Foundation of the Massachusetts Eye and Ear Infirmary, Inc. Combined Financial Statements and Supplementary Combining Schedules September 30, 2012

Transcription

1 Foundation of the Massachusetts Eye and Ear Infirmary, Inc. Combined Financial Statements and Supplementary Combining Schedules

2 Index Page(s) Report of Independent Auditors...1 Combined Financial Statements Balance Sheets...2 Statements of Operations...3 Statements of Changes in Net Assets...4 Statements of Cash Flows...5 Notes to Financial Statements Supplementary Combining Schedules Balance Sheet September 30, Statement of Operations Year Ended September 30, Balance Sheet September 30, Statement of Operations Year Ended September 30,

3 Report of Independent Auditors To the Board of Directors of the Foundation of the Massachusetts Eye and Ear Infirmary: In our opinion, the accompanying combined balance sheets and the related combined statement of operations, changes in net assets, and statement of cash flows present fairly, in all material respects, the financial position of the Foundation of the Massachusetts Eye and Ear Infirmary, Inc. (the Foundation ) at, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Foundation s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. Our audit was conducted for the purpose of forming an opinion on the combined financial statements taken as a whole. The combining information is the responsibility of management and was derived from and relates directly to the underlying accounting and other records used to prepare the combined financial statements. The combining information has been subjected to the auditing procedures applied in the audit of the financial statements and certain additional procedures, including comparing and reconciling such information directly to the underlying accounting and other records used to prepare the financial statements or to the financial statements themselves and other additional procedures, in accordance with auditing standards generally accepted in the United States of America. In our opinion, the combining information is fairly stated, in all material respects, in relation to the combined financial statements taken as a whole. The combining information is presented for purposes of additional analysis of the combined financial statements rather than to present the financial position and results of operations of the individual companies and is not a required part of the combined financial statements. Accordingly, we do not express an opinion on the financial position and results of operations of the individual companies. December 21, 2012 PricewaterhouseCoopers LLP, 125 High Street, Boston, MA T: (617) , F: (617) ,

4 Combined Balance Sheets Assets Current assets Cash and cash equivalents $ 2,460,500 $ 3,500,178 Assets whose use is limited (Notes 2, 3 and 7) 27,330,420 35,560,737 Patient accounts receivable, less allowance for doubtful accounts of $3,720,448 and $3,190,603 as of, respectively (Notes 10 and 17) 22,526,823 20,577,489 Other current assets 14,286,622 17,228,501 Total current assets 66,604,365 76,866,905 Assets whose use is limited (Notes 2 and 3) Construction fund 3,017,418 7,437,318 Capital interest Fund - - Special cash reserves 1,810,676 5,138,511 QLT funds (Note 16) 19,566,398 31,665,832 Under indenture agreement (Note 7) 6,025,875 5,254,587 Funds held for research - 27,509 Total assets whose use is limited 30,420,367 49,523,757 Investments (Notes 2 and 3) 168,666, ,370,687 Pledges receivable, net (Notes 2 and 6) 838,163 1,416,484 Remainder interest in charitable trusts (Note 2) 524, ,733 Beneficial interest in trusts (Note 2) 14,528,673 12,887,025 Property, plant and equipment, net (Note 4) 176,649, ,530,636 Intangible assets and other assets, net of accumulated amortization of $1,845,619 and $1,756,991 as of, respectively 1,629,506 1,718,135 Deposits and other assets 5,917,005 2,488,463 Total assets $ 465,778,927 $ 437,302,825 Liabilities and Net Assets Current liabilities Current portion of long-term debt and capital lease obligations (Notes 7 and 9) $ 3,947,980 $ 4,177,718 Accounts payable and accrued expenses 44,850,970 33,085,872 Accrued interest 213, ,096 Estimated third-party settlements (Note 10) 4,206,868 3,667,990 Total current liabilities 53,218,994 41,200,676 Long-term debt and capital lease obligations, less current portion (Notes 7 and 9) 97,624, ,874,801 Asset retirement obligation (Note 5) 356, ,503 Deferred QLT revenue (Note 16) 37,959,380 52,857,085 Annuities and unitrusts payable (Note 2) 847, ,720 Accumulated postretirement benefit obligation (Note 13) - 54,408 Professional liability reserve (Note 15) 1,648,883 1,578,297 Tax deferred plan liability 569, ,049 Accrued pension costs (Note 11) 46,012,249 41,880,785 Total liabilities 238,237, ,194,324 Commitments and contingencies (Notes 9, 10 and 15) Unrestricted net assets Unrestricted for general operations 66,315,872 41,792,513 Board designated 49,045,261 46,523,516 Total unrestricted net assets 115,361,133 88,316,029 Temporarily restricted net assets (Note 14) 47,718,969 45,618,840 Permanently restricted net assets (Note 14) 64,461,639 62,173,632 Total net assets 227,541, ,108,501 Total liabilities and net assets $ 465,778,927 $ 437,302,825 The accompanying notes are an integral part of these combined financial statements. 2

