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Mercy Alliance, Inc. and Affiliates
Janesville, Wisconsin
Consolidated Financial Statements and
Consolidating Information
Years Ended June 30, 2008 and 2007
Mercy Alliance, Inc. and Affiliates
Consolidated Financial Statements and Consolidating Information
Years Ended June 30, 2008 and 2007
Table of Contents
Independent Auditor's Report
1
Financial Statements
Consolidated Balance Sheets
2
Consolidated Statements of Operations and Changes in Net Assets
3
Consolidated Statements of Cash Flows
4
Notes to Consolidated Financial Statements
6
Independent Auditor's Report on Consolidating Information
30
Consolidating Information
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I
Consolidating Balance Sheets
31
Consolidating Statements of Operations and Changes in Net Assets
33
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Independent Auditor's Report
Board of Directors
Mercy Alliance, Inc.
Janesville, Wisconsin
We have audited the accompanying consolidated balance sheets of Mercy Alliance, Inc. and Affiliates
('Alliance") as of June 30, 2008 and 2007, and the related consolidated statements of operations and
changes in net assets and cash flows for the years then ended. These financial statements are the
responsibility of Alliance's management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States.
Those standards require that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our audits provide a reasonable
basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects,
the financial position of Mercy Alliance, Inc. and Affiliates at June 30, 2008 and 2007, and the results of
their operations, changes in their net assets, and their cash flows for the years then ended in conformity
with accounting principles generally accepted in the United States.
Wipfli LLP
September 3, 2008
Milwaukee, Wisconsin
(In Thousands)
Liabilities and NetAssets
2008
2007
Current liabilities:
$
7,321 $
6,516
25,632
862
27,597
3,929
7,080
24,405
833
20,196
67,928
56,443
117,407
949
9,993
23,225
124,687
Total long-term liabilities
151,574
155,766
Total liabilities
219,502
212,209
236,370
229,876
Current maturities of long-term debt
Accounts payable
Salaries, wages, and payroll taxes
Due to third-party payors
Other accrued expenses
Total cu rrent liabilities
Long-term liabilities:
Long-term debt, less current maturities
Interest rate swap
Deferred compensation
Pension liability
Total net assets - Unrestricted
TOTAL LIABILITIES AND NETASSETS
See accompanying notes to consolidated financial statements.
$
455,872
9,024
22,055
$
442,085
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Mercy Alliance, Inc. and Affiliates
Consolidated Statements of Operations and Changes in Net Assets
Years Ended June 30, 2008 and 2007
(In Thousands)
2008
Revenue:
Net patient service revenue
$
2007
$
453,113
Other revenue
488,712
1,855
Total revenue
490,567
454,554
151,754
Diagnostic services
161,906
23,772
Treatment services
General and administrative services
144,503
105,874
Expenses:
Entry point services
Provision for bad debts
17,008
Depreciation and amortization
Interest
17,909
5,654
1,441
21,818
130,382
97,722
13,678
16,195
6,936
476,626
438,485
16,069
Nonoperating income - Net
13,941
5,746
Excess of revenue over expenses
19,687
31,828
(11,565)
3,789
Total expenses
Income from operations
15,759
Other changes in unrestricted net assets:
Change in net unrealized gains and losses on investments other than
trading secu rilles
(305)
Changes in pension obligation other than pension expense
(9,612)
Adjustment to adopt SFAS No. 158
Change in fair value of interest rate swap
(1,323)
Change in unrestricted net assets
See accompanying notes to consolidated financial statements.
26,379
6,494
229,876
Unrestricted net assets at beginning
Unrestricted net assets at end
374
$
236,370
203,497
$
229,876
3
Mercy Alliance, Inc. and Affiliates
Consolidated Statements of Cash Flows
Years EndedJune 30,2008 and 2007
(In Thousands)
2008
2007
Increase (decrease) in cash and cash equivalents:
Cash flows from operating activities:
Cha nge in net assets
$
6,494
$
26,379
Adjustments to reconcile change in net assets to net cash provided
by operating activities:
Changes in pension obligation other than pension expense
305
Adjustment to adopt SFAS No. 158
9,612
Change in net unrealized gains and losses on investments other
than trading securities
Net realized (gains) losses on sales of investments
Change in fair value of interest rate swap
Depreciation and amortization
11,565
(706)
1,323
17,909
Gain on disposal of properly and equipment
(3,789)
(11,589)
(374)
16,195
(49)
Changes in operating assets and liabilities:
Patient accounts receivable
Supplies and other current assets
Accounts payable
Accrued liabilities and other
Due from/to third-party payors
Net cash provided by operating activities
(10,249)
(19,618)
22
(964)
(564)
10,515
(580)
37
2,552
206
36,034
18,598
212
15,285
Cash flows from investing activities:
Decrease in assets limited as to use
Capital expenditures
Change in other assets
Net cash used in investing activities
(27,336)
148
(26,976)
(28,862)
(351 )
(13,928)
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Mercy Alliance, Inc. and Affiliates
Consolidated Statements of Cash Flows (Continued)
Years Ended june 30, 2008 and 2007
(In Thousands)
2008
2007
Cash flows from financing activities:
Proceeds from issuance of long-term debt
$
Payment of bond issue costs
Principal payments on long-term debt
Net cash used in financing activities
$
34,688
(32)
(562)
(3,929)
(41,234)
(3,961)
(7,108)
Net increase (decrease) in cash and cash equivalents
" 5,097
(2,438)
Cash and cash equivalents at beginning
16,919
19,357
Cash and cash equivalents at end
$
22,016
$
16,919
$
5,186
$
7,222
Supplemental cash flow information:
Cash paid for interest
See accompanying notes to consolidated financial statements.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies
The Entity and Principles of Consolidation
The consolidated financial statements include the accounts and operations of Mercy
Alliance, Inc. and its affiliates and wholly owned subsidiaries (collectively "Alliance");
•
Mercy Alliance, Inc. (MAl)
Serves as parent corporation for the corporate group and supports the operations
of its affiliates and subsidiaries.
