CONSOLIDATED FINANCIAL STATEMENTS CHRISTUS Health System March 31, 2012

Transcription

1 CONSOLIDATED FINANCIAL STATEMENTS CHRISTUS Health System March 31, 2012

2 CHRISTUS Health System Consolidated Financial Statements March 31, 2012 Contents Consolidated Financial Statements Consolidated Balance Sheets...1 Consolidated Statements of Operations and Changes in Net Assets...3 Condensed Consolidated Statement of Cash Flows...5 Notes to Consolidated Financial Statements...7

3 CHRISTUS Health System Consolidated Balance Sheets As of March 31, 2012 and June 30, 2011 (In Thousands) ASSETS March 31, June 31, (unaudited) CURRENT ASSETS Cash and cash equivalents $303,564 $418,376 Short-term investments 372, ,893 Equity in investments in managed funds 163, ,720 Assets whose use is limited, required for current liabilities 56,456 71,367 Patient accounts receivable, net of allowance for uncompensated care 350, ,652 Estimated third-party payor settlements 15, Notes and other receivables 70, ,705 Inventories 92,249 88,432 Assets held for sale 617 2,150 Security pledged to creditors 7,905 40,211 Security lending collateral 7,968 39,155 Other current assets 58,435 38,690 Total current assets 1,499,125 1,684,294 ASSETS WHOSE USE IS LIMITED OR RESTRICTED - less current portion 917, ,964 PROPERTY, PLANT, AND EQUIPMENT - Net of accumulated depreciation 1,745,134 1,786,833 OTHER ASSETS Investments in unconsolidated organizations 206, ,550 Derivative instruments 0 12,375 Goodwill, net of amortization 101,581 91,570 Other assets 78,033 81,073 Other restricted assets 15,138 13,453 Total other assets 401, ,021 TOTAL $4,563,234 $4,671,112 (Continued) 1

4 CHRISTUS Health System Consolidated Balance Sheets As of March 31, 2012 and June 30, 2011 (In Thousands) LIABILITIES AND NET ASSETS March 31, June 31, (unaudited) CURRENT LIABILITIES: Accounts payable and accrued expenses $346,708 $365,852 Accrued employee compensation and benefits 142, ,645 Accrued pension benefits 7,164 6,927 Estimated third party payor settlements 42,583 43,024 Current portion of long-term debt 47,342 57,904 Payable under security lending agreements 8,209 39,462 Long-term obligations subject to remarketing agreements 0 0 Total current liabilities 594, ,814 LONG-TERM DEBT - less current portion 1,133,561 1,175,036 ACCRUED PENSION BENEFITS - less current portion 105, ,446 DERIVATIVE INSTRUMENTS 111,724 72,348 OTHER LONG-TERM OBLIGATIONS - Primarily related to self-funded 183, ,428 liabillities - less current portion Total liabilities 2,128,626 2,221,072 NET ASSETS: Unrestricted: Attributable to CHRISTUS Health 2,240,652 2,261,844 Attributable to noncontrolling interest 118, ,249 Temporarily Restricted 59,096 61,396 Permanently Restricted 15,865 13,551 Total net assets 2,434,608 2,450,040 TOTAL $4,563,234 $4,671,112 2

5 CHRISTUS Health System Consolidated Statements of Operations and Changes in Net Assets For the Nine Months Ended March 31, 2012 and 2011 (In Thousands) March 31, March 31, (unaudited) (unaudited) UNRESTRICTED REVENUES: Net patient service revenue $2,568,017 $2,587,835 Premium revenue 126, ,467 Other revenue 115, ,862 Equity in income of unconsolidated organizations 21,215 26,252 Total Revenues 2,831,516 2,868,416 EXPENSES: Employee compensation and benefits 1,216,490 1,207,098 Services and other 764, ,054 Supplies 475, ,379 Depreciation and amortization 156, ,077 Provision for uncollectible accounts 156, ,458 Interest 33,166 32,631 Total Expenses 2,803,581 2,740,697 OPERATING GAIN 27, ,719 NONOPERATING INVESTMENT (LOSS)/GAIN (41,731) 122,500 OTHER NONOPERATING GAIN/(LOSS) 209 (19,315) REVENUES IN (DEFICIT)/EXCESS OF EXPENSES (13,587) 230,904 REVENUES IN EXCESS OF EXPENSES ATTRIBUTABLE TO NONCON 7,750 15,910 REVENUES IN (DEFICIT)/EXCESS OF EXPENSES ATTRIBUTABLE TO CHRISTUS HEALTH (21,337) 214,994 (Continued) 3

