FORWARD-LOOKING INFORMATION
This Quarterly Report on Form 10-Q contains forward-looking statements, as that
term is defined in the Private Securities Litigation Reform Act of 1995. These
statements relate to future events or our future financial performance. In some
cases, you can identify forward-looking statements by terminology such as "may,"
"will," "should," "expects," "plans," "anticipates," "believes," "estimates,"
"predicts," "potential," "continue," or the negative of these terms or other
comparable terminology. These statements are only predictions and involve known
and unknown risks, uncertainties and other factors, including the risks
discussed under the caption "Risk Factors" in our Annual Report on Form 10-K
filed on June 22, 2012 that may cause our Company's or our industry's actual
results, levels of activity, performance, or achievements to be materially
different from those expressed or implied by these forward-looking statements.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance, or achievements. Except as may be required by applicable
law, we do not intend to update any of the forward-looking statements to conform
these statements to actual results.
As used in this report, the terms "we," "us," "our," "the Company," "Integrated
Healthcare Holdings" or "IHHI" mean Integrated Healthcare Holdings, Inc., a
Nevada corporation, unless otherwise indicated.
Unless otherwise indicated, all amounts included in this Item 2 are expressed in
thousands (except percentages and per share amounts).
OVERVIEW
On March 8, 2005, we completed our acquisition (the "Acquisition") of four
Orange County, California hospitals and associated real estate, including: (i)
282-bed Western Medical Center - Santa Ana, CA; (ii) 188-bed Western Medical
Center - Anaheim, CA; (iii) 178-bed Coastal Communities Hospital in Santa Ana,
CA; and (iv) 114-bed Chapman Medical Center in Orange, CA (collectively, the
"Hospitals") from Tenet Healthcare Corporation. The Hospitals were assigned to
four of our wholly owned subsidiaries formed for the purpose of completing the
Acquisition. We also acquired the following real estate, leases and assets
associated with the Hospitals: (i) a fee interest in the Western Medical Center
at 1001 North Tustin Avenue, Santa Ana, CA, a fee interest in the administration
building at 1301 North Tustin Avenue, Santa Ana, CA, certain rights to acquire
condominium suites located in the medical office building at 999 North Tustin
Avenue, Santa Ana, CA; (ii) a fee interest in the Western Medical Center at 1025
South Anaheim Blvd., Anaheim, CA; (iii) a fee interest in the Coastal
Communities Hospital at 2701 South Bristol Street, Santa Ana, CA, and a fee
interest in the medical office building at 1901 North College Avenue, Santa Ana,
CA; (iv) a lease for the Chapman Medical Center at 2601 East Chapman Avenue,
Orange, CA, and a fee interest in the medical office building at 2617 East
Chapman Avenue, Orange, CA; and (v) equipment and contract rights. At the
closing of the Acquisition, we transferred all of the fee interests in the
acquired real estate (the "Hospital Properties") to Pacific Coast Holdings
Investment, LLC ("PCHI"), a company owned 51% by various physician investors and
49% by our largest shareholder.
SIGNIFICANT CHALLENGES
COMPANY - Our Acquisition involved significant cash expenditures, debt
incurrence and integration expenses that has seriously strained our consolidated
financial condition. If we are required to issue equity securities to raise
additional capital or for any other reasons, existing stockholders will likely
be substantially diluted, which could affect the market price of our stock. In
April 2010 we issued equity securities to existing shareholders and a new
lender. (see "WARRANTS").
INDUSTRY - Our Hospitals receive a substantial portion of their revenues from
Medicare and Medicaid. The healthcare industry is experiencing a strong trend
toward cost containment, as the government seeks to impose lower reimbursement
and resource utilization group rates, limit the scope of covered services and
negotiate reduced payment schedules with providers. These cost containment
measures generally have resulted in a reduced rate of growth in the
reimbursement for the services that we provide relative to the increase in our
cost to provide such services.
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Changes to Medicare and Medicaid reimbursement programs have limited, and are
expected to continue to have limited, payment increases. Also, the timing of
payments made under the Medicare and Medicaid programs is subject to regulatory
action and governmental budgetary constraints resulting in a risk that the time
period between submission of claims and payment could increase. Further, within
the statutory framework of the Medicare and Medicaid programs, a substantial
number of areas are subject to administrative rulings and interpretations which
may further affect payments.
