Baptist Health. Independent Auditor s Reports and Consolidated Financial Statements. December 31, 2016 and 2015

Transcription

1 Independent Auditor s Reports and Consolidated Financial Statements

2 Contents Independent Auditor s Report... 1 Consolidated Financial Statements Balance Sheets... 3 Statements of Operations and Changes in Net Assets... 4 Statements of Cash Flows... 6 Notes to Financial Statements... 7 Supplementary Information Schedule of Expenditures of Federal Awards Notes to the Schedule of Expenditures of Federal Awards Independent Auditor s Report on Internal Control Over Financial Reporting and on Compliance and Other Matters Based on an Audit of the Financial Statements Performed in Accordance with Government Auditing Standards Report on Compliance for Each Major Federal Program and Report on Internal Control Over Compliance Independent Auditor s Report Schedule of Findings and Questioned Costs Summary Schedule of Prior Audit Findings... 63

3 Independent Auditor s Report Board of Trustees Baptist Health Little Rock, Arkansas Report on the Financial Statements We have audited the accompanying consolidated financial statements of Baptist Health (the Corporation), which comprise the consolidated balance sheets as of, and the related consolidated statements of operations and changes in net assets and cash flows for the years then ended, and the related notes to the consolidated financial statements. Management s Responsibility for the Financial Statements Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with accounting principles generally accepted in the United States of America; this includes the design, implementation and maintenance of internal control relevant to the preparation and fair presentation of consolidated financial statements that are free from material misstatement, whether due to fraud or error. Auditor s Responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America and the standards applicable to financial audits contained in Government Auditing Standards, issued by the Comptroller General of the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement. The financial statements of Arkansas Health Group; Baptist MedCare, Inc. d/b/a Practice Plus; Multi-Management Services, Inc.; Parkway Village, Inc.; and Baptist Health Foundation, Inc., which are included in the Corporation s consolidated financial statements, were not audited in accordance with Government Auditing Standards. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the auditor s judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity s internal control. Accordingly, we express no such opinion. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of significant accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements.

4 Board of Trustees Baptist Health Page 2 We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Baptist Health as of, and the results of its operations, the changes in its net assets and its cash flows for the years then ended in accordance with accounting principles generally accepted in the United States of America. Supplementary Information Our audits were conducted for the purpose of forming an opinion on the consolidated financial statements as a whole. The accompanying supplementary information, consisting of the schedule of expenditures of federal awards required by Title 2 U.S. Code of Federal Regulations Part 200, Uniform Administrative Requirements, Cost Principles, and Audit Requirements for Federal Awards, as listed in the table of contents, is presented for purposes of additional analysis and is not a required part of the consolidated financial statements. Such information is the responsibility of management and was derived from, and relates directly to, the underlying accounting and other records used to prepare the consolidated financial statements. The information has been subjected to the auditing procedures applied in the audits of the consolidated financial statements and certain additional procedures, including comparing and reconciling such information directly to the underlying accounting and other records used to prepare the consolidated financial statements or to the consolidated financial statements themselves, and other additional procedures in accordance with auditing standards generally accepted in the United States of America. In our opinion, the information is fairly stated in all material respects in relation to the consolidated financial statements as a whole. Other Reporting Required by Government Auditing Standards In accordance with Government Auditing Standards, we have also issued our report dated April 28, 2017, on our consideration of the Corporation s internal control over financial reporting and 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 in considering Baptist Health s internal control over financial reporting and compliance. Little Rock, Arkansas April 28, 2017

5 Consolidated Balance Sheets (In thousands) Assets Current Assets Cash and cash equivalents $ 33,123 $ 73,282 Short-term investments and other 10,736 11,349 Patient accounts receivable, net of allowance 2016 $50,086; 2015 $61, , ,759 Estimated amounts due from third-party payers 20,194 19,981 Supplies, prepaid expenses and other 41,809 31,423 Total current assets 214, ,794 Assets Limited as to Use 461, ,964 Property and Equipment, Net 582, ,315 Other Assets 69,959 69,907 Total assets $ 1,327,874 $ 1,305,980 Liabilities and Net Assets Current Liabilities Line of credit and current maturities of long-term debt $ 32,279 $ 34,076 Accounts payable and accrued expenses 120, ,746 Estimated amounts due to third-party payers 1,447 2,612 Current portion of deposits by residents 2,368 1,310 Total current liabilities 156, ,744 Other Liabilities Long-term debt 238, ,860 Pension liabilities 57,399 70,390 Other liabilities 54,543 56,731 Total liabilities 507, ,725 Net Assets Unrestricted Baptist Health 793, ,705 Noncontrolling interests 2,478 1,317 Total unrestricted net assets 795, ,022 Temporarily restricted 21,361 26,591 Permanently restricted 3,491 3,642 Total net assets 820, ,255 Total liabilities and net assets $ 1,327,874 $ 1,305,980 See 3

