Form 10-Q
Table of Contents

 

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2012

Commission file number 001-15925

COMMUNITY HEALTH SYSTEMS, INC.

(Exact name of registrant as specified in its charter)

 

Delaware   13-3893191

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification Number)

4000 Meridian Boulevard   37067

Franklin, Tennessee

(Address of principal executive offices)

  (Zip Code)

615-465-7000

(Registrant’s telephone number)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes þ     No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer þ    Accelerated filer ¨    Non-accelerated filer ¨        Smaller reporting company ¨
  

  (Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes  ¨  No þ

As of October 25, 2012, there were outstanding 91,196,196 shares of the registrant’s Common Stock, $0.01 par value.

 

 

 


Table of Contents

Community Health Systems, Inc.

Form 10-Q

For the Three and Nine Months Ended September 30, 2012

 

 

Part I.    Financial Information    Page
   Item 1.      Financial Statements:   
       

Condensed Consolidated Balance Sheets - September 30, 2012 and December 31, 2011 (Unaudited)

   2
       

Condensed Consolidated Statements of Income - Three and Nine Months Ended September 30, 2012 and September 30, 2011 (Unaudited)

   3
       

Condensed Consolidated Statements of Comprehensive Income - Three and Nine Months Ended September  30, 2012 and September 30, 2011 (Unaudited)

   4
       

Condensed Consolidated Statements of Cash Flows - Nine Months Ended September 30, 2012 and September 30, 2011 (Unaudited)

   5
       

Notes to Condensed Consolidated Financial Statements (Unaudited)

   6
   Item 2.     

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   44
   Item 3.     

Quantitative and Qualitative Disclosures about Market Risk

   70
   Item 4.     

Controls and Procedures

   70
Part II.    Other Information
   Item 1.      Legal Proceedings    71
   Item 1A.      Risk Factors    76
   Item 2.      Unregistered Sales of Equity Securities and Use of Proceeds    77
   Item 3.      Defaults Upon Senior Securities    77
   Item 4.      Mine Safety Disclosures    77
   Item 5.      Other Information    77
   Item 6.      Exhibits    78
Signatures    79
Index to Exhibits    80

 

1


Table of Contents

PART I FINANCIAL INFORMATION

Item 1.  Financial Statements

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

(Unaudited)

 

       September 30, 2012            December 31, 2011    

ASSETS

     

Current assets

     

Cash and cash equivalents

   $ 240,650       $ 129,865   

Patient accounts receivable, net of allowance for doubtful accounts of $2,199,088 and $1,891,334 at September 30, 2012 and December 31, 2011, respectively

     2,091,217         1,834,167   

Supplies

     364,972         346,611   

Prepaid income taxes

     20,233         101,389   

Deferred income taxes

     89,797         89,797   

Prepaid expenses and taxes

     132,807         112,613   

Other current assets

     267,735         231,647   
  

 

 

    

 

 

 

Total current assets

     3,207,411         2,846,089   
  

 

 

    

 

 

 

Property and equipment

     9,981,776         9,369,528   

Less accumulated depreciation and amortization

     (2,875,982)         (2,513,552)   
  

 

 

    

 

 

 

Property and equipment, net

     7,105,794         6,855,976   
  

 

 

    

 

 

 

Goodwill

     4,397,473         4,264,845   
  

 

 

    

 

 

 

Other assets, net

     1,530,477         1,241,930   
  

 

 

    

 

 

 

Total assets

   $ 16,241,155       $ 15,208,840   
  

 

 

    

 

 

 

LIABILITIES AND EQUITY

     

Current liabilities

     

Current maturities of long-term debt

   $ 99,194       $ 63,706   

Accounts payable

     809,255         748,997   

Accrued interest

     110,864         110,121   

Accrued liabilities

     961,910         988,315   
  

 

 

    

 

 

 

Total current liabilities

     1,981,223         1,911,139   
  

 

 

    

 

 

 

Long-term debt

     9,472,869         8,782,798   
  

 

 

    

 

 

 

Deferred income taxes

     704,725         704,725   
  

 

 

    

 

 

 

Other long-term liabilities

     999,080         949,990   
  

 

 

    

 

 

 

Total liabilities

     13,157,897         12,348,652   
  

 

 

    

 

 

 

Redeemable noncontrolling interests in equity of consolidated subsidiaries

     370,514         395,743   
  

 

 

    

 

 

 

EQUITY

     

Community Health Systems, Inc. stockholders equity

     

Preferred stock, $.01 par value per share, 100,000,000 shares authorized; none issued

     -         -   

Common stock, $.01 par value per share, 300,000,000 shares authorized; 92,161,852 shares issued and 91,186,303 shares outstanding at September 30, 2012, and 91,547,079 shares issued and 90,571,530 shares outstanding at December 31, 2011

     922         915   

Additional paid-in capital

     1,104,570         1,086,008   

Treasury stock, at cost, 975,549 shares at September 30, 2012 and December 31, 2011

     (6,678)         (6,678)   

Accumulated other comprehensive loss

     (148,721)         (184,479)   

Retained earnings

     1,704,396         1,501,330   
  

 

 

    

 

 

 

Total Community Health Systems, Inc. stockholders’ equity

     2,654,489         2,397,096   

Noncontrolling interests in equity of consolidated subsidiaries

     58,255         67,349   
  

 

 

    

 

 

 

Total equity

     2,712,744         2,464,445   
  

 

 

    

 

 

 

Total liabilities and equity

   $                   16,241,155       $                   15,208,840   
  

 

 

    

 

 

 

See accompanying notes to the condensed consolidated financial statements.

 

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Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(in thousands, except share and per share data)

(Unaudited)

 

    Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
              2012                          2011                          2012                          2011             

Operating revenues (net of contractual allowances and discounts)

  $ 3,696,661        $         3,395,773        $       11,226,580         $       10,183,654   

Provision for bad debts

    484,631        450,296        1,474,541        1,283,267   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net operating revenues

    3,212,030        2,945,477        9,752,039        8,900,387   
 

 

 

   

 

 

   

 

 

   

 

 

 

Operating costs and expenses:

       

Salaries and benefits

    1,525,111        1,393,151        4,547,532        4,156,614   

Supplies

    484,212        459,146        1,472,520        1,366,242   

Other operating expenses

    694,857        623,608        2,140,025        1,893,138   

Electronic health records incentive reimbursement

    (30,622)        (40,227)        (73,592)        (40,227)   

Rent

    68,637        64,481        202,324        190,082   

Depreciation and amortization

    182,207        161,515        536,362        481,046   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total operating costs and expenses

    2,924,402        2,661,674        8,825,171        8,046,895   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income from operations

    287,628        283,803        926,868        853,492   

Interest expense, net

    158,565        159,480        462,347        485,928   

Loss from early extinguishment of debt

    52,024        -        115,453        -   

Equity in earnings of unconsolidated affiliates

    (7,419)        (8,194)        (32,613)        (38,345)   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations before income taxes

    84,458        132,517        381,681        405,909   

Provision for income taxes

    25,700        36,717        121,038        125,630   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations

    58,758        95,800        260,643        280,279   
 

 

 

   

 

 

   

 

 

   

 

 

 

Discontinued operations, net of taxes:

       

Loss from operations of entities sold

    -        (3,103)        (466)        (4,546)   

Impairment of hospitals sold

    -        -        -        (47,930)   

Loss on sale, net

    -        (66)        -        (3,300)   
 

 

 

   

 

 

   

 

 

   

 

 

 

Loss from discontinued operations, net of taxes

    -        (3,169)        (466)        (55,776)   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income

    58,758        92,631        260,177        224,503   

Less: Net income attributable to noncontrolling interests

    14,525        18,327        57,111        53,486   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to Community Health Systems, Inc. stockholders

  $               44,233        $ 74,304        $ 203,066        $ 171,017   
 

 

 

   

 

 

   

 

 

   

 

 

 

Basic earnings (loss) per share attributable to Community Health Systems, Inc. common stockholders:

       

Continuing operations

  $ 0.50        $ 0.87        $ 2.29        $ 2.51   

Discontinued operations

    -        (0.04)        (0.01)        (0.62)   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income

  $ 0.50        $ 0.83        $ 2.28        $ 1.89   
 

 

 

   

 

 

   

 

 

   

 

 

 

Diluted earnings (loss) per share attributable to Community Health Systems, Inc. common stockholders(1):

       

Continuing operations

  $ 0.49        $ 0.86        $ 2.27        $ 2.49   

Discontinued operations

    -        (0.04)        (0.01)        (0.61)   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income

  $ 0.49        $ 0.83        $ 2.27        $ 1.87   
 

 

 

   

 

 

   

 

 

   

 

 

 

Weighted-average number of shares outstanding:

       

Basic

    89,259,950        89,412,310        89,028,249        90,513,665   
 

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

    90,009,113        89,857,583        89,464,987        91,256,469   
 

 

 

   

 

 

   

 

 

   

 

 

 

(1) Total per share amounts may not add due to rounding.

See accompanying notes to the condensed consolidated financial statements.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands)

(Unaudited)

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
               2012                           2011                           2012                           2011             

Net income

   $ 58,758       $ 92,631       $ 260,177       $ 224,503   

Other comprehensive income (loss), net of income taxes:

           

Net change in fair value of interest rate swaps

     8,254         2,722         28,766         30,199   

Net change in fair value of available-for-sale securities

     1,370         (4,029)         3,509         (2,692)   

Amortization and recognition of unrecognized pension cost components

     1,202         790         3,483         2,369   
  

 

 

    

 

 

    

 

 

    

 

 

 

Other comprehensive income (loss)

     10,826         (517)         35,758         29,876   
  

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income

     69,584         92,114         295,935         254,379   

Less: Comprehensive income attributable to noncontrolling interests

     14,525         18,327         57,111         53,486   
  

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income attributable to Community Health Systems, Inc. stockholders

   $               55,059       $               73,787       $               238,824       $               200,893   
  

 

 

    

 

 

    

 

 

    

 

 

 

See accompanying notes to the condensed consolidated financial statements.

 

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Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

     Nine Months Ended
September 30,
 
                     2012                                       2011                   

Cash flows from operating activities

     

Net income

   $ 260,177       $ 224,503   

Adjustments to reconcile net income to net cash provided by operating activities:

     

Depreciation and amortization

     536,362         485,917   

Stock-based compensation expense

     30,708         31,588   

Loss on sale, net

     -         3,300   

Impairment of hospitals sold

     -         47,930   

Loss from early extinguishment of debt

     115,453         -   

Excess tax benefit relating to stock-based compensation

     (1,545)         (4,616)   

Other non-cash expenses, net

     22,482         14,279   

Changes in operating assets and liabilities, net of effects of acquisitions and divestitures:

     

Patient accounts receivable

     (227,814)         (90,805)   

Supplies, prepaid expenses and other current assets

     (68,247)         (31,455)   

Accounts payable, accrued liabilities and income taxes

     103,156         146,166   

Other

     7,133          (6,572)   
  

 

 

    

 

 

 

Net cash provided by operating activities

     777,865         820,235   
  

 

 

    

 

 

 

Cash flows from investing activities

     

Acquisitions of facilities and other related equipment

     (312,927)         (209,451)   

Purchases of property and equipment

     (557,469)         (532,845)   

Proceeds from disposition of hospitals and other ancillary operations

     -         172,578   

Proceeds from sale of property and equipment

     4,808         9,251   

Increase in other investments

     (222,164)         (130,980)   
  

 

 

    

 

 

 

Net cash used in investing activities

     (1,087,752)         (691,447)   
  

 

 

    

 

 

 

Cash flows from financing activities

     

Proceeds from exercise of stock options

     5,750         18,880   

Repurchase of restricted stock shares for payroll tax withholding requirements

     (9,165)         -   

Deferred financing costs

     (135,647)         (100)   

Excess tax benefit relating to stock-based compensation

     1,545         4,616   

Stock buy-back

     -         (85,790)   

Proceeds from noncontrolling investors in joint ventures

     535         1,229   

Redemption of noncontrolling investments in joint ventures

     (39,709)         (4,784)   

Distributions to noncontrolling investors in joint ventures

     (60,676)         (49,928)   

Borrowings under credit agreements

     5,924,377         83,000   

Issuance of long-term debt

     3,825,000         -   

Proceeds from receivables facility

     300,000         -   

Repayments of long-term indebtedness

     (9,391,338)         (128,768)   
  

 

 

    

 

 

 

Net cash provided by (used in) financing activities

     420,672         (161,645)   
  

 

 

    

 

 

 

Net change in cash and cash equivalents

     110,785         (32,857)   

Cash and cash equivalents at beginning of period

     129,865         299,169   
  

 

 

    

 

 

 

Cash and cash equivalents at end of period

   $                       240,650       $                       266,312   
  

 

 

    

 

 

 

Supplemental disclosure of cash flow information:

     

Interest payments

   $ 461,604       $ 548,359   
  

 

 

    

 

 

 

Income tax paid (refunds received), net

   $ 55,404       $ (2,708)   
  

 

 

    

 

 

 

See accompanying notes to the condensed consolidated financial statements.

 

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Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

1.  BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

The unaudited condensed consolidated financial statements of Community Health Systems, Inc. and its subsidiaries (the “Company”) as of September 30, 2012 and December 31, 2011 and for the three-month and nine-month periods ended September 30, 2012 and September 30, 2011, have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). In the opinion of management, such information contains all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the results for such periods. All intercompany transactions and balances have been eliminated. The results of operations for the three and nine months ended September 30, 2012, are not necessarily indicative of the results to be expected for the full fiscal year ending December 31, 2012. Certain information and disclosures normally included in the notes to consolidated financial statements have been condensed or omitted as permitted by the rules and regulations of the Securities and Exchange Commission (the “SEC”). The Company believes the disclosures are adequate to make the information presented not misleading. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2011, contained in the Company’s Annual Report on Form 10-K.

Noncontrolling interests in less-than-wholly-owned consolidated subsidiaries of the parent are presented as a component of total equity on the condensed consolidated balance sheets to distinguish between the interests of the parent company and the interests of the noncontrolling owners. Noncontrolling interests that are redeemable or may become redeemable at a fixed or determinable price at the option of the holder or upon the occurrence of an event outside of the control of the Company are presented in mezzanine equity on the condensed consolidated balance sheets.

Allowance for Doubtful Accounts. In July 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2011-07, which requires healthcare organizations that perform services for patients for which the ultimate collection of all or a portion of the amounts billed or billable cannot be determined at the time services are rendered to present all bad debt expense associated with patient service revenue as an offset to the patient service revenue line item in the statement of operations. The ASU also requires qualitative disclosures about the Company’s policy for recognizing revenue and bad debt expense for patient service transactions and quantitative information about the effects of changes in the assessment of collectibility of patient service revenue. This ASU was adopted by the Company on January 1, 2012. Upon adoption, the Company’s provision for bad debts was presented as a reduction of operating revenues after contractual adjustments and discounts. The condensed consolidated statement of income for the three and nine months ended September 30, 2011 has been retrospectively revised to present the provision for bad debts as a reduction of operating revenues for comparative purposes with the September 30, 2012 presentation.

Accounts receivable are reduced by an allowance for amounts that could become uncollectible in the future. Substantially all of the Company’s receivables are related to providing healthcare services to its hospitals’ patients.

The Company estimates the allowance for doubtful accounts by reserving a percentage of all self-pay accounts receivable without regard to aging category, based on collection history, adjusted for expected recoveries and, if present, anticipated changes in trends. For all other non-self-pay payor categories, the Company reserves 100% of all accounts aging over 365 days from the date of discharge. The percentage used to reserve for all self-pay accounts is based on the Company’s collection history. The Company collects substantially all of its third-party insured receivables, which include receivables from governmental agencies.

Collections are impacted by the economic ability of patients to pay and the effectiveness of the Company’s collection efforts. Significant changes in payor mix, business office operations, economic conditions or trends in federal and state governmental healthcare coverage could affect the Company’s collection of accounts receivable and the estimates of the collectability of future accounts receivable. The process of estimating the allowance for doubtful accounts requires the Company to estimate the collectability of self-pay accounts receivable, which is primarily based on its collection history, adjusted for expected recoveries and, if available, anticipated changes in collection trends. The Company also continually reviews its overall reserve adequacy by monitoring historical cash collections as a percentage of trailing net revenue less provision for bad debts, as well as by analyzing current period net revenue and admissions by payor classification, aged accounts receivable by payor, days revenue outstanding, and the impact of recent acquisitions and dispositions.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Operating revenues, net of contractual allowances and discounts (but before the provision for bad debts), recognized during the three and nine months ended September 30, 2012 and 2011, were as follows (in thousands):

 

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
               2012                             2011                           2012                           2011             

Medicare

   $ 953,603             $ 893,680             $ 2,968,647             $ 2,736,213         

Medicaid

     387,034               325,901               1,098,691               995,658         

Managed Care and other third-party payors

     1,862,657               1,753,101               5,681,006               5,204,778         

Self-pay

     493,367               423,091               1,478,236               1,247,005         
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $     3,696,661             $     3,395,773             $     11,226,580             $     10,183,654         
  

 

 

    

 

 

    

 

 

    

 

 

 

Electronic Health Records Incentive Reimbursement. The American Recovery and Reinvestment Act of 2009 included provisions for implementing health information technology under the Health Information Technology for Economic and Clinical Health Act (“HITECH”). These provisions were designed to increase the use of electronic health records (“EHR”) technology and establish the requirements for a Medicare and Medicaid incentive payments program beginning in 2011 for eligible hospitals and providers that adopt and meaningfully use certified EHR technology. Eligibility for annual Medicare incentive payments is dependent on providers demonstrating meaningful use of EHR technology in each period over a four-year period. Initial Medicaid incentive payments are available to providers that adopt, implement or upgrade certified EHR technology; but providers must demonstrate meaningful use of such technology in subsequent years to qualify for additional incentive payments. Medicaid EHR incentive payments are fully funded by the federal government and administered by the states; however, the states are not required to offer EHR incentive payments to providers.

The Company recognized approximately $30.6 million and $40.2 million during the three months ended September 30, 2012 and 2011, respectively, and $73.6 million and $40.2 million during the nine months ended September 30, 2012 and 2011, respectively, of incentive reimbursement for HITECH incentives from Medicare and Medicaid related to certain of the Company’s hospitals and for certain of the Company’s employed physicians that have demonstrated meaningful use of certified EHR technology or have completed attestations to their adoption or implementation of certified EHR technology. These incentive reimbursements are presented as a reduction of operating expenses on the condensed consolidated statement of income. Net operating revenues for the three and nine months ended September 30, 2011 have been restated for the reclassification of incentive reimbursements to reflect the change in presentation for such incentives during the fourth quarter of 2011 from a component of net operating revenues to a reduction of operating expenses. This reclassification decreased net operating revenues and operating expenses for the three and nine months ended September 30, 2011 by $40.2 million, and had no impact on income from continuing operations or net income as previously reported. Management does not consider this change in classification to be material. The Company received cash related to the incentive reimbursement for HITECH incentives of approximately $12.8 million and $6.5 million for the three months ended September 30, 2012 and 2011, respectively, and $41.6 million and $6.5 million for the nine months ended September 30, 2012 and 2011, respectively.

Reimbursement Settlements. Included in net operating revenues for the nine months ended September 30, 2012 is approximately $101.8 million of net operating revenues from an industry-wide settlement with the United States Department of Health and Human Services and Centers for Medicare and Medicaid Services, based on a claim that acute-care hospitals in the U.S. were underpaid from the Medicare inpatient prospective payment system in federal fiscal years 1999 through 2011. The underpayments resulted from calculations related to the rural floor budget neutrality adjustments implemented in connection with the Balanced Budget Act of 1997. Also included in net operating revenues for the nine months ended September 30, 2012 is an unfavorable adjustment of approximately $21.0 million related to the newly issued Supplemental Security Income ratios for federal fiscal years 2006 through 2009 utilized for calculating Medicare Disproportionate Share Hospital reimbursements.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Throughout these notes to the condensed consolidated financial statements, Community Health Systems, Inc. (the “Parent”), and its consolidated subsidiaries are referred to on a collective basis as the “Company.” This drafting style is not meant to indicate that the publicly-traded Parent or any subsidiary of the Parent owns or operates any asset, business, or property. The hospitals, operations and businesses described in this filing are owned and operated, and management services provided, by distinct and indirect subsidiaries of Community Health Systems, Inc.

2.  ACCOUNTING FOR STOCK-BASED COMPENSATION

Stock-based compensation awards are granted under the Community Health Systems, Inc. Amended and Restated 2000 Stock Option and Award Plan, amended and restated as of March 24, 2009 (the “2000 Plan”), and the Community Health Systems, Inc. 2009 Stock Option and Award Plan, amended and restated as of March 18, 2011 (the “2009 Plan”).

The 2000 Plan allows for the grant of incentive stock options intended to qualify under Section 422 of the Internal Revenue Code (the “IRC”), as well as stock options which do not so qualify, stock appreciation rights, restricted stock, restricted stock units, performance-based shares or units and other share awards. Prior to being amended in 2009, the 2000 Plan also allowed for the grant of phantom stock. Persons eligible to receive grants under the 2000 Plan include the Company’s directors, officers, employees and consultants. To date, all options granted under the 2000 Plan have been “nonqualified” stock options for tax purposes. Generally, vesting of these granted options occurs in one-third increments on each of the first three anniversaries of the award date. Options granted prior to 2005 have a 10-year contractual term, options granted in 2005 through 2007 have an eight-year contractual term and options granted in 2008 or later have a 10-year contractual term. As of September 30, 2012, 707,767 shares of unissued common stock were reserved for future grants under the 2000 Plan.

The 2009 Plan provides for the grant of incentive stock options intended to qualify under Section 422 of the IRC and for the grant of stock options which do not so qualify, stock appreciation rights, restricted stock, restricted stock units, performance-based shares or units and other share awards. Persons eligible to receive grants under the 2009 Plan include the Company’s directors, officers, employees and consultants. To date, all options granted under the 2009 Plan have been “nonqualified” stock options for tax purposes. Generally, vesting of these granted options occurs in one-third increments on each of the first three anniversaries of the award date. Options granted in 2011 or later have a 10-year contractual term. As of September 30, 2012, 1,525,791 shares of unissued common stock were reserved for future grants under the 2009 Plan.

The exercise price of all options granted is equal to the fair value of the Company’s common stock on the option grant date.

The following table reflects the impact of total compensation expense related to stock-based equity plans on the reported operating results for the respective periods (in thousands):

 

     Three Months  Ended
September 30,
     Nine Months  Ended
September 30,
 
               2012                           2011                           2012                           2011             

Effect on income from continuing operations before income taxes

   $             (10,084)       $             (10,855)       $             (30,708)       $             (31,588)   
  

 

 

    

 

 

    

 

 

    

 

 

 

Effect on net income

   $ (6,403)       $ (6,893)       $ (19,500)       $ (20,059)   
  

 

 

    

 

 

    

 

 

    

 

 

 

At September 30, 2012, $45.0 million of unrecognized stock-based compensation expense was expected to be recognized over a weighted-average period of 19 months. Of that amount, $9.0 million related to outstanding unvested stock options was expected to be recognized over a weighted-average period of 18 months and $36.0 million related to outstanding unvested restricted stock and restricted stock units was expected to be recognized over a weighted-average period of 19 months. There were no modifications to awards during the three-month and nine-month periods ended September 30, 2012.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

The fair value of stock options was estimated using the Black Scholes option pricing model with the following assumptions and weighted-average fair values during the three and nine months ended September 30, 2012 and 2011:

 

     Three Months Ended
September 30,
     Nine Months  Ended
September 30,
 
               2012                           2011                           2012                           2011             

Expected volatility

     59.8 %           57.8 %           57.8 %           32.8 %     

Expected dividends

     -                -                -                -          

Expected term

     4 years              4 years              4.1 years              4 years        

Risk-free interest rate

     0.5 %           0.6 %           0.7 %           1.7 %     

In determining the expected term, the Company examined concentrations of option holdings and historical patterns of option exercises and forfeitures, as well as forward-looking factors, in an effort to determine if there were any discernable employee populations. From this analysis, the Company identified two primary employee populations, one consisting of certain senior executives and the other one consisting of substantially all other recipients.

The expected volatility rate was estimated based on historical volatility. In determining expected volatility, the Company also reviewed the market-based implied volatility of actively traded options of its common stock and determined that historical volatility utilized to estimate the expected volatility rate did not differ significantly from the implied volatility.

The expected term computation is based on historical exercise and cancellation patterns and forward-looking factors, where present, for each population identified. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of the grant. The pre-vesting forfeiture rate is based on historical rates and forward-looking factors for each population identified. The Company adjusts the estimated forfeiture rate to its actual experience.

Options outstanding and exercisable under the 2000 Plan and the 2009 Plan as of September 30, 2012, and changes during each of the three-month periods following December 31, 2011, were as follows (in thousands, except share and per share data):

 

               Shares                 Weighted-
Average
    Exercise Price    
     Weighted-
Average
Remaining
        Contractual        
Term
   Aggregate
Intrinsic
Value as of
    September 30,    
2012
 

Outstanding at December 31, 2011

     8,389,142        $ 32.83          

Granted

     246,500          21.07          

Exercised

     (17,244)         17.88          

Forfeited and cancelled

     (130,475)         32.27          
  

 

 

          

Outstanding at March 31, 2012

     8,487,923          32.53          

Granted

     4,000          21.91          

Exercised

     (50,018)         19.20          

Forfeited and cancelled

     (103,448)         33.38          
  

 

 

          

Outstanding at June 30, 2012

     8,338,457          32.59          

Granted

     3,000          27.44          

Exercised

     (227,737)         19.67          

Forfeited and cancelled

     (159,831)         35.10          
  

 

 

          

Outstanding at September 30, 2012

     7,953,889        $ 32.91        4.6 years    $ 15,739    
  

 

 

    

 

 

    

 

  

 

 

 

Exercisable at September 30, 2012

                   6,437,632        $                     33.01        3.7 years    $                     12,527    
  

 

 

    

 

 

    

 

  

 

 

 

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

The weighted-average grant date fair value of stock options granted during the three months ended September 30, 2012 and 2011 was $12.51 and $7.97, respectively, and $9.19 and $10.18 during the nine months ended September 30, 2012 and 2011, respectively. The aggregate intrinsic value (the number of in-the-money stock options multiplied by the difference between the Company’s closing stock price on the last trading day of the reporting period ($29.14) and the exercise price of the respective stock options) in the table above represents the amount that would have been received by the option holders had all option holders exercised their options on September 30, 2012. This amount changes based on the market value of the Company’s common stock. The aggregate intrinsic value of options exercised during the three months ended September 30, 2012 was $1.8 million. There was substantially no aggregate intrinsic value of options exercised during the three months ended September 30, 2011. The aggregate intrinsic value of options exercised during the nine months ended September 30, 2012 and 2011 was $2.2 million and $6.1 million, respectively. The aggregate intrinsic value of options vested and expected to vest approximates that of the outstanding options.

The Company has also awarded restricted stock under the 2000 Plan and the 2009 Plan to its directors and employees of certain subsidiaries. The restrictions on these shares generally lapse in one-third increments on each of the first three anniversaries of the award date. Certain of the restricted stock awards granted to the Company’s senior executives contain a performance objective that must be met in addition to any vesting requirements. If the performance objective is not attained, the awards will be forfeited in their entirety. Once the performance objective has been attained, restrictions will lapse in one-third increments on each of the first three anniversaries of the award date. Notwithstanding the above-mentioned performance objectives and vesting requirements, the restrictions will lapse earlier in the event of death, disability or termination of employment by the Company for any reason other than for cause of the holder of the restricted stock, or change in control of the Company. Restricted stock awards subject to performance standards are not considered outstanding for purposes of determining earnings per share until the performance objectives have been satisfied.