5 Combined Statements of Operations Years Ended Unrestricted revenue (Note 10) Net patient service revenue (Note 10) $ 206,144,730 $ 179,717,823 Research direct revenue 35,336,519 24,830,288 Research indirect revenue 15,464,548 8,921,824 Contributions 7,804,322 7,454,087 Contribution from Schepens Eye Research Institute - 19,756,131 Investment income (Note 3) 1,448, ,787 Net assets released from restriction used for operations (Note 2) 9,248,857 8,418,014 QLT revenue (Note 16) 13,693,904 9,722,627 Other revenue 23,397,053 21,431,204 Total unrestricted revenue 312,538, ,687,785 Expenses (Note 8) Salaries and wages 126,844, ,450,172 Fringe benefits 31,830,045 27,880,706 QLT expenses (Note 16) 975,881 1,156,892 Supplies and other expenses 83,674,848 70,164,940 Depreciation 17,926,935 15,051,074 Interest 2,330,941 2,223,404 Research expenditures 45,648,264 30,871,582 Total expenses 309,231, ,798,770 Income from operations 3,306,765 17,889,015 Other gains Net realized gains on investments (Note 3) 28,837,958 2,716,823 Total other gains, net28,837,958 2,716,823 Excess of revenues over expenses 32,144,723 20,605,838 Net assets released from restriction for the purchase of property, plant and equipment 847, ,082 Change in unrealized appreciation (depreciation) on investments (Note 2) 1,678,055 (1,584,029) Pension and postretirement-related charges other than net periodic pension cost (7,624,694) (10,213,964) Total increase in unrestricted net assets $ 27,045,104 $ 9,197,927 The accompanying notes are an integral part of these combined financial statements. 3

6 Combined Statements of Changes in Net Assets Years Ended Temporarily Permanently Unrestricted Restricted Restricted Total Net assets at September 30, 2010 $ 79,118,102 $ 36,558,280 $ 48,465,793 $ 164,142,175 Excess of revenues over expenses 20,605,838 20,605,838 Contributions, grants and other income 4,219,152 2,175,574 6,394,726 Contribution from Schepens Eye Research Institute 11,348,655 12,411,765 23,760,420 Realized gain on investments 4,986,303 4,986,303 Investment loss (88,651) (88,651) Net assets released from restriction for the purchase of property, plant and equipment 390,082 (390,082) - Change in unrealized (depreciation) on investments (1,584,029) (2,596,803) (4,180,832) Loss on beneficial interest in trusts (879,500) (879,500) Net assets released from restriction used for operations (8,418,014) (8,418,014) Adjustment for minimum pension liability (10,213,964) (10,213,964) Increase in net assets 9,197,927 9,060,560 13,707,839 31,966,326 Net assets at September 30, ,316,029 45,618,840 62,173, ,108,501 Excess of revenues over expenses 32,144,723 32,144,723 Contributions, grants and other income 6,138,421 $ 646,359 6,784,780 Contribution from Schepens Eye Research Institute - Realized gain on investments 3,252,835 3,252,835 Investment income, net of investment expenses 77,108 77,108 Net assets released from restriction for the purchase of property, plant and equipment 847,020 (847,020) - Change in unrealized appreciation on investments 1,678,055 2,727,641 4,405,696 Gain on beneficial interest in trusts 1,641,648 1,641,648 Net assets released from restriction used for operations (9,248,856) (9,248,856) Adjustment for minimum pension liability (7,624,694) (7,624,694) Increase in net assets 27,045,104 2,100,129 2,288,007 31,433,240 Net assets at September 30, 2012 $ 115,361,133 $ 47,718,969 $ 64,461,639 $ 227,541,741 The accompanying notes are an integral part of these combined financial statements. 4

7 Combined Statements of Cash Flows Years Ended Cash flows from operating activities Change in net assets $ 31,433,240 $ 31,966,326 Adjustments to reconcile change in net assets to cash flows provided by (used in) from operating activities Acquisition of Schepens Eye Research Institute - (43,516,551) Depreciation and amortization 18,036,917 15,139,557 Net realized and unrealized gains on investments (36,496,489) (3,522,294) Provision for doubtful accounts 7,566,593 5,540,301 Restricted contributions and investment income received 1,677,588 (6,394,726) Contributed securities (470,004) (286,000) Loss on beneficial interest in trusts (1,641,648) 879,500 Loss on remainder interest in trusts (23,483) 2,966 Change in asset retirement obligation (70,725) (13,980) Adjustment to minimum pension liability 7,624,694 10,213,964 Other (7,477,536) - Effects of changes in operating assets and liabilities Accounts receivable (9,515,927) (3,247,852) Pledges receivable 788,026 (312,910) Other assets 2,303,632 (5,967,893) Accounts payable and accrued expenses 8,977,690 (2,239,500) Estimated third-party settlements 538, ,807 QLT deferred fund liability (7,420,169) (2,969,452) Professional liability reserve 70, ,339 Accumulated postretirement benefit obligation (54,408) (93,492) Accrued pension costs (3,493,230) 1,157,791 Cash provided by (used in) operating activities 12,354,225 (2,827,099) Cash flows from investing activities Cash acquired from Schepens Eye Research Institute - 115,688 Investment in Professorship (3,000,000) - Additions to property, plant and equipment (35,440,287) (27,581,910) Purchases of investments and assets whose use is limited (204,360,282) (100,544,536) Sales of investments and assets whose use is limited 234,364, ,543,754 Cash provided by investing activities (8,436,280) (1,467,004) Cash flows from financing activities Contributions for endowment and capital (1,677,588) 6,394,726 Advanced funds 1,221,266 - Principal payments on long-term debt and capital lease obligations (4,501,301) (3,344,833) Cash (used in) provided by financing activities (4,957,623) 3,049,893 Increase in cash and cash equivalents (1,039,678) (1,244,210) Cash and cash equivalents Beginning of year 3,500,178 4,744,388 End of year $ 2,460,500 $ 3,500,178 Supplementary cash flow information Interest paid $ 4,309,404 $ 3,489,895 Supplementary disclosure of noncash activities Acquisition of property, plant and equipment financed with a capital$ lease - $ 239,000 Contributed securities 470, ,000 Property plant and equipment included in AP and accrued expenses $ 1,605,742 $ - The accompanying notes are an integral part of these combined financial statements. 5

