Aria Health System, Inc. Reports on Federal Awards in Accordance with The Uniform Guidance June 30, 2016 Federal Entity Identification Number

Transcription

1 Reports on Federal Awards in Accordance with The Uniform Guidance June 30, 2016 Federal Entity Identification Number

2 Index June 30, 2016 and 2015 Page(s) Part I Financial Statements Report of Independent Auditors Financial Statements and Notes to Financial Statements Schedule of Expenditures of Federal Awards...29 Notes to Schedule of Expenditures of Federal Awards...30 Part II Reports on Internal Control and Compliance Report of Independent Auditors on Internal Control over Financial Reporting and on Compliance and Other Matters Based on an Audit of Financial Statements Performed in Accordance with Government Auditing Standards Report of Independent Auditors on Compliance with Requirements That Could Have a Direct and Material Effect on Each Major Program and on Internal Control over Compliance in Accordance with the OMB Uniform Guidance Part III Findings and Questioned Costs Schedule of Findings and Questioned Costs Summary Schedule of Prior Audit Findings...38

3 Part I Financial Statements

4 Report of Independent Auditors To the Board of Directors of Aria Health System, Inc.: Report on the Consolidated Financial Statements We have audited the accompanying consolidated financial statements of Aria Health System, Inc., which comprise the consolidated balance sheets as of June 30, 2016 and June 30, 2015, and the related consolidated statement of operations, statement of changes in net assets, and statement of cash flows for the years then ended, and the related notes to the financial statements. Management s Responsibility for the Consolidated Financial Statements Management is responsible for the preparation and fair presentation of the 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. Auditors Responsibility Our responsibility is to express an opinion on the consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America and the standards applicable to financial audits contained in Government Auditing Standards, issued by the Comptroller General of the United States. Those standards require that we plan and perform the audit 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 our 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, we consider internal control relevant to Aria Health System Inc.'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 Aria Health System Inc.'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 we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Aria Health System, Inc. as of June 30, 2016 and June 30, 2015, and the results of its operations and changes in its net assets and its cash flows for the years then ended in accordance with accounting principles generally accepted in the United States of America.

5 Other Matters Other Information Our audit was conducted for the purpose of forming an opinion on the consolidated financial statements as a whole. The consolidating 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 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 consolidating information is fairly stated, in all material respects, in relation to the consolidated financial statements taken as a whole. The consolidating information is presented for purposes of additional analysis of the consolidated financial statements rather than to present the financial position, results of operations and cash flows of the individual entities and is not a required part of the consolidated financial statements. Accordingly, we do not express an opinion on the financial position, results of operations and cash flows of the individual entities. The accompanying schedule of expenditures of federal awards for the year ended June 30, 2016 is presented for purposes of additional analysis as required by Title 2 U.S. Code of Federal Regulations Part 200, Uniform Administrative Requirements, Cost Principles, and Audit Requirements for Federal Awards (Uniform Guidance) and is 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 information has 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 schedule of expenditures of federal awards is fairly stated, in all material respects, in relation to the consolidated financial statements as a whole. Other Reporting Required by Government Auditing Standards In accordance with Government Auditing Standards, we have also issued our report dated August 31, 2016 on our consideration of Aria Health System, Inc. s internal control over financial reporting and on our tests of its compliance with certain provisions of laws, regulations, contracts and grant agreements and other matters for the year ended June 30, The purpose of that report is to describe the scope of our testing of internal control over financial reporting and compliance and the results of that testing, and not to provide an opinion on internal control over financial reporting or on compliance. That report is an integral part of an audit performed in accordance with Government Auditing Standards in considering Aria Health System, Inc.'s internal control over financial reporting and compliance. Philadelphia, PA August 31,

6 Consolidated Balance Sheets June 30, 2016 and Assets Current assets: Cash and cash equivalents $ 36,877,260 $ 34,152,863 Short term investments 5,260,221 6,107,494 Accounts receivable, less allowance for doubtful accounts of $17,200,000 and $15,800,000 in 2016 and 2015 respectively 70,408,903 66,372,493 Inventory 6,936,943 6,189,892 Other current assets 22,079,607 17,402,352 Assets whose use is limited 9,158,192 12,639,412 Total current assets 150,721, ,864,506 Long-term investments 146,989, ,521,642 Assets whose use is limited 16,037,510 22,438,351 Assets held by affiliated foundation 47,725,201 48,321,383 Land, buildings and equipment, net 228,401, ,103,175 Other non-current assets 19,892,333 23,286,419 Total assets $ 609,767,804 $ 628,535,476 Liabilities and Net Assets Current liabilities: Current portion of long-term obligations $ 660,277 $ 644,851 Accounts payable and accrued expenses 42,012,622 40,241,289 Accrued salaries and wages 20,887,502 22,459,386 Accrued vacation 16,649,896 15,578,108 Current portion of accrued professional and workers compensation liability 9,291,075 11,016,727 Estimated third party payable 14,389,851 16,454,173 Other liabilities 6,899,513 6,944,606 Total current liabilities 110,790, ,339,140 Long-term obligations 70,119,679 65,379,954 Accrued pension liability 88,465,490 42,446,846 Accrued professional and workers compensation liability 64,896,353 73,057,493 Other liabilities 1,494,431 4,315,155 Total liabilities 335,766, ,538,588 Net assets: Unrestricted 271,808, ,269,091 Temporarily restricted 2,192,711 1,727,797 Total net assets 274,001, ,996,888 Total liabilities and net assets $ 609,767,804 $ 628,535,476 The accompanying notes are an integral part of these consolidated financial statements. 3