Restricted stock outstanding under the 2000 Plan and the 2009 Plan as of September 30, 2012, and changes during each of the three-month periods following December 31, 2011, were as follows:

 

                 Shares                   Weighted-
Average Grant
      Date Fair Value       
 

Unvested at December 31, 2011

     2,207,612        $ 32.95    

Granted

     660,500          21.07    

Vested

     (1,082,821)         29.67    

Forfeited

     (1,000)         37.96    
  

 

 

    

Unvested at March 31, 2012

     1,784,291          30.54    

Granted

     8,000          21.91    

Vested

     (7,001)         29.78    

Forfeited

     (7,000)         31.39    
  

 

 

    

Unvested at June 30, 2012

     1,778,290          30.50    

Granted

     9,000          27.44    

Vested

     (10,667)         28.73    

Forfeited

     (10,334)         30.64    
  

 

 

    

Unvested at September 30, 2012

                         1,766,289          30.49    
  

 

 

    

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Phantom stock and restricted stock units (“RSUs”) have been granted to the Company’s outside directors under the 2000 Plan and the 2009 Plan. On February 25, 2009, each of the Company’s outside directors received a grant under the 2000 Plan of 7,151 shares of phantom stock. On May 19, 2009, the newly elected outside director received a grant under the 2000 Plan of 7,151 RSUs. On February 24, 2010, six of the Company’s seven outside directors each received a grant under the 2000 Plan of 4,130 RSUs and one outside director, who did not stand for reelection in 2010, did not receive such a grant. On February 23, 2011, each of the Company’s outside directors received a grant under the 2009 Plan of 3,688 RSUs. On February 16, 2012, each of the Company’s outside directors received a grant under the 2009 Plan of 6,645 RSUs. Vesting of these shares of phantom stock and RSUs occurs in one-third increments on each of the first three anniversaries of the award date. Restricted stock units and phantom stock outstanding under the 2000 Plan and the 2009 Plan as of September 30, 2012, and changes during each of the three-month periods following December 31, 2011, were as follows:

 

 

                 Shares                   Weighted-
Average Grant
      Date Fair Value       
 

Unvested at December 31, 2011

     52,956        $                              31.67    

RSUs Granted February 16, 2012

     39,870          21.07    

Vested

     (27,556)         28.19    

Forfeited

               
  

 

 

    

Unvested at March 31, 2012

     65,270          26.67    

RSUs Granted

               

Vested

     (2,384)         25.27    

Forfeited

               
  

 

 

    

Unvested at June 30, 2012

     62,886          26.72    

RSUs Granted

               

Vested

               

Forfeited

               
  

 

 

    

Unvested at September 30, 2012

                             62,886          26.72    
  

 

 

    

Under the Directors’ Fees Deferral Plan, the Company’s outside directors may elect to receive share equivalent units in lieu of cash for their directors’ fees. These share equivalent units are held in the plan until the director electing to receive the share equivalent units retires or otherwise terminates his/her directorship with the Company. Share equivalent units are converted to shares of common stock of the Company at the time of distribution based on the closing market price of the Company’s common stock on that date. The following table represents the amount of directors’ fees which were deferred during each of the respective periods, and the number of share equivalent units into which such directors’ fees would have converted had each of the directors who had deferred such fees retired or terminated his/her directorship with the Company as of the end of the respective periods (in thousands, except share equivalent units):

 

 

     Three Months  Ended
September 30,
     Nine Months  Ended
September 30,
 
                   2012                               2011                               2012                               2011             

Directors’ fees earned and deferred into plan

   $                              28        $                              55        $                              83        $                              165    
  

 

 

    

 

 

    

 

 

    

 

 

 

Share equivalent units

     944          3,305          3,161          6,822    
  

 

 

    

 

 

    

 

 

    

 

 

 

At September 30, 2012, a total of 26,949 share equivalent units were deferred in the plan with an aggregate fair value of $0.8 million, based on the closing market price of the Company’s common stock at September 30, 2012 of $29.14.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

3.  COST OF REVENUE

Substantially all of the Company’s operating costs and expenses are “cost of revenue” items. Operating costs that could be classified as general and administrative by the Company would include the Company’s corporate office costs at its Franklin, Tennessee office, which were $49.4 million and $45.6 million for the three months ended September 30, 2012 and 2011, respectively, and $153.6 million and $135.1 million for the nine months ended September 30, 2012 and 2011, respectively. Included in these amounts is stock-based compensation expense of $10.1 million and $10.9 million for the three months ended September 30, 2012 and 2011, respectively, and $30.7 million and $31.6 million for the nine months ended September 30, 2012 and 2011, respectively.

4.  USE OF ESTIMATES

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements. Actual results could differ from these estimates under different assumptions or conditions.

5.  ACQUISITIONS AND DIVESTITURES

Acquisitions

The Company accounts for all transactions that represent business combinations using the acquisition method of accounting, where the identifiable assets acquired, the liabilities assumed and any noncontrolling interest in the acquired entity are recognized and measured at their fair values on the date the Company obtains control in the acquiree. Such fair values that are not finalized for reporting periods following the acquisition date are estimated and recorded as provisional amounts. Adjustments to these provisional amounts during the measurement period (defined as the date through which all information required to identify and measure the consideration transferred, the assets acquired, the liabilities assumed and any noncontrolling interests has been obtained, limited to one year from the acquisition date) are recorded as of the date of acquisition. Any material impact to comparative information for periods after acquisition, but before the period in which adjustments are identified, is reflected in those prior periods as if the adjustments were considered as of the acquisition date. Goodwill is determined as the excess of the fair value of the consideration conveyed in the acquisition over the fair value of the net assets acquired.

Effective July 1, 2012, one or more subsidiaries of the Company completed the acquisition of Memorial Health Systems in York, Pennsylvania. This healthcare system includes Memorial Hospital (100 licensed beds), the Surgical Center of York, and other outpatient and ancillary services. As part of this purchase agreement, the Company has agreed to spend at least $75.0 million to build a replacement hospital within five years of the closing date. The total cash consideration paid for fixed assets and working capital was approximately $45.0 million and $2.6 million, respectively, with additional consideration of $12.5 million assumed in liabilities, for a total consideration of $60.1 million. Based upon the Company’s preliminary purchase price allocation relating to this acquisition as of September 30, 2012, approximately $9.9 million of goodwill has been recorded. The preliminary allocation of the purchase price has been determined by the Company based on available information and is subject to settling amounts related to purchased working capital and final appraisals of tangible and intangible assets. Adjustments to the purchase price allocation are not expected to be material.

Effective March 5, 2012, one or more subsidiaries of the Company completed a merger with Diagnostic Clinic of Longview, P.A., which is a multi-specialty clinic serving residents of Longview, Texas and surrounding East Texas communities. This merger was accounted for as a purchase business combination. The total cash consideration paid for the business, including net working capital, was approximately $52.3 million, with additional consideration of $6.9 million assumed in liabilities, for a total consideration of $59.2 million. Based upon the Company’s preliminary purchase price allocation relating to this acquisition as of September 30, 2012, approximately $41.8 million of goodwill has been recorded. The preliminary allocation of the purchase price has been determined by the Company based on available information and is subject to settling amounts related to purchased working capital. Adjustments to the purchase price allocation are not expected to be material.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Effective March 1, 2012, one or more subsidiaries of the Company completed the acquisition of MetroSouth Medical Center (330 licensed beds) located in Blue Island, Illinois. The total cash consideration paid for fixed assets was approximately $39.3 million with additional consideration of $6.2 million assumed in liabilities as well as a credit applied at closing of $0.9 million for negative acquired working capital, for a total consideration of $44.6 million. Based upon the Company’s preliminary purchase price allocation relating to this acquisition as of September 30, 2012, no goodwill has been recorded. The preliminary allocation of the purchase price has been determined by the Company based on available information and is subject to settling amounts related to purchased working capital and final appraisals of tangible and intangible assets. Adjustments to the purchase price allocation are not expected to be material.

Effective January 1, 2012, one or more subsidiaries of the Company completed the acquisition of Moses Taylor Healthcare System based in Scranton, Pennsylvania, which is a healthcare system comprised of two acute care hospitals and other healthcare providers. This healthcare system includes Moses Taylor Hospital (217 licensed beds) located in Scranton, Pennsylvania, and Mid-Valley Hospital (25 licensed beds) located in Peckville, Pennsylvania. The total cash consideration paid for fixed assets and working capital was approximately $151.1 million and $9.2 million, respectively, with additional consideration of $13.2 million assumed in liabilities, for a total consideration of $173.5 million. Based upon the Company’s preliminary purchase price allocation relating to this acquisition as of September 30, 2012, approximately $54.6 million of goodwill has been recorded. The preliminary allocation of the purchase price has been determined by the Company based on available information and is subject to settling amounts related to purchased working capital and final appraisals of tangible and intangible assets. Adjustments to the purchase price allocation are not expected to be material.

Effective October 1, 2011, one or more subsidiaries of the Company completed the acquisition of Tomball Regional Hospital (358 licensed beds) located in Tomball, Texas. The total cash consideration paid for fixed assets and working capital was approximately $192.0 million and $17.5 million, respectively, with additional consideration of $15.9 million assumed in liabilities, for a total consideration of $225.4 million. Based upon the Company’s final purchase price allocation relating to this acquisition, as of September 30, 2012, approximately $32.4 million of goodwill has been recorded.

Effective May 1, 2011, one or more subsidiaries of the Company completed the acquisition of Mercy Health Partners based in Scranton, Pennsylvania, which is a healthcare system comprised of two acute care hospitals, a long-term acute care facility and other healthcare providers. This healthcare system includes Regional Hospital of Scranton (198 licensed beds) located in Scranton, Pennsylvania, and Tyler Memorial Hospital (48 licensed beds) located in Tunkhannock, Pennsylvania. This healthcare system also includes a long-term acute care facility, Special Care Hospital (67 licensed beds) located in Nanticoke, Pennsylvania, as well as several outpatient clinics and other ancillary facilities. The total cash consideration paid for fixed assets was approximately $150.8 million, with additional consideration of $12.3 million assumed in liabilities as well as a credit applied at closing of $2.1 million for negative acquired working capital, for a total consideration of $161.0 million. Based upon the Company’s final purchase price allocation relating to this acquisition, as of September 30, 2012, approximately $43.1 million of goodwill has been recorded.

Additionally, during the nine months ended September 30, 2012, the Company paid approximately $34.6 million to acquire the operating assets and related businesses of certain physician practices, clinics and other ancillary businesses that operate within the communities served by its hospitals. In connection with these acquisitions, the Company allocated approximately $9.1 million of the consideration paid to property and equipment, $1.1 million to net working capital, and the remainder, approximately $24.4 million consisting of intangible assets that do not qualify for separate recognition, was allocated to goodwill. These acquisition transactions were accounted for as purchase business combinations.

Approximately $2.5 million and $2.4 million of acquisition costs related to prospective and closed acquisitions were expensed during the three months ended September 30, 2012 and 2011, respectively, and $9.1 million and $11.0 million for the nine months ended September 30, 2012 and 2011, respectively.

Discontinued Operations

Effective February 1, 2011, the Company sold Willamette Community Medical Group, which is a physician clinic operating as Oregon Medical Group, located in Springfield, Oregon, to Oregon Healthcare Resources, LLC, for $14.6 million in cash; this business had a carrying amount of net assets, including an allocation of reporting unit goodwill, of $19.7 million.

Effective September 1, 2011, the Company sold SouthCrest Hospital, located in Tulsa, Oklahoma, Claremore Regional Hospital, located in Claremore, Oklahoma, and other related healthcare assets affiliated with those hospitals to Hillcrest Healthcare System, part of Ardent Health Services, for approximately $154.2 million in cash. The carrying amount of the net assets sold in this transaction, including an allocation of reporting unit goodwill, was approximately $193.0 million.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Effective October 22, 2011, the Company sold Cleveland Regional Medical Center, located in Cleveland, Texas, and other related healthcare assets affiliated with the hospital to New Directions Health Systems, LLC for approximately $0.9 million in cash. The carrying amount of the net assets sold in this transaction, including an allocation of reporting unit goodwill, was approximately $14.2 million.

The Company has classified the results of operations for Oregon Medical Group, SouthCrest Hospital, Claremore Regional Hospital and Cleveland Regional Hospital as discontinued operations in the accompanying condensed consolidated statements of income for the three and nine months ended September 30, 2012 and 2011.

Net operating revenues and loss from discontinued operations for the respective periods are as follows (in thousands):

 

 

     Three Months Ended
September 30,
    

Nine Months Ended

September 30,

 
  

 

 

    

 

 

 
               2012                          2011                          2012                          2011            
  

 

 

    

 

 

 

Net operating revenues

   $       $ 47,855        $       $ 188,418    
  

 

 

    

 

 

    

 

 

    

 

 

 

Loss from operations of entities sold before income taxes

             (5,120)         (729)         (7,401)   

Impairment of hospitals sold

                             (51,695)   

Loss on sale, net

             (337)                 (5,398)   
  

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations, before taxes

             (5,457)         (729)         (64,494)   

Income tax benefit

             (2,288)         (263)         (8,718)   
  

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations, net of taxes

   $                     -        $               (3,169)       $                 (466)       $               (55,776)   
  

 

 

    

 

 

    

 

 

    

 

 

 

Interest expense was allocated to discontinued operations based on sale proceeds available for debt repayment.

6.  INCOME TAXES

The total amount of unrecognized benefit that would affect the effective tax rate, if recognized, was approximately $0.8 million as of September 30, 2012. During the nine months ended September 30, 2012, the Company increased interest and penalties by approximately $0.1 million. A total of approximately $0.3 million of interest and penalties is included in the amount of the liability for uncertain tax positions at September 30, 2012. It is the Company’s policy to recognize interest and penalties related to unrecognized benefits in its condensed consolidated statements of income as income tax expense.

It is possible the amount of unrecognized tax benefit could change in the next twelve months as a result of a lapse of the statute of limitations and settlements with taxing authorities; however, the Company does not anticipate the change will have a material impact on its consolidated results of operations or consolidated financial position.

The Company, or one of its subsidiaries, files income tax returns in the United States federal jurisdiction and various state jurisdictions. The Company has extended the federal statute of limitations for Triad Hospitals, Inc. (“Triad”) for the tax periods ended December 31, 1999, December 31, 2000, April 30, 2001, June 30, 2001, December 31, 2001, December 31, 2002 and December 31, 2003. The Internal Revenue Service (the “IRS”) has concluded its examination of the federal tax return of Triad for the tax periods ended December 31, 2004, December 31, 2005, December 31, 2006 and July 25, 2007, and the statutes of limitations for those years will close on December 31, 2012. With few exceptions, the Company is no longer subject to state income tax examinations for years prior to 2008 and federal income tax examinations with respect to Community Health Systems, Inc. federal returns for years prior to 2007. The Company’s federal income tax returns for the 2007, 2008, 2009 and 2010 tax years are currently under examination by the IRS. The Company believes the results of this examination will not be material to its consolidated results of operations or consolidated financial position. In connection with the Company’s 2007 and 2008 IRS examinations, the IRS has taken exception to the timing of the Company’s malpractice expense deductions. Management believes that the Company’s deduction timing is appropriate, and will work to resolve this item over the next 12 months. If management is unable to sustain the current timing of the Company’s deduction, then it would be subject to interest and penalty costs. Management does not consider this matter to have met the recognition criteria to be considered an uncertain tax position for which a reserve is necessary.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Cash paid for income taxes, net of refunds received, resulted in net cash paid of $33.4 million and $23.0 million for the three months ended September 30, 2012 and 2011, respectively. Cash paid for income taxes, net of refunds received, resulted in net cash paid of $55.4 million and a net cash refund of $2.7 million for the nine months ended September 30, 2012 and 2011, respectively.

7.  GOODWILL AND OTHER INTANGIBLE ASSETS

The changes in the carrying amount of goodwill for the nine months ended September 30, 2012, are as follows (in thousands):

 

 

Balance as of December 31, 2011

   $ 4,264,845     

Goodwill acquired as part of acquisitions during 2012

     130,661     

Consideration adjustments and purchase price allocation adjustments for prior year’s acquisitions

     1,967     
  

 

 

 

Balance as of September 30, 2012

   $             4,397,473     
  

 

 

 

Goodwill is allocated to each identified reporting unit, which is defined as an operating segment or one level below the operating segment (referred to as a component of the entity). Management has determined that the Company’s operating segments meet the criteria to be classified as reporting units. At September 30, 2012, the hospital operations reporting unit, the home care agency operations reporting unit, and the hospital management services reporting unit had approximately $4.3 billion, $40.5 million and $33.3 million, respectively, of goodwill.

Goodwill is evaluated for impairment at the same time every year and when an event occurs or circumstances change that, more likely than not, reduce the fair value of the reporting unit below its carrying value. There is a two-step method for determining goodwill impairment. Step one is to compare the fair value of the reporting unit with the unit’s carrying amount, including goodwill. If this test indicates the fair value is less than the carrying value, then step two is required to compare the implied fair value of the reporting unit’s goodwill with the carrying value of the reporting unit’s goodwill. The Company performed its last annual goodwill evaluation during the fourth quarter of 2011. No impairment was indicated by this evaluation. The next annual goodwill evaluation will be performed during the fourth quarter of 2012.

The Company estimates the fair value of the related reporting units using both a discounted cash flow model as well as an EBITDA multiple model. The cash flow forecasts are adjusted by an appropriate discount rate based on the Company’s estimate of a market participant’s weighted-average cost of capital. These models are both based on the Company’s best estimate of future revenues and operating costs and are reconciled to the Company’s consolidated market capitalization, with consideration of the amount a potential acquirer would be required to pay, in the form of a control premium, in order to gain sufficient ownership to set policies, direct operations and control management decisions.

The gross carrying amount of the Company’s other intangible assets subject to amortization was $62.0 million at September 30, 2012 and $60.0 million at December 31, 2011, and the net carrying amount was $28.1 million at September 30, 2012 and $30.6 million at December 31, 2011. The carrying amount of the Company’s other intangible assets not subject to amortization was $47.6 million at September 30, 2012 and $46.9 million at December 31, 2011. Other intangible assets are included in other assets, net on the Company’s condensed consolidated balance sheets. Substantially all of the Company’s intangible assets are contract-based intangible assets related to operating licenses, management contracts, or non-compete agreements entered into in connection with prior acquisitions.

The weighted-average amortization period for the intangible assets subject to amortization is approximately eight years. There are no expected residual values related to these intangible assets. Amortization expense on these intangible assets was $2.0 million for both of the three month periods ended September 30, 2012 and 2011, and $5.7 million and $6.2 million during the nine months ended September 30, 2012 and 2011, respectively. Amortization expense on intangible assets is estimated to be $2.1 million for the remainder of 2012, $5.8 million in 2013, $3.7 million in 2014, $3.2 million in 2015, $2.4 million in 2016, $2.2 million in 2017 and $8.7 million thereafter.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

The gross carrying amount of capitalized software for internal use was approximately $613.2 million and $451.0 million at September 30, 2012 and December 31, 2011, respectively, and the net carrying amount considering accumulated amortization was approximately $339.4 million and $241.3 million at September 30, 2012 and December 31, 2011, respectively. The estimated amortization period for capitalized internal-use software is generally three years, except for capitalized costs related to significant system conversions, which is generally eight years. There is no expected residual value for capitalized internal-use software. At September 30, 2012, there was approximately $147.5 million of capitalized costs for internal-use software that is currently in the development stage and will begin amortization once the software project is complete and ready for its intended use. Amortization expense on capitalized internal-use software was $22.8 million and $17.8 million during the three months ended September 30, 2012 and 2011, respectively, and $64.2 million and $52.4 million during the nine months ended September 30, 2012 and 2011, respectively. Amortization expense on capitalized internal-use software is estimated to be $25.7 million for the remainder of 2012, $102.6 million in 2013, $78.4 million in 2014, $41.7 million in 2015, $26.2 million in 2016, $21.8 million in 2017 and $43.0 million thereafter.

8.  EARNINGS PER SHARE

The following table sets forth the components of the numerator and denominator for the computation of basic and diluted earnings per share for income from continuing operations, discontinued operations and net income attributable to Community Health Systems, Inc. common stockholders (in thousands, except share data):

 

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2012      2011      2012      2011  

Numerator:

           

Income from continuing operations, net of taxes

   $ 58,758        $ 95,800        $ 260,643        $ 280,279    

Less: Income from continuing operations attributable to noncontrolling interests, net of taxes

     14,525          18,327          57,111          53,486    
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations attributable to Community Health Systems, Inc. common stockholders — basic and diluted

   $ 44,233        $ 77,473        $ 203,532        $ 226,793    
  

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations, net of taxes

   $       $ (3,169)       $ (466)       $ (55,776)   

Less: Loss from discontinued operations attributable to noncontrolling interests, net of taxes

                               
  

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations attributable to Community Health Systems, Inc. common stockholders — basic and diluted

   $       $ (3,169)       $ (466)       $ (55,776)   
  

 

 

    

 

 

    

 

 

    

 

 

 

Denominator:

           

Weighted-average number of shares outstanding — basic

     89,259,950          89,412,310          89,028,249          90,513,665    

Effect of dilutive securities:

           

Restricted stock awards

     449,811          307,631          210,418          275,561    

Employee stock options

     280,495          128,371          214,082          458,685    

Other equity-based awards

     18,857          9,271          12,238          8,558    
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted-average number of shares outstanding — diluted

           90,009,113                89,857,583                89,464,987                91,256,469    
  

 

 

    

 

 

    

 

 

    

 

 

 

 

     Three Months  Ended
September 30,
     Nine Months Ended
September 30,
 
             2012                      2011                      2012                      2011          

Dilutive securities outstanding not included in the computation of earnings per share because their effect is antidilutive:

           

Employee stock options

           6,529,182                6,909,075                6,776,487                6,010,261    
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

9.  STOCKHOLDERS’ EQUITY

Authorized capital shares of the Company include 400,000,000 shares of capital stock consisting of 300,000,000 shares of common stock and 100,000,000 shares of preferred stock. Each of the aforementioned classes of capital stock has a par value of $0.01 per share. Shares of preferred stock, none of which were outstanding as of September 30, 2012, may be issued in one or more series having such rights, preferences and other provisions as determined by the Board of Directors without approval by the holders of common stock.

On December 14, 2011, the Company adopted a new open market repurchase program for up to 4,000,000 shares of the Company’s common stock, not to exceed $100 million in repurchases. The new repurchase program will conclude at the earliest of three years from the commencement date, when the maximum number of shares has been repurchased, or when the maximum dollar amount of repurchases has been expended. Through September 30, 2012, no shares have been purchased and retired under this program.

On September 15, 2010, the Company commenced an open market repurchase program for up to 4,000,000 shares of the Company’s common stock, not to exceed $100 million in repurchases. This program will conclude at the earliest of three years from the commencement date, when the maximum number of shares has been repurchased or when the maximum dollar amount of repurchases has been expended. During the three and nine months ended September 30, 2012, the Company did not repurchase any shares under this program. During the three months ended September 30, 2011, the Company repurchased and retired 1,706,300 shares at a weighted average price of $20.93 under this program. During the nine months ended September 30, 2011, the Company repurchased and retired 3,469,866 shares at a weighted average price of $24.68 under this program. The cumulative number of shares that have been repurchased and retired under this program through September 30, 2012 is 3,921,138 shares at a weighted-average price of $25.39 per share.

The Company’s Credit Facility (as discussed below) limits the Company’s ability to pay dividends and/or repurchase stock to an amount not to exceed $50 million in the aggregate plus the aggregate amount of proceeds from the exercise of stock options. The indentures governing the 8% Senior Notes due 2019 and the 7 1/8% Senior Notes due 2020 (collectively, the “Senior Notes”) and the 5 1/8% Senior Secured Notes due 2018 also limit the Company’s ability to pay dividends and/or repurchase stock. As of September 30, 2012, under the most restrictive test under these agreements, the Company has approximately $85.8 million remaining available with which to pay permitted dividends and/or repurchase shares of stock or its Senior Notes.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

The following schedule presents the reconciliation of the carrying amount of total equity, equity attributable to the Company, and equity attributable to the noncontrolling interests for the nine-month period ended September 30, 2012 (in thousands):

 

          Community Health Systems, Inc. Stockholders              
  Redeemable
Noncontrolling
Interest
    Common
Stock
    Additional
Paid-In
Capital
    Treasury
Stock
   

 

Accumulated
Other
Comprehensive
Income (Loss)

    Retained
Earnings
    Noncontrolling
Interest
    Total
Stockholders’
Equity
 

Balance, December 31, 2011

  $ 395,743      $ 915      $ 1,086,008      $ (6,678)      $ (184,479)      $ 1,501,330      $ 67,349      $ 2,464,445   
 

Comprehensive income

    40,636        -        -        -        35,758        203,066        16,475        255,299   
 

Distributions to noncontrolling interests, net of contributions

    (36,338)        -        -        -        -        -        (23,803)        (23,803)   
 

Purchase of subsidiary shares from noncontrolling interests

    (18,603)        -        (19,963)        -        -        -        (1,143)        (21,106)   
 

Other reclassifications of noncontrolling interests

    1,626        -        -        -        -        -        (623)        (623)   
 

Adjustment to redemption value of redeemable noncontrolling interests

    (12,550)        -        12,550        -        -        -        -        12,550   
 

Issuance of common stock in connection with the exercise of stock options

    -              5,750        -        -        -        -        5,753   
 

Cancellation of restricted stock for tax withholdings on vested shares

    -        (3)        (9,165)        -        -        -        -        (9,168)   
 

Excess tax benefit from exercise of stock options

    -        -        (1,318)        -        -        -        -        (1,318)   
 

Share-based compensation

    -              30,708        -        -        -        -        30,715   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
 

Balance, September 30, 2012

  $               370,514      $         922      $      1,104,570      $      (6,678)      $       (148,721)      $              1,704,396      $                 58,255      $         2,712,744   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

The following schedule discloses the effects of changes in the Company’s ownership interest in its less-than-wholly-owned subsidiaries on Community Health Systems, Inc. stockholders’ equity (in thousands):

 

     Nine Months Ended
September 30, 2012
 

Net income attributable to Community Health Systems, Inc. stockholders

   $ 203,066    

Transfers to the noncontrolling interests:

  

Net decrease in Community Health Systems, Inc. paid-in capital for purchase of subsidiary partnership interests

     (19,963)   
  

 

 

 

Net transfers to the noncontrolling interests

     (19,963)   
  

 

 

 

Change to Community Health Systems, Inc. stockholders’ equity from net income attributable to Community Health Systems, Inc. stockholders and transfers to noncontrolling interests

   $                              183,103    
  

 

 

 

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

10.  EQUITY INVESTMENTS

As of September 30, 2012, the Company owned equity interests of 27.5% in four hospitals in Las Vegas, Nevada, and 26.1% in one hospital in Las Vegas, Nevada, in which Universal Health Systems, Inc. owns the majority interest, and an equity interest of 38.0% in three hospitals in Macon, Georgia, in which HCA Inc. owns the majority interest.

Summarized combined financial information for the three and nine months ended September 30, 2012 and 2011, for these unconsolidated entities in which the Company owns an equity interest is as follows (in thousands):

 

 

     Three Months  Ended
September 30,
     Nine Months  Ended
September 30,
 
               2012                           2011                           2012                           2011             

Revenues

   $             294,461         $             299,099         $             926,886         $             927,392     

Operating costs and expenses

     266,012           267,857           817,572           802,870     

Income from continuing operations before taxes

     28,421           31,211           109,238           124,447     

The summarized financial information for the three and nine months ended September 30, 2012 and 2011 was derived from the unaudited financial information provided to the Company by those unconsolidated entities.

The Company’s investment in all of its unconsolidated affiliates was $436.5 million and $422.2 million at September 30, 2012 and December 31, 2011, respectively, and is included in other assets, net in the accompanying condensed consolidated balance sheets. Included in the Company’s results of operations is the Company’s equity in pre-tax earnings from all of its investments in unconsolidated affiliates, which was $7.4 million and $8.2 million for the three months ended September 30, 2012 and 2011, respectively, and $32.6 million and $38.3 million for the nine months ended September 30, 2012 and 2011, respectively.

11.  LONG-TERM DEBT

Long-term debt consists of the following (in thousands):

 

       September 30, 2012            December 31, 2011      

Credit Facility:

     

Term loan A

    $ 737,500         $   

Term loan B

     3,619,062          5,949,383    

Revolving credit loans

             30,000    

8 7/8% Senior Notes due 2015

             1,777,617    

8% Senior Notes due 2019

     2,023,414          1,000,000    

7 1/8% Senior Notes due 2020

     1,200,000            

5 1/8% Senior Secured Notes due 2018

     1,600,000            

Receivables Facility

     300,000            

Capital lease obligations

     49,035          48,361    

Other

     43,052          41,143    
  

 

 

    

 

 

 

Total debt

     9,572,063          8,846,504    

Less current maturities

     (99,194)         (63,706)   
  

 

 

    

 

 

 

Total long-term debt

    $                     9,472,869         $                     8,782,798    
  

 

 

    

 

 

 

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Credit Facility

In connection with the consummation of the acquisition of Triad in July 2007, the Company’s wholly-owned subsidiary CHS/Community Health Systems, Inc. (“CHS”) obtained approximately $7.2 billion of senior secured financing under a new credit facility (the “Credit Facility”) with a syndicate of financial institutions led by Credit Suisse, as administrative agent and collateral agent, and issued approximately $3.0 billion aggregate principal amount of 8 7/8% senior notes due 2015 (the “8 7/8% Senior Notes”). The Company used the net proceeds of $3.0 billion from the 8 7/8% Senior Notes offering and the net proceeds of approximately $6.1 billion of term loans under the Credit Facility to acquire the outstanding shares of Triad, to refinance certain of Triad’s indebtedness and the Company’s indebtedness, to complete certain related transactions, to pay certain costs and expenses of the transactions and for general corporate uses. Specifically, the Company repaid its outstanding debt under the previously outstanding credit facility, the 6.50% senior subordinated notes due 2012 and certain of Triad’s existing indebtedness.