.•
Mercy Health System Corporation (MHSC)
Operates a 240-bed hospital (licensed beds) in Janesville, Wisconsin;
approximately 39 physician clinics in southern Wisconsin and northern Illinois; a
skilled nursing facility (SNF) that operates as a subacute care unit of the hospital
building; and Mercy Walworth Hospital and Medical Center (MWH), a 6-bed
hospital facility in Walworth County, Wisconsin. MWH is reimbursed by Medicare
as a critical access hospital (CAH).
•
Mercy Assisted Care, Inc. (MAC)
Coordinates home care through nurses, physical therapists, and speech therapists
and operates a 40-bed, community-based residential facility as well as hospice and
personal care programs. MAC also operates Mercy Homecare, a supplier of
durable medical equipment, and the Cooperative Childcare Institute, a residential
care center for children and youth.
•
Mercy Harvard Hospital. Inc. (MHH)
Operates a hospital with 25 acute and 45 long-term care beds located in Harvard,
Illinois. MHH also has an affiliate, Harvard Memorial Hospital Foundation, whose
purpose is to support the programs of MHH. MHH is reimbursed by Medicare as
a critical access hospital.
•
Mercy Foundation, Inc. fMFI)
MFI's primary activity is fund-raising for MHSC and its programs in accordance
with its bylaws.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies (Continued)
•
MercyCare Insurance Company CMCIC)
An indemnity insurance company that contracts with local employers. MCIC has a
wholly owned subsidiary, MercyCare HMO. MOC and its subsidiary contract for
services with MHSC and its affiliates.
All significant intercompany accounts and transactions have been eliminated in
consolidation.
Financial Statement Presentation
The consolidated financial statements have been presented in accordance with accepted
reporting practices for the health care industry.
Use of Estimates in Preparation of Financial Statements
The preparation of the accompanying consolidated financial statements in conformity
with accounting principles generally accepted in the United States requires management
to make estimates and assumptions that directly affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of the financial
statements. Estimates also affect the reported amounts of revenue and expenses during
the reporting period. Actual results may differ from these estimates.
Cash Equivalents
Highly liquid debt instruments with an original maturity of three months or less are
considered to be cash equivalents, excluding amounts limited as to use. The carrying
amount reported in the balance sheet for cash equivalents approximates its fair value.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies (Continued)
Patient Accounts Receivable and Credit Policy
Patient accounts receivable are uncollateralized patient obligations that are stated at the
amount managementexpects to collect from outstanding balances. These obligations
are primarily from local residents, most of whom are insured under third-party payor
agreements. Alliance bills third-party payors on the patients' behalf, or if a patient is
uninsured, the patient is billed directly. Once claims are settled with the primary payor,
any secondary insurance is billed, and patients are billed for copay and deductible
amounts that are the patients' responsibility. Payments on accounts receivable are
applied to the specific claim identified on the remittance advice or statement. Alliance
does not have a policy to charge interest on past due accounts.
The carrying amounts of accounts receivable are reduced by allowances that reflect
management's best estimate of the amounts that will not be collected. Management
provides for contractual adjustments under terms of third-party reimbursement
agreements through a reduction of gross revenue and a credit to patient accounts
receivable. In addition, management provides for probable uncollectible amounts,
primarily uninsured patients and amounts patients are personally responsible for, through
a charge to operations and a credit to a valuation allowance based on its assessment of
historical collection likelihood and the current status of individual accounts. Balances that
are still outstanding after management has used reasonable collection efforts are written
off through a charge to the valuation allowance and a credit to patient accounts
receivable.
Patient accounts receivable are recorded in the accompanying consolidated balance
sheets net of allowances for contractual adjustments and doubtful accounts.
Supplies
Supplies are valued at the lower of cost, determined on the first-in, first-out (FIFO)
method, or market.
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Mercy Alliance, Inc. and Affiliates
Notesto Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies (Continued)
Investments and Investment Income
Investments in equity securities with readily determinable fair values and all investments
in debt securities are measured at fair value in the accompanying consolidated balance
sheets. Investment income or loss (including realized gains and losses on investments,
interest, and dividends) is included in nonoperating income unless the income or loss is
restricted by donor or law. Unrealized gains and losses on investments are excluded
from the operating indicator unless the investments are trading securities. Realized gains
and losses are determined by specific identification.
Alliance monitors the difference between the cost and fair value of its investments. If
investments experience a decline in value that Alliance determines is other than
temporary, Alliance records a realized loss in investment income.
Assets Limited as to Use
Assets limited as to use include assets the Board of Directors have designated for future
plant replacement and expansion over which the Board retains control and may at its
discretion subsequently use for other purposes, amounts set aside for compensation
agreements, amounts restricted for regulatory compliance, and assets held by a trustee
under the Wisconsin Health and Educational Facilities Authority Revenue Bonds indenture
agreements.
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. Donated property and equipment are recorded at fair market value
at the date of donation, which is then treated as cost. 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. Estimated useful lives range from 5 to 20 years for
land improvements, 5 to 15 years for leasehold improvements, 5 to 20 years for buildings
and improvements, and 3 to 20 years for equipment.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies (Continued)
Unamortized Debt Issue Costs and Bond Discounts
Bond issue costs and original issue discounts related to issuance of long-term debt are
amortized over the life of the related debt using the straight-line method.
Interest Rate Swap
Alliance uses an interest rate swap to manage its risk related to interest rate movements.