6 Consolidated Statements of Operations and Changes in Net Assets Years Ended (In thousands) Unrestricted Revenues, Gains and Other Support Patient service revenue (net of contractual discounts and allowances) $ 958,611 $ 953,126 Provision for uncollectible accounts (25,120) (36,626) Net patient service revenue less provision for uncollectible accounts 933, ,500 Management fees, lease income and other 79,294 79,186 Total unrestricted revenues, gains and other support 1,012, ,686 Expenses and Losses Salaries and wages 476, ,641 Employee benefits 113, ,686 Supplies 193, ,533 Professional fees 36,370 29,625 Other operating expenses 150, ,826 Depreciation and amortization 50,054 46,148 Interest ,000 Total expenses and losses 1,022, ,459 Operating Income (Loss) (9,234) 51,227 Other Income (Expense) Investment return 26,854 (1,010) Loss on extinguishment of debt - (4,815) Loss from partial pension plan termination - (11,163) Gain on investment in equity investees 2,526 2,409 Other (2,889) (7,832) Change in fair value of interest rate swap agreement Total other income (expense) 26,795 (22,108) Excess of Revenues Over Expenses $ 17,561 $ 29,119 See 4

7 Consolidated Statements of Operations and Changes in Net Assets (Continued) Years Ended (In thousands) Unrestricted Net Assets Excess of revenues over expenses $ 17,561 $ 29,119 Contributions for acquisition of property and equipment 9,499 2,813 Sales tax proceeds for acquisition of property and equipment 2, Other 3, Change in fair value of cash flow hedge Change in defined benefit pension plan gains and losses 10,720 (6,641) Distributions to noncontrolling interests (1,033) (27,069) Increase in unrestricted net assets 42, Temporarily Restricted Net Assets Contributions received and other 1, Investment return 1, Change in unrealized gains and losses on investments (193) (511) Change in value of split-interest agreements 153 (509) Change in interest in net assets of affiliated foundations Net assets released from restriction (8,789) (3,760) Decrease in temporarily restricted net assets (5,230) (3,710) Permanently Restricted Net Assets Change in value of split-interest agreements (18) - Contributions and other (133) 1,321 Increase (decrease) in permanently restricted net assets (151) 1,321 Change in Net Assets 37,077 (2,348) Net Assets, Beginning of Year 783, ,603 Net Assets, End of Year $ 820,332 $ 783,255 See 5

8 Consolidated Statements of Cash Flows Years Ended (In thousands) Operating Activities Change in net assets $ 37,077 $ (2,348) Items not requiring (providing) operating cash flow Depreciation and amortization 50,054 46,148 Gain on investment in equity investees (2,526) (2,409) Net (gains) losses on investments (21,480) 9,543 Restricted contributions, investment income received and other (3,408) (1,371) Contributions for acquisition of property and equipment and other (14,988) (4,632) Change in pension liabilities (12,991) 9,793 Loss on extinguishment of debt - 4,815 Distributions to noncontrolling interests 1,033 27,069 Other 208 (2,589) Changes in Patient accounts receivable, net (817) (6,124) Supplies, prepaid expenses and other (12,545) 1,036 Accounts payable and accrued expenses 1,987 17,967 Estimated amounts due from and to third-party payers (1,378) (3,657) Net cash provided by operating activities 20,226 93,241 Investing Activities Purchase of property and equipment (159,640) (87,837) Net change in trading securities 39,269 (29,461) Change in project fund 34,577 39,766 Distributions from equity investees and other investing activities 12,223 31,644 Net cash used in investing activities (73,571) (45,888) Financing Activities Principal payments on long-term debt (36,722) (78,609) Proceeds from issuance of long-term debt 30,702 69,970 Net borrowings on line of credit 4,000 - Payment on early extinguishment of debt - (4,336) Net activity from entrance deposits (694) (806) Proceeds from restricted contributions, investment income and other 4,086 3,767 Proceeds from contributions for acquisition of property and equipment 12,847 3,591 Distributions to noncontrolling interest (1,033) (27,069) Net cash provided by (used in) financing activities 13,186 (33,492) Increase (Decrease) in Cash and Cash Equivalents (40,159) 13,861 Cash and Cash Equivalents, Beginning of Year 73,282 59,421 Cash and Cash Equivalents, End of Year $ 33,123 $ 73,282 Supplemental Cash Flows Information Interest paid (net of amount capitalized) $ 990 $ 9,787 Note payable incurred from acquisition of building $ - $ 2,400 Asset retirement obligations incurred $ - $ 1,341 Change in capital expenditures included in accounts payable $ 4,394 $ 5,378 See 6