The Credit Facility consisted of an approximately $6.1 billion funded term loan facility with a maturity of seven years, a $400 million delayed draw term loan facility with a maturity of seven years and a $750 million revolving credit facility with a maturity of six years. As of December 31, 2007, the $400 million delayed draw term loan facility had been reduced to $300 million at the request of CHS. During the fourth quarter of 2008, $100 million of the delayed draw term loan was drawn by CHS, reducing the delayed draw term loan availability to $200 million at December 31, 2008. In January 2009, CHS drew down the remaining $200 million of the delayed draw term loan. The revolving credit facility also includes a subfacility for letters of credit and a swingline subfacility. The Credit Facility requires quarterly amortization payments of each term loan facility equal to 0.25% of the outstanding amount of the term loans.

On November 5, 2010, CHS entered into an amendment and restatement of the Credit Facility. The amendment extended by two and a half years, until January 25, 2017, the maturity date of $1.5 billion of the existing term loans under the Credit Facility and increased the pricing on these term loans to LIBOR plus 350 basis points. The amendment also increased CHS’ ability to issue additional indebtedness under the uncommitted incremental facility to $1.0 billion from $600 million, permitted CHS to issue term loan A loans under the incremental facility, and provided up to $2.0 billion of borrowing capacity from receivable transactions, an increase of $0.5 billion, of which $1.7 billion would be required to be used for repayment of existing term loans. On February 2, 2012, CHS completed a second amendment and restatement of the Credit Facility to extend an additional $1.6 billion of the existing non-extended term loans under the Credit Facility to match the maturity date and interest rate margins of the extended term loans due January 25, 2017. On August 3, 2012, CHS entered into a third amendment of the Credit Facility to provide increased flexibility for refinancing and repayment of the existing non-extended term loans and amend certain other terms. On August 17, 2012, the Company made a prepayment of $1.6 billion on the non-extended term loans due July 25, 2014, utilizing the proceeds from the issuance of $1.6 billion of 5 1/8% Senior Secured Notes due 2018. On August 22, 2012, CHS entered into a loan modification agreement with respect to the Credit Facility to extend approximately $340 million of the existing non-extended term loans to match the maturity date and interest rate margins of the extended term loans due January 25, 2017. The July 25, 2014 maturity date of the balance of the remaining non-extended term loans at September 30, 2012 of approximately $266.1 million remains unchanged.

Effective March 6, 2012, the Company obtained a new $750 million senior secured revolving credit facility (the “Replacement Revolver Facility”) and a new $750 million incremental term loan A facility (the “Incremental Term Loan”) subject to the terms and conditions set forth in the Credit Facility. The Replacement Revolver Facility replaced in full the existing revolving credit facility under the Credit Facility. The net proceeds of the Incremental Term Loan were used to repay the same amount of the existing term loans under the Credit Facility. Both the Replacement Revolver Facility and the Incremental Term Loan have a maturity date of October 25, 2016, subject to customary acceleration events and to the repayment, extension or refinancing with longer maturity debt of substantially all of the Company’s then outstanding term loans maturing July 25, 2014 and the now fully redeemed 8 7/8% Senior Notes. The pricing on each of the Replacement Revolver Facility and the Incremental Term Loan is initially LIBOR plus a margin of 250 basis points, subject to adjustment based on the Company’s leverage ratio. The Incremental Term Loan amortizes at 5% in year one, 10% in years two and three, 15% in year four and 60% in year five.

 

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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

The term loan facility must be prepaid in an amount equal to (1) 100% of the net cash proceeds of certain asset sales and dispositions by the Company and its subsidiaries, subject to certain exceptions and reinvestment rights, (2) 100% of the net cash proceeds of issuances of certain debt obligations or receivables-based financing by the Company and its subsidiaries, subject to certain exceptions, and (3) 50%, subject to reduction to a lower percentage based on the Company’s leverage ratio (as defined in the Credit Facility generally as the ratio of total debt on the date of determination to the Company’s EBITDA, as defined, for the four quarters most recently ended prior to such date), of excess cash flow (as defined) for any year, commencing in 2008, subject to certain exceptions. Voluntary prepayments and commitment reductions are permitted in whole or in part, without any premium or penalty, subject to minimum prepayment or reduction requirements.

The obligor under the Credit Facility is CHS. All of the obligations under the Credit Facility are unconditionally guaranteed by the Company and certain of its existing and subsequently acquired or organized domestic subsidiaries. All obligations under the Credit Facility and the related guarantees are secured by a perfected first priority lien or security interest in substantially all of the assets of the Company, CHS and each subsidiary guarantor, including equity interests held by the Company, CHS or any subsidiary guarantor, but excluding, among others, the equity interests of non-significant subsidiaries, syndication subsidiaries, securitization subsidiaries and joint venture subsidiaries.

The loans under the Credit Facility bear interest on the outstanding unpaid principal amount at a rate equal to an applicable percentage plus, at CHS’ option, either (a) an Alternate Base Rate (as defined) determined by reference to the greater of (1) the Prime Rate (as defined) announced by Credit Suisse or (2) the Federal Funds Effective Rate (as defined) plus 0.50% or (3) the adjusted London Interbank Offered Rate (“LIBOR”) on such day for a three-month interest period commencing on the second business day after such day plus 1%, or (b) a reserve adjusted LIBOR for dollars (Eurodollar rate) (as defined). The applicable percentage for Alternate Base Rate loans is 1.25% for term loans due 2014 and is 2.25% for term loans due 2017 and the Incremental Term Loan. The applicable percentage for Eurodollar rate loans is 2.25% for term loans due 2014 and 3.50% for term loans due 2017 and the Incremental Term Loan. The applicable percentage for revolving loans is 1.50% for Alternate Base Rate revolving loans and 2.50% for Eurodollar revolving loans, in each case subject to reduction based on the Company’s leverage ratio. Loans under the swingline subfacility bear interest at the rate applicable to Alternate Base Rate loans under the revolving credit facility.

CHS has agreed to pay letter of credit fees equal to the applicable percentage then in effect with respect to Eurodollar rate loans under the revolving credit facility times the maximum aggregate amount available to be drawn under all letters of credit outstanding under the subfacility for letters of credit. The issuer of any letter of credit issued under the subfacility for letters of credit will also receive a customary fronting fee and other customary processing charges. CHS is obligated to pay commitment fees of 0.50% per annum (subject to reduction based upon the Company’s leverage ratio) on the unused portion of the revolving credit facility. For purposes of this calculation, swingline loans are not treated as usage of the revolving credit facility. With respect to the delayed draw term loan facility, CHS was also obligated to pay commitment fees of 0.50% per annum for the first nine months after the closing of the Credit Facility, 0.75% per annum for the next three months after such nine-month period and thereafter, 1% per annum. In each case, the commitment fee was paid on the unused amount of the delayed draw term loan facility. After the draw down of the remaining $200 million of the delayed draw term loan in January 2009, CHS no longer pays any commitment fees for the delayed draw term loan facility. CHS paid arrangement fees on the closing of the Credit Facility and pays an annual administrative agent fee.

The Credit Facility contains customary representations and warranties, subject to limitations and exceptions, and customary covenants restricting the Company’s and its subsidiaries’ ability, subject to certain exceptions, to, among other things (1) declare dividends, make distributions or redeem or repurchase capital stock, (2) prepay, redeem or repurchase other debt, (3) incur liens or grant negative pledges, (4) make loans and investments and enter into acquisitions and joint ventures, (5) incur additional indebtedness or provide certain guarantees, (6) make capital expenditures, (7) engage in mergers, acquisitions and asset sales, (8) conduct transactions with affiliates, (9) alter the nature of the Company’s businesses, (10) grant certain guarantees with respect to physician practices, (11) engage in sale and leaseback transactions or (12) change the Company’s fiscal year. The Company is also required to comply with specified financial covenants (consisting of a leverage ratio and an interest coverage ratio) and various affirmative covenants.

Events of default under the Credit Facility include, but are not limited to, (1) CHS’ failure to pay principal, interest, fees or other amounts under the credit agreement when due (taking into account any applicable grace period), (2) any representation or warranty proving to have been materially incorrect when made, (3) covenant defaults subject, with respect to certain covenants, to a grace period, (4) bankruptcy events, (5) a cross default to certain other debt, (6) certain undischarged judgments (not paid within an applicable grace period), (7) a change of control, (8) certain ERISA-related defaults and (9) the invalidity or impairment of specified security interests, guarantees or subordination provisions in favor of the administrative agent or lenders under the Credit Facility.

 

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As of September 30, 2012, the availability for additional borrowings under the Credit Facility was $750 million pursuant to the Replacement Revolver Facility, of which $37.7 million was set aside for outstanding letters of credit. CHS has the ability to amend the Credit Facility to provide for one or more tranches of term loans in an aggregate principal amount of $1.0 billion, which CHS has not yet accessed. As of September 30, 2012, the weighted-average interest rate under the Credit Facility, excluding swaps, was 4.1%.

8  7/8% Senior Notes due 2015

The 8 7/8% Senior Notes were issued by CHS in connection with the Triad acquisition in the principal amount of approximately $3.0 billion. The 8 7/8% Senior Notes were to mature on July 15, 2015. The 8 7/8% Senior Notes bore interest at the rate of 8.875% per annum, payable semiannually in arrears on January 15 and July 15, commencing January 15, 2008. Interest on the 8 7/8% Senior Notes accrued from the date of original issuance. Interest was calculated on the basis of a 360-day year comprised of twelve 30-day months.

After July 15, 2011, CHS was entitled, at its option, to redeem all or a portion of the 8 7/8% Senior Notes upon not less than 30 nor more than 60 days’ notice, at the following redemption prices (expressed as a percentage of principal amount on the redemption date), plus accrued and unpaid interest, if any, to the redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date), if redeemed during the 12-month period commencing on July 15 of the years set forth below:

 

Period

           Redemption Price           

2011

     104.438 %       

2012

     102.219 %       

2013 and thereafter

     100.000 %       

Pursuant to a registration rights agreement entered into at the time of the issuance of the 8 7/8% Senior Notes, as a result of an exchange offer made by CHS, substantially all of the 8 7/8% Senior Notes issued in July 2007 were exchanged in November 2007 for new notes (the “8 7/8% Exchange Notes”) having terms substantially identical in all material respects to the 8 7/8% Senior Notes (except that the 8 7/8% Exchange Notes were issued under a registration statement pursuant to the 1933 Act). References to the 8 7/8% Senior Notes shall also be deemed to include the 8 7/8% Exchange Notes unless the context provides otherwise.

On December 7, 2011, CHS completed the cash tender offer for $1.0 billion of the then $2.8 billion aggregate outstanding principal amount of the 8 7/8% Senior Notes.

On March 21, 2012, CHS completed the cash tender offer for $850 million of the then $1.8 billion aggregate outstanding principal amount of the 8 7/8% Senior Notes.

On July 18, 2012, CHS completed the cash tender offer for $639.7 million of the then $934.3 million aggregate outstanding principal amount of the 8 7/8% Senior Notes. On August 17, 2012, pursuant to its redemption option, CHS redeemed the remaining $294.6 million outstanding principal of the 8 7/8% Senior Notes.

8% Senior Notes due 2019

On November 22, 2011, CHS completed its offering of $1.0 billion aggregate principal amount of 8% Senior Notes due 2019 (the “8% Senior Notes”), which were issued in a private placement. The net proceeds from this issuance, together with available cash on hand, were used to finance the purchase of $1.0 billion aggregate principal amount of CHS’ then outstanding 8 7/8% Senior Notes due 2015 and related fees and expenses. On March 21, 2012, CHS completed the secondary offering of $1.0 billion aggregate principal amount of 8% Senior Notes due 2019, which were issued in a private placement (at a premium of 102.5%). The net proceeds from this issuance were used to finance the purchase of $850 million aggregate principal amount of CHS’ then outstanding 8 7/8% Senior Notes due 2015, to pay related fees and expenses and for general corporate purposes. The 8% Senior Notes bear interest at 8% per annum, payable semiannually in arrears on May 15 and November 15, commencing May 15, 2012. Interest on the 8% Senior Notes accrues from the date of original issuance. Interest is calculated on the basis of a 360-day year comprised of twelve 30-day months.

Except as set forth below, CHS is not entitled to redeem the 8% Senior Notes prior to November 15, 2015.

 

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Prior to November 15, 2014, CHS is entitled, at its option, to redeem a portion of the 8% Senior Notes (not to exceed 35% of the outstanding principal amount) at a redemption price of 108.000%, plus accrued and unpaid interest, with the proceeds from a public equity offering. Prior to November 15, 2015, CHS may redeem some or all of the 8% Senior Notes at a price equal to 100% of the principal amount of the notes redeemed plus accrued and unpaid interest, if any, plus a “make-whole” premium, as described in the 8% Senior Notes indenture. On and after November 15, 2015, CHS is entitled, at its option, to redeem all or a portion of the 8% Senior Notes upon not less than 30 nor more than 60 days’ notice, at the following redemption prices (expressed as a percentage of principal amount on the redemption date), plus accrued and unpaid interest, if any, to the redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date), if redeemed during the 12-month period commencing on November 15 of the years set forth below:

 

 

Period

           Redemption Price           

2015

     104.000 %       

2016

     102.000 %       

2017 and thereafter

     100.000 %       

Pursuant to a registration rights agreement entered into at the time of the issuance of the 8% Senior Notes, as a result of an exchange offer made by CHS, substantially all of the 8% Senior Notes issued in November 2011 and March 2012 were exchanged in May 2012 for new notes (the “8% Exchange Notes”) having terms substantially identical in all material respects to the 8% Senior Notes (except that the 8% Exchange Notes were issued under a registration statement pursuant to the 1933 Act). References to the 8% Senior Notes shall also be deemed to include the 8% Exchange Notes unless the context provides otherwise.

7  1/8% Senior Notes due 2020

On July 18, 2012, CHS completed an underwritten public offering under its automatic shelf registration filed with the Securities and Exchange Commission of $1.2 billion aggregate principal amount of 7 1/8% Senior Notes due 2020 (the “7 1/8% Senior Notes”). The net proceeds from this issuance were used to finance the purchase of $934.3 million aggregate principal amount of CHS’ outstanding 8 7/8% Senior Notes due 2015 and related fees and expenses and for general corporate purposes. The 7 1/8% Senior Notes bear interest at 7 1/8% per annum, payable semiannually in arrears on July 15 and January 15, commencing January 15, 2013. Interest on the 7 1/8% Senior Notes accrues from the date of original issuance. Interest is calculated on the basis of a 360-day year comprised of twelve 30-day months.

Except as set forth below, CHS is not entitled to redeem the 7 1/8% Senior Notes prior to July 15, 2016.

Prior to July 15, 2015, CHS is entitled, at its option, to redeem a portion of the 7 1/8% Senior Notes (not to exceed 35% of the outstanding principal amount) at a redemption price of 107.125%, plus accrued and unpaid interest, with the proceeds from a public equity offering. Prior to July 15, 2016, CHS may redeem some or all of the 7 1/8% Senior Notes at a price equal to 100% of the principal amount of the notes redeemed plus accrued and unpaid interest, if any, plus a “make-whole” premium, as described in the 7 1/8% Senior Notes indenture. On and after July 15, 2016, CHS is entitled, at its option, to redeem all or a portion of the 7 1/8% Senior Notes upon not less than 30 nor more than 60 days’ notice, at the following redemption prices (expressed as a percentage of principal amount on the redemption date), plus accrued and unpaid interest, if any, to the redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date), if redeemed during the 12-month period commencing on July 15 of the years set forth below:

 

 

Period

           Redemption Price           

2016

     103.563 %       

2017

     101.781 %       

2018 and thereafter

     100.000 %       

5  1/8% Senior Secured Notes due 2018

On August 17, 2012, CHS completed an underwritten public offering under its automatic shelf registration filed with the Securities and Exchange Commission of $1.6 billion aggregate principal amount of 5 1/8% Senior Secured Notes due 2018 (the “5 1/8% Senior Secured Notes”). The net proceeds from this issuance, together with available cash on hand, were used to finance the prepayment of $1.6 billion of the outstanding non-extended term loans under the Credit Facility and related fees and expenses. The 5 1/8% Senior Secured Notes bear

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

interest at 5 1/8% per annum, payable semiannually in arrears on August 15 and February 15, commencing February 15, 2013. Interest on the 5 1/8% Senior Secured Notes accrues from the date of original issuance. Interest is calculated on the basis of a 360-day year comprised of twelve 30-day months. The 5 1/8% Senior Secured Notes are secured by a first-priority lien subject to a shared lien of equal priority with certain other obligations, including obligations under the Credit Facility, and subject to prior ranking liens permitted by the indenture governing the 5 1/8% Senior Secured Notes on substantially the same assets, subject to certain exceptions, that secure the CHS’ obligations under the Credit Facility.

Except as set forth below, CHS is not entitled to redeem the 5 1/8% Senior Secured Notes prior to August 15, 2015.

Prior to August 15, 2015, CHS is entitled, at its option, to redeem a portion of the 5 1/8% Senior Notes (not to exceed 35% of the outstanding principal amount) at a redemption price of 105.125%, plus accrued and unpaid interest, with the proceeds from a public equity offering. Prior to August 15, 2015, CHS may redeem some or all of the 5 1/8% Senior Secured Notes at a price equal to 100% of the principal amount of the notes redeemed plus accrued and unpaid interest, if any, plus a “make-whole” premium, as described in the 5 1/8% Senior Secured Notes indenture. On and after August 15, 2015, CHS is entitled, at its option, to redeem all or a portion of the 5 1/8% Senior Notes upon not less than 30 nor more than 60 days’ notice, at the following redemption prices (expressed as a percentage of principal amount on the redemption date), plus accrued and unpaid interest, if any, to the redemption date (subject to the right of holders of record on the relevant record date to receive interest due on the relevant interest payment date), if redeemed during the 12-month period commencing on August 15 of the years set forth below:

 

 

Period

           Redemption Price           

2015

     102.563 %       

2016

     101.281 %       

2017 and thereafter

     100.000 %       

Receivables Facility

On March 21, 2012, the Company and certain of its subsidiaries entered into an accounts receivable loan agreement (the “Receivables Facility”) with a group of conduit lenders and liquidity banks, Credit Agricolé Corporate and Investment Bank, as a managing agent and as the administrative agent, and The Bank of Nova Scotia, as a managing agent. The existing and future patient-related accounts receivable (the “Receivables”) for certain of the Company’s hospitals serve as collateral for the outstanding borrowings under the Receivables Facility. The interest rate on the borrowings is based on the commercial paper rate plus an applicable interest rate spread. Unless earlier terminated or subsequently extended pursuant to its terms, the Receivables Facility will expire on March 21, 2014, subject to customary termination events that could cause an early termination date. The Company maintains effective control over the Receivables because, pursuant to the terms of the Receivables Facility, the Receivables are sold from certain of the Company’s subsidiaries to the Company, which then sells or contributes the Receivables to a special-purpose entity that is wholly-owned by the Company. The wholly-owned special-purpose entity in turn grants security interests in the Receivables in exchange for borrowings obtained from the group of third-party conduit lenders and liquidity banks of up to $300 million outstanding from time to time based on the availability of eligible Receivables and other customary factors. The group of third-party conduit lenders and liquidity banks do not have recourse to the Company or its subsidiaries beyond the assets of the wholly-owned special-purpose entity that collateralizes the loan. The Receivables and other assets of the wholly-owned special-purpose entity will be available first and foremost to satisfy the claims of the creditors of such entity. The outstanding borrowings pursuant to the Receivables Facility at September 30, 2012 totaled $300.0 million and are classified as long-term debt on the condensed consolidated balance sheet. At September 30, 2012, the carrying amount of Receivables included in the Receivables Facility totaled approximately $866.5 million and are included in patient accounts receivable on the condensed consolidated balance sheet.

Loss from Early Extinguishment of Debt

The financing transactions discussed above relating to the repayment of the Company’s non-extended term loans under the Credit Facility and the 8 7/8% Senior Notes due 2015 resulted in a loss from early extinguishment of debt of $52.0 million and $115.5 million for the three and nine months ended September 30, 2012, respectively, and an after-tax loss of $33.2 million and $72.8 million for the three and nine months ended September 30, 2012, respectively.

The Company paid interest of $130.4 million and $220.6 million on borrowings during the three months ended September 30, 2012 and 2011, respectively, and $461.6 million and $548.4 million during the nine months ended September 30, 2012 and 2011, respectively.

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

12.  FAIR VALUE OF FINANCIAL INSTRUMENTS

The fair value of financial instruments has been estimated by the Company using available market information as of September 30, 2012 and December 31, 2011, and valuation methodologies considered appropriate. The estimates presented are not necessarily indicative of amounts the Company could realize in a current market exchange (in thousands):

 

 

     September 30, 2012      December 31, 2011  
             Carrying        
Amount
         Estimated Fair    
Value
             Carrying        
Amount
         Estimated Fair    
Value
 

Assets:

           

Cash and cash equivalents

   $                 240,650         $                 240,650         $                 129,865         $                 129,865     

Available-for-sale securities

     35,419           35,419           31,582           31,582     

Trading securities

     36,235           36,235           30,486           30,486     

Liabilities:

           

Credit Facility

     4,356,562           4,360,411           5,979,383           5,780,877     

8 7/8% Senior Notes

     -           -           1,777,617           1,842,322     

8% Senior Notes

     2,023,414           2,202,500           1,000,000           995,000     

7 1/8% Senior Notes

     1,200,000           1,278,000           -           -     

5 1/8% Senior Secured Notes

     1,600,000           1,658,000           -           -     

Receivables Facility and other debt

     343,052           343,052           41,143           41,143     

The estimated fair value is determined using the methodologies discussed below in accordance with accounting standards related to the determination of fair value based on the U.S. GAAP fair value hierarchy as discussed in Note 13. The estimated fair value for financial instruments with a fair value that does not equal its carrying value is considered a Level 2 valuation. The Company utilizes the market approach and obtains indicative pricing from the administrative agent to the Credit Facility to determine fair values, which are validated through subscription services such as Bloomberg where relevant.

Cash and cash equivalents. The carrying amount approximates fair value due to the short-term maturity of these instruments (less than three months).

Available-for-sale securities. Estimated fair value is based on closing price as quoted in public markets.

Trading securities. Estimated fair value is based on closing price as quoted in public markets.

Credit Facility. Estimated fair value is based on information from the Company’s bankers regarding relevant pricing for trading activity among the Company’s lending institutions.

8 7/8% Senior Notes. Estimated fair value is based on the average bid and ask price as quoted by the bank who served as underwriters in the sale of these notes.

8% Senior Notes. Estimated fair value is based on the average bid and ask price as quoted by the bank who served as underwriters in the sale of these notes.

7 1/8% Senior Notes. Estimated fair value is based on the average bid and ask price as quoted by the bank who served as underwriters in the sale of these notes.

5 1/8% Senior Secured Notes. Estimated fair value is based on the average bid and ask price as quoted by the bank who served as underwriters in the sale of these notes.

Other debt. The carrying amount of all other debt approximates fair value due to the nature of these obligations.

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Interest rate swaps.  The fair value of interest rate swap agreements is the amount at which they could be settled, based on estimates calculated by the Company using a discounted cash flow analysis based on observable market inputs and validated by comparison to estimates obtained from the counterparty. The Company incorporates credit valuation adjustments (“CVAs”) to appropriately reflect both its own nonperformance or credit risk and the respective counterparty’s nonperformance or credit risk in the fair value measurements. In adjusting the fair value of its interest rate swap agreements for the effect of nonperformance or credit risk, the Company has considered the impact of any netting features included in the agreements.

The Company assesses the effectiveness of its hedge instruments on a quarterly basis. For the three and nine months ended September 30, 2012 and 2011, the Company completed an assessment of the cash flow hedge instruments and determined the hedges to be highly effective. The Company has also determined that the ineffective portion of the hedges do not have a material effect on the Company’s consolidated financial position, operations or cash flows. The counterparties to the interest rate swap agreements expose the Company to credit risk in the event of nonperformance. However, at September 30, 2012, each swap agreement entered into by the Company was in a net liability position so that the Company would be required to make the net settlement payments to the counterparties; the Company does not anticipate nonperformance by those counterparties. The Company does not hold or issue derivative financial instruments for trading purposes.

Interest rate swaps consisted of the following at September 30, 2012:

 

          Swap #                Notional Amount  
(in 000’s)
     Fixed Interest Rate                    Termination  Date                   Fair Value of
 Liability (in 000’s) 
 
1     $                100,000         3.352 %           October 23, 2012         $                        186    
2     125,000         4.375 %           November 23, 2012        729    
3     75,000         4.380 %           November 23, 2012        436    
4     150,000         5.020 %           November 30, 2012        1,146    
5     200,000         2.242 %           February 28, 2013        1,558    
6     100,000         5.023 %           May 30, 2013        3,114    
7     300,000         5.242 %           August 6, 2013        12,533    
8     100,000         5.038 %           August 30, 2013        4,313    
9     50,000         3.586 %           October 23, 2013        1,729    
10     50,000         3.524 %           October 23, 2013        1,696    
11     100,000         5.050 %           November 30, 2013        5,495    
12     200,000         2.070 %           December 19, 2013        4,217    
13     100,000         5.231 %           July 25, 2014        8,824    
14     100,000         5.231 %           July 25, 2014        8,823    
15     200,000         5.160 %           July 25, 2014        17,390    
16     75,000         5.041 %           July 25, 2014        6,359    
17     125,000         5.022 %           July 25, 2014        10,555    
18     100,000         2.621 %           July 25, 2014        4,095    
19     100,000         3.110 %           July 25, 2014        4,981    
20     100,000         3.258 %           July 25, 2014        5,249    
21     200,000         2.693 %           October 26, 2014        9,575    
22     300,000         3.447 %           August 8, 2016        32,294    
23     200,000         3.429 %           August 19, 2016        21,510    
24     100,000         3.401 %           August 19, 2016        10,654    
25     200,000         3.500 %           August 30, 2016        22,165    
26     100,000         3.005 %           November 30, 2016        9,584    

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

The Company is exposed to certain risks relating to its ongoing business operations. The risk managed by using derivative instruments is interest rate risk. Interest rate swaps are entered into to manage interest rate fluctuation risk associated with the term loans in the Credit Facility. Companies are required to recognize all derivative instruments as either assets or liabilities at fair value in the condensed consolidated statement of financial position. The Company designates its interest rate swaps as cash flow hedges. For derivative instruments that are designated and qualify as cash flow hedges, the effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income (“OCI”) and reclassified into earnings in the same period or periods during which the hedged transactions affect earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current earnings.

Assuming no change in September 30, 2012 interest rates, approximately $102.0 million of interest expense resulting from the spread between the fixed and floating rates defined in each interest rate swap agreement will be recognized during the next 12 months. If interest rate swaps do not remain highly effective as a cash flow hedge, the derivatives’ gains or losses resulting from the change in fair value reported through OCI will be reclassified into earnings.

The following tabular disclosure provides the amount of pre-tax loss recognized as a component of OCI during the three and nine months ended September 30, 2012 and 2011 (in thousands):

 

    Amount of Pre-Tax Loss Recognized in OCI (Effective  Portion)  

 

Derivatives in Cash Flow Hedging

Relationships

  Three Months Ended September 30,     Nine Months Ended September 30,  
    2012     2011     2012     2011  

 

Interest rate swaps

  $ (20,689)      $ (49,499)      $ (65,515)      $ (113,071)   

 

The following tabular disclosure provides the location of the effective portion of the pre-tax loss reclassified from accumulated other comprehensive loss (“AOCL”) into interest expense on the condensed consolidated statements of income during the three and nine months ended September 30, 2012 and 2011 (in thousands):

 

    

    Amount of Pre-Tax Loss Reclassified from AOCL
into Income (Effective Portion)
 

 

 Location of Loss Reclassified from AOCL 
into Income (Effective  Portion)

  Three Months Ended September 30,     Nine Months Ended September 30,  
    2012     2011     2012     2011  

 

Interest expense, net

  $ 33,606       $ 53,758       $ 110,532       $ 160,331    

The fair values of derivative instruments in the condensed consolidated balance sheets as of September 30, 2012 and December 31, 2011 were as follows (in thousands):

 

     Asset Derivatives      Liability Derivatives  
          September 30, 2012                December 31, 2011                September 30, 2012                December 31, 2011       
    

 

Balance
Sheet
  Location  

 

Fair Value

    

 

Balance
Sheet
  Location  

 

Fair Value

    

 

Balance
Sheet
  Location  

 

Fair Value

    

 

Balance
Sheet
  Location  

 

Fair Value

 

 

Derivatives designated as hedging instruments

   Other
assets, net
  $                 -           Other
assets, net
  $                 -          

 

Other long-
term
liabilities

  $      209,210          

 

Other long-
term
liabilities

  $      254,228       

 

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

13.  FAIR VALUE

Fair Value Hierarchy

Fair value is a market-based measurement, not an entity-specific measurement. Therefore, a fair value measurement should be determined based on the assumptions that market participants would use in pricing the asset or liability. As a basis for considering market participant assumptions in fair value measurements, the Company utilizes the U.S. GAAP fair value hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the reporting entity (observable inputs that are classified within Levels 1 and 2 of the hierarchy) and the reporting entity’s own assumption about market participant assumptions (unobservable inputs classified within Level 3 of the hierarchy).