Alliance's risk management strategy is to stabilize cash flow variability on its variable rate
debt with interest rate swaps. At the inception of the swap agreement, Alliance
documented its risk management strategy and assessed the interest rate swap's
effectiveness at producing offsetting cash flows. The interest rate swap is deemed to be
effective in achieving this objective and has been designated as a cash flow hedge. This
interest rate swap is reported at fair value with the change in the fair value included in
other changes in unrestricted net assets.
Asset Retirement Obligation
Financial Accounting Standards Board Interpretation No. (FIN) 47, Accounting for
Conditional Asset Retirement Obligation, clarifies when an entity is required to recognize
a liability for a conditional asset retirement obligation. Management has considered FIN
47, specifically as it relates to its legal obligation to perform asset retirement activities,
such as asbestos removal, on its existing properties. Management believes there is an
indeterminate settlement date for the asset retirement obligations because the range of
time over which Alliance may settle the obligation is unknown and cannot reasonably
estimate the liability related to these asset retirement activities as of June 30, 2008.
Long-Lived Assets
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount may not be recoverable. If an
impairment has occurred, a loss will be recognized.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies (Continued)
Temporarily and Permanently Restricted Net Assets
Temporarily restricted net assets are those whose use has been limited by donors to a
specific time period or purpose. Permanently restricted net assets have been restricted
by donors to be maintained in perpetuity. When a temporary donor restriction expires,
that is when a stipulated time restriction ends or purpose restriction is accomplished,
temporarily restricted net assets are reclassified as unrestricted net assets and reported in
the consolidated statements of operations and changes in net assets as net assets
released from restrictions.
There were no temporarily or permanently restricted net assets et june 30, 2008 and
2007.
Net Patient Service Revenue
Net patient service revenue is reported at the estimated net realizable amounts from
patients, third-party payors, and others for services rendered. Revenue under third-party
payor agreements is subject to audit and retroactive adjustments. Provisions for
estimated third-party payor settlements and adjustments are estimated in the period the
related services are rendered and adjusted in future periods as final settlements are
determined. Management believes that adequate provision has been made in the
consolidated financial statements for any adjustments that may result from final
settlements.
Premium Revenue and Claims Payable
Premium revenue is included in net patient service revenue. Premiums are billed
monthly for coverage in the following month and are recognized as revenue in the
month for which insurance protection is provided. Claims payable, included in other
accrued expenses, are determined using statistical analyses and represent estimates of
the ultimate net cost of all reported and unreported claims that are unpaid at the end of
each accounting period. Although it is not possible to measure the degree of variability
inherent in such estimates, management believes that the liabilities for claims are
adequate. The estimates are reviewed periodically, and as adjustments to these liabilities
become necessary, such adjustments are reflected in current operations.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies (Continued)
Functional Expenses and Expense Classifications
Expenses included in the consolidated statements of operations and changes in net assets
are primarily related to providing health care related services.
Entry point services represent services that a patient can access directly. Diagnostic
services represent patient testing services. Treatment services include services to patients
after referral by a member of the medical staff and benefit payments made on behalf of
MercyCare Insurance Company members. General services are nonmedically related
patient support services. Administrative services include expenses such as employee
benefits, human resources, community education, and fiscal services.
Excess of Revenue Over Expenses
The consolidated statements of operations and changes in net assets include excess of
revenue over expenses, which is considered the operating indicator. Consistent with
industry practice, changes in unrestricted net assets which are excluded from the
operating indicator, include unrealized gains and losses on investments other than trading
securities, changes in the minimum pension obligation, permanent transfer of assets to
and from affiliates for other than goods and services, and contributions of long-lived
assets.
Charity Care
Alliance provides care to patients without the ability to pay who meet certain criteria
under its charity care policy without charge or at amounts less than its established rates.
Because the collection is not pursued on amounts determined to qualify as charity care,
these amounts are not included in net patient service revenue in the accompanying
consolidated statements of operations and changes in net assets. During 2007, Alliance
also began giving discounts from established charges to patients who are uninsured and
considers these discounts a part of their community benefit.
Charges forgone under Alliance's charity care and community benefits, based on
established rates, approximated $21,840,000 and $19,024,000 for the years ended
June 30, 2008 and 2007, respectively.
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Mercy Alllance, Inc. and Affiliates
Notesto Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies (Continued)
Contributions and Unconditional Promises to Give
Contributions are considered to be available for unrestricted uses unless specifically
restricted by the donor.
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 deemed unconditional. The gifts
are reported as either temporarily restricted or permanently restricted support if they are
received with donor stipulations that limit the use of donated assets. Donor-imposed
contributions whose restrictions are met within the same year as received are reflected as
unrestricted contributions in the accompanying consolidated financial statements.
Advertising Costs
Advertising costs are expensed as incurred.
Income Taxes
Alliance, MHSC, MAC, MHH, and MFI are not-for-profit corporations as described in
Section 501(cX3) of the Internal Revenue Code and are exempt from federal income
taxes on related income pursuant to Section 501 (a) of the code. They are also exempt
from state income taxes on related income.
Federal and state income taxes are paid on nonexempt unrelated business income in
accordance with Internal Revenue Code regulations.