6 CHRISTUS Health System Consolidated Statements of Operations and Changes in Net Assets For the Nine Months Ended March 31, 2012 and 2011 (In Thousands) March 31, March 31, (unaudited) (unaudited) CHANGES IN UNRESTRICTED NET ASSETS: Revenues in excess of expenses attributable to CHRISTUS Health (21,337) 214,994 Net change in unrealized gain on investments (5,259) 5,766 Change in pension liabilities 5,517 14,137 Change in noncontrolling interest 5,746 7,823 Other (114) 4,981 CHANGES IN UNRESTRICTED NET ASSETS (15,447) 247,701 TEMPORARILY RESTRICTED NET ASSETS: Contributions 4,431 6,148 Net change in unrealized gain on investments (1,742) 1,895 Net assets released from restrictions and other (4,989) (8,884) CHANGES IN TEMPORARILY RESTRICTED NET ASSETS (2,300) (841) CHANGES IN PERMANENTLY RESTRICTED NET ASSETS 2, CHANGES IN NET ASSETS (15,432) 247,434 NET ASSETS - Beginning of period 2,450,040 2,186,779 NET ASSETS End of period $2,434,608 $2,434,213 See accompanying notes. 4

7 CHRISTUS Health System Consolidated Statements of Cash Flows For the Nine Months Ended March 31, 2012 and 2011 (In Thousands) March 31, March 31, (unaudited) (unaudited) Operating activities: Changes in net assets $ (15,432) $ 247,434 Adjustments to reconcile changes in net assets to net cash (used in) provided by operating activities: Change in pension liabilities (11,429) (13,466) Contributions of temporarily restricted net assets (4,431) (6,148) Equity in income of unconsolidated organizations (21,215) (26,252) Equity earnings on investments in managed funds (7,045) (15,344) Depreciation and amortization 156, ,077 Provision for uncollectible accounts 156, ,458 Change in derivative fair value 51,751 (38,498) Loss on early extinguishment of debt Gain on disposal of property, plant and equipment (2,326) (4,251) Impairment of long-lived assets - 6,446 Changes in operating assets and liabilities, net of acquisitions: Increase in net patient accounts receivable (193,467) (147,829) Increase in trading securities (13,806) (372,303) Decrease (increase) in notes and other receivables 54,957 (21,221) (Increase) decrease in inventories (3,817) 560 Decrease (increase) in other current assets 1,317 (4,671) (Decrease) increase in accounts payable, accrued expenses, and accrued employee compensation and benefits (32,321) 29,418 (Decrease) increase in net third-party payor settlements (14,618) 2,707 Increase in liability for self-funded liabilities 6,298 11,635 Net operating cash flows pertaining to assets held for sale - 17,369 Net cash provided by (used in) operating activities 107,755 (36,372) Investing activities: Purchases of property, plant, and equipment (126,091) (89,564) Proceeds from sale or disposal of property, plant, and equipment 6,058 2,072 (Increase) decrease in equity investments in managed funds (58,717) 29,020 Decrease in investments in unconsolidated organizations 3,256 15,211 Decrease in securities pledged to creditors 32,306 2,061 (Increase) decrease in other assets (20,280) 11,647 Decrease in security lending collateral 31,187 3,880 Net cash used in investing activities (132,282) (25,674) 5 (Continued)

8 CHRISTUS Health System Consolidated Statements of Cash Flows For the Nine Months Ended March 31, 2012 and 2011 (In Thousands) March 31, March 31, (unaudited) (unaudited) Financing activities: Contributions of temporarily restricted net assets $ 4,431 $ 6,148 Other costs associated with debt refinancing (645) (1,286) Proceeds from debt issuance - 99,725 Payments on long-term debt (62,818) (149,751) Decrease in payable under security lending agreements (31,253) (3,974) (90,285) (49,137) Net decrease in cash and cash equivalents (114,812) (111,183) Cash and cash equivalents beginning of year 418, ,263 Cash and cash equivalents end of period $ 303,564 $ 413,080 Noncash investing and financing transactions: Capital lease obligations incurred for property, plant and equipment $ 788 $ 13,517 Supplemental disclosure of cash flow information cash $ 41,879 $ 39,076 paid during the year for interest (net of amount capitalized) See accompanying notes. (Concluded) 6

