures applied in the audit of the consolidated financial statements and certain additional procedures, including comparing and reconciling such information directly to the underlying accounting and other records used to prepare the consolidated financial statements or to the consolidated financial statements themselves, and other additional procedures in accordance with auditing standards generally accepted in the United States of America. In our opinion, the supplemental schedules are fairly stated in all material respects in relation to the consolidated financial statements as a whole. Stockton, California October 6,

12 CONSOLIDATED FINANCIAL STATEMENTS

13 CONSOLIDATED STATEMENTS OF FINANCIAL POSITION ASSETS JUNE 30, CURRENT ASSETS Cash and cash equivalents $ 51,596 $ 49,535 Current portion of assets whose use is limited 2,891 2,891 Patient accounts receivable, net of allowance for doubtful accounts of $19,276 in 2015 and $16,835 in ,797 44,478 Inventories 6,199 5,114 Prepaid expenses, deposits, and other current assets 33,532 12,533 Total current assets 143, ,551 ASSETS WHOSE USE IS LIMITED, net of current portion 204, ,351 PROPERTY, PLANT, AND EQUIPMENT, net 324, ,976 OTHER Deferred financing costs, net 1,388 1,496 Notes receivable, net of allowance Other 8,510 7,050 Total other assets 9,916 8,585 Total assets $ 681,254 $ 674,463 4 See accompanying notes to consolidated financial statements

14 CONSOLIDATED STATEMENTS OF FINANCIAL POSITION (CONTINUED) LIABILITIES AND NET ASSETS JUNE 30, CURRENT LIABILITIES Accounts payable and accrued expenses $ 64,805 $ 46,509 Third party settlements 11,080 1,091 Current maturities of long term debt 3,161 3,075 Total current liabilities 79,046 50,675 LONG TERM DEBT, less current maturities 144, ,371 OTHER LONG TERM LIABILITIES 12,706 13,253 Total liabilities 236, ,299 COMMITMENTS AND CONTINGENCIES (Note 10) NET ASSETS Unrestricted controlling 426, ,285 Unrestricted noncontrolling 16,799 14,037 Temporarily restricted 1,791 1,744 Permanently restricted Total net assets 445, ,164 Total liabilities and net assets $ 681,254 $ 674,463 See accompanying notes to consolidated financial statements 5

15 CONSOLIDATED STATEMENTS OF OPERATIONS AND CHANGES IN NET ASSETS YEARS ENDED JUNE 30, UNRESTRICTED NET ASSETS OPERATING REVENUE Patient service revenue, net of contractual allowances and discounts $ 377,575 $ 355,747 Provision for bad debts (16,815) (31,807) Net patient service revenue less provision for bad debts 360, ,940 Other operating revenue 3,034 3,819 Net assets released from restrictions Total operating revenue 364, ,226 OPERATING EXPENSES Salaries and employee benefits 176, ,820 Professional fees 63,565 52,556 Supplies 50,659 47,876 Purchased services 15,755 14,566 Repairs and maintenance 10,498 8,800 Insurance 3,215 2,381 Licenses, taxes, and other 45,220 15,804 Utilities 4,073 3,861 Depreciation and amortization 14,105 12,991 Rentals 2,623 2,615 Interest 1,048 1,108 Provision for doubtful accounts Total operating expenses 387, ,452 (Loss) income from operations (23,353) 15,774 NONOPERATING REVENUE AND (EXPENSE) Investment income 31,176 4,401 Change in net unrealized gains and losses on trading securities (25,378) 21,523 Change in fair value of interest rate swaps 11 1,107 Other (447) (616) Total nonoperating revenue 5,362 26,415 Total (loss) income (17,991) 42,189 Less income attributable to noncontrolling interests (2,763) (3,664) (Loss) income attributable to Fremont Rideout Health Group and Affiliates (20,754) 38,525 6 See accompanying notes to consolidated financial statements