Our business is subject to extensive federal, state and, in some cases, local
regulation with respect to, among other things, participation in the Medicare
and Medicaid programs, licensure and certification of facilities, and
reimbursement. These regulations relate, among other things, to the adequacy of
physical property and equipment, qualifications of personnel, standards of care,
government reimbursement and operational requirements. Compliance with these
regulatory requirements, as interpreted and amended from time to time, can
increase operating costs and thereby adversely affect the financial viability of
our business. Since these regulations are amended from time to time and are
subject to interpretation, we cannot predict when and to what extent liability
may arise. Failure to comply with current or future regulatory requirements
could also result in the imposition of various remedies including (with respect
to inpatient care) fines, restrictions on admission, denial of payment for all
or new admissions, the revocation of licensure, decertification, imposition of
temporary management or the closure of a facility or site of service.
We are subject to periodic audits by the Medicare and Medicaid programs, which
have various rights and remedies against us if they assert that we have
overcharged the programs or failed to comply with program requirements. Rights
and remedies available to these programs include repayment of any amounts
alleged to be overpayments or in violation of program requirements, or making
deductions from future amounts due to us. These programs may also impose fines,
criminal penalties or program exclusions. Other third-party payer sources also
reserve rights to conduct audits and make monetary adjustments in connection
with or exclusive of audit activities.
The healthcare industry is highly competitive. We compete with a variety of
other organizations in providing medical services, many of which have greater
financial and other resources and may be more established in their respective
communities than we are. Competing companies may offer newer or different
centers or services than we do and may thereby attract patients or customers who
are presently our patients or customers or are otherwise receiving our services.
An increasing trend in malpractice litigation claims, rising costs of
malpractice litigation, losses associated with these malpractice lawsuits and a
constriction of insurers have caused many insurance carriers to raise the cost
of insurance premiums or refuse to write insurance policies for hospital
facilities. Also, a tightening of the reinsurance market has affected property,
vehicle, and excess liability insurance carriers.
We receive all of our inpatient service revenues from operations in Orange
County, California. The economic condition of this market could affect the
ability of our patients and third-party payers to reimburse us for our services,
through its effect on disposable household income and the tax base used to
generate state funding for Medicaid programs. An economic downturn, or changes
in the laws affecting our business in our market and in surrounding markets,
could have a material adverse effect on our financial position, results of
operations, and cash flows.
LIQUIDITY AND CAPITAL RESOURCES
The accompanying unaudited condensed consolidated financial statements have been
prepared on a going concern basis, which contemplates the realization of assets
and settlement of obligations in the normal course of business. We had a total
stockholders' deficiency of $15.1 million and a working capital deficit of $64.5
million at June 30, 2012. For the three months ended June 30, 2012, we had a net
loss of $3.5 million. As discussed below, the stated maturity date of our $45.0
million term loan with Silver Point is April 13, 2013. If we are unable to
refinance, restructure or extend our obligation to repay the principal amount by
the maturity date, such failure would constitute a default under the credit
agreement with Silver Point and our other loan facilities, which would permit
Silver Point and our other lenders to seize our assets and those of our variable
interest entity, PCHI. Any actions by Silver Point or our other lenders to
enforce their rights by seizing our assets could force us into bankruptcy or
liquidation, which would have a material adverse effect on our liquidity and
financial position and the value of our common stock.
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Key items for the three months ended June 30, 2012 included:
1. Net patient service revenues (patient service revenues, net of
contractual allowances and discounts, less provision for doubtful
accounts) for the three months ended June 30, 2012 and 2011 were $81.7
million and $80.0 million, respectively, representing an increase of
$1.7 million, or 2.1%. The Hospitals serve a disproportionate number
of indigent patients and receive governmental revenues and subsidies
in support of care for these patients. Governmental revenues include
payments from Medicaid, Medicaid DSH, and Orange County, CA
(CalOptima). Governmental net revenues increased $2.9 million for the
three months ended June 30, 2012 compared to the three months ended
June 30, 2011.
Inpatient admissions decreased by 3.8% to 5.1 for the three months
ended June 30, 2012 compared to 5.3 for the three months ended June
30, 2011. The decline in admissions is primarily related to reductions
in managed care, shifts from inpatient to outpatient observation, and
obstetrics admissions.
Uninsured patients, as a percentage of gross charges (retail charges),
were 5.4% for the three months ended June 30, 2012 compared to 4.8%
for the three months ended June 30, 2011.