7 Consolidated Statements of Operations Years Ended June 30, 2016 and Unrestricted operating revenues, gains and other support: Patient service revenue (net of contractual allowances and discounts) $ 585,619,094 $ 527,817,288 Less: Provision for bad debt (27,453,846) (29,214,993) Net patient service revenue less provision for bad debt 558,165, ,602,295 Investment income 389, ,545 Other revenues 43,520,094 28,568,863 Net assets released from restrictions used for operations - 125,959 Total unrestricted operating revenues, gains, and other support 602,075, ,701,662 Operating expenses: Salaries and employee benefits 322,646, ,371,501 Physician and outside service fees 88,514,417 81,275,288 Supplies 84,082,419 80,837,973 Depreciation and amortization 33,259,156 30,720,679 Interest expense 1,063,405 1,835,465 Insurance 19,343,558 15,086,621 Other 57,512,970 41,501,747 Total operating expenses 606,422, ,629,274 Operating loss (4,347,276) (40,927,612) Nonoperating revenues: Realized gain from investments 4,941,536 9,322,405 Other (332,550) - Excess (deficit) of revenues over expenses $ 261,710 $ (31,605,207) The accompanying notes are an integral part of these consolidated financial statements. 4

8 Consolidated Statements of Changes in Net Assets Years Ended June 30, 2016 and Unrestricted net assets: Excess (deficit) of revenues over expenses $ 261,710 $ (31,605,207) Change in net unrealized (losses) gains on investments (6,429,307) (6,661,676) Change in pension liability (49,696,908) 24,763,546 Change in assets held by affiliated foundation (596,182) 1,054,035 Other - 218,330 Decrease in unrestricted net assets (56,460,687) (12,230,972) Temporarily restricted net assets: Contributions 395, ,504 Net assets released from restrictions 69,523 (126,847) Increase in temporarily restricted net assets 464, ,657 Decrease in net assets (55,995,773) (11,815,315) Net assets Beginning of year 329,996, ,812,203 End of year $ 274,001,115 $ 329,996,888 The accompanying notes are an integral part of these consolidated financial statements. 5

9 Consolidated Statements of Cash Flows Years Ended June 30, 2016 and Cash flows from operating activities: Decrease in net assets $ (55,995,773) $ (11,815,315) Adjustments to reconcile change in net assets to net cash provided by operating activities: Net realized and unrealized gains on investments 3,104,866 (1,176,248) Depreciation and amortization 33,259,156 30,720,679 Provision for bad debts 27,453,846 29,214,993 Restricted contributions received (395,391) (542,504) Change in pension liability 49,696,908 (24,763,546) (Increase) decrease due to changes in: Accounts receivable (43,452,018) (37,778,218) Inventory (747,051) (564,948) Assets held by affiliated foundation 596,182 1,935,275 Other assets 10,678,594 (1,254,266) Increase (decrease) due to changes in: Accounts payable, accrued expenses and accrued salaries & wages 199,447 (5,382,600) Accrued vacation 1,071, ,790 Third party payable (2,064,322) 222,631 Other changes in pension liability (3,678,264) 11,407,867 Accrued professional & workers compensation liability (9,886,792) (640,142) Other liabilities (2,865,816) (771,241) Net cash provided (used) by operating activities 6,975,360 (10,474,793) Cash flows from investing activities: Purchase of land, building and equipment, net (26,557,847) (33,570,767) Sale of investments and assets whose use is limited, net 17,156,342 7,351,529 Net cash used in investing activities (9,401,505) (26,219,238) Cash flows from financing activities: Restricted contributions received 395, ,504 Additional borrowings 5,400,000 51,425,000 Decrease in mortgage note (644,849) (632,896) Net cash provided by financing activities 5,150,542 51,334,608 Net increase in cash and cash equivalents 2,724,397 14,640,577 Cash and cash equivalents: Beginning of year 34,152,863 19,512,286 End of year $ 36,877,260 $ 34,152,863 Supplemental disclosures: Interest paid $ 1,063,405 $ 1,835,465 Noncash capital expenditures 857,822 1,056,577 The accompanying notes are an integral part of these consolidated financial statements. 6

