OFFICIAL STATEMENT dated June 12, 2013

Transcription

1 NEW ISSUE BOOK-ENTRY ONLY OFFICIAL STATEMENT dated June 12, 2013 BANK QUALIFIED MOODY S RATING: A2 (See RATING herein.) In the opinion of Bond Counsel, under existing federal law and assuming compliance by the District with applicable requirements of the Internal Revenue Code of 1986, as amended (the Code ), that must be satisfied subsequent to the issue date of the Bonds, interest on the Bonds is excluded from gross income for federal income tax purposes and is not an item of tax preference for purposes of the federal alternative minimum tax applicable to individuals. However, while interest on the Bonds also is not an item of tax preference for purposes of the federal alternative minimum tax applicable to corporations, interest on the Bonds received by corporations is taken into account in the computation of adjusted current earnings for purposes of the federal alternative minimum tax applicable to corporations, interest on the Bonds received by certain S corporations may be subject to tax, and interest on the Bonds received by foreign corporations with United States branches may be subject to a foreign branch profits tax. Receipt of interest on the Bonds may have other federal tax consequences for certain taxpayers. (See FEDERAL TAX EXEMPTION Certain Other Federal Income Tax Consequences herein.) $8,265,000 PUBLIC HOSPITAL DISTRICT NO. 2 CHELAN COUNTY, WASHINGTON (LAKE CHELAN COMMUNITY HOSPITAL) LIMITED TAX GENERAL OBLIGATION REFUNDING BONDS, 2013 DATED: Date of Delivery (expected to be June 25, 2013) DUE: December 1, as shown on the inside cover Public Hospital District No. 2, Chelan County, Washington (Lake Chelan Community Hospital) (the District ) provides this Preliminary Official Statement in connection with the issuance of its Limited Tax General Obligation Refunding Bonds, 2013 (the Bonds ). The Bonds mature on December 1 in each of the years and amounts set forth on the inside cover hereof and will bear interest from the Date of Delivery, to their respective maturities or date of prior redemption, at the rates per annum as shown on the inside cover hereof. The Bonds will be issued as fully registered bonds under a book-entry system, initially registered to Cede & Co., as nominee of The Depository Trust Company ( DTC ), New York, New York, which will act as securities depository for the Bonds. Individual purchases of Bonds will be made in the principal amount of $5,000, or integral multiples thereof within a single maturity. The purchasers will not receive certificates representing their interest in the Bonds, as long as the Bonds are in bookentry form. Interest will be payable semi-annually on June 1 and December 1, commencing December 1, 2013 to the maturity or date of prior redemption of the Bonds. The Washington State Fiscal Agent, currently The Bank of New York Mellon, New York, New York, will serve as registrar, paying agent and transfer agent (the Bond Registrar ) for the Bonds. For so long as the Bonds are held by DTC in book-entry format, principal and interest payments will be made as described in APPENDIX E - BOOK-ENTRY SYSTEM. The Bonds are limited tax general obligations of the District. The District has covenanted and agreed irrevocably that it will include in its budget and levy an ad valorem tax upon all the property within the District subject to taxation without a vote of the people in an amount that will be sufficient, together with all other revenues and money of the District legally available for such purposes, to pay the principal of and interest on the Bonds as the same become due. The District has irrevocably pledged that such tax will be within and as a part of the tax permitted to hospital districts without a vote of the people. The proceeds of the Bonds will be used to pay the costs of: (1) currently refunding and defeasing all of the District s outstanding Limited Tax General Obligation Bonds, 2001, maturing on December 1 in the years 2015 and 2021; (2) currently refunding and defeasing all of the District s outstanding Limited Tax General Obligation Bonds, 2006, maturing on December 1 in the years 2013 through 2017, inclusive, 2019 through 2021, inclusive, and 2026; (3) advance refunding and defeasing all of the District s outstanding Limited Tax General Obligation Bonds, 2009, maturing on December 1 in the years 2016 through 2019, inclusive, 2024, 2029 and 2034; and (4) paying the costs of the refundings and the costs related to the issuance and sale of the Bonds. The Bonds are subject to optional redemption prior to maturity and Term Bonds are subject to mandatory redemption. (See THE BONDS - Authorization, - Security - Pledge of Full Faith and Credit, - Purpose and Use of Proceeds and - Redemption and Purchase herein.) The District has designated the Bonds as Qualified Tax-Exempt Obligations within the meaning of Section 265(b)(3) of the Code. (See FEDERAL TAX EXEMPTION Certain Other Federal Income Tax Consequences herein.) The Bonds are offered by the Underwriter when, as and if issued by the District, subject to the final approving legal opinion of Foster Pepper PLLC, Seattle, Washington, Bond Counsel, which opinion will be delivered with the Bonds. The fees of Bond Counsel and the Underwriter are contingent on the issuance of Bonds. The Bonds, in book-entry form, are expected to be available through the facilities of DTC for delivery by Fast Automated Securities Transfer on or about June 25, 2013 (the Issue Date ). This cover page contains certain information for quick reference only. It is not a summary of this issue. Investors must read the entire preliminary official statement to obtain information essential to making an informed investment decision. D.A. DAVIDSON & CO.

2 $8,265,000 Public Hospital District No. 2 Chelan County, Washington (Lake Chelan Community Hospital) Limited Tax General Obligation Refunding Bonds, 2013 MATURITY SCHEDULE DATED: Date of Delivery DUE: December 1, as shown below Year Amount Interest Rate Yield to Maturity Price (% of Par) CUSIP No $180, % 0.530% % FT , FU , FV , FW , FX , FY , FZ , GA , GB , GC , GD6 $2,015, % Term Bonds due December 1, a price of %, yield 4.088%; CUSIP No GJ3 1 $3,065, % Term Bonds due December 1, a price of %, yield 4.530%; CUSIP No GQ7 1 1 CUSIP is a registered trademark of the American Bankers Association. CUSIP data herein is provided by Standard & Poor s CUSIP Service Bureau, a division of The McGraw-Hill Companies. The CUSIP number is included above for convenience of the holders and potential holders of the Bonds. No assurance can be given that the CUSIP number for the Bonds will remain the same after the date of issuance and delivery of the Bonds.

3 PUBLIC HOSPITAL DISTRICT NO. 2 CHELAN COUNTY, WASHINGTON (LAKE CHELAN COMMUNITY HOSPITAL) P.O. Box 908 Chelan, WA (509) * Certain District Officials: Board of Hospital Commissioners... Tom Warren, Chairman Jim Wall, Vice Chairman Phyllis Gleasman, Secretary Fred Miller Mary Signorelli Chief Executive Officer... Kevin Abel Chief Financial Officer... Robert Wiegenstein, CPA Chief Operating Officer... Brad Hankins Chief Nursing Officer... Carol Velasquez Certain Chelan County Officials: Assessor... Deanna Walter Treasurer and ex officio Treasurer of the District...David Griffiths, C.P.A. Underwriter D. A. DAVIDSON & CO. Columbia Center th Avenue, Suite 4050 Seattle, Washington (206) Bond Counsel FOSTER PEPPER PLLC 1111 Third Avenue, Suite 3400 Seattle, Washington (206) * Neither the information on the District s website nor any links from that website, is a part of this Preliminary Official Statement, and such information cannot be relied upon to be accurate as of the date of this Preliminary Official Statement, nor should any such information be relied upon to make investment decisions regarding the Bonds. i

4 No dealer, broker, salesman or other person has been authorized by the District to give any information or to make any representations, other than those contained in this Official Statement, and if given or made, such other information or representations must not be relied upon as having been authorized by the District. The information in this Official Statement was obtained from sources believed to be reliable, but is not guaranteed as to accuracy or completeness. The Underwriter has reviewed the information in the Official Statement in accordance with, as a part of, its responsibilities under the federal securities laws as applied to the facts and circumstances of this transaction, but the Underwriter does not guarantee the accuracy or completeness of the information. The information and expressions of opinion herein are subject to change without notice, and neither the delivery of this Official Statement nor any sale hereunder shall create any implication that there has been no change in the financial condition or operations of the District described herein since the date hereof. This Official Statement contains, in part, estimates and matters of opinion that are not intended as statements of fact, and no representation or warranty is made as to the correctness of such estimates and opinions or that they will be realized. The following descriptions of the Bonds and Bond Resolution and all references to other documents or materials not claiming to be quoted in full are only brief outlines of some of the provisions and do not claim to summarize or describe all provisions thereof. Copies of such documents may be obtained from the District or the Underwriter. THE BONDS HAVE NOT BEEN REGISTERED WITH THE SECURITIES AND EXCHANGE COMMISSION UNDER THE SECURITIES ACT OF 1933, AS AMENDED. IN MAKING AN INVESTMENT DECISION INVESTORS MUST RELY ON THEIR OWN EXAMINATION OF THE DISTRICT AND THE TERMS OF THE OFFERING, INCLUDING THE MERITS AND RISKS INVOLVED. THE BONDS HAVE NOT BEEN RECOMMENDED BY ANY FEDERAL OR STATE SECURITIES COMMISSION OR REGULATORY AUTHORITY. FURTHERMORE, THE FOREGOING AUTHORITIES HAVE NOT CONFIRMED THE ACCURACY OR DETERMINED THE ADEQUACY OF THIS DOCUMENT. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. In connection with the offering and issuance of the Bonds, the Underwriter may over-allot or effect transactions that stabilize or maintain the market price of the Bonds at a level above that which might otherwise prevail in the open market. Such stabilizing, if commenced, may be discontinued at any time. Certain statements included or incorporated by reference in this Official Statement constitute forward-looking statements within the meaning of the United States Private Securities Litigation Reform Act of 1995, section 21E of the United States Securities Act of 1934, as amended, and Section 27A of the United States Securities Act of 1933, as amended. Such statements are generally identifiable by the terminology used such as plan, expect, estimate, projection, budget or other similar words. ii

5 TABLE OF CONTENTS SUMMARY STATEMENT... 1 INTRODUCTION... 2 THE BONDS... 2 Description of the Bonds... 2 Authorization... 2 Redemption and Purchase... 2 Failure to Pay Bonds... 4 Purpose and Use of Proceeds... 5 Security - Pledge of Full Faith and Credit... 7 Dissolution... 7 Statutory Debt Limitations... 7 Initiative and Referendum... 8 PROPERTY TAX LEVY LIMITATIONS AND PROCEDURES... 8 Property Tax Levy Limitations... 8 DEBT AND FINANCIAL INFORMATION Debt Summary and Ratios Future Financing General Obligation Debt Ratios Debt Repayment Record Direct Debt and Estimated Overlapping General Obligation Debt Schedule of General Obligation Bond Debt Service Trends in Assessed Valuations Ad Valorem Tax Levies Property Tax Collections Tax Levies Major Taxpayers Historical General Fund Operating Results and General Fund Budget Auditing of District Finances THE DISTRICT Authorization Services Board of Hospital Commissioners Administration Service Area Facilities and Staff Labor Relations Operating Statistics Patient Service Revenue Net Patient Service Revenue Pension Plans Risk Management Critical Access Designation Related Organization Authorized Investments iii

6 BONDOWNERS RISKS General Risks Related to Net Patient Services Revenue Medicare and Medicaid Programs Private Health Plans and Insurers Federal and State Anti-Fraud and Abuse Laws Health Care Reform Other Federal, State and Local Legislation Other Risk Factors Generally Affecting Health Care Facilities Risks Related to Hospital Management Discretion Limitations on Remedies Risks Related to Tax-Exempt Status of Bonds APPROVAL OF BOND COUNSEL FEDERAL INCOME TAX EXEMPTION General Certain Other Federal Tax Consequences LITIGATION UNDERWRITING RATING NO CONFLICTS OF INTEREST COMMITMENT TO PROVIDE CONTINUING DISCLOSURE ADDITIONAL INFORMATION AND MISCELLANEOUS DISCLOSURE STATEMENT APPROVAL OF OFFICIAL STATEMENT APPENDIX A ECONOMIC AND DEMOGRAPHIC INFORMATION... A-1 APPENDIX B CONTINUING DISCLOSURE... B-1 APPENDIX C FORM OF LEGAL OPINION... C-1 APPENDIX D AUDITED FINANCIAL STATEMENTS D-1 APPENDIX E BOOK-ENTRY SYSTEM... E-1 iv

7 $8,265,000 Public Hospital District No. 2 Chelan County, Washington (Lake Chelan Community Hospital) Limited Tax General Obligation Refunding Bonds, 2013 SUMMARY STATEMENT The following summary is qualified in its entirety by reference to the detailed information appearing elsewhere in this Official Statement. No person is authorized to detach this Summary Statement from this Official Statement or to otherwise use it without this entire Official Statement. ISSUER... Public Hospital District No. 2, Chelan County, Washington (Lake Chelan Community Hospital) (the District ) is located in the northern portion of Chelan County (the County ), in eastern Washington, serving an estimated population of 15,000. The District owns and operates Lake Chelan Community Hospital, located in the City of Chelan. (See THE DISTRICT herein.) INTEREST AND PRIOR REDEMPTION... Interest on the Bonds is payable semi-annually each June 1 and December 1, commencing December 1, The Bonds are subject to optional redemption prior to maturity and Term Bonds are subject to mandatory redemption. (See THE BONDS - Description of the Bonds and THE BONDS Redemption and Purchase herein.) AUTHORITY FOR ISSUANCE... The Bonds will be issued in accordance with the provisions of the Constitution and laws of the State of Washington, particularly chapters 39.36, 39.46, and RCW, and pursuant to Resolution No. 509 of the District (the Bond Resolution ), adopted on April 23, 2013, by the Board of Commissioners authorizing the issuance of Bonds. (See THE BONDS - Authorization herein.) SOURCE OF REPAYMENT... The Bonds are limited tax general obligations of the District. The District has covenanted and agreed irrevocably that it will include in its budget and levy an ad valorem tax upon all the property within the District subject to taxation without a vote of the people in an amount that will be sufficient, together with all other revenues and money of the District legally available and to be used for such purposes, to pay the principal of and interest on the Bonds as the same become due. The District has irrevocably pledged that such tax will be within and as a part of the tax permitted to hospital districts without a vote of the people. (See THE BONDS Security - Pledge of Full Faith and Credit herein.) USE OF PROCEEDS... Proceeds of the Bonds will be used to pay the costs of: (1) currently refunding and defeasing all of the District s outstanding Limited Tax General Obligation Bonds, 2001, maturing on December 1 in the years 2015 and 2021; (2) currently refunding and defeasing all of the District s outstanding Limited Tax General Obligation Bonds, 2006, maturing on December 1 in the years 2013 through 2017, inclusive, 2019 through 2021, inclusive; and 2026, (3) advance refunding and defeasing all of the District s outstanding Limited Tax General Obligation Bonds, 2009, maturing on December 1 in the years 2016 through 2019, inclusive, 2024, 2029 and 2034; and (4) paying the costs of the refundings and the costs related to the issuance and sale of the Bonds (See THE BONDS - Purpose and Use of Proceeds herein.) 1

8 $8,265,000 PUBLIC HOSPITAL DISTRICT NO. 2 CHELAN COUNTY, WASHINGTON (LAKE CHELAN COMMUNITY HOSPITAL) LIMITED TAX GENERAL OBLIGATION REFUNDING BONDS, 2013 INTRODUCTION Public Hospital District No. 2, Chelan County, Washington (Lake Chelan Community Hospital) (the District ), a municipal corporation duly organized and existing under and by virtue of the laws of the State of Washington (the State ), furnishes this Official Statement in connection with the offering of $8,265,000 principal amount of Limited Tax General Obligation Refunding Bonds, 2013 (the Bonds ). The District owns and operates Lake Chelan Community Hospital (the Hospital ), located in the City of Chelan. This Official Statement, which includes the cover page, inside cover page, Summary Statement and appendices, provides information concerning the District, the Hospital and the Bonds. Capitalized terms not otherwise defined herein shall have the meanings set forth in the Bond Resolution (defined below). Description of the Bonds THE BONDS The Bonds will be issued in the aggregate amount of $8,265,000 in fully registered form, will be in the denomination of $5,000 each or any integral multiple thereof within a single maturity and will be dated the date of delivery to the Underwriter (the Issue Date ). The Bonds will mature on December 1, in the years and amounts set forth on the inside cover hereof. The Washington State Fiscal Agent, currently The Bank of New York Mellon, New York, will serve as registrar, paying agent and transfer agent (the Bond Registrar ) for the Bonds. The Bonds will bear interest from the Issue Date, or the most recent interest payment date to which interest has been paid or duly provided for, whichever is later, at the rates per annum set forth on the inside cover hereof. Interest on each Bond will be calculated on the basis of a 360-day year consisting of twelve 30-day months, and will be payable semi-annually on June 1 and December 1, commencing December 1, 2013, until the stated dates of maturity or date of prior redemption of the Bonds. For so long as the Bonds are held by DTC in book-entry form, principal and interest payments will be made as described in APPENDIX E - BOOK-ENTRY SYSTEM. Authorization The Bonds will be issued pursuant to the provisions of the Constitution and laws of the State, particularly chapters 39.36, 39.46, and RCW and Resolution No. 509 (the Bond Resolution ), adopted by the Board of Hospital Commissioners (the Board ) on April 23, Redemption and Purchase Optional Redemption. The Bonds maturing on and after December 1, 2023, are subject to redemption at the option of the District on and after June 1, 2023, in whole or in part on any date (and if in part, with maturities to be selected by the District), at a price of par plus accrued interest, if any, to the date of redemption. For so long as the Bonds are in book-entry form, the selection of Bonds within a maturity to be redeemed and the manner of providing notice of redemption to beneficial owners shall be governed by the operational arrangements of DTC, as then in effect. 2

9 Mandatory Redemption. The Bonds stated to mature on December 1, 2028 and 2034 are Term Bonds and, if not previously redeemed as described above, defeased or purchased and surrendered for cancellation in accordance with the Bond Resolution, are subject to mandatory redemption at a redemption price equal to the stated principal amount to be redeemed, plus accrued interest to the date fixed for redemption on December 1 in the years and principal amounts as follows: 1 Maturity Term Bonds 2034 Term Bonds Year Year (Dec. 1) Amount (Dec. 1) Amount 2024 $365, $460, , , , , , , , , ,000 Total $2,015,000 $3,065,000 If the District purchases or redeems Term Bonds, the principal amount of the Term Bonds so redeemed, defeased or purchased (irrespective of their actual redemption or purchase prices) will be credited against one or more scheduled mandatory redemption amounts for those Term Bonds. The District will determine the manner in which the credit is to be allocated and will notify the Bond Registrar in writing of its allocation prior to the earliest mandatory redemption date for that maturity of Term Bonds for which notice of redemption has not already been given. Partial Redemption. Portions of the principal amount of any Bond that is subject to optional or mandatory redemption may be redeemed in any Authorized Denomination. If less than all of the outstanding principal amount of any Bond is redeemed, upon surrender of that Bond to the Bond Registrar, there will be issued to the Registered Owner, without charge, a new Bond (or Bonds, at the option of the Registered Owner) of the same maturity and interest rate in any Authorized Denomination in the aggregate principal amount remaining unredeemed. Selection of Bonds for Redemption. If fewer than all of the outstanding Bonds are to be optionally redeemed, the District will select the maturities to be redeemed. The principal portion of any Bond registered in the name of the Securities Depository which is to be partially redeemed will be selected in accordance with the Blanker Issuer Letter of Representations between DTC and the District dated March 7, 2001, as it may be amended from time to time (the Letter of Representations ). If a Bond ceases to be held in book-entry form, the portion to be partially redeemed shall be selected randomly in such manner as the Bond Registrar determines. Notice of Redemption. While a Bond is registered in the name of DTC, notice of redemption will be given as required in accordance with the Letter of Representations. If a Bond ceases to be held in bookentry form, unless waived by the Registered Owner of the Bond to be redeemed, the District will cause notice of an intended redemption of Bonds to be given by the Bond Registrar not less than 20 nor more than 60 days prior to the date fixed for redemption by first-class mail, postage prepaid, to the Registered Owner of each Bond to be redeemed at the address appearing on the Bond Register on the Record Date. The requirements of the preceding sentence will be satisfied when notice has been mailed as so provided, whether or not it is actually received by an Owner of any Bond. 3

10 Rescission of Optional Redemption Notice. In the case of an optional redemption, the notice of redemption may state that the District retains the right to rescind the redemption notice and the optional redemption of those Bonds by giving a notice of rescission to the affected Registered Owners at any time prior to the scheduled optional redemption date. Any notice of optional redemption that is so rescinded will be of no effect, and a Bond for which a notice of optional redemption has been rescinded will remain outstanding. Effect of Redemption. Interest on Bonds called for redemption will cease to accrue on the date fixed for redemption, unless either the notice of redemption is rescinded as described above, or money sufficient to effect such redemption is not on deposit in the Bond Fund (or in an escrow account established to carry out a refunding or defeasance of the redeemed Bonds, if any). Open Market Purchase. The District reserves the right to purchase any or all of the Bonds in the open market at any time at any price acceptable to the District plus accrued interest to the date of purchase. Failure to Pay Bonds If any Bond is not redeemed when properly presented at its maturity date or date fixed for redemption, the District shall be obligated to pay interest on that Bond at the same rate provided in the Bond from and after its maturity or date fixed for redemption until that Bond, both principal and interest, is paid in full or until sufficient money for its payment in full is on deposit in the Bond Fund and the Bond has been called for payment by giving notice of that call to the Registered Owner. The Bonds are not subject to acceleration under any circumstances. Refunding or Defeasance of the Bonds The District may issue refunding bonds pursuant to State law or use money available from any other lawful source to carry out a refunding or defeasance plan, which may include (a) paying when due the principal of and interest on the affected Bonds (the defeased Bonds ); (b) redeeming the defeased Bonds prior to their maturity; and (c) paying the costs of the refunding or defeasance. If the District sets aside in a special trust fund or escrow account irrevocably pledged to that redemption or defeasance (the trust account ), money and/or Government Obligations maturing at a time or times and bearing interest in amounts sufficient to redeem, refund or defease the defeased Bonds in accordance with their terms, then all right and interest of the Owners of the defeased Bonds in the covenants of the Bond Resolution and in the funds and accounts obligated to the payment of the defeased Bonds will cease and become void. Thereafter, the Owners of defeased Bonds will have the right to receive payment of the principal of and interest on the defeased Bonds solely from the trust account. While a Bond is registered in the name of DTC, notice of any defeasance will be given in the manner prescribed in the Letter of Representations for notices of redemption of Bonds. If a Bond ceases to be held in book-entry form, then unless specified by the District in a refunding or defeasance plan, selection of Bonds to be defeased, notice of defeasance and replacement of Bond certificates will be done in accordance with the provisions of the Bond Resolution for the redemption of Bonds prior to their maturity. As currently defined in RCW (4), government obligations means (a) direct obligations of, or obligations the principal of and interest on which are unconditionally guaranteed by, the United States of America and bank certificates of deposit secured by such obligations; (b) bonds, debentures, notes, 4

11 participation certificates or other obligations issued by the Banks for Cooperatives, the Federal Intermediate Credit Bank, the Federal Home Loan Bank System, the Export-Import Bank of the United States, federal land banks or the Federal National Mortgage Association; (c) public housing bonds and project notes fully secured by contracts with the United States; and (d) obligations of financial institutions insured by the Federal Deposit Insurance Corporation or the Federal Savings and Loan Insurance Corporation, to the extent insured or guaranteed as permitted under any other provision of State law ( Government Obligations ). Purpose and Use of Proceeds The District expects to refund all of the bonds identified below (the Refunded Bonds ). The refunding is being undertaken to achieve debt service savings. Information on the Refunded Bonds is as follows: Issue Amount Outstanding Refunded Maturities Amount Refunded Redemption Date Redemption (Call) Price 2001 LTGO Bonds $ 435, & $ 435,000 07/30/ % 2006 LTGO Bonds 1,940, , , 1,940,000 07/30/ , 2021 & LTGO Bonds 5,230, , , , ,230,000 12/01/ Refunded Bonds Payment Dates (December 1) Principal Amounts Interest Rates CUSIP No $135, % AP , AQ1 Total $435, Refunded Bonds Payment Dates (December 1) Principal Amounts Interest Rates CUSIP No $ 100, % FA , FB , FC , FD , FE , FG , FH , FJ , FK1 Total $1,940,000 1 Term Bond. 2 Amount currently outstanding. The District made a sinking fund payment of $45,000 on 12/1/12, reducing the par amount of the 2015 Term Bond from $180,000 to $135,000. 5

12 2009 Refunded Bonds Payment Dates (December 1) Principal Amounts Interest Rates CUSIP No $ 70, % FL , FM , FN , FP , FQ ,640, FR ,580, FS4 Total $5,230,000 1 Term Bond. The District will enter into a Refunding Trust Agreement with U.S. Bank National Association, as Refunding Trustee, upon the delivery of the Bonds, to provide for the refunding of the Refunded Bonds. The Refunding Trust Agreement creates an irrevocable trust fund to be held by the Refunding Trustee and to be applied solely to the payment of the Refunded Bonds. A portion of the proceeds of the Bonds will be deposited with the Refunding Trustee and will be invested in Government Obligations that will mature and bear interest at rates sufficient to pay the principal of and accrued interest coming due on the redemption date of the Refunded Bonds. The Government Obligations and earnings thereon will be held solely for the benefit of the registered owners of the Refunded Bonds. The mathematical accuracy of (1) the computations of the adequacy of the maturing principal amounts of and interest on the Government Obligations to be held by the Refunding Trustee to pay principal of and interest on the Refunded Bonds as described above, and (ii) the computations supporting the conclusion of Bond Counsel that the Bonds are not arbitrage bonds under Section 148 of the Code will be verified by Grant Thornton LLP, independent certified public accountants. Sources and Uses. The sources and uses of Bond proceeds are shown in the table that follows. Sources of Funds: Proceeds of the Bonds... $8,265,000 Net Original Issue Discount... (110,863) Total Sources of Funds... $8,154,137 Uses of Funds: Deposit to Escrow Account... $8,019,180 Deposit to Bond Fund... 3,489 Costs of Issuance of the Bonds ,468 Total Uses of Funds... $8,154,137 1 Includes Bond Counsel fees, Underwriter s Discount, costs of printing and distributing the Preliminary and final Official Statements, Bond Registrar and Paying Agent fees, rating agency fee, Refunding Trustee fee, escrow verification fee, bidding agent fee and other related fees and expenses. 6