MCIC and MercyCare HMO are taxable entities for both federal and Wisconsin income
tax purposes and file a consolidated return. Deferred income taxes have been provided
under the liability method. Deferred tax assets and liabilities are determined based upon
the difference between the financial statement and tax bases of assets and liabilities, as
measured by the enacted tax rates which will be in effect when these differences are
expected to reverse.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 1
Summary of Significant Accounting Policies (Continued)
New Accounting Pronouncements
FASB Staff Position (FSP), No. 126-1, Applicability ofCertain Disclosures and Interim
Reporting Requirements for Obligors for Conduit Debt Securities, changes the definition
of a public entity in certain accounting standards as listed in the FSP to include entities
that are conduit bond obligors for conduit debt securities that are traded in a public
market. Any other references in authoritative accounting literature that include a
definition of a public entity or enterprise that have not been specifically amended to
include reference to conduit bond obligors are unaffected by this FSP. The amended
accounting standards require additional disclosures from which nonpublic entities are
exempt. Alliance's outstanding revenue bonds are conduit debt securities traded in a
public market as defined; accordingly, Alliance was required to adopt FSP No. 126-1 for
the year ended June 30, 2008. Certain additional disclosures were required for Alliance's
pension plan (Note 9) and additional disclosures have been retroactively applied for the
year ended June 30, 2007. The adoption had no effect on net assets or changes in net
assets.
In February 2007, the FASB issued Statement of Financial Accounting Standards (SFAS)
No. 159, The Fair Value Option for Anancial Assets and Financial Liabilities- Including an
Amendment of FASB Statement No. 775. SFAS No. 159 permits an organization to
choose to measure many financial instruments and certain other items at fair value at
specified election dates. Most of the provisions in SFAS No. 159 are elective. An
organization will report unrealized gains and losses on items for which the fair value
option has been elected in the performance indicator at each subsequent reporting date.
The fair value option: (a) may be applied instrument by instrument, with a few
exceptions, such as investments otherwise accounted for by the equity method; (b) is
irrevocable (unless a new election date occurs); and (c) is applied only to entire
instruments and not to portions of instruments. SFAS No. 159 is effective as of the
beginning of an organization's first fiscal year beginning after November 15, 2007.
Alliance's management is currently evaluating the impact of SFAS No. 159 on Alliance's
consolidated financial statements.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 2
Reimbursement Arrangements With Third-Party Payors
Agreements are maintained with payers that provide for reimbursement at amounts which
vary from its established rates. A summary of the basis of reimbursement with major
third-party payors follows.
Government Payors
MHSC:
Medicare - Inpatient hospital acute care services provided by Alliance are paid at
prospectively determined rates per discharge. These rates vary according to a patient
classification system that is based on clinical, diagnostic, and other factors.
Outpatient, clinic, home health, and subacute care services are reimbursed primarily
on a prospedive payment methodology based upon a patient classification system or
fixed fee schedules.
Medicaid - Inpatient and outpatient services are reimbursed primarily based upon
prospectively determined rates.
MHHandMWH:
Under the CAH designation, inpatient and outpatient hospital services rendered to
Medicare and Wisconsin Medicaid beneficiaries are paid based upon a costreimbursement methodology. Hospital services rendered to Illinois Medicaid
beneficiaries are paid at prospectively determined rates based on a patient
classification system.
Other Payors
Alliance has entered into payment agreements with commercial insurance carriers,
health maintenance organizations, and preferred provider organizations. The basis for
payment under these agreements includes prospectively determined rates per
discharge, discounts from established charges, fee schedules, and prospedively
determined daily rates.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 2
Reimbursement Arrangements With Third-Party Payors (Continued)
Accounting for Contractual Arrangements
Certain Medicare and Medicaid charges are cost-based reimbursable items and are
reimbursed at tentative rates, with final settlements determined after audit of the
related annual cost reports. The cost reports have been audited by the Medicare and
Medicaid fiscal intermediaries through June 30, 2006.
Compliance
The health care industry is subject to numerous laws and regulations of federal, state,
and local governments. Compliance with these laws and regulations, particularly those
relating to the Medicare and Medicaid programs, can be subject to government review
and interpretation, as well as regulatory actions unknown and unasserted at this time.
Violations of these laws and regulations by health care providers could result in the
imposition of significant fines and penalties, as well as significant repayments of
previously billed and collected revenue from patient services. Management believes
Alliance is in substantial compliance with current laws and regulations.
Note 3
Patient Accounts Receivable
Patient accounts receivable consisted of the following at june 30, 2008 and 2007:
(In Thousands)
2008
Patient accounts receivable
$
156,511
2007
$
138,650
Less:
Allowance for contractual adjustments
49,345
45,659
Allowance for doubtful accounts
19,369
15,443
Patient accounts receivable - Net
$
87,797
$
77,548
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 4
Assets Limited as to Use
Assets limited as to use are invested as follows at June 30, 2008 and 2007. Investments
are stated at fair value.
(In Thousands)
2008
2007
11,802 $
15,430
20,472
31,570
Municipal obligations
523
132
Corporate obligations
15,030
12,066
Fixed income funds
10,316
10,126
Equityfunds and securities
89,669
89,535
Money market funds
$
Government and agency obligations
Total assets limited as to use
$
147,812 $
158,859
The composition of assets limitedas to use atJune 30, 2008 and 2007, are as follows:
(In Thousands)
2008
Held by trustee under bond indenture agreements
$
7,232
2007
$
10,608
Held by Treasurer of State of Wisconsin for
regulatory requirements
2,512
1,925
9,993
9,024
Internally designated:
Deferred compensation
Expansion and capital improvements
Regulatory compliance
Total assets limited as to use
$
113,461
123,358
14,614
13,944
147,812 $
158,859
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 4
Assets Limited as to Use (Continued)
Investment income, which includes investment earnings on cash equivalents and assets
iimited as to use, Was comprised of the following for the years ended June 30, 2008
and 2007:
(In Thousands)
2008
Interest and dividend income
$
Net realized gains and losses on sales of investments
Total investment income
2007
4,661
$
4,099
706
11,589
5,367
15,688
(11,565)
3,789
Change in net unrealized gains and losses on
investments other than trading securities
Totals
$
(6,198) $
19,477
Investments, in general, are exposed to various risks, such as interest rate, credit, and
overall market volatility. Due to the level of risk associated with certain investments, it is
reasonably possible that changes in the values of certain investments will occur in the
near term and that such changes could materially affect the amounts reported in the
consolidated financial statements.