9 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -UNAUDITED AS OF AND FOR THE NINE MONTHS ENDED MARCH 31, 2012 AND MARCH 31, MISSION, VISION, AND ORGANIZATION OF CHRISTUS HEALTH SYSTEM CHRISTUS Health was incorporated as a Texas nonprofit corporation on December 15, CHRISTUS Health (CHRISTUS or the System) is sponsored by the Congregation of the Sisters of Charity of the Incarnate Word of Houston, Texas and the Congregation of the Sisters of the Incarnate Word of San Antonio, Texas. The Congregation of the Sisters of Charity of the Incarnate Word of Houston, Texas sponsors the Sisters of Charity Health Care System (SCH), and the Congregation of the Sisters of Charity of the Incarnate Word of San Antonio, Texas sponsors the Incarnate Word Health System (IWHS). SCH and IWHS continue to exist and carry out their ministries. The mission of CHRISTUS Health is to extend the healing ministry of Jesus Christ. The Gospel values underlying the mission statement challenge CHRISTUS Health to make choices that respond to the economically disadvantaged and the underserved with health care needs. The growth and development of CHRISTUS Health are determined by the health care needs of the communities that CHRISTUS Health serves, its available resources, and the interrelationship of those serving and those being served. Responsible stewardship mandates that CHRISTUS searches out new, effective means to deliver quality health care and to promote wholeness in the human person. The vision of CHRISTUS Health is to be a leader, partner and advocate in the creation of innovative health and wellness solutions that improve the lives of individuals and communities so that all may experience God s healing presence and love. The consolidated financial statements of CHRISTUS Health include activities of its affiliated market-based organizations and other related entities, all of which are wholly or majority-owned and commonly referred to as regions or entities. For purposes of these consolidated financial statements, the System is defined as CHRISTUS Health s affiliated market-based organizations and other related entities. The other related entities include, but are not limited to, hospital foundations, professional office buildings, management services organizations, physician groups, a collection agency, self-insurance trusts, an offshore captive insurance company, health plans, integrated community health networks, and diagnostic imaging companies. CHRISTUS Health controls or owns, directly or indirectly, or manages various nonprofit and forprofit corporations and other organizations that currently operate in the states of Texas, Arkansas, Georgia, Louisiana, Missouri New Mexico, Iowa, and in the Republic of Mexico. CHRISTUS Health and certain affiliated nonprofit corporations are generally exempt from federal income taxes under Section 501(a) of the Internal Revenue Code, as organizations described in Section 501(c)(3). 7

10 2. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (GAAP) for interim financial information. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation have been included and are of a normal and recurring nature. Operating results for the nine months ended March 31, 2012, are not necessarily indicative of the results to be expected for the year ending June 30, For further information, refer to the audited consolidated financial statements and notes thereto for the year ended June 30, Basis of Consolidation- The consolidated financial statements include the accounts of all entities of the System (see Note 1). All significant inter-entity transactions and accounts have been eliminated in consolidation. 3. NEW ACCOUNTING PRONOUNCEMENTS In April 2009, the FASB issued a new accounting pronouncement regarding mergers and acquisitions for not-for-profit entities (formerly SFAS No. 164, Not-for-Profit Entities: Mergers and Acquisitions, including an amendment of FASB Statement No. 142 ). The pronouncement, found under ASC Topic 958, establishes principles and requirements for how a not-for-profit entity accounts for mergers and acquisitions. The pronouncement also makes FASB Statement No. 142, Goodwill and Other Intangible Assets, found under ASC Topic 350, and FASB Statement No. 160, Noncontrolling Interests in Consolidated Financial Statements, found under ASC Topic 810, fully applicable to not-for-profit entities. The pronouncement was effective for CHRISTUS on July 1, The System s adoption of the guidance in ASC Topic 350 resulted in the cessation of amortizing goodwill effective July 1, The System s adoption of the guidance in ASC Topic 350 resulted in the cessation of amortizing goodwill effective July 1, The transitional impairment analysis performed as of July 1, 2010, resulted in the impairment of $34,752,000 of goodwill, which is reflected as the effect of a change in accounting principle in the accompanying consolidated statement of operations and changes in net assets. ASC Topic 810 establishes accounting and reporting standards for the noncontrolling interest in an entity and for the deconsolidation of an entity. It clarifies that a noncontrolling interest in an entity is an ownership interest in the consolidated entity that should be reported as net assets in the consolidated financial statements. The System s adoption of the guidance in ASC Topic 810 on July 1, 2010, did not materially affect its financial position or results of operations, other than reclassifying its noncontrolling interest (previously shown as minority interest) in various entities to a component of net assets on the consolidated balance sheet. Additionally, noncontrolling interest expense is no longer reported as a reduction in revenues in excess of expenses on the consolidated statement of operations and changes in net assets, but instead is shown below revenues in excess of expenses under the heading revenues in excess of expenses attributable to noncontrolling interest on the statement of operations and changes in net assets for all periods presented 8