13 Security - Pledge of Full Faith and Credit The Bonds are limited tax general obligation bonds of the District. The District, as authorized by law and the Bond Resolution, has covenanted and agreed irrevocably that it will include in its budget and levy an ad valorem tax upon all the property within the District subject to taxation without a vote of the people an amount that will be sufficient, together with all other revenues and money of the District legally available for such purposes, to pay the principal of and interest on the Bonds as the same become due. The District has irrevocably pledged that such tax will be within and as a part of the tax levy permitted to public hospital districts without a vote of the people. The full faith, credit and resources of the District have been pledged irrevocably for the annual levy and collection of such taxes and for the prompt payment of such principal and interest. The Bonds are not obligations of the State, Chelan County or any other municipal corporation other than the District. Dissolution The dissolution of special purpose districts, such as public hospital districts, is governed by chapter RCW. No dissolution may occur without the approval of the governing body of the special purpose district and the superior court of the county in which the district is located. The dissolution may be approved by the court only if the indebtedness of the district has been settled or paid and the court finds that the best interests of all persons concerned will be served by the dissolution. If the proceeds of the sale of the property of the District, together with its available cash, are insufficient to retire the District s indebtedness, the court is authorized to order the District s governing body to levy assessments against property in the District in amounts sufficient to retire the indebtedness regardless of whether the District continues to operate health care facilities or provide health care services. Statutory Debt Limitations The power of the District to contract debt of any kind is controlled and limited by State law. All debt must be set forth in accordance with detailed budget procedures and paid for out of identifiable receipts and revenues. The budget must be balanced for each fiscal year. It is unlawful for an officer or employee of the District to incur liabilities in excess of budgetary appropriations. Unlimited and Limited General Obligation Debt. The District may issue general obligation bonds in an amount not to exceed 2½% of the assessed value of all taxable property within the District. Unlimited tax general obligation bonds require an approving vote, and any election to validate general obligation bonds must have a voter turnout of at least 40% of those who voted in the last State general election. Of those voting, 60% must vote in the affirmative. The Board, by resolution, may authorize the issuance of non-voted general obligation bonds (limited tax general obligation bonds) in an amount, including all other limited tax debt of the District, up to 0.75% (three fourths of one percent) of the assessed valuation within the District without a vote of the people. The Bonds refund limited tax general obligation bonds, and are not subject to voter approval. No combination of limited or unlimited tax bonds may exceed 2½% of the District s assessed valuation. 7

14 Initiative and Referendum Under the State Constitution, the voters of the State have the ability to initiate legislation and modify existing statutes through the powers of initiative and referendum, respectively. The initiative power in Washington may not be used to amend the State Constitution. Initiatives and referenda are submitted to the voters upon receipt of a petition signed by at least eight percent (initiative) and four percent (referenda) of the number of voters registered and voting for the office of Governor at the preceding regular gubernatorial election. Any law approved in this manner by a majority of the voters may not be amended or repealed by the Legislature within a period of two years following enactment, except by a vote of two-thirds of all members elected to each house of the Legislature. After two years, the law is subject to amendment or repeal by the Legislature in the same manner as other laws. In recent years, the State s voters have approved numerous initiatives and referenda that have limited the District s ability to impose taxes and collect fees. Some, but not all, of these initiatives and referenda have been determined to be unconstitutional. Other tax and fee initiative measures are likely to be filed while the Bonds are outstanding. The District cannot predict whether any such initiatives might gain sufficient signatures to qualify for submission to the Legislature and/or the voters or, if submitted, whether they ultimately would be approved. Property Tax Levy Limitations PROPERTY TAX LEVY LIMITATIONS AND PROCEDURES The District may impose two types of property tax levies: regular property tax levies and excess property tax levies. The Bonds are payable from regular property tax levies. The information in this Official Statement relating to regular property tax levy limitations and requirements is based on existing statutes and constitutional provisions. Changes in such laws could alter the impact of other interrelated tax limitations on the District. Certain Regular Tax Levy Limitations (Including the Bonds). The property taxes levied for purposes of operating the District are referred to as regular property tax levies. The Constitution and laws of the State place certain limitations on regular property taxes. For instance, (i) the aggregate of all regular tax levies upon real and personal property by the State and all taxing districts cannot exceed, in any year, one percent of the true and fair value of such property, (ii) the aggregate regular tax levies of all taxing districts, other than the State, cannot exceed $5.90 per $1,000 assessed valuation, unless certain limited exceptions apply; (iii) the regular property tax levy by any public hospital district cannot exceed $0.75 per $1,000 of assessed value; and (iv) a public hospital district s regular property tax may not exceed 101% of the public hospital district s highest regular property tax levy during the three preceding years, together with an additional amount representing the increased assessed value resulting from new construction and newly-annexed property. Aggregate property taxes vary within the District because of its different overlapping taxing districts. Constitutional 1% Aggregate Levy Rate Limitation. Article VII, Section 2 of the Washington Constitution limits aggregate regular property tax levies by the State and all taxing districts, except port districts and public utility districts, to 1% of the true and fair value of property (the Constitutional 1% Limitation ). RCW provides the same limitation by statute. 8

15 Statutory $5.90/$1,000 Aggregate Levy Rate Limitation. Within the Constitutional 1% Limitation, RCW further imposes a limitation of $5.90/$1,000 of the assessed value on the aggregate of regular levies by all taxing districts other than the State, public utility districts and port districts (the $5.90 Limitation ). The $5.90 Limitation does not apply to voted excess property levies; emergency medical care or emergency medical services levies; certain city or county levies to finance affordable housing; levies for conservation futures; certain metropolitan park district levies; ferry district levies; and the portions of levies by fire protection districts that are protected under RCW EMS Regular Property Tax Levy. RCW (2) authorizes public hospital districts to impose an additional regular property tax levy in an amount up to $0.50/$1,000 of the assessed value to pay the costs of emergency medical services ( EMS ) upon voter approval. The levy may be imposed for a period of six years, ten years or permanently. The District currently collects a 2013 EMS levy in the amount of $0.31. Constitutional Uniformity Requirement. Article VII, Section 1 of the Washington Constitution requires that property taxes be levied at a uniform rate upon the same class of property within the territorial limits of a taxing district. All real property constitutes a single class. It is possible that the overlapping of taxing districts in different areas of the District could cause the maximum aggregate levy to vary within the District. To comply with the uniformity requirement, if either the Constitutional 1% Limitation or the $5.90 Limitation is exceeded, county assessors must reduce or eliminate levies according to a detailed prioritized list (RCW ), beginning with the junior taxing districts. The term junior taxing district is defined by RCW to include all taxing districts (including public hospital districts) other than the State, counties, cities, towns, road districts, port districts, and public utility districts. Levy Amount Limitation (101% Levy Lid). In addition to the rate limitations, described above, state law (chapter RCW) also restricts the increase in the total amount of an individual taxing district s levy from year to year. All regular levies are subject to this limitation. The law limits a taxing district s regular levy to an amount equal to 100% of the taxing district s highest prior levy amount, multiplied by a limit factor, plus a full value adjustment for new construction. Substantively, this means that a taxing district s regular levy payable in a given year (other than new construction and improvements, and State-assessed property adjustments) may not exceed the highest amount previously levied by the taxing district multiplied by the limit factor. Revenue generated due to new construction and certain other adjustments is added after the levy lid is applied. The limit factor is defined as (i) the lesser of 101% or 100% plus inflation (measured by the implicit price deflator or IPD), or (ii) up to 101%, regardless of inflation, if approved by the legislative authority of the taxing district upon a finding of substantial need. For taxing districts with a population of less than 10,000, the limit factor is 101% regardless of inflation, and no finding of substantial need is required. With a majority vote, RCW allows a taxing district to levy a greater amount than would otherwise be allowed under the levy lid, either indefinitely or for a limited period or purpose. This is known as a levy lid lift. A levy lid lift does not permit the taxing district to exceed any applicable levy rate limitations. Property Tax Levy Procedures Valuations and Assessments of Property for Taxation Purposes. The Chelan County Assessor (the Assessor ) determines the value of all real and personal property throughout the County that is subject to ad valorem taxation, except certain service properties which are valued by the State Department of Revenue. The Assessor is an elected official whose duties and methods of determining value are 9

16 prescribed and controlled by statute and by detailed regulations promulgated by the State Department of Revenue. For tax purposes, the goal for assessed value of property is 100% of its true and fair market value as of January 1 of each year. In accordance with State law, Chelan County conducts annual revaluation of all real and personal property based on market sales. In addition, all of the real property parcels are visited for an on-site inspection every four years. The property characteristics and assessed values are listed by the Assessor on the property tax roll, which is maintained in the Assessor s office. The Assessor s determinations of value are subject to revision by the County Board of Equalization and/or by the State Board of Tax Appeals. After all administrative procedures are completed, the values are certified and passed on to the County Treasurer and the County Board of Equalization. Property Tax Collection Procedures. Property taxes are levied in specific amounts, and the rate for all taxes levied for all taxing districts in the County are determined, calculated, and fixed by the Assessor based upon the assessed valuation of the property within the various taxing districts. The Assessor extends the taxes to be levied within each taxing district upon a property tax roll, which contains the total amount of taxes to be so levied and collected. The property tax roll is delivered to the County Treasurer by January 15, who bills and collects the taxes as certified. All such taxes are due and payable on the 30 th of April of each year; but if the amount due from a taxpayer exceeds fifty dollars, one-half may be paid then and the balance no later than October 31 of that year. Delinquent taxes are subject to interest at the rate of one percent per month until paid. In addition, a penalty of three percent will be assessed on June 1 st of the year in which the tax was due; and eight percent on December 1 st of the year the tax was due. The method of giving notice of payment of taxes due, the County Treasurer s accounting for the money collected, the distribution of the taxes among the various taxing districts, notices of delinquency, and collection procedures are all covered by detailed statutes. The lien for property taxes is prior to all other liens or encumbrances of any kind on real or personal property subject to taxation. By law, the County Treasurer may commence foreclosure of a tax lien on real property after three years have passed since the first delinquency. The State s courts have not decided whether the Homestead Law (chapter 6.13 RCW) may give the occupying homeowner a right to retain the first $125,000 of proceeds of the forced sale of the family residence or other homestead property for delinquent general property taxes. (See Algona vs. Sharp, 30 Wn. App. 837, P.2d 627 (1982), holding the homestead right superior to the improvement district assessment). The United States Bankruptcy Court for the Western District of Washington has held that the Homestead Exemption applies to the lien for property taxes, while the State Attorney General has taken the position that it does not. 10

17 DEBT AND FINANCIAL INFORMATION Debt Summary and Ratios The following tables present a summary of the District s debt and debt ratios as of the Issue Date (except as noted) Population Estimate , Assessed Valuation for Regular Levy... $2,253,036,961 Direct Debt Outstanding (including the Bonds) 2... $8,544,824 Estimated Overlapping Debt Outstanding 3... $11,085,256 Direct and Estimated Overlapping Debt Outstanding... $19,630,080 Remaining Non-Voted General Obligation Debt Capacity... $8,342,953 Remaining Total (Voted & Non-Voted) General Obligation Debt Capacity $47,781,100 1 As estimated by the District. 2 Includes the Bonds, other non-voted debt and excludes the Refunded Bonds. (See DEBT AND FINANCIAL INFORMATION Direct and Estimated Overlapping General Obligation Debt, and - Schedule of General Obligation Bond Debt Service. ) 3 Overlapping debt as of January 31, Future Financing The District anticipates that it may from time to time issue additional limited tax or unlimited general obligation bonds to finance capital improvements. However, the District, as of the date of this Preliminary Official Statement, does not anticipate the need to incur additional limited tax general obligation debt within the next 12 months. General Obligation Debt Ratios Following are certain debt ratios of the District. Assessed Valuation Per Capita... $150,202 Direct Debt Per Capita... $570 Direct and Overlapping Debt Per Capita... $1,309 Direct Debt to Assessed Valuation % Direct and Overlapping Debt to Assessed Valuation % Debt Repayment Record The District has never defaulted on a payment of principal or interest on any of its general obligation bonds. Furthermore, the District has never issued refunding bonds for the purpose of avoiding an impending default on its general obligation bonds. 11

18 Direct Debt and Estimated Overlapping General Obligation Debt The following information sets forth the general obligation indebtedness of the District (calculated to include the Bonds and other non-voted debt and exclude the Refunded Bonds) and of taxing entities with boundaries that overlap with the District as of January 31, The District has no voted debt outstanding. Direct General Obligation Debt: Non-Voted General Obligation Bonds Outstanding Final Maturity Amount Outstanding 1998 LTGO Improvement and Refunding Bonds 12/01/13 $ 110,000 The Bonds 12/01/34 8,265,000 Other Non-Voted General Obligation Debt Outstanding Final Amount Maturity Outstanding LCCH Apartments Mortgage with HUD 1 06/01/14 $ 37,390 Promissory Note to Carlson (settled lawsuit) 05/15/13 33,153 Equipment Lease with Philips Medical Capital 07/01/15 89,359 Equipment Lease with Horiba Financial Services 11/01/13 9,922 Total Direct General Obligation Debt of the District... $ 8,544,824 Estimated Overlapping Debt as of 1/31/2013: General Obligation Percent Allocable Amount Allocable Taxing Entity Debt Outstanding to District to District Chelan County $15,220, % $3,965,858 City of Chelan 1,994, ,994,896 Port of Chelan 6,043, ,574,804 Manson School District 887, ,095 Pateros School District 2 1,326, ,326,706 Lake Chelan School District 1,285, ,224,305 Fire Protection District No , ,592 Total Overlapping Debt... $11,085,256 Total Direct and Overlapping Debt... $19,630,080 1 Balloon payment of $23,308 due August 1, Estimated. Source: Chelan County Assessor s office and certain taxing districts. 12

19 Debt Limitation Calculation There is a State statutory limit on the amount of bonded, or other, indebtedness a hospital district may incur. (See THE BONDS Statutory Debt Limitations herein.) The following chart sets forth the remaining general obligation ( G.O. ) debt capacities of the District as of January 31, 2013, adjusted to reflect the issuance of the Bonds and exclude the Refunded Bonds. The tax collection year 2013 assessed valuation for regular levies for the District is $2,253,036,961. I. Non-Voted General Obligation Debt Capacity (¾ of 1% of Assessed Valuation)... $16,897,777 Less: Non-Voted G.O. Debt Outstanding 1... (8,544,824) Remaining Non-Voted General Obligation Debt Capacity... $ 8,342,953 Percent of Non-Voted Debt Capacity Remaining % II. Total General Obligation Debt Capacity (2.50% of Assessed Valuation)... $56,325,924 Less: Voted G.O. Bonds Outstanding... (0) Less: Non-Voted G.O. Debt Outstanding 1... (8,544,824) Remaining General Obligation Debt Capacity... $47,781,100 Percent of Total Debt Capacity Remaining % 1 Includes the Bonds, other non-voted debt and excludes the Refunded Bonds. (See DEBT AND FINANCIAL INFORMATION Direct and Estimated Overlapping General Obligation Debt, and - Schedule of General Obligation Bond Debt Service herein.) Source: Chelan County Assessor s and Treasurer s offices. (Remainder of this page intentionally left blank.) 13

20 Schedule of General Obligation Bond Debt Service The following table presents debt service requirements for the District s outstanding limited tax general obligation bonds and a schedule of requirements for the Bonds. For a listing of each bond issue of the District, see DEBT AND FINANCIAL INFORMATION Direct and Estimated Overlapping General Obligation Debt. Non-voted debt other than bonds is not included in this table. The District has no voted debt outstanding. Interest figures below are rounded. Outstanding LTGO Bonds 1 The Bonds Year Principal Interest Principal Interest Total 2013 $110,000 $5,775 $ 180,000 $ 125,041 $ 420, , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , ,000 90, , ,000 69, , ,000 46, , ,000 24, ,012 Total $110,000 $5,775 $8,265,000 $4,081,391 $12,462,166 1 Excludes the Refunded Bonds. 14

21 Trends in Assessed Valuations Set forth in the following table is the assessed valuation for regular levies of property located within the District for tax collection years 2009 through 2013 and the annual percent change. Tax Collection Year Assessed Value Percent Change 2013 $2,253,036, % ,405,451, ,582,524, ,145,983, ,068,784, The last year of the County Assessor s four-year valuation cycle for the Lake Chelan area was During 2008 and according to the County Assessor s office, values increased dramatically (unprecedented) in parts of the County, including the Lake Chelan area, which caused the first year of the new revaluation cycle (2009) for Lake Chelan to experience a very large increase in value. Source: Chelan County Assessor s office. Ad Valorem Tax Levies The following tables present the District s regular and EMS ad valorem tax levy rates (rounded) and amounts for tax collection years 2009 through Levy Rates Tax (Dollars Per $1,000 of Assessed Value) Collection Year Regular EMS Total 2013 $0.29 $0.31 $ Tax Levy Amounts in Dollars Collection Year Regular EMS Total 2013 $660,754 $698,441 $1,359, , ,690 1,391, , ,583 1,434, , ,494 1,323, , ,113 1,279,518 Source: Chelan County Assessor s office. 15

22 Property Tax Collections The following table presents the property taxes collected for the District in tax collection years 2008 through 2012, and the amount and percentage collected as of January 31, Tax Collected in Year of Levy Percent of Tax Collected in Year of Levy Total Tax Collected as of 1/31/13 Percent of Tax Collected as of 1/31/13 Tax Year 2012 $1,340, % $1,344, % ,365, ,414, ,239, ,312, ,203, ,278, ,154, ,197, Source: Chelan County Treasurer s office. Tax Levies The following table shows the representative aggregate levy rates per $1,000 of assessed value of property located in the District (in tax code area 34) for tax collection year The overlapping taxing districts within the District have the statutory power to levy regular property taxes at the following rates, subject to limitation, and to levy excess voter-approved property taxes. The levy rates shown below do not apply to all property within the District; therefore, additional taxing districts levy taxes within the District, but are not shown below. Consolidated levy rates vary throughout the District. (See PROPERTY TAX LIMITATION AND PROCEDURES herein.) Levy Rate Per $1,000 of Assessed Value Statutory Maximum Regular Levy Authority Taxing Entity State of Washington (statewide school levy) $ $ Chelan County County Road District Lake Chelan School District Library District Port of Chelan Fire Protection District No Cemetery District No Hospital District No Total $ The levy by the State may not exceed $3.60 per $1,000 assessed value adjusted to the State equalized value in accordance with the indicated ratio fixed by the State Department of Revenue to be used exclusively for the support of the common schools to equalize the assessment base as between counties with different appraisal schedules. 2 A county may increase its levy from $1.80/$1,000 to a rate not to exceed $2.475/$1,000 for general county purposes if (a) the total levies for both the county and any road district within the county do not exceed $4.05/$1,000 and (b) no other taxing district has its levy reduced as a result of the increase county levy. 3 School districts are not authorized to impose non-voted regular property tax levies. School district levies are voted excess levies and, as such, are not subject to the rate and amount limitations applicable to regular property tax levies. 4 Port districts are authorized to impose independent $0.45/$1,000 levies under RCW , , , and , after complying with various voter approval, notice, public hearing or other requirements that differ depending on the statute. Port district levies are outside of the aggregate rate limitations. Source: Chelan County Assessor s office. 16

23 Major Taxpayers The following table lists the ten largest taxpayers within the District for tax collection year 2013 listed in declining order of taxable assessed value. Taxpayer Business 2013 Assessed Valuation 1. Trout Blue Chelan Inc. Fruit Products $ 44,556, Campbell s Lodge Inc. Resort 15,747, Wal-Mart Real Estate Bus Trust Real Estate 13,987, The Lake House Chelan, LLC Resort 11,569, Manson Growers Co-Op Inc. Growers Co-Operative 9,009, Lakeside Lodge LLC Hotel 6,201, Chelan Lookout LLC Property Developer 6,114, Chelan Manson Fruit LLC Fruit Products 5,850, Frontier Communications Northwest I Telecommunications 5,601, Naumes Inc. Fruit Products 4,974,488 Totals $123,613, This amount represents 5.5% of the total 2013 assessed valuation of the District for regular levies of $2,253,036,961. Source: Chelan County Treasurer s office and Assessor s office (Remainder of this page intentionally left blank.) 17

24 Historical General Fund Operating Results and General Fund Budget The financial information that follows was extracted from the District s annual audited financial statements for the fiscal years ending December 31, 2008 through 2011, the unaudited financial statements for the fiscal year ending December 31, 2012 and budgeted financial information for fiscal year ending December 31, 2013, as provided by the District. Additional information which may interpret clarify or modify the data presented below may be contained in the complete financial audits. Audited 2008 Audited 2009 Fiscal Year Ending December 31 Audited Audited Preliminary 2012 REVENUES Patient service revenues $21,665,987 $24,458,502 $26,941,521 $29,336,323 $31,231,088 $34,516,490 Other revenue 166, , , , , ,606 Revenue deductions & provisions for bad debt (7,004,321) (7,701,947) (9,381,314) (10,728,752) (11,999,642) (14,096,613) Total net revenue $14,828,013 $17,013,496 $17,842,157 $19,042,487 $19,545,527 $20,788,483 EXPENSES Salaries & benefits $ 8,431,351 $ 9,914,198 $10,203,934 $11,351,521 $12,144,521 $12,623,708 Employee benefits 1,965,427 2,127,144 2,325,832 2,482,265 2,761,507 2,840,334 Professional fees 832, , , , , ,030 Supplies 1,369,507 1,503,287 1,423,866 1,584,413 1,569,284 1,693,611 Purchased services, utilities 145, , , , , Purchased services, other 480, , , , , ,864 Depreciation 676, , , , , ,000 Rentals and leases 198, , , , , ,295 Insurance 282, , , , , ,999 Repairs and maintenance 330, , , , , Other expenses 857, , , , ,076 1,449,570 Abandoned planning cost -- 1,206, Total expenses $15,569,871 $18,585,884 $17,644,119 $19,640,694 $20,527,357 $21,534,411 NON-OPERATING REVENUES 1,672,512 1,370,053 1,446,141 1,583,154 1,389,564 1,695,004 EXCESS OF REVENUE OVER EXPENSES $ 930,654 $ (202,335) $ 1,644,179 $ 984,947 $ 407,734 $ 949,076 BEGINNING FUND BALANCE $ 4,587,265 $ 5,517,919 $ 5,315,584 $ 6,959,763 $ 7,944,710 $ 7,944,710 ENDING FUND BALANCE $ 5,517,919 $ 5,315,584 $ 6,959,763 $ 7,944,710 $8,352,444 $ 8,893,786 Source: The District audited financial statements for 2008 through 2011, unaudited financial statements for 2012 and budgeted 2013 figures. Budget

25 Auditing of District Finances The State Auditor has prescribed a uniform system of accounting and financial reporting for public hospital districts in the State. Separate funds and accounts are maintained for specific purposes and projects in accordance with the accounting manual, bond covenants, tax levies, commitments for grants, and resolutions adopted by a hospital district s board of commissioners. An annual financial report is published by the District. The District currently utilizes WIPFLi, LLP, of Spokane, Washington, to perform an independent audit of the District s financials on a yearly basis. The most recent independent CPA audit was completed for the fiscal year ended December 31, The District provides the State Auditor a copy of the independent audit for review on an annual basis. The Audit must examine, among other items, the financial condition and resources of the District, accuracy of the accounts and reports of the District, and determine whether the District is complying with the laws and constitution of the State. Reports of the Auditor s examinations are required to be filed with the State Auditor, the Department of Health, and the District. Authorization THE DISTRICT Public hospital districts in the State are municipal corporations empowered to own and operate hospitals, nursing homes, extended care, outpatient and rehabilitative facilities, and ambulances, and to supply the residents of such districts and other persons hospital, nursing home, extended care, outpatient, rehabilitative, health maintenance, and ambulance service and such other services as are appropriate to the health needs of the populations served. The District has the power of eminent domain, except that it may not condemn health care facilities. The District may borrow money to carry out its purposes on its credit or the revenues of its hospital and may issue (a) revenue bonds payable solely out of a special fund into which the District may pledge the revenues of its health care facilities, (b) general obligation bonds, (c) interest bearing warrants and (d) short-term obligations. The general obligation debt of the District is limited by the Constitution and statutes of the State. (See THE BONDS - Statutory Debt Limitations herein.) Services The only healthcare facility within the District s boundaries is the Lake Chelan Community Hospital (the Hospital ), which is owned and operated by the District. The Hospital offers a range of services including: 24-hour intensive and urgent care; full-time staff of emergency physicians; fully digital imaging center; occupational, speech and physical therapy; digital mammography screening; full-service obstetric care with personal birthing options; state-of-the-art surgical suites and same day surgical center; behavioral health; cardiology; emergency department; laboratory services; massage therapy; medical-surgical care unit; nutrition therapy; respiratory care; sleep lab; and a travel clinic to name a portion of the services offered. Board of Hospital Commissioners The District is governed by a five-member Board of Commissioners (the Commission ) and operates under the Constitution and Laws of the State. The commissioners are each elected by District voters and serve six-year terms. A term of office commences on the second Tuesday in January of the year 19

26 following the year of election. The Commission holds regular meetings once a month and special meetings as needed. Shown below are the names of the individuals who comprise the present Commission as well as the dates in which their respective terms of office expire, the total number of years served on the Comission, and the occupations of each of the members. Served on Commission Since Expiration of Current Term (December 31) Name Office Occupation/ Employer Tom Warren Chairman Pro Tem Judge June Jim Wall Vice Chairman Retired February Phyllis Gleasman Secretary Chelan Fruit June Fred Miller Commissioner Orchardist May Mary Signorelli Commissioner Shop Owner January Administration Chief Executive Officer (CEO). The District s Chief Executive Officer (CEO) is appointed by and serves at the discretion of the Commission. Mr. Kevin Abel joined the Hospital in February 2009, and was appointed as Interim Superintendent and Chief Executive Officer effective September 14, On February 23, 2010, Mr. Abel was appointed CEO. He has over 14 years of experience in the healthcare field, including 10 years at St. Charles Health System in Bend, Oregon. Mr. Abel holds a Bachelor s degree in Communications from the University of Illinois, a Master of Education degree and a Master of Business Administration from Seattle University. Chief Financial Officer. Robert Wiegenstein, C.P.A., was appointed the District s Chief Financial Officer on April 24, He previously owned a CPA firm in Redmond Washington for 11 years, and prior to that, worked in financial management positions for various firms, including PACCAR for 11 years and 5 years working with company startups and turnarounds. He earned a Bachelor of Commercial Science degree in Accounting from Seattle University. Service Area The District serves a population of approximately 15,000 people and encompasses the incorporated City of Chelan, as well as the unincorporated areas of Manson, Chelan Falls, Stehekin, Holden and Lucerne. The Hospital s Sanctuary Chemical Dependency Unit serves all of Chelan, Douglas, Grant and Okanogan Counties. Facilities and Staff The Hospital, originally incorporated in 1945, is a 25-bed acute care hospital, located at 503 East Highland Avenue in Chelan, Washington. The District was formed in 1968 and the present facilities were completed in Apart from traditional acute care and medical/surgical services, the Hospital offers a wide array diversified inpatient/outpatient services including obstetrics, chemical dependency, specialty clinic (Obstetrics and Gynecology, General Surgery, Orthopedics), physical and occupational therapy, home health, hospice, and advanced EMS. Staff at the Hospital includes 191 full-time equivalent employees, including 6 physicians and 4 physician-extender positions. The specialty description and privilege level of the staff is as follows: 20

