Consolidated Financial Statements (With Independent Auditors Report Thereon) and OMB Uniform Guidance Reports December 31, 2016
KPMG LLP Suite 300 1212 N. 96th Street Omaha, NE 68114-2274 Suite 1120 1248 O Street Lincoln, NE 68508-1493 Independent Auditors Report The Board of Directors Nebraska Methodist Health System, Inc.: Report on the Financial Statements We have audited the accompanying consolidated financial statements of Nebraska Methodist Health System, Inc. and affiliates, which comprise the consolidated balance sheets as of, and the related consolidated statements of operations, 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 U.S. generally accepted accounting principles; this includes the design, implementation, and maintenance of internal control relevant to the preparation and fair presentation of consolidated financial statements that are free from material misstatement, whether due to fraud or error. Auditors Responsibility Our responsibility is to express an opinion on 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. 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 auditors 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. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Nebraska Methodist Health System, Inc. and affiliates as of December 31, 2016 and 2015, and the changes in their net assets and their cash flows for the years then ended, in accordance with U.S. generally accepted accounting principles. KPMG LLP is a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative ( KPMG International ), a Swiss entity.
Other Reporting Required by Government Auditing Standards In accordance with Government Auditing Standards, we have also issued our report dated April 20, 2017, on our consideration of Nebraska Methodist Health System, Inc. and affiliates internal control over financial reporting and on our tests of its compliance with certain provisions of laws, regulations, contracts, and grant agreements and other matters. The purpose of that report is to describe the scope of our testing of internal control over financial reporting and compliance and the results of that testing, and not to provide an opinion on 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 Nebraska Methodist Health System, Inc. and affiliates, internal control over financial reporting and compliance. Omaha, Nebraska April 20, 2017 2
Consolidated Balance Sheets Assets 2016 2015 Current assets: Cash and cash equivalents, including restricted cash of $552 in 2016 and $1,187 in 2015 $ 84,718 118,877 Patient accounts receivable, less allowance for uncollectible accounts of $19,266 in 2016 and $21,806 in 2015 102,271 97,096 Contributions receivable 4,837 3,886 Other receivables 18,679 17,428 Inventories 19,732 18,313 Prepaid expenses 9,856 10,160 Total current assets 240,093 265,760 Investments and assets limited as to use: Long-term investments including restricted investments of $47,171 in 2016 and $54,974 in 2015 396,172 317,166 Bond trust fund investments 10,687 17,520 Total investments and assets limited as to use 406,859 334,686 Property and equipment: Land 20,765 20,688 Land improvements 21,741 20,962 Buildings and improvements 579,966 533,250 Equipment and furnishings 502,044 466,572 Construction in progress 30,561 63,744 Total property and equipment 1,155,077 1,105,216 Less accumulated depreciation 686,011 644,069 Total property and equipment, net 469,066 461,147 Other assets: Contributions receivable 2,207 4,910 Investments in unconsolidated entities 8,990 8,396 Other 11,419 10,746 Total other assets 22,616 24,052 Total assets $ 1,138,634 1,085,645 3 (Continued)
Consolidated Balance Sheets Liabilities and Net Assets 2016 2015 Current liabilities: Current portion of long-term debt and capital lease obligations $ 12,596 13,648 Current portion of accrued liabilities under self-insured programs 7,239 8,536 Accounts payable 23,442 32,587 Accrued salaries, wages, and benefits 59,151 61,620 Other accrued liabilities 26,329 11,820 Estimated third-party payor settlements 1,263 1,470 Total current liabilities 130,020 129,681 Liability for pension benefits 44,880 54,981 Conditional asset retirement obligation 4,968 5,601 Other long-term liabilities 16,047 15,533 Long-term debt and capital lease obligations, net of current portion 290,087 295,360 Accrued liabilities under self-insured programs, net of current portion 11,627 12,269 Total liabilities 497,629 513,425 Net assets: Unrestricted 591,634 513,157 Temporarily restricted 46,695 56,387 Permanently restricted 2,676 2,676 Total net assets 641,005 572,220 Total liabilities and net assets $ 1,138,634 1,085,645 See accompanying notes to consolidated financial statements. 4
Consolidated Statements of Operations Years ended 2016 2015 Unrestricted revenue, gains, and other support: Patient service revenue, net of contractual adjustments and discounts $ 777,849 772,361 Provision for uncollectible accounts (6,254) (7,245) Net patient service revenue 771,595 765,116 Sales of supplies, linen, and laundry services 9,874 6,939 Tuition, housing, and bookstore 15,662 14,593 Cafeteria, rental, and other 30,866 30,376 Total revenue, gains, and other support 827,997 817,024 Expenses: Salaries and wages 397,713 374,275 Employee benefits 95,117 92,113 Supplies 119,676 118,936 Professional fees and purchased services 48,815 46,537 Plant and utilities 48,936 46,844 Depreciation 45,014 42,945 Interest and amortization 11,913 12,505 Other 27,664 25,893 Total expenses 794,848 760,048 Operating income before pension settlement (losses) and curtailment gains 33,149 56,976 Pension settlement (loss) and curtailment gain (5,301) 2,537 Operating income 27,848 59,513 Other income (expense): Investment income 12,539 11,318 Income from unconsolidated entities 3,110 3,570 Gain on sale of property and equipment 29 19 Loss on extinguishment of debt (35,879) Income taxes (265) (733) Total other income (expense), net 15,413 (21,705) Excess of revenue over expenses 43,261 37,808 Other changes in unrestricted net assets: Change in net unrealized gains and losses on investments 10,841 (14,570) Change in value of charitable remainder unitrusts and related annuities payable (418) (214) Change in liability for pension benefits 8,344 (8,523) Capital contributions 291 Net assets released from restrictions for the purchase of property and equipment 16,158 12,777 Total other changes in unrestricted net assets 35,216 (10,530) Increase in unrestricted net assets $ 78,477 27,278 See accompanying notes to consolidated financial statements. 5