16 CONSOLIDATED STATEMENTS OF OPERATIONS AND CHANGES IN NET ASSETS (CONTINUED) YEARS ENDED JUNE 30, UNRESTRICTED NET ASSETS (CONTINUED) (Loss) income attributable to Fremont Rideout Health Group and Affiliates (page 6) (20,754) 38,525 Benefit plan related changes other than net periodic benefit (cost) 901 (Decrease) increase in unrestricted controlling net assets (20,754) 39,426 Increase in unrestricted noncontrolling net assets 2,763 3,664 TEMPORARILY RESTRICTED NET ASSETS Contributions Net assets released from restrictions (383) (467) Increase in temporarily restricted net assets PERMANENTLY RESTRICTED NET ASSETS (Decrease) increase in net assets before distribution attributable to noncontrolling interest (17,944) 43,230 Distribution attributable to noncontrolling interest (9,800) (Decrease) increase in net assets (17,944) 33,430 NET ASSETS, beginning of year 463, ,734 NET ASSETS, end of year $ 445,220 $ 463,164 See accompanying notes to consolidated financial statements 7

17 CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED JUNE 30, OPERATING ACTIVITIES (Decrease) increase in total net assets before distribution to noncontrolling interest $ (17,944) $ 43,230 Adjustments to reconcile increase in net assets to net cash provided by operating activities Depreciation and amortization (including $341 in 2015 and $348 in 2014 of depreciation included in nonoperating revenue) 14,441 13,339 Gain on sale of property, plant, and equipment (2) Contributions and grants (392) (607) Change in net unrealized gains and losses on trading securities 25,378 (21,523) Change in fair value of interest rate swaps (11) (1,107) Provision for doubtful accounts 16,883 31,881 Net changes in operating assets and liabilities Patient accounts receivable (21,202) (38,515) Inventories (1,085) (1,014) Prepaid expenses, deposits, and other current assets (20,999) 6,390 Accounts payable and accrued expenses 18,296 2,747 Third party settlements 9,989 (17,722) Other, net (1,810) (7,061) Net cash provided by operating activities 21,544 10,036 INVESTING ACTIVITIES Purchase of property, plant, and equipment (73,426) (72,555) Sales of property, plant, and equipment 6 Purchases of assets whose use is limited (135,363) (91,047) Proceeds from sales of assets whose use is limited 192, ,975 Net change in notes receivable 21 1 Net decrease in other assets (186) (351) Net cash used in investing activities (16,800) (27,977) 8 See accompanying notes to consolidated financial statements

18 CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) YEARS ENDED JUNE 30, FINANCING ACTIVITIES Principal payments of long term debt (3,075) (2,970) Distribution to noncontrolling interest (9,800) Contributions and grants Net cash used in financing activities (2,683) (12,163) NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 2,061 (30,104) CASH AND CASH EQUIVALENTS, beginning of year 49,535 79,639 CASH AND CASH EQUIVALENTS, end of year $ 51,596 $ 49,535 SUPPLEMENTARY DISCLOSURES OF CASH FLOW INFORMATION Cash paid during the year for interest (including capitalized interest cost of $6,052 in 2015 and $6,084 in 2014) $ 7,116 $ 7,210 See accompanying notes to consolidated financial statements 9

19 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Organization The Fremont Rideout Health Group and Affiliates is a not for profit health care provider group headquartered in Yuba City, California, that includes a centralized support group and various health care related businesses operating in Northern California. Principles of consolidation The consolidated financial statements of The Fremont Rideout Health Group and Affiliates (the Group) include the accounts of the following entities: The Fremont Rideout Health Group (FRHG) Rideout Memorial Hospital (Rideout) United Com Serve (UCS) Fremont Rideout Foundation (FRF) FRD Management Company (FRD) Fremont Rideout Management Services Organization (MSO) FRHG, a nonprofit corporation, is the sole corporate member of Rideout, UCS, and MSO. Rideout, a nonprofit corporation, operates institutions to provide care, treatment, hospitalization, and other healthcare services. UCS, a nonprofit corporation, supports FRHG and Rideout. MSO, a for profit corporation, is primarily a durable medical equipment and supply company. FRF is a nonprofit corporation whose sole corporate member is Rideout and is organized to raise funds for Rideout. FRHG is also the majority partner in FRD, a limited liability company that owns and manages an outpatient cancer treatment center. Accordingly, the Group consolidates the accounts of the FRF, FRD, and MSO. During 2015, Rideout acquired one medical practice from a sole owner physician in Grass Valley, California for approximately $28. In 2014, Rideout acquired a number of medical practices from sole owner physicians in Yuba City and Grass Valley, California for approximately $460. The fair value of assets acquired included medical equipment, furniture, and supplies. At the time of acquisition, Rideout assumed no liabilities. No goodwill or intangible assets were recorded in conjunction with the associated acquisitions. The physicians simultaneously entered into employment contracts with Rideout Medical Associates, Inc. (RMA), an unrelated company, to provide services at the practices. Rideout has entered into a Professional Services Agreement (the PSA) with RMA for a term of three years effective November 19, Pursuant to the PSA, Rideout pays a monthly set compensation to RMA to cover physicians compensation. Other than physicians compensation, administrative and general expenses of the acquired medical practices are paid directly by Rideout. As a result of the acquisitions, the Group is expected to increase patient access to medical care facilities in the immediate and surrounding region. For years ended June 30, 2015 and 2014, the Group recorded $12,141 and $9,075 of net patient service revenue, $278 and $12 of other revenue, $15,392 and $12,606 of professional service fees, $8,673 and $6,012 of general and administrative expenses, and $11,646 and $9,531 of net loss from operations in its consolidated statements of operations and changes in net assets, respectively. All material intercompany balances and transactions among the members of the Group have been eliminated in consolidation. 10