10 Notes to Consolidated Financial Statements June 30, 2016 and Summary of Significant Accounting Policies Nature of Operations Aria Health System ( AHS ), located in Philadelphia and Bucks Counties, Pennsylvania, is an integrated health care organization that provides patient care services for residents of the Greater Philadelphia Region. Basis of Presentation The accompanying consolidated financial statements have been prepared on the accrual basis and represent a consolidation of all entities within AHS, including Aria Health (the Hospital ), Aria Health Physician Services ( AHPS ), Aria Health Orthopaedics ( AH 3B s ), Hospital Medical Imaging ( HMI ) and System Service Corporation ( SSC ). AHS, AHPS, HMI, and the Hospital are tax-exempt organizations under Section 501(c) (3) of the Internal Revenue Code. All significant intercompany accounts and transactions have been eliminated. Uses 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 at the date of the financial statements, the reported amounts of revenues and expenses during the reporting period, and the accompanying notes. Voluntary Early Retirement Program (VERP) On January 8, 2014, we announced that, as part of the ongoing expense management, we had initiated a voluntary early retirement program ( VERP ). During fiscal year 2015, cash payments of $5.6 million were made for severance and related cost associated with the VERP. We had $1.4 million for severance and related cost accrued as of June 30, As of June 30, 2016, there are no remaining liabilities or accruals related to the VERP. Financial Statement Presentation AHS classifies net assets into three net asset categories according to donor-imposed restrictions. A description of the three net asset categories follows: Unrestricted Net Assets are those assets that are available for the support of operations and whose use is not externally restricted, although their use may be limited by other factors such as by contract or board designation. Temporarily Restricted Net Assets include gifts for which donor imposed restrictions have not been met and trust activity and pledges receivable for which the ultimate purpose of the proceeds is not permanently restricted. Permanently Restricted Net Assets include gifts, trusts and pledges which require by donor restriction that the corpus be invested in perpetuity and only the income be made available for operations in accordance with donor restrictions. 7

11 Notes to Consolidated Financial Statements June 30, 2016 and 2015 Net Patient Service Revenue Net patient service revenue is reported at the estimated net realizable amounts from patients, third-party payers and others for services rendered, including estimated retroactive adjustments under reimbursement agreements with third-party payers. Retroactive adjustments are considered in the recognition of revenue on an estimated basis in the period the related services are rendered and are adjusted in future periods as final settlements are determined. During 2016 and 2015, third party settlements from prior years of $1.5 million and $0.0 million, respectively, were included in net patient service revenue. Revenue from the Medicare and Medicaid programs accounted for approximately 25% and 3% respectively, of the Hospital s net patient service revenue for the fiscal year ended June 30, 2016 and 24% and 4%, respectively, for the fiscal year ended June 30, Most payments to the Hospital from the Medicare and Medicaid programs for hospital services are made on a predetermined fixed rate basis. Under these programs, payments are made at a specific rate for each discharge based on a patient s diagnosis. Additional payments are made to the Hospital for cases that have an extremely long length of stay or unusually high costs in comparison to national or statewide averages. Laws governing the Medicare and Medicaid programs are complex and subject to interpretation. Payments for physician s services generally follow a specific rate based on each service provided. The Hospital has also entered into agreements with certain commercial insurance carriers, health maintenance organizations and preferred provider organizations, one carrier being 29.7% and 30.7%, respectively, of net patient revenues for Hospital operations for fiscal years ended June 30, 2016 and The basis for the payment to the Hospital under these agreements includes prospectively determined rates per discharge, discounts from established charges and prospectively determined daily rates and capitated rates. Charitable Medical Care Provided The Hospital provides services to all patients regardless of ability to pay. Although all patients are ultimately responsible for those hospital services rendered that are not covered by insurance, some patients qualify for charity care based on guidelines established by the Hospital and are therefore not responsible for payment of all or a part of such services. The Hospital s policy recognizes charity care based on the zip code where the patient resides. Charges for services rendered to patients who meet the Hospital s guidelines for charity care are not reflected in the accompanying consolidated financial statements. The cost for these services totaled $13.7 million and $16.5 million in 2016 and 2015, respectively. These amounts do not include the provision for bad debts, which is reflected separately in the accompanying consolidated statements of operations. Aria Health received charity care from the Commonwealth of PA totaling $0.3 million and $0.3 million for the years ended June 30, 2016 and 2015, respectively. In addition, disclosure of the method used to identify or determine such costs is required. Aria Health estimates the cost of charity care using the ratio of cost to charge methodology. Total charity care charges are multiplied by a ratio of cost to charges. Provision for Bad Debt Expense The provision for bad debt expense is based on management s assessment of excepted net collections considering economic conditions, historical experience, trends in health care coverage and other collection indicators. Periodically throughout the year, management assesses the adequacy of the allowance for uncollectible accounts based upon historical write-off experience by payer category, including not covered by insurance, and history of cash collections. The results of this view are than used to make modifications to the provision for bad debt expense to establish an 8