The inputs used to measure fair value are classified into the following fair value hierarchy:

 

Level 1:   Quoted market prices in active markets for identical assets or liabilities.
Level 2:   Observable market-based inputs or unobservable inputs that are corroborated by market data.
Level 3:   Unobservable inputs that are supported by little or no market activity and are significant to the fair value of the assets or liabilities. Level 3 includes values determined using pricing models, discounted cash flow methodologies, or similar techniques reflecting the Company’s own assumptions.

In instances where the determination of the fair value hierarchy measurement is based on inputs from different levels of the fair value hierarchy, the level in the fair value hierarchy within which the entire fair value measurement falls is based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment of factors specific to the asset or liability.

The following table sets forth, by level within the fair value hierarchy, the financial assets and liabilities recorded at fair value on a recurring basis as of September 30, 2012 and December 31, 2011 (in thousands):

 

       September 30,  
2012
             Level 1                      Level 2                      Level 3          

Available-for-sale securities

   $ 35,419        $ 35,419        $       $   

Trading securities

     36,235          36,235                    
  

 

 

    

 

 

    

 

 

    

 

 

 

Total assets

   $ 71,654        $ 71,654        $       $   
  

 

 

    

 

 

    

 

 

    

 

 

 

Fair value of interest rate swap agreements

   $ 209,210        $       $ 209,210        $   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities

   $ 209,210        $       $ 209,210        $   
  

 

 

    

 

 

    

 

 

    

 

 

 
     December 31,
2011
     Level 1      Level 2      Level 3  

Available-for-sale securities

   $ 31,582        $ 31,582        $       $   

Trading securities

     30,486          30,486                    
  

 

 

    

 

 

    

 

 

    

 

 

 

Total assets

   $ 62,068        $ 62,068        $       $   
  

 

 

    

 

 

    

 

 

    

 

 

 

Fair value of interest rate swap agreements

   $ 254,228        $       $ 254,228        $   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities

   $ 254,228        $       $ 254,228        $   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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Available-for-sale securities and trading securities classified as Level 1 are measured using quoted market prices.

The valuation of the Company’s interest rate swap agreements is determined using market valuation techniques, including discounted cash flow analysis on the expected cash flows of each agreement. This analysis reflects the contractual terms of the agreement, including the period to maturity, and uses observable market-based inputs, including forward interest rate curves. The fair value of interest rate swap agreements are determined by netting the discounted future fixed cash payments and the discounted expected variable cash receipts. The variable cash receipts are based on the expectation of future interest rates based on observable market forward interest rate curves and the notional amount being hedged.

The Company incorporates CVAs to appropriately reflect both its own nonperformance or credit risk and the respective counterparty’s nonperformance or credit risk in the fair value measurements. In adjusting the fair value of its interest rate swap agreements for the effect of nonperformance or credit risk, the Company has considered the impact of any netting features included in the agreements. The CVA on the Company’s interest rate swap agreements at September 30, 2012 resulted in a decrease in the fair value of the related liability of $5.6 million and an after-tax adjustment of $3.6 million to OCI. The CVA on the Company’s interest rate swap agreements at December 31, 2011 resulted in a decrease in the fair value of the related liability of $21.7 million and an after-tax adjustment of $13.9 million to OCI.

The majority of the inputs used to value its interest rate swap agreements, including the forward interest rate curves and market perceptions of the Company’s credit risk used in the CVAs, are observable inputs available to a market participant. As a result, the Company has determined that the interest rate swap valuations are classified in Level 2 of the fair value hierarchy.

14.  RECENT ACCOUNTING PRONOUNCEMENTS

In September 2011, the FASB issued ASU 2011-08, which modifies how entities test goodwill for impairment. Previous guidance required an entity to perform a two-step goodwill impairment test at least annually by comparing the fair value of a reporting unit with its carrying amount, including goodwill, and recording an impairment loss if the fair value is less than the carrying amount. This ASU allows an entity to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If an entity determines after that assessment that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is not required. This ASU is required to be applied to interim and annual goodwill impairment tests performed for fiscal years beginning after December 15, 2011, and was adopted by the Company on January 1, 2012. The adoption of this ASU did not impact the Company’s consolidated financial position, results of operations or cash flows.

In July 2012, the FASB issued ASU 2012-02, which modifies how entities test indefinite-lived intangible assets other than goodwill for impairment. Previous guidance required an entity to perform an impairment test on indefinite-lived intangible assets other than goodwill at least annually by comparing the fair value of the asset with its carrying amount, and recording an impairment loss for any excess if the carrying amount exceeds the fair value. This ASU allows an entity to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of the intangible asset is less than its carrying amount. If an entity determines after that assessment that it is not more likely than not that the fair value of an intangible asset is less than its carrying amount, then calculating the fair value of the intangible asset is not required. This ASU is required to be applied to interim and annual intangible asset impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted, and was adopted by the Company in July 2012. The adoption of this ASU did not impact the Company’s consolidated financial position, results of operations or cash flows.

15.  SEGMENT INFORMATION

The Company operates in three distinct operating segments, represented by hospital operations (which includes its general acute care hospitals and related healthcare entities that provide inpatient and outpatient healthcare services), home care agency operations (which provide in-home outpatient care), and hospital management services (which provides executive management and consulting services to non-affiliated acute care hospitals). Only the hospital operations segment meets the criteria as a separate reportable segment. The financial information for the home care agencies and hospital management services segments do not meet the quantitative thresholds for a separate identifiable reportable segment and are combined into the corporate and all other reportable segment.

 

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The distribution between reportable segments of the Company’s net operating revenues and income from continuing operations before income taxes is summarized in the following tables (in thousands):

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2012      2011      2012      2011  

Net operating revenues:

           

Hospital operations

   $ 3,142,837        $ 2,885,306        $ 9,544,163        $ 8,698,673    

Corporate and all other

     69,193          60,171          207,876          201,714    
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $     3,212,030        $     2,945,477        $     9,752,039        $     8,900,387    
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations before income taxes:

           

Hospital operations

   $ 142,336        $ 176,903        $ 562,886        $ 539,442    

Corporate and all other

     (57,878)         (44,386)         (181,205)         (133,533)   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 84,458        $ 132,517        $ 381,681        $ 405,909    
  

 

 

    

 

 

    

 

 

    

 

 

 

16.  CONTINGENCIES

The Company is a party to various legal proceedings incidental to its business. In the opinion of management, any ultimate liability with respect to these actions will not have a material adverse effect on the Company’s consolidated financial position, cash flows or results of operations. With respect to all litigation matters, the Company considers the likelihood of a negative outcome. If the Company determines the likelihood of a negative outcome is probable and the amount of the loss can be reasonably estimated, the Company records an estimated loss for the expected outcome of the litigation and discloses that fact together with the amount accrued, if it was estimable. If the likelihood of a negative outcome is reasonably possible and the Company is able to determine an estimate of the possible loss or a range of loss, the Company discloses that fact together with the estimate of the possible loss or range of loss. However, it is difficult to predict the outcome or estimate a possible loss or range of loss in some instances because litigation is subject to significant uncertainties.

Reasonably Possible Contingencies

For the legal matter below, the Company believes that a negative outcome is reasonably possible, but the Company is unable to determine an estimate of the possible loss or a range of loss.

On February 10, 2006, the Company received a letter from the Civil Division of the Department of Justice requesting documents in an investigation it was conducting involving the Company. The inquiry related to the way in which different state Medicaid programs apply to the federal government for matching or supplemental funds that are ultimately used to pay for a small portion of the services provided to Medicaid and indigent patients. These programs are referred to by different names, including “intergovernmental payments,” “upper payment limit programs,” and “Medicaid disproportionate share hospital payments.” The February 2006 letter focused on the Company’s hospitals in Arkansas, New Mexico, and South Carolina. From 2006 through the beginning of 2009, the Company provided the Department of Justice with requested documents, met with its personnel on numerous occasions, and otherwise cooperated in its investigation. During the course of the investigation, the Civil Division notified the Company that it believed that the Company and its three New Mexico hospitals caused the State of New Mexico to submit improper claims for federal funds, in violation of the Federal False Claims Act. At one point, the Civil Division calculated that the three hospitals received ineligible federal participation payments from August 2000 to June 2006 of approximately $27.5 million and said that if it proceeded to trial, it would seek treble damages plus an appropriate penalty for each of the violations of the Federal False Claims Act. This investigation has culminated in the federal government’s intervention in a qui tam lawsuit styled U.S. ex rel. Baker vs. Community Health Systems, Inc., pending in the United States District Court for the District of New Mexico. The federal government filed its complaint in intervention on June 30, 2009; a subsequent claim was filed on June 6, 2011, adding the Company’s subsidiary Community Health Systems Professional Services Corporation as a defendant; the relator’s complaint has also been amended to add Community Health Systems Professional Services Corporation and CHS/Community Health Systems, Inc. as defendants. The relator filed a second amended complaint on July 1, 2009. Both of these complaints expand the time period during which alleged improper payments were made. The Company’s motion for

 

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dismissal was granted in part. There have been other rulings by the court on discovery and expert matters, some of which are favorable to the Company’s case (e.g. the granting of a motion for sanctions against the government), and some of which are not (e.g. denial of the Company’s motion to exclude the government’s damages’ expert). Discovery is closed. Motions by both parties for summary judgment were filed on March 27, 2012 and there is currently no hearing date on the motions nor has a trial date been set. The Company is vigorously defending this action.

Matters for which an Outcome Cannot be Assessed

For all of the legal matters below, the Company cannot at this time assess what the outcome may be and is further unable to determine any estimate of loss or range of loss. Because the investigations are at a very preliminary stage, there are not sufficient facts available to make these assessments.

On September 20, 2010, the Company received a letter from the United States Department of Justice, Civil Division, advising the Company that an investigation is being conducted to determine whether certain hospitals have improperly submitted claims for payment for implantable cardioverter defibrillators (“ICDs”). The period of time covered by the investigation is 2003 to the present. The letter states that the Department of Justice’s data indicates that many of the Company’s hospitals have claims that need to be reviewed to determine if Medicare payment was appropriate. The Company understands that the Department of Justice has submitted similar requests to many other hospitals and hospital systems across the country as well as to the ICD manufacturers. The Company continues to fully cooperate with the government in this investigation and has provided requested records and documents. On August 30, 2012, the Department of Justice issued a document entitled, “Medical Review Guidelines/Resolution Model,” which sets out, for the purposes of this investigation, the patient conditions and criteria for the medical necessity of the implantation of ICDs in Medicare beneficiaries and how the Department of Justice will enforce the repayment obligations of hospitals. The Company is in the process of reviewing its medical records in light of the guidance contained in this document.

On April 8, 2011, the Company received a document subpoena, dated March 31, 2011, from the United States Department of Health and Human Services, Office of Inspector General (the “OIG”), in connection with an investigation of possible improper claims submitted to Medicare and Medicaid. The subpoena, issued from the OIG’s Chicago, Illinois office, requested documents from all of the Company’s hospitals and appears to concern emergency department processes and procedures, including the Company’s hospitals’ use of the Pro-MED Clinical Information System, which is a third-party software system that assists with the management of patient care and provides operational support and data collection for emergency department management and has the ability to track discharge, transfer and admission recommendations of emergency department physicians, as well as information about the Company’s relationships with emergency department physicians, including financial arrangements. This investigation is being led by the Department of Justice. The Company is continuing to cooperate with the government including detailing a process for a medical necessity review by clinical reviewers and physicians of a sampling of medical records at a small number of hospitals.

On April 22, 2011, a joint motion was filed by the relator and the United States Department of Justice in the case styled United States ex rel. and Reuille vs. Community Health Systems Professional Services Corporation and Lutheran Musculoskeletal Center, LLC d/b/a Lutheran Hospital, in the United States District Court for the Northern District of Indiana, Fort Wayne Division. The lawsuit was originally filed under seal on January 7, 2009. The suit is brought under the False Claims Act and alleges that Lutheran Hospital of Indiana billed the Medicare program for (a) false 23 hour observation after outpatient surgeries and procedures, and (b) intentional assignment of inpatient status to one-day stays for cases that do not meet Medicare criteria for inpatient intensity of service or severity of illness. The Company had cooperated fully with the government in its investigation of this matter, but had been unaware of the exact nature of the allegations in the complaint. On December 27, 2010, the government filed a notice that it declined to intervene in this suit. The April 22, 2011 motion contained additional information about how the government intended to proceed with an investigation regarding “allegations of improper billing for inpatient care at other hospitals associated with Community Health Systems, Inc. . . . asserted in other qui tam complaints in other jurisdictions.” The motion stated that the Department of Justice has “consolidated its investigations” of the Company and other related entities and that “the Civil Division of the Department of Justice, multiple United States Attorneys’ offices, and the Office of Inspector General for the Department of Health and Human Services (the “HHS”) are now closely coordinating their investigation of these overlapping allegations. The Attorney General of Texas has initiated an investigation; the United States intends to work cooperatively with Texas and any other States investigating these allegations.” The motion also stated that the Office of Audit Services for the Office of Investigations for HHS has been engaged to conduct a national audit of certain of the Company’s Medicare claims. The government confirmed that it considers the allegations made in the complaint styled Tenet Healthcare Corporation vs. Community Health Systems, Inc., et al. filed in the United States District Court for the Northern District of Texas, Dallas Division on April 11, 2011 to be related to the allegations in the qui tam and to what the government is now describing as a consolidated investigation. The motion filed on April 11, 2011 concluded by requesting a stay of the litigation in the Reuille case for 180 days. This extension request was granted by the court, as were additional requests in October 2011, April 2012 and October 2012. The stay has now been extended until April 29, 2013. The Company is cooperating fully with the government in its investigations.

 

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Three purported class action shareholder federal securities cases have been filed in the United States District Court for the Middle District of Tennessee; namely, Norfolk County Retirement System v. Community Health Systems, Inc., Wayne T. Smith and W. Larry Cash, filed May 5, 2011; De Zheng v. Community Health Systems, Inc., Wayne T. Smith and W. Larry Cash, filed May 12, 2011; and Minneapolis Firefighters Relief Association v. Community Health Systems, Inc., Wayne T. Smith, W. Larry Cash and Thomas Mark Buford, filed June 2, 2011. All three seek class certification on behalf of purchasers of the Company’s common stock between July 27, 2006 and April 11, 2011 and allege that misleading statements resulted in artificially inflated prices for the Company’s common stock. On September 20, 2011, all three were assigned to the same judge as related cases. On December 28, 2011, the court consolidated all three shareholder cases for pretrial purposes, selected NYC Funds as lead plaintiffs, and selected NYC Funds’ counsel as lead plaintiffs’ counsel. The parties negotiated operative dates for these consolidated shareholder federal securities actions. An operative consolidated complaint was filed on July 13, 2012, and the Company’s motion to dismiss was filed on September 11, 2012. The plaintiffs’ response is due on November 12, 2012 and the Company will have a further opportunity to respond, which will be due on December 24, 2012. The Company believes this consolidated matter is without merit and will vigorously defend this case.

Three purported shareholder derivative actions have also been filed in the United States District Court for the Middle District of Tennessee; Plumbers and Pipefitters Local Union No. 630 Pension Annuity Trust Fund v. Wayne T. Smith, W. Larry Cash, T. Mark Buford, John A. Clerico, James S. Ely III, John A. Fry, William Norris Jennings, Julia B. North and H. Mitchell Watson, Jr., filed May 24, 2011; Roofers Local No. 149 Pension Fund v. Wayne T. Smith, W. Larry Cash, John A. Clerico, James S. Ely, III, John A. Fry, William Norris Jennings, Julia B. North and H. Mitchell Watson, Jr., filed June 21, 2011; and Lambert Sweat v. Wayne T. Smith, W. Larry Cash, T. Mark Buford, John A. Clerico, James S. Ely, III, John A. Fry, William Norris Jennings, Julia B. North, H. Mitchell Watson, Jr. and Community Health Systems, Inc., filed October 5, 2011. These three cases allege breach of fiduciary duty arising out of allegedly improper inpatient admission practices, mismanagement, waste and unjust enrichment. These cases have been consolidated into a single, consolidated action. The plaintiffs filed an operative amended derivative complaint in these three consolidated actions on March 15, 2012. The Company’s motion to dismiss has been fully briefed by the parties and awaits scheduling of oral argument and/or ruling on the Company’s motion to dismiss. The Company believes all of these matters are without merit and will vigorously defend them.

On May 2, 2012, suit was filed in the matter styled Daniel Eagle v. Community Health Systems, Inc., Chancery Court, State of Delaware. Suit was filed under Section 220 of the Delaware General Corporation Law to inspect certain of the Company’s books and records pertaining to matters concerning alleged improper admissions practices. On a motion filed by the plaintiff, this case has been dismissed.

During the nine months ended September 30, 2012, the Company met the deductible for its directors and officers insurance policy as it relates to the legal costs for the Tenet acquisition lawsuit and shareholder lawsuits of possible improper claims submitted to Medicare and Medicaid. As a result, future legal costs which are deemed to be covered by the directors and officers insurance policy, will be offset by insurance recoveries. The Company incurred the following pre-tax charges in connection with these legal matters and the government investigations, net of insurance recoveries, during the three and nine months ending September 30, 2012 and 2011 (in thousands):

 

                  Three Months Ended           
September 30,
                  Nine Months Ended           
September 30,
 
                2012                         2011                         2012                         2011          

Professional fees and other related costs

 

$

                    1,558       $                     6,082       $                     3,006       $                 12,256    
 

 

   

 

   

 

   

 

 

Probable Contingencies

In addition to the cases described above, there are a number of legal matters for which, based on information currently available, the Company believes that a negative outcome is known or is probable. In the aggregate, an estimate of these losses has been accrued in the amount of $19.3 million at September 30, 2012. Due to the uncertainties and difficulty in predicting the ultimate resolution of these contingencies, the actual amount could differ from the estimated amount; however, the Company does not believe the ultimate outcome of any of these matters would be material.

17.  SUBSEQUENT EVENTS

The Company evaluated all material events occurring subsequent to the balance sheet date for events requiring disclosure or recognition in the condensed consolidated financial statements.

 

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18.  SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL INFORMATION

The Senior Notes, which are senior unsecured obligations of CHS, and the 5 1/8% Senior Secured Notes are guaranteed on a senior basis by the Company and by certain of its existing and subsequently acquired or organized 100% owned domestic subsidiaries. The Senior Notes and the 5 1/8% Senior Secured Notes are guaranteed on a joint and several basis, with limited exceptions considered customary for such guarantees, including the release of the guarantee when a subsidiary’s assets used in operations are sold. The following condensed consolidating financial statements present Community Health Systems, Inc. (as parent guarantor), CHS (as the issuer), the subsidiary guarantors, the subsidiary non-guarantors and eliminations. These condensed consolidating financial statements have been prepared and presented in accordance with SEC Regulation S-X Rule 3-10 “Financial Statements of Guarantors and Issuers of Guaranteed Securities Registered or Being Registered.”

The accounting policies used in the preparation of this financial information are consistent with those elsewhere in the consolidated financial statements of the Company, except as noted below:

 

   

Intercompany receivables and payables are presented gross in the supplemental condensed consolidating balance sheets.

 

   

Cash flows from intercompany transactions are presented in cash flows from financing activities, as changes in intercompany balances with affiliates, net.

 

   

Income tax expense is allocated from the parent guarantor to the income producing operations (other guarantors and non-guarantors) and the issuer through stockholders’ equity. As this approach represents an allocation, the income tax expense allocation is considered non-cash for statement of cash flow purposes.

 

   

Interest expense, net has been presented to reflect net interest expense and interest income from outstanding long-term debt and intercompany balances.

The Company’s intercompany activity consists primarily of daily cash transfers for purposes of cash management, the allocation of certain expenses and expenditures paid for by the parent on behalf of its subsidiaries, and the push down of investment in its subsidiaries. This activity also includes the intercompany transactions between consolidated entities as part of the Receivables Facility that is further discussed in Note 11. The Company’s subsidiaries generally do not purchase services from one another; thus, the intercompany transactions do not represent revenue generating transactions. All intercompany transactions eliminate in consolidation.

From time to time, the Company sells and/or repurchases noncontrolling interests in consolidated subsidiaries, which may change subsidiaries between guarantors and non-guarantors. Amounts for prior periods are restated to reflect the status of guarantors or non-guarantors as of September 30, 2012.

 

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Condensed Consolidating Balance Sheet

September 30, 2012

 

     Parent
    Guarantor    
             Issuer              Other
  Guarantors  
     Non -
  Guarantors  
       Eliminations         Consolidated   
     (In thousands)  
ASSETS   

Current assets:

                 

Cash and cash equivalents

     $ -         $ -         $ 150,035         $ 90,615         $ -         $ 240,650   

Patient accounts receivable, net of allowance for doubtful accounts

     -         -         718,972         1,372,245         -         2,091,217   

Supplies

     -         -         254,223         110,749         -         364,972   

Prepaid income taxes

     20,233         -         -         -         -         20,233   

Deferred income taxes

     89,797         -         -         -         -         89,797   

Prepaid expenses and taxes

     -         155         103,344         29,308         -         132,807   

Other current assets

     -         -         189,931         77,804         -         267,735   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total current assets

     110,030         155         1,416,505         1,680,721         -         3,207,411   

Intercompany receivable

     348,870         9,885,042         1,999,263         2,983,890         (15,217,065)         -   

Property and equipment, net

     -         -         4,674,640         2,431,154         -         7,105,794   

Goodwill

     -         -         2,534,696         1,862,777         -         4,397,473   

Other assets, net

     -         161,552         713,116         655,809         -         1,530,477   

Net investment in subsidiaries

     2,908,979         7,611,770         3,705,438         -         (14,226,187)         -   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total assets

     $ 3,367,879         $ 17,658,519         $ 15,043,658         $ 9,614,351         $ (29,443,252)         $ 16,241,155   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

LIABILITIES AND EQUITY

  

Current liabilities:

                 

Current maturities of long-term debt

     $ -         $ 81,250         $ 14,464         $ 3,480         $ -         $ 99,194   

Accounts payable

     -         1,117         582,281         225,857         -         809,255   

Accrued interest

     -         110,419         124         321         -         110,864   

Accrued liabilities

     7,580         -         636,001         318,329         -         961,910   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total current liabilities

     7,580         192,786         1,232,870         547,987         -         1,981,223   

Long-term debt

     -         9,099,405         54,284         319,180         -         9,472,869   

Intercompany payable

     -         5,248,142         9,818,261         7,403,021         (22,469,424)         -   

Deferred income taxes

     704,725         -         -         -         -         704,725   

Other long-term liabilities

     1,085         209,210         614,717         174,068         -         999,080   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities

     713,390         14,749,543         11,720,132         8,444,256         (22,469,424)         13,157,897   

Redeemable noncontrolling interests in equity of consolidated subsidiaries

     -         -         -         370,514         -         370,514   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Equity:

                 

Community Health Systems, Inc. stockholders’ equity:

                 

Preferred stock

     -         -         -         -         -         -   

Common stock

     922         -                       (3)         922   

Additional paid-in capital

     1,104,570         1,152,752         1,258,509         639,290         (3,050,551)         1,104,570   

Treasury stock, at cost

     (6,678)         -         -         -         -         (6,678)   

Accumulated other comprehensive (loss) income

     (148,721)         (148,721)         (14,695)         -         163,416         (148,721)   

Retained earnings

     1,704,396         1,904,945         2,079,711         102,034         (4,086,690)         1,704,396   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Community Health Systems, Inc. stockholders’ equity

     2,654,489         2,908,976         3,323,526         741,326         (6,973,828)         2,654,489   

Noncontrolling interests in equity of consolidated subsidiaries

     -         -         -         58,255         -         58,255   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total equity

     2,654,489         2,908,976         3,323,526         799,581         (6,973,828)         2,712,744   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities and equity

     $       3,367,879         $     17,658,519         $     15,043,658         $     9,614,351         $    (29,443,252)         $     16,241,155   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

34


Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Balance Sheet

December 31, 2011

 

     Parent
  Guarantor  
             Issuer              Other
  Guarantors  
     Non -
  Guarantors  
       Eliminations         Consolidated   
     (In thousands)  
ASSETS   

Current assets:

                 

Cash and cash equivalents

     $ -         $ -         $ 8,920         $ 120,945         $ -         $ 129,865   

Patient accounts receivable, net of allowance for doubtful accounts

     -         -         1,190,956         643,211         -         1,834,167   

Supplies

     -         -         237,178         109,433         -         346,611   

Prepaid income taxes

     101,389         -         -         -         -         101,389   

Deferred income taxes

     89,797         -         -         -         -         89,797   

Prepaid expenses and taxes

     -         117         87,524         24,972         -         112,613   

Other current assets

     -         10,235         155,097         66,315         -         231,647   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total current assets

     191,186         10,352         1,679,675         964,876         -         2,846,089   

Intercompany receivable

     249,088         9,294,301         1,046,486         1,774,718         (12,364,593)         -   

Property and equipment, net

     -         -         4,631,831         2,224,145         -         6,855,976   

Goodwill

     -         -         2,411,521         1,853,324         -         4,264,845   

Other assets, net

     -         99,511         515,882         626,537         -         1,241,930   

Net investment in subsidiaries

     2,670,155         7,388,874         2,317,131         -         (12,376,160)         -   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total assets

     $     3,110,429         $     16,793,038         $     12,602,526         $      7,443,600         $   (24,740,753)         $     15,208,840   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

LIABILITIES AND EQUITY

  

Current liabilities:

                 

Current maturities of long-term debt

     $ -         $ 49,954         $ 10,114         $ 3,638         $ -         $ 63,706   

Accounts payable

     -         345         535,204         213,448         -         748,997   

Accrued interest

     -         109,984         131                -         110,121   

Accrued liabilities

     7,580         567         688,328         291,840         -         988,315   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total current liabilities

     7,580         160,850         1,233,777         508,932         -         1,911,139   

Long-term debt

     -         8,707,805         54,651         20,342         -         8,782,798   

Intercompany payable

     -         5,000,003         7,843,539         6,108,561         (18,952,103)         -   

Deferred income taxes

     704,725         -         -         -         -         704,725   

Other long-term liabilities

     1,028         254,228         435,295         259,439         -         949,990   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities

     713,333         14,122,886         9,567,262         6,897,274         (18,952,103)         12,348,652   

Redeemable noncontrolling interests in equity of consolidated subsidiaries

     -         -         -         395,743         -         395,743   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Equity:

                 

Community Health Systems, Inc. stockholders’ equity:

                 

Preferred stock

     -         -         -         -         -         -   

Common stock

     915         -                       (3)         915   

Additional paid-in capital

     1,086,008         1,030,522         1,103,559         30,047         (2,164,128)         1,086,008   

Treasury stock, at cost

     (6,678)         -         -         -         -         (6,678)   

Accumulated other comprehensive (loss) income

     (184,479)         (184,479)         (21,687)         -         206,166         (184,479)   

Retained earnings

     1,501,330         1,824,109         1,953,391         53,185         (3,830,685)         1,501,330   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Community Health Systems, Inc. stockholders’ equity

     2,397,096         2,670,152         3,035,264         83,234         (5,788,650)         2,397,096   

Noncontrolling interests in equity of consolidated subsidiaries

     -         -         -         67,349         -         67,349   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total equity

     2,397,096         2,670,152         3,035,264         150,583         (5,788,650)         2,464,445   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total liabilities and equity

     $ 3,110,429         $ 16,793,038         $ 12,602,526         $      7,443,600         $   (24,740,753)         $ 15,208,840   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

35


Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Statement of Income

Three Months Ended September 30, 2012

 

     Parent
  Guarantor  
             Issuer              Other
  Guarantors  
     Non -
  Guarantors  
       Eliminations         Consolidated   
     (In thousands)  

Operating revenues (net of contractual allowances and discounts)

     $ -         $ (2,551)         $ 2,376,462         $ 1,322,750         $ -         $ 3,696,661   

Provision for bad debts

     -         -         316,988         167,643         -         484,631   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net operating revenues

     -         (2,551)         2,059,474         1,155,107         -         3,212,030   

Operating costs and expenses:

                 

Salaries and benefits

     -         -         905,141         619,970         -         1,525,111   

Supplies

     -         -         317,263         166,949         -         484,212   

Other operating expenses

     -         83         459,377         235,397         -         694,857   

Electronic health records incentive reimbursement

     -         -         (20,587)         (10,035)         -         (30,622)   