8 1. Organization The Foundation of the Massachusetts Eye and Ear Infirmary, Inc. (the Foundation ) is the parent corporation for a group of controlled organizations which consists of the Massachusetts Eye and Ear Infirmary (the Infirmary ), Massachusetts Eye and Ear Associates, Inc. (the Associates ), Schepens Eye Research Institute, Inc. ( Schepens ), Embankment Services, Inc.( Embankment ) and Circle Company, Inc. ( Circle ). The Foundation is a not-for-profit organization and was formed primarily as a fund-raising organization for the Infirmary, and to hold and manage the endowment and other investments of the Infirmary. The Infirmary is a not-for-profit hospital located in downtown Boston, Massachusetts specializing in the treatment of, and teaching and research relating to, disorders of the eye, ear, nose, throat, head and neck. The Infirmary is the principal teaching hospital for ophthalmology and otolaryngology for Harvard Medical School. The Associates is a not-for-profit corporation which provides physician services primarily to patients of the Infirmary. The Infirmary and Associates operate clinical practices in surrounding communities including Stoneham, Concord, East Bridgewater and Quincy, MA. Circle, a not-for-profit corporation, was formed for the purpose of owning and developing real estate for the benefit of the Foundation and the Infirmary. Embankment, a not-for-profit corporation, was formed to engage in charitable activities and programs in support of the charitable purposes of the Foundation. Schepens, a not-for-profit corporation, conducts basic and clinical research and training of young scientists on the normal processes of vision and the diseases that affect sight. At the end of the day on June 30, 2011, Schepens a not-for-profit ophthalmology research organization located in Boston, MA, became a subsidiary of the Foundation. The Foundation became the parent organization and sole member as a result of this acquisition. The Foundation and Schepens agreed that the acquisition will greatly improve their ability to provide comprehensive ophthalmology research and better serve the public interests of improving ophthalmology research. The change in control of Schepens was accounted for under the acquisition method. As such, the Foundation recorded $19,756,131 of contribution income which is included in the performance indicator in the 2011 combined statement of operations. This amount represents the excess of the fair value of assets acquired over the fair value of liabilities assumed and net assets. The combined statement of operations for the period ended September 30, 2011 reflects the activity of Schepens from the date of acquisition to year end. No consideration was exchanged for the acquisition. The combined statement of operations for the period ended September 30, 2012 includes the activity of Schepens for the preceding 12 months and for the period ended September 30, 2011 includes the activity of Schepens for the preceding 3 months. 6

9 The fair value of assets acquired, liabilities assumed and net assets of Schepens at June 30, 2011 were as follows: Schepens June 30, 2011 Cash in interest-bearing accounts $ 115,688 Funds held in trust by others 164,111 Trustee held bond funds 814,507 Contributions receivable, net 574,102 Grants and contracts receivable 562,450 Prepaid expenses and other assets 669,255 Land, buildings, and equipment, net 38,508,559 Long-term investments 27,128,213 Total assets $ 68,536,885 Accounts payable and accruals $ 2,969,674 Accrued payroll 554,389 Deferred support 2,801,240 Annuity obligations 162,470 Deferred rent 2,185,466 Deferred credit 6,465,986 Long-term debt 9,881,109 Total liabilities 25,020,334 Unrestricted 19,756,131 Temporarily restricted 11,348,655 Permanently restricted 12,411,765 Total net assets 43,516,551 Total liabilities and net assets $ 68,536,885 A summary of the financial results of Schepens included in the combined statement of operations for the period July 1, 2011 through September 30, 2011 are as follows: Schepens Total unrestricted revenue $ 7,075,573 Total operating expenses 6,456,986 Income from operations 618,587 Net realized losses on investments (17,051) Excess of revenues over expenses 601,536 Net assets released from restriction of the purpose of property, plant and equipment 89,674 Change in unrealized depreciation on investments (519,722) Increase in unrestricted net assets $ 171,488 7