12 Notes to Consolidated Financial Statements June 30, 2016 and 2015 appropriate allowance for uncollectible accounts and is recorded in the period of service. No significant modifications were made for fiscal year 2016 and After satisfaction of amounts due from insurance and reasonable efforts to collect from the patient have been exhausted, AHS follows established guidelines for placing certain past-due patient balances with collections agencies, subject to terms of certain restrictions on collection efforts as determined by AHS. Account receivables are written off after collection efforts have been followed in accordance with AHS policy. Net Patient Revenue by Payor Medicare 25 % 24 % Medicaid 3 % 4 % Managed Care (including Managed Medicare & Medicaid) 54 % 54 % Commercial 15 % 16 % Self Pay 3 % 2 % 100 % 100 % Net patient service revenue (net of contractual allowances, provisions for bad debt and discounts) Third Party Total Payors Self-Pay All Payors 2016 $ 533,302,613 $ 24,862,635 $ 558,165, $ 478,816,822 $ 19,785,473 $ 498,602,295 Net patients accounts receivable Medicare 19 % 15 % Medicaid 6 % 18 % Managed Care (including Managed Medicare & Medicaid) 34 % 42 % Commercial 24 % 16 % Self pay patients 17 % 9 % 100 % 100 % Cash and Cash Equivalents Cash and cash equivalents consist of cash and investments in highly liquid debt instruments that are not designated for restriction by the donor or the Board of Trustees, and have an original maturity of three months or less. The carrying amount of cash and cash equivalents approximates fair value due to the short-term nature of these instruments. 9

13 Notes to Consolidated Financial Statements June 30, 2016 and 2015 Land, Buildings, Equipment and Depreciation Land, buildings, and equipment are stated at cost. Depreciation is calculated utilizing the straight-line method based on the estimated useful lives of the underlying assets. The estimated useful lives by major asset classification are as follows: Equipment 3 to 7 years Room renovations Floor renovations 20 years Building renovations 40 years 10 to 15 years Gains and losses from retirement or disposition of fixed assets are recognized in the consolidated statement of operations as nonoperating income. Investments and Investment Income The fair values for marketable equity, government, and fixed-income securities included in cash and cash equivalents, investments and marketable securities whose use is limited are based on quoted market prices. AHS policy is to segregate investment income between operating and nonoperating income to better match operating income with operating expenses. Investment income or loss on unrestricted cash, short-term investments and trustee-held funds associated with debt obligations (including realized gains and losses on investments, interest and dividends) is included in operating income. All other investment income, with the exception of unrealized gains and losses, is included in the line item nonoperating revenues. Unrealized gains and losses on all investments are shown below excess of revenues over expenses. Investment income on investments of donor-restricted funds, including unrealized gains and losses, is added to (deducted from) the appropriate net asset category based on the donor s restrictions. A write down in the cost basis of investments is recorded when the decline in fair value of investments has been judged to be other than temporary. The amount of the write down is reported as a realized loss in either temporarily restricted net assets or in excess of revenue over expenses, with no adjustment in the cost basis for subsequent recoveries in fair value. Other Assets Other current assets are composed primarily of prepayments, tobacco settlements, nursing school tuition, meaningful use receivables from governmental payors, and third party receivable. Other noncurrent assets represent the gross receivable recovery on insurance claims and the intangible asset acquired as a part of the AH 3B acquisition. Professional Liability Insurance and Other Insurance Professional liability claims are insured under a combination of a captive insurer, self-insurance, and excess commercial reinsurance programs. All of the healthcare provider entities participate in the Medical Care Availability and Reduction of Error ( Mcare ) Fund. Management accrues its best estimate of known and potentially unknown medical malpractice and workers compensation losses utilizing historical and actuarial data on a discounted basis. In accordance with accounting guidance for the presentation of insurance claims and associated insurance recoveries for healthcare organizations, AHS reflects their gross exposure to claims 10