2. Operating expenses: Management is working aggressively to reduce costs
without reduction in service levels. These efforts have in large part
been offset by inflationary pressures. Operating expenses before
interest for the three months ended June 30, 2012 were $83.0 million,
representing an increase of $1.2 million, or 1.5%, compared to the
three months ended June 30, 2011. The most significant factor of this
increase related to an increase in supplies of $1.1 million.
DEBT - As of June 30, 2012, we had the following credit facilities:
? $45.0 million term loan under the Credit Agreement, dated as of
October 9, 2007, as amended (the "Term Loan Credit Agreement"), by and
among us, Silver Point Finance, LLC and its affiliates SPCP Group IV,
LLC and SPCP Group, LLC (together with Silver Point Finance, LLC,
"Silver Point"), and PCHI and Ganesha, as Credit Parties, bearing a
fixed interest rate of 14.5% per year ($45.0 million outstanding
balance at June 30, 2012). If any event of default occurs and
continues, the lender can increase the interest rate to 19.5% per
year.
? $14.0 million revolving line of credit under the Credit and Security
Agreement, dated as of August 30, 2010, as amended (the "Revolving
Loan Agreement"), by and among us, MidCap Funding IV, LLC, as assigned
to it from MidCap Financial, LLC, as administrative agent and a
lender, and Silicon Valley Bank, as a lender (collectively, the
"Lenders"), bearing an interest rate of 5.0% plus LIBOR, with a 2.5%
floor, per year (7.5% at June 30, 2012) and an unused commitment fee
of 0.625% per year ($14.0 million outstanding balance at June 30,
2012). For purposes of calculating interest, all payments we make on
the revolving line of credit are subject to a six business day
clearance period.
Our credit facilities contain various affirmative and negative covenants and
customary events of default, including payment defaults, breaches of
representations and warranties, covenant defaults, cross-defaults to similar
obligations, events of bankruptcy and insolvency, judgment defaults, the
invalidity of liens on collateral, and the occurrence of events which have a
material adverse effect on us. As of June 30, 2012, we were in compliance with
all financial covenants.
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Our outstanding debt consists of the following:
June 30, March 31,
2012 2012
Current:
Revolving line of credit $ 14,000 $ 14,000
Term loan 45,000 -
$ 59,000 $ 14,000
Noncurrent:
Term loan $ - $ 45,000
On August 1, 2012, we entered into Amendment No. 3 to Credit and Security
Agreement (the "Revolving Loan Amendment"), which amends the Revolving Loan
Agreement.
Under the Revolving Loan Amendment, the minimum Revolving Loan Commitment Amount
under the Revolving Loan Agreement was increased from $14.0 million to $30.0
million, and we agreed to pay to the Lenders an origination fee of 1.0% of the
Lenders' increased commitment under the Revolving Loan Amendment, or $160.
In addition, under the Revolving Loan Amendment, the lockbox requirements under
the Revolving Loan Agreement were amended to provide that in the event the
Revolving Loan Commitment Amounts are $30.0 million or less during any period
prior to March 31, 2013, or $20.0 million or less thereafter (and assuming there
is no Event of Default at the time), we would be permitted to transfer funds
that are deposited into any Lockbox Account, as defined, to a different bank
account designated by us, subject to the other terms and conditions contained in
the Revolving Loan Agreement.
Also on August 1, 2012, we entered into Amendment No. 4 to Credit Agreement and
Consent (the "Credit Agreement Amendment"), which amends the Term Loan Credit
Agreement.
Under the Credit Agreement Amendment, Silver Point consented to and waived
certain provisions under the Term Loan Credit Agreement in connection with our
execution of the Revolving Loan Amendment. In addition, the provisions in the
Term Loan Credit Agreement that provide for mandatory prepayment of our
outstanding "A/R Financing," as defined, upon receipt of certain federal
matching funds under the QAF program were amended to replace 65% with 80%. In
connection with the Credit Agreement Amendment, we agreed to pay Silver Point a
one-time consent and amendment fee in an aggregate amount equal to $1.8 million,
of which $450 was paid upon execution of the Credit Agreement Amendment and the
balance was added to the principal amount of the Term Loan Credit Agreement.
On August 1, 2012, we borrowed $9.5 million under the amended Revolving Loan
Agreement and used the funds to pay the first installment fee of $9.5 million
under the 2013 QAF (see "HOSPITAL QUALITY ASSURANCE FEES").