10 The changes in net assets of Schepens included in the combined statement of changes in net assets for the period July 1, 2011 through September 30, 2011 are as follows: Temporarily Permanently Unrestricted Restricted Restricted Total Net assets at June 30, 2011 $ - $ - $ - $ - Contribution from Schepens transaction - 11,348,655 12,411,765 23,760,420 Excess of revenues over expenses 601, ,536 Contributions, grants and other income 29,496 29,496 Realized gain on investments (30,781) (30,781) Investment income, net of investment expenses 26,804 26,804 Net assets released from restriction for the purchase of property, plant & equipment 89,674 89,674 Change in unrealized depreciation on investments (519,722) (524,404) (1,044,126) Net assets released from restriction used for operations (521,139) (521,139) Increase in net assets 171,488 10,328,631 12,411,765 22,911,884 Net assets at September 30, 2011 $ 171,488 $ 10,328,631 $ 12,411,765 $ 22,911,884 A summary of the unaudited pro forma financial results of the Foundation and Schepens for the years ended September 30, 2011 as if the acquisition had occurred on October 1, 2010 are as follows: 2011 (Unaudited) The Foundation Schepens Total Total unrestricted revenue $ 272,666,296 $ 27,763,449 $ 300,429,745 Total operating expenses 255,867,613 28,329, ,197,132 Income from operations 16,798,683 (566,070) 16,232,613 Other gains 3,205,619 36,071 3,241,690 Excess deficit of revenue over expenses 20,004,302 (529,999) 19,474,303 Other support (10,977,863) 137,284 (10,840,579) Total increase (decrease) in unrestricted net assets $ 9,026,439 $ (392,715) $ 8,633, Summary of Significant Accounting Policies Principles of Combination The combined financial statements include the accounts of the above-named entities for the years ended. All significant inter-entity transactions have been eliminated. The assets of one or more of the entities in the combined group may not be available to satisfy the liabilities of others within the group. Basis of Presentation The financial statements of the Foundation have been prepared on the accrual basis of accounting in accordance with accounting principles generally accepted in the United States of America. Net Assets Resources are reported for accounting purposes in separate classes of net assets based on the existence or absence of donor-imposed restrictions. In the accompanying financial statements, net assets that have similar characteristics have been combined into similar categories as follows: 8

11 Permanently Restricted Net assets subject to explicit donor-imposed stipulations that they be maintained by the Foundation in perpetuity are classified as permanently restricted. Generally, the donors of these assets permit the Foundation to use all or part of the investment return on these assets for general operations or specified purposes. Temporarily Restricted Net assets whose use by the Foundation is subject to explicit donor-imposed stipulations that can be fulfilled by either the incurrence of expenses by the Foundation pursuant to those stipulations or by the passage of time are classified as temporarily restricted. Temporarily restricted net assets also include amounts subject to legal restrictions such as portions of otherwise unrestricted capital appreciation on donor restricted funds which are restricted by Massachusetts law until appropriated by the Board of Directors. Unrestricted Net assets that are not subject to explicit donor-imposed stipulations are classified as unrestricted net assets. Unrestricted net assets may be designated for specific purposes by action of the Board of Directors or may otherwise be limited by contractual agreements with outside parties. Revenues are reported as increases in unrestricted net assets unless use of the related assets is limited by donor-imposed restrictions. Expenses are reported as decreases in unrestricted net assets. Gains and losses on investments are reported as increases or decreases in unrestricted net assets, unless their use is restricted by explicit donor stipulations or by law. The Commonwealth of Massachusetts requires capital appreciation on donor restricted endowment funds to be considered as changes in temporarily restricted net assets until it has been appropriated for expenditure by the Board of Directors. When a donor restriction expires (i.e. when a stipulated time restriction ends or purpose restriction is accomplished), temporarily restricted net assets are reclassified as unrestricted net assets and reported in the statements of operations and changes in net assets as either net assets released from restriction used for operations (for noncapital related items) or as net assets released from restriction for the purchase of property, plant and equipment (for capital related items). Contributions, including unconditional promises to give, are recognized as revenues at the date the promise is received. Contributions of assets other than cash are recorded at their estimated fair value at the date of gift. Unconditional promises to give are included in the financial statements as pledges receivable and revenue within temporarily restricted net assets due to implicit time restrictions. Pledges are recorded after discounting to the present value of the expected future cash flows and recording an allowance for unfulfilled pledges. Contributions restricted for the acquisition of land, buildings and equipment are reported as temporarily restricted support. These contributions are reclassified to unrestricted net assets when the capital asset is placed in service. 9