Consolidated Statements of Changes in Net Assets Years ended Temporarily Permanently Unrestricted restricted restricted Total Balance, December 31, 2014 $ 485,879 54,181 2,676 542,736 Excess of revenue over expenses 37,808 37,808 Restricted gifts and grants 17,433 17,433 Restricted interest and investment income 167 167 Change in net unrealized gains and losses on investments (14,570) (279) (14,849) Change in value of charitable remainder unitrusts and related annuities payable (214) (5) (219) Change in liability for pension benefits (8,523) (8,523) Net assets released from restrictions for use in operations (2,333) (2,333) Net assets released from restrictions for the purchase of property and equipment 12,777 (12,777) Increase in net assets 27,278 2,206 29,484 Balance, December 31, 2015 513,157 56,387 2,676 572,220 Excess of revenue over expenses 43,261 43,261 Restricted gifts and grants 8,433 8,433 Restricted interest and investment income 162 162 Change in net unrealized gains and losses on investments 10,841 245 11,086 Change in value of charitable remainder unitrusts and related annuities payable (418) 4 (414) Change in liability for pension benefits 8,344 8,344 Net assets released from restrictions for use in operations (2,378) (2,378) Capital contributions 291 291 Net assets released from restrictions for the purchase of property and equipment 16,158 (16,158) Increase (decrease) in net assets 78,477 (9,692) 68,785 Balance, December 31, 2016 $ 591,634 46,695 2,676 641,005 See accompanying notes to consolidated financial statements. 6
Consolidated Statements of Cash Flows Years ended 2016 2015 Cash flows from operating activities: Increase in net assets $ 68,785 29,484 Adjustments to reconcile increase in net assets to net cash provided by operating activities: Depreciation 45,014 42,945 Amortization and accretion (27) 227 Gain on sale of property and equipment (29) (19) Loss on extinguishment of debt 35,879 Impairment losses on investments 290 536 Income from unconsolidated entities, net of distributions received (683) 253 Provision for uncollectible accounts 6,254 7,245 Restricted gifts and grants (8,433) (17,433) Restricted interest and investment income (162) (167) Change in net unrealized and realized gains and losses on investments (15,551) 9,586 Change in value of charitable remainder unitrusts and related annuities payable 414 219 Change in liability for pension benefits (8,344) 8,523 Pension contributions (greater than) less than expense (1,747) (5,999) Changes in assets and liabilities: Patient accounts receivable (11,429) (772) Other receivables (1,251) (6,562) Inventories (1,419) (2,366) Prepaid expenses 304 (1,284) Other assets (673) (1,474) Accounts payable (7,950) 7,162 Accrued salaries, wages, and benefits (2,469) 7,437 Other accrued liabilities 12,560 1,252 Estimated third-party payor settlements (207) (108) Conditional asset retirement obligation (873) (1,019) Other long-term liabilities 450 1,128 Net cash provided by operating activities 72,824 114,673 Cash flows from investing activities: Purchases of investments and assets limited as to use (411,870) (230,806) Sales of investments and assets limited as to use 354,951 193,484 Purchase of property and equipment (54,173) (69,657) Proceeds from sale of property and equipment 74 153 Cash contributed to unconsolidated entities (1,400) (200) Distributions from investments in unconsolidated entities 1,529 211 Net cash used in investing activities (110,889) (106,815) Cash flows from financing activities: Issuance of long-term debt 232,458 Principal payments on long-term debt and capital lease obligations (4,857) (1,243) Repayments of lines of credit (75,924) (62,403) Borrowings on lines of credit 74,722 64,940 Payment to escrow account for debt refunding (240,420) Payment of debt issuance costs (2,724) Restricted gifts, grants, interest, and investment income 10,316 15,191 Change in value of charitable remainder unitrusts and related annuities payable (351) (219) Net cash provided by financing activities 3,906 5,580 Net (decrease) increase in cash and cash equivalents (34,159) 13,438 Cash and cash equivalents, beginning of year 118,877 105,439 Cash and cash equivalents, end of year $ 84,718 118,877 Supplemental disclosures of cash flow information: Cash paid for interest $ 12,600 13,212 Cash paid for income taxes 579 1,056 Noncash property and equipment additions 1,851 3,046 See accompanying notes to consolidated financial statements. 7