27 Specialty Number of Employees Privilege General Surgery 1 Active Psychiatry 1 Active Orthopedics 1 Active Physician s Assistant (ER) 2 Allied Health Physician s Assistant (Psychiatry) 1 Allied Health Accredited Registered Nurse Practitioner 1 Allied Health OB/GYN 1 Active General/Emergency Medicine 2 Active Physical Therapy 3 Allied Health Lake Chelan Community Apartments. Lake Chelan Community Apartments ( LCCA ) is owned by the Hospital. The Hospital has contracted with the Housing Authority of Chelan County and the City of Wenatchee to manage LCCA. The 28-unit apartment is located in the City of Chelan. LCCA was financed under Section 221 (d)(3) of the National Housing Act. Under this program, LCCA provides housing to tenants subject to regulation by the U.S. Department of Housing and Urban Development ( HUD ) and receives a rent subsidy. For 2012, the rental revenue from HUD totaled $65,270. Labor Relations The Hospital is non-union; however, management participates in an employee satisfaction program, consisting of a representative Employee Advisory Council through which management and employees promote mutually beneficial employee relations policies. Operating Statistics The table below sets forth certain operating statistics for the Hospital for the years 2008 through Admissions Inpatient Days 5,192 5,356 5,787 6,168 6,039 Emergency Room Visits 4,216 4,652 4,391 4,385 4,299 Outpatient Visits 13,875 23,883 29,104 29,973 34,064 Surgeries Source: The District. Patient Service Revenue The table below sets forth the patient revenues for the Hospital for the years 2008 through Payor Medicare (incl. HMO) $8,697,860 $ 9,724,750 $10,783,864 $13,740,134 $13,422,951 Medicaid (incl. HMO) 3,046,514 3,011,886 4,343,945 4,040,505 5,288,383 Commercial Insurance 8,138,550 10,056,986 10,111,766 9,414,425 10,501,751 Self-Pay 1,783,063 1,715,756 1,762,247 3,140,753 2,018,004 Source: The District. 21

28 Net Patient Service Revenue The District has agreements with third-party payers that provide for payments at amounts different from the established rates. A summary of the payment arrangements with the major payers are as follows. Medicare. The District is classified as a critical access hospital and is reimbursed for most inpatient and outpatient services at cost with final settlement determined after submission of annual costs reports by the District subject to audits thereof by the Medicare intermediary. The District s classification of patients under the Medicare program and the appropriateness of their admission are subject to an independent review by a peer review organization under contract with the District. Physician services are reimbursed on a fee schedule. Medicaid. The District is reimbursed at a tentative rate with final settlement determined after submission of annual costs reports by the District and review thereof by the Washington State Department of Social and Health Services ( DSHS ). The DSHS program s administrative procedures preclude final determination of amounts due to the District for such services until after the District s annual costs report is audited or otherwise reviewed or settled upon by DSHS. Physician services are reimbursed on a fee schedule. Private Third Party Payers. The District has entered into payment agreements with certain commercial insurance carriers, health maintenance organizations, and preferred provider organizations. The basis for payment to the District under these agreements includes prospectively determined rates per discharge, discounts from established charges, and prospectively daily rates. Pension Plans The District has a 403(b) defined contribution retirement plan. The District makes a contribution of 5% of base gross pay to an employee s account after one year of employment. Employees are 100% vested in the contributions they make and are fully vested in employer contributions at the beginning of their eligibility. A summary of the District s contribution to the retirement plan for the past five years is as follows: Total Year Contribution 2012 $360, , , , ,170 Deferred Compensation. The District offers its employees a deferred compensation plan that is available to them when they have made maximum contributions to their 403(b) plan. This deferred compensation plan was created in accordance with Internal Revenue Code Section 457. The plan permits employees to defer a portion of their salary until future years. The deferred compensation is not available to employees or their beneficiaries until termination, retirement, or unforeseeable emergency or upon death. 22

29 Other Post -Employment Benefits. The Governmental Accounting Standards Board ( GASB ) has issued a standard concerning Accounting and Financial Reporting by Employers for Post-Employment Benefits Other than Pensions ( GASB 45 ). In addition to pensions, many State and local governmental employers provide other post-employment benefits ( OPEB ) as a part of total compensation to attract and retain the services of qualified employees. OPEB includes post-employment health care as well as other forms of post-employment benefits when provided separately from a pension plan. GASB 45 provides for the measurement, recognition and display of OPEB expenses/expenditures, related liabilities (assets), note disclosures, and, if applicable, required supplementary information in the financial reports. The District does not provide any OPEB to any current or former employees; therefore, the District does not have a liability (funded or unfunded). Risk Management The District is exposed to various risks of loss related to torts; theft of, damage to and destruction of assets; errors and omissions; injuries to employees; and natural disasters. The District carries commercial insurance for these risks of loss. Settled claims resulting from these risks have not exceeded the commercial insurance coverage in any of the past three years. Worker s Compensation. The District participates in the Public Hospital District Workers Compensation Trust, which is administered by the Washington State Hospital Association. The District pays its share of actual injury claims, maintenance of reserves, administrative expenses, and reinsurance premiums. The amount paid by the District for workers compensation expense in 2012 was $180,133. Unemployment. The District participates in the Public Hospital District Unemployment Compensation Fund, which is administered by the Washington State Hospital Association. The District pays its share of actual unemployment claims, maintenance of reserves, and administrative expenses. The amount paid by the District for unemployment compensation expense in 2012 was $93,601. Medical Malpractice. The District is one of a number of Washington hospitals that are insured by Washington Casualty Company ( WCC ). WCC is a subsidiary of FinCor Holdings, which is a privately held, integrated risk management corporation designed to meet the risk financing, risk transfer and clinical risk management needs of health care providers. The District has its professional liability coverage with WCC. The policy provides protection on a claims-made basis whereby only malpractice claims reported to the insurance carrier in the current year are covered by the current policy. If there are unreported incidents which result in a malpractice claim in the current year, such claims will be covered in the year the claim is reported to the insurance carrier only if the District purchases claims-made insurance in that year or the District purchases tail insurance to cover claims incurred before but reported to the insurance carrier after cancellation or expiration of a claims-made policy. The current malpractice insurance provides $1,000,000 per claim of primary coverage with a $5,000,000 annual aggregate limit. WCC also provides excess coverage of $4,000,000 per claim with $5,000,000 annual aggregate. There are no significant deductibles or coinsurance clauses. No liability has been accrued for future coverage for acts, if any, occurring in this or prior years. Also, it is possible that claims may exceed coverage available in any given year. The District s premiums paid to WCC for coverage in 2012 totaled $265,

30 Property and Casualty Insurance. The District carries insurance with Martin Morris Company for property and casualty insurance, which provides coverage up to $20,290,500. The District s premiums to Martin Morris Company for coverage in 2012 totaled $29,759. Dental Plan. The District provides a dental plan for employees through the Guardian Life Insurance Company. Premiums paid in 2012 for this coverage totaled $177,476. Critical Access Designation Under the Medicare/Medicaid program, the Hospital qualified as a Critical Access Hospital ( CAH ) effective October 1, This program is designed to enhance the quality of health care services and the financial stability for rural hospitals that meet certain criteria, such as, the following a limit of 25 beds, an annual average length of stay of ninety-six hours or less; an agreement with another hospital regarding referral and transfer; communications and patient transportation; and an agreement for credentialing and quality assurance activities with an outside group. CAH inpatient and outpatient services provided to Medicare/Medicaid beneficiaries are reimbursed based on the hospital s costs. The Medicare program s administrative procedures preclude final determination of amounts due to the District for such services until three years after the District s cost reports are audited or otherwise reviewed and settled upon by the Medicare intermediary. The Medicare program s cost reports have been audited and tentatively settled through Medicaid reimbursement for inpatient acute care and outpatient care are reimbursed based on costs as defined and limited by the Medicaid program. The Medicaid hospital cost reports have been audited and tentatively settled through The District also has agreements with a number of third-party payors, which result in revenue discounts ranging from zero to twenty-five percent (25%). Related Organization Lake Chelan Community Hospital Foundation (the Foundation ), formed in 1981, as a 501(c)(3), is a separate tax-exempt Washington corporation. The Foundation is not considered a component unit that must be combined with the District for financial statement purposes. The Foundation had net assets of approximately $2,424,570 as of December 31, The Foundation contributed donations to the District in the amount of $35,997 for the year ending December 31, Authorized Investments The County Treasurer is the ex-officio treasurer for the District. In this capacity, the County Treasurer receives deposits and makes investments on the District s behalf. All temporary investments are stated at cost plus accrued interest, which approximates market. Investments are shown on the combined balance sheet at cost, net of amortized premium or discount. Reductions in market value are not reflected on the financial statements. Gains or losses on investments sold or exchanged are recognized at the time of sale or exchange. Chapter RCW limits the investment of public funds to the following authorized investments: bonds of the State and any local government in the State, which bonds are rated at the time of investment in one of the three highest credit ratings by a nationally recognized rating agency; general 24

31 obligation bonds of other states and subdivisions thereof so long as those bonds are rated in one of the three highest categories; registered warrants of a local government within the same county as the entity making the investment; and any investment authorized by law for the treasurer of the State or any local government exclusive of certificates of deposit of banks or bank branches not located in the State. Under chapter RCW, the State Treasurer may invest in non-negotiable certificates of deposit in designated qualified public depositories; in obligations of the U.S. government, its agencies and wholly owned corporations; in bankers acceptances; in commercial paper; in repurchase agreements; in the obligations of the federal home loan bank, federal national mortgage association and other government corporations subject to statutory provisions. Utility revenue bonds and warrants of any city and bonds or warrants of a local improvement district are also eligible investments (RCW ). Any municipal corporation, including the District, may authorize the investment of funds not required for immediate expenditure by the County Treasurer. Such funds of the District, including debt service funds, have been invested by the County Treasurer. The County Treasurer may, upon the request of one or more units of local government that invest their money with the County, combine that money for the purposes of investment (RCW ). The County Treasurer may reimburse its office for any expenses incurred in the establishment and maintenance of such a County investment pool (RCW ). In consultation with the District, the County Treasurer makes investments on its behalf. The County Treasurer currently invests the District s funds in the State s LGIP described below. As of December 31, 2012, the District s investments had a market value of approximately $3,736,386. Local Government Investment Pool. The County Treasurer may invest in the State s Local Government Investment Pool ( LGIP ), which was created by the Washington State Legislature in 1986 to provide a mechanism for political subdivisions to invest available funds and take advantage of the economies of scale and expertise of the LGIP to earn a competitive rate of return, security and liquidity of funds. The LGIP is a conservatively managed, highly liquid money market fund that is considered low-risk. The LGIP is restricted to investments with maturities of no more than 397 days and the average life typically is less than 120 days, with the following exceptions: The maximum maturity of variable rate and floating rate securities meeting the requirements listed above will not exceed 762 days; and Securities utilized in repurchase agreements. Permissible investments include U.S. government and agency securities, bankers acceptances, high quality commercial paper, repurchase and reverse repurchase agreements, and certificates of deposit issued by qualified Washington State depositories. The State Treasurer s Office administers the LGIP and reports that as of March 31, 2013, the LGIP had over 450 participants and a balance of approximately $8.7 billion. In its management of the LGIP, the State Treasurer is required to adhere, at all times, to the principles appropriate for the prudent investment of public funds. These are, in priority order, (i) the safety of principal; (ii) the assurance of sufficient liquidity to meet cash flow demands; and (iii) to attain the highest possible yield within the constraints of the first two goals. Historically, the LGIP has had sufficient liquidity to meet all cash flow demands. Authorized Investments for Bond Proceeds. In addition to the eligible investments discussed above, bond proceeds may also be invested in mutual funds with portfolios consisting of U.S. government and guaranteed agency securities with average maturities of less than four years; municipal securities rated in one of the four highest categories; and money market funds consisting of the same, so long as 25

32 municipal securities held in the fund(s) are in one of the two highest rating categories of a nationally recognized rating agency. Bond proceeds may also be invested in shares of money market funds with portfolios of securities otherwise authorized by law for investment by local governments (RCW ). Proceeds of the Bonds may only be invested in Government Securities, as defined herein. BONDOWNERS RISKS The purchase of the Bonds involves certain investment risks that are discussed throughout this Official Statement. Accordingly, each prospective purchaser of the Bonds should make an independent evaluation of all of the information presented in this Official Statement to make an informed investment decision. Certain of these risks are described below. General The Bonds are payable from certain tax receipts as described under the heading THE BONDS Security Pledge of Full Faith and Credit herein and other money lawfully available, including net patient services revenue of the District. The District s ability to collect regular property taxes could be adversely affected if the assessed valuation of the District declines in future years or if one or more of the regular property tax limitations described under the heading PROPERTY TAX LEVY LIMITATIONS AND PROCEDURES causes a reduction in the rate or amount of taxes the District can levy. The future financial condition of the District and thus the District s ability to generate net patient services revenue to pay the Bonds could be adversely affected by, among other things, legislation, regulatory actions, increased competition from other health care providers, demand for health care services, the impact of technological and demographic changes on the ability of the District to provide the services required by patients, confidence of physicians and the public in the District, economic developments in the service area, malpractice claims and other litigation, and changes in the rates, timing and methods of payment for the hospital services of health care providers. Such factors may also consequently affect payment by the District of principal of, premium, if any, and interest on the Bonds. There can be no assurance that the financial condition of the District will not be adversely affected by those factors. Certain of the factors that could affect the Bonds and the future financial condition of the District are set forth in more detail below. For recent financial information relating to the operations and condition of the District, see THE DISTRICT Patient Service Revenue and the Audited Financial Statements of the District included in Appendix D. Risks Related to Net Patient Services Revenue General. A substantial portion of the District s net patient service revenues is derived from third-party payors that pay for the services provided to patients covered by third parties for services. These thirdparty payors include the federal Medicare program, state Medicaid program and private health plans and insurers, including health maintenance organizations ( HMOs ). Many of those programs make payments to the District in amounts that may not reflect the District s direct and indirect costs of providing services to patients. The District s financial performance has been and could be in the future adversely affected by the financial position or the insolvency or bankruptcy of or other delay in receipt of payments from thirdparty payors that provide coverage for services to their patients. 26

33 Medicare and Medicaid Programs General. Approximately 53% and 11% of the District s gross patient service revenues for the fiscal year ended December 31, 2012, were derived from the Medicare and Medicaid programs, respectively. Medicare and Medicaid are the commonly used names for reimbursement or payment programs governed by certain provisions of the federal Social Security Act. Medicare is an exclusively federal program and Medicaid is a combined federal and state program. Medicare provides certain health care benefits to beneficiaries who are 65 years of age or older, blind, disabled or qualify for the End Stage Renal Disease Program. Medicare Part A covers inpatient hospital services, skilled nursing care and some home health care. Medicare Part B covers physician services and some supplies. Medicaid is designed to pay providers for care given to the medically indigent and others who receive federal aid. Medicaid is funded by federal and state appropriations and administered by the various states. Medicare. Medicare is the federal governmental health insurance system under which physicians, hospitals and other health care providers are reimbursed or paid directly for services provided to eligible elderly and disabled persons. Medicare is administered by the Centers for Medicare & Medicaid Services ( CMS ) of the federal Department of Health and Human Services. In order to achieve and maintain Medicare certification, a health care provider must meet CMS s Conditions of Participation on an ongoing basis, as determined by the state in which the provider is located and/or The Joint Commission. Health care providers have been and continue to be affected significantly by changes made in the last several years in federal and state health care laws and regulations, particularly those pertaining to Medicare and Medicaid. The purpose of much of the recent statutory and regulatory activity has been to reduce the rate of increase in health care costs, particularly costs paid under the Medicare and Medicaid programs. Diverse and complex mechanisms to limit the amount of money paid to health care providers under both the Medicare and Medicaid programs have been enacted, some of which have been implemented and some of which will be or may be implemented in the future. The Washington State Medicaid Program. In order to receive federal grants, a state s Medicaid program must cover persons receiving assistance from Temporary Assistance for Needy Families (previously known as Aid to Families With Dependent Children) or the federal Supplemental Social Security ( SSI ) program and certain categories of children and pregnant women. The design and operation of the Medicaid program falls to each state, however, and there are significant variations in virtually all aspects of the Medicaid program across states. State-specific variations arise because the Medicaid statute allows for optional benefits and categories of beneficiaries, as well as waivers of certain statutory requirements to implement specific programs or demonstration projects. The Medicaid statute also allows each state some latitude in defining the methods and standards that the state uses to reimburse facilities for items and services that it provides to Medicaid beneficiaries. CMS, the federal agency that oversees the Medicaid program, approved the request of the State of Washington (the State ) for a waiver under Section 1115 of the Federal Social Security Act, which has allowed the State to implement a statewide Medicaid managed care delivery system as a demonstration project. The Medicaid health care delivery system, entitled Healthy Options, provides payment for health care services through managed care provider networks. The District contracts with managed care providers who participate in Healthy Options. The District participates in the State s Medicaid program and accordingly provides inpatient hospital services to eligible Medicaid beneficiaries. The District s Medicaid revenues could be materially 27

34 affected by changes at the state or federal level, including reductions in Medicaid coverage (of persons or benefits), reductions in funding or payments, or termination or reduction in scope of the Healthy Options or Medicaid programs generally. Coverage of persons could be reduced by eliminating groups of currently eligible State residents or by changing the poverty level threshold required for eligibility. Either of these changes would increase the number of uninsured persons treated by health care providers and increase the risk of unreimbursed expenses. In addition, reductions in provider reimbursement from Medicaid could have a significant negative impact on the District s revenues. The Washington State budget for the biennium drastically reduced coverage for many Medicaid programs and also reduces coverage for certain hospital services. These reductions in coverage are beyond the deep cuts made in the previous biennium. The budget reduces coverage for the Basic Health Plan, dropping enrollment by 10,000 people during the biennium, which reduces payments for hospital and physician services by over $200 million. Medicaid coverage for certain emergency room visits and other hospital services has also been reduced resulting in a reduction in hospital payments of over $80 million over the biennium. The budget also eliminates a number of the disproportionate share payments and other special payment programs. These reductions in Medicaid coverage and payment may adversely affect the District s revenue. Medicare Reimbursement of Critical Access Hospitals. The District owns and operates the Hospital, which is an acute care inpatient facility. The Hospital is designated as a critical access hospital ( CAH ). Under applicable federal law, a CAH is limited to operating no more than 25 inpatient beds, which may be operated as swing beds with state approval, meaning that they may be used to provide acute or skilled nursing level beds, is either located in a rural area or has been designated by the state as a necessary provider, and must have an average length of stay of 96 hours or less. As a CAH, the Hospital is paid by Medicare based on its costs and is generally exempt from the prospective payment system that is otherwise used to pay for most services under the Medicare program. Medicare pays for most CAH inpatient and outpatient services on the basis of 101% of the Hospital s allowable and reasonable costs. CAHs are paid an interim rate throughout the year based on a specified amount per inpatient day for inpatient stays and a percentage of the Hospital s charges for outpatient services. After the end of each fiscal year, the Hospital files a cost report with CMS, which settles the difference between the interim rates and the costs (including allocated overhead) in each Hospital department. The Hospital is paid for routine or daily charges at a calculated amount per day while outpatient and inpatient ancillary charges are paid on a ratio of cost-to-charges for each ancillary department. Not all costs are considered to be allowable for cost report purposes and are not, therefore, reimbursed by Medicare. The Hospital has elected the optional payment method ( Method II Billing ) for its services to Medicare patients, which permits the Hospital to bill the Medicare Fiscal Intermediary ( FI ) for both the facility services and professional services provided to its outpatients. If a physician or other practitioner reassigns his or her billing rights and agrees to be included under a hospital s Method II Billing, Medicare pays for the physician s professional services at a rate equal to 115% of the otherwise allowable amount, after applicable deductions, under the Medicare Physician Fee Schedule ( MPFS ). The additional 15% incremental payment applies only to the amount paid by Medicare, not amounts paid by the beneficiary as a copayment. Professional charges billed for an inpatient are not covered under the Method II Billing and are paid at the regular rate under the MPFS. If the Hospital were to lose its CAH designation, it would be paid for inpatient and outpatient services under the prospective payment system and it would not qualify for Method II Billing for professional services. Such a change could reduce the Hospital s payments from Medicare and Medicaid and could have a material adverse impact on the future operations and financial condition of the Hospital. 28

35 Medicaid Reimbursement of Critical Access Hospitals. Payment for most inpatient and outpatient services rendered to Medicaid program beneficiaries by CAHs is made on a cost basis as defined by the State. The Hospital is reimbursed for cost-reimbursable items at a tentative rate with final settlement determined after submission of annual cost reports by the Hospital and review by the Washington State Department of Social and Health Services. For Medicaid beneficiaries who have elected to enroll in the Medicaid Healthy Options program, the Hospital is reimbursed a percentage of charges based on the direct Medicaid interim rate and there is no settlement process. Physician services are paid based on a Medicaid fee schedule. Reimbursement for Physician Services. The Medicare program pays for physician services on the basis of a resource-based relative value scale fee schedule. The fee schedule uses three types of relative value units ( RVUs ) to determine the amount of payment for a particular physician service: (1) physician work; (2) practice expense; and (3) malpractice expense. The RVUs are adjusted by a geographic adjustment factor, then multiplied by a national conversion factor. The conversion factor is adjusted annually by (1) an inflation factor (as measured by a Medicare Economic Index ( MEI )) and (2) a target factor (as measured by a Sustainable Growth Rate ( SGR )). The target factor specifies a desired rate of growth in Medicare expenditures on physician services in a given fiscal year. The American Taxpayer Relief Act of 2012 required that the update to the conversion factor for 2013 be set at zero percent. Accordingly, the 2013 conversion factor remains unchanged at $34.02 per RVU. Unless Congress enacts new legislation to revise the SRG adjustment, CMS estimates that the SRG for 2014 will be reduced by 15.2%. A reduction of that amount would adversely affect the net patient services revenue generated by the District for the Medicare services provided by its employed physicians and adversely affect the District s financial condition. Medicare Trust Funds. Two trust funds are maintained as part of the Medicare Program. Hospital Insurance ( HI ), or Medicare Part A, helps to pay for hospital, home health, skilled nursing facility and hospice care for the aged and disabled (including certain individuals with end stage renal disease) and is financed primarily by payroll taxes paid by workers and employers. Supplementary Medical Insurance ( SMI ) consists of Medicare Part B and Part D. Part B helps pay for physician, outpatient and other services for the aged and disabled who have voluntarily enrolled. Part D initially provided access to prescription drug discount cards and transitional assistance to low-income beneficiaries. In 2006 and later, Part D provides subsidized access to drug insurance coverage on a voluntary basis for beneficiaries. The Board of Trustees of the Medicare trust funds delivered its most recent annual report (the Annual Report ) to Congress on April 23, The Annual Report indicated that the Part A Trust Fund is not adequately financed and based upon its intermediate estimate is projected to be exhausted in The trustees project that total Medicare expenditures and scheduled tax income are significantly out of balance and substantial increases in tax revenues and/or reductions in expenditures are required to stabilize the HI Trust Fund. The Part B and Part D accounts in the SMI Trust Fund are adequately financed over the next ten years because premiums and general revenue income are reset each year to match expected costs. Such financing, however, would have to increase rapidly to match expected expenditure growth and to rebuild the Part B assets to an appropriate level. The trustees express the need for timely action to address Medicare s financial challenges and promote consideration of reforms for the program in the near future. Accordingly, it is likely that additional statutory and regulatory reforms to contain increases in Medicare costs will continue in the future. The effect of such future initiatives on the District cannot be predicted. 29

36 Medicare and Medicaid Conditions of Participation. Health care facilities must comply with standards called Conditions of Participation in order to be eligible for Medicare and Medicaid reimbursement. CMS is responsible for ensuring that hospitals meet these regulatory Conditions of Participation. Under the Medicare rules, providers such as the District that are accredited by approved accreditation organizations, such as The Joint Commission, are deemed to meet the Conditions of Participation. However, CMS may request that the state agency responsible for licensing hospitals on behalf of CMS conduct a sample validation survey of a hospital to determine whether it is complying with the Medicare or Medicaid Conditions of Participation. Failure to maintain accreditation or otherwise to comply with the Conditions of Participation could have a material adverse effect on the District s financial condition. Audits and Withholds. The District receives payments for various services provided to Medicare and Medicaid patients based upon charges or other reimbursement methodologies that are then reconciled annually based upon the preparation and submission of annual cost reports. Estimates for the annual cost reports are reflected as amounts due to/from third-party payors and represent several years of open cost reports due to time delays in audits by the fiscal intermediaries and the basic complexity of billing and reimbursement regulations. These estimates are adjusted periodically based upon correspondence received from the fiscal intermediary. Medicare and Medicaid regulations also provide for withholding of payment in certain circumstances if it is determined that an overpayment has been made. In addition, under certain circumstances, payments may be determined to have been made as a consequence of improper claims subject to the Federal False Claims Act or other federal statutes, subjecting the District to civil or criminal sanctions. The District is not aware of any situation whereby a material Medicare or Medicaid payment is being withheld, but any future withholding of payment could have a material adverse effect on the District s financial condition. Private Health Plans and Insurers Certain private insurance companies contract with hospitals and other providers on an exclusive or a preferred provider basis and have introduced plans known as preferred provider organization plans ( PPOs ). Under such PPOs, there generally are financial incentives for enrollees to use those contracted providers. Under HMO plans, private payers may direct patients away from participating providers by limiting coverage for services provided by them. Many HMOs and PPOs currently pay providers on a negotiated fee-for-service basis or, for institutional care, on a fixed rate per day of care, which, in each case, usually is discounted from the typical charges for the care provided. As a result, the discounts offered to HMOs and PPOs may result in payment to a provider that is less than its actual cost. Additionally, the volume of patients directed to a provider may vary significantly from projections and/or changes in the utilization may be dramatic and unexpected, thus jeopardizing the provider s ability to manage this component of revenue and cost. Often, payer contracts are enforceable for a stated term regardless of hospital losses and may require hospitals to care for enrollees for a certain time period, regardless of whether the payer is able to pay the hospital. Hospitals from time to time have disputes with payers concerning payment and contract interpretation issues. Failure to maintain contracts could have the effect of reducing the District s market share and net patient services revenues. Conversely, participation may result in lower net income if participating hospitals are unable to adequately contain their costs. Thus, managed care poses significant business risks (and opportunities) for the District. 30