9 Note 1: Nature of Operations and Summary of Significant Accounting Policies Nature of Operations Baptist Health (the Corporation), is a not-for-profit charitable membership corporation that provides a wide range of health care related services in central Arkansas. The Corporation operates various divisions and companies providing these health care related services throughout Arkansas as described below. Baptist Health Medical Center Little Rock, Baptist Health Rehabilitation Institute, Baptist Health Medical Center North Little Rock, Baptist Health Medical Center Arkadelphia, Baptist Health Medical Center Heber Springs and Baptist Health Medical Center Hot Spring County are hospitals organized as divisions of the Corporation. Baptist Health Hospitals, Inc., a separate legal entity, operates Baptist Health Medical Center Stuttgart. Conway Community Services, a separate legal entity, operates Baptist Health Medical Center Conway. Baptist Health Extended Care Hospital Little Rock, Inc., also a separate legal entity, independently operates a long-term acute care hospital in Little Rock. When consolidated, these hospitals aggregate approximately 1,500 beds for patient care. The hospitals earn revenue by providing inpatient, outpatient and emergency services to patients in Little Rock, North Little Rock, Arkadelphia, Heber Springs, Malvern, Stuttgart, Conway and surrounding areas in Arkansas. The Corporation also owns 100% of Baptist Health Physician Partners, LLC, 51% of Ortho Arkansas Surgery Center, LLC, 60% of Complete Health with PACE and 57% of American Data Network, LLC. The Corporation has an investment in the following unconsolidated subsidiaries, which are accounted for using the equity method in as much as control rests with other parties: Entity Springhill Surgery Center, LLC The Partnership for a Healthy Arkansas, LLC The Corporation is the sole member of Diamond Risk Insurance, LLC (Diamond Risk), which is a special purpose captive insurance company organized under Arkansas law that commenced insurance operations on December 16, 2015, and insures certain risks of the Corporation. Any intercompany premium revenue and expense has been eliminated in consolidation. The Corporation is the sole member of Parkway Village, Inc., Parkway Health Center, Inc. and Arkansas Health Group. Parkway Village, Inc. is a retirement community in Little Rock that provides residential and recreational facilities and certain medical services to residents under longterm rental agreements. Parkway Health Center, Inc. provides residential care nursing services to residents in and around Little Rock. Arkansas Health Group provides physician services from clinics located throughout the Corporation s service area. Integrated Health Resources, Ltd., which is owned 100% by the Corporation, owns 100% of Medical Laboratories of Arkansas, Inc. (MLA). MLA performed laboratory procedures throughout the Corporation s service area before ceasing operations during Both Integrated Health Resources, Ltd. and MLA were dissolved during Baptist Health Foundation, Inc. (the Foundation) conducts fund-raising activities for the Corporation. 7

10 Multi-Management Services, Inc. (MMS) is a diversified holding company whose consolidated and unconsolidated subsidiaries primarily provide physician management services, radiology services, rental services and consulting services. MMS or its affiliates include the accounts of the following consolidated subsidiaries: Entity Hotel Properties, Inc. Baptist Medical System HMO, Inc. (BHMO) Baptist MedCare, Inc. d/b/a Practice Plus Baptist Imaging Benton, LLC Baptist Health Center for Clinical Research, LLC Autumn Road, LLC West Side Properties, Inc. Baptist Imaging Associates Two Financial Centre Holding Company LLC In December 2016, MMS discontinued the operations of Baptist Imaging Associates (BIA). The majority of BIA s revenues were generated from services provided to various facilities owned by Baptist Health and these related revenues and expenses have been eliminated in consolidation. Baptist Health has since assumed those services at the individual facility levels. MMS or its affiliates own investments in the following unconsolidated subsidiaries, which are accounted for using the equity method in as much as control rests with other parties: Entity Alliance Homecare, Inc. HMO Partners, Inc. d/b/a Health Advantage BHWC Corporation Maumelle Family Practice, LLC Surgical Pavilion, LLC Arkansas Medical Cyclotron, LLC (Relinquished December 7, 2016) Baptist-Urgent Team JV, LLC Dollar amounts included in tables throughout these footnotes are presented in thousands. Noncontrolling Interests Noncontrolling interests represent the following amounts not owned by the Corporation a 49% interest in Ortho Arkansas Surgery Center, LLC; a 49% interest in Baptist Health Center for Clinical Research; a 40% interest in Autumn Road, LLC; a 40% interest in Complete Health with PACE; and a 43% interest in American Data Network, LLC. Losses attributable to the noncontrolling interests are allocated to the noncontrolling interests even if the carrying amount of the noncontrolling interests is reduced below zero. 8

11 For the years ended, changes in consolidated unrestricted net assets attributable to the controlling financial interest of the Corporation and the noncontrolling interests are: Controlling Noncontrolling Total Interest Interests Balance, December 31, 2014 $ 752,981 $ 721,718 $ 31,263 Excess (deficiency) of revenues over expenses 29,119 32,337 (3,218) Contributions for acquisition of property and equipment and other 2,813 2, Sales tax proceeds for acquisition of property and equipment Other Change in defined benefit pension plan gains and losses (6,641) (6,641) - Distributions to noncontrolling interests (27,069) - (27,069) Increase (decrease) in unrestricted net assets 41 29,987 (29,946) Balance, December 31, , ,705 1,317 Excess of revenues over expenses 17,561 16, Contributions for acquisition of property and equipment 9,499 9, Sales tax proceeds for acquisition of property and equipment 2,315 2,315 - Other 3,174 2, Change in fair value of cash flow hedge Change in defined benefit pension plan gains and losses 10,720 10,720 - Distributions to noncontrolling interests (1,033) - (1,033) Increase in unrestricted net assets 42,458 41,297 1,161 Balance, December 31, 2016 $ 795,480 $ 793,002 $ 2,478 The change in temporarily restricted and permanently restricted net assets related solely to the controlling interest. Principles of Consolidation The consolidated financial statements include the accounts of the Corporation and its wholly owned or controlled subsidiaries. All material intercompany accounts and transactions have been eliminated in consolidation. 9