Rent

     -         -         38,559         30,078         -         68,637   

Depreciation and amortization

     -         -         120,620         61,587         -         182,207   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total operating costs and expenses

     -         83         1,820,373         1,103,946         -         2,924,402   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from operations

     -         (2,634)         239,101         51,161         -         287,628   

Interest expense, net

     -         11,708         132,381         14,476         -         158,565   

Loss from early extinguishment of debt

     -         52,024         -         -         -         52,024   

Equity in earnings of unconsolidated affiliates

     (44,233)         (82,526)         (20,074)         -         139,414         (7,419)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations before income taxes

     44,233         16,160         126,794         36,685         (139,414)         84,458   

Provision for (benefit from) income taxes

     -         (28,073)         45,773         8,000         -         25,700   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations

     44,233         44,233         81,021         28,685         (139,414)         58,758   

Discontinued operations, net of taxes:

                 

Income (loss) from operations of entities sold

     -         -         -         -         -         -   

Impairment of hospitals sold

     -         -         -         -         -         -   

Loss on sale, net

     -         -         -         -         -         -   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations, net of taxes

     -         -         -         -         -         -   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net income

     44,233         44,233         81,021         28,685         (139,414)         58,758   

Less: Net income attributable to noncontrolling interests

     -         -         -         14,525         -         14,525   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net income attributable to Community Health Systems, Inc. stockholders

     $           44,233         $           44,233         $           81,021         $           14,160         $       (139,414)         $           44,233   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

36


Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Statement of Income

Three Months Ended September 30, 2011

 

     Parent
  Guarantor  
             Issuer              Other
  Guarantors  
     Non -
  Guarantors  
       Eliminations         Consolidated   
     (In thousands)  

Operating revenues (net of contractual allowances and discounts)

     $ -         $ -         $ 2,307,560         $ 1,088,213         $ -         $ 3,395,773    

Provision for bad debts

     -         -         331,603         118,693         -         450,296    
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net operating revenues

     -         -         1,975,957         969,520         -         2,945,477   

Operating costs and expenses:

                 

Salaries and benefits

     -         -         864,588         528,563         -         1,393,151   

Supplies

     -         -         317,139         142,007         -         459,146   

Other operating expenses

     -         -         431,533         192,075         -         623,608   

Electronic health records incentive reimbursement

     -         -         (28,090)         (12,137)         -         (40,227)   

Rent

     -         -         37,147         27,334         -         64,481   

Depreciation and amortization

     -         -         109,316         52,199         -         161,515   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total operating costs and expenses

     -         -         1,731,633         930,041         -         2,661,674   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from operations

     -         -         244,324         39,479         -         283,803   

Interest expense, net

     -         15,484         132,041         11,955         -         159,480   

Loss from early extinguishment of debt

     -         -         -         -         -         -   

Equity in earnings of unconsolidated affiliates

     (74,304)         (77,141)         (9,432)         -         152,683         (8,194)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations before income taxes

     74,304         61,657          121,715         27,524         (152,683)         132,517   

Provision for (benefit from) income taxes

     -         (12,647)         43,939         5,425         -         36,717   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations

     74,304         74,304         77,776         22,099         (152,683)         95,800   

Discontinued operations, net of taxes:

                 

Income (loss) from operations of entities sold

     -         -         -         (3,103)         -         (3,103)   

Impairment of hospitals sold

     -         -         -         -         -         -   

Loss on sale, net

     -         -         -         (66)         -         (66)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations, net of taxes

     -         -         -         (3,169)         -         (3,169)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net income

     74,304         74,304         77,776         18,930         (152,683)         92,631   

Less: Net income attributable to noncontrolling interests

     -         -         -         18,327         -         18,327   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net income attributable to Community Health Systems, Inc. stockholders

     $           74,304         $           74,304         $           77,776         $                   603         $       (152,683)         $           74,304   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

37


Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Statement of Income

Nine Months Ended September 30, 2012

 

     Parent
    Guarantor    
     Issuer      Other
  Guarantors  
     Non -
Guarantors
       Eliminations          Consolidated    
     (In thousands)  

Operating revenues (net of contractual allowances and discounts)

     $ -         $ (6,980)         $ 7,178,086         $     4,055,474         $ -         $ 11,226,580   

Provision for bad debts

     -         -         998,451         476,090         -         1,474,541   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net operating revenues

     -         (6,980)         6,179,635         3,579,384         -         9,752,039   

Operating costs and expenses:

                 

Salaries and benefits

     -         -         2,688,553         1,858,979         -         4,547,532   

Supplies

     -         -         968,505         504,015         -         1,472,520   

Other operating expenses

     -         418         1,387,034         752,573         -         2,140,025   

Electronic health records incentive reimbursement

     -         -         (45,732)         (27,860)         -         (73,592)   

Rent

     -         -         113,014         89,310         -         202,324   

Depreciation and amortization

     -         -         356,196         180,166         -         536,362   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total operating costs and expenses

     -         418         5,467,570         3,357,183         -         8,825,171   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from operations

     -         (7,398)         712,065         222,201         -         926,868   

Interest expense, net

     -         45,033         379,004         38,310         -         462,347   

Loss from early extinguishment of debt

     -         115,453         -         -         -         115,453   

Equity in earnings of unconsolidated affiliates

     (203,066)         (287,320)         (107,110)         -         564,883         (32,613)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations before income taxes

     203,066         119,436         440,171         183,891         (564,883)         381,681   

Provision for (benefit from) income taxes

     -         (83,630)         158,901         45,767         -         121,038   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations

     203,066         203,066         281,270         138,124         (564,883)         260,643   

Discontinued operations, net of taxes:

                 

Income (loss) from operations of entities sold

     -         -         -         (466)         -         (466)   

Impairment of hospitals sold

     -         -         -         -         -         -   

Loss on sale, net

     -         -         -         -         -         -   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations, net of taxes

     -         -         -         (466)         -         (466)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net income

     203,066         203,066         281,270         137,658         (564,883)         260,177   

Less: Net income attributable to noncontrolling interests

     -         -         -         57,111         -         57,111   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net income attributable to Community Health Systems, Inc. stockholders

     $         203,066         $         203,066         $         281,270         $           80,547         $       (564,883)         $         203,066   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

38


Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Statement of Income

Nine Months Ended September 30, 2011

 

     Parent
    Guarantor    
             Issuer              Other
   Guarantors   
     Non -
   Guarantors   
       Eliminations          Consolidated    
     (In thousands)  

Operating revenues (net of contractual allowances and discounts)

     $ -         $ -         $         6,438,997         $       3,744,657         $ -         $     10,183,654   

Provision for bad debts

     -         -         856,309         426,958         -         1,283,267   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net operating revenues

     -         -         5,582,688         3,317,699         -         8,900,387   

Operating costs and expenses:

                 

Salaries and benefits

     -         -         2,438,797         1,717,817         -         4,156,614   

Supplies

     -         -         882,510         483,732         -         1,366,242   

Other operating expenses

     -         -         1,214,638         678,500         -         1,893,138   

Electronic health records incentive reimbursement

     -         -         (28,090)         (12,137)         -         (40,227)   

Rent

     -         -         102,319         87,763         -         190,082   

Depreciation and amortization

     -         -         308,485         172,561         -         481,046   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total operating costs and expenses

     -         -         4,918,659         3,128,236         -         8,046,895   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from operations

     -         -         664,029         189,463         -         853,492   

Interest expense, net

     -         65,799         372,320         47,809         -         485,928   

Loss from early extinguishment of debt

     -         -         -         -         -         -   

Equity in earnings of unconsolidated affiliates

     (171,017)         (211,395)         (32,710)         -         376,777         (38,345)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations before income taxes

     171,017         145,596         324,419         141,654         (376,777)         405,909   

Provision for (benefit from) income taxes

     -         (25,421)         117,115         33,936         -         125,630   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Income from continuing operations

     171,017         171,017         207,304         107,718         (376,777)         280,279   

Discontinued operations, net of taxes:

                 

Income (loss) from operations of entities sold

     -         -         -         (4,546)         -         (4,546)   

Impairment of hospitals sold

     -         -         -         (47,930)         -         (47,930)   

Loss on sale, net

     -         -         -         (3,300)         -         (3,300)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Loss from discontinued operations, net of taxes

     -         -         -         (55,776)         -         (55,776)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net income

     171,017         171,017         207,304         51,942         (376,777)         224,503   

Less: Net income attributable to noncontrolling interests

     -         -         -         53,486         -         53,486   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net income attributable to Community Health Systems, Inc. stockholders

     $         171,017         $         171,017         $ 207,304         $ (1,544)         $       (376,777)         $ 171,017   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

39


Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Statement of Comprehensive Income

Three Months Ended September 30, 2012

 

     Parent
    Guarantor    
             Issuer              Other
   Guarantors   
     Non -
   Guarantors   
       Eliminations          Consolidated    
     (In thousands)  

Net income

     $     44,233         $     44,233         $     81,021         $     28,685         $     (139,414)         $     58,758   

Other comprehensive income (loss), net of taxes

                 

Net change in fair value of interest rate swaps

     8,254         8,254         -         -         (8,254)         8,254   

Net change in fair value of available-for-sale securities

     1,370         1,370         1,370         -         (2,740)         1,370   

Amortization and recognition of unrecognized pension cost components

     1,202         1,202         1,202         -         (2,404)         1,202   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Other comprehensive income (loss)

     10,826         10,826         2,572         -         (13,398)         10,826   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income

     55,059         55,059         83,593         28,685         (152,812)         69,584   

Less: Comprehensive income attributable to noncontrolling interests

     -         -         -         14,525         -         14,525   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income attributable to Community Health Systems, Inc. stockholders

     $     55,059         $     55,059         $     83,593         $     14,160         $     (152,812)         $     55,059   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

Condensed Consolidating Statement of Comprehensive Income

Three Months Ended September 30, 2011

 

  

  

     Parent
    Guarantor    
             Issuer              Other
   Guarantors   
     Non -
   Guarantors   
       Eliminations          Consolidated    
     (In thousands)  

Net income

     $     74,304         $     74,304         $     77,776          $     18,930         $     (152,683)         $     92,631   

Other comprehensive income (loss), net of taxes

                 

Net change in fair value of interest rate swaps

     2,722         2,722         -         -         (2,722)         2,722   

Net change in fair value of available-for-sale securities

     (4,029)         (4,029)         (4,029)         -         8,058         (4,029)   

Amortization and recognition of unrecognized pension cost components

     790         790         790         -         (1,580)         790   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Other comprehensive income (loss)

     (517)         (517)         (3,239)         -         3,756         (517)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income

     73,787         73,787         74,537         18,930         (148,927)         92,114   

Less: Comprehensive income attributable to noncontrolling interests

     -         -         -         18,327         -         18,327   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income attributable to Community Health Systems, Inc. stockholders

     $     73,787         $     73,787         $     74,537         $     603         $     (148,927)         $     73,787   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

40


Table of Contents

COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Statement of Comprehensive Income

Nine Months Ended September 30, 2012

 

     Parent
    Guarantor    
     Issuer      Other
   Guarantors   
     Non -
   Guarantors   
       Eliminations          Consolidated    
     (In thousands)  

Net income

     $ 203,066         $ 203,066         $ 281,270         $ 137,658         $ (564,883)         $ 260,177   

Other comprehensive income (loss), net of taxes

                 

Net change in fair value of interest rate swaps

     28,766         28,766         -         -         (28,766)         28,766   

Net change in fair value of available-for-sale securities

     3,509         3,509         3,509         -         (7,018)         3,509   

Amortization and recognition of unrecognized pension cost components

     3,483         3,483         3,483         -         (6,966)         3,483   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Other comprehensive income (loss)

     35,758         35,758         6,992         -         (42,750)         35,758   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income

     238,824         238,824         288,262         137,658         (607,633)         295,935   

Less: Comprehensive income attributable to noncontrolling interests

     -         -         -         57,111         -         57,111   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income attributable to Community Health Systems, Inc. stockholders

     $ 238,824         $         238,824         $ 288,262         $ 80,547         $ (607,633)         $ 238,824   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

Condensed Consolidating Statement of Comprehensive Income

Nine Months Ended September 30, 2011

 

     Parent
    Guarantor    
     Issuer      Other
   Guarantors   
     Non -
   Guarantors   
       Eliminations          Consolidated    
     (In thousands)  

Net income

     $ 171,017         $ 171,017         $ 207,304         $ 51,942         $ (376,777)         $ 224,503   

Other comprehensive income (loss), net of taxes

                 

Net change in fair value of interest rate swaps

     30,199         30,199         -         -         (30,199)         30,199   

Net change in fair value of available-for-sale securities

     (2,692)         (2,692)         (2,692)         -         5,384         (2,692)   

Amortization and recognition of unrecognized pension cost components

     2,369         2,369         2,369         -         (4,738)         2,369   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Other comprehensive income (loss)

     29,876         29,876         (323)         -         (29,553)         29,876   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income

     200,893         200,893         206,981         51,942         (406,330)         254,379   

Less: Comprehensive income attributable to noncontrolling interests

     -         -         -         53,486         -         53,486   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Comprehensive income attributable to Community Health Systems, Inc. stockholders

     $ 200,893         $         200,893         $ 206,981         $ (1,544)         $ (406,330)         $ 200,893   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

41


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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Statement of Cash Flows

Nine Months Ended September 30, 2012

 

     Parent
    Guarantor    
     Issuer      Other
   Guarantors   
     Non -
   Guarantors   
       Eliminations          Consolidated    
     (In thousands)  

Net cash (used in) provided by operating activities

     $ (58,932)         $ (33,958)         $ 736,312         $ 134,443         $ -         $ 777,865   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Cash flows from investing activities:

                 

Acquisitions of facilities and other related equipment

     -         -         (302,759)         (10,168)         -         (312,927)   

Purchases of property and equipment

     -         -         (374,940)         (182,529)         -         (557,469)   

Proceeds from disposition of hospitals and other ancillary operations

     -         -         -         -         -         -   

Proceeds from sale of property and equipment

     -         -         2,281         2,527         -         4,808   

Increase in other investments

     -         -         (168,506)         (53,658)         -         (222,164)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net cash used in investing activities

     -         -         (843,924)         (243,828)         -         (1,087,752)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Cash flows from financing activities:

                 

Proceeds from exercise of stock options

     5,750         -         -         -         -         5,750   

Repurchase of restricted stock shares for payroll tax withholding requirements

     (9,165)         -         -         -         -         (9,165)   

Deferred financing costs

     -         (135,647)         -         -         -         (135,647)   

Excess tax benefit (income tax payable increase) relating to stock-based compensation

     1,545         -         -         -         -         1,545   

Stock buy back

     -         -         -         -         -         -   

Proceeds from noncontrolling investors in joint ventures

     -         -         -         535         -         535   

Redemption of noncontrolling investments in joint ventures

     -         -         -         (39,709)         -         (39,709)   

Distributions to noncontrolling investors in joint ventures

     -         -         -         (60,676)         -         (60,676)   

Changes in intercompany balances with affiliates, net

     60,802         (189,385)         248,311         (119,728)         -         -   

Borrowings under credit agreement

     -         5,904,978         19,399         -         -         5,924,377   

Issuance of long-term debt

     -         3,825,000         -         -         -         3,825,000   

Proceeds from receivables facility

     -         -         -         300,000         -         300,000   

Repayments of long-term indebtedness

     -             (9,370,988)         (18,983)         (1,367)         -         (9,391,338)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net cash provided by (used in) financing activities

     58,932         33,958         248,727         79,055         -         420,672   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net change in cash and cash equivalents

     -         -         141,115         (30,330)         -         110,785   

Cash and cash equivalents at beginning of period

     -         -         8,920         $ 120,945         -         129,865   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Cash and cash equivalents at end of period

     $ -         $ -         $ 150,035         $ 90,615         $ -         $ 240,650   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

42


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COMMUNITY HEALTH SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) – (Continued)

 

Condensed Consolidating Statement of Cash Flows

Nine Months Ended September 30, 2011

 

     Parent
    Guarantor    
             Issuer              Other
   Guarantors   
     Non -
   Guarantors   
       Eliminations          Consolidated    
     (In thousands)  

Net cash (used in) provided by operating activities

     $ (23,970)         $ (120,269)         $ 659,348         $ 305,126         $ -         $ 820,235   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Cash flows from investing activities:

                 

Acquisitions of facilities and other related equipment

     -         -         (163,397)         (46,054)         -         (209,451)   

Purchases of property and equipment

     -         -         (301,466)         (231,379)         -         (532,845)   

Proceeds from disposition of hospitals and other ancillary operations

     -         -         -         172,578         -         172,578   

Proceeds from sale of property and equipment

     -         -         1,269         7,982         -         9,251   

Increase in other investments

     -         -         (90,009)         (40,971)         -         (130,980)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net cash used in investing activities

     -         -         (553,603)         (137,844)         -         (691,447)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Cash flows from financing activities:

                 

Proceeds from exercise of stock options

     18,880         -         -         -         -         18,880   

Repurchase of restricted stock shares for payroll tax withholding requirements

     -         -         -         -         -         -   

Deferred financing costs

     -         (100)         -         -         -         (100)   

Excess tax benefit (income tax payable increase) relating to stock-based compensation

     4,616         -         -         -         -         4,616   

Stock buy back

     (85,790)         -         -         -         -         (85,790)   

Proceeds from noncontrolling investors in joint ventures

     -         -         -         1,229         -         1,229   

Redemption of noncontrolling investments in joint ventures

     -         -         -         (4,784)         -         (4,784)   

Distributions to noncontrolling investors in joint ventures

     -         -         -         (49,928)         -         (49,928)   

Changes in intercompany balances with affiliates, net

     86,264         157,854         (157,936)         (86,182)         -         -   

Borrowings under credit agreement

     -         83,000         -         -         -         83,000   

Issuance of long-term debt

     -         -         -         -         -         -   

Proceeds from receivables facility

     -         -         -         -         -         -   

Repayments of long-term indebtedness

     -         (120,485)         (1,195)         (7,088)         -         (128,768)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net cash provided by (used in) financing activities

     23,970         120,269         (159,131)         (146,753)         -         (161,645)   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Net change in cash and cash equivalents

     -         -         (53,386)         20,529         -         (32,857)   

Cash and cash equivalents at beginning of period

     -         -         212,992         86,177         -         299,169   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Cash and cash equivalents at end of period

     $ -         $ -         $ 159,606         $ 106,706         $ -         $ 266,312   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

43


Table of Contents

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read this discussion together with our unaudited condensed consolidated financial statements and accompanying notes included herein.

Throughout this Quarterly Report on Form 10-Q, Community Health Systems, Inc., the parent company, and its consolidated subsidiaries are referred to on a collective basis using words like “we,” “our,” “us” and the “Company”. This drafting style is not meant to indicate that the publicly-traded parent company or any subsidiary of the parent company owns or operates any asset, business, or property. The hospitals, operations and businesses described in this filing are owned and operated, and management services provided, by distinct and indirect subsidiaries of Community Health Systems, Inc.

Executive Overview

We are one of the largest publicly-traded operators of hospitals in the United States in terms of number of facilities and net operating revenues. We provide healthcare services through the hospitals that we own and operate in non-urban and selected urban markets. We generate revenues by providing a broad range of general and specialized hospital and other outpatient healthcare services to patients in the communities in which we are located. As of September 30, 2012, we owned or leased 135 hospitals comprised of 131 general acute care hospitals and four stand-alone rehabilitation or psychiatric hospitals. In addition, we own and operate home care agencies, located primarily in markets where we also operate a hospital, and through our wholly-owned subsidiary, Quorum Health Resources, LLC, or QHR, we provide management and consulting services to non-affiliated general acute care hospitals located throughout the United States. For the hospitals and home care agencies that we own and operate, we are paid for our services by governmental agencies, private insurers and directly by the patients we serve. For our management and consulting services, we are paid by the non-affiliated hospitals utilizing our services.

As further discussed in Recent Accounting Pronouncements, during the first quarter of 2012 we adopted the provisions of Accounting Standards Update, or ASU, No. 2011-07 of the Financial Accounting Standards Board, or FASB, which requires us to present revenues net of the provision for bad debts. Prior to the adoption of this ASU, our provision for bad debts was presented as a component of operating expenses. For all periods presented in this quarterly report, revenues and any related financial ratios or metrics have been updated to reflect the change in the presentation of net operating revenues. The adoption of this standard did not impact our financial position, results of operations or cash flows.

During the nine months ended September 30, 2012, we continued the execution of our acquisition strategy by acquiring four hospitals located in Scranton, Pennsylvania; Peckville, Pennsylvania; York, Pennsylvania; and Blue Island, Illinois and a large physician practice located in Longview, Texas.

During the nine months ended September 30, 2012, we also closed several financing arrangements that extend the maturity date of a significant portion of our outstanding indebtedness. As further discussed in the Liquidity and Capital Resources section, we entered into additional amendments and a modification of our Credit Facility that extend by two and a half years, until January 25, 2017, the maturity date of approximately $1.9 billion of our existing non-extended term loans. We obtained a new $750 million senior secured revolving credit facility and a new $750 million incremental term loan A facility, both with a maturity date of October 25, 2016, subject to certain acceleration clauses, the net proceeds of which were used to repay the same amount of existing borrowings under the previous revolving credit facility and term loans under the Credit Facility. We also completed through various offerings the issuance of $2.2 billion of senior notes and $1.6 billion of senior secured notes, the net proceeds of which were used to finance the purchase and redemption of all our outstanding 8 7/8% Senior Notes due 2015, to prepay $1.6 billion of the outstanding non-extended term loans under the Credit Facility, to pay related fees and expenses and for general corporate purposes. Compared to our debt maturities at December 31, 2011, the net effect of these financing transactions extended the maturity of approximately $6.0 billion of our outstanding long-term debt previously due in 2014 and 2015 to various maturities ranging from 2016 to 2020.

 

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Our net operating revenues for the three months ended September 30, 2012 increased to approximately $3.2 billion, as compared to approximately $2.9 billion for the three months ended September 30, 2011. Income from continuing operations, before noncontrolling interests, for the three months ended September 30, 2012 decreased 38.7% over the three months ended September 30, 2011 to $58.8 million compared to $95.8 million. This decrease in income from continuing operations during the three months ended September 30, 2012, as compared to the three months ended September 30, 2011, is due primarily to the loss on early extinguishment of debt. Total inpatient admissions for the three months ended September 30, 2012 increased 5.0%, compared to the three months ended September 30, 2011, and adjusted admissions for the three months ended September 30, 2012 increased 6.3%, compared to the three months ended September 30, 2011. On a same-store basis, admissions decreased 0.3% and adjusted admissions increased 0.8%, compared with the three months ended September 30, 2011.

Our net operating revenues for the nine months ended September 30, 2012 increased to approximately $9.8 billion, as compared to approximately $8.9 billion for the nine months ended September 30, 2011. Income from continuing operations, before noncontrolling interests, for the nine months ended September 30, 2012 decreased 7.0% over the nine months ended September 30, 2011 to $260.6 million compared to $280.3 million. Included in income from continuing operations for the nine months ended September 30, 2012, is a $42.8 million after-tax benefit from the resolution of an industry-wide governmental settlement and a payment update related to prior periods, an $8.7 million after-tax charge to establish reserves for certain legal matters and a $72.8 million after-tax loss from the early extinguishment of debt. Excluding these one-time items, income from continuing operations, before noncontrolling interests, for the nine months ended September 30, 2012 increased 6.7% over the nine months ended September 30, 2011 to $299.2 million compared to $280.3 million. This increase in income from continuing operations during the nine months ended September 30, 2012, as compared to the nine months ended September 30, 2011, is due primarily to increased revenues at our same-store hospitals, income from electronic health records incentive reimbursements and reductions in interest expense. Total inpatient admissions for the nine months ended September 30, 2012 increased 3.7%, compared to the nine months ended September 30, 2011, and adjusted admissions for the nine months ended September 30, 2012 increased 6.7%, compared to the nine months ended September 30, 2011. On a same-store basis, admissions decreased 1.6% and adjusted admissions increased 1.3%, compared with the nine months ended September 30, 2011.

Self-pay revenues represented approximately 13.3% and 12.5% of our operating revenues, net of contractual allowances and discounts (but before provision for bad debts) for the three months ended September 30, 2012 and 2011, respectively, and 13.2% and 12.2% of our operating revenues, net of contractual allowances and discounts (but before provision for bad debts) for the nine months ended September 30, 2012 and 2011, respectively. The amount of foregone revenue related to providing charity care services as a percentage of net operating revenues was approximately 5.6% and 5.1% for the three months ended September 30, 2012 and 2011, respectively, and 5.3% and 5.1% of our net operating revenues for the nine months ended September 30, 2012 and 2011, respectively. Direct and indirect costs incurred by us in providing charity care services were approximately 1.0% of net operating revenues for both of the three-month periods ended September 30, 2012 and 2011, and 1.0% of our net operating revenues for both of the nine months ended September 30, 2012 and 2011.

The Patient Protection and Affordable Care Act, or PPACA, was signed into law on March 23, 2010. In addition, the Health Care and Education Affordability Reconciliation Act of 2010, or Reconciliation Act, which contains a number of amendments to PPACA, was signed into law on March 30, 2010. These two healthcare acts, referred to collectively as the Reform Legislation, include a mandate that requires substantially all U.S. citizens to maintain medical insurance coverage which will ultimately increase the number of persons with access to health insurance in the United States. The Reform Legislation, as originally enacted, is expected to expand health insurance coverage to approximately 32 million additional individuals by 2016 and to approximately 34 million additional individuals by 2021 through a combination of public program expansion and private sector health insurance reforms. We believe the expansion of private sector and Medicaid coverage will, over time, increase our reimbursement related to providing services to individuals who were previously uninsured, which should reduce our expense from uncollectible accounts receivable. On the other hand, this legislation makes a number of other changes to Medicare and Medicaid, such as reductions to the Medicare annual market basket update for federal fiscal years 2010 through 2019, a productivity offset to the Medicare market basket update which began October 1, 2011, and a reduction to the Medicare and Medicaid disproportionate share payments, that could adversely impact the reimbursement received under these programs. The various provisions in the Reform Legislation that directly or indirectly affect reimbursement are scheduled to take effect over a number of years, and we cannot predict their impact at this time. Other provisions of the Reform Legislation, such as requirements related to employee health insurance coverage, should increase our operating costs.

 

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Also included in the Reform Legislation are provisions aimed at reducing fraud, waste and abuse in the healthcare industry. These provisions allocate significant additional resources to federal enforcement agencies and expand the use of private contractors to recover potentially inappropriate Medicare and Medicaid payments. The Reform Legislation amends several existing federal laws, including the Medicare Anti-Kickback Statute and the False Claims Act, making it easier for government agencies and private plaintiffs to prevail in lawsuits brought against healthcare providers. These amendments also make it easier for potentially severe fines and penalties to be imposed on healthcare providers accused of violating applicable laws and regulations.

On June 28, 2012, the Supreme Court of the United States largely upheld the constitutionality of the Reform Legislation, though it overturned an aspect of the legislation that would have permitted the Federal government to withhold all Medicaid funding from a state if that state did not expand Medicaid coverage to the extent required by the Reform Legislation. The Supreme Court’s ruling instead held that only new incremental funding could be withheld from a state in such a situation. As a result, states will face less severe financial consequences if they refuse to expand Medicaid coverage to individuals with incomes below certain thresholds. Since the Supreme Court’s ruling, some states have suggested that, for budgetary and other reasons, they would not expand their Medicaid programs. If states refuse to expand their Medicaid programs, the number of uninsured patients at our hospitals will decline by a smaller margin as compared to our expectations when the Reform Legislation was first adopted. Because of the many variables involved, including the potential for changes to the law as a result of efforts to amend or repeal it, clarifications and modifications resulting from the rule-making process, the development of agency guidance and future judicial interpretations, whether and how many states decide to expand or not to expand Medicaid coverage, and budgetary issues at federal and state levels, we are unable to predict the net impact the Reform Legislation may have on our business, results of operations, cash flow, capital resources and liquidity. Furthermore, we cannot predict whether we will be able to modify certain aspects of our operations to offset any potential adverse consequences from the Reform Legislation.

 

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In a number of markets, we have partnered with local physicians in the ownership of our facilities. Such investments have been permitted under an exception to the physician self-referral law, or Stark Law, that allows physicians to invest in an entire hospital (as opposed to individual hospital departments). The Reform Legislation changes the “whole hospital” exception to the Stark Law. The Reform Legislation permits existing physician investments in a whole hospital to continue under a “grandfather” clause if the arrangement satisfies certain requirements and restrictions, but physicians are now prohibited, from the time the Reform Legislation became effective, from increasing the aggregate percentage of their ownership in the hospital. The Reform Legislation also restricts the ability of existing physician-owned hospitals to expand the capacity of their facilities.