(1) Organization Nebraska Methodist Health System, Inc. and affiliates (the Health System) is a not-for-profit corporation providing a variety of healthcare, education, and related services to communities in Eastern Nebraska and Western Iowa. Healthcare services include inpatient, outpatient, emergency care, home healthcare, and physician services. The Health System is the sole corporate member of the following affiliated entities: The Nebraska Methodist Hospital (including Methodist Women s Hospital campus) The Nebraska Methodist College of Nursing and Allied Health Jennie Edmundson Memorial Hospital (d/b/a Methodist Jennie Edmundson) Jennie Edmundson Memorial Hospital Foundation Loess Hills LLC Physicians Clinic, Inc. (d/b/a Methodist Physicians Clinic) The Nebraska Methodist Hospital Foundation Shared Service Systems, Inc. Midland Medical Supply, Inc. (acquired December 31, 2015) Nebraska Methodist Hospital Self-Insured Trust Methodist Health Partners (2) Summary of Significant Accounting Policies The following is a summary of significant accounting policies of the Health System. These policies are in accordance with U.S. generally accepted accounting principles (U.S. GAAP). (a) Use of Estimates The preparation of consolidated financial statements in conformity with U.S. GAAP 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 consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Significant items subject to such estimates and assumptions include allowances for uncollectible accounts and contractual adjustments, estimated third-party payor settlements, liabilities for pension benefits, self-insurance liabilities, and other contingencies. (b) Principles of Consolidation The Health System consolidates all wholly owned affiliated entities and all entities in which it has greater than 50% ownership interest with commensurate control. All significant intercompany balances and transactions have been eliminated in consolidation. 8 (Continued)
(c) Cash and Cash Equivalents Cash and cash equivalents include certain investments in highly liquid debt instruments with original maturities of three months or less, excluding those amounts included as part of the long-term investment portfolio. (d) Inventories Inventories are stated at the lower of cost or market. Cost is determined principally using the first-in, first-out method. (e) Investments and Assets Limited as to Use Investments are measured at fair value in the consolidated balance sheets. Investment income (including realized gains and losses on investments, interest, and dividends) is included in excess of revenue over expenses unless the income or loss is restricted by donor or law. Unrealized gains and losses on investments are excluded from excess of revenue over expenses unless the investments are trading securities or the Health System has elected the fair value option. The Health System periodically reviews its investment portfolio to determine whether any unrealized losses are other than temporary. Impairments are recognized for financial reporting purposes and a new cost basis for the security is established. To determine whether impairment is other than temporary, the Health System considers whether it has the ability and intent to hold the investment until the market price recovers and considers whether evidence indicating the cost of the investment is recoverable outweighs evidence to the contrary. Evidence considered in the assessment includes reasons for the impairment, the severity and duration of the impairment, changes in value subsequent to year-end, forecasted performance of the investee, and the general market condition of the industry in which the investee operates. Based on this evaluation, the Health System recognized other-than-temporary impairment losses of $290 and $536 in 2016 and 2015, respectively. Other-than-temporary impairment losses are included in investment income in the consolidated financial statements. Assets limited as to use primarily include assets held by trustees under indenture agreements, donor-restricted gifts, and designated assets set aside by the Board of Directors (the Board) for future capital improvements, over which the Board retains control and may at its discretion subsequently use for other purposes. (f) 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. The estimated useful lives of property and equipment are as follows: land improvements two to 25 years; buildings and improvements five to 40 years; and equipment and furnishings three to 20 years. Equipment under capital lease obligations is amortized using the straight-line method over the shorter period of the lease term or the estimated useful life of the equipment. Such amortization is included in depreciation in the consolidated financial statements. Interest cost incurred on borrowed funds during the period of construction of capital assets is capitalized as a component of the cost of acquiring those assets. During 2016 and 2015, $1,123 and $941, respectively, of interest was capitalized. 9 (Continued)
Gifts of long-lived assets, such as land, buildings, or equipment, are reported as an increase to unrestricted net assets, and are excluded from excess of revenue over expenses, unless explicit donor stipulations specify how the donated assets must be used. Gifts of long-lived assets with explicit restrictions that specify how the assets are to be used and gifts of cash or other assets that must be used to acquire long-lived assets are reported as 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. (g) Impairment of Long-Lived Assets The Health System reviews the carrying amount of long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. Measurement of any impairment would include a comparison of the present value of the estimated future operating cash flows anticipated to be generated during the remaining life of the long-lived assets to the net carrying value of the assets. No assets were impaired during 2016 and 2015. (h) Deferred Financing Costs Certain expenses incurred in connection with the issuance of long-term debt have been deferred and are being amortized using the effective interest method over the term of the related obligation. (i) Asset Retirement Obligations The Health System recognizes the fair value of liabilities for legal obligations associated with asset retirements in the period in which they are incurred, if a reasonable estimate of the fair