12 Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Cash and Cash Equivalents The Corporation considers all liquid investments with original maturities of three months or less to be cash equivalents, other than those included in assets limited as to use or held in brokerage accounts. At, cash equivalents consisted primarily of certificates of deposit. At December 31, 2016, the Corporation s cash accounts included in cash and cash equivalents exceeded federally insured limits by approximately $25,341,000 and the Corporation s cash accounts included in assets limited as to use exceeded federally insured limits by approximately $22,396,000. Investments and Investment Return Investments in equity securities having a readily determinable fair value and in all debt securities are carried at fair value. Investments in equity investees are reported using the equity method of accounting. Other investments are valued at the lower of cost (or fair value at time of donation, if acquired by contribution) or fair value. Investments in private equity funds and hedge funds are recorded at net asset value, as a practical expedient, to determine fair value of the investments. Investment return includes dividend, interest and other investment income; realized and unrealized gains and losses on investments carried at fair value; and realized gains and losses on other investments. Investment return that is initially restricted by donor stipulation and for which the restriction will be satisfied in the same year is included in unrestricted net assets. Other investment return is reflected in the statements of operations and changes in net assets as unrestricted, temporarily restricted or permanently restricted based upon the existence and nature of any donor or legally imposed restrictions. Split-Interest Agreements Funds held in trust by others are recorded at fair value based on the Corporation s share of the trust. Irrevocable charitable remainder trusts held by others are recorded as a contribution in the year the trust is established. The contribution is recorded at the fair value of the trust less the present value of the estimated future cash payments to the beneficiaries. 10

13 Assets Limited as to Use Assets limited as to use include (1) assets held by trustees; (2) assets restricted by donors; (3) assets set aside by the Board of Trustees (the Board) for future capital improvements or other specific uses over which the Board retains control and may, at its discretion, subsequently use for other purposes; and (4) Parkway Village residents funds held in escrow. Amounts required to meet current liabilities of the Corporation are included in current assets. Patient Accounts Receivable Accounts receivable are reduced by an allowance for doubtful accounts. In evaluating the collectability of accounts receivable, the Corporation analyzes its past history and identifies trends for each of its major payer sources of revenue to estimate the appropriate allowance for doubtful accounts and provision for uncollectible accounts. Management regularly reviews data about these major payer sources of revenue in evaluating the sufficiency of the allowance for doubtful accounts. For receivables associated with services provided to patients who have third-party coverage, the Corporation analyzes contractually due amounts and provides an allowance for doubtful accounts and a provision for uncollectible accounts, if necessary (for example, for expected uncollectible deductibles and copayments on accounts for which the third-party payer has not yet paid, or for payers who are known to be having financial difficulties that make the realization of amounts due unlikely). For receivables associated with self-pay patients (which include both patients without insurance and patients with deductible and copayment balances due for which third-party coverage exists for part of the bill), the Corporation records a significant provision for uncollectible accounts 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 or provided by policy, such as the uninsured discount policy as described in Note 2) and the amounts actually collected after all reasonable collection efforts have been exhausted is charged off against the allowance for doubtful accounts. The allowance for doubtful accounts decreased during 2016 primarily due to the Corporation serving fewer uninsured patients since the inception of the Arkansas Private Option, which is further described in Note 22. Supplies The Corporation states supply inventories at the lower of cost, determined using the first-in, firstout method, or market. 11

14 Property and Equipment Property and equipment acquisitions are recorded at cost and are depreciated using the straight-line method over the estimated useful life of each asset. Assets under capital lease obligations and leasehold improvements are depreciated over the shorter of the lease term or their respective estimated useful lives. The estimated useful lives for each major depreciable classification of property and equipment are as follows: Buildings and improvements Leasehold improvements Equipment 5 40 years 3 20 years 3 15 years Donations of property and equipment are reported at fair value as an increase in unrestricted net assets unless use of the assets is restricted by the donor. Monetary gifts that must be used to acquire property and equipment are reported as restricted support. The expiration of such restrictions is reported as an increase in unrestricted net assets when the donated asset is placed in service. The Corporation capitalizes interest costs as a component of construction in progress, based on interest costs of borrowing specifically for the projects funded by tax-exempt debt, net of interest earned on investments acquired with the proceeds of the borrowing. There was no such interest capitalized during Total such interest capitalized and incurred during 2016 was: Total interest expense incurred on borrowings for projects $ 6,802 Interest income from investment proceeds of borrowings for projects 21 Net interest cost capitalized $ 6,781 Interest capitalized $ 6,046 Interest charged to expense 756 Total interest incurred $ 6,802 12