20 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Use of estimates The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. Industry concentration The Group derives significant portions of its revenues from Medicare (50% in 2015 and 2014), Medicaid (Medi Cal) (28% and 26% in 2015 and 2014, respectively), and other third party programs (19% in 2015 and 2014). The receipt of future revenues by the Group is subject to, among other factors, federal and state policies affecting the health care industry. Future revenue uncertainties may require that costs be controlled, subject to the capability of management and future economic conditions, which may include an inability to control expenses in periods of inflation, increased competition, and other conditions that are difficult to predict. Cash and cash equivalents Cash and cash equivalents include cash in banks and short term investments with a maturity, at date of purchase, of three months or less (excluding assets whose use is limited). Concentration of credit risk Financial instruments that potentially subject the Group to concentrations of credit risk include cash and cash equivalents, assets whose use is limited (primarily cash and cash equivalents, certificates of deposit, marketable equity, and debt securities), and patient accounts receivable. The Group places certain amounts of its cash in banks that are federally insured in limited amounts and in investment grade debt instruments, many of which are backed by the United States Government (U.S. Government) or other government agencies. Investments are purchased through an investment broker and are diversified to limit the concentration of investment risk. 11

21 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Concentration of credit risk (continued) Patient accounts receivable are reduced by an allowance for doubtful accounts. In evaluating the collectability of accounts receivable, the Group analyzes its past history and identifies trends for each of its major payor sources of revenue to estimate the appropriate allowance for doubtful accounts and provision for bad debts. Management regularly reviews data about these major payor sources of revenue in evaluating the sufficiency of the allowance for doubtful accounts. For receivables associated with services provided to patients who have third party coverage, the Group analyzes contractually due amounts and provides an allowance for doubtful accounts and a provision for bad debts, if necessary (for example, for expected uncollectible deductibles and copayments on accounts for which the third party payor has not yet paid, or for payors who are known to be having financial difficulties that make the realization of amounts due unlikely). For receivables associated with self pay patients (which includes both patients without insurance and patients with deductible and copayment balances due for which third party coverage exists for part of the bill), the Group records a significant provision for bad debts in the period of service on the basis of its past experience, which indicates that many patients are unable or unwilling to pay the portion of their bill for which they are financially responsible. The difference between the standard rates (or the discounted rates if negotiated) and the amounts actually collected after all reasonable collection efforts have been exhausted is charged off against the allowance for doubtful accounts. The Group s allowance for doubtful accounts for self pay patients remained the same at 96% of self pay accounts receivable at June 30, 2015 and The Group s primary concentration of credit risk is patient accounts receivable, which is a result of granting credit without collateral to its patients, most of whom are local residents and are insured under third party payor agreements. The Group manages the receivables by regularly reviewing its patient accounts and contracts and by providing appropriate allowances for uncollectible accounts. The mix of receivables is as follows: YEARS ENDED JUNE 30, Medicare 30% 34% Medi Cal 44% 37% Other third party payors 22% 18% Self pay 4% 11% Total 100% 100% Due to the inherent variability in this area, there is at least a reasonable possibility that recorded estimates will differ in the near term. 12