37 Federal and State Anti-Fraud and Abuse Laws Federal and state governments have enacted health care fraud and abuse laws to regulate both the provision of services to government program beneficiaries and the methods and requirements for submitting claims for services rendered to those beneficiaries. These laws penalize individuals and organizations for submitting claims for services that: (i) they did not provide; (ii) were not medically necessary; (iii) were provided by an improper person; (iv) involved an illegal inducement to utilize or refrain from utilizing a service or product; or (v) were billed in a manner that does not comply with applicable government requirements. The scope of certain federal and state fraud and abuse laws has been expanded to include non-governmental private health care plans. Federal and state governments have a range of criminal, civil and administrative sanctions available to penalize and remediate health care fraud and abuse, including imposing civil money penalties, suspending payments and excluding the provider from participating in the federal and state health care programs. One or more government entities and/or private individuals can prosecute fraud and abuse cases, and courts and/or regulators can impose more than one of the available penalties for each violation. Laws governing fraud and abuse apply to virtually all individuals and entities with which a hospital does business, including other hospitals, home health agencies, long-term care entities, infusion providers, pharmaceutical providers, insurers, HMOs, PPOs, third-party administrators, physicians, physician groups and physician practice management companies. Fraud and abuse prosecutions can have a catastrophic effect on any of these entities, which can result in a material adverse impact on the financial condition of other entities in the same health care delivery system. Federal Anti-Fraud and Abuse Law. In recent years, both the federal and state governments have increased enforcement of laws designed to combat health care fraud and practices that the governments regard as abusive, and additional anti-fraud legislation has been adopted at both federal and state levels. Under the federal Medicare-Medicaid Anti-Fraud and Abuse Amendments of 1977 to the Social Security Act, as amended (the Anti-Kickback Law ), it is a felony to knowingly and willfully offer, pay, solicit or receive any remuneration (including any kickback, bribe or rebate) directly or indirectly, overtly or covertly, in cash or in kind in order to induce business for which reimbursement is provided, in whole or in part, under a federal health care program, including Medicare and Medicaid. Penalties for each violation of the Anti-Kickback Law include criminal fines and civil monetary penalties. Moreover, a violation of the Anti-Kickback Law may form the basis for a Federal False Claims Act suit (see discussion below). The statute does include some exceptions and federal regulations establish numerous safe harbors. Arrangements that meet the safe harbor requirements are deemed not to be violations of the Anti-Kickback Law. Failure to comply with the safe harbors, however, does not mean that the activity violates the law. Arrangements that fail to qualify for safe harbor protection may or may not violate the Anti-Kickback Law depending on the facts and the intent of the parties. The scope of the Anti-Kickback Law prohibition is, however, broadly drafted and liberally interpreted by some federal regulators and enforcement authorities. Thus, the Anti-Kickback Law may create liability in connection with a wide range of economic arrangements involving managed care entities, hospitals, physicians and other health care providers, including joint ventures, space and equipment rentals, purchases of physician practices, managed care arrangements, and management and personal services contracts. While the District believes its arrangements currently comply with the Anti- Kickback Law, the ambiguity and breadth of the law mean that there can be no assurance that enforcement authorities or courts of law would agree. 31

38 In the Health Insurance Portability and Accountability Act of 1996 ( HIPAA ), Congress established a fraud and abuse control program to coordinate federal, state and local health care fraud and abuse activities. HIPAA also created several new federal health care crimes, many of which are broadly worded and potentially applicable to a wide range of conduct. For example, HIPAA created a general prohibition on knowingly and willfully executing or attempting to execute schemes to defraud any public or private health care benefit program or making any false or fraudulent representations in any matter involving any private or public health care program. Several federal statutes, including the Social Security Act, the Program Fraud Civil Remedies Act of 1986 and the Federal False Claims Act (which is discussed in more detail below), also provide for imposition of civil monetary penalties for knowingly making false or improper claims to federal health care programs. Penalties under these statutes can be severe, ranging up to $25,000 per claim plus up to three times the amount of damages sustained by the government. Penalties for noncompliance with the above-referenced statutes can be substantial and could include criminal or civil liability and/or exclusion from participation in Medicare, Medicaid and other health programs. Based on its internal processes, the District believes that it is in compliance with the abovereferenced statutes; however, there can be no assurance that enforcement authorities would agree. State Anti-Fraud and Abuse Law. In addition to the federal laws prohibiting kickbacks and other types of exchanges of remuneration for referrals of patients, Washington law also prohibits such conduct. Subject to certain exceptions, RCW provides criminal and civil penalties for licensed facilities and individuals who make or receive payments for referrals of patients for health care services. Entities and individuals found to have violated this provision are subject to loss of licensure, fines and/or imprisonment. The statute contains several ambiguities, has been sparsely reviewed or interpreted, and the exact scope and extent of its prohibition are still subject to interpretation. Based on its internal processes, the District believes that it is in compliance with RCW 19.68; however, there can be no assurance that enforcement authorities or courts of law would agree. Federal and State Self-Referrals Prohibition. The Ethics in Patient Referrals Act of 1989 ( STARK I ), as amended in the Omnibus Budget Reconciliation Act of 1993 ( STARK II ) (collectively, the Stark Law ), prohibits a physician from referring Medicare patients for specified designated health services to entities with which the physician or an immediate family member of the physician has a financial relationship unless an exception applies. The Stark Law also prohibits the entity receiving the tainted referral from billing for such services. Designated health services ( DHS ) include, but are not limited to, clinical laboratory services, physical and occupational therapy, radiology and certain other diagnostic services, radiation therapy, home health services, and inpatient and outpatient hospital services. A financial relationship is defined to include any ownership or investment interest in the entity or any compensation arrangement between the entity and the physician. The Stark Law contains a number of exceptions. For example, space and equipment rental arrangements, bona fide employment relationships, personal service arrangements, arrangements unrelated to the provision of designated health services and physician recruitment arrangements that meet specified requirements are excepted from the referral prohibition. New Stark regulations effective December 4, 2007 and the CMS comments preceding them have made the Stark statute more difficult to understand; this increases the possibility that inadvertent violations may occur. In addition, CMS continues to revise, supplement and update the Stark law. On August 19, 2008, CMS published final regulations relating to the Stark Law in the 2009 IPPS Rule that further restrict the type of financial arrangements that facilities and physicians may enter into, including 32

39 additional restrictions on certain leases, percentage compensation arrangements and agreements under which a hospital purchases services. Penalties for violation of the Stark Law include denial of payment, recoupment, refunds of amounts paid in violation of the law, exclusion from the Medicare or Medicaid program, and substantial civil monetary penalties (up to $15,000 per service, $100,000 for each arrangement or scheme intended to circumvent or to violate the statute, or $10,000 per day for false reporting or failure to report certain information required under the law). Violation of the Stark Law may also provide the basis for a claim under the False Claims Act (see discussion below). The Stark Law applies to state Medicaid programs indirectly. Section 1903(s) of the Social Security Act denies federal financial participation to state Medicaid programs for services furnished to Medicaid patients pursuant to a physician referral prohibited by the Stark Law. In 1995, the State Legislature enacted a state physician self-referral prohibition patterned after the Stark Law. This statute, RCW (3), explicitly provides that the physician referral prohibition shall not apply in any case covered by a general exception in the Stark Law. Although the scope of the State self-referral statute remains ambiguous, a letter issued by the Washington State Attorney General dated September 30, 1998, indicates that the State statute should be interpreted in a manner consistent with its federal counterpart. The State self-referral law prohibits certain physician referrals, but does not directly prohibit billing for services provided pursuant to a prohibited referral. The State statute does not identify what, if any, penalties apply in the event of a violation. The District has and may have in the future relationships with physicians that may be characterized as financial arrangements under the Stark Law and/or the State self-referral statute. The statutes and interpretive regulations contain numerous ambiguities and are subject to interpretation. Under these circumstances, it is not possible to ascertain with certainty the effect that the Stark Law or the State selfreferral statute may have on the District s operations or financial results. Based upon its review, however, the District s management does not believe that any attempted enforcement action under the Stark Law or the State self-referral statute would have a material adverse impact on the District s financial condition. The False Claims Act. Under federal law, a whistleblower may bring a lawsuit in the name of the federal government against an entity that is alleged to have submitted false claims for payments to the federal government. The federal False Claims Act ( FCA ) provides for potentially severe penalties: treble damages, attorneys fees and civil fines of $5,000 to $10,000 per claim. Whistleblowers can be awarded a significant portion of any damages or penalties recovered by the government. The government may either join in a civil False Claims Act action filed by a whistleblower or allow the whistleblower to proceed without the government s direct involvement. The cases are filed under seal and the federal government is given the option to pursue the lawsuit. If the federal government declines, then the whistleblower may proceed with the lawsuit. In order to prevail, the government or the whistleblower must establish that the false claims were submitted knowingly. Under the False Claims Act, a claim may be submitted knowingly if it is submitted in deliberate ignorance or reckless disregard of the truth or falsity of the information contained in the claim, in addition to claims actually known to be false. Some regulators and whistleblowers have asserted that claims submitted to governmental payers that do not comply fully with regulations or guidelines come within the scope of the False Claims Act. 33

40 Management of the District is not aware that any False Claims Act lawsuits have been filed against it. Because such lawsuits are filed under seal, however, there can be no guarantee that one or more lawsuits have not been filed or will not be filed in the future. Federal Civil Monetary Penalty Law. The federal Civil Monetary Penalty Law ( CMPL ) provides for administrative sanctions against health care providers for a broad range of billing and other abuses. A health care provider is liable under the CMPL if it knowingly presents, or causes to be presented, improper claims for reimbursement under Medicare, Medicaid or the Child Health Services Block Grant programs. A hospital that participates in a gainsharing arrangement that is found to constitute a payment to physicians to limit or reduce services to Medicare fee-for-service beneficiaries also would be subject to CMPL penalties. The CMPL authorizes imposition of civil money penalty of up to $10,000 for each item or service improperly claimed. Health care providers may be found liable under the CMPL even when they did not have actual knowledge of the impropriety of the claim. It is sufficient that the provider should have known that the claim was false and ignorance of the Medicare regulations is no defense. Management of the District is not aware of any billing or other abuses that would give rise to CMPL claims. The Health Insurance Portability and Accountability Act of The Health Insurance Portability and Accountability Act of 1996 ( HIPAA ) established criminal sanctions for health care fraud and applies to all health care benefit programs whether public or private. HIPAA also provides for punishment of a health care provider for knowingly and willfully embezzling, stealing, converting or intentionally misapplying any money, funds, securities, premiums, credits, property, or other assets of a health care benefit program. A health care provider convicted of health care fraud would be subject to mandatory exclusion from the Medicare program. Management of the District is not aware of any health care fraud that would give rise to sanctions under HIPAA. The HITECH Act. Provisions in the 2008 Health Information Technology for Economic and Clinical Health Act (the HITECH Act ), enacted as part of the economic stimulus legislation, increase the maximum civil monetary penalties for violations of HIPAA and grant enforcement authority of HIPAA to state attorneys general. The HITECH Act also (i) extends the reach of HIPAA beyond covered entities, (ii) imposes a breach notification requirement on HIPAA-covered entities, (iii) limits certain uses and disclosures of individually identifiable health information and (iv) restricts covered entities marketing communications. Management believes it is in material compliance with the requirements of HITECH Act and anticipates that future compliance with the HITECH Act will not have a material adverse effect on the District s operations. Exclusions from Medicare or Medicaid Participation. The government may exclude from Medicare/ Medicaid program participation a hospital that is convicted of a criminal offense relating to the delivery of any item or service reimbursed under Medicare or a state health care program, any criminal offense relating to patient neglect or abuse in connection with the delivery of health care, fraud against any federal, state or locally financed health care program or an offense relating to the illegal manufacture, distribution, prescription, or dispensing of a controlled substance. The government also may exclude individuals or entities under certain other circumstances, such as an unrelated conviction of fraud or other financial misconduct relating either to the delivery of health care in general or to participation in a federal, state or local government program. Exclusion from the Medicare/Medicaid program means that a hospital would be decertified and no program payments could be made. The District is not currently excluded from participation in Medicare or Medicaid. Any future exclusion would have a materially adverse affect on the District s financial condition. 34

41 Enforcement. Enforcement activity against health care providers has increased and enforcement authorities have adopted aggressive approaches. In the current regulatory climate, it is anticipated that many health care providers will be subject to investigation, audit or inquiry regarding the health care fraud laws mentioned above. As with other health care providers, the District may be the subject of Office of the Inspector General, U.S. Attorney General and/or Justice Department investigations, audits or inquiries in the future. Because of the complexity of these laws, the instances in which an alleged violation may arise to trigger such investigations, audits or inquiries is increasing and could result in enforcement action against the District. No such investigations, audit or inquiries are currently pending with respect to the District s operations. Enforcement authorities are in a position to compel settlement by providers charged with kickback, referral, billing practice or false claims violations by imposing or threatening to withhold Medicare, Medicaid and/or similar payments and/or exclusion and/or criminal action. In addition, the cost of defending such investigations or litigation, the time and management attention consumed thereby and the facts of a particular case may dictate settlement. Therefore, regardless of the merits of a particular case or cases, the District could experience materially adverse settlement and/or litigation costs. Prolonged and publicized investigations could be damaging to the reputation, business and credit of the District, regardless of the outcome, and could have material adverse consequences on the financial condition of the District. Certain acts or transactions may result in violation or alleged violation of a number of the federal health care fraud laws described above, and therefore penalties or settlement amounts often are compounded. Generally these risks are not covered by insurance. Voluntary Corporate Compliance. The District has adopted and implemented a voluntary corporate compliance program called the Voluntary Corporate Integrity Program ( Compliance Plan ), designed in light of the applicable compliance guidance offered by the Office of the Inspector General. The purpose of the Compliance Plan is to detect and deter violations of law. One of the major goals of such a plan is to identify and address issues involving the submission of claims to governmental payers such as Medicare and Medicaid and whether those claims comply with statutes, regulations and other guidance provided by the programs. Integral components of the Compliance Plan include a code of conduct, adoption of written standards, education, policies and procedures, auditing and monitoring, remediation of identified issues, and encouraging employees to identify potential issues. It is possible that the Compliance Plan may bring to the District s attention issues with respect to prior practices and payments. Depending upon the nature of the issue and whether an overpayment has occurred, such a discovery may result in either voluntary or involuntary refunds to governmental payers. Enforcement authorities take into account the existence and efficacy of a provider s voluntary compliance efforts in assessing the application and severity of penalties for a violation of federal or state rules governing reimbursement to or business relationships among providers of medical services; however, the decision of whether and how much weight to attach to voluntary compliance efforts is solely within the enforcement authorities discretion. Voluntary Disclosures and Refunds. The District strives to be a good corporate citizen, including full compliance with all laws and regulations. If the District learns that it has submitted claims that do not comply with statutes, regulations or other guidance provided by governmental programs, then one of its options is the voluntary disclosure to the affected program of the issue and a voluntary repayment. As a result of its Compliance Plan, the District may identify in the future instances where payments may have been received in error and may disclose such instances to the affected governmental programs and voluntarily submit a refund. There can be no assurance, however, that the affected governmental program will not seek to impose sanctions on the District for practices that were voluntarily disclosed, 35

42 and this could have a material adverse effect on the District. Management of the District is not aware of any existing such disclosures that would have a material adverse effect on the District. HIPAA Administrative Simplification. In addition to provisions governing the portability of health insurance and health care fraud, HIPAA includes administrative simplification provisions ( AS Provisions ) intended to reduce costs and administrative burdens in the health care industry by standardizing the electronic transmission of many administrative and financial transactions that currently are carried out manually on paper or in many different electronic formats. The AS Provisions also impose privacy and security requirements on entities covered by HIPAA ( Covered Entities ) as well as mandate other standards such as national identifiers. Covered Entities are health plans, health care clearinghouses, and health care providers such as the District, that engage in covered transactions. Additionally, Covered Entities must enter into contracts with their business associates with whom they share protected health information to assure that such information is appropriately safeguarded and that other HIPAA requirements are met. Under the final transaction and code set regulations promulgated by HHS, Covered Entities must use the prescribed standards for designated electronic transactions. The final HIPAA privacy regulations impose requirements on the use and disclosure of protected health information, create individual rights, and mandate certain administrative requirements for Covered Entities. Covered Entities are expected to be in compliance with the privacy regulations. Additionally, security regulations require Covered Entities to assess risks and develop and implement appropriate security measures to protect individually identifiable health information, with particular focus on administrative procedures, physical safeguards, technical security services, and technical security mechanisms. Covered Entities such as the District must comply with the security regulations. Penalties for noncompliance with the AS Provisions include civil monetary penalties of up to $100 for any violation not to exceed $25,000 in any calendar year for identical violations. Criminal penalties include up to $50,000 in fines and/or one year imprisonment for wrongful disclosure of individually identifiable health information; $100,000 and/or imprisonment of not more than five years for wrongful disclosure under false pretenses; and up to $250,000 and/or ten years of imprisonment for wrongful disclosure with the intent to sell, transfer or use individually identifiable health information for commercial advantage, personal gain, or malicious harm. The District has made a concerted effort to comply with all of the AS Provisions and continues to work with fiscal intermediaries, electronic claim submission clearinghouses and insurance carriers to ensure that all financial transaction data sets are compliant with the new regulations. The District s information resources management team worked closely with its software vendors to make sure that all outgoing data sets were compliant with the new AS Provisions. The District expected that there would be some delay in claims submission and electronic processing of information as the claim submission clearinghouses and insurance carriers updated the software necessary to receive and process the new transaction formats provided under the AS Provisions. The District is currently submitting claims in an AS-compliant format to all carriers that can process claims in that format. Management cannot predict if additional regulations, amendments or interpretations might increase the District s costs or impair timely collections from Covered Entities. 36

43 Health Care Reform On March 23, 2010, the President signed into law comprehensive health reform through the Patient Protection and Affordable Health Care Act (Pub. L ) and signed a budget reconciliation bill that included amendments (Pub. L ). These laws in combination form the Health Care Reform Act. Some of the provisions of the Health Care Reform Act took effect immediately, while others will take effect later or will be phased in over time, ranging from a few months following approval to ten years. Because of the complexity of the Health Care Reform Act generally, additional legislation is likely to be considered and enacted over time. The Health Care Reform Act will also require the promulgation of substantial regulations with significant effect on the health care industry and third-party payers. In response, third-party payers and suppliers and vendors of goods and services to health care providers are expected to impose new and additional contractual terms and conditions. Thus, the health care industry will be subjected to significant new statutory and regulatory requirements and contractual terms and conditions, and consequently to structural and operational changes and challenges. The ramifications of the Health Care Reform Act may become apparent only through or following regulatory and judicial interpretations or additional legislation. All or portions of the Act may be limited or nullified as a result of legal challenges or amendments. Multiple cases challenging the individual mandate provision of the Health Care Reform Act are pending and while two federal district courts have upheld its constitutionality, two other federal district courts have held it to be unconstitutional under the Commerce Clause. The most recent of the two declared the Health Care Reform Act void in its entirety, finding that the individual mandate is not severable from the Act as a whole. Some or all of these decisions will likely be appealed to the courts of appeals and the U.S. Supreme Court. Efforts are also underway in Congress to repeal all or portions of the Health Care Reform Act. On January 19, 2011, the U.S. House of Representatives approved a bill to repeal the Health Care Reform Act. A similar bill in the U.S. Senate was rejected. District management is analyzing the Health Care Reform Act and will continue to assess the effects of the legislation and evolving regulations and judicial interpretations on current and projected operations, financial performance and financial condition. At this time, management cannot predict with any reasonable degree of certainty or reliability any interim or ultimate effects of the legislation on the District. As enacted, the Health Care Reform Act impacts CAHs such as the Hospital differently than non-cah hospitals in certain respects. For example, certain provisions linking payment to quality of care do not apply to CAHs. Some of the specific provisions of the Health Care Reform Act that may affect hospital operations, financial performance or financial conditions, including those of the District, are described below. This summary is not intended to be nor should it be considered by the reader as comprehensive. The Health Care Reform Act will significantly change the methods by which consumers pay for health care for themselves and their families and by which employers procure health insurance for their employees and dependents. One of the primary objectives of the Health Care Reform Act is to cause the extension of health care insurance to millions of currently uninsured (or underinsured) consumers. The Health Care Reform Act proposes to accomplish that objective through various provisions, summarized as follows: (i) the creation of active markets (referred to as exchanges) in which individuals and small employers can purchase health care insurance for themselves and their families or their employees and dependents; (ii) providing subsidies for premium costs to individuals and families based upon their income relative to federal poverty levels; (iii) mandating that individual consumers obtain and certain 37

44 employers provide a minimum level of health care insurance and providing for penalties or taxes on consumers and employers that do not comply with these mandates; (iv) expansion of private commercial insurance coverage generally through such reforms as prohibitions on denials of coverage for preexisting conditions and elimination of lifetime or annual cost caps; and (v) expansion of existing public programs, including Medicaid, for individuals and families. The Congressional Budget Office (the CBO ) has estimated that in federal fiscal year 2015, 19 million consumers who are currently uninsured will become insured, followed by an additional 11 million consumers in federal fiscal year To the extent that all or any of those provisions produce the expected result, an increase in utilization of health care services by those who are currently avoiding or rationing their health care can be expected and bad debt expenses may be reduced. Associated with increased utilization will be increased variable and fixed costs of providing health care services, which may or may not be offset by increased revenues. The delivery system changes in the reform legislation, among other things, increasingly link provider payments to quality and coordination of care. Hospitals will be subject to Medicare payment withholds or bonuses based on performance scores under a new value-based purchasing program. CAHs are exempt from this program although pilot programs involving CAHs will be established. Hospitals with excess readmissions will face payment reductions. CAHs such as the Hospital are exempt from the value-based purchasing and payment reductions although pilot programs including CAHs will be established. Under both Medicare and Medicaid, hospitals will not receive payment for certain hospitalacquired conditions and hospitals with the highest rates of hospital-acquired conditions will be subject to Medicare payment penalties on all discharges. The Health Care Reform Act also imposes qualityrelated requirements on health insurers. Health care insurers will be required to include quality improvement covenants in their contracts with hospital providers and will be required to report their progress on such actions to the Secretary of Health and Human Services (HHS). Health care insurers participating in the health insurance exchanges will be allowed to contract only with hospitals that have implemented programs designed to ensure patient safety and enhance quality of care. The effect of these provisions upon the process of negotiating contracts with insurers or the costs of implementing such programs cannot be predicted. Several provisions included to fund the cost of health care reform could have an adverse impact on provider payment rates. These provisions will have a limited impact on CAHs such as the Hospital, at least initially, because CAHs are generally reimbursed based on cost. These provisions include: (i) reductions in Medicare market basket updates to inpatient and outpatient hospital payment rates and further reductions to these market basket updates to account for economy-wide productivity gains; (ii) reductions in payments under the Medicare Advantage programs (Medicare managed care), which may result in increased premiums or out-of-pocket costs to Medicare beneficiaries enrolled in Medicare Advantage plans; and (iii) reductions in Medicare disproportionate share hospital (DSH) payments (although it is not possible to determine the specific impact on the District until CMS calculates the funding to be redistributed to hospitals based on their relative uncompensated care costs, and until CMS determines the allocation of cuts to each state and the State determines the allocation of remaining funds among providers). There will be a new Independent Payment Advisory Board that provides to Congress and the President annual recommendations on curtailing Medicare cost growth and non-binding recommendations on constraining costs and improving quality in the private sector. Starting in 2020, the Medicare proposals related to inpatient and outpatient hospitals will be automatically implemented unless Congress passes an alternative package that meets the same savings targets. 38

45 The Health Care Reform Act also implements significant changes to health care fraud and abuse laws that will intensify the risks and consequences of enforcement actions. These include expansion of the False Claims Act by: (i) narrowing the public disclosure bar; (ii) explicitly stating that violations of the anti-kickback statute trigger false claims liability; and (iii) applying the False Claims Act to payments under the new exchanges to the extent the payments are made with federal funds. In addition, health care reform lessens the intent requirements under the anti-kickback statute to provide that a person may violate the statute without knowledge or specific intent. The health care reform legislation also provides new funding and expanded powers to investigate fraud, including through expansion of the Medicare Recovery Audit Contractor ( RAC ) program to Medicare Parts C and D and Medicaid. Finally, the legislation creates enhanced penalties for noncompliance, including increased criminal penalties and expansion of administrative penalties under Medicare and Medicaid. Also of potential cost to the District, all hospitals must establish and maintain compliance programs that satisfy certain federal requirements as a condition of enrollment in Medicare, Medicaid and the Children s Health Insurance Program ( CHIP ). The Health Care Reform Act creates a Center for Medicare and Medicaid Innovation to test innovative payment and service delivery models and to implement various demonstration programs and pilot projects to test, evaluate, encourage and expand new payment structures and methodologies to reduce health care expenditures while maintaining or improving quality of care, including bundled payments under Medicare and Medicaid, and comparative effectiveness research programs that compare the clinical effectiveness of medical treatments and develop recommendations concerning practice guidelines and coverage determinations. Other provisions encourage the creation of new health care delivery programs, such as accountable care organizations or combinations of provider organizations, that voluntarily meet quality thresholds to share in the cost savings they achieve for the Medicare program. The outcomes of these projects and programs, including their effect on payments to providers and financial performance, cannot be predicted. Other Federal, State and Local Legislation General. The District is subject to a wide variety of federal, state and local regulatory actions and legislative and policy changes that could have a significant impact on the District. Federal, state and local legislative bodies have broad discretion in altering or eliminating programs that contribute significantly to the revenues of the District, including the Medicare and Medicaid programs. In addition, such entities may enact legislation that imposes significant new burdens on the operations of the District such as increased taxes, licensing fees or other assessments or the imposition of additional licensing, certificate of need or other regulatory requirements. There can be no assurance that such legislative bodies will not make legislative policy changes (or direct governmental agencies to promulgate regulatory changes) that have adverse effects upon the ability of the District to generate revenues or upon the favorable utilization of their facilities. Certificate of Need. The State employs a certificate of need program whereby health care facilities are required to obtain approval from the State before undertaking certain projects, including constructing or developing a new health care facility, selling, purchasing or leasing part or all of any existing hospital, changing bed capacity in a manner which increases the total number of licensed beds or redistributes beds, and/or offering a new tertiary health service. No projects currently being undertaken by the District are subject to certificate of need approval. Business and Occupation Taxes. Hospitals in the State are subject to a 1.5% business and occupation tax on gross receipts, which is used to fund a health plan for people otherwise uninsured. Any hospital 39