11 3. NEW ACCOUNTING PRONOUNCEMENTS (continued) In August 2010, the FASB issued ASU No , Health Care Entities (Topic 954): Presentation of Insurance Claims and Related Insurance Recoveries. The amendments in the ASU clarify that a health care entity may not net insurance recoveries against related claim liabilities. In addition, the amount of the claim liability must be determined without consideration of insurance recoveries. This ASU was effective for CHRISTUS on July 1, Due to the level of self retention for such claims, the adoption of this ASU did not have a material effect on the System s consolidated financial position at March 31, In July 2011, the FASB issued ASU , Health Care Entities (Topic 954): Presentation and Disclosure of Patient Service Revenue, Provision for Bad Debts, and the Allowance for Doubtful Accounts for Certain Health Care Entities. The amendments in the ASU require CHRISTUS to change the presentation of its consolidated statement of operations and changes in net assets by reclassifying the provision for bad debts associated with patient service revenue from an operating expense to a deduction from patient service revenue (net of contractual allowances and discounts). Additionally, the ASU requires enhanced disclosure about CHRISTUS policies for recognizing revenue and assessing bad debts, patient service revenue (net of contractual allowances and discounts), and qualitative and quantitative information about changes in the allowance for doubtful accounts. This ASU is effective for CHRISTUS on July 1, 2012, with early adoption permitted. CHRISTUS is currently evaluating the impact on its consolidated financial position and results of operations from the adoption of this pronouncement. 4. FAIR VALUE MEASUREMENTS In September 2006, the FASB issued authoritative guidance that provides enhanced guidance for using fair value to measure assets and liabilities, provides a common definition of fair value and establishes a framework to make the measurement of fair value in generally accepted accounting principles more consistent and comparable among entities. This guidance also expands the required disclosures concerning the extent to which fair value is used to measure assets and liabilities, the methods and assumptions used to measure fair value, and the effect of fair value measure on changes in net assets. The authoritative guidance establishes a three-level hierarchy for disclosure of fair value measurements. The valuation hierarchy is based on the transparency of inputs to the valuation of an asset or liability as of the measurement date. The three levels are defined as follows: Level 1 inputs to the valuation methodology are quoted prices for similar assets and liabilities in active markets. Level 2 inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument. Level 3 inputs to the valuation methodology are unobservable and significant to the fair value measurement. A financial instrument s categorization within the valuation hierarchy is based on the lowest level of input that is significant to the fair value measurement. 9

