Cedars-Sinai Medical Center Years Ended June 30, 2009 and 2008 With Report of Independent Auditors

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1 A UDITED C ONSOLIDATED F INANCIAL S TATEMENTS AND O THER F INANCIAL I NFORMATION Cedars-Sinai Medical Center Years Ended June 30, 2009 and 2008 With Report of Independent Auditors Ernst & Young LLP

2 Audited Consolidated Financial Statements and Other Financial Information Years Ended June 30, 2009 and 2008 Contents Report of Independent Auditors...1 Audited Consolidated Financial Statements Consolidated Balance Sheets...2 Consolidated Statements of Activities...4 Consolidated Statements of Cash Flows...6 Notes to Consolidated Financial Statements...7 Other Financial Information Report of Independent Auditors on Other Financial Information...35 Consolidating Balance Sheets...36 Consolidating Statements of Activities...40

3 Report of Independent Auditors Ernst & Young LLP Suite South Figueroa Street Los Angeles, CA Tel: Fax: Board of Directors Cedars-Sinai Medical Center We have audited the accompanying consolidated balance sheets of Cedars-Sinai Medical Center (the Medical Center) as of June 30, 2009 and 2008, and the related consolidated statements of activities and cash flows for the years then ended. These financial statements are the responsibility of the Medical Center s management. 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. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Medical Center s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Medical Center s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Cedars-Sinai Medical Center at June 30, 2009 and 2008, and the consolidated changes in its net assets and its cash flows for the years then ended in conformity with U.S. generally accepted accounting principles. October 2, 2009 ey A member firm of Ernst & Young Global Limited 1

4 Consolidated Balance Sheets Assets Current assets: Cash and cash equivalents 127,525 June $ $ 146,734 Investments 301, ,001 Board designated assets 294, ,277 Current portion of assets limited as to use 8,524 9,808 Patient accounts receivable, less allowance for uncollectible accounts of $168,558 in 2009 and $128,295 in , ,674 Inventory 14,484 13,022 Prepaid expenses and other assets 48,890 41,207 Total current assets 1,210,405 1,200,723 Assets limited as to use, less current portion 4,439 5,233 Property and equipment, net 1,010, ,693 Investments 148, ,484 Assets restricted for the acquisition of property and equipment 4,132 3,676 Pledges receivable 64,617 97,106 Permanently restricted assets 195, ,665 Other assets 34,775 43,919 Total assets $ 2,672,883 $ 2,600,499 2

5 Liabilities and net assets Current liabilities: Accounts payable and other accrued liabilities 171,530 June $ $ 149,273 Due to third-party payers 12,143 12,996 Accrued payroll and related liabilities 163, ,429 Current maturities of long-term debt 13,740 12,995 Total current liabilities 361, ,693 Long-term debt, less current maturities 697, ,889 Accrued workers compensation and malpractice insurance claims, less current portion 50,202 48,375 Other liabilities 47,260 35,022 Commitments and contingencies Net assets: Unrestricted 1,099,421 1,057,970 Temporarily restricted 221, ,885 Permanently restricted 195, ,665 Total net assets 1,517,111 1,483,520 Total liabilities and net assets $ 2,672,883 $ 2,600,499 See accompanying notes. 3

6 Consolidated Statements of Activities Unrestricted net assets activity Unrestricted revenues, gains and other support: Net patient service revenues 2,031,480 Year ended June $ $ 1,782,288 Premium revenues 56,816 55,007 Other operating revenues 96,952 99,679 Investment loss associated with operations (6,727) (3,418) Net assets released from restrictions 101, ,452 Total unrestricted revenues, gains and other support 2,280,275 2,042,008 Expenses: Salaries and related costs 1,020, ,562 Professional fees 75,803 70,400 Materials, supplies and other 741, ,630 Interest 31,000 33,096 Depreciation and amortization 84,141 77,856 Provision for uncollectible accounts 194, ,707 Total expenses 2,146,854 1,888,251 Operating income 133, ,757 Investment (loss) income associated with future operating and capital needs (58,497) 6,769 Excess of revenues over expenses 74, ,526 Net assets released from restrictions used for the purchase of property and equipment 365 9,655 Effect of adoption of measurement provisions of FASB Statement No. 158 (2,411) Amortization of prior service costs and unrecognized losses (33,838) 3,835 Increase in unrestricted net assets $ 41,451 $ 171,605 See accompanying notes. 4

7 Consolidated Statements of Activities (continued) Year ended June Increase in unrestricted net assets $ 41,451 $ 171,605 Temporarily restricted net assets activity Contributions and grants 77, ,764 Investment income 7,161 6,703 Net assets released from restrictions (102,119) (118,107) (Decrease) increase in temporarily restricted net assets (17,937) 2,360 Permanently restricted net assets activity Contributions 9,976 13,849 Investment income added to corpus Increase in permanently restricted net assets 10,077 13,950 Increase in net assets 33, ,915 Net assets at beginning of year 1,483,520 1,295,605 Net assets at end of year $ 1,517,111 $ 1,483,520 See accompanying notes. 5