22 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Inventories Inventories, which consist principally of medical and other supplies, are stated on the basis of cost determined by the first in, first out method, which is not in excess of market. Assets whose use is limited Assets whose use is limited include assets designated by the Board of Directors (the Board) for future capital improvements over which the Board retains control and assets held by trustees under bond indenture agreements. Debt service funded through June 30, 2015 has been reclassified to current assets in the consolidated statements of financial position. Assets whose use is limited consist primarily of cash and cash equivalents, certificates of deposit, marketable equity, and debt securities. Investments in marketable equity securities with readily determinable fair values and all investments in marketable debt securities are measured at fair value in the consolidated statements of financial position. Investment income or loss (including realized gains and losses on investments, interest, and dividends) is included in income unless restricted by donor or law. Property, plant, and equipment Property, plant, and equipment are carried at cost, except for donated property and equipment, which is recorded at fair market value at the time of donation if the contribution is made by an unrelated entity, and at carrying value if transferred from a related, controlled entity. Depreciation is computed using the straight line method over the estimated useful life of the asset. When assets are retired or otherwise disposed of, the cost and related accumulated depreciation are removed from the accounts, and any resulting gain or loss is recognized. The cost of maintenance and repairs is charged to expense as incurred; significant renewals and betterments are capitalized. Certain interest costs incurred on borrowed funds during the period of construction of capital assets, net of related interest income, are capitalized as a component of the cost of acquiring those assets. Asset impairment The Group periodically evaluates the carrying value of its long lived assets for impairment. The evaluations address the estimated recoverability of the assets carrying value, which is principally determined based on projected undiscounted cash flows generated by the underlying tangible assets. When the carrying value of an asset exceeds estimated recoverability, asset impairment is recognized. 13

23 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Deferred financing costs The costs associated with the issuance of long term bonds are deferred and amortized ratably over the terms of the bonds. Net assets Net resources that are not restricted by donors are included in unrestricted net assets. Unrestricted net assets may be designated for use by the Board of Directors of the Group. Such designations limit the area of Group operations for which expenditures of designated net assets may be made. Resources restricted by donors for a specified time or purpose are reported as temporarily restricted net assets. When the specific purposes are achieved, either through passage of a stipulated time or the purpose for restriction is accomplished, they are released to other support in the consolidated statement of operations and changes in net assets. Resources temporarily restricted by donors for additions to property, plant, and equipment are initially reported as temporarily restricted net assets and are transferred to unrestricted net assets when expended. However, if a restriction is fulfilled in the same period in which the contribution is received, the Group reports support as unrestricted. Donor imposed restrictions, which stipulate that the resources be maintained permanently, are reported as permanently restricted net assets. Investment income related to temporarily or permanently restricted net assets is classified as either temporarily restricted or unrestricted based on the intent of the donor, or is added to permanently restricted net assets if required by the donor. The Board of Directors of the Group has interpreted the Uniform Prudent Management of Institutional Funds Act (UPMIFA) as requiring the preservation of the fair value of the original gift as of the gift date of the donor restricted endowment funds, absent explicit donor stipulations to the contrary. As a result of this interpretation, FRF classifies as permanently restricted net assets (a) the original value of gifts donated to the permanent endowment, (b) the original value of subsequent gifts to the permanent endowment, and (c) accumulations to the permanent endowment made in accordance with the direction of the applicable donor gift instrument at the time the accumulation is added to the fund. The remaining portion of the donor restricted endowment fund that is not classified in permanently restricted net assets is classified as temporarily restricted net assets until those amounts are appropriated for expenditure by the organization in a manner consistent with the standard prudence prescribed by UPMIFA. The Group follows the Board adopted investment and spending policies for endowment assets that attempt to provide a predictable stream of funding to the program supported by its endowment while seeking to maintain purchasing power of the endowment assets. Endowment assets include those assets of donor restricted funds that the Group must hold in perpetuity. Donor gifts Unconditional promises to give cash or other assets are reported at fair market value at the date the promises are received. Conditional promises to give and indications of intentions to give are reported at fair market value when the conditions are met. There were no conditional promises at June 30, 2015 and