WARRANTS - On April 13, 2010, we issued warrants (the "Omnibus Warrants") to
purchase our common stock for a period of three years at an exercise price of
$0.07 per share in the following denominations: 139.0 million shares to KPC
Resolution Company (a company owned and controlled by Kali P. Chaudhuri, M.D.,
our majority shareholder) or its designees and 96.0 million shares to the $45.0
million Term Loan lender or its designees. The Omnibus Warrants also provide the
holders with certain pre-emptive, information and registration rights. As of
April 13, 2010, we recorded warrant expense and the related warrant liability of
$2.9 million, representing fair value. As of June 30, 2012, the fair value of
the Omnibus Warrants was $528.
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In addition, on April 13, 2010, we issued a three-year warrant (the "Release
Warrant") to acquire up to 170.0 million shares of our common stock at $0.07 per
share to Dr. Chaudhuri who facilitated a release enabling us to recover amounts
due from our prior lender and a $1.0 million reduction in principal of our
outstanding debt, among other benefits to us. As a result, we recorded the fair
value of the Release Warrant ($2.1 million) as an offsetting cost of the
recovery of amounts due from our prior lender. The Release Warrant also provides
the holder with certain pre-emptive, information and registration rights. As of
June 30, 2012, the fair value of the Release Warrant was $382.
The Omnibus Warrants and the Release Warrant are collectively referred to as the
"April Warrants." The net gain (loss) recorded related to the April Warrants for
the three months ended June 30, 2012 and 2011 was $731 and $(3.3) million,
respectively.
HOSPITAL QUALITY ASSURANCE FEES - In October 2009, the Governor of California
signed legislation supported by the hospital industry to impose a provider fee
on general acute care hospitals that, combined with federal matching funds,
would be used to provide supplemental Medi-Cal payments to hospitals. The state
submitted the plan to the Centers for Medicare and Medicaid Services ("CMS") for
a required review and approval process, and certain changes in the plan were
required by CMS. Legislation amending the fee program to reflect the required
changes was passed by the legislature and signed by the Governor on September 8,
2010. Among other changes, the legislation leaves distribution of "pass-through"
payments received by Medi-Cal managed care plans that will be paid to hospitals
under the program to the discretion of the plans.
The hospital quality assurance fee program ("QAF") created by this legislation
initially provided payments for up to 21 months retroactive to April 2009 and
expiring on December 31, 2010 ("2010 QAF"). In February 2011, CMS gave final
approval for the 2010 QAF. In December 2011, CMS gave final approval for the
extension of the QAF for the six month period from January 1 through June 30,
2011 ("2011 QAF").
During fiscal year 2012, we recognized $31.9 million in revenue and recorded
expenses of $15.9 million relating to the 2011 QAF. During fiscal year 2011, we
recognized $87.2 million in revenue and recorded expenses of $47.8 million
relating to the 2010 QAF.
In June 2012, CMS conditionally approved the extension of the QAF for the thirty
month period from July 1, 2011 through December 31, 2013 ("2013 QAF"). Based on
the most recent modeling prepared by the California Hospital Association, we
anticipate making payments for provider fees and other expenses relating to the
2013 QAF of approximately $105.8 million and receiving approximately $235.5
million in revenues from the state ($79.4 million from the fee-for-service
portion and $156.1 million from the managed care portion). No amounts have been
recognized relating to the 2013 QAF pending resolution of CMS conditions of
approval. On August 1, 2012, we paid the first installment fee of $9.5 million
under the 2013 QAF (see "DEBT").
We cannot provide any assurances or estimates in connection with CMS's final
approval of the 2013 QAF or a possible continuation of the QAF program beyond
December 31, 2013.
ELECTRONIC HEALTH RECORDS INCENTIVE PROGRAM - Provisions of the American
Recovery and Reinvestment Act of 2009 provide incentive payments for the
adoption and meaningful use of certified electronic health record (EHR)
technology. The Medicare EHR incentive program provides incentive payments to
eligible hospitals (and certain other providers) that are meaningful users of
certified EHRs. The Medicaid EHR incentive program provides incentive payments
to eligible hospitals (and certain other providers) for efforts to adopt,
implement, upgrade, or meaningfully use of certified EHR technology.
CMS has established the final rule which requires eligible providers in their
first year of participation in the Medicaid incentive payment program to
demonstrate that they have adopted (acquired, purchased, or secured access to),
or implemented, or upgraded to certified EHR technology in order to qualify for
an incentive payment. During the second and subsequent years of the program,
eligible providers are required to meet other criteria, including meaningful
use, to receive additional funds. We have been awarded a total amount of $13.6
million under the Medicaid EHR incentive program, which will be earned and
received over a four year period. We adopted certified EHR technology and
recognized other income of $6.8 million relative to the first year under the
Medicaid EHR incentive program during fiscal year 2012.