value of the obligation can be made. Over time, the obligation is accreted to its present value each period. Upon settlement of the obligation, any difference between the cost to settle the asset retirement obligation and the liability recorded is recognized as a gain or loss in the consolidated statements of operations. The Health System has recorded a conditional asset retirement obligation related to estimated asbestos abatement costs in the amount of $4,968 and $5,601 at, respectively. (j) Temporarily and Permanently Restricted Net Assets Temporarily restricted net assets are those whose use by the Health System has been limited by donors to a specific time period, purpose, or by law. Permanently restricted net assets have been restricted by donors to be maintained by the Health System in perpetuity. (k) 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 and indications of intentions to give are reported at fair value at the date the gift is received. The gifts are reported as either temporarily or permanently restricted support if they are received with donor stipulations that limit the use of the donated assets. When a donor restriction expires, that is, when a stipulated time restriction ends or purpose restriction is accomplished, temporarily restricted net assets are reclassified to unrestricted net assets and reported in the consolidated statements of operations. 10 (Continued)
(l) Provision for Uncollectible Accounts The provision for uncollectible accounts is based upon management s assessment of expected net collections considering the accounts receivable aging, historical collections experience, economic conditions, trends in healthcare coverage, and other collection indicators. Management periodically assesses the adequacy of the allowances for uncollectible accounts and contractual adjustments based upon historical write-off experience by payor category. The results of these reviews are used to establish the net realizable value of patient accounts receivable. The Health System follows established guidelines for placing certain patient balances with collection agencies. Self-pay accounts are charged against the allowance for uncollectible accounts at the time of transfer to the collection agency. Deductibles and coinsurance are classified as either third-party or self-pay revenues and receivables on the basis of which party has the primary financial responsibility. There are various factors that can impact collection trends, such as changes in the economy, which in turn may have an impact on unemployment rates and the number of uninsured and underinsured patients, the volume of patients through the emergency departments, the increased burden of copayments and deductibles to be made by patients with insurance, and business practices related to collection efforts. These factors continuously change and can have an impact on collection trends and the estimation process. Net patient accounts receivable have been adjusted to the estimated amounts expected to be collected and do not bear interest. The Health System does not maintain an allowance for doubtful accounts from third-party payors, nor did it have significant write-offs from third-party payors. (m) Net Patient Service Revenue Before the Provision for Uncollectible Accounts Net patient service revenue before the provision for uncollectible accounts is recognized in the period in which the services are performed and consists of gross patient service revenue less estimated contractual adjustments and discounts. The discount offered to uninsured patients is recognized as a contractual adjustment, which reduces net patient service revenue. The uninsured patient accounts, net of contractual adjustments, are further reduced to their net realizable value through the provision for uncollectible accounts. The Health System has agreements with third-party payors that provide for payments to the Health System at amounts different from its established rates. Payment arrangements include prospectively determined rates per discharge, per diem, per visit, or per procedure, and discounted charges plus cost reimbursement for certain costs under governmental programs. Net patient service revenue is reported at the estimated net realizable amounts from patients, third-party payors, and others for services rendered, including estimated retroactive adjustments under reimbursement agreements with third-party payors. Retroactive adjustments are accrued on an estimated basis in the period the related services are rendered and adjusted in future periods as final settlements are determined. (n) Payor Incentive Payments The American Recovery and Reinvestment Act of 2009 included provisions for implementing health information technology under the Health Information Technology for Economic and Clinical Health Act (HITECH). The provisions were designed to increase the use of Electronic Health Records (EHR) technology and establish the requirements for a Medicare and Medicaid incentive payment program beginning in 2011 for eligible providers that adopt and meaningfully use EHR technology. Eligibility for 11 (Continued)