Management assesses individual investment securities as to whether declines in market
value are temporary or other than temporary. In assessing an issuer's financial condition,
management evaluates the financial position and near term prospects of the issuer,
conditions in the issuer's industry, liquidity of the investment, industry analysts' reports,
and any recent downgrades of the issuer by a rating agency. The length of time and
extent to which the fair value of the investment is less than cost and Alliance's ability and
intent to retain the investment to allow for any anticipated recovery of the investment's
fair value are key components as to whether management deems declines in fair value as
temporary or other than temporary. If declines are determined to be other than
temporary, Alliance records a realized loss in investment income. During the year ended
June 30, 2008, Alliance recorded a realized loss for an other than temporary loss on
investments of $2,472,000. At June 30, 2007, unrealized losses on individual securities in
Alliance's investment portfolio were not significant and any declines in fair value below
cost were deemed to be temporary.
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 5
Property and Equipment
Property and equipment consisted of the following at june 30, 2008 and 2007:
(In Thousands)
2008
Land
$
25,994
2007
$
24,390
Land improvements
6,006
5,972
Leasehold improvements
4,301
4,189
158,967
154,893
1,302
1,270
Major movable equipment
117,720
106,495
Total property and equipment
314,290
297,209
Less - Accu mulated depreciation
153,623
136,515
Net depreciated value
160,667
160,694
12,162
2,553
. Buildings and improvements
Fixed equipment
Construction in progress
Property and eqUipment - Net
172,829
$
$
163,247
Construction in progress at june 30, 2008 and 2007, consists primarily of costs associated
with the construction, renovation, and remodeling of existing facilities.
Note 6
Long-Term Debt
Long-term debt consisted of the following at june 30, 2008 and 2007:
(In Thousands)
2008
2007
Wisconsin Health and Educational Facilities Authority
Adjustable Rate Refunding Revenue Bonds, Series
2007, dated May 18, 2007; interest payable monthly at
a variable rate set weekly (1.54% at june 30,2008),
principal due in annual installments through june 2022
$
32,020
$
34,545
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 6
Long-Term Debt (Continued)
(In Thousands)
2008
2007
Illinois Finance Authority Revenue Bonds, Series 2005,
dated March 15, 2005; interest payable monthly at a
variable rate set weekly (1.54% at June 30, 2008),
principal due in annual installments beginning in March
2009 and continuing through February 2034
$
35,000 $
35,000
18,925
20,000
38,190
38,365
1,100
1,190
160
224
(667)
(708)
Wisconsin Health and Educational Facilities Authority
Revenue Bonds, Series 2003C, dated October 9, 2003;
payable in annual installments including principal and
variable interest (1.54% atJune 30, 2008) through
August 2023
Wisconsin Health and Educational Facilities Authority
Revenue Bonds, Series 1999, dated August 1, 1999;
payable in annual installments including principal and
varying interest (4.70% to 5.50%) through August 2025
City of Harvard, McHenry County, Illinois, Health Care
Facility Revenue Bonds, Series 1998; dated July 1,
1998, interest at a floating daily variable rate (1.91% at
June 30, 2008), principal payable in annual installments
throughJuly 2016
Other
Unamortized bond discounts
Totals
124,728
Less - Current maturities
Long-term portion
7,321
$
117,407 $
128,616
3,929
124,687
I
20
Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 6
Long-Term Debt (Continued)
The bond indenture agreements require the creation of funds to be held by a trustee for
payment of construction costs and bond principal and interest. These funds, which are
not available for general purposes, are classified as assets limited as to use under bond
indenture agreements. In addition, the bond agreements require maintenance of certain
debt service coverage ratios, limit additional borrowings, and require compliance with
various other restrictive covenants. Mercy Health System Obligated Group, which
includes MAl, MAC, MHSC, and MHH, has pledged as security for long-term debt
substantially all of. its property, equipment, and revenue.
The City of Harvard Health Care Facility Revenue Bonds, Series 1998, can be tendered
on a daily basis and the Illinois Finance Authority Revenue Bonds, Series 2005, and the
Wisconsin Health and Educational Facilities Authority Adjustable Rate Refunding Revenue
Bonds, Series 2007, can be tendered on aweekly basis by the bondholders. Alliance has
remarketing agreements with underwriters that provide for a "best efforts" remarketing of
the bonds. Management anticipates that any bonds tendered can be remarketed and,
accordingly, the bonds are classified as long-term; however, there can be no guarantee
that these bonds can or will be remarketed. The bonds are secured by letters of credit.
The letters of credit are secured by mortgages on Alliance's property and equipment.
Subsequent to the year ended June 30, 2008, Alliance called $2,500,000 of the Series
2005 bonds for early redemption which approximates the amount of unexpended bond
proceeds. The redemption price was equal to the principal amount and there was no
prepayment penalty on the early redemption. The $2,500,000 is included in current
maturities of long-term debt at June 30, 2008.
J
I
21
Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 6
Long-Term Debt (Continued)
Scheduled payments of principal on long-term debt at June 30, 2008, including current
maturities, are summarized as follows:
(In Thousands)
2009
7,321
$
2010
4,961
2011
5,129
2012
5,270
2013
5,460
Thereafter
Total
97,254
$
125,395
The stated value of long-term debt approximates fair value.