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LONG TERM LEASE COMMITMENT WITH VARIABLE INTEREST ENTITY - On April 13, 2010, we
and PCHI entered into a Second Amendment to Amended and Restated Triple Net
Hospital Building Lease (the "2010 Lease Amendment"). Under the 2010 Lease
Amendment, the annual base rent to be paid by us to PCHI was increased from $5.4
million to $7.3 million. The base rent is subject to an annual Consumer Price
Index increase on January 1 of each year; such increase shall not be less than
2% or more than 6% per year. As a result, the annual base rent as of January 1,
2012 is $7.7 million. If PCHI refinances the $45.0 million Term Loan, the annual
base rent will increase to $8.3 million. This lease commitment with PCHI is
eliminated in consolidation.
COMMITMENTS AND CONTINGENCIES - The State of California has imposed hospital
seismic safety requirements. Under these requirements, the Hospitals must meet
stringent seismic safety criteria in the future. In addition, there could be
other remediation costs pursuant to this seismic retrofit.
The State of California has a seismic review methodology known as HAZUS. The
HAZUS methodology may preclude the need for some structural modifications. All
four Hospitals requested HAZUS review and received a favorable notice pertaining
to structural reclassification. All Hospital buildings, with the exception of
one (an administrative building), have been deemed compliant until January 1,
2030 for both structural and nonstructural retrofit. We do not have an estimate
of the cost to remediate the seismic requirements for the administrative
building as of June 30, 2012.
There are additional requirements that must be complied with by 2030. The costs
of meeting these requirements have not yet been determined. Compliance with
seismic ordinances will be costly and could have a material adverse effect on
our cash flow. In addition, remediation could possibly result in certain
environmental liabilities, such as asbestos abatement.
On July 1, 2011, we entered into software and services agreements with McKesson
Technologies Inc. ("McKesson") to upgrade our information technology systems.
Under the agreements, McKesson will provide us with a variety of services,
including new software implementation and education/training services for our
personnel, software maintenance services and professional services related to
movement and migration of data from legacy systems. McKesson will also furnish
to us and maintain new hardware to accommodate the upgraded software and
systems. The new hardware will include computers and servers, among other
things, and will include installation, testing, and ongoing maintenance. We have
entered into the arrangement to enhance our clinical information systems and
upgrade our billing and revenue management information systems.
The agreements will initially run for a period of five years, and the recurring
services may be renewed by us for successive periods. The agreements do not
provide that they may be terminated by us prior to the initial expiration
date. The agreements provide for one-time fees and recurring fees which
aggregate a total of $22.0 million. Approximately 60% of the fees are for
one-time charges, while the balance is for recurring services.
CASH FLOW - Net cash used by operating activities for the three months ended
June 30, 2012 and 2011 was $1.8 million and $5.4 million, respectively. Net
income (loss), adjusted for depreciation and other non-cash items, excluding the
provision for doubtful accounts and net income from non-controlling interests
(not a measurement under accounting principles generally accepted in the United
States of America ("GAAP"), totaled $(2.9) million and $2.0 million for the
three months ended June 30, 2012 and 2011, respectively. We provided (used) $1.0
million and $(7.5) million in working capital for the three months ended June
30, 2012 and 2011, respectively. Net used in payment of accounts payable,
accrued compensation and benefits and other current liabilities was $3.5 million
and $5.1 million for the three months ended June 30, 2012 and 2011,
respectively. Cash provided by accounts receivable, net of provision for
doubtful accounts, was $1.0 million and $6.2 million for the three months ended
June 30, 2012 and 2011, respectively.
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Net cash used in investing activities during the three months ended June 30,
2012 and 2011 was $0.6 million and $0.4 million, respectively. In the three
months ended June 30, 2012 and 2011, we invested $0.6 million and $0.4 million
in cash, respectively, in new property and equipment.
Net cash provided by (used in) financing activities for the three months ended
June 30, 2012 and 2011 was $(0.5) million and $0.1 million, respectively.
RESULTS OF OPERATIONS AND FINANCIAL CONDITION
The following table sets forth, for the three months ended June 30, 2012 and
2011 our unaudited condensed consolidated statements of operations expressed as
a percentage of net patient service revenues.