14 Notes to Consolidated Financial Statements June 30, 2016 and 2015 liabilities with a corresponding receivable for insurance recoveries. As of June 30, 2016 and 2015, estimated receivables in the amounts of $15.5 million and $16.0 million are recorded in Other noncurrent assets. Aria Health Foundation The Aria Health Foundation (formerly the Frankford Hospital Foundation), a separate corporation not under the control of the Hospital, accepts gifts and bequests and engages in fund-raising activities for the benefit of the Hospital. The Board of Trustees of the Foundation, at its sole discretion, is authorized to contribute Foundation funds to the Hospital. The Foundation made no contribution for the year ended June 30, 2016 and $2.9 million for the year ended June 30, The contribution was included in other operating revenues in support of physician recruitment and retention programs. AHS records an investment in the assets of the Foundation. While the sole purpose of the Foundation is to support the Hospital, this accounting treatment does not imply that the Foundation s assets, nor investment income, are those of the Hospital or of AHS. The consolidated financial statements do not reflect or establish the legal relationship, agency or otherwise, between the Foundation and the Hospital, or any right to assets owned by the Foundation. The Bylaws of the Foundation provide that all assets held by it shall not be subject to attachment, execution, or sequestration for any debt, obligation or liability of the Hospital or any other person or entity, and shall not be subject to pledge, assignment, conveyance or anticipation by the Hospital or any other person or entity. In particular, the Foundation is not a party to or obligated by any debt instrument of AHS or the Hospital, and assets owned by the Foundation are not subject to the lien of any such debt instrument. Donor Restricted Gifts Unconditional promises to give cash and other assets to the Hospital are reported at fair value at the date the promise is received. The gifts are reported as either temporarily or permanently restricted support if they are received with donor stipulations that limit the use of the donated assets. When a donor restriction expires, that is, 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 statement of operations as net assets released from restrictions. Donor-restricted contributions whose restrictions are met within the same year as received are reported as unrestricted contributions in the accompanying consolidated financial statements. Performance Indicator The consolidated statements of operations include revenues over expenses. Changes in unrestricted net assets, which are excluded from revenues over expenses, consistent with industry practice, include unrealized gains and losses on investments, certain changes in the pension liability, change in assets held by affiliate foundation, and net assets released from donor restrictions to be used for purchases of property and equipment. Income Taxes AHS, AHPS, HMI, AH 3B s and the Hospital qualify as a tax-exempt organization under section 501(c) (3) of the Internal Revenue Code. SSC is not a tax-exempt organization. No provision for state income taxes is required. Per the requirement to assess for tax uncertainty, management has determined that it does not have any uncertain tax positions required to be accrued or reported. 11

15 Notes to Consolidated Financial Statements June 30, 2016 and 2015 Meaningful Use The America Recovery and Reinvestment Act of 2009 ( ARRA ) established incentive payments under the Medicare and Medicaid programs for certain professionals and hospitals that meaningfully use certified electronic health record ( EHR ) technology. AHS recognizes its EHR incentive payments using a government grant recognition model. AHS determined the EHR incentive payments are similar to grants that are related to income and recognizes the incentive payments ratably over each meaningful use period. AHS recognizes the incentive payments when there is reasonable assurance that it will comply with the conditions attached to them and that the grants will be received. The recognition of the income related to the EHR incentive payments is based on management s best estimates and the amounts are subject to change, with such changes impacting the operations in the period in which they occur. Any material changes would be disclosed by Aria as a change in accounting estimate. AHS recognized income of $0.1 million and $1.0 million, respectively, for the years ended June 30, 2016 and Medicaid Modernization Program On July 3, 2011, the Pennsylvania General Assembly passed the Public Welfare Code amendment (Act 49) which was signed into law by the Governor, establishing a new program referred to as Medicaid Modernization. The program was subsequently approved by the federal Centers for Medicare and Medicaid Services. The program is designed to provide additional funding to Pennsylvania hospitals for the purpose of enhancing access to quality healthcare for qualifying Medicaid beneficiaries, helping to partially mitigate the losses incurred by hospitals resulting from low reimbursement rates. To accomplish this objective, the program provides participating hospitals with improved inpatient fee-for-service hospital payments, establishes enhanced hospital payments through Medicaid managed care organizations (MCOs), and secures additional federal matching Medicaid funds through a Quality Care Assessment, under which hospitals pay the state a percentage of their net inpatient revenue. After deducting the cost of the assessment due to the state, AHS recognized additional revenues over expenses of $9.7 million in fiscal year 2016 and $8.9 million in fiscal year 2015 from the Pennsylvania Medicaid Modernization program. Subsequent Events AHS has evaluated subsequent events in accordance with the Statement through August 31, Effective July 1, 2016, Jefferson Health became the sole corporate member of AHS. AHS and Jefferson entered into a Letter of Intent to join together in October 2015 and a definitive agreement was signed in January Jefferson Health is non-profit corporation organized under the laws of the Commonwealth of Pennsylvania and recognized as a tax-exempt organization pursuant to Section 501(c)(3) of the Internal Revenue Code. Jefferson Health is an integrated healthcare organization that provides inpatient, outpatient, and emergency care services through acute care, ambulatory care, physician, and other primary care services for residents of the Greater Philadelphia Region. The Amended and Restated Articles of Incorporation where Jefferson Health became the sole member of AHS were filed and executed effective July 1, 2016 at 12:01 a.m. These consolidated financial statements do not include the financial position for Jefferson Health nor the results of operations for Jefferson Health. Recent Accounting Pronouncements In May 2014, the FASB issued a standard on Revenue from Contracts with Customers. This standard implements a single framework for recognition of all revenue earned from customers. This framework ensures that entities appropriately reflect the consideration to which they expect to be entitled in exchange for goods and services by allocating transaction price to identified performance obligations and recognizing revenue as performance obligations are satisfied. Qualitative and quantitative disclosures are required to enable users of financial statements to 12