Note 7
Interest Rate Swap
. As disclosed in Note 6, during 2007 Alliance issued the Wisconsin Health and Educational
Facilities Authority Adjustable Rate Refunding Revenue Bonds, Series 2007. In
conjunction with the issuance of these bonds, Alliance entered into a master agreement
with a financial institution for an interest rate swap with a notional amount of
$34,545,000 for the purpose of hedging the variable interest rate on the bonds. This
interest rate swap effectively changes Alliance's interest rate exposure on the bonds to a
fixed rate of 3.463%. The fair value of the interest rate swap was a liability of $949,000
as of June 30, 2008, and an asset of $374,000 as of June 30, 2007. The change in fair
value of the interest rate swap is included as a change in net assets and decreased
unrestricted net assets by $1,323,000 in 2008 and increased unrestricted net assets by
$374,000 in 2007.
Alliance is exposed to credit loss in the event of nonperformance by the other parties to
the interest rate swap. However, Alliance does not anticipate nonperformance by the
counterparties.
22
Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 8
Net Patient Service Revenue
The following table sets forth the detail of net patient service revenue for the years ended
June 30, 2008 and 2007:
(In Thousands)
2008
Gross patient service revenue
$
768,318
2007
$
716,516
65,150
Premium revenue, net of intercompany eliminations
54,979
Revenue deductions:
Medicare contractual allowances
(131,658)
(117,962)
Medicaid contractual allowances
(57,065)
(48,902)
Managed care allowances
(45,632)
(41,429)
(110,401)
(110,089)
Other
Net patient service revenue
Note9
$
488,712
$
453,113
Retirement Plans
Alliance has a defined benefit noncontributory retirement plan which covers its
employees who work more than 1,000 hours annually in addition to meeting certain
eligibility requirements as specified in the plan. All assets of the plan, principally
marketable securities, are held in a separate bank-administered trust. The funding policy
is to contribute amounts sufficient to meet the minimum funding requirements set forth
in the Employee Retirement Income Security Act of 1974.
Alliance adopted the provisions of SFAS No. 158, Employers' Accounting for Defined
Benefit Pension and Other Postretirement Plans, an amendment ofSFAS Nos. 87, 88,
706, and 732(R) for the year ended June 30, 2007. SFAS No. 158 requires an employer
to recognize the overfunded or underfunded status of defined benefit pension and
postretirement plans as an asset or liability in its consolidated balance sheet and to
recognize changes in that funded status in the year in which the changes occur through
net assets. It also requires disclosure of additional information in the notes to the
consolidated financial statements. The adoption of SFAS No. 158 resulted in an increase
to the pension liability of $9,612,000 and a decrease in unrestricted net assets of
$9,612,000 as of and for the year ended June 30, 2007.
23
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note9
Retirement Plans (Continued)
The plan currently has a March 31 measurement date. SFAS No. 158 requires that the
measurement date be the same as the entity's fiscal year-end, effective with fiscal years
beginning after December 31, 2008. Accordingly, Alliance will use a June 30
measurement date for the year ending June 30, 2009. To transition to the new
measurement date, Alliance will be required to record an adjustment to net assets for
three months of pension expenses and will recognize twelve months of pension expense
in the consolidated statement of operations and changes in net assets for the year ending
June 30, 2009.
The following table provides further information about the plan as of the plan years
ended March 31, 2008 and 2007:
(In Thousands)
2008
2007
Change in benefit obligation:
Benefit obligation at beginning of year
$
69,880
$
62,897
Service cost
6,117
5,574
Interest cost
4,070
3,663
Plan amendments
801
Benefits paid
(2,365)
(2,190)
Actuarial gain
(3,874)
(865)
Benefit obligation at end of year
73,828
69,880
47,825
39,530
Change in plan assets:
Fair value of plan assets at beginning of year
Actual return on plan assets
(600)
Employer contributions
Benefits paid
Fair value of plan assets at end of year
3,545
5,743
6,940
(2,365)
(2,190)
50,603
47,825
Funded status
$
(23,225)
$
(22,055)
Accumulated benefit obligation
$
62,566
$
57,580
24
Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 9
Retirement Plans (Continued)
Amounts recognized in the accompanying consolidated balance sheets at June 30,
2008 and 2007, consisted of:
(In Thousands)
2008
Noncurrent liability
2007
$
23,225
$
22,055
$
1,076
$
1,183
Net assets:
Prior service cost
Net aduarialloss
Total amount recognized in net assets
8,841
$
9,917
8,429
$
9,612
Pension expense for the years ended June 30, 2008 and 2007, was comprised of the
following:
(In Thousands)
2008
2007
Pension expense:
Service cost
$
Interest cost
Expected return on assets
6,117
$
5,574
4,070
3,663
(3,823)
(3,403)
Amortization of prior service cost
107
42
Amortization of unrecognized aduarialloss
137
189
6,608
6,065
Total pension expense
Other changes in plan assets and benefit obligations
recognized in other changes in net assets:
Net aduarial loss
$
412
$
(107)
Prior service cost
Total recognized in other changes in net assets
305
Total recognized as pension expense and
other changes in net assets
$
6,913
$
6,065
25
Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 9
Retirement Plans (Continued)
The estimated net actuarial loss and prior service cost that will be amortized from net
assets into pension expense over the next fiscal year are $137,000 and $107,000,
respectively.
Weighted average assumptions used as of March 31, 2008 and 2007, the measurement
date, in developing the projected benefit obligation are as follows:
2008
2007
Discount rate for obligation
6.00%
6.00%
Discount rate for net periodic cost
6.50%
6.00%
Expected long-term return on plan assets
8.00%
8.00%
Rate of compensation increase for obligation
4.75%
4.75%
Rate of compensation increase for net periodic cost
4.75%
4.50%
To develop the expected long-term rate of return on assets assumptions, Alliance
considered the historical returns and future expectations for returns in each asset class, as
well as targeted allocation percentages within the pension portfolio.