12 Assets Held With Outside Trustees The Foundation is the beneficiary of several trust funds administered by outside trustees. Assets received include perpetual trusts and charitable remainder trusts and are recorded at fair value in the appropriate net asset category based on donor stipulations. Contributions related to perpetual trusts are recognized as revenue upon notification of the trusts existence and are equal to the fair market value on that date. The related asset is adjusted on an annual basis to reflect changes in the fair value of the asset due to appreciation or depreciation in the trusts. The resulting unrealized gain or loss is included in the statement of changes in net assets. Contributions to charitable remainder trusts are recognized as revenue upon notification of the trusts existence and are equal to the present value of the expected future cash flows to the Foundation. Split-Interest Agreements The Foundation has split-interest agreements consisting primarily of charitable gift annuities, and pooled income funds. Split-interest agreements, which are included in investment totals, amounted to $2,449,131 (cost basis of $1,906,229) and $2,342,128 (cost basis of $2,118,772) as of, respectively. Contributions are recognized at the date the trusts are established net of a liability for the present value of the estimated future cash outflows to beneficiaries. The present value of payments is discounted with a rate of 7%. The liability of $847,078 and $918,720 as of, respectively, is adjusted during the term of the agreement for changes in actuarial assumptions. Cash and Cash Equivalents Cash and cash equivalents consist of cash and short-term investments with original maturities at purchase of three months or less. Amounts whose use is limited by Board designation, specific purpose, or other arrangements under trust agreements are reported in accordance with their intended use and are excluded from cash and cash equivalents. The majority of the Foundation s banking activity, including cash and cash equivalents, is maintained with one bank and amounts on deposit exceed federal insurance limits. It is the Foundation s policy to monitor this bank s financial strength on an ongoing basis. Research Grants and Contracts The Foundation engages in research activities under grants and contracts with U.S. Government agencies and other organizations. Reimbursed costs, including overhead allowances, are subject to post-performance review and adjustment. Revenues associated with research contracts and grants are recognized as the related costs or capital expenditures are incurred. Grant revenue used for the construction or acquisition of plant is recorded as changes in unrestricted net assets. The Foundation records reimbursement of facilities and administrative costs relating to government contracts and grants at authorized rates each year. Property, Plant and Equipment Property, plant and equipment are recorded at cost. Donated items are recorded at fair value at the date of contribution. Depreciation is provided over the estimated useful life of each class of depreciable asset and is computed using the straight-line method. Estimated useful lives range from 3 to 40 years. Equipment under capital lease obligations is amortized on the straight-line method over the shorter period of the lease term or the estimated useful life of the equipment. Such amortization is included in depreciation and amortization expense in the financial statements. Interest cost incurred on borrowed funds during the construction period of capital assets is capitalized as a component of the cost of acquiring those assets. 10

13 Gifts of long-lived assets such as land, buildings, or equipment are reported as unrestricted support, and are excluded from the excess of revenues over expenses, unless explicit donor stipulations specify how the donated assets must be used. Gifts of long-lived assets with explicit restrictions that specify how the assets are to be used and gifts of cash or other assets that must be used to acquire long-lived assets are reported as temporarily restricted net assets. Absent explicit donor stipulations about how long-lived assets must be maintained, expirations of donor restrictions are reported when the donated or acquired long-lived assets are placed in service. Conditional Asset Retirement Obligations Asset retirement obligations ( ARO ) are legal obligations associated with the retirement of longlived assets. These liabilities are initially recorded at fair value and the related asset retirement costs are capitalized by increasing the carrying amount of the related assets by the same amount as the liability. Asset retirement costs are subsequently depreciated over the useful lives of the related assets. Subsequent to initial recognition, the Foundation records period-to-period changes in the ARO liability resulting from the passage of time and revisions to either the timing or the amount of the original estimate of undiscounted cash flows. The Foundation derecognizes ARO liabilities when the related obligations are settled. Intangible Assets Intangible assets primarily include deferred financing costs relating to bond financing. Deferred financing costs are amortized using the imputed interest method over the repayment period of the bonds. The Foundation reviews its intangible and other long-lived assets annually to determine potential impairment. In performing the review, the Foundation estimates the future cash flows expected to result from the use of the asset and its eventual disposition. If the sum of the expected future cash flows is less than the carrying amount of the asset, an impairment is recognized. Other Current Assets Other current assets primarily include prepaid expenses, research receivables and inventories. Inventories are stated at average cost. Investments and Investment Income The Foundation records its investments in marketable securities at market value as determined by closing sale prices on national securities exchanges or closing bid prices on over the counter markets. The Foundation records its purchases and sales of investments on the trade date, and realized gains and losses are recorded by the Foundation using the average cost basis. Investment income or loss (including realized gains and losses on investments, interest and dividends) is included in the excess of revenues over expenses unless the income or loss is restricted by donor or law. Investments in limited partnerships, limited liability corporations or common/collective trusts are recorded on the cost basis based on the Foundation s ownership share and rights of the investment. The Foundation does not own any interests in limited partnerships, limited liability corporations and common/collective trusts where the Foundation owns a significant portion of the total net assets of the portfolio or has significant influence. Since many of these investments are not readily marketable, the estimates of fair value necessarily involve assumptions and estimation methods which are uncertain, and therefore, the estimate could differ materially from actual results or if a ready market for the investment existed. The cost of these investments at September 30, 11