annual Medicare incentive payments is dependent on providers demonstrating meaningful use of EHR technology in each period over a four-year period. Initial Medicaid payments are available to providers that adopt, implement, or upgrade certified EHR technology. Providers must demonstrate meaningful use of such technology in subsequent years to qualify for additional Medicaid incentive payments. In 2016 and 2015, the Health System recorded meaningful use incentive revenue of $1,382 and $3,318, respectively, related to the Medicare and Medicaid programs. Payment arrangements for physician services often include incentive payments for reporting quality measures or achieving established quality targets. These incentive payments have been recognized in cafeteria, rental, and other in the consolidated statements of operations based on the grant accounting model whereby the incentive revenue is recorded when management becomes reasonably assured of meeting the required criteria. (o) Financial Assistance The Health System provides care to patients who meet certain criteria under its financial assistance policy without charge or at amounts less than established rates. Because the Health System does not pursue collection of amounts determined to qualify as financial assistance, they are not reported as revenue. The cost of services and supplies furnished under the Health System s financial assistance policy are estimated based on the ratio of net costs to gross charges aggregated to $19,900 and $16,100 in 2016 and 2015, respectively. Patients meeting the guidelines for financial assistance frequently are uninsured and, therefore, qualify for the uninsured discount, which reduces the amount that they are responsible for to the equivalent of commercial reimbursement rates. This discount is applied prior to the financial assistance discount. (p) Insurance Reserves The provision for self-insurance reserves includes an estimate of the ultimate cost of reported claims as well as claims incurred but not reported. See note 10. (q) Investment in Unconsolidated Entities Investments in unconsolidated entities are accounted for under the cost or equity method of accounting, as appropriate, based on the relative percentage of ownership or degree of influence over the organization. The equity income or loss on these investments is recorded in the consolidated statements of operations as income from unconsolidated entities. (r) Income Taxes The Health System and all affiliates, except for Shared Service Systems, Inc. (including Midland Medical Supply, Inc.), and Methodist Health Partners, have been recognized by the Internal Revenue Service as tax-exempt organizations, as described in Section 501(c)(3) of the Internal Revenue Code (the Code), and are exempt from federal income taxes on related income pursuant to Section 501(a) of the Code. The estimated federal and state income tax expense for the taxable entities and certain activities of the tax-exempt organizations that are unrelated to their exempt purpose was $265 and 12 (Continued)
$733 for 2016 and 2015, respectively. The United States is the major tax jurisdiction for the Health System and 2013 is the earliest tax year subject to examination. The Health System recognizes the effect of income tax positions only if those positions are more likely than not of being sustained. Recognized income tax positions are measured at the largest amount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs. In 2016 and 2015, management determined there are no material income tax positions requiring recognition in the consolidated financial statements. (s) Excess of Revenue over Expenses The consolidated statements of operations include excess of revenue over expenses. Changes in unrestricted net assets, which are excluded from excess of revenue over expenses, include the change in unrealized gains and losses on investments other-than-trading securities, change in value of charitable remainder unitrusts and annuities payable, change in net liability for pension benefits, and contributions of long-lived assets (including assets acquired using contributions, which by donor restriction were to be used for the purposes of acquiring such assets). (t) Reclassifications Certain reclassifications were made to the 2015 balances to conform to the 2016 presentation. (u) New Accounting Standards In 2016, the Health System adopted Financial Standards Accounting Board (FASB) Accounting Standards Update (ASU) 2015-03, Interest Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs, which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability. Previously, debt financing costs were included within other assets in the Health System s consolidated balance sheets. Consistent with the amendments in the ASU, this adoption has been applied retrospectively to all periods presented. As a result of the adoption, the Health System reclassified $3,327 from other assets to long-term debt and capital lease obligations. ASU 2015-03 did not change the recognition and measurement requirements for debt issuance costs. The adoption of ASU 2015-03 did not impact the Health System s consolidated net assets, results of operations or cash flows. The FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, in May 2014. ASU 2014-09 requires an entity to recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. An entity should also disclose sufficient quantitative and qualitative information to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. The new standard is effective for annual reporting periods beginning after December 15, 2017. The Health System will implement the provisions of ASU 2014-09 as of January 1, 2018. The Health System has not yet determined the impact of the new standard on its current policies for revenue recognition. 13 (Continued)