15 The Corporation also capitalizes interest costs as a component of construction in progress for projects not funded by tax-exempt debt, based on the weighted-average rates paid for long-term borrowing. Total such interest incurred was: Interest costs capitalized $ 3,646 $ 532 Interest costs charged to expense ,000 Total interest incurred $ 3,828 $ 10,532 Long-lived Asset Impairment The Corporation evaluates the recoverability of the carrying value of long-lived assets whenever events or circumstances indicate the carrying amount may not be recoverable. If a long-lived asset is tested for recoverability and the undiscounted estimated future cash flows expected to result from the use and eventual disposition of the asset is less than the carrying amount of the asset, the asset cost is adjusted to fair value and an impairment loss is recognized as the amount by which the carrying amount of a long-lived asset exceeds its fair value. There was no impairment loss recorded during the years ended. Interest in Net Assets of Affiliated Foundations The Baptist Health Foundation Cleburne County, the Stuttgart Memorial Hospital Foundation and the Hot Spring County Medical Foundation (collectively Foundations) and the Corporation are financially interrelated organizations. These Foundations seek private support for, and hold net assets on behalf of, the Corporation s facilities that are located in Heber Springs, Stuttgart and Malvern, Arkansas, respectively. The Corporation accounts for its interest in the net assets of the Foundations (Interest) in a manner similar to the equity method. Changes in the Interest are included in change in net assets. Transfers of assets between the Foundations and the Corporation are recognized as increases or decreases in the Interest. Deferred Financing Costs Deferred financing costs represent costs incurred in connection with the issuance of long-term debt. Such costs are being amortized over the term of the respective debt using the straight-line method. 13

16 Deposits by Residents The nonrefundable portion of resident entrance deposits for Parkway Village, Inc. ranges from 5% to 15% during the first year of the residency agreement and increases by 5% each year thereafter until a maximum of 30% is reached. The maximum nonrefundable portion is dependent upon the residency agreement signed by each resident and the resident s length of stay. The total nonrefundable portion is recorded as deferred revenue and amortized to income over the remaining life expectancy of each resident. The refundable resident entrance deposits are recorded as a longterm liability except for the portion expected to be refunded within one year. In the event that resident agreements are terminated, the nonrefundable portion is recognized as revenue in the year of termination. Temporarily and Permanently Restricted Net Assets Temporarily restricted net assets are those whose use by the Corporation has been limited by donors to a specific time period or purpose. Permanently restricted net assets have been restricted by donors to be maintained by the Corporation in perpetuity. Net Patient Service Revenue The Corporation has agreements with third-party payers that provide for payments to the Corporation at amounts different from its established rates. Net patient service revenue is reported at the estimated net realizable amounts from patients, third-party payers and others for services rendered and includes estimated retroactive revenue adjustments. Retroactive adjustments are considered in the recognition of revenue on an estimated basis in the period the related services are rendered, and such estimated amounts are revised in future periods as adjustments become known. Charity Care The Corporation provides care without charge or at amounts less than its established rates to patients meeting certain criteria under its charity care policy. Because the Corporation does not pursue collection of amounts determined to qualify as charity care, these amounts are not reported as net patient service revenue. Contributions Unconditional gifts expected to be collected within one year are reported at their net realizable value. Unconditional gifts expected to be collected in future years are initially reported at fair value determined using the discounted present value of estimated future cash flows technique. The resulting discount is amortized using the level-yield method and is reported as contribution revenue. 14

17 Gifts received with donor stipulations are reported as either temporarily or permanently restricted support. When a donor restriction expires, that is, when a time restriction ends or purpose restriction is accomplished, temporarily restricted net assets are reclassified and reported as an increase in unrestricted net assets. Donor-restricted contributions whose restrictions are met within the same year as received are reported as unrestricted contributions. Conditional contributions are reported as liabilities until the condition is eliminated or the contributed assets are returned to the donor. Professional Liability and Workers Compensation Claims The Corporation recognizes an accrual for claim liabilities based on estimated ultimate losses and costs associated with settling claims. In addition, the Corporation recognizes a receivable for the estimated insurance recoveries, if any, for its subsidiaries that are for-profit corporations. A receivable is not recorded for the Corporation s not-for-profit subsidiaries based on Arkansas charitable immunity laws and case precedent. Professional liability and workers compensation claims are described more fully in Note 9. Income Taxes The Corporation and its wholly owned or controlled not-for-profit companies are exempt from income taxes under Section 501 of the Internal Revenue Code and a similar provision of state law; however, are subject to federal income tax on any unrelated business taxable income. The Corporation accounts for income taxes for all other taxable subsidiaries in accordance with income tax accounting guidance (ASC 740, Income Taxes) depending on legal structure. The Corporation s C-Corporations are subject to income tax and the income tax accounting guidance results in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of the enacted tax law to the taxable income or excess of deductions over revenues. The Corporation determines deferred income taxes using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences between the book and tax bases of assets and liabilities, and enacted changes in tax rates and laws are recognized in the period in which they occur. Deferred income tax expense results from changes in deferred tax assets and liabilities between periods. Deferred tax assets are reduced by a valuation allowance if, based on the weight of evidence available, it is more likely than not that some portion or all of a deferred tax asset will not be realized. The Corporation s limited liability companies are not directly subject to income taxes under the provisions of the Internal Revenue Code and applicable state law. Therefore, taxable income or loss is reported to the individual partners for inclusion in their respective tax returns, and no provision for federal and state income taxes has been included in the accompanying consolidated financial statements. The Corporation files tax returns in the U.S. federal jurisdiction. The Corporation and its subsidiaries are generally no longer subject to U.S. federal and state income tax examinations by tax authorities for income tax returns filed for years before