8 Statements of Cash Flows Year ended June Operating activities Increase in net assets $ 33,591 $ 187,915 Adjustments to reconcile increase in net assets to net cash provided by operating activities: Depreciation and amortization 84,141 77,856 Provision for uncollectible accounts 194, ,707 Unrealized losses on investments 56,500 44,318 Effect of adoption of measurement provisions of FASB Statement No ,411 Changes in operating assets and liabilities: Patient accounts receivable (265,300) (126,621) Inventory, prepaid expenses and other current assets (9,145) 2,166 Accounts payable and other accrued liabilities 22,257 17,558 Due to third-party payers (853) 6,655 Accrued payroll and related liabilities 17,270 10,446 Net cash provided by operating activities before net sales (purchases) of trading investments 132, ,411 Net sales (purchases) of trading investments 51,349 (317,484) Net cash provided by operating activities 184,294 39,927 Investing activities Expenditures for property and equipment (166,752) (136,360) Decrease (increase) in other assets 8,491 (5,648) Decrease (increase) in pledges receivable 32,489 (8,189) Net purchases of alternative investments (68,993) (19,168) (Increase) decrease in assets restricted for the acquisition of property and equipment (456) 4,482 Increase in permanently restricted assets (10,077) (13,950) Net cash used in investing activities (205,298) (178,833) Financing activities Principal payments on long-term debt (12,995) (12,305) Increase in other long-term liabilities 14,790 6,124 Net cash provided by (used in) financing activities 1,795 (6,181) Decrease in cash and cash equivalents (19,209) (145,087) Cash and cash equivalents beginning of year 146, ,821 Cash and cash equivalents end of year $ 127,525 $ 146,734 Supplemental cash flow information: Interest paid $ 31,191 $ 36,716 See accompanying notes. 6

9 Notes to Consolidated Financial Statements June 30, Summary of Significant Accounting Policies Organization Cedars-Sinai Medical Center, a California nonprofit public benefit corporation (the Medical Center), is tax-exempt under the provisions of the Internal Revenue Code and applicable provisions of the Franchise Tax Code of the state of California. The accounts of the Medical Center include the following significant affiliate/subsidiary organizations: The Medical Center is the sole corporate member of Cedars-Sinai Medical Care Foundation, a California nonprofit public benefit corporation (Foundation). The Foundation is tax exempt under the provisions of the Internal Revenue Code and applicable provisions of the Franchise Tax Code of the state of California and operates and maintains multispecialty clinics. Greater Valley Management Services Organization Inc. (the Greater Valley MSO) is a wholly owned for-profit subsidiary, which provided comprehensive medical management services to medical and physician practice groups under management services agreements. These agreements were terminated during 2001, and currently Greater Valley MSO does not conduct any business activities, although it continues to be obligated under certain office space leases until The consolidated financial statements include the accounts of the Medical Center, the Foundation and the Greater Valley MSO. All significant intercompany transactions and balances have been eliminated in consolidation. Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States 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. Estimates also affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. 7

10 1. Summary of Significant Accounting Policies (continued) Net Patient Service Revenues The Medical Center and the Foundation have agreements with third-party payers that provide for payments to the Medical Center and Foundation at amounts different from established rates. Payment arrangements include prospectively determined rates per discharge, reimbursed costs, discounted charges, and per diem payments. Net patient service revenues are reported at the estimated net realizable amounts from patients, third-party payers, and others for services rendered, including estimated retroactive adjustments under reimbursement agreements with third-party payers. The Medical Center and Foundation are reimbursed for services provided to patients under certain programs administered by governmental agencies. Laws and regulations governing the Medicare and Medicaid programs are complex and subject to interpretation. Compliance with such laws and regulations can be subject to future governmental review and interpretation, as well as significant regulatory action including fines, penalties, and exclusion from the Medicare and Medicaid programs. The Medical Center and Foundation believe that they are in compliance with all applicable laws and regulations and are not aware of any pending or threatened investigations involving allegations of potential wrongdoing. The administrative procedures related to the cost reimbursement programs in effect generally preclude final determination of amounts due until cost reports are audited or otherwise reviewed and settled upon with the applicable administrative agencies. Estimation differences between final settlements and amounts accrued in previous years are reported as adjustments of the current year s net patient service revenue. In the opinion of management, adequate provision has been made for adjustments, if any, that might result from subsequent review. During 2009 and 2008, the Medical Center received information requiring changes in its estimates of the settlements due for certain open cost report years. Based on this information, adjustments to the open cost report years increased net patient service revenues and operating income by $7,372 and $10,139 for the years ended June 30, 2009 and 2008, respectively. Premium Revenues and Related Costs The Foundation has agreements with various health maintenance organizations (HMOs) to provide medical services to subscribing participants. Under these agreements, the Foundation receives monthly capitation payments based on the number of each HMO s participants, regardless of services actually performed by the Foundation. Such payments are recorded as premium revenues. 8