16 Notes to Consolidated Financial Statements June 30, 2016 and 2015 understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The standard is effective for fiscal years beginning after December 15, AHS is evaluating the impact this will have on the combined financial statements beginning in fiscal year In April 2015, the FASB issued a standard on Simplifying the Presentation of Debt Issuance Costs. This standard requires all costs incurred to issue debt to be presented in the balance sheet as a direct deduction from the carrying value of the associated debt liability. The standard is effective for fiscal years beginning after December 15, AHS is evaluating the impact this will have on the combined financial statements beginning in fiscal year In February 2016, the FASB issued a standard on Leases. This standard requires lessees to recognize assets and liabilities for the rights and obligations created by leases with terms in excess of 12 months. The recognition, measurement, and presentation of expenses and cash flows arising from a lease will primarily depend on its classification as a finance or operating lease. The accounting by lessors remains largely unchanged. This standard is effective for fiscal years beginning after December 15, AHS is evaluating the impact this will have on the combined financial statements beginning in fiscal year Patient Service Revenue Patient service revenue, contractual allowances/discounts, and the provision for bad debt recognized in the period is as follows for the years ended June 30, 2016 and 2015: Gross revenue $ 2,603,417,140 $ 2,239,347,882 Less: Contractual allowances (2,017,798,046) (1,711,530,594) Bad debt (27,453,846) (29,214,993) Net patient revenue $ 558,165,248 $ 498,602, Investments Assets Whose Use is Limited Assets whose use is limited designated by the board for capital expenditures as of June 30, 2016 and 2015, respectively are set forth below: Board designated funds for capital expenditures $ 25,195,702 $ 35,077,763 13

17 Notes to Consolidated Financial Statements June 30, 2016 and Amounts classified as assets whose use is limited US Government obligations $ 5,023,485 $ 6,404,511 Corporate obligations 8,555,330 12,077,097 Foreign Obligations 200,548 - Mutual funds 8,011,512 7,202,456 Money market 3,404,827 8,735,576 Total amounts classified as assets whose use is limited $ 25,195,702 $ 35,077,763 A summary of investments, which includes short term investments, at June 30, 2016 and 2015, is as follows: Amounts classified as investments US Government obligations $ 17,508,870 $ 15,423,810 Corporate obligations 13,203,269 13,538,876 Mutual funds 117,058, ,423,096 Foreign obligations 675, ,973 Money market 3,803,682 2,718,381 Total investments $ 152,249,990 $ 162,629,136 Investment income for the year ended June 30, 2016 and 2015 consists of the following: Investment income included in operating income Interest and dividends $ 391,111 $ 400,422 Realized (loss) gain on sales of investments (1,394) 4, , ,545 Investment income nonoperating income Interest and dividends 1,576,092 1,586,979 Other than temporary loss on securities (450,725) (705,076) Realized (loss) gain on sales of investments 3,816,169 8,440,502 4,941,536 9,322,405 Total investment income $ 5,331,253 $ 9,726,950 Based upon AHS annual impairment evaluation, AHS realized the following other than temporary losses as either other operating income or as nonoperating income. Other operating income and 14

18 Notes to Consolidated Financial Statements June 30, 2016 and 2015 nonoperating income depends on the investments classification as short term or long term, respectively, as determined by management. 4. Fair Value Measurement Fair Value Measurement 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 AHS 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. There were no Level 3 securities. 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. The following tables present the financial instruments carried at fair value as of June 30, 2016 and 2015, by caption on the statement of financial position by the hierarchy defined above: 15

19 Notes to Consolidated Financial Statements June 30, 2016 and 2015 As of June 30, 2016 Assets Level 1 Level 2 Total Investments: Money Market $ 59,350 $ 3,345,477 $ 3,404,827 Corporate obligations - 38,652,155 38,652,155 Foreign obligations - 875, ,814 Municipal Obligations $ - 79,115 79,115 Mutual Funds 2,223, ,312, ,535,766 Government securities 11,329,270 6,832,505 18,161,775 Mortgage Backed Securities - 7,736,239 7,736,239 Liabilities Total assets $ 13,612,362 $ 163,833,329 $ 177,445,691 Interest rate swap payable $ - $ 277,276 $ 277,276 Total liabilities $ - $ 277,276 $ 277,276 As of June 30, 2015 Assets Level 1 Level 2 Total Investments: Money Market $ 381,339 $ 1,045,659 $ 1,426,998 Corporate obligations - 25,586,216 25,586,216 Foreign obligations - 524, ,973 Municipal Obligations 169, ,639 Mutual Funds 4,526, ,074, ,601,106 Government securities 10,143,730 21,782,898 31,926,628 Mortgage Backed Securities - 471, ,339 Total assets $ 15,051,537 $ 182,655,362 $ 197,706,899 Liabilities Interest rate swap payable $ - $ 382,111 $ 382,111 Total liabilities $ - $ 382,111 $ 382,111 Interest rate swaps are valued using both observable and unobservable inputs, such as quotations received from the counterparty, dealers or brokers, whenever available and considered reliable. In instances where models are used, the value of the interest rate swap depends upon the contractual terms of, and specific risks inherent in, the instrument as well as the availability and reliability of observable inputs. Such inputs include market prices for reference securities, yield curves, credit curves, measures of volatility, prepayment rates, assumptions for nonperformance risk, and correlations of such inputs. Certain of the interest rate swap arrangements have inputs, which can generally be corroborated by market data and are therefore classified within Level 2. The valuation of AHS interest rate swap instrument uses proprietary curves that take into account both Level 1 and Level 2 inputs. These 16