In addition to the Reform Legislation, the American Recovery and Reinvestment Act of 2009 included provisions for implementing health information technology under the Health Information Technology for Economic and Clinical Health Act, or HITECH. These provisions were designed to increase the use of electronic health records, or EHR, technology and establish the requirements for a Medicare and Medicaid incentive payments program beginning in 2011 for eligible hospitals and providers that adopt and meaningfully use certified EHR technology. These incentive payments are intended to offset a portion of the costs incurred to implement and qualify as a meaningful user of EHR. Rules adopted in July 2010 by the Department of Health and Human Services established an initial set of standards and certification criteria. Our hospital facilities have begun to implement EHR technology on a facility-by-facility basis beginning in 2011. We anticipate recognizing incentive reimbursement related to the Medicare or Medicaid incentives as we are able to implement the certified EHR technology, meet the defined “meaningful use criteria,” and information from completed cost report periods is available from which to calculate the incentive reimbursement. The timing of recognizing incentive reimbursement will not correlate with the timing of recognizing operating expenses and incurring capital costs in connection with the implementation of EHR technology which may result in material period-to-period changes in our future results of operations. Hospitals that do not qualify as a meaningful user of EHR technology by 2015 are subject to a reduced market basket update to the inpatient prospective payment system standardized amount in 2015 and each subsequent fiscal year. Although we believe that our hospital facilities will be in compliance with the EHR standards by 2015, there can be no assurance that all of our facilities will be in compliance and therefore not subject to the penalty provisions of HITECH. We recognized approximately $30.6 million and $40.2 million during the three months ended September 30, 2012 and 2011, respectively, and $73.6 million and $40.2 million during the nine months ended September 30, 2012 and 2011, respectively, of incentive reimbursement for HITECH incentive reimbursements from Medicare and Medicaid related to certain of our hospitals and for certain of our employed physicians, which are presented as a reduction of operating expenses. Net operating revenues for the three and nine months ended September 30, 2011 have been restated for the reclassification of incentive reimbursements to reflect the change in presentation for such incentives during the fourth quarter of 2011 from a component of net operating revenues to a reduction of operating expenses. This reclassification decreased net operating revenues and operating expenses for the three and nine months ended September 30, 2011 by $40.2 million, and had no impact on income from continuing operations or net income as previously reported. Management does not consider this change in classification to be material.

 

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As a result of our current levels of cash, available borrowing capacity, long-term outlook on our debt repayments, the refinancing of our term loans and senior notes and our continued projection of our ability to generate cash flows, we do not anticipate a significant impact on our ability to invest the necessary capital in our business over the next twelve months and into the foreseeable future. We believe there continues to be ample opportunity for growth in substantially all of our markets by decreasing the need for patients to travel outside their communities for healthcare services. Furthermore, we continue to benefit from synergies from our acquisitions and continue to strive to improve operating efficiencies and procedures in order to improve our profitability at all of our hospitals.

Sources of Consolidated Net Operating Revenues

The following table presents the approximate percentages of operating revenues, net of contractual allowances and discounts (but before provision for bad debts) by payor source for the periods indicated. The data for the periods presented are not strictly comparable due to the effect that hospital acquisitions have had on these statistics.

 

             Three Months Ended         
September 30,
             Nine Months Ended         
September 30,
 
             2012                      2011                      2012                     2011          

Medicare

     25.8 %           26.3 %           25.9 %   (1)      26.9 %     

Medicaid

     10.5                9.6                9.9               9.8          

Managed Care and other third-party payors

     50.4                51.6                51.0               51.1          

Self-pay

                       13.3                                  12.5                                  13.2                                 12.2          

Total

                      100.0 %                            100.0 %                            100.0 %                           100.0 %     

 

(1) Excludes the $80.8 million reimbursement settlement and payment update as discussed below.

As shown above, we receive a substantial portion of our revenues from the Medicare and Medicaid programs. Included in Managed Care and other third-party payors is net operating revenues from insurance companies with which we have insurance provider contracts, Medicare managed care, insurance companies for which we do not have insurance provider contracts, workers’ compensation carriers and non-patient service revenue, such as rental income and cafeteria sales. In the future, we generally expect revenues received from the Medicare and Medicaid programs to increase due to the general aging of the population. In addition, the Reform Legislation, currently in effect, should increase the number of insured patients, which, in turn, should reduce revenues from self-pay patients and reduce our provision for bad debts. The Reform Legislation, however, imposes significant reductions in amounts the government pays Medicare managed care plans. The trend toward increased enrollment in Medicare managed care may adversely affect our net operating revenue growth. Other provisions in the Reform Legislation impose minimum medical-loss ratios and require insurers to meet specific benefit requirements. Furthermore, in the normal course of business, managed care programs, insurance companies and employers actively negotiate the amounts paid to hospitals. There can be no assurance that we will retain our existing reimbursement arrangements or that these third-party payors will not attempt to further reduce the rates they pay for our services.

 

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Net operating revenues include amounts estimated by management to be reimbursable by Medicare and Medicaid under prospective payment systems and provisions of cost-based reimbursement and other payment methods. In addition, we are reimbursed by non-governmental payors using a variety of payment methodologies. Amounts we receive for treatment of patients covered by these programs are generally less than the standard billing rates. We account for the differences between the estimated program reimbursement rates and the standard billing rates as contractual allowance adjustments, which we deduct from gross revenues to arrive at net operating revenues. Final settlements under some of these programs are subject to adjustment based on administrative review and audit by third parties. We account for adjustments to previous program reimbursement estimates as contractual allowance adjustments and report them in the periods that such adjustments become known. During the nine months ended September 30, 2012, we recognized a net after-tax benefit of $42.8 million from the resolution of an industry-wide governmental settlement and a payment update related to prior periods. Other than this adjustment, contractual allowance adjustments related to final settlements and previous program reimbursement estimates impacted net operating revenues and net income by an insignificant amount in each of the three-month and nine-month periods ended September 30, 2012 and 2011.

The payment rates under the Medicare program for hospital inpatient and outpatient acute care services are based on a prospective payment system, depending upon the diagnosis of a patient’s condition. These rates are indexed for inflation annually, although increases have historically been less than actual inflation. On August 31, 2012, CMS issued the final rule to adjust this index by 2.6% for hospital inpatient acute care services that are reimbursed under the prospective payment system. The final rule also made other payment adjustments that, coupled with the 0.7% multifactor productivity reduction and a 0.1% reduction to hospital inpatient rates implemented pursuant to the Reform Legislation, yielded an estimated net 2.3% increase in reimbursement for hospital inpatient acute care services beginning October 1, 2012. Reductions in the rate of increase or overall reductions in Medicare reimbursement may cause a decline in the growth of our net operating revenues.

Currently, several states utilize supplemental reimbursement programs for the purpose of providing reimbursement to providers to offset a portion of the cost of providing care to Medicaid and indigent patients. These programs are designed with input from Centers for Medicare and Medicaid Services, or CMS, and are funded with a combination of state and federal resources, including, in certain instances, fees or taxes levied on the providers. Similar programs are also being considered by other states. After these supplemental programs are signed into law, we recognize revenue and related expenses in the period in which amounts are estimable and collection is reasonably assured. Reimbursement under these programs is reflected in net operating revenues and included as Medicaid revenue in the table above, and fees, taxes or other program related costs are reflected in other operating costs and expenses.

Results of Operations

Our hospitals offer a variety of services involving a broad range of inpatient and outpatient medical and surgical services. These include general acute care, emergency room, general and specialty surgery, critical care, internal medicine, obstetrics, diagnostic services, psychiatric and rehabilitation services. The strongest demand for hospital services generally occurs during January through April and the weakest demand for these services occurs during the summer months. Accordingly, eliminating the effect of new acquisitions, our net operating revenues and earnings are historically highest during the first quarter and lowest during the third quarter.

 

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The following tables summarize, for the periods indicated, selected operating data.

 

            Three Months Ended         
September 30,
            Nine Months Ended         
September 30,
 
    2012     2011     2012     2011  
    (Expressed as a percentage of net operating revenues)  

Consolidated:

       

Net operating revenues

    100.0 %         100.0 %         100.0 %         100.0 %    

Operating expenses (a)

    (85.3)             (84.9)             (85.0)             (85.0)        

Depreciation and amortization

    (5.7)             (5.5)             (5.5)             (5.4)        
 

 

 

   

 

 

   

 

 

   

 

 

 

Income from operations

    9.0              9.6              9.5              9.6         

Interest expense, net

    (5.0)             (5.4)             (4.7)             (5.5)        

Loss from early extinguishment of debt

    (1.6)             -              (1.2)             -         

Equity in earnings of unconsolidated affiliates

    0.2              0.3              0.3              0.4         
 

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations before income taxes

    2.6              4.5              3.9              4.5         

Provision for income taxes

    (0.8)             (1.2)             (1.2)             (1.4)        
 

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations

    1.8              3.3              2.7              3.1         

Loss from discontinued operations, net of taxes

    -              (0.2)             -              (0.6)        
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income

    1.8              3.1              2.7              2.5         

Less: Net income attributable to noncontrolling interests

    (0.4)             (0.6)             (0.6)             (0.6)        
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income attributable to Community Health Systems, Inc. stockholders

    1.4 %         2.5 %         2.1 %         1.9 %    
 

 

 

   

 

 

   

 

 

   

 

 

 

 

 

       Three Months Ended   
September 30, 2012
       Nine Months Ended   
September 30, 2012
 

Percentage increase (decrease) from same period prior year:

   

Net operating revenues

    9.0 %          9.6 %     

Admissions

    5.0              3.7         

Adjusted admissions (b)

    6.3              6.7         

Average length of stay

    (2.3)             -         

Net income attributable to Community Health Systems, Inc. (c)

    (40.5)             18.7         

Same store percentage increase (decrease) from same period prior year (d)

   

Net operating revenues

    4.0 %          4.3 %     

Admissions

    (0.3)             (1.6)        

Adjusted admissions (b)

    0.8              1.3         

 

 

(a) Operating expenses include salaries and benefits, supplies, other operating expenses, electronic health records incentive reimbursement and rent.
(b) Adjusted admissions is a general measure of combined inpatient and outpatient volume. We computed adjusted admissions by multiplying admissions by gross patient revenues and then dividing that number by gross inpatient revenues.
(c) Includes income (loss) from discontinued operations.
(d) Includes acquired hospitals to the extent we operated them in both periods.

 

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Three Months Ended September 30, 2012 Compared to Three Months Ended September 30, 2011

Net operating revenues increased $266.6 million to approximately $3.2 billion for the three months ended September 30, 2012, from approximately $2.9 billion for the three months ended September 30, 2011. Hospitals owned throughout both periods contributed $117.9 million of that increase and hospitals acquired in 2012 and 2011 contributed $148.7 million. On a same-store basis, net operating revenues increased 4.0%. The increased net operating revenues contributed by hospitals that we owned throughout both periods were primarily attributable to general rate and reimbursement increases including revenues from states with provider assessment programs.

On a consolidated basis, inpatient admissions increased by 5.0% and adjusted admissions increased by 6.3% during the three months ended September 30, 2012. On a same-store basis, inpatient admissions decreased by 0.3% during the three months ended September 30, 2012. This decrease in same-store inpatient admissions was due primarily to a decrease in admissions from women’s services including obstetrics and gynecology during the three months ended September 30, 2012, as compared to the three months ended September 30, 2011.

Operating expenses, excluding depreciation and amortization, as a percentage of net operating revenues, increased 0.4% to 85.3% for the three months ended September 30, 2012, compared to 84.9% for the three months ended September 30, 2011. Salaries and benefits, as a percentage of net operating revenues, increased 0.2% to 47.5% for the three months ended September 30, 2012, compared to 47.3% for the three months ended September 30, 2011. This increase in salaries and benefits is primarily due to recent acquisitions. Supplies, as a percentage of net operating revenues, decreased 0.5% to 15.1% for the three months ended September 30, 2012, as compared to 15.6% for the three months ended September 30, 2011. This decrease is due primarily to lower drug, implant and food costs. Other operating expenses, as a percentage of net operating revenues, increased 0.4% to 21.6% for the three months ended September 30, 2012, as compared to 21.2% for the three months ended September 30, 2011. This increase is due primarily to an increase in costs associated with provider taxes from states with provider assessment programs. Rent, as a percentage of net operating revenues, decreased 0.1% to 2.1% for the three months ended September 30, 2012, as compared to 2.2% for the three months ended September 30, 2011. Equity in earnings of unconsolidated affiliates, as a percentage of net operating revenues, decreased 0.1% to 0.2% for the three months ended September 30, 2012, as compared to 0.3% for the three months ended September 30, 2011.

Electronic health records incentive reimbursements represent those incentives under the HITECH Act for which the recognition criterion has been met. We have recognized approximately $30.6 million and $40.2 million of incentive reimbursements, or 1.0% and 1.4% of net operating revenues for the three months ended September 30, 2012 and 2011, respectively. We received payments of $12.8 million and $6.5 million during the three months ended September 30, 2012 and 2011, respectively. Operating expenses incurred related to the installation and adoption of electronic health records, including depreciation and amortization, totaled approximately 0.7% of net operating revenues, of which depreciation and amortization represented 0.3% of net operating revenues for the three months ended September 30, 2012. Operating expenses incurred related to the installation and adoption of electronic health records totaled approximately 0.3% of net operating revenues for the three months ended September 30, 2011. No depreciation and amortization was incurred during the three months ended September 30, 2011.

Depreciation and amortization, as a percentage of net operating revenues, increased 0.2% to 5.7% for the three months ended September 30, 2012, compared to 5.5% for the three months ended September 30, 2011.

Interest expense, net, decreased by $0.9 million from $159.5 million for the three months ended September 30, 2011 to $158.6 million for the three months ended September 30, 2012. A decrease in interest rates during the three months ended September 30, 2012, compared to September 30, 2011, resulted in a decrease in interest expense of $14.9 million. This decrease was partially offset by an increase in our average outstanding debt during the three months ended September 30, 2012, compared to the three months ended September 30, 2011, and by less interest being capitalized during the three months ended September 30, 2012, as compared to the three months ended September 30, 2011, as the current year period had fewer major construction projects, resulting in an increase in interest expense of $13.1 million and $0.9 million, respectively.

 

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The loss from early extinguishment of debt of $52.0 million was recognized after the purchase and redemption of the 8 7/8% Senior Notes due 2015 and the repayment of existing term loans under the Credit Facility as further discussed in Liquidity and Capital Resources.

The net of the above mentioned changes resulted in income from continuing operations before income taxes decreasing $48.0 million from $132.5 million for the three months ended September 30, 2011 to $84.5 million for the three months ended September 30, 2012.

Provision for income taxes decreased from $36.7 million for the three months ended September 30, 2011 to $25.7 million for the three months ended September 30, 2012, due primarily to the decrease in income from continuing operations before income taxes in the comparable period in 2011, as discussed above. Our effective tax rate increased from 27.7% for the three months ended September 30, 2011 to 30.4% for the three months ended September 30, 2012 due to a release of liabilities for uncertain tax positions in the period in 2011.

Income from continuing operations, as a percentage of net operating revenues, decreased 1.5% to 1.8% for the three months ended September 30, 2012, compared to 3.3% for the three months ended September 30, 2011. Net income, as a percentage of net operating revenues, decreased 1.3% to 1.8% for the three months ended September 30, 2012, compared to 3.1% for the three months ended September 30, 2011. This decrease in both income from continuing operations and net income, as a percentage of net operating revenues, was due primarily to the loss from early extinguishment of debt and a decrease in income from electronic health records incentive reimbursement.

Net income attributable to noncontrolling interests as a percentage of net operating revenues, decreased 0.2% to 0.4% for the three months ended September 30, 2012, compared to 0.6% for the three months ended September 30, 2011.

Net income attributable to Community Health Systems, Inc. was $44.2 million for the three months ended September 30, 2012, compared to $74.3 million for the three months ended September 30, 2011, representing a decrease of 40.5%. The decrease in net income is primarily due to the loss from early extinguishment of debt and a decrease in income from electronic health records incentive reimbursement.

Nine Months Ended September 30, 2012 Compared to Nine Months Ended September 30, 2011

Net operating revenues increased $851.7 million to approximately $9.8 billion for the nine months ended September 30, 2012, from approximately $8.9 billion for the nine months ended September 30, 2011. Hospitals owned throughout both periods contributed $378.7 million of that increase and hospitals acquired in 2012 and 2011 contributed $392.2 million. On a same-store basis, net operating revenues increased 4.3%. The increased net operating revenues contributed by hospitals that we owned throughout both periods were primarily attributable to general rate and reimbursement increases including revenues from states with provider assessment programs. Included in net operating revenues on a non-same store basis is approximately $101.8 million of net operating revenues from an industry-wide settlement with the United States Department of Health and Human Services and CMS, based on a claim that acute-care hospitals in the U.S. were underpaid from the Medicare inpatient prospective payment system in federal fiscal years 1999 through 2011. The underpayments resulted from calculations related to the rural floor budget neutrality adjustments implemented in connection with the Balanced Budget Act of 1997. Also included is an unfavorable adjustment of approximately $21.0 million, related to the newly issued Supplemental Security Income ratios for federal fiscal years 2006 through 2009 utilized for calculating Medicare Disproportionate Share Hospital reimbursements.

 

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On a consolidated basis, inpatient admissions increased by 3.7% and adjusted admissions increased by 6.7% during the nine months ended September 30, 2012. On a same-store basis, inpatient admissions decreased by 1.6% during the nine months ended September 30, 2012. This decrease in same-store inpatient admissions was due primarily to a decrease in admissions from women’s services including obstetrics and gynecology and fewer flu and respiratory-related admissions during the nine months ended September 30, 2012, as compared to the nine months ended September 30, 2011.

Operating expenses, excluding depreciation and amortization, as a percentage of net operating revenues, remained consistent at 85.0% for each of the nine months ended September 30, 2012 and 2011. Salaries and benefits, as a percentage of net operating revenues, decreased 0.1% to 46.6% for the nine months ended September 30, 2012, compared to 46.7% for the nine months ended September 30, 2011. This decrease in salaries and benefits, as a percentage of net operating revenues, is due primarily to the increase in non-same store net operating revenues described above as well as efficiencies gained since the prior year in our hospitals owned throughout both periods. Supplies, as a percentage of net operating revenues, decreased 0.3% to 15.1% for the nine months ended September 30, 2012, as compared to 15.4% for the nine months ended September 30, 2011. This decrease is due primarily to lower drug, implant and food costs. Other operating expenses, as a percentage of net operating revenues, increased 0.7% to 22.0% for the nine months ended September 30, 2012, as compared to 21.3% for the nine months ended September 30, 2011. This increase is due primarily to an increase in costs associated with provider taxes from states with provider assessment programs. Rent, as a percentage of net operating revenues, remained consistent at 2.1% for each of the nine months ended September 30, 2012 and 2011. Equity in earnings of unconsolidated affiliates, as a percentage of net operating revenues, decreased 0.1% to 0.3% for the nine months ended September 30, 2012, compared to 0.4% for the nine months ended September 30, 2011.

Electronic health records incentive reimbursements represent those incentives under the HITECH Act for which the recognition criterion has been met. We have recognized approximately $73.6 million and $40.2 million of incentive reimbursements, or 0.8% and 0.5% of net operating revenues, for the nine months ended September 30, 2012 and 2011, respectively. We received payments of $41.6 million and $6.5 million during the nine months ended September 30, 2012 and 2011, respectively. Operating expenses incurred related to the installation and adoption of electronic health records, including depreciation and amortization, totaled approximately 0.5% of net operating revenues, of which depreciation and amortization represented 0.3% of net operating revenues for the nine months ended September 30, 2012. Operating expenses incurred related to the installation and adoption of electronic health records totaled approximately 0.2% of net operating revenues for the nine months ended September 30, 2011. No depreciation and amortization was incurred during the nine months ended September 30, 2011.

Depreciation and amortization, as a percentage of net operating revenues, increased 0.1% to 5.5% for the nine months ended September 30, 2012, as compared to 5.4% for the nine months ended September 30, 2011.

 

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Interest expense, net, decreased by $23.6 million from $485.9 million for the nine months ended September 30, 2011 to $462.3 million for the nine months ended September 30, 2012. A decrease in interest rates during the nine months ended September 30, 2012, compared to September 30, 2011, resulted in a decrease in interest expense of $49.6 million. Additionally, interest expense decreased by $4.2 million as a result of more interest being capitalized during the nine months ended September 30, 2012, as compared to the nine months ended September 30, 2011, as the current year period had more major construction projects. These decreases were partially offset by an increase in our average outstanding debt during the nine months ended September 30, 2012, compared to the nine months ended September 30, 2011, and one additional day of interest expense since 2012 is a leap year, resulting in an increase in interest expense of $28.4 million and $1.8 million, respectively.

The loss from early extinguishment of debt of $115.5 million was recognized after the purchase and redemption of the 8 7/8% Senior Notes due 2015 and the repayment of existing term loans and revolving credit facility under the Credit Facility as further discussed in Liquidity and Capital Resources.

The net of the above mentioned changes resulted in income from continuing operations before income taxes decreasing $24.2 million from $405.9 million for the nine months ended September 30, 2011 to $381.7 million for the nine months ended September 30, 2012.

Provision for income taxes decreased from $125.6 million for the nine months ended September 30, 2011 to $121.0 million for the nine months ended September 30, 2012, due primarily to the decrease in income from continuing operations before income taxes in the comparable period in 2011, as discussed above. Our effective tax rate increased from 31.0% for the nine months ended September 30, 2011 to 31.7% for the nine months ended September 30, 2012 due to due to a release of liabilities for uncertain tax positions in the period in 2011.

Income from continuing operations, as a percentage of net operating revenues, decreased 0.4% to 2.7% for the nine months ended September 30, 2012, compared to 3.1% for the nine months ended September 30, 2011. Income from continuing operations, as a percentage of net operating revenues, was lower for the nine months ended September 30, 2012 due to the loss from early extinguishment of debt. Net income, as a percentage of net operating revenues, increased 0.2% to 2.7% for the nine months ended September 30, 2012, compared to 2.5% for the nine months ended September 30, 2011. Net income, as a percentage of net operating revenues, was lower for the nine months ended September 30, 2011 due to the loss on discontinued operations from loss on sale, impairment of hospitals held for sale and loss on entities sold.

Net income attributable to noncontrolling interests as a percentage of net operating revenues, remained consistent at 0.6% for each of the nine months ended September 30, 2012 and 2011.

Net income attributable to Community Health Systems, Inc. was $203.1 million for the nine months ended September 30, 2012, compared to $171.0 million for the nine months ended September 30, 2011, representing an increase of 18.7%. The increase in net income is primarily due to the increase in net operating revenues, income from electronic health records incentive reimbursement and a decrease in interest expense, offset by the loss from early extinguishment of debt as discussed above.

 

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Liquidity and Capital Resources

Net cash provided by operating activities decreased $42.3 million, from $820.2 million for the nine months ended September 30, 2011 to $777.9 million for the nine months ended September 30, 2012. The decrease in cash provided by operating activities, in comparison to the prior year period, is primarily due to a decrease in cash flow from the change in accounts receivable of $137.0 million, from the change in supplies, prepaid expenses and other current assets of $36.8 million, from the change in accounts payable, accrued liabilities and income taxes of $43.0 million and a decrease in other non-cash expenses related to the impairment of hospitals sold in 2011 of $47.9 million. These decreases in cash flows were partially offset by an increase in net income of $35.7 million, an increase in depreciation and amortization expense of $50.4 million, loss from early extinguishment of debt of $115.5 million, an increase in all other non-cash expenses of $7.1 million, and an increase in cash flow from the change in other assets and liabilities of $13.7 million. Included in net cash provided by operating activities for the nine months ended September 30, 2012 is $41.6 million of cash received for HITECH incentive reimbursements.

The cash used in investing activities was $1.1 billion for the nine months ended September 30, 2012, compared to $691.4 million for the nine months ended September 30, 2011. The increase in cash used in investing activities, in comparison to the prior year period, is primarily due to an increase in cash used for acquisition of facilities and other related equipment of $103.5 million, an increase in cash used for purchasing property and equipment of $24.6 million and an increase in cash used for other investments of $91.2 million. Included in cash outflows for other investments for the nine months ended September 30, 2012 is approximately $103.2 million of capital expenditures related to the purchase and implementation of certified EHR technology. The remaining cash outflows for other investments consists primarily of purchases and development of other internal-use software and payments made under non-employee physician recruiting agreements, of $119.0 million. Other reasons for the increase in cash used in investing activities were the decrease in proceeds from the disposition of ancillary operations of $172.6 million and the decrease in proceeds received from the sale of property and equipment of $4.5 million.

The cash provided by financing activities was $420.7 million for the nine months ended September 30, 2012, compared to $161.6 million used in financing activities for the nine months ended September 30, 2011. The increase in cash provided by financing activities is due primarily to the increase in borrowings under the credit agreement, proceeds from the Receivables Facility and the issuance of long-term debt, offset partially by repayments of long-term debt during the nine months ended September 30, 2012, in comparison to the prior year period.

 Capital Expenditures

Cash expenditures related to purchases of facilities were $312.9 million for the nine months ended September 30, 2012, compared to $209.5 million for the nine months ended September 30, 2011. The expenditures during the nine months ended September 30, 2012 were for the purchase of three hospitals in Pennsylvania, one hospital in Illinois, a physician practice in Texas, surgery centers and other physician practices and the settlement of working capital items from prior acquisitions and divestitures. The expenditures during the nine months ended September 30, 2011 were for the purchase of three hospitals in Pennsylvania, surgery centers and physician practices and the settlement of working capital items from 2010 acquisitions.

 

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Excluding the cost to construct replacement hospitals, our cash expenditures for routine capital for the nine months ended September 30, 2012 totaled $465.6 million, compared to $406.5 million for the nine months ended September 30, 2011. These capital expenditures related primarily to the purchase of additional equipment, minor renovations and information systems infrastructure. Costs to construct replacement hospitals for the nine months ended September 30, 2012 totaled $91.9 million, compared to $126.3 million for the nine months ended September 30, 2011. The costs to construct replacement hospitals for both of the nine-month periods ended September 30, 2012 and 2011 represented both planning and construction costs for the four replacement hospitals discussed below.

Pursuant to hospital purchase agreements in effect as of September 30, 2012, and where final certificate of need approval has been obtained, we have commitments to build the following four replacement facilities: As required by an amendment to our lease agreement entered into in 2005, we agreed to build a replacement hospital at our Barstow, California location by November 2012. This replacement hospital was completed in September 2012 and occupied in October 2012. As part of an acquisition in 2007, we agreed to build a replacement hospital in Valparaiso, Indiana, which opened in August 2012. As part of an acquisition in 2009, we agreed to build a replacement hospital in Siloam Springs, Arkansas, which opened in April 2012. As part of an acquisition in 2012, we agreed to build a replacement hospital in York, Pennsylvania, by July 2017. Construction costs, including equipment costs, for these four replacement facilities are currently estimated to be approximately $368.5 million, of which approximately $302.1 million has been incurred to date. In addition, in October 2008, after the purchase of the noncontrolling owner’s interest in our Birmingham, Alabama facility, we initiated the purchase of a site, which includes a partially constructed hospital structure, for a potential replacement to our existing Birmingham facility. In September 2010, we received approval of our request for a certificate of need from the Alabama Certificate of Need Review Board; however, this certificate of need remains subject to the final resolution of an appeal process. Our estimated construction costs, including the acquisition of the site and equipment costs, are approximately $280.0 million for the Birmingham replacement facility.

 Capital Resources

Net working capital was approximately $1.2 billion at September 30, 2012, compared to approximately $935.0 million at December 31, 2011. The increase in net working capital is primarily attributable to an increase in working capital from the acquisition of four hospitals and a large physician practice and an increase in patient accounts receivable, offset by a decrease in income taxes receivable from tax refunds received.

In connection with the consummation of the Triad acquisition in July 2007, we obtained approximately $7.2 billion of senior secured financing under the Credit Facility with a syndicate of financial institutions led by Credit Suisse, as administrative agent and collateral agent. The Credit Facility consisted of an approximately $6.1 billion funded term loan facility with a maturity of seven years, a $300 million delayed draw term loan facility (subsequently reduced by us from $400 million) with a maturity of seven years and a $750 million revolving credit facility with a maturity of six years. During the fourth quarter of 2008, $100 million of the delayed draw term loan had been drawn down by us, reducing the delayed draw term loan availability to $200 million at December 31, 2008. In January 2009, we drew down the remaining $200 million of the delayed draw term loan. The revolving credit facility also includes a subfacility for letters of credit and a swingline subfacility. The Credit Facility requires quarterly amortization payments of each term loan facility

 

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equal to 0.25% of the outstanding amount of the term loans. On November 5, 2010, we entered into an amendment and restatement of our existing Credit Facility. The amendment extended by two and a half years, until January 25, 2017, the maturity date of $1.5 billion of our existing term loans under the Credit Facility and increased the pricing on these term loans to LIBOR plus 350 basis points. The amendment also increased our ability to issue additional indebtedness under the uncommitted incremental facility to $1.0 billion from $600 million, permitted us to issue term loan A loans under the incremental facility and provided up to $2.0 billion of borrowing capacity from receivable transactions, an increase of $0.5 billion, of which approximately $1.7 billion would be required to be used for repayment of our existing term loans. On February 2, 2012, we completed a second amendment and restatement of the Credit Facility to extend an additional $1.6 billion of our existing non-extended term loans under the Credit Facility to match the maturity date and interest rate margins of the extended term loans due January 25, 2017. On August 3, 2012, we entered into a third amendment of the Credit Facility to provide increased flexibility for refinancing and repayment of the existing non-extended term loans and amend certain other terms. On August 22, 2012, we entered into a loan modification agreement with respect to the Credit Facility to extend approximately $340 million of the existing non-extended term loans to match the maturity date and interest rate margins of the extended term loans due January 25, 2017. The July 25, 2014 maturity date of the balance of the remaining non-extended term loans at September 30, 2012 of approximately $266.1 million remains unchanged.