Alliance intends to provide an appropriate range of investment options that span the
risk/return spectrum. The investment options allow for an investment consistent with the
plan's circumstances, goals, time horizons, and tolerance for risk.
. Alliance's asset allocations at March 31,2008 and 2007, are as follows:
2008
2007
Cash and cash equivalents
6.9%
2.0%
Government and agency obligations
9.7%
23.4%
Municipal obligations
0.0%
0.3%
Corporate obligations
8.1%
6.1%
Fixed income funds
16.9%
0.0%
Equity funds and securities
58.4%
68.2%
100.0%
100.0%
Asset category:
Totals
26
\-
Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 9
Retirement Plans (Continued)
Alliance expects to contribute $12,297,000 to the plan in 2009.
Benefit payments are expected to be paid as follows:
(In Thousands)
2009
2010
2011
2012
2013
Years 2014 through 2016
$
$
$
$
$
$
5,621
5,671
6,342
7,016
7,210
47,450
MHSC, MAC, and MHH also participate in a contributory tax-deferred annuity plan which
covers all employees at least 18 years of age with one year of service. Employees may
contribute' up to 4% of compensation to the plan on a tax-deferred basis, plus additional
amounts subject to a regulatory limit. MHSC, MAC, and MHH are required to contribute
25% of employees' tax-deferred contributions and may contribute discretionary amounts
up to an additional 25% of employees' contributions. MHSC, MAC, and MHH contributed
$2,206,000 and $2,069,000 to the plan for the years ended June 30, 2008 and 2007,
respectively.
MHSC also contributes to a multi-employer defined benefit plan which covers employees
pursuant to the terms of collective bargaining agreements. MHSC contributed $223,000
and $193,000 to the plan for the years ended June 30, 2008 and 2007, respectively.
MHSC also contributes to a 401(k) plan for this same group of employees an amount,
based on a matching percentage of participant contributions, set by the terms of
collective bargaining agreements. MHSC contributed $93,000 and $82,000 to the plan
for the years ended June 30, 2008 and 2007, respectively.
MHSC also sponsors deferred compensation programs covering certain physicians and
officers. Investments designated for deferred compensation, recorded in the consolidated
balance sheets at fair value, approximated $9,993,000 and $9,024,000 at June 30, 2008
and 2007, respectively. Corresponding liabilities totaling $9,993,000 and $9,024,000 at
June 30, 2008 and 2007, respectively, are recorded in the consolidated balance sheets.
Total deferred compensation expense was $2,336,000 and $2,183,000 in 2008 and
2007, respectively.
27
Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 10
Operating Leases
Alliance leases office space, office equipment, and certain medical equipment from
unrelated organizations. Total rental expense was approximately $3,062,000 and
$2,668,000 in 2008 and 2007, respectively.
Future minimum lease payments at june 30,2008, by year and in the aggregate, under
these operating lease agreements are summarized as follows:
(In Thousands)
Note 11
2009
2010
2011
2012
2013
$
1,914
1,386
991
427
158
Total minimum lease payments
$
4,876
Malpractice Insurance
During 2005, Alliance began a self-insurance program for its professional liability on a
claims-made basis. Alliance retains the first $1 million per occurrence and $3 million per
year for Wisconsin claims. Coverage against losses in excess of these amounts is
maintained through mandatory participation in the Patients' Compensation Fund of the
State of Wisconsin. For Illinois claims, Alliance retains the first $2.1 million of loss per
claim and has purchased an umbrella policy that provides excess coverage. Alliance has
provided a reserve for potential claims for services provided to patients through June 30,
2008, which have not yet been asserted.
Note 12
Concentration of Credit Risk
Financial instruments that potentially subject Alliance to credit risk consist principally of
accounts receivable and cash deposits in excess of insured limits in financiai institutions.
28
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Mercy Alliance, Inc. and Affiliates
Notes to Consolidated Financial Statements
Note 12
Concentration of Credit Risk (Continued)
The mix of receivables from patients and third-party payers is as follows at june 30,2008
and 2007:
2008
2007
Medicare
16%
17%
Medicaid
9%
8%
Other third-party payors
46%
52%
Patients
29%
23%
100%
100%
Depository relationships are maintained with financial institutions. Investments and assets
limited as to use held by financial institutions in excess of federally insured limits are
uninsured. Management believes these financial institutions have strong credit ratings
and that credit risk related to these deposits is minimal. At June 30, 2008, Alliance's
deposits exceeded the insured limits by approximately $17,279,000.
Note 13
Reclassifications
Certain reclassifications have been made to the 2007 consolidated financial statements to
conform to the 2008 classifications.
29
Consolidating Information
I
I
I
I
I
I
j
Independent Auditor's Report
on Consolidating Information
Board of Directors
Mercy Alliance, Inc.
Janesville, Wisconsin
Our report on our audits of the consolidated financial statements of Mercy Alliance, Inc. and Affiliates for
the years ended June 30, 2008 and 2007, appears on page 1. Those audits were conducted for the
purpose of forming an opinion on the consolidated financial statements taken as a whole. The
consolidating information appearing on pages 31 through 34 is presented for purposes of additional
analysis of the consolidated financial statements rather than to present the financial position, results of
operations, changes in net assets, and cash flows of the individual organizations. Such information has
been subjected to the auditing procedures applied in the audits of the consolidated financial statements
and, in our opinion, is fairly presented in all material respects in relation to the consolidated financial
statements, taken as a whole.