12 4. FAIR VALUE MEASUREMENTS (continued) The following table presents the financial instruments carried at fair value as of March 31, 2012 and June 30, 2011 (in thousands) by the valuation hierarchy (as described above): March 31, 2012 (unaudited) Level 1 Level 2 Level 3 Total Assets Investments Cash and cash equivalents $ 450,689 $ - $ - $ 450,689 Certificates of deposit 8, ,055 Domestic equities and equity funds 238, ,972 Preferred stocks 1, ,738 Fixed income securities and fixed income funds - 718, ,569 International equities 103, ,148 U.S. Government securities - 111, ,063 Other investments Total investments 802, ,228-1,632,830 Interest rate swap asset Total assets at fair value $ 802,602 $ 830,228 $ - $ 1,632,830 Liabilities Interest rate swap agreements $ - $ 111,724 $ - $ 111,724 Total Liabilities at fair value $ - $ 111,724 $ - $ 111,724 June 30, 2011 Level 1 Level 2 Level 3 Total Assets Investments Cash and cash equivalents $ 615,867 $ - $ - $ 615,867 Certificates of deposit 25,465-25,465 Domestic equities and equity funds 201,054 82, ,297 Preferred stocks 1, ,712 Fixed income securities and fixed income funds 547, ,914 International equities 110, ,466 U.S. Government securities 158, ,907 Other investments Total investments 954, ,161-1,743,725 Interest rate swap asset - 12,375-12,375 Total assets at fair value $ 954,564 $ 801,536 $ - $ 1,756,100 Liabilities Interest rate swap agreements $ - $ 72,348 $ - $ 72,348 Total Liabilities at fair value $ - $ 72,348 $ - $ 72,348 10

13 4. FAIR VALUE MEASUREMENTS (continued) The valuation methodologies used for instruments measured at fair value as presented in the table above are as follows: Investments Investments are valued at quoted prices available in an active market and are classified within level 1 of the valuation hierarchy. Investments valued based on evaluated bid prices provided by third-party pricing services where quoted market prices are not available are classified within Level 2 of the valuation hierarchy. Interest rate swap agreements Interest rate swap agreements are valued using third party models that use as their input observable market conditions and are classified within level 2 of the valuation hierarchy. 5. INVESTMENTS IN UNCONSOLIDATED ORGANIZATIONS Investments in Unconsolidated Organizations- The System has investments in certain organizations of which the System does not have a majority-ownership interest that do not require consolidation. These investments are recorded using the equity method of accounting. Baptist St. Anthony s Health System- CHRISTUS Health System has a 50% membership interest in Baptist St. Anthony s Health System (BSAHS), a Texas nonprofit corporation. CHRISTUS Health System recorded its share of the change in unrealized gains on investments of $62,000 and $231,000 for the nine months ended March 31, 2012 and 2011, respectively as changes in unrestricted net assets. In December 2010, CHRISTUS Health announced a plan to work with its equal partner, Baptist Community Services (BCS) to sell its partnership in the Baptist St. Anthony Health System (BSA) in Amarillo, Texas. The partnership between BCS and CHRISTUS Health has spanned 16 years. BSA Health System is a comprehensive hospital and health care system located in Amarillo, Texas that serves the Texas Panhandle and portions of four other states. CHRISTUS and BCS are soliciting interest from health care providers that will continue serving the needs of Amarillo and the Panhandle community. PPIC- CHRISTUS Health has a 13.1% ownership interest in Preferred Providers Insurance Company (PPIC), a taxable Nebraska corporation. This corporation, formed in 1988, was established to provide excess professional and general liability insurance. CHRISTUS Health s recorded investment in PPIC, accounted for under the cost method, was $17,059,000 in both March 31, 2012 and June 30, The System recorded income from its investment in PPIC of $296,000 and $789,000 for the nine months ended March 31, 2012 and 2011, respectively. CS/USP Surgery Centers, L.P.- CHRISTUS Spohn Health System Corporation has a 50% ownership interest in a joint venture with United Surgical Partners International, INC. (USP), a Texas limited liability partnership for the purpose of owning and operating ambulatory surgery centers in Corpus Christi, Texas. The System recorded its share of income from operations at March 31, 2012 and 2011 of $528,000 and $421,000, respectively. 11