In January 2016, the FASB issued ASU No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, on the recognition and measurement of financial assets and financial liabilities. The guidance revises an entity s accounting related to the classification and measurement of certain equity investments and the presentation of certain fair value changes for financial liabilities measured at fair value. The guidance also amends certain disclosure requirements associated with the fair value of financial instruments. The new guidance is effective for annual periods and interim reporting periods within those annual periods beginning after December 15, 2018. Early adoption is not permitted, except for certain provisions, including exempting all not-for-profit entities and private entities from the requirement to disclose fair value information for financial instruments measured at amortized cost (e.g., debt). The Health System adopted the disclosure requirements in 2015 and is currently assessing the remaining impact of the guidance on the Health System s financial position, results of operations, and financial statement disclosures. In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). ASU 2016-02 requires the lessee to recognize assets and liabilities for leases with lease terms of more than twelve months. For leases with a term of twelve months or less, the Health System is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities. Further, the lease requires a finance lease to recognize both an interest expense and an amortization of the associated expense. Operating leases generally recognize the associated expense on a straight-line basis. ASU 2016-02 requires the Health System to adopt the standard using a modified retrospective approach and adoption beginning on January 1, 2019. The Health System is currently evaluating the impact that ASU 2016-02 will have on its financial position, results of operations, and cash flows. In August 2016, the FASB issued ASU No. 2016-14, Presentation of Financial Statements for Not-For-Profit Entities, which improves the current net asset classification requirements and the information presented in financial statements and notes about a not-for-profit entity s liquidity, financial performance, and cash flows. The guidance requires entities to present two classes of net assets on the face of the statement of financial position: net assets with donor restrictions and net assets without donor restrictions. It also removes the requirement to present a reconciliation of cash using the indirect method if the direct method is used. Further, the guidance provides for enhanced disclosures. ASU 2016-14 is effective for annual periods beginning after December 15, 2017 with retrospective adoption for all periods presented. The Health System is currently evaluating the impact that ASU 2016-14 will have on its financial position, results of operations, and cash flows. (3) Net Patient Service Revenue and Accounts Receivable The Nebraska Methodist Hospital and Jennie Edmundson Memorial Hospital (collectively, the Hospitals) and the Physicians Clinic (the Clinic) have agreements with third-party payors that provide for payments to the Hospitals and the Clinic at amounts different from their established rates. A summary of the payment arrangements with major third-party payors is as follows: (a) Medicare 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. Medical education costs are paid based on a 14 (Continued)
cost-reimbursement methodology. The Hospitals are reimbursed for cost reimbursable items at a tentative rate with final settlement determined after submission of annual cost reports by the Hospitals and audits thereof by the Medicare fiscal intermediary. Physician services are paid based on fee schedules. (b) Nebraska Medicaid Inpatient services rendered to Medicaid program beneficiaries are paid at prospectively determined rates per discharge. Certain outpatient services are reimbursed based on a percentage rate representing the average ratio of cost to charges discounted by 20% at. Physician services are paid based on fee schedules. (c) Iowa Medicaid Medical and surgical inpatient services and outpatient services rendered to Medicaid program beneficiaries are primarily paid at prospectively determined rates per discharge. Inpatient psychiatric stays are paid on a prospectively determined per diem. Physician services are paid based on fee schedule amounts. Iowa Medicaid implemented a provider assessment program in order to increase federal funding. In 2016 and 2015, the net impact was not significant. Revenue from the Medicare and Medicaid programs accounted for approximately 26% and 6%, respectively, of the Health System s net patient service revenue for the year ended December 31, 2016, and 25% and 5%, respectively, for the year ended December 31, 2015. Laws and regulations governing the Medicare and Medicaid programs are extremely complex and subject to interpretation. As a result, there is at least a reasonable possibility that recorded estimates will change by a material amount in the near term. Net patient service revenue increased $2,854 and $6,281 in 2016 and 2015, respectively, as a result of changes in estimates due to prior year cost report settlements. The Hospitals and the Clinic have also entered into payment agreements with certain commercial insurance carriers and preferred provider organizations. The basis for payment under these agreements includes discounts from established charges, fee schedules, and prospectively determined rates per discharge. The governmental payors, as well as most commercial payors, have developed programs to review paid claims on a retroactive basis for accuracy and medical necessity. The Health System is subject to these postpayment audits, which may result in the return of payments previously received. The determination of net patient service revenue includes consideration of these audits on net realizable revenue. 15 (Continued)