Effective March 6, 2012, we obtained a new $750 million senior secured revolving credit facility, or the Replacement Revolver Facility, and a new $750 million incremental term loan A facility, or the Incremental Term Loan. The Replacement Revolver Facility replaced in full the existing revolving credit facility under the Credit Facility. The net proceeds of the Incremental Term Loan were used to repay the same amount of the existing term loans under the Credit Facility. Both the Replacement Revolver Facility and the Incremental Term Loan have a maturity date of October 25, 2016, subject to customary acceleration events and to the repayment, extension or refinancing with longer maturity debt of substantially all of the then outstanding term loans maturing July 25, 2014 and the now fully redeemed 8 7/8% Senior Notes due 2015. The pricing on each of the Replacement Revolver Facility and the Incremental Term Loan is initially LIBOR plus a margin of 250 basis points, subject to adjustment based on our leverage ratio. The Incremental Term Loan amortizes at 5% in year one, 10% in years two and three, 15% in year four and 60% in year five.

The term loan facility must be prepaid in an amount equal to (1) 100% of the net cash proceeds of certain asset sales and dispositions by us and our subsidiaries, subject to certain exceptions and reinvestment rights, (2) 100% of the net cash proceeds of issuances of certain debt obligations or receivables-based financing by us and our subsidiaries, subject to certain exceptions, and (3) 50%, subject to reduction to a lower percentage based on our leverage ratio (as defined in the Credit Facility generally as the ratio of total debt on the date of determination to our EBITDA, as defined, for the four quarters most recently ended prior to such date), of excess cash flow (as defined) for any year, commencing in 2008, subject to certain exceptions. Voluntary prepayments and commitment reductions are permitted in whole or in part, without any premium or penalty, subject to minimum prepayment or reduction requirements.

The obligor under the Credit Facility is CHS. All of our obligations under the Credit Facility are unconditionally guaranteed by Community Health Systems, Inc. and certain of its existing and subsequently acquired or organized domestic subsidiaries. All obligations under the Credit Facility and the related guarantees are secured by a perfected first priority lien or security interest in substantially all of the assets of Community Health Systems, Inc., CHS and each subsidiary guarantor, including equity interests held by us or any subsidiary guarantor, but excluding, among others, the equity interests of non-significant subsidiaries, syndication subsidiaries, securitization subsidiaries and joint venture subsidiaries.

 

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The loans under the Credit Facility bear interest on the outstanding unpaid principal amount at a rate equal to an applicable percentage plus, at our option, either (a) an Alternate Base Rate (as defined) determined by reference to the greater of (1) the Prime Rate (as defined) announced by Credit Suisse or (2) the Federal Funds Effective Rate (as defined) plus 0.5% or (3) the adjusted LIBOR rate on such day for a three-month interest period commencing on the second business day after such day plus 1%, or (b) a reserve adjusted LIBOR for dollars (Eurodollar rate) (as defined). The applicable percentage for Alternate Base Rate loans is 1.25% for term loans due 2014 and 2.25% for term loans due 2017. The applicable percentage for Eurodollar rate loans is 2.25% for term loans due 2014 and 3.5% for term loans due 2017. The applicable percentage for revolving loans was initially 1.25% for Alternate Base Rate revolving loans and 2.25% for Eurodollar revolving loans, in each case subject to reduction based on our leverage ratio. Loans under the swingline subfacility bear interest at the rate applicable to Alternate Base Rate loans under the revolving credit facility.

We have agreed to pay letter of credit fees equal to the applicable percentage then in effect with respect to Eurodollar rate loans under the revolving credit facility times the maximum aggregate amount available to be drawn under all letters of credit outstanding under the subfacility for letters of credit. The issuer of any letter of credit issued under the subfacility for letters of credit will also receive a customary fronting fee and other customary processing charges. We are obligated to pay commitment fees of 0.50% per annum (subject to reduction based upon our leverage ratio), on the unused portion of the revolving credit facility. For purposes of this calculation, swingline loans are not treated as usage of the revolving credit facility. With respect to the delayed draw term loan facility, we were also obligated to pay commitment fees of 0.50% per annum for the first nine months after the close of the Credit Facility and 0.75% per annum for the next three months after such nine-month period and thereafter 1.0% per annum. In each case, the commitment fee was based on the unused amount of the delayed draw term loan facility. After the draw down of the remaining $200 million of the delayed draw term loan in January 2009, we no longer pay any commitment fees for the delayed draw term loan facility. We also paid arrangement fees on the closing of the Credit Facility and pay an annual administrative agent fee.

The Credit Facility contains customary representations and warranties, subject to limitations and exceptions, and customary covenants restricting our and our subsidiaries’ ability, subject to certain exception, to, among other things, (1) declare dividends, make distributions or redeem or repurchase capital stock, (2) prepay, redeem or repurchase other debt, (3) incur liens or grant negative pledges, (4) make loans and investments and enter into acquisitions and joint ventures, (5) incur additional indebtedness or provide certain guarantees, (6) make capital expenditures, (7) engage in mergers, acquisitions and asset sales, (8) conduct transactions with affiliates, (9) alter the nature of our businesses, (10) grant certain guarantees with respect to physician practices, (11) engage in sale and leaseback transactions or (12) change our fiscal year. We and our subsidiaries are also required to comply with specified financial covenants (consisting of a leverage ratio and an interest coverage ratio) and various affirmative covenants.

Events of default under the Credit Facility include, but are not limited to, (1) our failure to pay principal, interest, fees or other amounts under the credit agreement when due (taking into account any applicable grace period), (2) any representation or warranty proving to have been materially incorrect when made, (3) covenant defaults subject, with respect to certain covenants, to a grace period, (4) bankruptcy events, (5) a cross default to certain other debt, (6) certain undischarged judgments (not paid within an applicable grace period), (7) a change of control, (8) certain ERISA-related defaults and (9) the invalidity or impairment of specified security interests, guarantees or subordination provisions in favor of the administrative agent or lenders under the Credit Facility.

 

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As of September 30, 2012, the availability for additional borrowings under our Credit Facility was approximately $750 million pursuant to the revolving credit facility, of which $37.7 million was set aside for outstanding letters of credit. We believe that these funds, along with internally generated cash and continued access to the bank credit and capital markets, will be sufficient to finance future acquisitions, capital expenditures and working capital requirements through the next 12 months and into the foreseeable future.

On March 21, 2012, CHS completed the secondary offering of $1.0 billion aggregate principal amount of 8% Senior Notes due 2019, which were issued in a private placement (at a premium of 102.5%). The net proceeds from this issuance were used to finance the purchase of $850 million aggregate principal amount of CHS’ outstanding 8 7/8% Senior Notes due 2015, to pay related fees and expenses and for general corporate purposes. On March 21, 2012, CHS completed the cash tender offer for $850 million of the then $1.8 billion aggregate outstanding principal amount of 8 7/8% Senior Notes due 2015.

On July 18, 2012, CHS completed an underwritten public offering under our automatic shelf registration filed with the Securities and Exchange Commission for $1.2 billion aggregate principal amount of 7 1/8% Senior Notes due 2020. The net proceeds of the offering were used to finance the purchase or redemption of the then outstanding $934.3 million principal amount plus accrued interest of the 8 7/8% Senior Notes due 2015, to pay for consents delivered in connection therewith, to pay related fees and expenses, and for general corporate purposes.

On August 17, 2012, CHS completed an underwritten public offering under our automatic shelf registration filed with the Securities and Exchange Commission for $1.6 billion aggregate principal amount of 5 1/8% Senior Secured Notes due 2018. The 5 1/8% Senior Secured Notes are secured by a first-priority lien subject to a shared lien of equal priority with certain other obligations, including obligations under the Credit Facility, and subject to prior ranking liens permitted by the indenture governing the 5 1/8% Senior Secured Notes on substantially the same assets, subject to certain exceptions, that secure CHS’ obligations under the Credit Facility. The net proceeds of the offering, together with available cash on hand, were used to finance the prepayment of $1.6 billion of the outstanding non-extended term loans under the Credit Facility and related fees and expenses.

On March 21, 2012, through certain of our subsidiaries, we entered into an accounts receivable loan agreement, or the Receivables Facility, with a group of conduit lenders and liquidity banks, Credit Agricolé Corporate and Investment Bank, as a managing agent and as the administrative agent, and The Bank of Nova Scotia, as a managing agent. The existing and future patient-related accounts receivable, or the Receivables, for certain of our hospitals serve as collateral for the outstanding borrowings under the Receivables Facility. The interest rate on the borrowings is based on the commercial paper rate plus an applicable interest rate spread. Unless earlier terminated or subsequently extended pursuant to its terms, the Receivables Facility will expire on March 21, 2014, subject to customary termination events that could cause an early termination date. We maintain effective control over the Receivables because, pursuant to the terms of the Receivables Facility, the Receivables are sold from certain of our subsidiaries to us, and we then sell or contribute the Receivables to a special-purpose entity that is wholly-owned by us. The wholly-owned special-purpose entity in turn grants security interests in the Receivables in exchange for borrowings obtained from the group of third-party conduit lenders and liquidity banks of up to $300 million outstanding from time to time based on the availability of eligible Receivables and other customary factors. The group of third-party conduit lenders and liquidity banks do not have recourse to us or our subsidiaries beyond the assets of the wholly-owned special-purpose entity that collateralizes the loan. The Receivables and other assets of the wholly-owned special-purpose entity will be available first and foremost to satisfy the claims of the creditors of such entity. The outstanding borrowings pursuant to the Receivables Facility at September 30, 2012 totaled $300.0 million and are classified as long-term debt on the condensed consolidated balance sheet. At September 30, 2012, the carrying amount of Receivables included in the Receivables Facility totaled approximately $866.5 million and are included in patient accounts receivable on the condensed consolidated balance sheet.

 

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As of September 30, 2012, we are a party to the following interest rate swap agreements to limit the effect of changes in interest rates on approximately 76% of our variable rate debt. On each of these swaps, we receive a variable rate of interest based on the three-month LIBOR in exchange for the payment by us of a fixed rate of interest. We currently pay, on a quarterly basis, a margin above LIBOR of 225 basis points for revolving credit and term loans due 2014 and 350 basis points for term loans due 2017 under the Credit Facility.

 

 

            Swap #             

    Notional Amount  
(in 000’s)
     Fixed Interest Rate                   Termination Date                   Fair Value of
 Liability (in 000’s) 
 
1      $                100,000         3.352 %           October 23, 2012         $                        186    
2     125,000         4.375 %           November 23, 2012        729    
3     75,000         4.380 %           November 23, 2012        436    
4     150,000         5.020 %           November 30, 2012        1,146    
5     200,000         2.242 %           February 28, 2013        1,558    
6     100,000         5.023 %           May 30, 2013        3,114    
7     300,000         5.242 %           August 6, 2013        12,533    
8     100,000         5.038 %           August 30, 2013        4,313    
9     50,000         3.586 %           October 23, 2013        1,729    
10     50,000         3.524 %           October 23, 2013        1,696    
11     100,000         5.050 %           November 30, 2013        5,495    
12     200,000         2.070 %           December 19, 2013        4,217    
13     100,000         5.231 %           July 25, 2014        8,824    
14     100,000         5.231 %           July 25, 2014        8,823    
15     200,000         5.160 %           July 25, 2014        17,390    
16     75,000         5.041 %           July 25, 2014        6,359    
17     125,000         5.022 %           July 25, 2014        10,555    
18     100,000         2.621 %           July 25, 2014        4,095    
19     100,000         3.110 %           July 25, 2014        4,981    
20     100,000         3.258 %           July 25, 2014        5,249    
21     200,000         2.693 %           October 26, 2014        9,575    
22     300,000         3.447 %           August 8, 2016        32,294    
23     200,000         3.429 %           August 19, 2016        21,510    
24     100,000         3.401 %           August 19, 2016        10,654    
25     200,000         3.500 %           August 30, 2016        22,165    
26     100,000         3.005 %           November 30, 2016        9,584    

The Credit Facility and/or the Notes contain various covenants that limit our ability to take certain actions including, among other things, our ability to:

 

   

incur, assume or guarantee additional indebtedness;

 

   

issue redeemable stock and preferred stock;

 

   

repurchase capital stock;

 

   

make restricted payments, including paying dividends and making investments;

 

   

redeem debt that is junior in right of payment to the notes;

 

   

create liens without securing the notes;

 

   

sell or otherwise dispose of assets, including capital stock of subsidiaries;

 

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enter into agreements that restrict dividends from subsidiaries;

 

   

merge, consolidate, sell or otherwise dispose of substantial portions of our assets;

 

   

enter into transactions with affiliates; and

 

   

guarantee certain obligations.

In addition, our Credit Facility contains restrictive covenants and requires us to maintain specified financial ratios and satisfy other financial condition tests. We were in compliance with all financial ratios and other financial condition tests at September 30, 2012, and expect to remain in compliance in the future. Our ability to meet these restrictive covenants and financial ratios and tests can be affected by events beyond our control, and we cannot assure you that we will meet those tests. A breach of any of these covenants could result in a default under our Credit Facility and/or the Notes. Upon the occurrence of an event of default under our Credit Facility or the Notes, all amounts outstanding under our Credit Facility and the Notes may become due and payable and all commitments under the Credit Facility to extend further credit may be terminated.

We believe that internally generated cash, availability for additional borrowings under our Credit Facility of $750 million (consisting of a $750 million revolving credit facility, of which $37.7 million is set aside for outstanding letters of credit as of September 30, 2012) and our ability to amend the Credit Facility to provide for one or more tranches of term loans in an aggregate principal amount of $1.0 billion and our continued access to the bank credit and capital markets will be sufficient to finance acquisitions, capital expenditures and working capital requirements through the next 12 months. We believe these same sources of cash, borrowings under our Credit Facility as well as access to bank credit and capital markets will be available to us beyond the next 12 months and into the foreseeable future.

On May 24, 2012, we filed a universal automatic shelf registration statement on Form S-3ASR that will permit us, from time to time, in one or more public offerings, to offer debt securities, common stock, preferred stock, warrants, depositary shares, or any combination of such securities. The shelf registration statement will also permit our subsidiary, CHS, to offer debt securities that would be guaranteed by us, from time to time in one or more public offerings. The terms of any such future offerings would be established at the time of the offering.

The ratio of earnings to fixed charges is a measure of our ability to meet our fixed obligations related to our indebtedness. The following table shows the ratio of earnings to fixed charges for the nine months ended September 30, 2012:

 

       Nine Months Ended  
September 30, 2012
 

Ratio of earnings to fixed charges (1)

     1.66 x       

 

 

 

(1) Fixed charges include interest expensed and capitalized during the year plus an estimate of the interest component of rent expense. There are no shares of preferred stock outstanding. See exhibit 12 filed as part of this Report for the calculation of this ratio.

 

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Off-balance Sheet Arrangements

Our consolidated operating results for the nine months ended September 30, 2012 and 2011, included $168.0 million and $155.7 million, respectively, of net operating revenues and $20.3 million and $14.6 million, respectively, of income from operations generated from five hospitals operated by us under operating lease arrangements. In accordance with accounting principles generally accepted in the United States of America, or U.S. GAAP, the respective assets and the future lease obligations under these arrangements are not recorded on our condensed consolidated balance sheet. Lease costs under these arrangements are included in rent expense and totaled approximately $8.7 million and $8.9 million for the nine months ended September 30, 2012 and 2011, respectively. The current terms of these operating leases expire between January 2013 and June 2022, not including lease extension options. If we allow these leases to expire, we would no longer generate revenue nor incur expenses from these hospitals.

In the past, we have utilized operating leases as a financing tool for obtaining the operations of specified hospitals without acquiring, through ownership, the related assets of the hospital and without a significant outlay of cash at the front end of the lease. We utilize the same operating strategies to improve operations at those hospitals held under operating leases as we do at those hospitals that we own. We have not entered into any operating leases for hospital operations since December 2000.

 

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Noncontrolling Interests

We have sold noncontrolling interests in certain of our subsidiaries or acquired subsidiaries with existing noncontrolling interest ownership positions. As of September 30, 2012, we have hospitals in 21 of the markets we serve, with noncontrolling physician ownership interests ranging from less than 1% to 40%, including one hospital that also has a non-profit entity as a partner. In addition, we have three other hospitals with noncontrolling interests owned by non-profit entities. During the three months ended March 31, 2012, one of our subsidiaries purchased the outstanding partnership interests not already owned by us that were held by physician investors in the limited partnership that owns and operates Longview Regional Medical Center in Longview, Texas. The purchase price for these partnership interests was $28.8 million. After acquiring these partnership interests, one or more of our subsidiaries collectively own 100% of the outstanding equity of the limited partnership that owns and operates this hospital. Redeemable noncontrolling interests in equity of consolidated subsidiaries was $370.5 million and $395.7 million as of September 30, 2012 and December 31, 2011, respectively. Noncontrolling interests in equity of consolidated subsidiaries was $58.3 million and $67.3 million as of September 30, 2012 and December 31, 2011, respectively. The amount of net income attributable to noncontrolling interests was $14.5 million and $18.3 million for the three months ended September 30, 2012 and 2011, respectively, and $57.1 million and $53.5 million for the nine months ended September 30, 2012 and 2011, respectively. As a result of the change in the Stark Law “whole hospital” exception included in the Reform Legislation, we are not permitted to introduce physician ownership at any of our wholly-owned facilities or increase the aggregate percentage of physician ownership in any of our existing joint ventures.

Reimbursement, Legislative and Regulatory Changes

The Reform Legislation was enacted in the context of other ongoing legislative and regulatory efforts, which would reduce or otherwise adversely affect the payments we receive from Medicare and Medicaid. Within the statutory framework of the Medicare and Medicaid programs, including programs currently unaffected by the Reform Legislation, there are substantial areas subject to administrative rulings, interpretations, and discretion which may further affect payments made under those programs, and the federal and state governments might, in the future, reduce the funds available under those programs or require more stringent utilization and quality reviews of hospital facilities. Additionally, there may be a continued rise in managed care programs and additional restructuring of the financing and delivery of healthcare in the United States. These events could cause our future financial results to decline. We cannot estimate the impact of Medicare and Medicaid reimbursement changes that have been enacted or are under consideration. We cannot predict whether additional reimbursement reductions will be made or whether any such changes would have a material adverse effect on our business, financial conditions, results of operations, cash flow, capital resources and liquidity.

Inflation

The healthcare industry is labor intensive. Wages and other expenses increase during periods of inflation and when labor shortages occur in the marketplace. In addition, our suppliers pass along rising costs to us in the form of higher prices. We have implemented cost control measures, including our case and resource management program, to curb increases in operating costs and expenses. We have generally offset increases in operating costs by increasing reimbursement for services, expanding services and reducing costs in other areas. However, we cannot predict our ability to cover or offset future cost increases, particularly any increases in our cost of providing health insurance benefits to our employees as a result of the Reform Legislation.

Critical Accounting Policies

The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with U.S. GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amount of assets and liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities at the date of our consolidated financial statements. Actual results may differ from these estimates under different assumptions or conditions.

Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and potentially result in materially different results under different assumptions and conditions. We believe that our critical accounting policies are limited to those described below.

 

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Third-Party Reimbursement

Net operating revenues include amounts estimated by management to be reimbursable by Medicare and Medicaid under prospective payment systems and provisions of cost-reimbursement and other payment methods. In addition, we are reimbursed by non-governmental payors using a variety of payment methodologies. Amounts we receive for treatment of patients covered by these programs are generally less than the standard billing rates. Contractual allowances are automatically calculated and recorded through our internally developed “automated contractual allowance system.” Within the automated system, actual Medicare DRG data and payors’ historical paid claims data are utilized to calculate the contractual allowances. This data is automatically updated on a monthly basis. All hospital contractual allowance calculations are subjected to monthly review by management to ensure reasonableness and accuracy. We account for the differences between the estimated program reimbursement rates and the standard billing rates as contractual allowance adjustments, which we deduct from gross revenues to arrive at net operating revenues. The process of estimating contractual allowances requires us to estimate the amount expected to be received based on payor contract provisions. The key assumption in this process is the estimated contractual reimbursement percentage, which is based on payor classification and historical paid claims data. Due to the complexities involved in these estimates, actual payments we receive could be different from the amounts we estimate and record. If the actual contractual reimbursement percentage under government programs and managed care contracts differed by 1% at September 30, 2012 from our estimated reimbursement percentage, net income for the nine months ended September 30, 2012 would have changed by approximately $40.3 million, and net accounts receivable at September 30, 2012 would have changed by $64.9 million. Final settlements under some of these programs are subject to adjustment based on administrative review and audit by third parties. We account for adjustments to previous program reimbursement estimates as contractual allowance adjustments and report them in the periods that such adjustments become known. During the nine months ended September 30, 2012, we recognized a net after-tax benefit of $42.8 million from the resolution of two industry-wide governmental payment updates related to prior periods. Other than this adjustment, contractual allowance adjustments related to final settlements and previous program reimbursement estimates impacted net operating revenues and net income by an insignificant amount in each of the three-month and nine-month periods ended September 30, 2012 and 2011.

Allowance for Doubtful Accounts

Substantially all of our accounts receivable are related to providing healthcare services to our hospitals’ patients. Collection of these accounts receivable is our primary source of cash and is critical to our operating performance. Our primary collection risks relate to uninsured patients and outstanding patient balances for which the primary insurance payor has paid some but not all of the outstanding balance, with the remaining outstanding balance (generally deductibles and co-payments) owed by the patient. At the point of service, for patients required to make a co-payment, we generally collect less than 15% of the related revenue. For all procedures scheduled in advance, our policy is to verify insurance coverage prior to the date of the procedure. Insurance coverage is not verified in advance of procedures for walk-in and emergency room patients.

We estimate the allowance for doubtful accounts by reserving a percentage of all self-pay accounts receivable without regard to aging category, based on collection history, adjusted for expected recoveries and, if present, anticipated changes in trends. For all other non-self-pay payor categories, we reserve 100% of all accounts aging over 365 days from the date of discharge. The percentage used to reserve for all self-pay accounts is based on our collection history. We believe that we collect substantially all of our third-party insured receivables, which include receivables from governmental agencies.

Collections are impacted by the economic ability of patients to pay and the effectiveness of our collection efforts. Significant changes in payor mix, business office operations, economic conditions or trends in federal and state governmental healthcare coverage could affect our collection of accounts receivable. The process of estimating the allowance for doubtful accounts requires us to estimate the collectability of self-pay accounts receivable, which is primarily based on our collection history, adjusted for expected recoveries and, if available, anticipated changes in collection trends. Significant change in payor mix, business office operations, economic conditions, trends in federal and state governmental healthcare coverage or other third-party payors could affect our estimates of accounts receivable collectability. If the actual collection percentage differed by 1% at September 30, 2012 from our estimated collection percentage as a result of a change in expected recoveries, net income for the nine months ended September 30, 2012 would have changed by $22.9 million, and net accounts receivable at September 30, 2012 would have changed by $36.9 million. We also continually review our overall reserve adequacy by monitoring historical cash collections as a percentage of trailing net revenue less provision for bad debts, as well as by analyzing current period net revenue and admissions by payor classification, aged accounts receivable by payor, days revenue outstanding and the impact of recent acquisitions and dispositions.

Our policy is to write-off gross accounts receivable if the balance is under $10.00 or when such amounts are placed with outside collection agencies. We believe this policy accurately reflects our ongoing collection efforts and is consistent with industry practices. We had approximately $2.4 billion and $2.2 billion at September 30, 2012 and December 31, 2011, respectively, being pursued by various outside collection agencies. We expect to collect less than 3%, net of estimated collection fees, of the amounts being pursued by outside collection agencies. As these amounts have been written-off, they are not included in our gross accounts receivable or our allowance for doubtful accounts. Collections on amounts previously written-off are recognized as a reduction to bad debt expense when received. However, we take into consideration estimated collections of these future amounts written-off in evaluating the reasonableness of our allowance for doubtful accounts.

 

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All of the following information is derived from our hospitals, excluding clinics, unless otherwise noted.

Patient accounts receivable from our hospitals represent approximately 95% of our total consolidated accounts receivable.

Days revenue outstanding was 60 days and 56 days at September 30, 2012 and December 31, 2011, respectively. Our target range for days revenue outstanding is 53 to 63 days.

Total gross accounts receivable (prior to allowance for contractual adjustments and doubtful accounts) was approximately $9.8 billion and $8.3 billion as of September 30, 2012 and December 31, 2011, respectively.

The approximate percentage of total gross accounts receivable (prior to allowances for contractual adjustments and doubtful accounts) summarized by payor category is as follows:

 

     September 30, 2012      December 31, 2011  

Insured receivables

     63.1 %           63.7 %     

Self-pay receivables

                             36.9                                      36.3          

Total

                            100.0 %                                100.0 %     

For the hospital segment, the combined total of the allowance for doubtful accounts for self-pay accounts receivable and related allowances for other self-pay discounts and contractuals, as a percentage of gross self-pay receivables, was approximately 84% at both September 30, 2012 and December 31, 2011. If the receivables that have been written-off, but where collections are still being pursued by outside collection agencies, were included in both the allowances and gross self-pay receivables specified above, the percentage of combined allowances to total self-pay receivables would have been approximately 91% at both September 30, 2012 and December 31, 2011.

Goodwill and Other Intangibles

Goodwill represents the excess of the fair value of the consideration conveyed in the acquisition over the fair value of net assets acquired. Goodwill is evaluated for impairment at the same time every year and when an event occurs or circumstances change that, more likely than not, reduce the fair value of the reporting unit below its carrying value. There is a two-step method for determining goodwill impairment. Step one is to compare the fair value of the reporting unit with the unit’s carrying amount, including goodwill. If this test indicates the fair value is less than the carrying value, then step two is required to compare the implied fair value of the reporting unit’s goodwill with the carrying value of the reporting unit’s goodwill. We performed our last annual goodwill evaluation during the fourth quarter of 2011. No impairment was indicated by this evaluation. The next annual goodwill evaluation will be performed during the fourth quarter of 2012.

Impairment or Disposal of Long-Lived Assets

Whenever events or changes in circumstances indicate that the carrying values of certain long-lived assets may be impaired, we project the undiscounted cash flows expected to be generated by these assets. If the projections indicate that the reported amounts are not expected to be recovered, such amounts are reduced to their estimated fair value based on a quoted market price, if available, or an estimate based on valuation techniques available in the circumstances.

Professional Liability Insurance Claims

As part of our business of owning and operating hospitals, we are subject to legal actions alleging liability on our part. We accrue for losses resulting from such liability claims, as well as loss adjustment expenses that are out-of-pocket and directly related to such liability claims. These direct out-of-pocket expenses include fees of outside counsel and experts. We do not accrue for costs that are part of our corporate overhead, such as the costs of our in-house legal and risk management departments. The losses resulting from professional liability claims primarily consist of estimates for known claims, as well as estimates for incurred but not reported claims. The estimates are based on specific claim facts, our historical claim reporting and payment patterns, the nature and level of our hospital operations, and

 

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actuarially determined projections. The actuarially determined projections are based on our actual claim data, including historic reporting and payment patterns which have been gathered over approximately a 20-year period. As discussed below, since we purchase excess insurance on a claims-made basis that transfers risk to third-party insurers, the liability we accrue does include an amount for the losses covered by our excess insurance. We also record a receivable for the expected reimbursement of losses covered by our excess insurance. Since we believe that the amount and timing of our future claims payments are reliably determinable, we discount the amount we accrue for losses resulting from professional liability claims using the risk-free interest rate corresponding to the timing of our expected payments.

The net present value of the projected payments was discounted using a weighted-average risk-free rate of 1.2% and 1.3% in 2011 and 2010, respectively. This liability is adjusted for new claims information in the period such information becomes known to us. Professional malpractice expense includes the losses resulting from professional liability claims and loss adjustment expense, as well as paid excess insurance premiums, and is presented within other operating expenses in the accompanying condensed consolidated statements of income.