46 owned by a municipal corporation is allowed to deduct revenues received from Medicare, Medicaid and other governmental programs in calculating the tax. The District meets the definition and is currently deducting such revenues. The amount of the tax and the continued ability to deduct governmental revenues is subject to change by the State Legislature. Licensing and Accreditation. Health facilities, including those of the District, are subject to numerous legal, regulatory, professional and private licensing, certification and accreditation requirements. Management of the District currently anticipates no difficulty in renewing or maintaining currently held licenses, certifications or accreditation, and does not anticipate a reduction in third-party payments that would materially adversely affect the operations or financial conditions of the District due to licensing, certification or accreditation difficulties. Nevertheless, actions in any of these areas could result in a reduction in utilization or revenues or both, or the loss of the District s ability to operate all or a portion of its health facilities and, consequently, could have a material adverse effect on the District s financial condition. Environmental Laws Affecting Health Care Facilities. Hospitals and other health care facilities are subject to a wide variety of federal, state and local environmental and occupational health and safety laws and regulations that address, among other things, hospital operations or facilities and properties owned or operated by hospitals. Among the types of regulatory requirements faced by hospitals are: air and water quality control requirements; waste management requirements; specific regulatory requirements applicable to asbestos, hospital, medical and infectious waste, polychlorinated biphenyls, and radioactive substances; requirements for providing notice to employees and members of the public about hazardous materials handled by or located at the hospital; requirements for worker safety and training employees in the proper handling and management of hazardous materials and waste. In their role as owners and operators of properties or facilities, hospitals may be subject to liability for investigating and remedying any hazardous substances that have come to be located on the property, including any such substances that may have migrated off the property. Typical health care operations include, in various combinations, the handling, use, storage, transportation, disposal and discharge of infectious, toxic, radioactive, flammable and other hazardous materials, wastes, pollutants or contaminants. For this reason, health care facility operations are particularly susceptible to the practical financial and legal risks associated with compliance with such laws and regulations. Such risks may result in damage to individuals, property or the environment, may interrupt operations or increase their costs or both, may result in legal liability, damages, injunctions or fines, or may trigger investigations, administrative proceedings, penalties or other government agency actions. There can be no assurance that the District will not encounter such risks in the future and such risks could have a material adverse effect on the District s financial condition. Antitrust. Enforcement of antitrust laws against health care providers is becoming more common and antitrust liability may arise in a wide variety of circumstances, including medical staff privilege disputes, third-party contracting, physician relations, joint venture, merger, virtual merger, formation of provider networks, diversification of hospitals into non-traditional hospital services and affiliation and acquisition activities. At various times health care providers may be subject to an investigation by a governmental agency charged with the enforcement of antitrust laws or may be subject to administrative or judicial action by a federal or state agency or a private party. The Department of Justice may bring criminal and civil actions to enforce the antitrust laws. Private litigants may bring actions for treble damages. From time to time, the District is or will be involved in a variety of activities that could receive scrutiny under antitrust laws and it cannot be predicted when or to what extent liability may arise. With respect to payer contracting, the District may, from time to time, be involved in joint contracting activity with 40

47 other hospitals or providers. The precise degree to which this or similar joint contracting activities may expose the participants to antitrust risk from governmental or private sources is dependent on factual matters that may change from time to time. Some court decisions have held hospitals liable for abusing their local market power by steering business to ancillary health care businesses in which they have an interest. Such activities may result in monetary liability for the participating hospitals under certain circumstances where a competitor suffers damage. Furthermore, hospitals, including the District, regularly have disputes regarding credentialing and peer review and may be subject to liability in this area. In addition, hospitals occasionally indemnify medical staff members who are involved in such credentialing or peer review activities and may also be liable with respect to such indemnity. The ability to consummate mergers, acquisitions or affiliations may also be impaired by the antitrust laws, potentially limiting the ability of health care providers to fulfill their strategic plans. Liability in any of these or other antitrust areas may be substantial, depending on the facts and circumstances of each case. Other Risk Factors Generally Affecting Health Care Facilities Hospital Pricing. Recently, focus has increased on the provision of charity care by nonprofit health care institutions and their pricing policies and billing and collection practices involving the underinsured and uninsured. This increased focus has resulted in congressional hearings, governmental inquiries and private class-action litigation against a number of nonprofit health care institutions generally alleging the overcharging of underinsured and uninsured patients. Inflation in hospital costs may evoke action by legislatures, payors or consumers. It is possible that legislative action at the state or national level may be taken with regard to the pricing of health care services. Major purchasers of hospital services could also take action to restrain hospital charges or charge increases. As a result of increased public scrutiny, it is possible that the pricing strategies of hospitals may be perceived negatively by consumers and hospitals may be forced to reduce fees for their services. Decreased utilization could result and hospital revenues may be negatively impacted. The District has not been served with a complaint relating to litigation regarding pricing policies and billing and collection practices. There can be no assurance, however, that such a claim will not be asserted against the District in the future. Technology and Services. Scientific and technological advances, new procedures, drugs and appliances, preventive medicine, occupational health and safety and outpatient health care delivery may reduce utilization and revenues of the District in the future. Technological advances in recent years have accelerated the trend toward the use by hospitals of sophisticated costly equipment and services for diagnosis and treatment. The increased cost of technology is not immediately reflected in the prospective payment system (PPS) rates established by the Medicare and Medicaid programs, nor under private health plan-negotiated contract rates. The acquisition and operation of certain equipment or services may continue to be a significant factor in hospital utilization, but the ability of the District to offer such equipment or services may be subject to the availability of equipment or specialists, governmental approval or the ability to finance such acquisitions or operations. 41

48 Employment and Labor Issues. The District is a major local employer and its work force combines a complex mix of professional, quasi-professional, technical, clerical, housekeeping, maintenance, dietary and other types of workers in a single operation. As with all large employers, the District bears a wide variety of risks in connection with its employees including strikes and other related work actions, contract disputes, difficulties in recruitment, discrimination claims, personal tort actions, work-related injuries, exposure to hazardous materials, interpersonal torts, risks related to its benefit plans and other risks that may flow from the relationships between employer and employee or between physicians, patients and employees. Many of these risks are not covered by insurance and certain of them cannot be anticipated or prevented. The District believes that its retirement plans are in material compliance with the Employee Retirement Income Security Act of 1974, as amended, and other applicable laws. The District is subject to all of the risks listed above and such risks, alone or in combination, could have material adverse consequences to the financial condition or operations of the District. At the present time the District is a party to three collective bargaining agreements, see The District Labor Relations. Wage and Hour Class Actions and Litigation. Federal law and many states, including Washington, impose standards related to worker classification, eligibility and payment for overtime, liability for providing rest periods and similar requirements. Large employers with complex workforces, such as the District, are susceptible to actual and alleged violations of these standards. In recent years there has been an increase in lawsuits regarding such wage and hour issues, often in the form of large classactions, sometimes multi-state. For large employers such as hospitals, such class actions can involve multi-million dollar claims, judgments and/or settlements. A major class action decided or settled adversely to the District could have a material adverse impact on the District s financial condition. Health Worker Classification. Health care providers, like all businesses, are required to withhold income taxes from amounts paid to employees. If the employer fails to withhold the tax, the employer becomes liable for the tax imposed on the employee. On the other hand, businesses are not required to withhold federal taxes from amounts paid to a worker classified as an independent contractor. The Internal Revenue Service (the IRS ) has established criteria for determining whether a worker is an employee or an independent contractor for tax purposes. If the IRS were to reclassify a significant number of hospital independent contractors (e.g., physician medical directors) as employees, back taxes and penalties could be material. Physician, Nursing and Staff Shortages. In recent years, the health care industry has suffered from a scarcity of physician specialists and sub-specialists, nursing personnel, respiratory therapists, pharmacists and other trained health care technicians. A significant factor underlying this trend includes a decrease in the number of persons entering such professions. This is expected to intensify in the future, aggravating the general shortage and increasing the likelihood of hospital-specific shortages. Competition for employees, coupled with increased recruiting and retention costs will increase hospital operating costs, possibly significantly, and growth may be constrained. This trend could have a material adverse impact on the District. Competition. Increased competition from a wide variety of sources, including specialty hospitals, other hospitals and health care systems, HMOs, inpatient and outpatient health care facilities, long-term care and skilled nursing services facilities, clinics, physicians and others, may adversely affect the utilization and revenues of hospitals. Existing and potential competitors may not be subject to various restrictions applicable to hospitals, and competition, in the future, may arise from new sources not currently anticipated or prevalent. 42

49 Additionally, scientific and technological advances, new procedures, drugs and appliances, preventive medicine and outpatient health care delivery may reduce utilization and revenues of the hospitals in the future or otherwise lead to new avenues of competition. In some cases, hospital investment in facilities and equipment for capital-intensive services may be lost as a result of rapid changes in diagnosis, treatment or clinical practice brought about by new technology or new pharmacology. Professional Liability Claims and Insurance. In recent years, the number of professional and general liability suits and the dollar amounts of damage recoveries have increased in health care nationwide, resulting in substantial increases in malpractice insurance premiums, higher deductibles and generally less coverage. Professional liability and other actions alleging wrongful conduct and seeking punitive damages are often filed against health care providers. Insurance does not provide coverage for judgments for punitive damages. Litigation also arises from the corporate and business activities of hospitals, from a hospital s status as an employer or as a result of medical staff or provider network peer review or the denial of medical staff or provider network privileges. As with professional liability, many of these risks are covered by insurance, but some are not. For example, some antitrust claims or business disputes are not covered by insurance or other sources and may, in whole or in part, be a liability of the District if determined or settled adversely. At times many hospitals and health care providers experience difficulty renewing or obtaining all types of commercial insurance, including insurance against malpractice and general liability claims, at reasonable cost. Insurers exert pressure to mandate lower amounts of coverage, require greater deductibles, and charge more in premium. Policies issued may not be renewed or renewable. While the insurance market is currently favorable for the District, the ability of, and the cost to, the District to continue to insure or otherwise protect itself against various claims is unknown. Cost Increases. Cost increases without corresponding increases in revenue could result from, among other factors, increases in the salaries, wages and fringe benefits of employees, increases in costs associated with advances in medical technology or with inflation and future legislation which would prevent or limit the ability of the District to increase revenues from operating its physical plants. Epidemics, Pandemics and Natural Disasters. The occurrence of an epidemic, pandemic or natural disaster, including floods, volcanoes and earthquakes, may damage part or all of the facilities of the District, interrupt utility service to part or all of the facilities of the District or otherwise impair the operation of part or all of the facilities of the District, result in abnormally high demand for health care services, or otherwise interrupt the generation of revenues from part or all of the facilities of the District beyond existing insurance coverages. Construction Costs. The development and construction of new hospital facilities are susceptible to various risks and uncertainties such as: inflation of construction costs; general construction risks, including cost overruns, change orders and plan or specification modification, shortages of equipment, materials or skilled labor, labor disputes, unforeseen environmental, engineering or geological problems, work stoppages, fire and other natural disasters, construction scheduling problems and weather interferences; changes and concessions required by governmental or regulatory authorities; delays in obtaining, or inability to obtain, all licenses, permits and authorizations required to complete and/or operate the project; and disruption of existing operations and facilities. 43

50 The anticipated costs and construction period for projects are based upon budgets, conceptual design documents and construction schedule estimates prepared by the District in consultation with its architects and contractors. The cost of any project may vary significantly from initial expectations and there may be a limited amount of capital resources to fund cost overruns. If cost overruns cannot be financed on a timely basis, the completion of the projects may be delayed until adequate funding is available. The completion date of the projects could also differ significantly from expectations for construction-related or other reasons. Assurances cannot be given that projects will be completed, if at all, on time or within established budgets, or that projects will result in increased earnings. Significant delays, cost overruns or failure of projects to provide the benefits expected could have a material adverse effect on the District s business, financial condition and results of operations. The failure to complete projects as planned, on schedule, within budget or in a manner that generates anticipated profits, could have an adverse effect on the District s business, financial condition and results of operations. In addition, although hospital construction is generally planned to have minimal impact on ongoing operations, no assurances can be given that future construction will not disrupt the District s ongoing operations or that it will be implemented as planned. Therefore, the construction of the new facilities in the future by the District may adversely impact the business, operations and revenues of the District. Impact of Economic Turmoil. The domestic and international economic turmoil of the last several years has had, and is expected to continue to have, negative repercussions upon the national and global economies, including a scarcity of credit, lack of confidence in the financial sector, extreme volatility in the financial markets, increase in interest rates, reduced business activity, increased unemployment rates, increased consumer and business bankruptcies, and increased bank failures. In addition, as investor confidence has waned, investments previously recognized as stable, such as tax-exempt money market funds (which are one of the largest purchasers of tax-exempt bonds), have experienced significant withdrawals. If the current economic turmoil continues and the economy further weakens, hospitals could be materially and adversely impacted in a number of ways, including through reduced investment income, reduced access to the credit markets and increased borrowing costs. Risks Related to Hospital Management Discretion Affiliation, Merger, Acquisition and Divestiture. As part of its ongoing planning process, the District has considered and will continue to consider the potential acquisition of operations or properties which may become affiliated with or become part of the District in the future, as well as the potential disposition of certain existing operations or properties. As a result, it is possible that the organizations and assets owned by or affiliated with the District may change from time to time. Integrated Delivery Systems. Many health care providers are exploring ways to further develop their integrated systems for the delivery of health care services within their geographic service areas. Integrated health care delivery systems involve the coordinated delivery of services by hospitals, physician groups, other health care professionals and payer organizations. This coordination may be achieved through formal corporate affiliations such as the merger of existing corporate entities or through contractual agreements to implement and coordinate services or some combination of both. Examples of such integrated delivery systems include management service organizations which provide physician and physician groups with a combination of financial and contracting services, and hospitalbased clinics or medical practice foundations which purchase and operate physician practices and provide administrative services to physicians. The development of these integrated delivery systems may require that assets be transferred out of the District or that new entities be brought into the District. 44

51 Although any such transfer or entry would require compliance with the applicable provisions of the Bond Resolution, such action could nevertheless result in a reduction in the net income available for debt service of the District. Further, such integrated delivery systems also, in some instances, depending on the structure and operation of such systems, may raise certain legal or regulatory risks, including questions relating to compliance with the antitrust laws, Medicare/Medicaid anti-self-referral laws, and anti-kickback laws and federal or state tax-exemption issues. No prediction can be made as to the potential impact of such risks on the District. Limitations on Remedies Any remedies available to the owners of the Bonds upon the occurrence of a default in payment of principal of or interest on the Bonds are in many respects dependent upon judicial actions that in turn are often subject to discretion and delay and could be both expensive and time-consuming to obtain. If the District fails to comply with its covenants under the Bond Resolution or to pay principal of or interest on the Bonds, there can be no assurance that available remedies will be adequate to fully protect the interests of the owners of the Bonds. The Bonds are not subject to acceleration under any circumstances. In addition to the limitations on remedies contained in the Bond Resolution, the rights and obligations under the Bonds and the Bond Resolution may be limited by and are subject to bankruptcy, insolvency, reorganization, fraudulent conveyance, moratorium and other laws relating to or affecting creditors rights, to the application of equitable principles and to the exercise of judicial discretion in appropriate cases. The opinion to be delivered by Foster Pepper PLLC, as Bond Counsel, concurrently with the issuance of the Bonds, will be subject to limitations regarding bankruptcy, insolvency and other laws relating to or affecting creditors rights. The proposed form of opinion of Bond Counsel is set forth in Appendix C to this Official Statement. Risks Related to Tax-Exempt Status of Bonds The Code imposes a number of requirements that must be satisfied for interest on state and local obligations, such as the Bonds, to be excludable from gross income for federal income tax purposes. These requirements include limitations on the use of proceeds of the Bonds, limitations on the investment earnings of proceeds of the Bonds prior to expenditure, a requirement that certain investment earnings on proceeds of the Bonds be paid periodically to the United States, and a requirement that the District file an information report with the IRS. The District has covenanted in the Bond Resolution that it will comply with such requirements. Future failure by the District to comply with the requirements stated in the Code and related regulations, rulings and policies may result in the treatment of interest on the Bonds as taxable, retroactively to the date of issuance. In such event, the Bond Resolution does not contain any specific provision for mandatory acceleration of the Bonds nor does it provide that any additional interest will be paid to the holders of the Bonds. Future legislation, if enacted into law, or clarification of the Code may cause interest on the Bonds to be subject, directly or indirectly, to federal income taxation, or otherwise prevent Beneficial Owners from realizing the full current benefit of the tax status of such interest. The introduction or enactment of any such future legislation or clarification of the Code may also affect the market price for, or marketability of, the Bonds. Prospective purchasers of the Bonds should consult their own tax advisers regarding any pending or proposed federal tax legislation. 45

52 The opinion of Bond Counsel with respect to the Bonds is based on current legal authority, covers certain matters not directly addressed by such authorities, and represents Bond Counsel s judgment as to the proper treatment of interest on the Bonds for federal income tax purposes. The District has not sought to obtain a private letter ruling from the IRS with respect to the Bonds, and the opinion of Bond Counsel is not binding on the IRS or the courts. Furthermore, Bond Counsel cannot give and has not given any opinion or assurance about the future activities of the District or about the effect of future changes in the Code, the applicable regulations, the interpretation thereof or the enforcement thereof by the IRS. The Bonds may from time to time be subject to audits by the IRS. Bond Counsel s engagement with the District in connection with the Bonds ends with the issuance of the Bonds and, unless separately engaged, Bond Counsel is not obligated to defend the District or the Beneficial Owners regarding the tax-exempt status of the Bonds in the event of an audit examination by the IRS. Under current procedures, parties other than the District and its appointed counsel, including the Beneficial Owners, would have little if any right to participate in the audit examination process. Moreover, because achieving judicial review in connection with an audit examination of tax-exempt bonds is difficult, obtaining an independent review of IRS positions with which the District legitimately disagrees, may not be practicable. Any action of the IRS, including but not limited to selection of the Bonds for audit or the course or result of such audit, or an audit of bonds presenting similar tax issues may affect the market price for, or the marketability of, the Bonds, and may cause the District or the Beneficial Owners to incur significant expense. See FEDERAL INCOME TAX EXEMPTION below. APPROVAL OF BOND COUNSEL Legal matters incident to the authorization, issuance and sale of the Bonds by the District are subject to the approving legal opinion of Foster Pepper PLLC, Bond Counsel. A form of the opinion of Bond Counsel is attached hereto as Appendix C. The opinion of Bond Counsel is given based on factual representations made to Bond Counsel, and under existing law, as of the date of initial delivery of the Bonds, and Bond Counsel assumes no obligation to revise or supplement its opinion to reflect any facts or circumstances that may thereafter come to its attention, or any changes in law that may thereafter occur. The opinion of Bond Counsel is an expression of its professional judgment on the matters expressly addressed in its opinion and does not constitute a guarantee of result. Bond Counsel will be compensated only upon the issuance and sale of the Bonds. Bond Counsel expresses no opinion on the completeness or accuracy of any Official Statement, offering circular or other sales material relating to the Bonds. Bond Counsel has read portions of this document only to confirm that the descriptions of the terms of the Bonds and the authority to issue them conform to the Bonds and the applicable laws under which they are issued. General FEDERAL INCOME TAX EXEMPTION Exclusion From Gross Income. In the opinion of Bond Counsel, under existing federal law and assuming compliance by the District with applicable requirements of the Internal Revenue Code of 1986, as amended (the Code ), that must be satisfied subsequent to the issue date of the Bonds, interest on the Bonds is excluded from gross income for federal income tax purposes and is not an item of tax preference for purposes of the alternative minimum tax applicable to individuals. 46

53 Continuing Requirements. The District is required to comply with certain requirements of the Code after the date of issuance of the Bonds in order to maintain the exclusion of the interest on the Bonds from gross income for federal income tax purposes, including, without limitation, requirements concerning the qualified use of Bond proceeds and the facilities financed or refinanced with Bond proceeds, limitations on investing gross proceeds of the Bonds in higher yielding investments in certain circumstances, and the requirement to comply with the arbitrage rebate requirement to the extent applicable to the Bonds. The District has covenanted in the Bond Resolution to comply with those requirements, but if the District fails to comply with those requirements, interest on the Bonds could become taxable retroactive to the date of issuance of the Bonds. Bond Counsel has not undertaken and does not undertake to monitor the District s compliance with such requirements. Corporate Alternative Minimum Tax. While interest on the Bonds also is not an item of tax preference for purposes of the alternative minimum tax applicable to corporations, under Section 55 of the Code, tax-exempt interest, including interest on the Bonds, received by corporations is taken into account in the computations of adjusted current earnings for purposes of the alternative minimum tax applicable to corporations (as defined for federal income tax purposes). Under the Code, alternative minimum taxable income of a corporation will be increased by 75% of the excess of the corporation s adjusted current earnings (including any tax-exempt interest) over the corporation s alternative minimum taxable income determined without regard to such increase. A corporation s alternative minimum taxable income, so computed, that is in excess of an exemption of $40,000, which exemption will be reduced (but not below zero) by 25% of the amount by which the corporation s alternative minimum taxable income exceeds $150,000, is then subject to a 20% minimum tax. A small business corporation is exempt from the corporate alternative minimum tax for any taxable year beginning after December 31, 1997, if its average annual gross receipts during the three-taxable-year period beginning after December 31, 1993, did not exceed $5,000,000, and its average annual gross receipts during each successive three-taxable-year period thereafter ending before the relevant taxable year did not exceed $7,500,000. Tax on Certain Passive Investment Income of S Corporations. Under Section 1375 of the Code, certain excess net passive investment income, including interest on the Bonds, received by an S corporation (a corporation treated as a partnership for most federal tax purposes) that has Subchapter C earnings and profits at the close of the taxable year may be subject to federal income taxation at the highest rate applicable to corporations if more than 25% of the gross receipts of such S corporation is passive investment income. Foreign Branch Profits Tax. Interest on the Bonds may be subject to the foreign branch profits tax imposed by Section 884 of the Code when the Bonds are owned by, and effectively connected with a trade or business of, a United States branch of a foreign corporation. Original Issue Premium. The Bonds maturing in the years 2013 through 2018, inclusive, 2020 and 2021 have been sold at prices reflecting original issue premium ( Premium Bonds ). An amount equal to the excess of the purchase price of a Premium Bond over its stated redemption price at maturity constitutes premium on such Premium Bond. A purchaser of a Premium Bond must amortize any premium over such Premium Bond's term using constant yield principles, based on the purchaser's yield to maturity. The amount of amortizable premium allocable to an interest accrual period for a Premium Bond will offset a like amount of qualified stated interest on such Premium Bond allocable to that accrual period, and may affect the calculation of alternative minimum tax liability described above. As premium is amortized, the purchaser's basis in such Premium Bond is reduced by a corresponding 47

54 amount, resulting in an increase in the gain (or decrease in the loss) to be recognized for federal income tax purposes upon a sale or disposition of such Premium Bond prior to its maturity. Even though the purchaser's basis is reduced, no federal income tax deduction is allowed. Purchasers of Premium Bonds, whether at the time of initial issuance or subsequent thereto, should consult with their own tax advisors with respect to the determination and treatment of premium for federal income tax purposes and with respect to state and local tax consequences of owning such Premium Bonds. Original Issue Discount. The Bonds maturing in the years 2019, 2022, 2023, 2028 and 2034 have been sold at prices reflecting original issue discount ( Discount Bonds ). Under existing law, the original issue discount in the selling price of each Discount Bond, to the extent properly allocable to each owner of such Discount Bond, is excluded from gross income for federal income tax purposes with respect to such owner. The original issue discount is the excess of the stated redemption price at maturity of such Discount Bond over the initial offering price to the public, excluding underwriters and other intermediaries, at which price a substantial amount of the Discount Bonds of such maturity were sold. Under Section 1288 of the Code, original issue discount on tax-exempt bonds accrues on a compound basis. The amount of original issue discount that accrues to an owner of a Discount Bond during any accrual period generally equals (i) the issue price of such Discount Bond plus the amount of original issue discount accrued in all prior accrual periods, multiplied by (ii) the yield to maturity of such Discount Bond (determined on the basis of compounding at the close of each accrual period and properly adjusted for the length of the accrual period), less (iii) any interest payable on such Discount Bond during such accrual period. The amount of original issue discount so accrued in a particular accrual period will be considered to be received ratably on each day of the accrual period, will be excluded from gross income for federal income tax purposes, and will increase the owner's tax basis in such Discount Bond. Any gain realized by an owner from a sale, exchange, payment or redemption of a Discount Bond will be treated as gain from the sale or exchange of such Discount Bond. The portion of original issue discount that accrues in each year to an owner of a Discount Bond may result in certain collateral federal income tax consequences. The accrual of such portion of the original issue discount will be included in the calculation of alternative minimum tax liability as described above, and may result in an alternative minimum tax liability even though the owner of such Discount Bond will not receive a corresponding cash payment until a later year. Owners who purchase Discount Bonds in the initial public offering but at a price different from the first offering price at which a substantial amount of those Discount Bonds were sold to the public, or who do not purchase Discount Bonds in the initial public offering, should consult their own tax advisors with respect to the tax consequences of the ownership of such Discount Bonds. Owners of Discount Bonds who sell or otherwise dispose of such Discount Bonds prior to maturity should consult their own tax advisors with respect to the amount of original issue discount accrued over the period such Discount Bonds have been held and the amount of taxable gain or loss to be recognized upon that sale or other disposition of Discount Bonds. Owners of Discount Bonds also should consult their own tax advisors with respect to state and local tax consequences of owning such Discount Bonds. Possible Consequences of Tax Compliance Audit. The Internal Revenue Service (the IRS ) has established a general audit program to determine whether issuers of tax-exempt obligations, such as the Bonds, are in compliance with requirements of the Code that must be satisfied in order for interest on those obligations to be, and continue to be, excluded from gross income for federal income tax purposes. Bond Counsel cannot predict whether the IRS would commence an audit of the Bonds. Depending on all the facts and circumstances and the type of audit involved, it is possible that commencement of an 48