Three months ended June 30,
2012 2011
Net patient service revenues 100.0% 100.0%
Operating expenses:
Salaries and benefits 64.9% 66.6%
Supplies 17.2% 16.2%
Other operating expenses 18.4% 18.1%
Depreciation and amortization 1.2% 1.4%
101.7% 102.3%
Operating loss (1.7% ) (2.3% )
Other income (expense):
Interest expense, net (3.0% ) (3.6% )
Gain (loss) on warrants 0.9% (4.1% )
(2.1% ) (7.7% )
Loss before income tax provision (benefit) (3.8% ) (10.0% )
Income tax provision (benefit) 0.1% (6.5% )
Net loss (3.9% ) (3.5% )
Net income attributable to noncontrolling interests (0.4% ) (0.2% )
Net loss attributable to
Integrated Healthcare Holdings, Inc. (4.3% ) (3.7% )
THREE MONTHS ENDED JUNE 30, 2012 COMPARED TO THREE MONTHS ENDED JUNE 30, 2011
NET PATIENT SERVICE REVENUES - Net patient service revenues for the three months
ended June 30, 2012 increased 2.1% compared to fiscal year 2012, from $80.0
million to $81.7 million. The provision for doubtful accounts for the three
months ended June 30, 2012 was $9.9 million compared to $9.7 million for the
three months ended June 30, 2011, representing a 2.1% increase.
Admissions for the three months ended June 30, 2012 decreased 3.8% compared to
the same period in fiscal year 2012. The decline in admissions is the combined
result of lower obstetrical deliveries, and psychiatric admissions. Net patient
service revenues per admission increased 5.5% during the three months ended June
30, 2012. This increase was primarily due to an increase orthopedic surgeries
and shifts from inpatient to outpatient observation.
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Essentially all patient service revenues come from external customers. The
largest payers are the Medicare and Medicaid (including Medicare and Medicaid
managed care plans) programs accounting for 57% and 55% of the patient service
revenues for the three months ended June 30, 2012 and 2011, respectively.
Uninsured patients, as a percentage of gross charges, increased to 5.4% from
4.8% for the three months ended June 30, 2012 compared to the three months ended
June 30, 2011.
The Hospitals serve a disproportionate number of indigent patients and receive
governmental revenues and subsidies in support of care for these patients.
Governmental revenues include payments from Medicaid, Medicaid DSH, and Orange
County, CA (CalOptima). Governmental net revenues increased $2.9 million for the
three months ended June 30, 2012 compared to the three months ended June 30,
2011.
OPERATING EXPENSES - Operating expenses for the three months ended June 30, 2012
increased to $83.0 million from $81.8 million, an increase of $1.2 million, or
1.5%, compared to the same period in fiscal year 2012. Operating expenses
expressed as a percentage of net patient services revenues for the three months
ended June 30, 2012 and 2011 were 101.7% and 102.3%, respectively. On a per
admission basis, operating expenses increased 4.9%.
Salaries and benefits decreased $247 (0.5%) for the three months ended June 30,
2012 compared to the same period in fiscal year 2012.
Supplies increased $1.1 million (8.5%) for the three months ended June 30, 2012
compared to the same period in fiscal year 2012. The increase primarily related
to increases in orthopedic supplies ($0.7 million) and pacemakers ($0.6
million).
Other operating expenses during the three months ended June 30, 2012 increased
to $15.0 million from $14.5 million, an increase of $0.5 million, or 3.4%,
compared to the same period in fiscal year 2012.
OPERATING LOSS - The operating loss for the three months ended June 30, 2012 and
2011 was $1.4 million and $1.8 million, respectively.
OTHER INCOME (EXPENSE) - Interest expense for the three months ended June 30,
2012 was $2.4 million compared to $2.8 million for the same period in fiscal
year 2012. The decrease primarily related to the paydown of our revolving line
of credit.
As of June 30, 2012, the fair value of our April Warrants aggregated $910. A
gain (loss) relating to the change in fair value of the April Warrants of $731
and $(3.3) million was recorded during the three months ended June 30, 2012 and
2011, respectively. See "WARRANTS."
NET LOSS - Net loss for the three months ended June 30, 2012 and 2011 was $3.5
million and $2.9 million, respectively.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
PATIENT SERVICE REVENUES - Patient service revenues are recognized in the period
in which services are performed and are recorded based on established billing
rates (gross charges) less contractual allowances and discounts, principally for
patients covered by Medicare, Medicaid, managed care, and other health plans.