14 2012 and 2011 is $96,267,942 and $90,402,164, respectively. The estimated market value of these investments at is $108,036,918 and $98,093,745, respectively. The Foundation reviews the recoverability of investments quarterly in accordance with generally accepted accounting principles and reviews the carrying value of its investments held. Any impairment on unrestricted investments would be recognized in net realized gains (losses) rather than in the change in unrealized appreciation if a diminution in value considered to be other than temporary were to occur. Accordingly, the Foundation recorded a charge of $42,122 and $91,796 for the years ended, respectively, for the decline in fair value of investments considered to be other than temporary. These amounts have been included in net realized gains (losses) on investments on the combined statements of operations. QLT, Inc. Judgment On November 6, 2006, the Massachusetts Eye and Ear Infirmary (the Infirmary ) received a favorable jury verdict in a case tried in the United States District Court for the District of Massachusetts involving the Infirmary's claims of unjust enrichment and unfair trade practices against QLT, Inc. ( QLT ). The Judge entered final judgment in July 2007 and subsequently QLT filed an appeal. On January 12, 2009, the federal appeals court ruled in favor of the Infirmary on liability and damages. QLT, Inc. chose not to appeal the case further and paid the judgment in the amount of $127,094,390 in April In addition, the Foundation receives royalty payments related to ongoing product sales. QLT royalty revenue is treated as deferred revenue when received. Deferred QLT revenue is released to the current period income when used to fund capital or expenses associated with research and academic purposes for the department of Ophthalmology. Assets Whose Use is Limited Assets whose use is limited include assets set aside by the Board of Directors in a special cash reserve fund for future capital improvements or other purposes as designated by the Board of Directors, and assets held by trustees under indenture agreements. Also included are assets received from the QLT judgment and funding received from the Department of Defense for sponsored research. Excess (Deficit) of Revenues Over Expenses The statements of operations include excess (deficit) of revenues over expenses. Changes in unrestricted net assets which are excluded from excess (deficit) of revenues over expenses, consistent with industry practice, include unrealized gains and losses on investments other than trading securities, changes in accrued pension costs other than net periodic pension costs, permanent transfers of assets to and from affiliates, cumulative effect of change in accounting principle and contributions of long-lived assets (including assets acquired using contributions which by donor restriction were to be used for the purposes of acquiring such assets). Net Patient Service Revenue The Foundation has agreements with third-party payors that provide for payments to the Foundation at amounts different from its established rates. Payment arrangements include prospectively determined rates per discharge, reimbursed costs, discounted charges and per diem payments and fee schedules. Net patient service revenue is reported at the 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. These 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 (Note 10). 12

15 Charity Care The Foundation provides care to patients who meet certain criteria under its charity care policy without charge or at amounts less than its established rates. Because the Foundation does not pursue collection of amounts determined to qualify as charity care, they are not reported as revenue. The estimated costs of providing charity care services are determined using a ratio of costs of charges to the gross uncompensated charges associated with providing care to charity patients. The Associates estimated the cost of providing charity care based on the ratio of total expenses divided by gross revenue. For the Infirmary the ratio of costs to charges is calculated using a ratio of FY11 charity care costs to FY11 charity care gross charges. FY11 charity costs are derived from the hospital s internal cost accounting system, which is comprised of a step-down methodology for allocating hospital overhead that is similar to that used for the Medicare Cost Report. All indirect costs are allocated to patient care cost centers, teaching and research. Fully loaded patient care costs are allocated to patients using billed units, and unit costs and allocation algorithms specific to each cost center. Charity care of $4,209,567 and $2,891,364 measured at the Foundation s cost, was provided for the years ended, respectively. Tax Status The Foundation and its affiliates qualify as tax-exempt organizations under the Internal Revenue Code. The Foundation, Infirmary, Associates, Schepens and Embankment are tax-exempt under Section 501(c)(3) of the Internal Revenue Code and Circle is tax-exempt under 501(c)(25) of the Internal Revenue Code. Accordingly, no provision for income taxes has been made in the accompanying financial statements. Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The primary estimates relate to collectability of receivables from patients and third parties, and self-insurance reserves. Reclassifications Certain 2011 balances previously reported have been reclassified to conform to the 2012 presentation. These reclassifications are not considered material to the Foundation s prior year financial statements. Recently Issued Accounting Pronouncements In August 2010, the FASB issued Health Care Entities: Presentation of Insurance Claims and Related Insurance Recoveries (ASU ), which provides that the net presentation of receivables for insurance recoveries and related claims liabilities is not permitted. The Foundation adopted the provisions of ASU during the year ended September 30,

16 In August 2010, the FASB issued Health Care Entities: Measuring Charity Care for Disclosure (ASU ), which clarified the disclosure of charity care provided by healthcare organizations, providing that such disclosure should be measured using cost and that related reimbursements recorded should also be separately disclosed. The Foundation adopted the provisions of ASU during the year ended September 30, In July 2011, the FASB issued Health Care Entities: Presentation and Disclosure of Patient Service Revenue, Provisions for Bad Debts, and the Allowance for Doubtful Accounts for Certain Health Care Entities (ASU ), which requires certain healthcare entities to change the presentation of their statement of operations by reclassifying the provision for bad debts associated with patient service revenue from an operating expense to a deduction from net patient service revenue. Additionally those healthcare entities are required to provide enhanced disclosures about their policies for recognizing revenue and assessing bad debts. The Foundation elected to early adopt ASU during the year ended September 30, 2012 and changed its reporting of the provision for bad debt. Accordingly, the previously reported provision for bad debt of $5,540,301 for the year ended September 30, 2011 has been reclassified as a reduction to net patient service revenue. The reclassification had no impact on the previously reported excess of revenue over expenses for fiscal Subsequent Event The Foundation has evaluated subsequent events through December 21, 2012, the date of the financial statements issuance. 3. Investments and Assets Whose Use is Limited Investments consist of the following at September 30, 2012: On Cost At Method Fair Value Total Cash and cash equivalents $ - $ 34,546,072 $ 34,546,072 Bonds 7,780,553 15,970,961 23,751,514 Equity securities 47,375,071 21,842,029 69,217,100 Investment in limited partnerships 41,112,318-41,112,318 Other - 39,893 39,893 $ 96,267,942 $ 72,398,955 $ 168,666,897 14