18 There were no material deferred tax items as of December 31, 2016 or In 2015, BHMO received approximately $30,784,000 in dividends from its equity investee, HMO Partners, Inc. d/b/a Health Advantage (see Note 7), and incurred income tax expense of approximately $3,953,000 as a result of this transaction. Total income tax expense for the Corporation s taxable subsidiaries was approximately $2,187,000 and $7,704,000 for 2016 and 2015, respectively, and is included in other nonoperating expenses on the consolidated statements of operations and changes in net assets. Excess of Revenues Over Expenses The consolidated statements of operations and changes in net assets include excess of revenues over expenses. Changes in unrestricted net assets that are excluded from excess of revenues over expenses, consistent with industry practice, include contributions of long-lived assets (including assets acquired using contributions, which by donor restriction were to be used for the purpose of acquiring such assets), distributions to noncontrolling interests, changes in fair value of cash flow hedge and changes in defined benefit pension plan gains and losses. Self-Insured Employee Health Claims The Corporation has elected to self-insure certain costs related to employee health claims. Costs resulting from uninsured losses are charged to income when incurred. The Corporation has purchased insurance that limits its annual exposure for individual claims to $500,000 per covered individual. Transfers Between Fair Value Hierarchy Levels Transfers in and out of Level 1 (quoted market prices), Level 2 (other significant observable inputs) and Level 3 (significant unobservable inputs) are recognized on the actual transfer date. Electronic Health Records Incentive Program The Electronic Health Records Incentive Program, enacted as part of the American Recovery and Reinvestment Act of 2009 (the Act), provides for one-time incentive payments under both the Medicare and Medicaid programs to eligible hospitals that demonstrate meaningful use of certified electronic health records (EHR) technology. Payments under the Medicare program are generally made for up to four years based on a statutory formula for prospective payment system hospital providers. Also under the Act, critical access hospitals are eligible to receive incentive payments beginning in the federal fiscal year in which meaningful use criteria have been met. The Medicare incentive payment is for qualifying costs of the purchase of certified EHR technology multiplied by the hospitals Medicare share fraction, which includes a 20% incentive. This payment is an acceleration of amounts that would have been received in future periods based on reimbursable costs incurred, including depreciation. If meaningful use criteria are not met in future periods, the hospitals are subject to penalties that would reduce future payments for services. 16

19 Payments under the Medicaid program are generally made for up to four years based upon a statutory formula, as determined by the state, which is approved by the Centers for Medicare & Medicaid Services. The final amount for any payment year under both programs is determined based upon an audit by the fiscal intermediary. Events could occur that would cause the final amounts to differ materially from the initial payments under the program. The Act also allows for payments to eligible professionals (EPs), under either the Medicare or Medicaid program. EPs can receive payments from the Medicare or Medicaid program but not both. The Corporation recognizes revenue ratably over the reporting period starting at the point when management is reasonably assured it will meet all of the meaningful use objectives and any other specific grant requirements applicable for the reporting period. The Corporation has recorded revenue of approximately $1,790,000 and $3,656,000 for 2016 and 2015, respectively, which is included in other revenue within operating revenues in the consolidated statements of operations and changes in net assets. Adoption of Accounting Standards Update (ASU) During 2016, the Corporation changed its method of classifying deferred tax assets and liabilities in accordance with ASU , Balance Sheet Classification of Deferred Taxes. The effect of the change was to classify all deferred tax assets and liabilities as noncurrent amounts. Comparative financial statements of prior years have not been retrospectively adjusted. The change was made prospectively as of the beginning of the year. Reclassifications Certain reclassifications have been made to the 2015 consolidated financial statements for the adoption of ASU , Interest Imputation of Interest (Subtopic ): Simplifying the Presentation of Debt Issuance Costs, that were deemed to be immaterial. Certain other reclassifications have been made to the 2015 consolidated financial statements to conform to the 2016 consolidated financial statement presentation. These reclassifications had no effect on the increase in net assets. Subsequent Events Subsequent events have been evaluated through the date of the Independent Auditor s Report, which is the date the consolidated financial statements were issued. A subsequent event is more fully described in Note