24 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Net patient service revenue The Group has agreements with third party payors that provide for payments at amounts different from established rates. Payment arrangements include prospectively determined rates per discharge or encounter, reimbursed costs, and discounted charges. Net patient service revenue is reported at estimated net realizable amounts from patients, third party payors, and others for services rendered, including estimated retroactive adjustments under reimbursement agreements with third party payors. Retroactive adjustments are accrued on an estimated basis in the period the related services are rendered and adjusted in future periods as final settlements are determined. Charity care The Group provides medical services to patients who meet certain criteria under its charity care policy without charge or for amounts at less than established rates. In determining each patient s ability to pay, the Group references the patient s earnings to poverty income criteria set by the Medicaid program and considers whether the charges incurred are beyond the patient s ability to pay. Since collection is not pursued for services that qualify as charity care, charges for these services are not reported as revenue in the consolidated financial statements. The total charity care at cost amounted to $288 and $137 during 2015 and 2014, respectively. The Group modified its charity care or uninsured discount policies during fiscal year Performance indicator Income as reflected in the accompanying consolidated statement of operations and changes in net assets is a performance indicator. Income includes changes in unrestricted net assets other than contributions of long lived assets and benefit plan related changes. Medical malpractice The Group purchases professional and general liability insurance coverage from a multiprovider captive insurance company to cover medical malpractice claims. The policy is a claimsmade policy covering losses up to $5,000 per claim and $15,000 in aggregate, with a $50 per claim deductible. The Group also purchases excess professional liability insurance coverage of $20,000 per incident and $20,000 in aggregate over the captive insurance retention amounts. The Group intends to maintain these coverages on a continuous basis. Losses from claims incurred but not reported during the coverage period and claims identified under the Group s incident reporting system are accrued. As of June 30, 2015 and 2014, a total of $2,191 (net of $4,715 of related insurance claims receivable) and $1,436 (net of $3,560 of related insurance claims receivable), respectively, was recorded in accrued expenses and other long term liabilities related to medical malpractice claims. The reserve is based on actuarially determined estimates that incorporate past experience, as well as other considerations including the nature of each claim or incident and relevant trend factors using a discount rate of 4% in 2015 and Given the inherent variability of such estimates, the actual liability could differ significantly from the amounts provided. Accordingly, there is at least a reasonable possibility that a material change to the estimated reserves could occur in the near term. 15

25 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Workers compensation plan Effective January 1, 2002, the Group is self insured for workers compensation claims up to a $250 deductible under an occurrence form insurance policy. The Group s workers compensation insurance policy requires the Group to establish letters of credit totaling $3,180 for June 30, 2015 and 2014, with a financial institution for claims payments that fall below the policy deductible limit and that are initially paid by the insurance company and later reimbursed by the Group. The estimate of incurred but not reported claims is based on projections for the ultimate cost of settlement, including claim settlement expenses, using the Group s historical claim payment experience and a discount rate of 4% in 2015 and The estimated liability is continually monitored and reviewed and, as settlements are made or estimates are adjusted, differences are reflected in current operations. Given the inherent variability of such estimates, the actual liability could differ significantly from the amounts provided. Accordingly, there is at least a reasonable possibility that a material change to the estimated reserves could occur in the near term. While the ultimate payments of self insured workers compensation claims are dependent upon future developments, management is of the opinion that the recorded reserves are adequate. As of June 30, 2015 and 2014, a total of $3,589 (net of $3,279 of related insurance claims receivable) and $2,852 (net of $2,869 of related insurance claims receivable), respectively, was recorded under accrued expenses and other long term liabilities related to the Group s workers compensation plan. Self insurance of health care benefits Effective January 1, 2011, the Group began providing a selfinsurance program for employees health and dental benefits. The Group has self insurers reinsurance agreements with an insurance company for a specific stop loss limit policy of $175 and an annual aggregate of $278. Losses from medical and dental claims incurred but not reported during the coverage period are accrued. As of June 30, 2015 and 2014, a total of $1,965 and $1,930, respectively, was recorded in accrued expenses related to medical and dental insurance claims. The reserve is based on actuarial determined estimates that include incurred but not reported claims as well as historical experience. Income taxes The affiliates of the Group, with the exception of FRD and MSO are tax exempt organizations under Section 501(c)(3) of the Internal Revenue Code and 23701(d) of the California Revenue and Taxation Code. They are, however, subject to income taxes from activities unrelated to their tax exempt purpose. In the event the Group had a tax provision that was uncertain of being sustained, the Group would apply the minimum probability threshold specified in the Accounting for Uncertainty in Income Taxes topic of the Accounting Standards Codification to determine whether a financial statement liability or benefit should be recognized. There were no uncertain tax positions at June 30, 2015 and FRD is not subject to federal income taxes, as it is a limited liability company between FRHG and University of California Davis Health System. Since there is no limited liability company level income tax, the Accounting Standards Codification s standards for Accounting for Uncertainty in Income Taxes topic do not apply. Instead, the members separately account for their pro rata share of the FRD s items of income, deductions, losses, and credits. 16