14 5. INVESTMENTS IN UNCONSOLIDATED ORGANIZATIONS (continued) Omega Lab Joint Venture- CHRISTUS Health has a 40% ownership interest in Omega Lab Joint Venture. At March 31, 2012 and June 30, 2011 the System s recorded investment in Omega Lab JV was $3,317,000 and $3,152,000, respectively. The System recorded its share of Omega Lab JV income from operations at March 31, 2012 and 2011 of $475,000 and $349,000, respectively. Santa Fe Medical Properties, LLC- CHRISTUS Health has a 39% ownership interest in Santa Fe Medical Properties, LLC- a for-profit New Mexico corporation. Formed in 2004, this corporation was established to acquire, own and operate the 4.15 acre parcel of property in the Rodeo Business Park in Santa Fe, New Mexico for the development of a surgical facility. CHRISTUS St Vincent purchased the ownership interest on September 1, 2001 for an initial investment of $2,233,156. At March 31, 2012 CHRISTUS Health s recorded investment in Santa Fe Medical Properties, LLC was $2,303, DERIVATIVE FINANCIAL INSTRUMENTS As of March 31, 2012, CHRISTUS Health has interest rate swap agreements to manage interest rate risk exposure, not designated as hedging instruments, with a total notional amount of $961,435,000. At March 31, 2012, the credit-risk adjusted value of these swap agreements was a net liability of $111,724,000 recorded as Derivative Instruments liability on the consolidated Balance Sheet. At June 30, 2011, the credit-risk adjusted value of these swap agreements was a net liability of $59,973,000 with $72,348,000 recorded as Derivative Instruments liability and $12,375,000 recorded as Derivative Instruments asset on the consolidated Balance Sheet. The change in value is recorded in the Income Statement as a component of Non-Operating Investment Income/ (Loss) of ($51,751,000) and $38,498,000 for the nine months ending March 31, 2012 and 2011, respectively. The net cash received/(payments) made under the agreements of ($5,691,000) and ($13,180,000) for the nine months ending March 31, 2012 and 2011, respectively, are recorded as a reduction to Non-Operating Investment Income. On August 26, 2011, CHRISTUS terminated two swaps with counterparty Citigroup. CHRISTUS terminated one of the 2005 Fixed Payor Swaps insured by AMBAC with a notional amount of $52,655,000 at June 30, 2011 and a termination date of July 1, 2022, and the Constant Maturity Swap with a notional amount of $200,000,000 and a termination date of June 1, On December 28, 2011, CHRISTUS Health entered into a swap novation with Citibank, N.A. as transferor and Wells Fargo Bank, N.A. as transferee of the Fixed Payer Swap with a notional of $212,175,000. The novation has an effective date of January 4, The original transaction with Citibank, N.A. had a notional amount of $225,925,000, a trade date of July 13, 2005, and an effective date of November 8, The original transaction was insured by FSA (now - Assured Guaranty Municipal Corp.). The swap insurance was terminated in connection with the novation. The payment terms, expiration, events of default and termination events remain substantially the same. Based upon CHRISTUS Health s current rating, the collateral posting threshold under the novated swap increased from $15 million to $45 million. The following table summarizes the credit-risk adjusted value at March 31, 2012 and June 30, 2011, and the income/(loss) recorded related to the interest rate swap agreements as of and for the quarters ended March 31, 2012 and 2011, in thousands. 12