17 Investments consist of the following at September 30, 2011: On Cost At Method Fair Value Total Cash and cash equivalents $ - $ 10,058,304 $ 10,058,304 Bonds - 10,164,174 10,164,174 Equity securities 32,606,961 23,601,466 56,208,427 Investment in limited partnerships 46,577,858-46,577,858 Other 11,217, ,579 11,361,924 $ 90,402,164 $ 43,968,523 $ 134,370,687 The cost of investments being held at fair value at is $67,127,566 and $42,901,748, respectively. The Foundation is obligated to make future capital investments in certain partnerships. At September 30, 2012, the Foundation had commitments of approximately $8,956,349. Fair Value Measurements Effective October 1, 2008, the Foundation adopted the accounting pronouncement, Fair Value Measurements. The standard defines fair value, establishes a framework for measuring fair value under generally accepted accounting principles and enhances disclosures about fair value measurements. Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset in an orderly transaction between market participants on the measurement data. The standard establishes a hierarchy of valuation inputs based on the extent to which the inputs are observable in the marketplace. Observable inputs reflect market data obtained from sources independent of the reporting entity and unobservable inputs reflect the entities own assumptions about how market participants would value an asset or liability based on the best information available. Valuation techniques used to measure fair value must maximize the use of observable inputs and minimize the use of unobservable inputs. The standard describes a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value. The following describes the hierarchy of inputs used to measure fair value and the primary valuation methodologies used by the Foundation for financial instruments measured at fair value on a recurring basis. The three levels of inputs are as follows: Level 1 Level 2 Level 3 Quoted prices in active markets for identical assets or liabilities. Inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the same term of the assets or liabilities. Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Beneficial interest in trusts for which the Foundation is not the Trustee are included in Level 3. 15

18 A financial instrument s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. Level 3 assets currently disclosed by the Foundation are not controlled by the institution. These assets are held by outside trustees and include charitable remainder trusts, perpetual trusts and a small investment which is not readily marketable. If at any time these assets become under the direction of the institution they would be moved to Level 2 if the investments are readily marketable. The following table presents the financial instruments carried at fair value as of September 30, 2012, by caption on the statement of financial position by the valuation hierarchy defined above: Quoted Significant Prices in Other Significant Active Observable Unobservable Total Markets Inputs Inputs Fair (Level 1) (Level 2) (Level 3) Value Assets Short-term investments $ - $ - $ - $ - U.S. treasury securities 916, ,954 Total short-term investments 916, ,954 Investments Cash and cash equivalents 34,546,072 34,546,072 Bonds 9,980,391 5,073,616 15,054,007 Equity securities 21,672, ,404 21,842,029 Other 39,893 39,893 Total investments 67,116,042 5,243,020 39,893 72,398,955 Remainder interest in charitable trusts 524, ,216 Beneficial interest in trusts 14,528,673 14,528,673 Assets whose use is limited Cash and cash equivalents 57,750,787 57,750,787 Total assets whose use is limited 57,750,787-15,052,889 72,803,676 Total assets at fair value $ 124,866,829 $ 5,243,020 $ 15,092,782 $ 145,202,631 In addition to the investments noted above, the Foundation holds $96,267,942 in alternative investments using the cost method. These investments are not subject to fair value accounting. Please refer to Note 2. 16

19 The following table presents the financial instruments carried at fair value as of September 30, 2011, by caption on the statement of financial position by the valuation hierarchy defined above: Quoted Significant Prices in Other Significant Active Observable Unobservable Total Markets Inputs Inputs Fair (Level 1) (Level 2) (Level 3) Value Assets Short-term investments $ - $ - $ - $ - U.S. treasury securities 675, ,757 Total short-term investments 675, ,757 Investments Cash and cash equivalents 10,058,304 10,058,304 Bonds 3,703,740 5,927,615 9,631,355 Equity securities 23,289, ,404 23,458,528 Other 144, ,579 Total investments 37,726,925 6,097, ,579 43,968,523 Remainder interest in charitable trusts 500, ,733 Beneficial interest in trusts 12,887,025 12,887,025 Assets whose use is limited Cash and cash equivalents 85,084,494 85,084,494 Total assets whose use is limited 85,084,494-13,387,758 98,472,252 Total assets at fair value $ 122,811,419 $ 6,097,019 $ 13,532,337 $ 142,440,775 Following is a description of the Foundation s valuation methodologies for assets and liabilities measured at fair value. The methods described above may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. Furthermore, while the Foundation believes its valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date. 17