11 1. Summary of Significant Accounting Policies (continued) The costs of health services provided by other health care providers to the participants, including administrative costs and out-of-area or emergency services, are included in professional fees, and totaled approximately $26,621 and $27,037 for the years ended June 30, 2009 and 2008, respectively. Such costs are accrued in the period in which the services are provided based in part on estimates, including an accrual for services provided by others but not reported to the Foundation. Provision for Uncollectible Accounts The Medical Center establishes an allowance for uncollectible accounts based on many factors, including payer mix, age of receivables, historical cash collection experience and other relevant information. The Medical Center writes down the expected reimbursement after reasonable collection efforts have been exhausted. Excess of Revenues Over Expenses The consolidated statements of activities include the excess of revenues over expenses, which is considered the performance indicator. Changes in unrestricted net assets which are excluded from the excess of revenues over expenses, consistent with industry practice, include contributions of long-lived assets (including assets acquired using contributions which by donor restrictions were to be used for the purposes of acquiring such assets) and changes in pension liabilities. Care of the Poor and Community Benefit The Medical Center s mission is to improve the health status of our community regardless of the patient s ability to pay, including charity patients. A patient is classified as a charity patient in accordance with certain established policies of the Medical Center. Essentially, these policies define charity services as those services for which no payment is anticipated. The Medical Center provides programs and activities that contribute to charity care, care of the poor and community benefit. These programs and activities serve a majority of persons who are beneficiaries of Medi-Cal, county, state and federal programs for which the costs of providing 9

12 1. Summary of Significant Accounting Policies (continued) the services are not fully reimbursed. Also included are activities that improve the community s health status, and educate or provide social services to the elderly and children. The costs associated with these programs and activities are as follows for the years ended June 30: Traditional Charity Care and Uninsured Patients (Category 1) $ 33,177 $ 31,940 Unpaid Cost of State Programs (Category 2) 75,426 77,452 Unpaid Cost of Specialty Government Programs (Category 3) 4,931 2,531 Unpaid Cost of Federal Programs (Category 4) 180, ,319 Community Benefit (Category 5) 59,279 46,897 $ 353,212 $ 317,139 The Medical Center uses five categories to classify care of the poor and community benefit: Category 1: Traditional Charity Care and Uninsured Patients (care of the poor) includes the cost of services provided to persons who cannot afford health care because of inadequate resources and/or who are uninsured or underinsured. If there is any subsidy donated for these services, that amount is deducted from the gross amount. Category 2: Unpaid Cost of State Programs also benefits the poor, but is listed separately. This amount represents the unpaid cost of services provided to patients in the Medi-Cal program and enrolled in HMO and PPO plans under contract with the Medi-Cal program. Category 3: Unpaid Costs of Specialty Government Programs also provides community benefit under such programs as the Veterans Administration, Los Angeles Police Department, Short Doyle, proposition 99 and other programs to benefit the poor. This amount represents the unpaid cost of services provided to patients in these various programs. If this community benefit was not provided, the federal, state or local governments would need to furnish these services. 10

13 1. Summary of Significant Accounting Policies (continued) Category 4: Unpaid Cost of Federal Programs primarily benefits the elderly. This amount represents the unpaid cost of services provided to patients in the Medicare program and enrolled in HMO and PPO plans under contract with the Medicare program. Included in these amounts are $51,903 and $21,562 for the years ended June 30, 2009 and 2008, respectively, of unpaid cost of services provided to patients in the Medicare program that are also in the Medi-Cal program. Category 5: Community Benefit cost of services that are beneficial to the broader community; i.e., other needy populations that may not qualify as poor but that need special services and support. Examples include the elderly, substance abusers, the homeless, victims of child abuse and persons with AIDS. They also include the cost of health promotion and education, health clinics and screenings, and medical research. Inventory Inventory is stated at cost (using the first-in, first-out method) which is not in excess of market value. Property and Equipment Property and equipment acquisitions are recorded at cost. Depreciation is provided over the estimated useful life of each class of depreciable asset and is computed using the straight-line method. Interest costs incurred during the period of construction of capital assets are capitalized as a component of the cost of acquiring those assets. Gifts of long-lived assets such as land, buildings, or equipment that do not contain explicit donor stipulations that specify how the donated assets must be used are reported as unrestricted support, and are excluded from operating income. Gifts of long-lived assets with explicit restrictions that specify how the assets are to be used and gifts of cash or other assets that must be used to acquire long-lived assets are reported as restricted support. Absent explicit donor stipulations about how long those long-lived assets must be maintained, expirations of donor restrictions are reported when the donated or acquired long-lived assets are placed in service. 11