26 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Income taxes (continued) MSO is a taxable entity. Income taxes are accounted for using an asset and liability approach that requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial statement and tax basis of assets and liabilities at the applicable enacted tax rates. Deferred taxes relate primarily to differences in recorded amounts of bonus accruals for financial and income tax reporting and loss carryforward. The deferred taxes represent the future tax return consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled. A valuation allowance is provided when it is more likely than not that some portion or all of the deferred tax assets will not be realized. MSO evaluates the realizability of its deferred tax assets by assessing its valuation allowance and by adjusting the amount of such allowance, if necessary. The factors used to assess the likelihood of realization include the MSO's forecast of future taxable income and available tax planning strategies that could be implemented to realize the net deferred tax assets. Failure to achieve forecasted taxable income in applicable tax jurisdictions could affect the ultimate realization of deferred tax assets and could result in an increase in the MSO's effective tax rate on future earnings. MSO reports a liability for unrecognized tax benefits resulting from uncertain tax positions taken or expected to be taken in a tax return. MSO recognizes interest and penalties related to income tax matters in selling, general, and administrative expenses. As of June 30, 2015, MSO had not identified any uncertain tax positions requiring accrual or disclosure. MSO files income tax returns in the U.S. and various state and local jurisdictions. MSO is not subject to examination by U.S. federal authority for income tax return years prior to 2011 and state authority for years prior to Fair value of financial instruments The estimated fair value amounts of cash equivalents and assets whose use is limited approximate their carrying amounts in the consolidated financial statements and have been determined by the Group using available market information and appropriate valuation methodologies. The carrying amounts of cash equivalents approximate fair value due to the short maturity of those instruments. The fair value amounts of assets whose use is limited are determined based on quoted market prices and dealer quotes for similar investments (see Note 2 and Note 3). Considerable judgment is required to develop estimates of fair value. The use of different market assumptions and/or estimation methodologies may affect the estimated fair value amounts. The fair value estimates are based on pertinent information available to management as of June 30, 2015 and Accordingly, the estimates are not necessarily indicative of the amounts the Group could have realized in a current market exchange. Derivative instruments The Group uses interest rate swap agreements to manage its exposure to changing interest rates. The Group records on its consolidated statement of financial position the fair value of any interest rate swap, which is based on the settlement value of the swap at year end. Changes in the fair value of interest rate swaps are included in non operating revenue and expense in the consolidated statement of operations and changes in net assets (see Note 5). 17

27 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 ASSETS WHOSE USE IS LIMITED Assets whose use is limited that are required for obligations classified as current liabilities are reported in current assets. The composition of assets whose use is limited is as follows: JUNE 30, Board designated for future capital improvements Cash and cash equivalents $ 32,184 $ 36,531 Certificates of deposit 1,155 1,146 U.S. Government and agency securities 22,780 37,045 Mortgage backed securities 3,110 5,699 Corporate debt securities 40,946 52,085 Mutual funds 4,971 18,689 Marketable equity securities 98, , , ,738 Required under bond indenture agreements for principal, interest, and construction reserves Cash and cash equivalents 114 Required under bond indenture agreements for principal and interest reserves, held by trustee Cash and cash equivalents 2,891 2,891 Required under bond indenture agreements for construction reserves, held by trustee Cash and cash equivalents , , ,242 Less current portion (2,891) (2,891) $ 204,188 $ 286,351 Investment income and gains and losses on assets whose use is limited and cash and cash equivalents are comprised of the following: YEARS ENDED JUNE 30, Investment income Dividend and interest income $ 5,003 $ 6,280 Net realized (losses) gains on investments 26,173 (1,879) Total $ 31,176 $ 4,401 Change in net unrealized gains and losses on trading securities $ (25,378) $ 21,523 18