55 audit of the Bonds could adversely affect the market value and liquidity of the Bonds until the audit is concluded, regardless of its ultimate outcome. Certain Other Federal Tax Consequences Bonds Qualified Tax Exempt Obligations for Financial Institutions. Section 265 of the Code generally provides that 100% of any interest expense incurred by banks and other financial institutions that is allocable to tax exempt obligations acquired after August 7, 1986, will be disallowed as a tax deduction. However, if the tax exempt obligations are obligations other than certain private activity bonds, are issued by a governmental unit that, together with all entities subordinate to it, does not reasonably anticipate issuing more than $10,000,000 of tax exempt obligations (other than certain private activity bonds and other obligations not required to be included in such calculation) in the current calendar year, and are designated by the governmental unit as qualified tax exempt obligations, only 20% of any interest expense deduction allocable to those obligations will be disallowed. The District is a governmental unit that, together with all subordinate entities, reasonably anticipates issuing less than $10,000,000 of tax exempt obligations (other than certain private activity bonds and other obligations not required to be included in such calculation) during the current calendar year, and has designated the Bonds as qualified tax exempt obligations for purposes of Section 265(b)(3) of the Code. Therefore, only 20% of the interest expense deduction of a financial institution allocable to the Bonds will be disallowed for federal income tax purposes. Reduction of Loss Reserve Deductions for Property and Casualty Insurance Companies. Under Section 832 of the Code, interest on the Bonds received by property and casualty insurance companies will reduce tax deductions for loss reserves otherwise available to such companies by an amount equal to 15% of tax exempt interest received during the taxable year. Effect on Certain Social Security and Retirement Benefits. Section 86 of the Code requires recipients of certain Social Security and certain Railroad Retirement benefits to take receipts or accruals of interest on the Bonds into account in determining gross income. Other Possible Federal Tax Consequences. Receipt of interest on the Bonds may have other federal tax consequences as to which prospective purchasers of the Bonds may wish to consult their own tax advisors. Potential Future Federal Tax Law Changes. Current and future legislative proposals, if enacted into law, may directly or indirectly cause interest on the Bonds to be subject in whole or in part to federal income taxation, preventing Beneficial Owners of the Bonds from realizing the full benefits of the current federal tax status of interest on the Bonds, or affect, perhaps significantly, the market value or market ability of the Bonds. Prospective purchasers of the Bonds should consult with their own tax advisors regarding the potential impact of any pending or proposed legislation or regulations. LITIGATION There is no controversy or litigation of any nature now pending or, to the knowledge of the District, threatened, restraining or enjoining the issuance, sale, execution or delivery of the Bonds, or in any way contesting or affecting the validity of the Bonds or any proceedings of the District taken with respect to the issuance or sale thereof, or the validity of the levy of taxes for the payment thereof. 49

56 UNDERWRITING D. A. Davidson & Co. (the Underwriter ) has agreed, subject to the terms of a Bond Purchase Agreement, to purchase the Bonds from the District at a price of % of the par value of the Bonds and will be reoffered at a price of % of the par value of the Bonds, resulting in an underwriting spread of 0.95%. The Bonds are being offered for sale to the public at the prices shown on the inside cover of this Preliminary Official Statement. Concessions from the initial offering price may be allowed to selected dealers and special purchasers. The initial offering prices are subject to change after the date hereof. RATING As noted on the cover page of this Official Statement, Moody s Investors Service ( Moody s ) has assigned its municipal bond rating of A2 to the Bonds. No application was made to any other rating agency for the purpose of obtaining an additional rating on the Bonds. The ratings reflect only the view of Moody s and an interpretation of such ratings may be obtained only from the rating agency furnishing the same. There is no assurance that such ratings will continue for any given period of time or that they will not be revised downward or withdrawn entirely by the rating agency, if, in the judgment of such agency, circumstances so warrant. Any such revision or withdrawal of such ratings may have an adverse effect on the market price of the Bonds. Any further explanation of the ratings may be obtained from Moody s. NO CONFLICTS OF INTEREST The District is not aware of the existence of any actual or potential conflict of interests, breach of duty or less than arm s-length transaction regarding the selection of the Underwriter, Bond Counsel and other participants in the offering of the Bonds. Further, the District is not aware of any undisclosed payments to obtain underwriting assignments and undisclosed agreements or arrangements, including fee splitting, between the Underwriter and other participants in the offering of the Bonds. COMMITMENT TO PROVIDE CONTINUING DISCLOSURE In order to permit the Underwriter to comply with paragraph (b)(5) of Rule 15c2-12 promulgated by the Securities and Exchange Commission under the Securities Exchange Act of 1934, as amended (the Rule ), the District has covenanted and agreed, for the benefit of the registered holders or beneficial owners from time to time of the outstanding Bonds, in the Resolution, to provide annual reports of specified information and notice of the occurrence of certain events as hereinafter described (the Undertaking ). The information to be provided on an annual basis, the events as to which notice is to be given and a summary of other provisions of the Undertaking, including termination, amendment and remedies, are set forth in Appendix B to this Official Statement. Breach of the Undertaking will not constitute a default under the Bonds or the Resolution. A broker or dealer should consider a known breach of the Undertaking, however, before recommending the purchase or sale of the Bonds in the secondary market. Thus, a failure on the part of the District to observe the Undertaking may adversely affect the transferability and liquidity of the Bonds and their market price. Prior Compliance with Continuing Disclosure Undertaking. The District entered into a continuing disclosure undertaking with respect to its Limited Tax General Obligation Bonds, 2009 (the Prior 50

57 Undertaking ). During the preparation of this Official Statement the District discovered that it had not submitted certain operating data for years 2009, 2010 and 2011, as required by the Prior Undertaking. Additionally, the District was not aware of the rating downgrades by Moody s Investors Service of Ambac, the municipal bond insurer of the District s 2001 Bonds and CIFG, the municipal bond insurer of the District s 2006 Bonds, and had not reported that change. The District responded to this discovery by submitting the additional operating data and notification of the rating changes required by the Prior Undertaking through the MSRB s EMMA system on May 6, The District believes that it has complied with its Prior Undertaking in all other respects. ADDITIONAL INFORMATION AND MISCELLANEOUS The descriptions herein of the Bond Resolution and other documents are brief summaries of certain provisions thereof. Such summaries do not purport to be complete, and reference is made to such documents and contracts, copies of which are available, upon request and upon payment to the District of a charge for copying, mailing and handling, from the District, P.O. Box 908, Chelan, Washington The summaries and descriptions contained in this Official Statement and the Appendices hereto of the provisions of the Bonds, the Bond Resolution and all reference to other materials not purporting to be quoted in full are only brief outlines of some of the provisions thereof and do not purport to summarize or describe all of the provisions thereof. This Official Statement is not to be construed as a contract or agreement between the District and the Underwriter or holders of any of the Bonds. Any statements made in this Official Statement involving matters of opinion or estimates, whether or not so expressly stated, are set forth as such and not as representations of fact. No representation is made that any of such statements will be realized. DISCLOSURE STATEMENT The District will deliver to the Underwriter at the time of the delivery of the Bonds statements substantially to the effect that the Official Statement, including any appendices, and in any supplements or amendments hereto, delivered by the District (which shall be deemed an original part hereof for the purposes of such statement) did not, at the time the Bonds are issued, contain any untrue statement of a material fact or omit to state a material fact where necessary to make a statement not misleading in light of the circumstances under which it was made, and was true and correct in all material respects. APPROVAL OF OFFICIAL STATEMENT The District, through a duly authorized official, has deemed this Preliminary Official Statement final as of its date, except for the omission of information dependent on the pricing of this issue and completion of the underwriting agreement, for purposes of compliance with Rule 15c2-12. The execution and delivery of this Official Statement have been duly authorized by the District. PUBLIC HOSPITAL DISTRICT NO. 2 CHELAN COUNTY, WASHINGTON 51 By: /s/ Kevin Abel Chief Executive Officer

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59 APPENDIX A Economic and Demographic Information

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61 ECONOMIC AND DEMOGRAPHIC INFORMATION The following discussion includes descriptive information obtained from a variety of sources. The information is presented to provide the reader with an overview of the District s economy, but is not intended to be exhaustive or comprehensive. The District is located in the northern portion of Chelan County (the County ). The County is located in eastern Washington and has an estimated 2012 population of 73,200. The District owns and operates Lake Chelan Community Hospital located in the City of Chelan (the City ). Local Economic Overview The County is located in the central portion of the State, on the east side of the Cascade mountain range. The County includes the fertile Wenatchee Valley, where the economy of the area has historically revolved around agricultural activity, principally fruit production. The area s soil and climate conditions, along with an abundant supply of water for irrigation, have helped make it the center of production for a substantial percentage of the nation s apples. The County s largest city, Wenatchee, is known as the Apple Capital of the World because more apples are shipped from this city than from any other city in the world. Other important crops produced in the area include pears, cherries, apricots, peaches, prunes and grapes. The County has a number of large fruit-packing, storage and processing facilities. Products include juices, dehydrated fruits, and frozen fruits. Shipment of fresh fruits world-wide is conducted in the County. Twelve of the largest of such firms employ approximately 2,400 people during peak fruit harvest and processing seasons. Over the past few decades vineyards and wine production have increased locally. The Columbia Cascade Winery Association was founded in November of 2002 and today includes 27 wineries in this region of the State. The Aluminum Company of America ( ALCOA ) has been a major contributor to the industrial base of the local economy and has been the largest taxpayer in the County. A transit system ( LINK ) serves the County as well as neighboring Douglas County. Pangborn Memorial Airport, located in East Wenatchee, is jointly owned by the ports of Chelan and Douglas Counties. The airport is served by Horizon Air with 5 daily flights to and from SeaTac International Airport. Population Trends Historical population trends are presented below for the City and the County and the State. Year City of Chelan Chelan County State of Washington ,940 73,200 6,817, ,930 72,700 6,767, ,890 72,453 6,733, ,795 72,600 6,668, ,811 72,100 6,587,600 Source: Washington State Office of Financial Management for inter-census estimates as of each April and the 2010 U.S. Census. A-1

62 Taxable Retail Sales The following table lists the taxable retail sales for all industries within the City and the County since Year City of Chelan Chelan County 2012 $134,448,072 $1,325,242, ,763,975 1,308,164, ,406,759 1,319,346, ,211,980 1,300,189, ,177,387 1,532,758,491 Source: Washington State Department of Revenue. Employment by Major Industry The table below sets forth the total number of full-time and part-time employees in the County for the years and industries as shown. Numbers are presented in thousands. Employment Sector Total Non-Farm Employment Mining, Logging, and Construction Manufacturing Trade, Transportation, and Utilities Education and Health Services Leisure and Hospitality Government Average through April Source: Washington State Department of Employment Security. (The remainder of this page is intentionally left blank.) A-2

63 Residential Building Permit Data The following table presents the number and value of residential building permits in the City and County from 2008 through 2012 (most recent data available from this source). City of Chelan Single-Family Duplexes/Multi-Family Year Permits Value Permits Units Value $2,135, $ ,021, , ,837, , ,511, ,270 Chelan County Single Family Duplexes/Multi-Family Year Permits Value Permits Units Value $37,534, $ 258, ,463, ,537, , ,764, ,185, ,130 Source: U.S. Census Bureau. (The remainder of this page is intentionally left blank.) A-3

64 Major Employers The following tables provide lists of the major employers in the Wenatchee-East Wenatchee Metropolitan Statistical Area, which includes the County and Douglas County. Major Employers Employer Product/Business No. of Employees Stemilt Growers, Inc. Agriculture 3,024 Wenatchee Valley Medical Center Healthcare 1,697 Central Washington Hospital Healthcare 1,456 Wenatchee School District Education 1,027 McDougall & Sons, Inc. Agriculture 900 Chelan County PUD Utilities 640 Eastmont School District Education 610 Crunch Pak Food Processing 500 Custom Apple Packers Agriculture 497 ALCOA Manufacturing 465 Chelan County Government 446 Blue Star Growers Agriculture 405 Northern Fruit Co. Inc. Agriculture 350 Wenatchee Valley College Education 348 Campbell's Lodge Inc. Resort 300 Source: Port of Chelan, December Personal Income Trends The following table shows total and per capita personal income growth in the County from 2007 through 2011 (most recent data available from this source). Full effects of recent recessionary trends are not reflected in the figures below. Year Total Personal Income (000s) Per Capita Income 2011 $2,764,115 $37, ,666,562 36, ,550,158 35, ,533,648 35, ,402,528 33,993 Source: U.S. Department of Commerce, Bureau of Economic Analysis. A-4

65 Labor Force and Unemployment The following tables show labor force and employment data for the County since 2008 as well as unemployment rates for the State and the United States for the same period. Chelan County Unemployment Rates Year Labor Force Employment Chelan State of United County Washington States ,570 34, % 7.7% 7.5% ,750 37, ,520 37, ,890 38, ,050 38, ,760 38, Average through April Source: Washington Department of Employment Security and U.S. Department of Labor-Bureau of Labor Statistics. Median Household Income Trends The following table shows median household income growth in the County and the State for years 2008 through Year Chelan County Washington State 2012 $47,265 $56, ,275 55, ,478 54, ,780 55, ,013 57,858 Source: Washington State Office of Financial Management 2012 Population Trends. Figures for 2012 are projected. A-5

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67 APPENDIX B Continuing Disclosure

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69 UNDERTAKING TO PROVIDE CONTINUING DISCLOSURE To meet the requirements of paragraph (b)(5) of Rule 15c2-12, as applicable to a participating underwriter for the above-referenced Bonds (the Bonds ), the District makes the following written Undertaking for the benefit of holders of the Bonds: Undertaking to Provide Annual Financial Information and Notice of Listed Events The District undertakes to provide or cause to be provided, either directly or through a designated agent, to the MSRB, in an electronic format as prescribed by the MSRB, accompanied by identifying information as prescribed by the MSRB: (i) (ii) (iii) Annual financial information and operating data of the type included in the final official statement for the Bonds and described in the Bond Resolution ( annual financial information ); Timely notice (not in excess of 10 business days after the occurrence of the event) of the occurrence of any of the following events with respect to the Bonds: (1) principal and interest payment delinquencies; (2) non-payment related defaults, if material; (3) unscheduled draws on debt service reserves reflecting financial difficulties; (4) unscheduled draws on credit enhancements reflecting financial difficulties; (5) substitution of credit or liquidity providers, or their failure to perform; (6) adverse tax opinions, the issuance by the Internal Revenue Service of proposed or final determinations of taxability, Notice of Proposed Issue (IRS Form 5701 TEB) or other material notices or determinations with respect to the tax status of the Bonds; (7) modifications to rights of holders of the Bonds, if material; (8) bond calls (other than scheduled mandatory redemptions of Term Bonds), if material, and tender offers; (9) defeasances; (10) release, substitution, or sale of property securing repayment of the Bonds, if material; (11) rating changes; (12) bankruptcy, insolvency, receivership or similar event of the District, as such Bankruptcy Events are defined in Rule 15c2-12; (13) the consummation of a merger, consolidation, or acquisition involving the District or the sale of all or substantially all of the assets of the District other than in the ordinary course of business, the entry into a definitive agreement to undertake such an action or the termination of a definitive agreement relating to any such actions, other than pursuant to its terms, if material; and (14) appointment of a successor or additional trustee or the change of name of a trustee, if material; Timely notice of a failure by the District to provide required annual financial information on or before the date specified in the Bond Resolution. Type of Annual Financial Information Undertaken to be Provided The annual financial information that the District undertakes to provide in (i) above: (i) Will consist of (1) annual financial statements prepared (except as noted in the financial statements) in accordance with generally accepted accounting principles applicable to State local governmental units such as the District, as such principles may be changed from time to time, which statements may be unaudited, provided, that if and when B-1

70 audited financial statements are otherwise prepared and available they will be provided; (2) principal amount of general obligation bonds outstanding at the end of the fiscal year described in the filed financial statements; (3) assessed valuation for that fiscal year; (4) regular property tax levy amount and rate for that fiscal year; and (5) a statement of revenues for that fiscal year from other revenue sources pledged to the Bonds (if any); (ii) (iii) Will be provided not later than the last day of the ninth month after the end of each fiscal year of the District (currently, a fiscal year ending December 31), as such fiscal year may be changed as required or permitted by State law, commencing with the District s fiscal year ending December 31, 2013; and May be provided in a single or multiple documents, and may be incorporated by specific reference to documents available to the public on the Internet website of the MSRB or filed with the SEC. Amendment of Undertaking The Undertaking is subject to amendment after the primary offering of the Bonds without the consent of any holder of any Bond, or of any broker, dealer, municipal securities dealer, participating underwriter, Rating Agency or the MSRB, under the circumstances and in the manner permitted by Rule 15c2-12. The District will give notice to the MSRB of the substance (or provide a copy) of any amendment to the Undertaking and a brief statement of the reasons for the amendment. If the amendment changes the type of annual financial information to be provided, the annual financial information containing the amended financial information will include a narrative explanation of the effect of that change on the type of information to be provided. Beneficiaries The Undertaking evidenced by this section will inure to the benefit of the District and the Beneficial Owner of a Bond, and will not inure to the benefit of or create any rights in any other person. Termination of Undertaking The District s obligations under the Undertaking will terminate upon the legal defeasance of all of the Bonds. In addition, the District s obligations under the Undertaking will terminate if those provisions of Rule 15c2-12 which require the District to comply with the Undertaking become legally inapplicable in respect of the Bonds for any reason, as confirmed by an opinion of Bond Counsel delivered to the District, and the District provides timely notice of such termination to the MSRB. Remedy for Failure to Comply with Undertaking As soon as practicable after the District learns of any failure to comply with the Undertaking, the District will proceed with due diligence to cause such noncompliance to be corrected. No failure by the District or other obligated person to comply with the Undertaking will constitute a default in respect of the Bonds. The sole remedy of a Beneficial Owner of a Bond will be to take action to compel the District or other obligated person to comply with the Undertaking, including seeking an order of specific performance from an appropriate court. B-2

71 APPENDIX C Form of Legal Opinion

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73 [FORM OF BOND COUNSEL OPINION] Public Hospital District No. 2 Chelan County, Washington Re: Public Hospital District No. 2, Chelan County, Washington $8,265,000 Limited Tax General Obligation Refunding Bonds, 2013 We have served as bond counsel to Public Hospital District No. 2, Chelan County, Washington (the District ), in connection with the issuance of the above-referenced bonds (the Bonds ), and in that capacity have examined such law and such certified proceedings and other documents as we have deemed necessary to render this opinion. As to matters of fact material to this opinion, we have relied upon representations contained in the certified proceedings and other certifications of public officials furnished to us, without undertaking to verify the same by independent investigation. The Bonds are issued by the District pursuant to Resolution No. 509 (the Bond Resolution ) for general District purposes to provide the funds to refund certain outstanding general obligations of the District and to pay the costs of the refunding and the costs of issuance and sale of the Bonds, all as set forth in the Bond Resolution. Reference is made to the Bonds and the Bond Resolution for the definitions of capitalized terms used and not otherwise defined herein. We have not been engaged to review and thus express no opinion concerning the completeness or accuracy of any official statement, offering circular or other sales or disclosure material relating to the issuance of the Bonds or otherwise used in connection with the Bonds. Under the Internal Revenue Code of 1986, as amended (the Code ), the District is required to comply with certain requirements after the date of issuance of the Bonds in order to maintain the exclusion of the interest on the Bonds from gross income for federal income tax purposes, including, without limitation, requirements concerning the qualified use of Bond proceeds and the facilities financed or refinanced with Bond proceeds, limitations on investing gross proceeds of the Bonds in higher yielding investments in certain circumstances and the arbitrage rebate requirement to the extent applicable to the Bonds. The District has covenanted in the Bond Resolution to comply with those requirements, but if the District fails to comply with those requirements, interest on the Bonds could become taxable retroactive to the date of issuance of the Bonds. We have not undertaken and do not undertake to monitor the District s compliance with such requirements. Based upon the foregoing, as of the date of initial delivery of the Bonds to the purchaser thereof and full payment therefor, it is our opinion that under existing law: 1. The District is a duly organized and legally existing municipal corporation District under the laws of the State of Washington. 2. The Bonds have been duly authorized and executed by the District and are issued in full compliance with the provisions of the Constitution and laws of the State of Washington and the Resolutions of the District relating thereto. TEL: FAX: THIRD AVENUE, SUITE 3400 SEATTLE, WASHINGTON SEATTLE WASHINGTON SPOKANE WASHINGTON C-1

74 3. The Bonds constitute valid and binding general obligations of the District payable from annual ad valorem taxes to be levied within the constitutional and statutory tax limitations provided by law without a vote of the electors of the District on all of the taxable property within the District, except only to the extent that enforcement of payment may be limited by bankruptcy, insolvency or other laws affecting creditors rights and by the application of equitable principles and the exercise of judicial discretion in appropriate cases. 4. Assuming compliance by the District after the date of issuance of the Bonds with applicable requirements of the Code, the interest on the Bonds is excluded from gross income for federal income tax purposes and is not an item of tax preference for purposes of the alternative minimum tax applicable to individuals; however, while interest on the Bonds also is not an item of tax preference for purposes of the alternative minimum tax applicable to corporations, interest on the Bonds received by corporations is to be taken into account in the computation of adjusted current earnings for purposes of the alternative minimum tax applicable to corporations, interest on the Bonds received by certain S corporations may be subject to tax, and interest on the Bonds received by foreign corporations with United States branches may be subject to a foreign branch profits tax. We express no opinion regarding any other federal tax consequences of receipt of interest on the Bonds. This opinion is given as of the date hereof, and we assume no obligation to revise or supplement this opinion to reflect any facts or circumstances that may hereafter come to our attention, or any changes in law that may hereafter occur. We bring to your attention the fact that the foregoing opinions are expressions of our professional judgment on the matters expressly addressed and do not constitute guarantees of result. Respectfully submitted, C-2

75 APPENDIX D Audited Financial Statements 2011

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77 Washington State Auditor s Office Financial Statements Audit Report Chelan County Public Hospital District No. 2 (Lake Chelan Community Hospital) Audit Period January 1, 2011 through December 31, 2011 Report No Issue Date May 13, 2013

78 Washington State Auditor Troy Kelley May 13, 2013 Board of Commissioners Lake Chelan Community Hospital Chelan, Washington Report on Financial Statements Please find attached our report on Lake Chelan Community Hospital s financial statements. We are issuing this report in order to provide information on the District s financial condition. Sincerely, TROY KELLEY STATE AUDITOR Insurance Building, P.O. Box Olympia, Washington (360) TDD Relay (800)

79 Table of Contents Lake Chelan Community Hospital Chelan County January 1, 2011 through December 31, 2011 Independent Auditor s Report on Internal Control over Financial Reporting and on Compliance and Other Matters in Accordance with Government Auditing Standards... 1 Independent Auditor s Report on Financial Statements... 3 Financial Section... 5

80 Independent Auditor s Report on Internal Control over Financial Reporting and on Compliance and Other Matters in Accordance with Government Auditing Standards Lake Chelan Community Hospital Chelan County January 1, 2011 through December 31, 2011 Board of Commissioners Lake Chelan Community Hospital Chelan, Washington We have audited the basic financial statements of Lake Chelan Community Hospital, Chelan County, Washington, as of and for the years ended December 31, 2011 and 2010, and have issued our report thereon dated March 6, 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. INTERNAL CONTROL OVER FINANCIAL REPORTING In planning and performing our audits, we considered the District s internal control over financial reporting as a basis for designing our auditing procedures for the purpose of expressing our opinion on the financial statements, but not for the purpose of expressing an opinion on the effectiveness of the District s internal control over financial reporting. Accordingly, we do not express an opinion on the effectiveness of the District s internal control over financial reporting. A deficiency in internal control exists when the design or operation of a control does not allow management or employees, in the normal course of performing their assigned functions, to prevent, or detect and correct misstatements on a timely basis. A material weakness is a deficiency, or a combination of deficiencies, in internal control such that there is a reasonable possibility that a material misstatement of the District's financial statements will not be prevented, or detected and corrected on a timely basis. Our consideration of internal control over financial reporting was for the limited purpose described in the first paragraph of this section and would not necessarily identify all deficiencies in internal control that might be deficiencies, significant deficiencies or material weaknesses. We did not identify any deficiencies in internal control over financial reporting that we consider to be material weaknesses, as defined above. Washington State Auditor's Office 1

81 COMPLIANCE AND OTHER MATTERS As part of obtaining reasonable assurance about whether the District s financial statements are free of material misstatement, we performed tests of the District s compliance with certain provisions of laws, regulations, contracts and grant agreements, noncompliance with which could have a direct and material effect on the determination of financial statement amounts. However, providing an opinion on compliance with those provisions was not an objective of our audit, and accordingly, we do not express such an opinion. The results of our tests disclosed no instances of noncompliance or other matters that are required to be reported under Government Auditing Standards. This report is intended for the information and use of management and the Board of Commissioners. However, this report is a matter of public record and its distribution is not limited. It also serves to disseminate information to the public as a reporting tool to help citizens assess government operations. TROY KELLEY STATE AUDITOR March 6, 2013 Washington State Auditor's Office 2

82 Independent Auditor s Report on Financial Statements Lake Chelan Community Hospital Chelan County January 1, 2011 through December 31, 2011 Board of Commissioners Lake Chelan Community Hospital Chelan, Washington REPORT ON THE FINANCIAL STATEMENTS We have audited the accompanying basic financial statements of Lake Chelan Community Hospital, Chelan County, Washington, as of and for the years ended December 31, 2011 and 2010, as listed on page 5. Management s Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these 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 financial statements that are free from material misstatement, whether due to fraud or error. Auditor s Responsibility Our responsibility is to express an opinion on these 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 financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial statements. The procedures selected depend on the auditor s judgment, including the assessment of the risks of material misstatement of the financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the District s preparation and fair presentation of the financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the District 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 financial statements. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Washington State Auditor's Office 3