20 Notes to Consolidated Financial Statements June 30, 2016 and 2015 internal curves are market based. As a standard, such instruments are valued using midmarket pricing. As a result this instrument is classified within Level Land, Buildings and Equipment A summary of land, buildings and equipment and related accumulated depreciation as of June 30, 2016 and 2015 is as follows: Land and land improvements $ 31,838,494 $ 31,816,508 Buildings 272,320, ,997,959 Equipment 398,110, ,566,439 Leasehold improvements 18,165,286 18,404,471 Construction-in-progress 3,307,221 13,521, ,742, ,306,723 Less: Accumulated depreciation (495,340,363) (462,203,548) $ 228,401,866 $ 235,103,175 Depreciation expense amounted to $33.3 million for the year ended June 30, 2016 and $30.7 million for the year ended June 30, Long-Term Obligations Long-term debt at June 30, 2016 and 2015 consisted of the following: Mortgage note payable A, due 2028 (6.95%) $ 3,642,851 $ 3,840,885 Mortgage note payable B, due 2018 (2.25%) 4,014,194 4,141,213 Note Payable, due 2015 (9.5%) - 21,927 Mortgage note payable C, (4.27%) 6,297,911 6,595,780 Bonds Payable variable rate 56,825,000 51,425,000 Total long-term obligations 70,779,956 66,024,805 Less: Amounts due within one year (660,277) (644,851) Total long-term obligations, net of current portion $ 70,119,679 $ 65,379,954 Mortgage Notes Payable Mortgage notes payable consist primarily of four separate borrowings pursuant to a long-term financing agreement. The first loan, mortgage note payable A was issued in the amount of $4,950,000 as of June 30, This note has a fixed rate of 6.95% per annum for its initial 10-year term. The rate adjusts on 5-year anniversary dates thereafter and full amortizes within 20 years. The note is payable in equal monthly installments of $38,229 including principal and interest, and has a balance of $3,642,851 as of June 30,

21 Notes to Consolidated Financial Statements June 30, 2016 and 2015 The second loan, mortgage note payable B, was issued in the amount of $4,850,000 on April 23, This note has a floating option of the USD-LIBOR-BBA plus 2% and matures April 23, The note is payable in estimated monthly installments of $24,000 including interest and principal payment. All remaining principal and accrued interest shall be due and payable on April 23, On April 23, 2018, an estimated balloon payment of $3,700,000 is due. The borrowings are collateralized by a first mortgage lien on certain land, buildings and equipment of AHS. The LIBOR rate at June 30, 2016 was.467%. The third loan issued in the amount of $402,961 in January 1996, matured on December 31, 2015 note payable due 2015, was issued in the amount of $402,961 on January The fourth loan, mortgage note payable C, is a construction loan with a principal amount not to exceed $7,570,000. At June 30, 2016, the principal loan amount was $6,297,911. The loan is bucketed into 3 pieces. The sum of the principal in the first two buckets cannot exceed $6,600,000. The amortization on this portion of the loan will be 20 years. The principal in the third bucket cannot exceed $970,000. The amortization period for this part of the loan is 10 years. At the end of year ten, the unpaid principal on the loan will need to be paid off or refinanced. The final drawdown is expected to occur during fiscal year At June 30, 2016 the interest rate was fixed at 4.27%. The fifth loan, was issued on July 24, 2014, AHS issued $75,000,000 in Revenue Bonds, Series 2014 through the Philadelphia Authority for Industrial Development ( PAID ). The registered owner of the Series 2014 Bonds is 233 Genesee Street Corporation (Bond Purchaser), a New York corporation with offices at One M&T Plaza, Buffalo, New York At June 30, 2016, the principal loan was $56,825,000. The interest rate on the term loan is 78% of 1-month LIBOR + 80 bps - at June 30, 2016 the interest rate was 1.19%. The bond proceeds are being used to: I. Finance the construction of the Emergency Room expansion at the Torresdale Campus, II. III. Fund future program expansion and Pay bond issuance costs. In conjunction with the above, AHS has entered into a loan agreement with PAID whereby PAID has loaned the proceeds of the Series 2014 Bonds to AHS. AHS has agreed to repay the loan by paying amounts sufficient to pay, when due, the principal and interest on the Series 2014 Bonds. AHS has an interest rate swap agreement. The swap is marked to market and recorded as nonoperating revenues other. The London InterBank Offered Rate ( LIBOR ) British Bankers Association ( BBA ) rates ranged from.151% to.187% in At June 30, 2016 and 2015, AHS recorded a liability of $0.3 million and $0.4 million, respectively, in other noncurrent liabilities. 18