20 Note 2: Net Patient Service Revenue The Corporation recognizes patient service revenue associated with services provided to patients who have third-party payer coverage on the basis of contractual rates for the services rendered. For uninsured patients that do not qualify for charity care, the Corporation recognizes revenue on the basis of discounted rates for services provided that equals the discount Medicare and all private health insurers receive on a combined average basis. This percentage must be re-calculated every January and reset based on the prior years experience. On the basis of historical experience, a significant portion of the Corporation s uninsured patients will be unable or unwilling to pay for the services provided. Thus, the Corporation records a significant provision for uncollectible accounts related to uninsured patients in the period the services are provided. This provision for uncollectible accounts is presented on the consolidated statements of operations and changes in net assets as a component of net patient service revenue. The Corporation has agreements with third-party payers that provide for payments to the Corporation at amounts different from its established rates. A summary of the payment arrangements include: Medicare Most inpatient acute care services and outpatient services rendered to Medicare program beneficiaries are paid at prospectively determined rates. These rates vary according to a patient classification system that is based on clinical, diagnostic and other factors. Baptist Health Medical Center Heber Springs and Baptist Health Medical Center Arkadelphia are critical access hospitals whose services are paid based on a cost reimbursement methodology. The Corporation is reimbursed for certain services at tentative rates with final settlement determined after submission of annual cost reports by the Corporation and audits thereof by the Medicare administrative contractor. Medicaid Inpatient services rendered to Medicaid program beneficiaries are reimbursed under a cost reimbursement methodology subject to certain cost limitations. Outpatient services are reimbursed based on defined allowable charges. The Corporation is reimbursed at a tentative rate with final settlement determined after submission of annual cost reports by the Corporation and audits thereof by the Medicaid fiscal intermediary. In addition, the state of Arkansas enacted a form of Medicaid expansion, commonly referred to as the Arkansas Private Option (APO), which uses the expansion funding to purchase private insurance policies on health care exchanges for qualifying beneficiaries beginning January 1, The APO is further described in Note 22. The Corporation participates in the Arkansas Medicaid provider assessment program. Fee assessments of up to 5.5% of net patient service revenue are required by the program and assessment proceeds are used to generate supplemental Medicaid funding from the federal government. The Corporation participates in this program and records the payments to be received, net of assessed fees paid, in net patient service revenue in the period earned. The net amounts recorded under this program were approximately $15,695,000 and $16,329,000 for 2016 and 2015, respectively. 18

21 Laws and regulations governing the Medicare and Medicaid programs are complex and subject to interpretation and change. As a result, it is reasonably possible that recorded estimates will change materially in the near team. The Corporation also has entered into payment agreements with certain commercial insurance carriers, health maintenance organizations and preferred provider organizations. The basis for payment to the Corporation under these agreements includes prospectively determined rates per discharge, discounts from established charges and prospectively determined daily rates. Patient service revenue, net of contractual allowances and discounts (but before the provision for uncollectible accounts), recognized in the years ended, was approximately: Medicare $ 407,427 $ 414,438 Medicaid 70,546 57,414 Other third-party payers 367, ,322 Exchange 91,259 72,300 Self-pay 22,031 35,652 $ 958,611 $ 953,126 Note 3: Concentration of Credit Risk The Corporation grants credit without collateral to its patients, most of whom are area residents and are insured under third-party payer agreements. The mix of net receivables from patients and thirdparty payers at, is: Medicare 39 % 35 % Medicaid 7 9 Other third-party payers Self-pay % 100 % 19

22 Note 4: Investment and Investment Return Total investments at, include the following: Cash and cash equivalents $ 53,540 $ 64,884 Money market mutual funds 104, ,980 Marketable equity securities 75, ,327 Mutual funds 77,440 41,959 Alternative investments hedge funds 48,585 39,897 Alternative investments fund of funds 13,002 31,059 U.S. government and agency obligations 30,171 36,854 State and municipal obligations 23,281 46,339 Corporate debt obligations 42,774 37,065 Mortgage-backed securities 18,530 28,418 Held under split-interest agreements 3,241 3,351 Interest receivable 1,084 1,463 $ 492,192 $ 544,596 20

23 Total investments are included on the consolidated balance sheets under the following captions at : Current Assets Short-term investments and other $ 10,736 $ 11,349 Assets Limited as to Use Internally designated Capital improvements 332, ,210 Other uses 41,743 36,783 Held by trustee under indenture agreement Project fund 75, ,234 Externally restricted by donors 21,490 26,028 Other arrangements , ,449 Less amount required to meet current obligations 9,996 10, , ,964 Other Assets Investments 20,041 19,283 Total Investments $ 492,192 $ 544,596 Investment Return Total investment return is comprised of the following: Interest and dividend income $ 6,815 $ 8,316 Unrealized losses on trading securities (8,921) (12,115) Gains (losses) on alternative investments 9,702 (1,517) Realized gains on sales of securities 20,699 4,089 $ 28,295 $ (1,227) 21

24 Total investment return is reflected in the consolidated statements of operations and changes in net assets as follows: Unrestricted net assets Other nonoperating income (expense) $ 26,854 $ (1,010) Temporarily restricted net assets Investment return 1, Change in unrealized losses on investments (193) (511) $ 28,295 $ (1,227) Alternative Investments The fair value of alternative investments has been estimated using the net asset value per share of the investments. Alternative investments held at December 31 consist of the following: Fair Value Redemption Frequency Redemption Notice Period Hedge funds (A) $ 48,585 $ 39,897 Annually and Monthly 4 30 days Fund of funds (B) $ 13,002 $ 31,059 Suspendable days (A) (B) This category includes the following types of investments: 1) a hedge fund that is invested in equity securities of non-tobacco companies located in any country other than the United States or Canada; and 2) a hedge fund limited partnership that invests in any debt or equity securities with value to achieve long-term capital appreciation. The fund s composite portfolio includes investments in corporate bonds and publicly traded partnerships. This category includes the following types of investments: 1) a multi-strategy fund of funds based in the Cayman Islands that seeks to achieve long-term returns commensurate with the long-term returns in the general equity markets. The fund invests in four main sectors: long-short equity, event driven, relative value and global asset allocation; and 2) a multi-strategy fund of funds investing predominately in limited partnerships and similar pooled investment accounts. 22