14 1. Summary of Significant Accounting Policies (continued) Software Development Costs The Medical Center accounts for software development costs in accordance with Statement of Position 98-1 Accounting for the Costs of Computer Software Developed or Obtained for Internal Use. All costs incurred in the planning stage of developing the software are expensed as incurred as are internal and external training costs and maintenance costs. External and internal costs, excluding general and administrative costs and overhead costs, incurred during the applicable development stage of internally used software are capitalized. Such costs include external direct costs of materials and services consumed in development or obtaining the software, payroll and payroll-related costs for employees who are directly associated with and who devote time to developing the software. Development changes that result in appropriate functionality to the software, which enable it to perform tasks that it was previously incapable of performing, are also capitalized. Capitalized internal use software development costs are amortized on a straight-line basis over their estimated useful life of three to seven years. Amortization begins when all substantial testing of the software is completed and the software is ready for its intended use. Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of The Medical Center accounts for the impairment and disposition of long-lived assets in accordance with Statement of Financial Accounting Standards (SFAS) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. In accordance with SFAS No. 144, long-lived assets to be held are reviewed for events or changes in circumstances that indicate that their carrying value may not be recoverable. The Medical Center determined that no assets are impaired at June 30, Board Designated Assets Board designated assets include investments designated by the Medical Center s Board of Directors (Board) for future capital expenditures, physician programs, academic programs and fund raising. However, the Board retains control of these assets and will, at its discretion and if necessary, use these assets for operating purposes. As a result, board designated assets are included in current assets. 12

15 1. Summary of Significant Accounting Policies (continued) Assets Limited as to Use Assets limited as to use include assets held by trustees that are restricted under bond indentures for the acquisition of property and equipment and restricted for the payment of self-insurance liabilities. The current portion of assets limited as to use includes amounts that will be used to pay self-insurance liabilities classified as current liabilities. Investments The Medical Center has designated its investments in equity securities with readily determinable fair values and all investments in debt securities as trading in accordance with the AICPA Audit and Accounting Guide: Health Care Organizations. Those securities are measured at fair value in the accompanying consolidated balance sheets. Fair value is established based on quoted prices from recognized securities exchanges. Management determines the appropriate classification of all investments at the date of purchase and reevaluates such designations at each consolidated balance sheet date. Investment income or loss included in temporarily restricted net assets (including realized and unrealized gains and losses on investments, interest and dividends) is reported as unrestricted net assets activity unless the income or loss is restricted by donor or law. Alternative Investments Certain of the Medical Center s investments are made through alternative investments, which include investments in limited partnerships and limited liability companies. These investments provide the Medical Center with a proportionate share of the entities gains and losses. The Medical Center generally contracts with fund managers who have full discretionary authority over investment decisions. The Medical Center accounts for its ownership interests in the partnerships using the equity method of accounting, which is included in investment income in the accompanying consolidated statements of activities. As of June 30, 2009 and 2008, these alternative investments comprised approximately 28% and 23%, respectively, of the Medical Center s total cash, cash equivalents and investments. 13

16 1. Summary of Significant Accounting Policies (continued) Deferred Financing Costs Costs incurred in obtaining long-term financing are amortized over the term of the related debt using the effective interest method. Unamortized deferred financing costs were $8,279 and $8,885 at June 30, 2009 and 2008, respectively, and are included in other assets. Medical Malpractice Insurance The Medical Center is self-insured for the first $3,000 in professional malpractice and general liability losses per occurrence effective October 1, 2005, and was self-insured for the first $2,000 effective October 1, 2004, and $1,000 for prior periods. The Medical Center purchases excess insurance coverage resulting in total coverage of $100,000 per occurrence insuring all employees, volunteers and members of the medical staff. Effective for the year beginning October 1, 2005, the insurance purchased provided a $10,000 annual aggregate excess of the first $1,000 for every claim. The Medical Center had no aggregate limit for the three years beginning October 1, 2002, and had an $8,000 aggregate limit for the two years beginning October 1, 2000, and $5,000 for the year beginning October 1, Accruals for uninsured claims and claims incurred but not reported are estimated by an actuary based on the Medical Center s claims experience. Such accruals, which totaled $42,327 and $40,113 at June 30, 2009 and 2008, respectively, are recorded using a 6% discount factor. Workers Compensation Insurance The Medical Center carries workers compensation insurance insuring employees with a selfinsured primary limit of $1,000 effective February 1, 2005, $750 from February 1, 2004 through January 31, 2005, $500 from February 1, 2002 through January 31, 2004, and decreasing amounts in earlier years. Accruals for uninsured claims and claims incurred but not reported are estimated by an actuary based upon the Medical Center s claims experience. Such accruals, which totaled $32,676 and $29,996 at June 30, 2009 and 2008, respectively, are recorded using a 6% discount factor. Cash Equivalents The Medical Center considers all highly liquid debt instruments with maturity dates at the time of purchase of three months or less to be cash equivalents. 14