Wipfli LLP
September 3, 2008
Milwaukee, Wisconsin
30
I~
(-
(In Thousands)
MercyHealth
MercyCl'lre
Mercy
SystemObligated
Insurance
Foundation,
Group
Company
lnc
$
14,169
$
7,781
$
Consolidated
Total
Ellmlnatlons
66
$
89,860
$
(2,063)
9,632
9,632
4,895
4,895
609
609
704
(704)
2,428
2,386
122/297
10,167
66
132,102
14,521
1,189
4,814
(2,767)
$
129,763
147,812
172,829
172,829
2,378
2,378
13,311
$
(13,311)
2,904
186
18,593
186
445,821
$
7,321
$
24,874
3,090
(13,311)
5,468
$
1,255 $
(16,078) $
455,872
$
$
$
7,321
6,516
6/516
25,632
25,632
585
119
(704)
862
862
17,546
12,114
57,877
12,699
119
(2,063)
27,597
(2,767)
67,928
117,407
$
22,016
87,797
117,407
949
949
9,993
9,993
23,225
23,225
151,574
151,574
209,451
12,699
119
(2,767)
219,502
236,370
12,175
1,136
(13,311)
236,370
1,255 $
(16,078) $
455,872
445,821
$
24,874
$
See Independent Auditor's Report on Consolidating Information.
31
(In Thousands)
Mercy Health
MercyCare
Mercy
System Obligated
Insurance
Group
Company
Foundation,
Inc.
$
14,714
$
2/184
$
Consolidated
Total
Eliminations
21
$
82,095
$
(4,547)
9,745
9,745
2,567
2,567
4
92
2,701
4,350
111,914
6,534
25
144,193
13,451
1,215
(96)
7,051
(4,643)
113,830
158,859
163,247
163,247
2,487
2,487
11,493
(11,493)
374
374
3,102
186
17,456
186
$
436,810
$
$
3,929
7,080
24,405
$
20,171
3,288
(11,493)
6,149
$
1,240 $
(16,136) $
442,085
$
$
$
3,929
7,080
24,405
92
4
833
14,917
9,826
51,168
9,826
(96)
92
(4,547)
833
20,196
(4,643)
56,443
124,687
$
16,919
77,548
124,687
9,024
9,024
22,055
22,055
155,766
155,766
206,934
9,826
92
(4,6113)
212,209
229,876
10,345
1,148
(11,493)
229,876
(16,136) $
442,085
436,810
$
20,171
$
1,240
$
See Independent Auditor's Report on Consolidating Information.
32
1-
(InThousands)
Mercy Health
SystemObligated
MercyCare
Mercy
Insurance
Group
Company
Foundation,
Inc.
$
423,562
$
99,033
$
Eliminations
$
(33,883) $
488,712
1,855
1,855
(33,883)
99,033
425,417
$
Consolidated
Total
490,567
161,906
161,906
23,772
23,772
87,138
91,248
100,063
5,811
(33,883)
144,503
105,874
17,008
17,008
17,909
17,909
5,654
5,654
(33,883)
476,626
413,450
97,059
11,967
1,974
6,606
894
64
(1,818)
5,746
18,573
2,868
64
(1,818)
19,687
(10,451 )
(1,038)
(76)
13,941
(11,565)
(305)
(305)
(1,323)
(1,323)
6,494
1,830
(12)
(1,818)
6,494
229,876
10,345
1,148
(11,493)
229,876
12,175 $
1,136
(13,311) $
236,370
236,370
$
$
See Independent Auditor's Report on Consolidating Information.
33
I~
(In Thousands)
MercyCare
Mercy
System Obligated
Insurance
Foundation,
Group
Company
Inc.
Mercy Health
$
398,134 $
92,454
Consolidated
Eliminations
$
$
(37,475) $
1,441
453,113
1,441
92,454
399,575
(37,475)
151,754
454,554
151,754
21,818
21,818
77,588
90,269
91,565
6,157
(37,475)
130,382
97,722
13,678
13,678
16,195
16,195
6,936
6,936
(37,475)
438,485
379,534
96,426
20,041
(3,972)
12,927
669
(55)
2,218
15,759
32,968
(3,303)
(55)
2,218
31,828
2,649
1,074
66
16,069
3,789
(9,612)
(9,612)
374
374
6,000
$
Total
(6,000)
26,379
3,771
11
(3,782)
26,379
203,497
6,574
1,137
(7,711)
203,497
(11,493) $
229,876
229,876
$
10,345
$
1,148 $
See Independent Auditor's Report on Consolidating Information.
34
MHS Activity
Janesville:
Total Hospital liP Discharges, excluding newborns
Average Length of Stay - Hospital
Patient Days - Hospital
9,439
3.88
36,591
Wa/wolth
Total Hospitall/P Discharges, excluding newborns
Average Length of Stay - Hospital
Patient Days - Hospital
345
2.65
913
Other Statistics
Patient Days - SNF
Births
Surgeries
Clinical Practice Visits
Emergency Visits
Urgent Care Visits
Other Outpatient Visits
Medicare Case Mix Index - PPS Units'
All Patients Case Mix Index, excluding newborn'
7,007
1,256
10,437
790,697
47,748
70,497
165,858
1.4442
1.2335
Payor Mix:
Medicare
Medicaid
Commercial Insurance
MercyCare
Other
27.92%
9.52%
44.38%
12.67%
5.50%
MHH Activity
Total Hospital liP Discharges, excluding newborns
Average Length of Stay - Hospital
Patient Days - Hospital
Patient Days - SNF
Surgeries
Emergency Visits
Other Outpatient Visits
Medicare Case Mix Index - PPS Units'
All Patients Case Mix Index, eXcluding newborn'
625
2.48
1,548
10,136
2,020
5,286
5,895
1.2503
1.2561
MAC Activity
Hospice Outpatient Days
CBRF Patient Days
Occupancy Percentage
Adult Day Care Days
Home Visits
, Based on Jul-Jun MS-DRG case mix
1,344
11,693
79.87%
2,778
41,350