Patient service revenue, net of contractual adjustments and discounts (but before the provision for uncollectible accounts), based on the primary payor at the time of service for the years ended is as follows: 2016 2015 Third party $ 769,575 764,139 Self-pay 8,274 8,222 $ 777,849 772,361 Patient accounts receivable, net of contractual adjustments and discounts, was $121,537 and $118,902 as of, respectively, or 16% and 15% of patient service revenue, net of contractual adjustments and discounts, for the fiscal years then ended. The related allowance for uncollectible accounts was $19,266 and $21,806, or 16% and 18% of the related patient accounts receivable, net of contractual adjustments and discounts, as of, respectively. The provision for uncollectible accounts in 2016 and 2015, respectively, was $6,254 and $7,245. (4) Concentrations of Credit Risk The Health System grants credit without collateral to its patients, most of who are local residents and are insured under third-party payor agreements. The mix of receivables from patients and third-party payors at was as follows: 2016 2015 Medicare 34 % 30 % Medicaid 9 11 Managed care 42 44 Other 15 15 100 % 100 % 16 (Continued)
(5) Long-Term Debt and Capital Lease Obligations A summary of long-term debt and capital lease obligations at is as follows: 2016 2015 Nebraska Investment Finance Authority Health Facilities Revenue Bonds, Series 2010, payable in varying semiannual installments to 2040, with a fixed interest rate of 4.28% $ 27,520 28,170 Nebraska Investment Finance Authority Health Facilities Revenue Bonds, Series 2014, payable in varying semiannual installments to 2044, with a fixed interest rate of 3.324% 36,550 37,905 Nebraska Investment Finance Authority Health Facilities Revenue Bonds, Series 2015, payable in varying quarterly installments to 2048, with a fixed interest rate ranging from 3.00% 5.00% 220,725 223,230 American National Bank Commercial Real Estate Loan payable in fixed monthly installments to 2030, with a fixed interest rate of 2.60% 2,661 2,817 Nebraska Educational Finance Authority Loan payable in fixed semiannual installments to 2027, with a fixed interest rate of 4.96% 2,243 2,402 Capital lease obligations, payable in varying monthly installments to 2017, with interest rate of 4.28%. 22 48 Line of credit 7,596 8,797 297,317 303,369 Unamortized premium 8,520 8,966 Unamortized deferred financing costs (3,154) (3,327) Less current portion (12,596) (13,648) Long-term debt and capital lease obligations, net of current portion $ 290,087 295,360 The Health System and all affiliates, except for Shared Service Systems, Inc., Nebraska Methodist Hospital Self-Insured Trust, and Heart Services, LLC, have entered into a Master Trust Indenture (Indenture), which provides, among other things, for certain covenants related to the incurrence of additional indebtedness, the sale, lease, or disposition of property, and the maintenance of certain financial ratios. The Indenture also requires the Health System to satisfy financial performance measures as long as the debt is outstanding. The Health System was in compliance with its debt covenants during 2016 and 2015. 17 (Continued)
In the event of a Rating Agency downgrade to a rating of BBB-(or its equivalent) or lower, the initial purchasing banks of the 2010 and 2014 series bonds may elect to have the Health System repurchase the 2010 and 2014 bonds. In the event of this election, the Health System would have 120 days to refinance the then outstanding bonds, which total $64,070 at December 31, 2016. Property of the Nebraska Methodist College of Nursing and Allied Health is pledged as collateral for the Nebraska Educational Finance Authority Loan. Scheduled principal payments are as follows: Long-term debt and line of credit Capital lease obligations 2017 $ 12,574 23 2018 5,146 2019 5,349 2020 5,557 2021 5,812 Thereafter 262,857 $ 297,295 23 Less amount representing interest under capital lease obligations 1 $ 22 In June 2015, Hospital Authority No. 2 and Hospital Authority No. 3 of Douglas County Nebraska issued $223,230 of Health Facilities Refunding and Revenue Bonds Series 2015 maturing in 2048. The proceeds were used to refund the majority of the Series 2008 bonds and finance certain capital projects. A portion of the 2008 bonds were also defeased by the Health System. In connection with the advance refunding, the Health System incurred a loss on extinguishment of debt of $35,879, which is included as such in the accompanying consolidated statement of operations. In November 2015, American National Bank issued a loan of $2,830 to Physicians Clinic, Inc. The proceeds were used to finance the construction of the Gretna Clinic. The loan is secured by the building and guaranteed by the Health System. The Health System has available a $10,000 unsecured revolving line of credit with an interest rate of one-month LIBOR plus 1.5%. The line of credit expires on May 1, 2017. As of December 31, 2016 and 2015, no amounts have been advanced on the line of credit. The Health System has available a $10,000 unsecured revolving line of credit in connection with a vendor payment program with an interest rate of three-month LIBOR plus 1.75%. Interest on the line of credit is 18 (Continued)
paid by the program vendor. The line of credit expires on May 1, 2017. As of, $7,596 and $7,657, respectively, have been advanced on the line of credit. The Health System had available a $1,200 unsecured revolving line of credit in connection with Shared Services Systems as of December 31, 2015, of which $1,140 was outstanding as of December 31, 2015. Monthly interest payments began on January 1, 2016 at a rate of one-month LIBOR plus 1.5%. The line of credit was guaranteed by the Health System and was closed on August 1, 2016. (6) Investments and Assets Limited as to Use Investments and assets limited as to use are stated at fair value and consist of: (a) Long-Term Investments Long-term investments will be used to provide liquidity, retire long-term debt, replace existing facilities, expand the present facilities as necessary in the future, and continue the health services currently provided by the Health System. Additionally, certain of these funds have been designated to fund self-insurance reserves. Long-term investments are held in a