83 Opinion In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Lake Chelan Community Hospital, as of December 31, 2011 and 2010, and the changes in financial position and cash flows thereof for the years then ended in accordance with accounting principles generally accepted in the United States of America. Other Matters Accounting principles generally accepted in the United States of America require that the management s discussion and analysis on pages 6 through 12 be presented to supplement the basic financial statements. Such information, although not a part of the basic financial statements, is required by the Governmental Accounting Standards Board who considers it to be an essential part of financial reporting for placing the basic financial statements in an appropriate operational, economic or historical context. We have applied certain limited procedures to the required supplementary information in accordance with auditing standards generally accepted in the United States of America, which consisted of inquiries of management about the methods of preparing the information and comparing the information for consistency with management s responses to our inquiries, the basic financial statements, and other knowledge we obtained during our audit of the basic financial statements. We do not express an opinion or provide any assurance on the information because the limited procedures do not provide us with sufficient evidence to express an opinion or provide any assurance. OTHER REPORTING REQUIRED BY GOVERNMENT AUDITING STANDARDS In accordance with Government Auditing Standards, we have also issued our report on our consideration of the District 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. 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 the internal control over financial reporting or on compliance. That report is an integral part of an audit performed in accordance with Government Auditing Standards and should be considered in assessing the results of our audits. TROY KELLEY STATE AUDITOR March 6, 2013 Washington State Auditor's Office 4

84 Financial Section Lake Chelan Community Hospital Chelan County January 1, 2011 through December 31, 2011 REQUIRED SUPPLEMENTARY INFORMATION Management s Discussion and Analysis 2011 BASIC FINANCIAL STATEMENTS Balance Sheets 2011 and 2010 Statements of Revenues, Expenses and Changes in Net Assets 2011 and 2010 Statements of Cash Flows 2011 and 2010 Notes to Financial Statements 2011 and 2010 Washington State Auditor's Office 5

85 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Management s Discussion and Analysis December 31, 2011 and 2010 LAKE CHELAN COMMUNITY HOSPITAL DISTRICT MANAGEMENT S DISCUSSION AND ANALYSIS The following Management s Discussion and Analysis is intended to provide an interpretive context to enhance the reader s awareness and understanding of some of the issues influencing the organization s financial position for the fiscal year ended December 31, This overview represents management s perspective on these issues and should be viewed as a source of information complimentary to the financial statements themselves. Chelan County Public Hospital District No. 2 (The District) is a non-profit, municipal corporation, which includes Lake Chelan Community Hospital, Lake Chelan Community Apartments, Home Health, and an Ambulance Company. The District is a Critical Access Hospital (CAH) licensed for 34 beds, but held to 25 in-patient CAH requirements. The District serves a population base of over 10,000. The hospital has operated since 1948 and became a hospital district in The current facility was constructed in 1972 with a third floor added to the hospital in The District is designated as a Critical Access Hospital (CAH). CAH status for the Hospital has a favorable impact on District finances. Critical Access Hospital Medicare and Medicaid reimbursement is cost based and therefore typically higher than what the District would otherwise receive under a fixed, DRG or APC-driven, prospective payment system (PPS). The District receives tax revenues representing approximately 5.0% of FY2011 s gross patient receipts: $664,065 hospital levy and $801,210 EMS levy. The District is governed by a five member elected board of directors. Day-to-day operations are managed by the Chief Executive Officer. The District employed 178 FTE s on December 31, 2011, and had an annual payroll of $13.8M including benefits. Washington State Auditor's Office 6

86 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Management s Discussion and Analysis December 31, 2011 and 2010 Issues Facing the District The challenges facing Lake Chelan Community Hospital District this fiscal period are largely similar, although varying in degree of intensity, to those issues facing the health care industry in general and for small, rural hospitals in particular. Where the immediate environment and circumstances uniquely influence the District, these areas are also highlighted in the discussion below: Indigent and Uncompensated Care: High uncompensated care continues to grow as a result of the current recession. Health Information Technology: Centers for Medicare & Medicaid Services (CMS) have issued a mandate with punitive results of health care providers do not fully comply with Electronic Health Record requirements by In summary, the external environment continues to challenge hospitals and small rural hospitals in particular with an increase in uncompensated care and health insurance issues. At the same time, The District s employees working together continue to find ways to make progress on improving how the District organizes and processes work in such a way that we continue to improve clinical care and service to our patients and community all the while striving to improve our financial positioning and overall fiscal performance. The District finished with a profit of $984,947. Financial Highlights Executive Overview Lake Chelan Community Hospital made the following capital purchases in FY2011: T-System ER Software $165,449; Warm Server, Ipswitch and Barracuda software for IT $135,423; 2011 Ford 350 Ambulance Chassis $70,616; Konica Radiology Reader $63,786; Furniture for the Sanctuary $53,216; Fetal Monitors and Telemetry $45,414; CPSI Core Measures Software for OR $42,986; New Roof Coating for the Hospital $27,728; Steris Sterilizer System $25,484; Stryker Patient Beds $24,652; Nuance Dictation System $22,134; Steris Surgical Table $21,443; Powerex OR Vacuum System $15,255; Oxygen Shut-Off Valves $11,819; Pentra 60; Automatic ER Doors $7,049; Blanket Warmer $6,556; 1998 Jeep Cherokee $5,920; Stryker Cystoscope $5,202. Washington State Auditor's Office 7

87 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Management s Discussion and Analysis December 31, 2011 and 2010 Comparisons of FY2011 Actual to Budget and Prior Year Performance Net patient service revenue was $18,607,571 which was a 5.96% increase over the prior year and a 3.43% increase over budget. The net increase is attributed to Respiratory Therapy at 93.63% over budget, Ambulance at 44.16% over budget, Physical Therapy at 27.47% over budget, and Surgery and Labor & Delivery coming in under budget (see Total Patient Services Gross Revenue table below). Total operating expenses were over budget by 5.09% and over the prior year by 11.32%. LAKE CHELAN COMMUNITY HOSPITAL Actual Budget Variance Ambulance $ 1,767,027 $ 1,225, % Home Health 424, , % Med Surg 1,684,774 1,349, % Surgery 1,047,371 1,131, % Emergency Room 3,611,827 3,654, % Anesthesiology 452, , % Labor & Delivery 573, , % Respiratory Therapy 1,893, , % Physical Therapy 667, , % Laboratory 2,377,579 2,121, % Radiology 3,093,917 3,079, % Sanctuary 3,249,714 3,499, % Pharmacy 2,832,932 2,718, % All Others 5,659,493 6,073, % $ 29,336,323 $ 27,849, % Using This Annual Report The District s financial statements consist of three statements: Balance Sheet; Statement of Revenues, Expenses, and Changes in Net Assets; and a Statement of Cash Flows. These financial statements and related notes provide information about the activities of the District, including resources held by the District but restricted for specific purposes. Washington State Auditor's Office 8

88 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Management s Discussion and Analysis December 31, 2011 and 2010 The Balance Sheet and Statement of Revenues, Expenses and Changes in Net Assets One of the most important questions asked about the District s finances is, Is the District as a whole better or worse off as a result of the year s activities? The Balance Sheet and the Statement of Revenues, Expenses and Changes in Net Assets report information about the District s resources and its activities in a way that helps answer this question. These statements include all restricted and unrestricted asset and liabilities using the accrual basis of accounting. All of the current year s revenues and expenses are taken into account regardless of when cash is received or paid. These two statements report the District s net assets and changes. You can think of the District s net assets the difference between assets and liabilities as one way to measure the District s financial health, or financial position. Over time, increases or decreases in the District s net assets are one indicator of whether its financial health is improving or deteriorating. You will need to consider other non-financial factors, however, such as changes in the District s patient base and measure of the quality of service it provides to the community, and local economic factors to assess the overall health of the District. The Statement of Cash Flows The final required statement is the Statement of Cash Flows. Cash Flow Statements report cash receipts, cash payments and net changes in cash resulting from operations, investing, and financing activities. It provides answers to such questions as Where did cash come from?, What was cash used for?, and What was the change in cash balance during the reporting period? Washington State Auditor's Office 9

89 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Management s Discussion and Analysis December 31, 2011 and 2010 The District s Balance Sheet The following is a presentation of certain financial information derived from the District s Balance Sheet: The balance sheet shows a decrease of $568,515 in current assets from 2010 to We estimate the Medicare and Medicaid settlements to be received in the amount of $175,698 and $351,439 respectively. Net non-current assets show a decrease of $677,439 from 2010 to Long term debt had a decrease of $320,660 while current liabilities had a decrease of $1,459,555. Capital lease obligations decreased $37,451 from 2010 to ASSETS DECEMBER 31, Current assets $ 5,518,344 $ 6,086,859 $ 4,797,549 Noncurrent assets 2,731,325 3,408,764 1,502,506 Capital assets, net 9,680,112 9,290,806 9,013,946 Other assets 373, , ,300 Total assets $ 18,302,795 $ 19,120,903 $ 15,647,301 LIABILITIES Current liabilities $ 2,473,296 $ 3,932,851 $ 1,923,044 Long term debt less current maturities 7,787,508 8,091,208 8,408,673 Capital lease obligation less current maturities 97, ,081 - Total liabilities $ 10,358,085 $ 12,161,140 $ 10,331,717 NET ASSETS Invested in capital assets, net of related debt 1,514, , ,996 Restricted 129, , ,466 Unrestricted 6,300,791 6,033,974 4,452,122 Total net assets 7,944,710 6,959,763 5,315,584 Total liabilities and net assets $ 18,302,795 $ 19,120,903 $ 15,647,301 Washington State Auditor's Office 10

90 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Management s Discussion and Analysis December 31, 2011 and 2010 Operating Results and Changes in the District s Net Assets The following is a presentation of certain financial information derived from the District s State of Revenues, Expenses and Changes in Net Assets: Overall, The District had an increase of net assets of $984,947 from ending 2010 to ending DECEMBER 31, OPERATING REVENUES Net patient service revenue $ 18,607,571 $ 17,560,207 $ 16,756,555 Other operating revenue 434, , ,941 Total operating revenues 19,042,487 17,842,157 17,013,496 OPERATING EXPENSES Salaries and benefits 13,833,786 12,529,766 12,041,342 Professional Fees 521, , ,915 Medical supplies and drugs 1,584,413 1,423,866 1,503,287 Purchased services 865, , ,056 Insurance 328, , ,512 Other operating expenses 1,805,886 1,500,061 1,477,818 Depreciation and amortization 701, , ,165 Abandoned planning cost - - 1,206,789 Total operating expenses 19,640,694 17,644,119 18,585,884 OPERATING (LOSS) INCOME (598,207) 198,038 (1,572,388) NON OPERATING REVENUES 1,583,154 1,446,141 1,370, ,947 1,644,179 (202,335) CHANGE IN NET ASSETS NET ASSETS, beginning of year 6,959,763 5,315,584 5,517,919 NET ASSETS, end of year $ 7,944,710 $ 6,959,763 $ 5,315,584 Washington State Auditor's Office 11

91 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Management s Discussion and Analysis December 31, 2011 and 2010 The District s Statement of Cash Flows The following is a presentation of certain financial information derived from the District s Statements of Cash Flows: The District ended the year with a decrease in cash flow of $1,106,197. DECEMBER 31, CASH FLOWS FROM OPERATING ACTIVITIES Net cash provided (used) in operating activities $ (1,210,129) $ 2,269,351 (1,776,880) CASH FLOWS FROM NONCAPITAL FINANCING ACTIVITIES Net Cash provided by noncapital financing activities 1,673,971 1,469, ,137 CASH FLOWS FROM CAPITAL AND RELATED FINANCING ACTIVITIES Net Cash Provided by (used in) capital and related financing activities (1,603,685) (1,217,312) 1,796,925 Net Cash provided by investing activities 33,646 44,894 9,656 Net (Decrease) Increase in cash and cash equivalents (1,106,197) 2,566, ,838 Cash and cash equivalents, beginning of year 5,116,198 2,549,507 2,323,669 Cash and cash equivalents, end of year 4,010,001 5,116,198 2,549,507 Total cash and cash equivalents. $ 4,010,001 $ 5,116,198 $ 2,549,507 Contacting the District s Financial Management This financial report provides our patients, suppliers, taxpayers and creditors with a general overview of Lake Chelan Community Hospital District s finances and shows the District s accountability for the money it receives. If you have questions about this report or need additional financial information, contact the District s Administrative Office at Lake Chelan Community Hospital, 503 E. Highland Avenue, Chelan, Washington. Washington State Auditor's Office 12

92 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Balance Sheets December 31, 2011 and 2010 Assets Current assets: Cash and cash equivalents $ 1,256,080 $ 1,685,207 Noncurrent assets required for current liabilities 22,896 22,896 Receivables: Patient accounts - Less allowance for uncollectible accounts and contractual adjustments of $2,678,000 in 2011 and $2,175,003 in ,681,266 3,286,442 Taxes 125, ,233 Third-party 943, ,547 Other 208,349 1,123 Inventories 211, ,060 Prepaid expenses 69, ,351 Total current assets 5,518,344 6,086,859 Assets limited as to use: Cash and cash equivalents: Restricted for debt service - 5 Restricted for capital improvements 129, ,508 Internally designated for EMS 114, ,275 Internally designated for capital acquisitions 2,509,912 2,759,203 Total cash and cash equivalents 2,753,921 3,430,991 Accrued interest receivable Total noncurrent assets 2,754,221 3,431,660 Less - Assets required for current liabilities (22,896) (22,896) Net noncurrent assets 2,731,325 3,408,764 Capital assets: Land 34,785 34,785 Land held for future expansion 4,133,845 4,133,845 Construction in progress 1,575,768 1,245,141 Depreciable capital assets - Net of accumulated depreciation 3,935,714 3,877,035 Total capital assets - Net of accumulated depreciation 9,680,112 9,290,806 Other assets: Deferred financing costs 62,022 67,537 Gibson property assets 310, ,937 Total other assets 373, ,474 TOTAL ASSETS $ 18,302,795 $ 19,120,903 Washington State Auditor's Office 13

93 Liabilities and Net Assets Current liabilities: Current maturities - Long-term debt $ 303,700 $ 320,660 Current maturities - Capital lease obligations 41,547 39,198 Warrants payable 217, ,674 Accounts payable 268, ,771 Third-party payable - 1,784,661 Employee compensation and related liabilities 433, ,235 Accrued vacation 874, ,851 Accrued interest payable 35,837 37,801 Deferred revenue 298,919 - Total current liabilities 2,473,296 3,932,851 Long-term debt - Less current maturities 7,787,508 8,091,208 Capital lease obligations - Less current maturities 97, ,081 Total liabilities 10,358,085 12,161,140 Net assets: Invested in capital assets net of related debt 1,514, ,276 Restricted: Temporarily restricted: Expendable for debt service - 5 Expendable for capital acquisitions 129, ,508 Unrestricted 6,300,791 6,033,974 Total net assets 7,944,710 6,959,763 TOTAL LIABILITIES AND NET ASSETS $ 18,302,795 $ 19,120,903 See accompanying notes to financial statements. Washington State Auditor's Office 14

94 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Statements of Revenues, Expenses, and Changes in Net Assets Years Ended December 31, 2011 and Operating revenues: Patient service revenues: Daily hospital care $ 3,233,437 $ 2,400,467 Ancillary services 26,102,886 24,541,054 Total patient service revenues 29,336,323 26,941,521 Revenue deductions and allowances and provision for bad debt of $1,777,319 in 2011 and $1,256,967 in ,728,752 9,381,314 Net patient service revenues 18,607,571 17,560,207 Other operating revenues 434, ,950 Total operating revenues 19,042,487 17,842,157 Operating expenses: Salaries and wages 11,351,521 10,203,934 Employee benefits 2,482,265 2,325,832 Professional fees 521, ,729 Supplies 1,584,413 1,423,866 Purchased services - Utilities 195, ,135 Purchased services - Other 865, ,485 Insurance 328, ,837 Repairs and maintenance 568, ,026 Rent 288, ,181 Other 754, ,719 Depreciation and amortization 701, ,375 Total operating expenses 19,640,694 17,644,119 (Loss) Income from operations (598,207) 198,038 Total nonoperating revenues - Net 1,583,154 1,446,141 Increase in net assets, excess of revenues 984,947 1,644,179 Net assets - Beginning of year 6,959,763 5,315,584 Net assets - End of year $ 7,944,710 $ 6,959,763 See accompanying notes to financial statements. Washington State Auditor's Office 15

95 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Statements of Cash Flows Years Ended December 31, 2011 and Cash flows from operating activities: Cash received from patient service revenues $ 17,053,363 $ 18,811,797 Cash received from other operating revenues 434, ,950 Cash paid for salaries and benefits (13,725,841) (12,414,073) Cash paid for supplies, professional fees, and other operating expenses (4,972,567) (4,410,323) Net cash (used in) provided by operating activities (1,210,129) 2,269,351 Cash flows from noncapital financing activities: Cash received from property tax 1,475,116 1,308,136 Cash received from donations and other nonoperating revenues 227, ,376 Other 5,515 5,513 Principal payments on long-term debt (29,478) (28,043) Interest paid (4,790) (6,224) Net cash provided by noncapital financing activities 1,673,971 1,469,758 Cash flows from capital and related financing activities: Principal payments on long-term debt (291,182) (274,754) Principal payments on capital lease obligations (37,451) (12,526) Proceeds from sale of assets 65,099 49,220 Interest paid (163,804) (200,042) Payments for capital assets (1,132,292) (772,523) Payments to escrow accounts related to property held for future expansion (44,055) (6,687) Net cash (used in) provided by capital and related financing activities (1,603,685) (1,217,312) Cash flows from investing activities: Cash received from Gibson property, net of expenses 26,002 38,227 Interest received 7,644 6,667 Net (decrease) increase In cash and cash equivalents (1,106,197) 2,566,691 Cash and cash equivalents - Beginning of year 5,116,198 2,549,507 Cash and cash equivalents - End of year $ 4,010,001 $ 5,116,198 Cash and cash equivalents: Current assets $ 1,256,080 $ 1,685,207 Noncurrent assets 2,753,921 3,430,991 Total cash and cash equivalents $ 4,010,001 $ 5,116,198 Washington State Auditor's Office 16

96 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Statements of Cash Flows (Continued) Years Ended December 31, 2011 and Reconciliation of loss from operations to net cash used in operating activities: (Loss) Income from operations $ (598,207) $ 198,038 Adjustments to reconcile loss from operations to net cash used in operating activities: Depreciation and amortization 701, ,375 Provision for bad debts 502, ,003 Change in operating assets and liabilities: Receivables: Patient accounts 102,179 (1,352,587) Third-party (374,723) 594,513 Other (207,226) 36,684 Inventories 656 9,274 Prepaid expenses 105,671 (106,481) Warrants payable (101,624) 55,859 Accounts payable 36,441 30,319 Third-party payable (1,784,661) 1,784,661 Employee compensation and related liabilities 32,230 39,796 Accrued vacation 75,715 75,897 Deferred revenue 298,919 - Total adjustments (611,922) 2,071,313 Net cash (used in) provided by operating activities $ (1,210,129) $ 2,269,351 Supplemental Schedule of Noncash Investing and Financing Activities: The District acquired equipment of $188,805 through capital lease obligations in 2010 (Note 8). See accompanying notes to financial statements. Washington State Auditor's Office 17

97 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies Nature of Operations Chelan County Public Hospital District No. 2 owns and operates Lake Chelan Community Hospital (the District ), a licensed 34-bed acute care hospital in Chelan, Washington. The District provides acute care and clinical services to patients in the Chelan market. The services include acute care, hospital inpatient and outpatient surgery, obstetrics, ambulance, emergency room, home health, physician, emotional health, chemical dependency, and the related ancillary procedures (lab, x-ray, therapy, etc.) associated with those services. The accounting policies of Chelan County Public Hospital District No. 2 d/b/a Lake Chelan (the District ) conform to accounting principles generally accepted in the United States of America (GAAP) as applicable to proprietary funds of governments. Based on Governmental Accounting Standards Board (GASB) Statement No. 20, Accounting and Financial Reporting for Proprietary Funds and Other Governmental Entities That Use Proprietary Fund Accounting, as amended, the District has elected to apply the provisions of all relevant pronouncements of the Financial Accounting Standards Board (FASB), including those issued after November 30, 1989, that do not conflict with or contradict GASB pronouncements. GASB is the accepted standard setting body for establishing governmental accounting and financial reporting principles. In June 1999, GASB approved Statement 34, Basic Financial Statements and Management Discussion and Analysis for State and Local Governments. This and consecutive statements are reflected in the accompanying financial statements (including notes to financial statements). The following is a summary of the most significant policies. No policies result in material departures from GAAP. Organization The District operates under the laws of the state of Washington for Washington municipal corporations. As organized, the District is exempt from payment of federal income tax. All District assets, liabilities, and financial transactions are included in these financial statements. Washington State Auditor's Office 18

98 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Basis of Accounting and Presentation The accounting records of the District are maintained in accordance with methods prescribed by the State Auditor under the authority of Chapter RCW and the Department of Health in the Accounting and Reporting Manual for Hospitals. The District s statements are reported using the economic resources measurement focus and full-accrual basis of accounting. Revenues are recorded when earned and expenses are recorded when a liability is incurred regardless of the timing of the cash flows. Property taxes are recognized as revenue in the year in which they are levied. Grants and similar items are recognized as revenue as soon as eligibility requirements imposed by the provider have been met. Related Organization Lake Chelan Community Hospital Foundation (the Foundation ), formed in 1981, is a separate tax-exempt Washington corporation. The Foundation is not considered a component unit that must be combined with the District for financial statement purposes. The Foundation has assets and net assets of approximately $2,192,486 and $2,178,801 at December 31, 2011 and 2010, respectively, according to unaudited financial statements. Donations of $79,037 and $46,345 were contributed to the District by the Foundation for the years ended December 31, 2011 and 2010, respectively. Lake Chelan Community Apartments Lake Chelan Community Apartments (LCCA) is owned by Lake Chelan Community Hospital. Lake Chelan Community Hospital has contracted with the Housing Authority of Chelan County and the City of Wenatchee to manage LCCA. The 28-unit apartment is located in Chelan, Washington. LCCA was financed under Section 221 (d) (3) of the National Housing Act. Under this program, LCCA provided housing to tenants subject to regulation by the Department of Housing and Urban Development (HUD) and receives a rent subsidy. During the period ended December 31, 2011, rental subsidy from HUD totaled $67,634, representing 52 percent of total revenue. The District assumed the existing Housing and Urban Development (HUD) loan on the LCCH Apartments (Note 8) in The District operates the property to serve the low income households for a period of time in order to meet the existing loan requirements. Washington State Auditor's Office 19

99 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Lake Chelan Community Apartments (Continued) The LCCH Apartments began being operated as a department of the Hospital. At December 31, 2011 and December 31, 2010, all assets and liabilities of the rental property are included within the balance sheet of the District. At December 31, 2011 and 2010, rental income, net of expenses, is reported as nonoperating revenues on the statement of revenues and expenses and changes in net assets. Affiliated Organization Lake Chelan Senior Housing (the Corporation ), formed in 1996, is a separate taxexempt Washington corporation. The purpose of the Corporation is to manage and own an assisted living facility for the elderly. A five-member board, of which two members are District commissioners, governs the Corporation. As of March 2010, the District and the Corporation have agreed to end the District Commissioner board requirement. The Corporation considers Chelan County, Washington to be its primary service market and provides assisted living services to residents in that area. The District leases land adjacent to its facilities for $100 per month for fifty-two years to be used by the Corporation. Prepaid Reserve Contract In April 2001, the District signed a reserve contract with the Corporation. The contract states the District will pay up to $200,000 to the Corporation. In exchange, the Corporation shall reserve 50% of its units for hospital district residents for a period of ten years from the effective date of the agreement. The Corporation was paid $161,000 in 2001 and $14,765 in The contract payments are reported as a prepaid reserve contract on the District s balance sheet and are being amortized over the reserve contract s life of ten years through April As of December 31, 2010, the total $175,000 of amortization expense had been recognized. Use of Estimates in Preparation of Financial Statements 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 assets and liabilities at the date of the financial statements. Estimates also affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Washington State Auditor's Office 20

100 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Cash and Cash Equivalents All cash receipts are deposited directly into the District's depository bank account. Periodically, such cash is transferred to the Chelan County Treasurer who acts as the District s Treasurer. Warrants are issued by the District against the cash placed with the County Treasurer, and the warrants are redeemed from a commercial bank by the County Treasurer. At the direction of the District, the County Treasurer invests cash in certificates of deposit, money market funds, and other short-term investments until it is necessary to redeem warrants. For purposes of the statements of cash flows, the District considers all cash and cash investments with maturity dates of three months or less as cash and cash equivalents (Note 3). Patient Accounts Receivable and Credit Policy Patient accounts receivable are uncollateralized patient obligations that are stated at the amount management expects to collect from outstanding balances. These obligations are primarily from local residents, most of whom are insured under third-party payor agreements. The District bills third-party payors on the patients behalf, or if a patient is uninsured, the patient is billed directly. Once claims are settled with the primary payor, any secondary insurance is billed, and patients are billed for co-pay and deductible amounts that are the patients responsibility. Payments on patient accounts receivable are applied to the specific claim identified on the remittance advice or statement. The District does not have a policy to charge interest on past due accounts. Patient accounts receivable are recorded in the accompanying balance sheets net of contractual adjustments and allowances for doubtful accounts which reflect management s best estimate of the amounts that won t be collected. Management provides for contractual adjustments under terms of third-party reimbursement agreements through a reduction of gross revenue and a credit to patient accounts receivable. In addition, management provides for probable uncollectible amounts, primarily uninsured patients and amounts patients are personally responsible for, through a reduction of gross revenue and a credit to a valuation allowance. In evaluating the collectability of patient accounts receivable, the District analyzes past results and identifies trends for each of its major payor sources of revenue to estimate the appropriate allowance for doubtful accounts and provision for bad debts. Management regularly reviews data about these major payor sources of revenue in evaluating the sufficiency of the allowance for doubtful accounts. Washington State Auditor's Office 21