22 Notes to Consolidated Financial Statements June 30, 2016 and 2015 Notional Amount at Fair Market Value at June 30 June 30 Expiration Date AHS Receives AHS Pays April 23, % of United States 6.39 % 4.0 million 4.1 million $ 277,276 $ 382,111 Dollar Libor BBA (One Month plus 1.60%) A summary of the principal payments on the long-term obligations is as follows: Fiscal Year Ending June $ 660, ,701, ,918, Thereafter 58,363,648 2,020,635 2,115,649 $ 70,779,956 Long-Term Debt Obligations The fair value of AHS long-term debt is determined based on current market rates and is classified as Level 2 within the fair value hierarchy. The carrying amounts and fair values of AHS long-term obligations at June 30, 2016 are as follows: 2016 Carrying Value Fair Value Long-term obligations $ 70,779,956 $ 70,398, Commitments and Contingencies Operating Leases AHS leases space in buildings to provide health care services and also leases certain office, computer and medical equipment that have initial or remaining noncancelable lease terms in excess of one year as of June 30, The future minimum rental payments required under all operating leases are as follows: 19

23 Notes to Consolidated Financial Statements June 30, 2016 and 2015 Fiscal years ending June $ 9,740, ,199, ,214, ,404, ,712,235 Thereafter 1,904,669 $ 36,176,654 Total rental expense was $7,444,126 for 2016 and $3,726,028 for 2015, respectively. Contractual Arrangements AHS has entered into certain multi-year contractual arrangements for maintenance and professional services that require installment payments throughout the contract term. The future payments in accordance with these contracts are as follows: Fiscal years ending June $ 4,150, ,420, Thereafter - $ 6,570,833 Letters of Credit At June 30, 2016 and 2015, AHS had open letters of credit aggregating $19,800,000 and $10,800,000, respectively. As of this date, AH has not drawn down on the letter of credit. Litigation The healthcare industry is subject to numerous laws and regulations which include, among other things, matters such as government healthcare participation requirements, various licensure, certifications, and accreditations, reimbursement for patient services, tax compliance and Medicare and Medicaid fraud and abuse. Providers that are found to have violated these laws and regulations may be subjected to potential licensure, certification, and/or accreditation revocation, subjected to fines or penalties or required to repay amounts received from the government for previously billed patient services. The outcome of any current or future litigation or governmental or internal investigations cannot be accurately predicted, nor can we predict any resulting penalties, fines or other sanctions that may be imposed at the discretion of federal or state regulatory authorities. We record accruals for such contingencies to the extent that we conclude it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. It is possible that the outcome of these matters could have a material adverse impact on our future results of operations, financial position, or cash flows. AHS is involved in other litigation arising in the ordinary course of business. In the opinion of management, all such matters are adequately covered by insurance or by accruals, and if not so 20

24 Notes to Consolidated Financial Statements June 30, 2016 and 2015 covered, are without substantial merit or are of such kind, or involve such amounts, as would not have a material adverse effect on the financial position or results of operations of AHS. 8. Pension Plan AHS systems offers its employees a Defined Contribution Pension Plan ( DC Plan ). The DC Plan has a cash balance feature that credits an amount equal to one half of an employee s contribution to a tax-deferred annuity plan up to a maximum contribution by the employee of 4% of gross wages or the federal limit, whichever is less. Any contributions by the employees in excess of 4% of gross wages do not receive a matching credit from the plan. The matching credit is funded once a year for all employees that are in an active status as of December 31 st. There is a legacy Defined Benefit Plan ( DB Plan ) that was frozen as of December 31, AHS contributed $5.5 million in fiscal year 2015, $3.0 million in fiscal year 2016 and plans to contribute $6.0 million (unaudited) in fiscal year 2017 to the DB Plan. At June 30, 2016 and 2015, amounts in unrestricted net assets that have not yet been recognized as components of net periodic pension expense are as follows: Net actuarial loss $ 104,793,402 $ 55,096,494 $ 104,793,402 $ 55,096,494 The pension liability adjustment to unrestricted assets was $49.7 million and $24.8 million for fiscal years 2016 and