variety of different investment vehicles. See note 7 for a description of investments held. (b) Bond Trust Fund Investments In connection with certain debt obligations, the Health System has funds held in trust related to bond proceeds to be used for construction and is required to make periodic deposits into bond sinking and interest funds with the trustee to provide for scheduled interest and principal payments. Bond trust fund investments held at December 31, 2016 were comprised mainly of money market funds. Bond trust fund investments held at December 31, 2015 were comprised mainly of U.S. government and agency obligations. Unrestricted investment income for investments and assets limited as to use, and cash and cash equivalents comprise the following for the years ended : 2016 2015 Interest and dividends $ 8,362 6,638 Realized gains and losses on the sale of securities 4,467 5,216 Impairment losses on investments (290) (536) Change in net unrealized gains and losses on investments 10,841 (14,570) Total unrealized losses from historical cost at December 31, 2016 were $9,568 of which $8,321 relates to securities that have been in an unrealized loss position for greater than a year. Management reviewed the securities with unrealized losses at December 31, 2016 and determined that the securities were not other than temporarily impaired. Management reached this conclusion by applying its other-than-temporary loss policy, as well as discussions with its investment consultants and portfolio managers, who relied on industry analyst reports, credit ratings, current market conditions, and other information they deemed relevant to this assessment. 19 (Continued)
(7) Fair Value Measurements Fair Value Hierarchy The fair value of financial instruments is the amount that would be received from the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The Health System follows a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to measurements involving significant unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are as follows: Level 1: Quoted prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. Financial instruments classified in this level generally include pooled short-term investment funds, exchange traded equity securities, and mutual funds. Level 2: Inputs are based on quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Financial instruments classified in this level generally include fixed income government obligations, asset-backed securities, and corporate and municipal bonds. Level 3: Inputs are unobservable for the asset or liability. The inputs into the determination of fair value require management s judgment or estimation of assumptions that market participants would use in pricing the asset or liability. The level in the fair value hierarchy within which a fair value measurement in its entirety falls is based on the lowest level input that is significant to the fair value measurement in its entirety. 20 (Continued)
The following tables present the placement in the fair value hierarchy of assets that are measured at fair value on a recurring basis (including items that are required to be measured at fair value) at December 31, 2016 and 2015: December 31, 2016 fair value Level 1 Level 2 Level 3 Assets: Cash and cash equivalents $ 84,718 84,718 Investments and assets limited as to use: Money market investments 67,456 67,456 U.S. government obligations and agencies 949 949 Marketable debt securities 29,734 29,734 Mutual funds: Domestic equity funds 34,920 34,920 International equity funds 75,869 75,869 Fixed income funds 84,991 84,991 Preferred stock 233 233 Common stocks: Information technology 9,810 9,810 Consumer discretionary 9,942 9,942 Financial services 15,459 15,459 American depository receipts 6,888 6,888 Healthcare 4,259 4,259 Industrials 4,001 4,001 Consumer staples 2,514 2,514 Materials 2,555 2,555 Energy 4,155 4,155 Telecommunications 739 739 Utilities 682 682 Other 18,984 18,984 Funds held in trust by others 2,172 2,172 Real estate funds at NAV* 30,547 Total investments and assets limited as to use $ 491,577 428,175 30,683 2,172 Assets held for deferred compensation $ 3,725 3,725 21 (Continued)
December 31, 2015 fair value Level 1 Level 2 Level 3 Assets: Cash and cash equivalents $ 118,877 118,877 Investments and assets limited as to use: Money market investments 72,193 72,193 U.S. government obligations and agencies 761 761 Marketable debt securities 24,598 24,598 Mutual funds: Domestic equity funds 6,840 6,840 International equity funds 57,552 57,552 Fixed income funds 73,271 73,271 Common stocks: Information technology 16,086 16,086 Consumer discretionary 12,799 12,799 Financial services 11,322 11,322 American depository receipts 3,670 3,670 Healthcare 6,958 6,958 Industrials 5,229 5,229 Consumer staples 4,155 4,155 Materials 2,322 2,322 Energy 2,372 2,372 Telecommunications 504 504 Utilities 604 604 Other 2,220 2,220 Funds held in trust by others 2,177 2,177 Real estate funds at NAV* 29,053 Total investments and assets limited as to use $ 453,563 396,974 25,359 2,177 Assets held for deferred compensation $ 3,194 3,194 * The fair value of investments in real estate funds is valued based on the funds net asset value (NAV), or its equivalent, as supplied by the fund administrator and these valuations are used by management as a practical expedient to fair value and have not been categorized in the fair value hierarchy. The fair value amounts presented in this table are intended to permit reconciliation of the fair value hierarchy to the amounts presented in the consolidated balance sheets. The Health System has the ability to liquidate its interest in the funds by providing 90 days written notice. The Health System has no unfunded commitments to these funds at December 31, 2016 or 2015. 22 (Continued)