20 The following table is a rollforward of the statement of financial position amounts for financial instruments classified by the Foundation within Level 3 of the fair value hierarchy defined above: Remainder Interest in Beneficial Total Charitable Interest in Other Level 3 Trusts Trusts Investments Assets Fair value, September 30, 2010 $ 339,588 $ 13,766,525 $ 150,068 $ 14,256,181 Sales - - (5,489) (5,489) Change in value of charitable remainder and perpetual trusts (2,966) (879,500) - (882,466) Charitable remainder trusts acquired from Schepens 164, ,111 Fair value, September 30, ,733 12,887, ,579 13,532,337 Purchases Sales (27,800,060) (27,800,060) Realized and unrealized gains ,695,374 27,695,374 Change in value of charitable remainder and perpetual trusts 23,483 1,641,648 1,665,131 Charitable remainder trusts acquired from Schepens - Fair value, September 30, 2012 $ 524,216 $ 14,528,673 $ 39,893 $ 15,092,782 All net realized gains in the table above are reflected in the accompanying Combined Statement of Operations. There were no unrealized gains (losses) associated with Level 3 investments at. The changes in value of charitable remainder trusts and perpetual trusts are reflected in the Statement of Changes in Net Assets. Transfers from Level 3 to Level 2 typically would involve investments, or portions of investments, in investment vehicles recorded at fair value having redemption terms that provide for liquidity within the 6 months following the reporting period. The Foundation s policy is to recognize transfers as of the end of the year. As of, the Foundation did not record any transfers from Level 3 to Level 2. In 1996, the Foundation invested in a start-up company. During 2012, the Foundation realized a gain of $27 million in its investment and received a cash payment representing the Foundation s share of the profits received from the sale of said technology by the inventor. 18

21 Assets whose use is limited consists of the following at September 30: Cost Fair Value Cost Fair Value Current asset designation Internally designated funds Special cash reserves $ 3,743,330 $ 3,743,330 $ 1,258,127 $ 1,258,127 Externally limited funds Under indenture agreement 107, , , ,000 Construction funds 14,518,288 14,518,288 23,245,846 23,245,846 QLT settlement fund 8,900,000 8,900,000 8,050,218 8,050,218 Funds held for research 61,289 61,289 55,852 55,852 Capital interest fund ,650,694 2,650,694 Total current assets whose use is limited $ 27,330,420 $ 27,330,420 $ 35,560,737 $ 35,560,737 Long-term asset designation Internally designated funds Special cash reserves $ 1,810,676 $ 1,810,676 $ 5,138,511 $ 5,138,511 1,810,676 1,810,676 5,138,511 5,138,511 Externally limited funds Under indenture agreement 6,025,875 6,025,875 5,254,587 5,254,587 Construction funds 3,017,418 3,017,418 7,437,318 7,437,318 QLT settlement fund 19,566,398 19,566,398 31,665,832 31,665,832 Funds held for research ,509 27,509 Capital interest fund ,609,691 28,609,691 44,385,246 44,385,246 Total long-term assets whose use is limited $ 30,420,367 $ 30,420,367 $ 49,523,757 $ 49,523,757 Investment income is shown in the consolidated statement of operations net of expenses of $352,549 and $276,274 for the years ended, respectively. 19

22 4. Property, Plant and Equipment Property, plant and equipment consists of the following at September 30: Land and land improvements $ 1,109,852 $ 1,909,852 Buildings and improvements 213,301, ,541,398 Fixed equipment 38,468,934 36,099,742 Major movable equipment 115,024, ,994,728 Minor movable equipment 15,158,062 13,112,278 Leasehold improvements 4,262,052 4,262,052 Construction in progress 22,220,097 13,682, ,545, ,602,338 Less: Accumulated depreciation (232,895,610) (215,071,702) $ 176,649,735 $ 157,530,636 Included in property, plant and equipment as of are assets under capital leases for major movable equipment with a cost of $6,746,153 and $6,746,153, respectively, and related accumulated amortization of $4,013,033 and $3,729,439, respectively. Interest expense capitalized as a component of the cost of assets constructed is $1,212,462 and $1,501,528 for the years ended, respectively. Depreciation expense amounted to $17,926,935 and $15,051,074 for the years ended, respectively, of which $16,442,402 and $14,445,359 related to the Obligated Group (Note 7). 5. Asset Retirement Obligation The Foundation recognizes the fair value of a liability for legal obligations associated with asset retirements in the period in which the obligation is incurred, in accordance with authoritative guidance for accounting for asset retirement obligations and accounting for conditional asset retirement obligations. When the liability is initially recorded, the cost of the asset retirement obligation is capitalized by increasing the carrying amount of the related long-lived asset. The liability is accreted to its present value each period, and the capitalized cost associated with the retirement obligation is depreciated over the useful life of the related asset. Upon settlement of the obligation, any difference between the cost to settle the asset retirement obligation and the liability recorded is recognized as a gain or loss in the statement of operations. 20