101 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Patient Accounts Receivable and Credit Policy (Continued) Specifically, for receivables associated with services provided to patients who have thirdparty coverage, the District analyzes contractually due amounts and provides an allowance for doubtful accounts and a provision for bad debts for expected uncollectible deductibles and copayments on accounts for which the third-party payor has not yet paid, or for payors who are known to be having financial difficulties that make the realization of amounts due unlikely. For receivables associated with self-pay patients (which includes both patients without insurance and patients with deductible and copayment balances due for which third-party coverage exists for part of the bill), the District records a significant provision for bad debts in the period of service on the basis of its past experience, which indicates that many patients are unable or unwilling to pay the portion of their bill for which they are financially responsible. The difference between the standard rates (or the discounted rates if negotiated) and the amounts actually collected after all reasonable collection efforts have been exhausted is charged off against the allowance for doubtful accounts (Notes 4 and 6). Inventories Inventories of supplies are stated at cost (FIFO), which is considered lower than market value. Noncurrent Assets Remaining noncurrent assets are comprised of certain cash and cash equivalents and other resources set aside for specific purposes due to restrictions placed on them. Board designated assets include assets set aside by the Board of Commissioners for future capital improvements or other designated purposes. Board designated and restricted assets that are required for obligations classified as current liabilities are reported as current assets (Note 8). Capital Assets Capital assets are stated at cost or fair market value, if donated. The District capitalizes all assets with a cost of $5,000 or greater. Expenditures for maintenance and repairs are charged to operations as incurred, and betterments and major renewals are capitalized. When such assets are disposed of, the related costs and the resulting gain or loss is classified in non-operating gains and losses. Washington State Auditor's Office 22

102 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Capital Assets (Continued) Depreciation and amortization have been computed on the straight-line method over the following estimated useful service lives: Land improvements Buildings and fixed equipment Major moveable equipment 3 to 52 years 5 to 40 years 3 to 20 years At December 31, 2011, construction in progress consisted of new planning costs related to a replacement hospital. The District estimates the cost to the construction to total $30 million. The replacement hospital is estimated to be completed in Land held for future expansion is stated at cost. Related replacement reserve and property insurance and tax escrow account balances are included with property held for future expansion. Deferred Financing Costs Deferred financing costs are legal, accounting, underwriting fees, printing costs, and other expenses associated with the issuance of the limited tax general obligation bonds (Note 8). Such costs are amortized over the term of the bonds. Compensated Absences The Annual Leave (AL) program at the District provides eligible personnel with appropriate compensation during sick time, holidays and vacation time. The District accrues annual leave for compensated absences as an expense and liability when earned based on the employee s status. The maximum allowable amount of AL time for each employee is twice their annual accrual. Annual Leave balances, which have been accrued in a prior calendar year but not used during a subsequent calendar year, will accrue to a two-year maximum. A payout of 80 hours is made only if the employee has used 80 hours in a year. All employees who terminate their employment, with proper notice, will be paid unused AL hours at the regular rate of pay upon completion of one year of employment. Washington State Auditor's Office 23

103 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Compensated Absences The sick leave program provides employees with appropriate compensation for illnesses for themselves or an eligible family member. The maximum allowable balance of sick leave is 480 hours. The District pays out 25% of the accrued balance (480 maximum) at termination of employment after three years of benefited employment status. Leases The District accounts for its lease agreements as capital or operating leases in accordance with criteria established by FASB Accounting Standards Codification 840. Net Assets Net assets of the District are classified into three components. Net assets invested in capital assets net of related debt, consist of capital assets net of accumulated depreciation and reduced by the current balances of any outstanding borrowings used to finance the purchase or construction of those assets. Restricted net assets consist of net assets with constraints placed on their use either by creditors, grantors, donors, etc. or law through constitutional provisions or enabling legislation. Unrestricted net assets are remaining net assets that do not meet the definition of invested in capital assets net of related debt or restricted. Net Patient Service Revenues Revenues from patient services are reported on the accrual basis in the period in which services are provided at established rates, whether or not collection in full is anticipated. Contractual adjustments, the results of arrangements to provide services for other than established rates, are reported as patient service revenues. Contractual allowances include differences between established rates and amounts estimated by management as reimbursable under various reimbursement programs in effect. Normal estimation differences between final settlements and amounts accrued in previous years are reported as adjustments to the current year's contractual allowances (Note 4). Washington State Auditor's Office 24

104 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Operating Revenues and Expenses The District s operating statement distinguishes between operating and non-operating revenues and expenses. Operating revenues result from exchange transactions associated with providing health care services the District s primary business. Nonexchange revenue, including taxes, and grants and contributions received for purposes other than capital assets acquisition are reported as non-operating revenues. Operating expenses are all expenses incurred to provide health care services, other than financing costs. SWAP Revenue The District received Public Hospital Disproportionate Share SWAP funds from the Washington State Department of Social and Health Services (DSHS) to maintain and or expand access to services for low-income and Medicaid eligible patients. Charity Care The District provides care to patients who meet certain criteria under its charity care policy without charge or at amounts less than established rates. The District maintains records to identify and monitor the level of charity care provided. These records include the amount of charges foregone for services and supplies furnished under its charity care policy. Charges associated with charity care of $364,208 and $141,400 was provided for the years ended December 31, 2011 and 2010, respectively. Grants and Contributions Grants and contributions restricted by the donor for a specific expense are recorded as other operating revenues in the year expended. Unrestricted grants and contributions are recorded as non-operating gains in the year received or receivable. Grants and contributions restricted for the purchase of capital assets and donated equipment are recorded as an addition to net assets. Self-Insurance The District self-insures for workers' compensation, unemployment benefits, and a dental plan. The amounts paid are recorded as employee benefit expense (Note 10). Washington State Auditor's Office 25

105 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Pension Plan The District has a voluntary contributory money-purchase pension plan that is available to all employees that contribute three percent of their salary to the District s 403(b) plan. The plan is administered by CPI Qualified Plan Consultants, Inc. Any changes to the plan provisions must be both documented in the board minutes and authorized with a signature from one of the plan representatives. The plan is funded solely by employer contributions in which the District will contribute five percent of the employees salary only if certain eligibility criteria are met by the employees, including the contribution to the 403(b) plan. Employees are vested upon deposit. Pension costs include only current service costs, which are accrued and funded on a current basis. Pension plan expense was $336,099 and $288,452 for the years ended December 31, 2011 and 2010, respectively. The District also has a voluntary retirement plan which was established by the District under section 403(b) of the Internal Revenue Code. The plan is funded solely by employee contributions, which are deposited in employee controlled accounts established with American Mutual Funds. The District also has a deferred compensation plan created in accordance with Internal Revenue Code Section 457 available to employees who have exceeded the maximum level of contributions to their 403(b) plan. The plan is administered by CPI Qualified Plan Consultants, Inc. and is funded solely by employee contributions with the fees paid for by the District. The District also has a supplemental defined benefit pension plan, which covers employees of the District at January 1, 1976, who have ten or more years of service and attain age sixty-five prior to December 31, The District uses the actuarial method of accounting and reporting for the plan's liability. Under this method, the liability is the present value of future payments, based on acceptable life expectancy tables. Pension plan benefits paid to retired employees was $3,219 and $3,321 for the years ended December 31, 2011 and 2010, respectively. Washington State Auditor's Office 26

106 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 1 Summary of Significant Accounting Policies (Continued) Reclassifications Certain reclassifications of 2010 amounts have been made in the accompanying financial statements to conform to 2011 presentation. Washington State Auditor's Office 27

107 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 2 Stewardship, Compliance, and Accountability Compliance There was no violation of finance-related legal or contractual provisions for the District s year ended December 31, The health care industry is subject to numerous laws and regulations of federal, state, and local governments. These laws and regulations include, but are not necessarily limited to, matters such as licensure, accreditation, government health care program participation requirements, reimbursement for patient services, and billing regulations. Government activity with respect to investigations and allegations concerning possible violations of such regulations by health care providers has increased. Violations of these laws and regulations could result in expulsion form government health care programs together with the imposition of significant fines and penalties, as well as significant repayment for patient services previously billed. Management believes that the District is in compliance with applicable government laws and regulations. While no significant regulatory inquiries have been made of the District, compliance with such laws and regulations can be subject to future government review and interpretations, as well as regulatory actions unknown or un-asserted at this time. The Centers for Medicare and Medicaid Services (CMS) has implemented a new project using recovery audit contractors (RACs) as part of its further efforts to ensure accurate payments under the Medicare program. The project uses RACs to search for potentially inaccurate Medicare payments that may have been made to health care providers and were not detected through existing CMS program-integrity efforts. Once a RAC identifies a claim it believes is inaccurate, the RAC makes a deduction from or addition to the provider s Medicare reimbursement in a n amount estimated to equal the overpayment or underpayment. The organization may either accept or appeal the RAC s findings. The District s policy is to adjust revenue for decreases in reimbursement for the RAC reviews when these amounts are estimable and to adjust revenue for increases in reimbursement from the RAC reviews when the increase in reimbursement is agreed upon. A RAC review of the District s Medicare claims is anticipated; however, the outcome of such a review is unknown, and any financial impact cannot be reasonably estimated at this time. Washington State Auditor's Office 28

108 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 3 Cash and Cash Equivalents Custodial credit risk is the risk that in the event of a bank failure, the District's deposits may not be returned to it. The District does not have a deposit policy for custodial credit risk. The District s deposits and certificates of deposit are entirely covered by federal depository insurance (FDIC) or by collateral held in a multiple financial institution collateral pool administered by the Washington Public Deposit Protection Commission (PDPC). Note 4 Concentration of Credit Risk The District grants credit without collateral to its patients, most of who are local residents and are insured under third-party payor agreements. The majority of these patients are geographically concentrated in and around Chelan County. No single patient comprises more than five percent of the total receivable at year-end. The mix of patient receivables at December 31, 2011 and 2010 are as follows: Self pay and other insurance carriers $ 3,667,408 68% $ 3,310,846 61% Medicare 1,283,789 24% 1,684,794 31% Medicaid 408,069 8% 465,805 9% Total patient accounts receivable 5,359,266 5,461,445 Less allowance for uncollectible amounts and contractual adjustments (2,678,000) (2,175,003) Patient accounts receivable - Net $ 2,681,266 $ 3,286,442 Washington State Auditor's Office 29

109 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 5 Taxes Receivable Property taxes are levied by the District and collected by Chelan County. The county treasurer acts as an agent to collect property taxes levied in the county for all taxing authorities. Taxes are levied annually on January 1, on property values listed as of the prior May 31. Assessed values are established by the county assessor at 100 percent of fair market value. A revaluation of all property is required every four years. Taxes are due in two equal installments on April 30 and October 31. Collections are distributed monthly to the District by the county treasurer. The District is permitted by law to levy up to $0.75 per $1,000 of assessed valuation for general district purposes. Washington State Constitution and Washington State Law, RCW , limit the rate. The District may also levy taxes at a lower rate. Further, amounts of tax need to be authorized by the vote of people. For 2011, the District s general tax levy was $ per $1,000 on a total assessed valuation of $2,582,524,615 for a total general levy of $633,600. Additionally, the District s EMS tax levy was $ per $1,000 on a total assessed valuation of $2,582,524,615 for a total EMS levy of $800,583. For 2010, the District s general tax levy was $ per $1,000 on a total assessed valuation of $3,145,983,725 for a total general levy of $622,141. Additionally, the District s EMS tax levy was $ per $1,000 on a total assessed valuation of $3,145,983,725 for a total EMS levy of $701,484. Property taxes estimated to be collectible are recorded as revenue in the year receivable by the District. Taxes levied are recorded as non-operating revenues. No allowance for uncollectible taxes receivable is considered necessary at the balance sheet date. The District received approximately 4.68% and 4.7% of its financial support from property taxes for the years ended December 31, 2011 and 2010, respectively. The funds were used as follows: Levied to support operations $ 1,465,282 $ 1,343,155 Washington State Auditor's Office 30

110 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 6 Third-Party Contractual Agreements The District provides services to patients under contractual agreements with the Medicare and Medicaid programs. Differences between gross revenues charged and reimbursement under each of the programs are included in revenue deductions and allowances. Gross revenues billed under the programs totaled approximately $15,745,716 and $13,023,788 for 2011 and 2010, respectively. The Hospital has critical access hospital status and is reimbursed by Medicare for inpatient and outpatient services on a cost basis as defined and limited by the Medicare program. The Medicare program s administrative procedures preclude final determination of amounts due to the District for such services until three years after the District s cost reports are audited or otherwise reviewed and settled upon by the Medicare intermediary. The Medicare program s cost reports have been audited and tentatively settled through Medicaid reimbursement for inpatient acute care and outpatient care are reimbursed based on costs as defined and limited by the Medicaid program. The Medicaid hospital cost reports have been audited and tentatively settled through The District also has agreements with a number of third-party payors, which result in revenue discounts ranging from zero to twenty-five percent (25%). Washington State Auditor's Office 31

111 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 7 Capital Assets Capital asset additions, retirements, and balances for the year ended December 31, 2011, are as follows: Balance December 31, 2010 Additions/ Transfers Retirements Balance December 31, 2011 Nondepreciable capital assets: Land $ 34,785 $ - $ - $ 34,785 Land held for future expansion 4,133, ,133,845 Construction in progress 1,245, ,987 36,360 1,575,768 Total nondepreciable capital assets 5,413, ,987 36,360 5,744,398 Depreciable capital assets: Land improvements 461, ,334 Buildings 5,121,782 27,728-5,149,510 Building service & fixed equipment 1,097,767 (181,066) - 916,701 Equipment 4,345, , ,603 5,125,719 Total depreciable capital assets 11,026, , ,603 11,653,264 Total - capital assets before depreciation 16,440,333 1,132, ,963 17,397,662 Less accumulated depreciation for: Land improvements 290,751 26, ,793 Buildings 2,976, ,532-3,158,752 Building service and fixed equipment 760,164 (4,214) - 755,950 Equipment 3,122, , ,481 3,486,055 Total accumulated depreciation 7,149, , ,481 7,717,550 Capital assets - Net $ 9,290,806 $ 430,788 $ 41,482 $ 9,680,112 Washington State Auditor's Office 32

112 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 7 Capital Assets (Continued) Capital asset additions, retirements, and balances for the year ended December 31, 2010, are as follows: Balance December 31, 2009 Additions/ Transfers Retirements Balance December 31, 2010 Nondepreciable capital assets: Land $ 34,785 $ - $ - $ 34,785 Land held for future expansion 4,133, ,133,845 Construction in progress 928, ,696 3,038 1,245,141 Total nondepreciable capital assets 5,097, ,696 3,038 5,413,771 Depreciable capital assets: Land improvements 461, ,334 Buildings 5,121, ,121,782 Building service & fixed equipment 887, ,738-1,097,767 Equipment 4,204, , ,185 4,345,679 Total depreciable capital assets 10,675, , ,185 11,026,562 Total - capital assets before depreciation 15,772, , ,223 16,440,333 Less accumulated depreciation for: Land improvements 247,490 43, ,751 Buildings 2,802, ,308-2,976,220 Building service and fixed equipment 732,073 28, ,164 Equipment 2,975, , ,134 3,122,392 Total accumulated depreciation 6,758, , ,134 7,149,527 Capital assets - Net $ 9,013,946 $ 282,949 $ 6,089 $ 9,290,806 Washington State Auditor's Office 33

113 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 8 Long-Term Debt, Capital Leases Payable, and Other Noncurrent Liabilities A schedule of changes in the District s noncurrent liabilities for the year ended December 31, 2011, is as follows: Balance December 31, 2010 Additions Reductions Balance December 31, 2011 Amounts Due Within One Year Bonds and notes payable: 1998 LTGO Bonds $ 315,000 $ - $ 100,000 $ 215,000 $ 105, LTGO Bonds 550,000-70, ,000 45, LTGO Bonds 2,140, ,000 2,040, , LTGO Bonds 5,230, ,230,000 - LCCH Apartments mortgage 83,251-21,182 62,069 22,714 Promissory note 93,617-29,478 64,139 30,986 Total long-term debt 8,411, ,660 8,091, ,700 Capital leases payable: Horiba Financial Services 28,963-8,315 20,648 9,922 Philips Medical Cap 147,316-29, ,180 31,625 Total capital leases payable 176,279-37, ,828 41,547 Total long-term debt, capital leases payable, and other noncurrent liabilities $ 8,588,147 $ - $ 358,111 $ 8,230,036 $ 345,247 Washington State Auditor's Office 34

114 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 8 Long-Term Debt, Capital Leases Payable, and Other Noncurrent Liabilities (Continued) A schedule of changes in the District s noncurrent liabilities for the year ended December 31, 2010, is as follows: Balance December 31, 2009 Additions Reductions Balance December 31, 2010 Amounts Due Within One Year Bonds and notes payable: 1998 LTGO Bonds $ 410,000 $ - $ 95,000 $ 315,000 $ 100, LTGO Bonds 620,000-70, ,000 70, LTGO Bonds 2,230,000-90,000 2,140, , LTGO Bonds 5,230, ,230,000 - LCCH Apartments mortgage 103,005-19,754 83,251 21,182 Promissory note 121,660-28,043 93,617 29,478 Total long-term debt 8,714, ,797 8,411, ,660 Capital leases payable: Horiba Financial Services - 29, ,963 9,922 Philips Medical Cap - 159,038 11, ,316 29,276 Total capital leases payable - 188,805 12, ,279 39,198 Total long-term debt, capital leases payable, and other noncurrent liabilities $ 8,714,665 $ 188,805 $ 315,323 $ 8,588,147 $ 359,858 Washington State Auditor's Office 35

115 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 8 Long-Term Debt, Capital Leases Payable, and Other Noncurrent Liabilities (Continued) The terms and due dates of the District s long-term debt, including capital lease obligations, at December 31, 2011 and 2010, follows: Long-Term Debt LCCH Apartment mortgage payable to Housing and Urban Development, due in monthly installments of $2,195, including interest at 7.0% with a balloon payment due August 1, Limited Tax General Obligation Refunding Bonds, dated December 1, 1998 due in varying annual principal installments of $90,000 in 2010 to $110,000 in 2013, plus interest at varying rates from 4.85% to 5.25%, payable June 1 and December 1 each year; bonds are subject to redemption prior to their stated dates of maturities beginning December 1, Limited Tax General Obligation Bonds, dated March 15, 2001, due in varying annual principal installments of $110,000 in 2010 to $50,000 in 2021, plus interest at varying rates from 4.25% to 5.25%, payable June 1 and December 1 each year; bonds maturing on or after December 1, 2012, are subject to optional redemption prior to their stated maturity dates on or after December 1, 2011 at par plus accrued interest to the date of such redemption. Limited Tax General Obligation Bonds, dated July 10, 2006, due in varying annual principal installments of $90,000 in 2010 to $185,000 in 2026, plus interest at varying rates from 3.9% to 4.75%, payable June 1 and December 1 each year; bonds maturing on or after December 1, 2011, are subject to optional redemption prior to their stated maturity dates on or after June 1, 2011, at par plus accrued interest to the date of such redemption. Limited Tax General Obligation Bonds, dated October 1, 2009, due in varying annual principal installments of $70,000 beginning in 2016 to $570,000 in 2034, plus interest at varying rates from 4.15% to 4.75%, payable June 1 and December 1 each year; bonds maturing on or after December 1, 2011, are subject to optional redemption prior to their stated maturity dates on or after June 1, 2011 at par plus accrued interest to the date of such redemption. Washington State Auditor's Office 36

116 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 8 Long-Term Debt, Capital Leases Payable, and Other Noncurrent Liabilities (Continued) Long-Term Debt (Continued) Promissory note payable related to settled lawsuit, due in annual installments of $34,268 beginning in May 2004 through May 2013, including interest at 5%. Capital Leases Payable Lease obligation to Philips Medial Capital due in monthly installments of $4,297 beginning August 2010 through July 2015, including interest at 5.15% collateralized by equipment at a cost of $199,934, with accumulated depreciation of $56,639 Lease obligation to Horiba Financial Services due in monthly installments of $827 beginning November 2010 through November 2013, collateralized by equipment at a cost of $30,292, with accumulated depreciation of $6,556. Scheduled principal and interest repayments on long-term debt and capital lease obligations are as follows: Years Ending December 31, Bonds and Notes Payable Capital Leases Payable Principal Interest Total Principal Interest Total 2012 $ 303,700 $ 412,337 $ 716,037 $ 41,547 $ 5,369 $ 46, , , ,559 42,369 3,743 46, , , ,784 34,159 2,030 36, , , ,190 20, , , , , ,055,000 1,358,593 2,413, ,285,000 1,130,122 2,415, ,560, ,374 2,414, ,910, ,474 2,411, ,110,000 90,302 1,200, Total $ 8,091,208 $ 5,869,505 $ 13,960,713 $ 138,828 $ 11,500 $ 150,328 Washington State Auditor's Office 37

117 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 9 Leases Operating Lease The District is committed under a lease for x-ray equipment. This lease is considered an operating lease for accounting purposes. Lease expense for the year ended December 31, 2011 and 2010 amounted to $123,931 and $123,931, respectively. Future minimum rental commitments for this lease are as follows: Year Ending December 31: 2012 $ 82,620 Total $ 82,620 Note 10 Self-Insured Plans Workers Compensation The District participates in the Public Hospital District Workers Compensation Trust, which is administered by the Washington State Hospital Association. The District pays its share of actual injury claims, maintenance of reserves, administrative expenses, and reinsurance premiums. Amounts paid by the District for workers compensation expense were $143,666 and $121,919 for 2011 and 2010, respectively. Unemployment The District participates in the Public Hospital District Unemployment Compensation Fund, which is administered by the Washington State Hospital Association. The District pays its share of actual unemployment claims, maintenance of reserves, and administrative expenses. Payments by the District charged to unemployment expense were $45,216 and $61,410 for 2011 and 2010, respectively. Washington State Auditor's Office 38

118 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 10 Self-Insured Plans (Continued) Dental Plan Effective January 1, 2004, the District has a self-insured dental plan for its employees, which is administered by the Guardian Life Insurance Company. The District pays its share of actual dental claims, maintenance of reserves, and administrative expenses. Payments by the District charged to dental expenses were $79,300 and $35,667 in 2011 and 2010, respectively. Note 11 Contingent Liability The District is one of a number of Washington hospitals who are members of the Washington Casualty Company (WCC). WCC is a wholly owned subsidiary of FinCor, Inc., a nonprofit mutual insurance corporation used for payment of liability claims. WCC policy provides protection on a claims-made basis whereby only malpractice claims reported to the insurance carriers in the current year are covered by the current policies. Although there exists the possibility of claims arising from services provided to patients through December 31, 2011, which have not yet been asserted, the District is unable to determine the ultimate cost if any, of such possible claims and, accordingly, no provision has been made for them. If there are unreported incidents which result in a malpractice claim in the current year, such claims will be covered in the year the claim is reported to the insurance carriers only if the District purchases claims-made insurance in that year or the District purchases tail insurance to cover claims incurred before but reported to the insurance carrier after cancellation or expiration of a claims-made policy. The policy s limits provide $1,000,000 per claim of primary coverage with a $5,000,000 annual aggregate limit. WCC also provides excess coverage of $4,000,000 per claim with $4,000,000 annual aggregate. There are no significant deductible or coinsurance clauses for this policy. The District is also exposed to various risks of loss related to torts; theft of, damage to, and destruction of assets; errors and omissions, injuries to employees; and natural disasters. The District carries commercial insurance for these risks of loss. Settled claims resulting from these risks have not exceeded the commercial insurance coverage in any of the past three years. Washington State Auditor's Office 39

119 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 12 Deferred Revenues The American Recovery and Reinvestment Act of 2009 ( ARRA ) provides for incentive payments under the Medicare and Medicaid programs for certain hospitals and physician practices that demonstrate meaningful use of certified electronic health record ( EHR ) technology. These provisions of ARRA, collectively referred to as the Health Information Technology for Economic and Clinical Health Act (the HITECH Act ), are intended to promote the adoption and meaningful use of health information technology and qualified EHR technology. The incentive payment is equal to the product of the District s reasonable costs incurred for the purchase of certified EHR technology and its Medicare share percentage which is based in part on cost report data that is subject to audit by fiscal intermediaries, accordingly, amounts recognized are subject to change. In addition, the District s attestation of its compliance with demonstrating meaningful use of certified EHR technology for the applicable period is subject to audit by the federal government or its designee. Normally, this reimbursement would be received as the District reported depreciation on the related assets and the Medicare cost reports are filed, rather than as a lump-sum payment. Therefore, the District has deferred recognition of the payment received under the Medicare EHR program. The deferred revenue is being amortized and recognized as revenue over 5 years, which is the period the software will be depreciated. As of December 31, 2011 deferred revenue from the Medicare EHR incentive payments totaled $298,919. Washington State Auditor's Office 40

120 Chelan County Public Hospital District No. 2 d/b/a Lake Chelan Community Hospital Notes to Financial Statements Note 13 Nonoperating Revenues Total nonoperating revenues (expenses) for the years ended 2011 and 2010 were as follows: Interest earnings $ 7,275 $ 6,931 Interest expense (166,630) (175,675) Non-capital grants and contributions 227, ,376 Gains on disposal of assets 23,617 43,127 Other Property tax 1,465,282 1,343,155 Gibson property rental revenue - Net of expenses 26,002 38,227 Total nonoperating revenues $ 1,583,154 $ 1,446,141 Washington State Auditor's Office 41

121 ABOUT THE STATE AUDITOR'S OFFICE The State Auditor's Office is established in the state's Constitution and is part of the executive branch of state government. The State Auditor is elected by the citizens of Washington and serves four-year terms. Our mission is to work with our audit clients and citizens as an advocate for government accountability. As an elected agency, the State Auditor's Office has the independence necessary to objectively perform audits and investigations. Our audits are designed to comply with professional standards as well as to satisfy the requirements of federal, state, and local laws. The State Auditor's Office employees are located around the state to deliver services effectively and efficiently. Our audits look at financial information and compliance with state, federal and local laws on the part of all local governments, including schools, and all state agencies, including institutions of higher education. In addition, we conduct performance audits of state agencies and local governments and fraud, whistleblower and citizen hotline investigations. The results of our work are widely distributed through a variety of reports, which are available on our Web site and through our free, electronic subscription service. We take our role as partners in accountability seriously. We provide training and technical assistance to governments and have an extensive quality assurance program. State Auditor Troy Kelley Chief of Staff Doug Cochran Director of State and Local Audit Chuck Pfeil, CPA Director of Performance Audit Larisa Benson Deputy Director of State and Local Audit Kelly Collins, CPA Deputy Director of State and Local Audit Jan M. Jutte, CPA, CGFM Deputy Director of State and Local Audit Sadie Armijo Deputy Director of Quality Assurance Barb Hinton Local Government Liaison Mike Murphy Public Records Officer Mary Leider Main number (360) Toll-free Citizen Hotline (866) Website Subscription Service