15 6. DERIVATIVE FINANCIAL INSTRUMENTS (continued) Termination Interest Rate Notional ce Value Change in Value (Paid)/Received Counterparty Description Date Agreements Amount o 3/31/2012 6/30/2011 3/31/2012 3/31/2011 3/31/2012 3/31/2011 Merrill Lynch Variable Basis ,000 Lo ($6,424) ($7,093) $669 $7,804 $197 ($211) *Wells Fargo Fixed Payer 2022 and / 2 212,175 / 271,805 Lo (29,697) (23,084) (6,613) 8,386 (12,036) (6,177) Citigroup **Constant Maturity / 1 0 / 200,000 Lo - 12,375 (12,375) 5,074 12,975 ***n/a Citigroup Fixed Payor ,100 Lo (45,297) (25,414) (19,883) 10,264 (4,077) (4,057) Citigroup Fixed Payor ,160 Lo (30,306) (16,757) (13,550) 6,970 (2,749) (2,735) ,435 / 1,221,065 ($111,724) ($59,973) ($51,752) $38,498 ($5,690) ($13,180) *Citigroup was the counterparty prior to the novation effective January 4, **Terminated August 26, ***CHRISTUS amended and restated the Constant Maturity Swap which was modified to include a suspension of cash flows from June 5, 2009 through September 1, CHRISTUS Health is required to post collateral for negative valuations on each of its swaps according to the terms of (i) the swap insurance agreements, where applicable and (ii) the agreement with each counterparty. CHRISTUS Health has complied with this requirement. At June 30, 2011 and March 31, 2012, no collateral was posted. The fixed payor swaps are insured by either AMBAC (terminated August 26, 2011), Assured Guaranty Municipal Corp-(AGMC) previously known as FSA (insurance terminated in connection with novation effective January 4, 2012), or MBIA. CHRISTUS Health currently voluntarily posts, on a quarterly basis, selected information relating to its outstanding interest rate swap transactions on the Municipal Securities Rulemaking Board s (MSRB), Electronic Municipal Market Access system (EMMA) and the Texas State Repository- Texas Municipal Advisory Council (MAC). No assurances can be given that CHRISTUS Health will continue to post such information in the future. 7. CASH BALANCE PLAN AND POSTRETIREMENT HEALTH CARE BENEFITS Cash Balance Plan- The System has established a noncontributory, defined-benefit retirement plan that operates as a cash balance plan and covers substantially all CHRISTUS Health System employees who meet age and service requirements. The plan benefits are calculated based on a cash balance formula where participants earn an annual accrual of 6% of compensation, and participant account balances accrue interest at a rate that tracks ten-year treasury notes; maximum rate is 8%, minimum rate is 2%. Postretirement Health Care Benefits - Comprehensive medical benefits are provided to eligible active employees who, immediately upon retirement and attainment of age 55, will receive a pension under the CHRISTUS Health System retirement plan. Postretirement benefits are also provided to former employees who are currently receiving pension benefits. The comprehensive medical program, which is self-insured, provides reimbursement benefits until the participant attains age 65. The program also covers dependents of retirees, in addition to former employees. Contributions are required. Retirees may choose one of two self-insured indemnity plan options. Effective February 1, 1999, the CHRISTUS Health System postretirement benefit plan was curtailed prospectively. As of the effective date, new employees or employees that had not vested as of that date are not eligible for the postretirement health care benefits. The liability associated with the postretirement plan will be reduced as employee participation decreases. 13

16 7. CASH BALANCE PLAN AND POSTRETIREMENT HEALTH CARE BENEFITS (continued) Simplified Early Retirement Plan (SERP) - Prior to the formation of CHRISTUS, a plan for executives was curtailed prospectively. Under this plan, eligible participants receive a cash benefit payment until death and participate in the System s retiree health, dental and group-term life program. Fewer than two dozen participating retirees currently maintain benefit payment status. Benefits are recalculated when participants attain age 65 and remain constant thereafter. At March 31, 2012 and 2011, the total liability recorded pertaining to this SERP plan was $5,175,000 and $5,481,000, respectively. Restoration Plan- The restoration plan, a nonqualified deferred compensation plan, was designed to restore benefits that are lost under the cash balance plan due to the statutory limit on recognizable compensation. Eligibility is limited to designated executives. The plan provides benefits upon termination of employment to qualifying participants. Plan benefits are calculated using the same methodology for the cash balance plan; vesting requirements are also the same. The restoration plan is unfunded. The measurement date for all plans is June 30. Components of net periodic benefit cost of the cash balance plan, recorded as a component of employee compensation and benefits, for the nine months ended March 31, 2012 and 2011, consisted of the following (in thousands): Cash Balance Plan 3/31/12 3/31/11 (unaudited) (unaudited) Service cost $ 31,470 $ 32,375 Interest cost 30,324 28,416 Expected return on assets (31,446) (33,540) Amortization of prior service cost (483) (582) Recognized net actuarial loss (gai 5,922 14,691 Net benefit cost $ 35,787 $ 41,360 The net periodic benefit costs of the postretirement plan, SERP and restoration plan are deemed to be immaterial for the nine months ended March 31, 2012 and The System has an accrued net liability for defined benefit pension plans recorded of $110,401,000 recorded at March 31, Contributions- In fiscal year 2012, CHRISTUS expects to contribute $56,400,000 to the cash balance plan based on asset values for the plan year beginning January 1, Contributions to the cash balance plan of $55,865,000 were made for plan year beginning January 1, 2010 during fiscal year Since the postretirement plan, SERP, and restoration plan are unfunded, no cash contributions are expected. 14