17 1. Summary of Significant Accounting Policies (continued) Donor-Restricted Gifts Unconditional promises to give cash and other assets are reported at fair value at the date the promise is received. Conditional promises to give cash and indications of intentions to give are not recognized until the conditions are satisfied or removed. The gifts are reported as either temporarily or permanently restricted support if they are received with donor stipulations that limit the use of the donated assets. When a donor restriction expires, that is, when a stipulated time restriction ends or purpose restriction is accomplished, temporarily restricted net assets are reclassified as unrestricted net assets and reported in the consolidated statements of activities as net assets released from restrictions. Donor-restricted contributions whose restrictions are met within the same year as received are reflected as unrestricted contributions in the accompanying consolidated financial statements. Fair Value of Financial Instruments The Medical Center s consolidated balance sheets include the following financial instruments: cash and cash equivalents, investments, patient accounts receivable, accounts payable and other accrued liabilities, pension related balances, and long-term obligations. The Medical Center considers the carrying amounts of current assets and liabilities in the consolidated balance sheets to approximate the fair value of these financial instruments because of the relatively short period of time between origination of the instruments and their expected realization. Pledges receivable accrued workers compensation, malpractice insurance claims and pension balances are recorded at their estimated present value using appropriate discount rates. Marketable securities are recorded at fair value based on quoted prices from recognized security exchanges and other methods as further described in Note 5. Alternative investments are recorded using the equity method of accounting, which approximates fair value. Tax-exempt financings are carried at amortized cost. The fair value of tax-exempt financings is estimated based on current market rates as further described in Note 3. Income Taxes The Medical Center and its related affiliates, except for Greater Valley MSO, have been determined to qualify as exempt from federal and state income taxes under 501(a) as organizations described in Section 501(c)(3) of the Code. 15

18 1. Summary of Significant Accounting Policies (continued) Most of the income received by the Medical Center is exempt from taxation, as income related to the mission of the organization. Accordingly, there is no material provision for income tax for these entities. However, some of the income received by the exempt entities is subject to taxation as unrelated business income. The Medical Center and its subsidiaries file federal and state income tax returns. In June 2006, the Financial Accounting Standards Board (FASB) issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes (FIN No. 48), which clarified the accounting for uncertainty in income tax positions recognized in financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes. FIN No. 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. The Medical Center adopted the provisions of FIN No. 48 effective July 1, In conjunction with this adoption, the Medical Center reviewed and catalogued its tax positions in relation to the requirements of FIN No. 48, and determined the impact on its consolidated financial position and results of operations was not material. Adoption of New Accounting Principles In September 2006, the FASB issued Statement of Financial Accounting Standards (SFAS) No. 157, Fair Value Measurements. SFAS No. 157 provides guidance for using fair value to measure assets and liabilities. The standard expands required disclosures about the extent to which the Medical Center and its affiliates measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurement on earnings. SFAS No. 157 applies whenever other standards require (or permit) assets or liabilities to be measured at fair value. SFAS No. 157 does not expand the use of fair value in any new circumstances. The Medical Center and its affiliates adopted SFAS No. 157 on July 1, There was no impact on the consolidated assets, liabilities or net assets as a result of the adoption of SFAS No In accordance with the provisions of FASB Staff position No (FSP 157-2), effective date of FASB Statement No. 157, the Medical Center has elected to defer implementation of SFAS No. 157 until July 1, 2009 as it relates to the Medical Center s nonfinancial assets and liabilities that are not permitted or required to be measured at fair value on a recurring basis. The Medical Center is evaluating the impact, if any, FSP will have on those nonfinancial assets and liabilities. 16

19 1. Summary of Significant Accounting Policies (continued) In September 2006, the FASB issued SFAS No. 158, Employees Accounting for Defined Benefit Pension and Other Postretirement Plans. SFAS No. 158 requires an employer to recognize the overfunded or underfunded status of a defined benefit postretirement plan as an asset or liability in its balance sheets and to recognize changes in that funded status in the year in which the changes occur through changes in unrestricted net assets (the recognition and disclosure provisions). Additionally, SFAS No. 158 requires an employer to measure a defined benefit postretirement plan s assets and obligations that determine its funded status as of the end of the employer s fiscal year (the measurement date provisions). The Medical Center adopted the recognition and disclosure provisions of SFAS No. 158 effective June 30, The Medical Center adopted the measurement date provisions of SFAS No. 158 for its fiscal year ended June 30, As a result of the adoption of the measurement date provisions of SFAS No. 158, the Medical Center reduced other assets and decreased unrestricted net assets by $2,411. In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities Including an Amendment of SFAS No. 115, which, among other things, permits entities to choose to measure many financial instruments and certain other items at fair value. SFAS No. 159 was issued to improve financial reporting by providing entities the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply the complex hedge accounting provisions of SFAS No The Medical Center and its affiliates adopted SFAS No. 159 on July 1, As a result of adopting SFAS No. 159, the Medical Center and its affiliates did not elect fair value accounting for any assets or liabilities that were not previously required to be measured at fair value. In August 2008, the FASB issued FASB Staff Position No (FSP 117-1), Endowments of Not-for-Profit Organizations: Net Assets Classification of Funds Subject to the Enacted Versions of the Uniform Prudent Management of Institutional Funds Act (UPMIFA), and Enhanced Disclosures for All Endowment Funds. FSP is intended to improve the quality and consistency of financial reporting of endowments held by not-for-profit organizations. FSP provides guidance on classifying the assets associated with donor-restricted endowment funds held by organizations subject to an enacted version of the UPMIFA, which serves as a model act for states to modernize their laws governing donor-restricted endowment funds. FSP also requires additional disclosures about endowments (both donor-restricted funds and boarddesignated funds) for all organizations, including those not yet subject to an enacted version of the UPMIFA. The Medical Center and its affiliates adopted FSP as of July 1, The adoption did not have a material impact on the Medical Center s consolidated financial statements. 17