Gross charges are retail charges. They are not the same as actual pricing, and
they generally do not reflect what a hospital is ultimately paid and therefore
are not displayed in the consolidated statements of operations. Hospitals are
typically paid amounts that are negotiated with insurance companies or are set
by the government. Gross charges are used to calculate Medicare outlier payments
and to determine certain elements of payment under managed care contracts (such
as stop-loss payments). Since Medicare requires that a hospital's gross charges
be the same for all patients (regardless of payer category), gross charges are
also what the Hospitals charge all other patients prior to the application of
discounts and allowances.
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Revenues under the traditional fee-for-service Medicare and Medicaid programs
are based primarily on prospective payment systems. Discounts for
retrospectively cost based revenues and certain other payments, which are based
on the Hospitals' cost reports, are estimated using historical trends and
current factors. Cost report settlements for retrospectively cost-based revenues
under these programs are subject to audit and administrative and judicial
review, which can take several years until final settlement of such matters are
determined and completely resolved. Estimates of settlement receivables or
payables related to a specific year are updated periodically and at year end and
at the time the cost report is filed with the fiscal intermediary. Typically no
further updates are made to the estimates until the final Notice of Program
Reimbursement is received, at which time the cost report for that year has been
audited by the fiscal intermediary. There could be a time lag of several years
between the submission of a cost report and receipt of the Final Notice of
Program Reimbursement. Since the laws, regulations, instructions and rule
interpretations governing Medicare and Medicaid reimbursement are complex and
change frequently, the estimates recorded by the Hospitals could change by
material amounts. We have established settlement receivables (payables) of $(72)
and $190 as of June 30 and March 31, 2012, respectively.
The Hospitals receive supplemental payments from the State of California to
support indigent care (Medi-Cal Disproportionate Share Hospital payments or
"DSH") and from the California Medical Assistance Commission ("CMAC") under the
SB 1100 and SB 1255 programs. The Hospitals received supplemental payments of
$4.7 million and $4.9 million during the three months ended June 30, 2012 and
2011, respectively. The related revenue recorded for the three months ended June
30, 2012 and 2011, was $1.8 million and $3.4 million, respectively. As of June
30 and March 31, 2012, estimated DSH receivables were $2.1 million and $5.0
million, respectively.
Revenues under managed care plans are based primarily on payment terms involving
predetermined rates per diagnosis, per-diem rates, discounted fee-for-service
rates and/or other similar contractual arrangements. These revenues are also
subject to review and possible audit by the payers. The payers are billed for
patient services on an individual patient basis. An individual patient's bill is
subject to adjustment on a patient-by-patient basis in the ordinary course of
business by the payers following their review and adjudication of each
particular bill. The Hospitals estimate the discounts for contractual allowances
utilizing billing data on an individual patient basis. Management believes the
estimation and review process allows for timely identification of instances
where such estimates need to be revised. We do not believe there were any
adjustments to estimates of individual patient bills that were material to our
patient service revenues.
The Hospitals provide charity care to patients whose income level is below 300%
of the Federal Poverty Level. Patients with income levels between 300% and 350%
of the Federal Poverty Level qualify to pay a discounted rate under AB 774 based
on various government program reimbursement levels. Patients without insurance
are offered assistance in applying for Medicaid and other programs they may be
eligible for, such as state disability, Victims of Crime, or county indigent
programs. Patient advocates from the Hospitals' Medical Eligibility Program
("MEP") screen patients in the hospital and determine potential linkage to
financial assistance programs. They also expedite the process of applying for
these government programs. The estimated costs (based on direct and indirect
costs as a ratio of gross uncompensated charges associated with providing care
to charity patients) for the three months ended June 30, 2012 and 2011 were
approximately $2.5 million and $1.3 million, respectively.
We are not aware of any material claims, disputes, or unsettled matters with any
payers that would affect revenues that have not been adequately provided for in
our consolidated financial statements.
PROVISION FOR DOUBTFUL ACCOUNTS - We provide for accounts receivable that could
become uncollectible by establishing an allowance to reduce the carrying value
of such receivables to their estimated net realizable value. The Hospitals
estimate this allowance based on the aging of their accounts receivable,
historical collections experience for each type of payer and other relevant
factors. There are various factors that can impact the collection trends, such
as changes in the economy, which in turn have an impact on unemployment rates
and the number of uninsured and underinsured patients, volume of patients
through the emergency department, the increased burden of copayments 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.