25 Note 5: Deposits By Residents Deposits by residents of Parkway Village, Inc. consist of the following and are included under other long-term liabilities on the consolidated balance sheets at : Nonrefundable deposits $ 7,622 $ 8,007 Accumulated amortization (4,199) (4,405) Net nonrefundable deposits 3,423 3,602 Refundable deposits 15,713 16,993 Deposits from future residents ,161 20,621 Less current maturities 2,368 1,310 $ 16,793 $ 19,311 Note 6: Property and Equipment Property and equipment are stated at cost and are summarized at December 31 as follows: Land and land improvements $ 75,344 $ 76,825 Buildings 648, ,595 Equipment 416, ,234 Construction in progress 42,440 61,903 1,182,962 1,053,557 Less accumulated depreciation 600, ,242 $ 582,062 $ 478,315 The Corporation completed construction of a new 250,000 square-foot hospital facility in Conway, Arkansas, and commenced operations in September The total project cost was approximately $140,329,000 and has been reported in the consolidated balance sheets in property and equipment. 23

26 Note 7: Investments in Equity Investees The Corporation invests in various joint ventures accounted for using the equity method of accounting and reported as a component of long-term other assets on the consolidated balance sheets. The equity investment amounts recorded in other long-term assets on the consolidated balance sheets were approximately $38,710,000 and $38,066,000 as of December 31, 2016 and 2015, respectively. The financial position and operating results of these investees are summarized below: Current assets $ 126,150 $ 122,815 Property and other long-term assets, net 8,743 8,353 Total assets $ 134,893 $ 131,168 Total liabilities $ 57,876 $ 59,056 Equity $ 77,017 $ 72,112 Net revenues $ 230,082 $ 212,008 Net income $ 5,033 $ 4,914 Distributions $ 31,408 $ 64,177 During 2015, HMO Partners, Inc. d/b/a Health Advantage distributed approximately $61,568,000. Of that amount, $30,784,000 was distributed to BHMO to facilitate the purchase of its noncontrolling interest. Note 8: Contributions Receivable Contributions receivable at, were $2,249,000 and $3,529,000, respectively. The current portion is presented in supplies, prepaid expenses and other, and the remaining amounts are recorded in other long-term assets on the consolidated balance sheets. Included in these amounts are amounts due under split-interest agreements of $1,307,000 and $1,301,000 at, respectively. 24

27 Note 9: Professional Liability and Workers Compensation Claims The Corporation is self-insured for the first $1,000,000 per occurrence and $5,000,000 in the aggregate of medical malpractice risks for substantially all hospital operations. Beginning with the policy year effective December 16, 2015, the Corporation is responsible for the first $1,000,000 (known as the buffer) of claim expense, including expenses incurred associated with defense of claims, before the $1,000,000 per occurrence and $5,000,000 in the aggregate limits apply. Beginning December 16, 2015, these risks are insured by Diamond Risk. Diamond Risk obtains reinsurance from the commercial insurance industry to fulfill the excess umbrella policy of $50,000,000. Arkansas Health Group (AHG), a wholly owned subsidiary of the Corporation, has obtained a separate professional and general liability claims-made insurance policy on a fixed premium basis, which is used in conjunction with the excess umbrella policy of the Corporation. AHG s professional and general liability policy provides for coverage for the first $1,000,000 per claim and $3,000,000 in the aggregate for each employed physician and $1,000,000 per claim and $3,000,000 in the aggregate for AHG. This policy has no deductible. In the event any claims exceed AHG s individual coverage, the remaining excess reserve would be covered by the Corporation s excess umbrella policy up to $50,000,000. The Corporation has also elected to self-insure workers compensation claims and has purchased insurance coverage to limit its exposure to $750,000 per occurrence and $1,000,000 in the aggregate. The Corporation records a liability and related receivable for any claims exceeding the self-insured retention limit. Professional liability and workers compensation reserve estimates represent the estimated ultimate cost of all reported and unreported losses incurred through the respective consolidated balance sheet dates. The reserves for unpaid losses and loss expenses are estimated using individual casebasis valuations and actuarial analyses. Those estimates are subject to the effects of trends in loss severity and frequency. The estimates are continually reviewed, and adjustments are recorded as experience develops or new information becomes known. Such adjustments are included in current operations. The time period required to resolve these claims can vary depending upon whether the claim is settled or litigated. The estimation of the timing of payments beyond a year can vary significantly. Although considerable variability is inherent in professional liability reserve estimates, management believes the reserves for losses and loss expenses are adequate based on information currently known. It is reasonably possible that this estimate could change materially in the near term. The liabilities recorded on the consolidated balance sheets at, are summarized below: Current accrued expenses $ 3,922 $ 2,677 Long-term other liabilities 10,699 13,379 $ 14,621 $ 16,056 25