17 8. COMMITMENT AND CONTINGENCIES From time to time, the System is subject to litigation in the ordinary course of operations. In management s opinion, any future settlements or judgments on asserted or unasserted claims will not have a material effect on the System s financial statements. CHRISTUS Health has internal policies and procedures and has developed and implemented a compliance program that management believes will effectively reduce exposure for violations of federal and state health care fraud and abuse laws. There are matters that may be the subject of reporting to appropriate regulatory or paying authorities and may be subject to repayment obligations, penalties and fines. There are a number of voluntary and other reviews which may result in disclosure and/or repayments. Further, there are also matters where regulatory and governmental agencies are pursuing matters directly with CHRISTUS Health and/or its affiliates. CHRISTUS Health has received notification that several regions have been identified as part of the nationwide Department of Justice investigation of the use of implantable cardioverter defibrillators that was inconsistent with the national coverage decision under the Medicare program. CHRISTUS Health is in the data review and quantification phase and management is unable to quantify with certainty the possible financial exposure to the system. Because the government s enforcement efforts presently are widespread within the industry and may vary from region to region, there can be no assurance that the compliance program will significantly reduce or eliminate the exposure of the Obligated Group to civil or criminal sanctions or adverse administrative determinations Bank of America, N.A. provides letters of credit to support the Series 2008C-1-4 Bonds. The Bank of New York Mellon provides letters of credit to support the Series 2009B-1-3 Bonds. In August of 2011, the expiration dates of each of the Bank of New York Mellon letters of credit were extended from February 28, 2012 to July 31, To date, there have been no liquidity draws on any letters of credit. Certain payments for services provided under the Medicare and Medicaid programs and other organizations are subject to review of the medical necessity of admission and propriety of discharge, diagnosis, and coding. As part of the Tax Relief and Health Care Act of 2006, Congress directed the expansion of the Recovery Audit Contractors (RAC) reviews. Management believes net revenues under the programs to be fairly stated based on current information. 9. SUBSEQUENT EVENTS The System evaluated events and transactions occurring subsequent to March 31, 2012 through the date of issuance of the financial statements. During this period, there were no subsequent events requiring recognition in the combined financial statements. 15

18 9. SUBSEQUENT EVENTS (continued) In April, 2012 CHRISTUS Santa Rosa announced plans to transform the City Center campus in downtown San Antonio to a free-standing children s hospital. The City Center facility will cease adult services in July 2012 to allow for the $135,000,000, 800,000 square-foot project expansion and renovation project. Once completed, CHRISTUS Santa Rosa Children s Hospital will be licensed for up to 275 beds. CHRISTUS Santa Rosa Health System has signed an agreement to sell the 36-bed inpatient adult rehabilitation unit of CHRISTUS Santa Rosa Hospital Medical Center to HealthSouth Corporation (NYSE: HLS) effective early July HealthSouth intends to relocate the unit into its existing inpatient rehabilitation hospital, HealthSouth Rehabilitation Institute of San Antonio (RIOSA). The purchase price is approximately $1, 000, SIGNIFICANT EVENTS Expansion of Healthcare Operations Santa Rosa CHRISTUS Santa Rosa Hospital Alamo Heights began accepting patients on January 16, The short-stay surgical hospital has 36-beds, and is operated in partnership with local physicians. Before construction on the new hospital began, two outpatient surgery buildings were located on the Alamo Heights campus. With a 7,000-square-foot addition, Building I is now the inpatient short stay surgical hospital. Outpatient services are located in Building II, including an outpatient surgery center and outpatient imaging center. The construction project, which broke ground in December 2010, cost approximately $25,000,000. Disposition - CHRISTUS Dubuis Hospital of Houston Effective midnight December 31, 2011, CHRISTUS Continuing Care transferred ownership of substantially all assets of CHRISTUS Dubuis Hospital of Houston to Cornerstone Healthcare Group Holdings, Inc. and CHG Cornerstone Hospital of South Houston. The purchase price for the assets and the business was $500,000. Cornerstone is a nationally recognized Long-Term Acute Care Hospital (LTACH) ownership and facility management organization, and will continue to operate CHRISTUS Dubuis Hospital of Houston as an LTACH. CHRISTUS Dubuis Hospital of Houston was accounted for as discontinued operations. 16