Our policy is to attempt to collect amounts due from patients, including
copayments and deductibles due from patients with insurance, at the time of
service while complying with all federal and state laws and regulations,
including, but not limited to, the Emergency Medical Treatment and Labor Act
("EMTALA"). Generally, as required by EMTALA, patients may not be denied
emergency treatment due to inability to pay. Therefore, until the legally
required medical screening examination is complete and stabilization of the
patient has begun, services are performed prior to the verification of the
patient's insurance, if any. In nonemergency circumstances or for elective
procedures and services, it is the Hospitals' policy, when appropriate, to
verify insurance prior to a patient being treated.
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Effective March 31, 2012, we adopted Accounting Standards Update ("ASU")
2011-07, "Health Care Entities (Topic 954): Presentation and Disclosure of
Patient Service Revenue, Provision for Bad Debts, and the Allowance for Doubtful
Accounts for Certain Health Care Entities," which requires health care entities
to present the provision for doubtful accounts relating to patient service
revenue as a deduction from patient service revenue in the statement of
operations rather than as an operating expense.
INCOME TAXES - Deferred income tax assets and liabilities are determined based
on the differences between the book and tax basis of assets and liabilities and
are measured using the currently enacted tax rates and laws using the asset and
liability method. We assess the realization of deferred tax assets to determine
whether an income tax valuation allowance is required. We have recorded a 100%
valuation allowance on its deferred tax assets.
There is a recognition threshold and measurement attribute for recognition and
measurement of a tax position taken or expected to be taken in a tax return. It
also provides guidance on de-recognition, classification, interest and
penalties, accounting in interim periods, disclosure and transition.
We and our subsidiaries file income tax returns in the U.S. federal jurisdiction
and California. Certain tax attributes carried over from prior years continue to
be subject to adjustment by taxing authorities. Any penalties or interest
arising from federal or state taxes are recorded as a component of our income
tax provision.
INSURANCE - We accrue for estimated general and professional liability claims,
to the extent not covered by insurance, when they are probable and reasonably
estimable. We have purchased as primary coverage a claims-made form insurance
policy for general and professional liability risks. Estimated losses within
general and professional liability retentions from claims incurred and reported,
along with incurred but not reported ("IBNR") claims, are accrued based upon
projections and are discounted to their net present value using a weighted
average risk-free discount rate of 5%. To the extent that subsequent claims
information varies from estimates, the liability is adjusted in the period such
information becomes available. As of June 30 and March 31, 2012, we had accrued
$12.0 million and $11.5 million, respectively, which is comprised of $5.4
million and $4.5 million, respectively, in incurred and reported claims, along
with $6.6 million and $7.0 million, respectively, in estimated IBNR. Estimated
insurance recoveries of $3.6 million and $3.0 million are included in other
prepaid expenses and current assets as of June 30 and March 31, 2012,
respectively.
We have also purchased occurrence coverage insurance to fund our obligations
under our workers compensation program. We have a "guaranteed cost" policy,
under which the carrier pays all workers compensation claims, with no deductible
or reimbursement required of us. We accrue for estimated workers compensation
claims, to the extent not covered by insurance, when they are probable and
reasonably estimable. The ultimate costs related to this program include
expenses for deductible amounts associated with claims incurred and reported in
addition to an accrual for the estimated expenses incurred in connection with
IBNR claims. Claims are accrued based upon projections and are discounted to
their net present value using a weighted average risk-free discount rate of 5%.
To the extent that subsequent claims information varies from estimates, the
liability is adjusted in the period such information becomes available. As of
June 30 and March 31, 2012, we had accrued $643 and $673, respectively,
comprised of $318 and $338, respectively, in incurred and reported claims, along
with $325 and $335, respectively, in estimated IBNR.
In addition, we have a self-insured health benefits plan for our employees. As a
result, we have established and maintain an accrual for IBNR claims arising from
self-insured health benefits provided to employees. Our IBNR accruals at June 30
and March 31, 2012 were based upon projections. We determine the adequacy of
this accrual by evaluating our historical experience and trends related to both
health insurance claims and payments, information provided by our insurance
broker and third party administrator and industry experience and trends. The
accrual is an estimate and is subject to change. Such change could be material
to our unaudited condensed consolidated financial statements. As of June 30 and
March 31, 2012, we had accrued $1.6 million and $2.2 million, respectively, in
estimated IBNR.
We have also purchased umbrella liability policies with aggregate limits of $25
million. The umbrella policies provide coverage in excess of the primary layer
and applicable retentions for insured liability risks such as general and
professional liability, auto liability, and workers compensation (employer's
liability).
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