20 1. Summary of Significant Accounting Policies (continued) The Medical Center and its affiliates adopted SFAS No. 165, Subsequent Events, which establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. It requires the disclosure of the date through which an entity has evaluated subsequent events and the basis for selecting that date, that is, whether that date represents the date the financial statements were issued or were available to be issued. SFAS No. 165 is effective for interim or annual periods ending after June 15, The adoption of SFAS No. 165 did not have a material effect on the consolidated financial statements of the Medical Center. Recent Accounting Pronouncements In May 2009, the FASB issued SFAS No. 164, Not-for-Profit Organizations: Mergers and Acquisitions. SFAS No. 164 establishes the framework for financial accounting and reporting for not-for-profit mergers and acquisitions and intangible assets. SFAS No. 164 is effective for mergers and acquisitions on or after December 15, The Medical Center is currently evaluating the effect, if any, on its consolidated financial statements. In June 2009, the FASB issued SFAS No. 168, The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles. SFAS No. 168 establishes the FASB Accounting Standards Codification as the single source of authoritative U.S. GAAP to be applied by nongovernmental entities. SFAS No. 168 is effective for financial statements issued for interim and annual periods ending after September 15, The Medical Center is currently evaluating the effect, if any, on its consolidated financial statement disclosures. 2. Property and Equipment Property and equipment consists of the following at June 30: Land $ 26,014 $ 26,014 Buildings and land improvements 1,154,895 1,105,739 Equipment and software 589, ,587 Equipment under capital leases 1,351 1,351 Construction in process 109, ,524 1,880,967 1,714,215 Less accumulated depreciation 870, ,522 $ 1,010,281 $ 928,693 18

21 2. Property and Equipment (continued) Construction in process consists of the following at June 30: Buildings and land improvements $ 61,389 $ 61,465 Equipment 2,957 9,210 Computer systems and software 42,471 44,112 Capitalized interest 2,367 1,737 $ 109,184 $ 116,524 If each project included in construction in process were placed in service at June 30, 2009, at the costs capitalized at that date, the Medical Center s annual depreciation would increase by approximately $9,477 (unaudited). This estimate of incremental annual depreciation is subject to change as additional costs are incurred to complete these projects. The Medical Center estimates that it will cost approximately $770,000 (unaudited) to complete the projects currently under construction. During fiscal 2006, the Medical Center completed the construction of a new patient care tower. The Federal Emergency Management Agency (FEMA) provided a $29,565 grant to enhance the earthquake resistance of the patient care tower. At June 30, 2009, $28,959 of these funds have been received. The remaining monies under this grant have been withheld pending audit and the Medical Center cannot determine when such audit will take place or be completed. These funds were restricted for the purpose of repairing or reconstructing certain acute care hospital facilities under the Seismic Hazard Mitigation Program for Hospitals (SHMPH). In exchange, FEMA holds an eight-year lien against the reconstructed or rehabilitated facility in the amount of the funds granted and is entitled to withhold or recover all or a portion of the SHMPH funds if the Medical Center experiences a Change in Function or a Change in Status, as defined under SHMPH. The Medical Center is obligated to reimburse FEMA if the rehabilitated facility is either no longer operated and maintained as an acute care inpatient hospital (change in function), or if a material amount of the facility s assets are sold, transferred, leased or disposed of to a for profit entity (change in status). The liens held by FEMA expire at various dates through Beginning in 2006, the amount received is being amortized as a reduction of depreciation expense over the life of the patient care tower. 19

22 3. Long-Term Debt Long-term debt consists of the following at June 30: $518,820 Revenue Bonds, Series 2005, principal payments of $7,465 to $42,270 are due annually through 2035; interest is payable semiannually at 5%; the amount reported includes unamortized premium of $15,713 and $16,664 at June 30, 2009 and 2008, respectively. $ 524,498 $ 532,914 $106,555 Insured Revenue Bonds, Series 1997A, principal payments of $230 to $11,010 are due annually through 2028; interest is payable semiannually at 4.75% to 5.25% 101, ,080 $63,445 Insured Revenue Bonds, Series 1997B, principal payments of $700 to $6,890 are due annually through 2028; interest is payable semiannually at 4.75% to 5.125% 60,490 61,005 $108,825 Hospital Revenue Certificates of Participation, Series 1992, principal payments of $5,255 to $6,830 are due annually through 2013; interest is payable semiannually at 6.5% 24,090 28, , ,884 Less current maturities 13,740 12,995 $ 697,198 $ 711,889 A portion of proceeds from the 2005 Series bonds were placed in an irrevocable trust and will be used to pay interest and retire the 1999 Series bonds on December 1, This legally released the Medical Center from further obligations on the 1999 Series Bonds. As such, the funds placed into the irrevocable trust and the obligations on the 1999 Series Bonds are not included in the Medical Center s consolidated financial statements. The $430,000 defeased on the 1999 Series Bonds remains outstanding at June 30, The fair value of the tax-exempt financings, based on current market rates for debt of the same risk and maturities, was estimated to be $638,031 and $699,613 at June 30, 2009 and 2008, respectively. 20