28 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 FAIR VALUE MEASUREMENT All financial assets and liabilities are recognized or disclosed at fair value in the consolidated financial statements on a recurring basis. Fair value is the price that would be received upon sale of an asset or paid upon the transfer of a liability in an orderly transaction between market participants at the measurement date and in the principal or most advantageous market for that asset or liability. The fair value should be calculated based on assumptions that market participants would use in pricing the asset or liability, not on assumptions specific to the entity. In addition, the fair value of liabilities should include consideration of non performance risk including Group s own credit risk. A fair value hierarchy for valuation inputs has been established to prioritize the valuation inputs into three levels based on the extent to which inputs used in measuring fair value are observable in the market. Each fair value measurement is reported in one of the three levels, which is determined by the lowest level input that is significant to the fair value measurement in its entirety. These levels are: Level 1 Level 2 Level 3 Quoted prices are available in active markets for identical assets or liabilities as of the measurement date. Financial assets in level 1 include cash and cash equivalents, mutual funds, and marketable equity securities which consist of common stocks stated at fair value as quoted on a recognized securities exchange and are valued at the last reported sales price on the measurement date. Pricing inputs are based on quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Financial assets in this category include U.S. Government and agency securities, mortgage backed securities, and corporate debt securities which are valued using thirdparty pricing services calculated utilizing observable market based data. Interest rate swaps are based on valuations received from the counterparties and corroborated by measurement date equivalent swap rates and are classified as level 2 liabilities. Pricing inputs are generally unobservable for the assets or liabilities and include situations where there is little, if any, market activity for the investment. The inputs into the determination of fair value require management s judgment or estimation of assumptions that market participants would use in pricing the assets or liabilities. The fair values are therefore determined using factors that involve judgment including private and public comparables, third party appraisals, discounted cash flow models, and fund manager estimates. The Group has no assets or liabilities categorized as level 3. 19

29 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 FAIR VALUE MEASUREMENT (CONTINUED) The fair value of assets whose use is limited and interest rate swaps measured on a recurring basis consist of the following: JUNE 30, 2015 Quoted Prices Significant in Active Other Markets for Observable Identical Assets Inputs (Level 1) (Level 2) Total ASSETS Cash and cash equivalents $ 36,038 $ $ 36,038 Certificates of deposit 1,155 1,155 U.S. Government and agency securities 22,780 22,780 Mortgage backed securities 3,110 3,110 Corporate debt securities 40,946 40,946 Mutual funds 4,971 4,971 Marketable equity securities 98,079 98,079 Total assets $ 139,088 $ 67,991 $ 207,079 JUNE 30, 2014 Quoted Prices Significant in Active Other Markets for Observable Identical Assets Inputs (Level 1) (Level 2) Total ASSETS Cash and cash equivalents $ 53,035 $ $ 53,035 Certificates of deposit 1,146 1,146 U.S. Government and agency securities 37,045 37,045 Mortgage backed securities 5,699 5,699 Corporate debt securities 52,085 52,085 Mutual funds 18,689 18,689 Marketable equity securities 121, ,543 Total assets $ 193,267 $ 95,975 $ 289,242 LIABILITIES Interest rate swap $ $ (11) $ (11) 20

30 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 FAIR VALUE MEASUREMENT (CONTINUED) The Group s assessment of the significance of a particular input to a fair value measurement requires judgment and may affect the classification of assets and liabilities within the fair value hierarchy. As of June 30, 2015, the level 2 instrument listed in the fair value hierarchy table above use the following valuation techniques and inputs: U.S. Government and agency securities The fair value of investments in U.S. Government and agency securities classified as level 2 is primarily determined using consensus pricing methods of observable market based data. Significant observable inputs include quotes, spreads, and data points for yield curves. Mortgage backed securities The fair value of mortgage backed securities classified as level 2 is primarily determined using matrices. These matrices utilize observable market data of bonds with similar features, prepayment speeds, credit ratings, and discounted cash flows. Additionally, observed market movements, tranche cash flows and benchmark yields are incorporated in the pricing models. Certificates of deposit and Corporate debt securities The fair value of the investment in certificates of deposit and corporate debt securities classified as level 2 is primarily determined using techniques that are consistent with the market approach. Significant observable inputs include reported trades, dealer quotes, security specific characteristics, and multiple sources of spread data points in developing yield curves. Interest rate swaps The interest rate swap fair value is based upon current settlement values, quoted market prices of comparable instruments, or, if there are no relevant comparables, on pricing models or formulas using current assumptions. 21