23 3. Long-Term Debt (continued) Revenue of the Medical Center (excluding the Foundation) is pledged to secure the payment of the principal and interest on all bonds and certificates under a Master Trust Indenture (Indenture). The Indenture contains covenants restricting additional debt and providing for the maintenance of certain financial ratios. The Medical Center was in compliance with these covenants at June 30, The Medical Center has a $50,000 credit agreement (the Agreement) with a bank that expires in September The Medical Center may borrow under the Agreement at the Eurodollar rate plus a premium of.35% to 1.25% based on the Medical Center s Moody s rating. The June 30, 2009, rate was the Eurodollar rate plus.4%. Under the Agreement, the Medical Center pays an annual commitment fee based on the unused commitment; this rate varies from.06% to.25% based on the Medical Center s Moody s rating and the rate at June 30, 2009 was.08%. The Agreement contains provisions providing for the maintenance of certain financial ratios. The Medical Center was in compliance with these covenants at June 30, The Agreement is secured on a parity basis under the Indenture with the tax-exempt financings of the Medical Center. No amounts have been borrowed under the Agreement. The combined aggregate amount of maturities and sinking fund requirements (excluding the unamortized premium of $15,713 at June 30, 2009) for the five fiscal years succeeding June 30, 2009, and thereafter, is as follows: 2010 $ 13, , , , ,140 Thereafter 618,205 $ 695,225 For the years ended June 30, 2009 and 2008, interest costs incurred totaled $35,871 and $36,498, respectively, of which $4,871 and $3,402, respectively, was capitalized as part of the cost of construction in process. 21

24 4. Retirement Plans During 1990, the Board authorized the suspension of the Medical Center s noncontributory defined benefit plan, which covered substantially all eligible employees (the Suspended Employee Plan). Benefit accruals under the Suspended Employee Plan were suspended effective December 31, Effective July 1, 2003, the Medical Center began offering a defined benefit plan to its employees. Rather than design a new plan, the Medical Center amended the Suspended Employee Plan (the Defined Benefit Plan) to capture the new defined benefit activity. During 1991, the Medical Center implemented a defined contribution plan (the Defined Contribution Plan) covering substantially all employees covered under the Suspended Employee Plan. Contributions under the Defined Contribution Plan are calculated based on each employee s salary and totaled $41,350 and $36,966, for the years ended June 30, 2009 and 2008, respectively. Employees have the choice of participation in either the Defined Benefit Plan or the Defined Contribution Plan. In addition, certain key employees of the Medical Center are covered by separate defined contribution and defined benefit retirement plans which are not governed by the Employee Retirement Income Security Act of Contributions under the defined contribution plan are calculated based on each key employee s salary and totaled $11,122 and $10,509 for the years ended June 30, 2009 and 2008, respectively. The following tables present information related to changes in projected benefit obligations, plan assets and their composition, funded status, the accumulated benefit obligation and net periodic pension cost for all defined benefit plans at June 30 or for the year then ended. The Medical Center used a March 31 measurement date for each of its plans as of June 30, This measurement date was changed to June 30 as of June 30, 2008, in conjunction with the adoption of the measurement provisions of SFAS No The Medical Center has established a policy to ensure that the plans are fully funded. Therefore, in September 2009, the Medical Center contributed $16,100 to the plans Change in projected benefit obligations: Projected benefit obligations at beginning of year $ 146,992 $ 147,206 Impact of change in measurement date 1,055 Service cost 9,741 10,311 Interest cost 10,156 8,639 Actuarial losses (gains) 9,983 (15,021) Benefits paid (6,797) (5,198) Projected benefit obligations at end of year 170, ,992 22

25 4. Retirement Plans (continued) Change in plan assets: Fair value of plan assets at beginning of year $ 155,697 $ 152,038 Impact of change in measurement date 1,986 Actual loss on plan assets (14,749) (5,990) Employer contributions 21,799 13,827 Benefits paid (6,797) (5,198) Expenses paid (1,002) (966) Fair value of plan assets at end of year 154, ,697 Funded status $ (15,127) $ 8,705 Composition of plan assets: Short-term money market funds 3% 11% Government debt Equity securities Mutual funds % 100% Approximately 73% of plan assets relate to long-term investment activities covering the Medical Center s general employee population. For this group, the target asset allocation is approximately 65% equities and 35% debt securities. The other 27% of the assets relate to an employee population closer to retirement and the asset allocation is 100% debt securities and mutual funds Amounts recognized as other (liabilities) assets in the consolidated balance sheets $ (15,127) $ 8,705 Items not yet recognized as a component of net periodic pension costs: Unamortized prior service costs $ 441 $ 605 Unrecognized losses 56,172 22,170 $ 56,613 $ 22,775 Accumulated benefit obligations $ 156,984 $ 137,703 23

26 4. Retirement Plans (continued) Net periodic benefit cost recognized: Service cost $ 9,741 $ 10,311 Interest cost 10,156 8,639 Expected return on plan assets (9,533) (9,305) Recognized losses 1,265 1,569 Amortization of prior service costs Net periodic benefit cost $ 11,793 $ 11,378 Weighted-average assumptions used to determine the benefit obligation consist of the following: Discount rate 6.8% 7.0% Expected long-term rate of return on plan assets 6.5% 6.5% Rate of increase in future compensation levels 5.0% 5.0% The expected rate of return on plan assets is updated annually, taking into consideration the plan s asset allocation, historical returns on the types of assets held in the trusts and the current economic environment. Future expected benefit payments: 2010 $ 7, , , , , ,505 Expected funding during the next fiscal year 28,411 The estimated net loss and prior service cost for the defined benefit plans that will be amortized into net periodic benefit cost over the next fiscal year are $5,434 and $164, respectively. 24

27 5. Investments Investments consist of the following at June 30: Equities $ 34,234 $ 69,074 U.S. government debt 396, ,770 Corporate debt (domestic) 2,024 3,895 Foreign government debt 12,693 7,475 Alternative investments 290, ,602 Mutual funds and other 78, ,232 $ 814,438 $ 888,048 Investments are combined with cash and cash equivalents and pledges receivable and classified as follows for presentation in the accompanying consolidated balance sheets: Cash and Cash Equivalents Total Investments Pledges Total Investments June 30, 2009: Cash and cash equivalents $ 127,525 $ $ 127,525 $ $ 127,525 Current investments 301, , ,121 Board designated assets 102, , , ,371 Assets limited to use, including current portion 12,963 12,963 12,963 Long-term investments 148, , ,492 Assets restricted for the acquisition of property and equipment 1,244 1,244 2,888 4,132 Permanently restricted assets 158, ,370 37, ,742 $ 229,648 $ 814,438 $ 1,044,086 $ 40,260 $ 1,084,346 25

28 5. Investments (continued) Cash and Cash Equivalents Investments Total Investments Pledges Total June 30, 2008: Cash and cash equivalents $ 146,734 $ $ 146,734 $ $ 146,734 Current investments 346, , ,001 Board designated assets 58, , , ,277 Assets limited to use, including current portion 15,041 15,041 15,041 Long-term investments 135, , ,484 Assets restricted for the acquisition of property and equipment ,017 3,676 Permanently restricted assets 150, ,170 35, ,665 $ 205,318 $ 888,048 $ 1,093,366 $ 38,512 $ 1,131,878 Assets limited to use include the following at June 30: Restricted to payment of certain self-insurance liabilities $ 12,963 $ 15,040 Restricted under bond indentures to the acquisition of property and equipment 1 $ 12,963 $ 15,041 Investment income on cash and cash equivalents, investments and assets limited as to use consists of the following for the years ended June 30: Interest and dividend income $ 5,638 $ 21,542 Realized (losses) gains (14,362) 26,127 Unrealized losses, net (56,500) (44,318) Investment (loss) income included in the consolidated statements of activities as unrestricted net assets $ (65,224) $ 3,351 26

29 5. Investments (continued) Investment (loss) on workers compensation trust funds and medical malpractice funds totaled ($6,811) and ($3,658) for the years ended June 30, 2009 and 2008, respectively. As noted in Note 1, the Medical Center adopted SFAS No. 157, which establishes a three-level valuation hierarchy for disclosure of fair value measurements. The valuation hierarchy is based upon the transparency of inputs to the valuation of an asset or liabilities as of the measurement date. The three levels are defined as follows: Level 1 Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets. Level 2 Inputs to the valuation methodology include quoted prices for similar assets or liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instruments. This includes model-derived valuation whose significant inputs are observable. Level 3 Inputs to the valuation methodology are unobservable and significant to the fair value measurement. A financial instrument s categorization within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The following table presents the financial instruments carried at fair value as of June 30, 2009, by SFAS No. 157 valuation hierarchy as defined above. Alternative investments (see Note 1) are accounted for using the equity method of accounting, which is not a fair value measurement. Level 1 Level 2 Level 3 Fair Value Equity Method Carrying Value June 30, 2009: Equities $ 33,925 $ $ 309 $ 34,234 $ $ 34,234 U.S. government debt 390,973 5, , ,517 Corporate debt (domestic) 2,024 2,024 2,024 Foreign government debt 12,693 12,693 12,693 Alternative investments 290, ,858 Mutual funds and other 78,112 78,112 78,112 $ 503,010 $ 20,261 $ 309 $ 523,580 $ 290,858 $ 814,438 27