Our processes for obtaining and analyzing claims and incident data are standardized across all of our hospitals and have been consistent for many years. We monitor the outcomes of the medical care services that we provide and for each reported claim, we obtain various information concerning the facts and circumstances related to that claim. In addition, we routinely monitor current key statistics and volume indicators in our assessment of utilizing historical trends. The average lag period between claim occurrence and payment of a final settlement is between four and five years, although the facts and circumstances of individual claims could result in the timing of such payments being different from this average. Since claims are paid promptly after settlement with the claimant is reached, settled claims represent less than 1.0% of the total liability at the end of any period.

For purposes of estimating our individual claim accruals, we utilize specific claim information, including the nature of the claim, the expected claim amount, the year in which the claim occurred and the laws of the jurisdiction in which the claim occurred. Once the case accruals for known claims are determined, information is stratified by loss layers and retentions, accident years, reported years, geography, and claims relating to the acquired Triad hospitals versus claims relating to our other hospitals. Several actuarial methods are used against this data to produce estimates of ultimate paid losses and reserves for incurred but not reported claims. Each of these methods uses our company-specific historical claims data and other information. This company-specific data includes information regarding our business, including historical paid losses and loss adjustment expenses, historical and current case loss reserves, actual and projected hospital statistical data, a variety of hospital census information, employed physician information, professional liability retentions for each policy year, geographic information and other data.

Based on these analyses, we determine our estimate of the professional liability claims. The determination of management’s estimate, including the preparation of the reserve analysis that supports such estimate, involves subjective judgment of management. Changes in reserving data or the trends and factors that influence reserving data may signal fundamental shifts in our future claim development patterns or may simply reflect single-period anomalies. Even if a change reflects a fundamental shift, the full extent of the change may not become evident until years later. Moreover, since our methods and models use different types of data and we select our liability from the results of all of these methods, we typically cannot quantify the precise impact of such factors on our estimates of the liability. Due to our standardized and consistent processes for handling claims and the long history and depth of our company-specific data, our methodologies have produced reliably determinable estimates of ultimate paid losses.

 

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We are primarily self-insured for these claims; however, we obtain excess insurance that transfers the risk of loss to a third-party insurer for claims in excess of our self-insured retentions. Our excess insurance is underwritten on a claims-made basis. For claims reported prior to June 1, 2002, substantially all of our professional and general liability risks were subject to a $0.5 million per occurrence self-insured retention and for claims reported from June 1, 2002 through June 1, 2003, these self-insured retentions were $2.0 million per occurrence. Substantially all claims reported after June 1, 2003 and before June 1, 2005 are self-insured up to $4 million per claim. Substantially all claims reported on or after June 1, 2005 are self-insured up to $5 million per claim. Management, on occasion, has selectively increased the insured risk at certain hospitals based upon insurance pricing and other factors and may continue that practice in the future. Excess insurance for all hospitals has been purchased through commercial insurance companies and generally covers us for liabilities in excess of the self-insured retentions. The excess coverage consists of multiple layers of insurance, the sum of which totals up to $95 million per occurrence and in the aggregate for claims reported on or after June 1, 2003, up to $145 million per occurrence and in the aggregate for claims incurred and reported after January 1, 2008 and up to $195 million per occurrence and in the aggregate for claims reported after June 1, 2010. For certain policy years, if the first aggregate layer of excess coverage becomes fully utilized, then the self-insured retention could increase to $10 million per claim for any subsequent claims in that policy year until our total aggregate coverage is met.

Effective January 1, 2008, the former Triad hospitals are insured on a claims-made basis as described above and through commercial insurance companies as described above for substantially all claims occurring on or after January 1, 2002 and reported on or after January 1, 2008. Substantially all losses for the former Triad hospitals in periods prior to May 1, 1999 were insured through a wholly- owned insurance subsidiary of HCA Inc., or HCA, Triad’s owner prior to that time, and excess loss policies maintained by HCA. HCA has agreed to indemnify the former Triad hospitals in respect of claims covered by such insurance policies arising prior to May 1, 1999. From May 1, 1999 through December 31, 2006, the former Triad hospitals obtained insurance coverage on a claims incurred basis from HCA’s wholly-owned insurance subsidiary with excess coverage obtained from other carriers that is subject to certain deductibles. Effective for claims incurred after December 31, 2006, Triad began insuring its claims from $1 million to $5 million through its wholly-owned captive insurance company, replacing the coverage provided by HCA. Substantially all claims occurring during 2007 were self-insured up to $10 million per claim.

There have been no significant changes in our estimate of the reserve for professional liability claims during the three and nine months ended September 30, 2012.

Income Taxes

We must make estimates in recording provision for income taxes, including determination of deferred tax assets and deferred tax liabilities and any valuation allowances that might be required against the deferred tax assets. We believe that future income will enable us to realize certain deferred tax assets, subject to the valuation allowance we have established.

The total amount of unrecognized benefit that would impact the effective tax rate, if recognized, was approximately $0.8 million as of September 30, 2012. During the nine months ended September 30, 2012, we increased interest and penalties by approximately $0.1 million. A total of approximately $0.3 million of interest and penalties is included in the amount of liability for uncertain tax positions at September 30, 2012. It is our policy to recognize interest and penalties related to unrecognized benefits in our condensed consolidated statements of income as income tax expense.

It is possible the amount of unrecognized tax benefit could change in the next twelve months as a result of a lapse of the statute of limitations and settlements with taxing authorities; however, we do not anticipate the change will have a material impact on our consolidated results of operations or consolidated financial position.

 

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We, or one or more of our subsidiaries, file income tax returns in the United States federal jurisdiction and various state jurisdictions. We have extended the federal statute of limitations for Triad for the tax periods ended December 31, 1999, December 31, 2000, April 30, 2001, June 30, 2001, December 31, 2001, December 31, 2002 and December 31, 2003. The IRS has concluded its examination of the federal tax return of Triad for the tax periods ended December 31, 2004, December 31, 2005, December 31, 2006 and July 25, 2007, and the statutes of limitations for those years will close on December 31, 2012. With few exceptions, we are no longer subject to state income tax examinations for years prior to 2008 and federal income tax examinations with respect to Community Health Systems, Inc. federal returns for years prior to 2007. Our federal income tax returns for the 2007, 2008, 2009 and 2010 tax years are currently under examination by the IRS. We believe the results of this examination will not be material to our consolidated results of operations or consolidated financial position. In connection with our 2007 and 2008 IRS examinations, the IRS has taken exception to the timing of our malpractice expense deductions. Management believes that our deduction timing is appropriate, and will work to resolve this item over the next 12 months. If management is unable to sustain the current timing of our deduction, then it would be subject to interest and penalty costs. Management does not consider this matter to have met the recognition criteria to be considered an uncertain tax position for which a reserve is necessary.

Recent Accounting Pronouncements

In July 2011, the FASB issued ASU 2011-07, which requires healthcare organizations that perform services for patients for which the ultimate collection of all or a portion of the amounts billed or billable cannot be determined at the time services are rendered to present all bad debt expense associated with patient service revenue as an offset to the patient service revenue line item in the statement of operations. The ASU also requires qualitative disclosures about our policy for recognizing revenue and bad debt expense for patient service transactions and quantitative information about the effects of changes in the assessment of collectibility of patient service revenue. This ASU is effective for fiscal years beginning after December 15, 2011, and was adopted by us on January 1, 2012. Upon adoption, our provision for bad debts was presented as a reduction of operating revenue after contractual adjustments and discounts.

In September 2011, the FASB issued ASU 2011-08, which modifies how entities test goodwill for impairment. Previous guidance required an entity to perform a two-step goodwill impairment test at least annually by comparing the fair value of a reporting unit with its carrying amount, including goodwill, and recording an impairment loss if the fair value is less than the carrying amount. This ASU allows an entity to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If an entity determines after that assessment that it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is not required. This ASU is required to be applied to interim and annual goodwill impairment tests performed for fiscal years beginning after December 15, 2011, and was adopted by us on January 1, 2012. The adoption of this ASU did not impact our consolidated financial position, results of operations or cash flows.

In July 2012, the FASB issued ASU 2012-02, which modifies how entities test indefinite-lived intangible assets other than goodwill for impairment. Previous guidance required an entity to perform an impairment test on indefinite-lived intangible assets other than goodwill at least annually by comparing the fair value of the asset with its carrying amount, and recording an impairment loss for any excess if the carrying amount exceeds the fair value. This ASU allows an entity to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of the intangible asset is less than its carrying amount. If an entity determines after that assessment that it is not more likely than not that the fair value of an intangible asset is less than its carrying amount, then calculating the fair value of the intangible asset is not required. This ASU is required to be applied to interim and annual intangible asset impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted, and was adopted by us in July 2012. The adoption of this ASU did not impact our consolidated financial position, results of operations or cash flows.

 

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FORWARD-LOOKING STATEMENTS

Some of the matters discussed in this report include forward-looking statements. Statements that are predictive in nature, that depend upon or refer to future events or conditions or that include words such as “expects,” “anticipates,” “intends,” “plans,” “believes,” “estimates,” “thinks,” and similar expressions are forward-looking statements. These statements involve known and unknown risks, uncertainties, and other factors that may cause our actual results and performance to be materially different from any future results or performance expressed or implied by these forward-looking statements. These factors include the following:

 

   

general economic and business conditions, both nationally and in the regions in which we operate,

 

   

implementation and effect of adopted and potential federal and state healthcare legislation,

 

   

risks associated with our substantial indebtedness, leverage and debt service obligations,

 

   

demographic changes,

 

   

changes in, or the failure to comply with, governmental regulations,

 

   

potential adverse impact of known and unknown government investigations, audits, and Federal and State False Claims Act litigation and other legal proceedings,

 

   

our ability, where appropriate, to enter into and maintain managed care provider arrangements and the terms of these arrangements,

 

   

changes in, or the failure to comply with, managed care provider contracts could result in disputes and changes in reimbursement that could be applied retroactively,

 

   

changes in inpatient or outpatient Medicare and Medicaid payment levels,

 

   

increases in the amount and risk of collectability of patient accounts receivable,

 

   

increases in wages as a result of inflation or competition for highly technical positions and rising supply costs due to market pressure from pharmaceutical companies and new product releases,

 

   

liabilities and other claims asserted against us, including self-insured malpractice claims,

 

   

competition,

 

   

our ability to attract and retain, at reasonable employment costs, qualified personnel, key management, physicians, nurses and other healthcare workers,

 

   

trends toward treatment of patients in less acute or specialty healthcare settings, including ambulatory surgery centers or specialty hospitals,

 

   

changes in medical or other technology,

 

   

changes in U.S. GAAP,

 

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the availability and terms of capital to fund additional acquisitions or replacement facilities,

 

   

our ability to successfully acquire additional hospitals or complete divestitures,

 

   

our ability to successfully integrate any acquired hospitals or to recognize expected synergies from such acquisitions,

 

   

our ability to obtain adequate levels of general and professional liability insurance and

 

   

timeliness of reimbursement payments received under government programs.

Although we believe that these statements are based upon reasonable assumptions, we can give no assurance that our goals will be achieved. Given these uncertainties, prospective investors are cautioned not to place undue reliance on these forward-looking statements. These forward-looking statements are made as of the date of this filing. We assume no obligation to update or revise them or provide reasons why actual results may differ.

Item 3.  Quantitative and Qualitative Disclosures about Market Risk

We are exposed to interest rate changes, primarily as a result of our Credit Facility which bears interest based on floating rates. In order to manage the volatility relating to the market risk, we entered into interest rate swap agreements described under the heading “Liquidity and Capital Resources” in Item 2. We utilize risk management procedures and controls in executing derivative financial instrument transactions. We do not execute transactions or hold derivative financial instruments for trading purposes. Derivative financial instruments related to interest rate sensitivity of debt obligations are used with the goal of mitigating a portion of the exposure when it is cost effective to do so. As interest rate swap agreements expire throughout the year, we will become more subject to variable interest rates during 2012.

A 1% change in interest rates on variable rate debt in excess of that amount covered by interest rate swaps would have resulted in interest expense fluctuating approximately $5.1 million and $1.6 million for the three months ended September 30, 2012 and 2011, respectively, and $15.0 million and $4.8 million for the nine months ended September 30, 2012 and 2011, respectively.

Item 4.  Controls and Procedures

Our Chief Executive Officer and Chief Financial Officer, with the participation of other members of management, have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities and Exchange Act of 1934, as amended, or the Exchange Act), as of the end of the period covered by this report. Based on such evaluations, our Chief Executive Officer and Chief Financial Officer concluded that, as of such date, our disclosure controls and procedures were effective (at the reasonable assurance level) to ensure that the information required to be included in this report has been recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms and to ensure that the information required to be included in this report was accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.

There have been no changes in our internal control over financial reporting during the quarter ended September 30, 2012, that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

 

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PART II OTHER INFORMATION

Item 1.  Legal Proceedings

From time to time, we receive various inquiries or subpoenas from state regulators, fiscal intermediaries, the Centers for Medicare and Medicaid Services and the Department of Justice regarding various Medicare and Medicaid issues. In addition to the subpoenas discussed below, we are currently responding to subpoenas and administrative demands concerning: operations of a cardiovascular surgery department at our Oregon hospital and certain cardiology procedures medical records and policies at a New Mexico hospital. In addition, we are subject to other claims and lawsuits arising in the ordinary course of our business. We are not aware of any pending or threatened litigation that is not covered by insurance policies or reserved for in our financial statements or which we believe would have a material adverse impact on us; however, some pending or threatened proceedings against us may involve potentially substantial amounts as well as the possibility of civil, criminal, or administrative fines, penalties, or other sanctions, which could be material. Settlements of suits involving Medicare and Medicaid issues routinely require both monetary payments as well as corporate integrity agreements. Additionally, qui tam or “whistleblower” actions initiated under the civil False Claims Act may be pending but placed under seal by the court to comply with the False Claims Act’s requirements for filing such suits.

Community Health Systems, Inc. Legal Proceedings

On February 10, 2006, we received a letter from the Civil Division of the Department of Justice requesting documents in an investigation it was conducting involving the Company. The inquiry related to the way in which different state Medicaid programs apply to the federal government for matching or supplemental funds that are ultimately used to pay for a small portion of the services provided to Medicaid and indigent patients. These programs are referred to by different names, including “intergovernmental payments,” “upper payment limit programs,” and “Medicaid disproportionate share hospital payments.” The February 2006 letter focused on our hospitals in Arkansas, New Mexico and South Carolina. From 2006 through the beginning of 2009, we provided the Department of Justice with requested documents, met with its personnel on numerous occasions and otherwise cooperated in its investigation. During the course of the investigation, the Civil Division notified us that it believed that we and these three New Mexico hospitals caused the State of New Mexico to submit improper claims for federal funds, in violation of the Federal False Claims Act. At one point, the Civil Division calculated that the three hospitals received ineligible federal participation payments from August 2000 to June 2006 of approximately $27.5 million and said that if it proceeded to trial, it would seek treble damages plus an appropriate penalty for each of the violations of the Federal False Claims Act. This investigation has culminated in the federal government’s intervention in a qui tam lawsuit styled U.S. ex rel. Baker vs. Community Health Systems, Inc., pending in the United States District Court for the District of New Mexico. The federal government filed its complaint in intervention on June 30, 2009; a subsequent claim was filed on June 6, 2011, adding our subsidiary Community Health Systems Professional Services Corporation as a defendant; the relator’s complaint has also been amended to add Community Health Systems Professional Services Corporation and CHS/Community Health Systems, Inc. as defendants. The relator filed a second amended complaint on July 1, 2009. Both of these complaints expand the time period during which alleged improper payments were made. Our motion for dismissal was granted in part. There have been other rulings by the court on discovery and expert matters, some of which are favorable to our case and some of which are not. Discovery is closed. Motions by both parties for Summary Judgment were filed on March 27, 2012 and there is currently no hearing date on the motions nor has a trial date been set. The most recent ruling in this case, on October 3, 2012, granted our motion for sanctions against the government with respect to their litigation hold process and/or destruction of certain evidence. As a result of this ruling, we will be receiving additional documents from government sources. We are vigorously defending this action.

On June 12, 2008, two of our hospitals received letters from the United States Attorney’s Office for the Western District of New York requesting documents in an investigation it was conducting into billing practices with respect to kyphoplasty procedures performed during the period January 1, 2002 through June 9, 2008. On September 16, 2008, one of our hospitals in South Carolina also received an inquiry. Subsequently, medical records were requested from two additional hospitals in South Carolina and Indiana. Kyphoplasty is a surgical spine procedure that returns a compromised vertebrae (either from trauma or osteoporotic disease process) to its previous height, reducing or eliminating severe pain. This investigation is part of a national investigation and is related to a qui tam settlement between the same United States Attorney’s office and the manufacturer and distributor of the Kyphon product, which is used in performing the kyphoplasty procedure. We are cooperating with the investigation and we are continuing to evaluate and discuss this matter with the federal government.

 

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On April 19, 2009, we were served in Roswell, New Mexico with an answer and counterclaim in the case of Roswell Hospital Corporation d/b/a Eastern New Mexico Medical Center vs. Patrick Sisneros and Tammie McClain (sued as Jane Doe Sisneros). The case was originally filed as a collection matter. The counterclaim was filed as a putative class action and alleged theories of breach of contract, unjust enrichment, misrepresentation, prima facie tort, Fair Trade Practices Act and violation of the New Mexico RICO statute. After extensive discovery and pretrial procedures, this case has been settled and the court has scheduled a fairness hearing to review the terms of the settlement on November 13, 2012.

On December 7, 2009, we received a document subpoena from the United States Department of Health and Human Services, Office of the Inspector General, or OIG, requesting documents related to our hospital in Laredo, Texas. The categories of documents requested included case management, resource management, admission criteria, patient medical records, coding, billing, compliance, the Joint Commission accreditation, physician documentation, payments to referral sources, transactions involving physicians, disproportionate share hospital status and audits by the hospital’s Quality Improvement organization. On January 22, 2010, we received a “request for information or assistance” from the OIG’s Office of Investigation requesting patient medical records from Laredo Medical Center in Laredo, Texas for certain Medicaid patients with an extended length of stay. Additional requests for records have also been received, including a request containing follow-up questions received on January 5, 2011. We have met with the government to discuss this investigation and we continue to cooperate fully with this investigation.

On September 20, 2010, we received a letter from the United States Department of Justice, Civil Division, advising us that an investigation is being conducted to determine whether certain hospitals have improperly submitted claims for payment for implantable cardioverter defibrillators, or ICDs. The period of time covered by the investigation is 2003 to the present. The letter states that the Department of Justice’s data indicates that many of our hospitals have claims that need to be reviewed to determine if Medicare payment was appropriate. We understand that the Department of Justice has submitted similar requests to many other hospitals and hospital systems across the country as well as to the ICD manufacturers themselves. We continue to fully cooperate with the government in this investigation and have provided requested records and documents. On August 30, 2012, the Department of Justice issued a document entitled, “Medical Review Guidelines/Resolution Model,” which sets out, for the purposes of this investigation, the patient conditions and criteria for the medical necessity of the implantation of ICDs in Medicare beneficiaries and how the Department of Justice will enforce the repayment obligations of hospitals. We are in the process of reviewing our medical records in light of the guidance contained in this document.

On November 15, 2010, we were served with substantially identical Civil Investigative Demands (CIDs) from the Office of Attorney General, State of Texas for all 18 of our affiliated Texas hospitals. The subject of the requests appears to concern emergency department procedures and billing. We have complied with these requests and are providing all documentation and reports requested. We are continuing to cooperate with the government in this investigation.

On April 8, 2011, we received a document subpoena, dated March 31, 2011, from the United States Department of Health and Human Services, OIG, in connection with an investigation of possible improper claims submitted to Medicare and Medicaid. The subpoena, issued from the OIG’s Chicago, Illinois office, requested documents from all of our hospitals and appears to concern emergency department processes and procedures, including our hospitals’ use of the Pro-MED Clinical Information System, which is a third-party software system that assists with the management of patient care and provides operational support and data collection for emergency department management and has the ability to track discharge, transfer and admission recommendations of emergency department physicians, as well as information about our relationships with emergency department physicians, including financial arrangements. This investigation is being led by the Department of Justice. We are continuing to cooperate with the government including detailing a process for a medical necessity review by clinical reviewers and physicians of a sampling of medical records at a small number of hospitals.

 

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On April 22, 2011, a joint motion was filed by the relator and the United States Department of Justice in the case styled United States ex rel. and Reuille vs. Community Health Systems Professional Services Corporation and Lutheran Musculoskeletal Center, LLC d/b/a Lutheran Hospital, in the United States District Court for the Northern District of Indiana, Fort Wayne Division. The lawsuit was originally filed under seal on January 7, 2009. The suit is brought under the False Claims Act and alleges that Lutheran Hospital of Indiana billed the Medicare program for (a) false 23 hour observation after outpatient surgeries and procedures, and (b) intentional assignment of inpatient status to one-day stays for cases that do not meet Medicare criteria for inpatient intensity of service or severity of illness. We had cooperated fully with the government in its investigation of this matter, but had been unaware of the exact nature of the allegations in the complaint. On December 27, 2010, the government filed a notice that it declined to intervene in this suit. The April 22, 2011 motion contained additional information about how the government intended to proceed with an investigation regarding “allegations of improper billing for inpatient care at other hospitals associated with Community Health Systems, Inc. . . . asserted in other qui tam complaints in other jurisdictions.” The motion stated that the Department of Justice has “consolidated its investigations” of the Company and other related entities and that “the Civil Division of the Department of Justice, multiple United States Attorneys’ offices, and the Office of Inspector General for the Department of Health and Human Services, or HHS, are now closely coordinating their investigation of these overlapping allegations. The Attorney General of Texas has initiated an investigation; the United States intends to work cooperatively with Texas and any other States investigating these allegations.” The motion also stated that the Office of Audit Services for the Office of Investigations for HHS has been engaged to conduct a national audit of certain of our Medicare claims. The government confirmed that it considers the allegations made in the complaint styled Tenet Healthcare Corporation vs. Community Health Systems, Inc., et al. filed in the United States District Court for the Northern District of Texas, Dallas Division on April 11, 2011 to be related to the allegations in the qui tam and to what the government is now describing as a consolidated investigation. The motion filed on April 11, 2011 concluded by requesting a stay of the litigation in the Reuille case for 180 days. This extension request was granted by the court, as were additional requests in October 2011, April 2012 and October 2012. The stay has now been extended until April 29, 2013. We are cooperating fully with the government in its investigations.

On May 16, 2011, we received a subpoena dated May 10, 2011 from the Houston Office of the United States Department of Health and Human Services, OIG, requesting 71 patient medical records from our hospital in Shelbyville, Tennessee, and directing the return of the records to the Assistant United States Attorney handling the Laredo investigation. We are unaware of any connection between these two facilities other than they are both affiliated with us. We have met with the government regarding this matter and continue to cooperate fully with this investigation.

On May 13, 2011, we received a subpoena from the SEC requesting documents related to or requested in connection with the various inquiries, lawsuits and investigations regarding, generally, emergency room admissions or observation practices at our hospitals. The subpoena also requested documents relied upon by us in responding to the Tenet litigation, as well as other communications about the Tenet litigation. As with all government investigations, we are cooperating fully with the SEC.

 

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Three purported class action shareholder federal securities cases have been filed in the United States District Court for the Middle District of Tennessee; namely, Norfolk County Retirement System v. Community Health Systems, Inc., Wayne T. Smith and W. Larry Cash, filed May 5, 2011; De Zheng v. Community Health Systems, Inc., Wayne T. Smith and W. Larry Cash, filed May 12, 2011; and Minneapolis Firefighters Relief Association v. Community Health Systems, Inc., Wayne T. Smith, W. Larry Cash and Thomas Mark Buford, filed June 2, 2011. All three seek class certification on behalf of purchasers of our common stock between July 27, 2006 and April 11, 2011 and allege that misleading statements resulted in artificially inflated prices for our common stock. On September 20, 2011, all three were assigned to the same judge as related cases. On December 28, 2011, the court consolidated all three shareholder cases for pretrial purposes, selected NYC Funds as lead plaintiffs, and selected NYC Funds’ counsel as lead plaintiffs’ counsel. The parties negotiated operative dates for these consolidated shareholder federal securities actions. An operative consolidated complaint was filed on July 13, 2012, and our motion to dismiss was filed on September 11, 2012. The plaintiffs’ response is due on November 12, 2012 and we will have a further opportunity to respond, which will be due on December 24, 2012. We believe this consolidated matter is without merit and will vigorously defend this case.

Three purported shareholder derivative actions have also been filed in the United States District Court for the Middle District of Tennessee; Plumbers and Pipefitters Local Union No. 630 Pension Annuity Trust Fund v. Wayne T. Smith, W. Larry Cash, T. Mark Buford, John A. Clerico, James S. Ely III, John A. Fry, William Norris Jennings, Julia B. North and H. Mitchell Watson, Jr., filed May 24, 2011; Roofers Local No. 149 Pension Fund v. Wayne T. Smith, W. Larry Cash, John A. Clerico, James S. Ely, III, John A. Fry, William Norris Jennings, Julia B. North and H. Mitchell Watson, Jr., filed June 21, 2011; and Lambert Sweat v. Wayne T. Smith, W. Larry Cash, T. Mark Buford, John A. Clerico, James S. Ely, III, John A. Fry, William Norris Jennings, Julia B. North, H. Mitchell Watson, Jr. and Community Health Systems, Inc., filed October 5, 2011. These three cases allege breach of fiduciary duty arising out of allegedly improper inpatient admission practices, mismanagement, waste and unjust enrichment. These cases have been consolidated into a single, consolidated action. The plaintiffs filed an operative amended derivative complaint in these three consolidated actions on March 15, 2012. Our motion to dismiss has been fully briefed by the parties and awaits scheduling of oral argument and/or ruling on our motion to dismiss. We believe all of these matters are without merit and will vigorously defend them.

On May 2, 2012, suit was filed in the matter styled Daniel Eagle v. Community Health Systems, Inc., Chancery Court, State of Delaware. Suit was filed under Section 220 of the Delaware General Corporation Law to inspect certain of the Company’s books and records pertaining to matters concerning alleged improper admissions practices. On a motion filed by the plaintiff, this case has been dismissed.

On June 2, 2011, an order was entered unsealing a relator’s qui tam complaint in the matter of U.S. ex rel. Wood M. Deming, MD, individually and on behalf of Regional Cardiology Consultants, PC v. Jackson-Madison County General Hospital, an Affiliate of West Tennessee Healthcare, Regional Hospital of Jackson, a Division of Community Health Systems Professional Services Corporation, James Moss, individually, Timothy Puthoff, individually, Joel Perchik, MD, individually, and Elie H. Korban, MD, individually. The action is pending in the Western District of Tennessee, Jackson Division. Regional Hospital of Jackson is an affiliated hospital and Mr. Puthoff is a former chief executive officer there. The Order recited that the United States had elected to intervene to a limited degree only concerning the claims against Dr. Korban for false and fraudulent billing for allegedly unnecessary stent procedures and for causing the submission of false claims by the hospitals. The United States expressly declined to intervene in all other claims against all other named defendants. On July 28, 2011, we were served by the relator. The complaint was subsequently amended on May 25, 2012. We filed an answer on June 14, 2012. We believe the claims against our hospital are without merit and we will vigorously defend this case.

On June 13, 2011, our hospital in Easton, Pennsylvania received a document subpoena from the Philadelphia office of the United States Department of Justice. The documents requested included medical records for certain urological procedures performed by a non-employed physician who is no longer on the medical staff and other records concerning the hospital’s relationship with the physician. Certain procedures performed by the physician had been previously reviewed and appropriate repayments had been made. We are cooperating fully with the government in this investigation.

On February 2, 2012, an order was entered unsealing a relator’s qui tam complaint in the matter of U.S. ex rel. Pamela Gronemeyer v. Crossroads Community Hospital. The action is pending in the United States District Court, Southern District of Illinois. Crossroads Community Hospital is an affiliated hospital. The order recited that the United States had declined to intervene in this matter. We had previously disclosed this matter in the context of our response to a subpoena concerning blood administration practices at an affiliated Illinois hospital. We were served in this case on April 18, 2012 and a second amended complaint was filed on August 6, 2012, and we filed our motion to dismiss on August 17, 2012. We believe the claim against our hospital is without merit and we will vigorously defend this case.

 

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On August 8, 2012, an order was entered unsealing a relator’s qui tam complaint in the matter of U.S. and N.M. ex rel. Sally Hansen v. Mimbres Memorial Hospital, et al. This action is pending in the United States District Court for New Mexico. This case cites alleged quality control failures as violations of the Clinical Laboratory Improvement Amendments of 1988 and the basis for a False Claims Act suit. We had cooperated in the government’s investigation of this matter prior to the unsealing of the case. Both the U.S. government and the New Mexico state government declined to intervene in this case. We have not yet been served in this case and will vigorously defend it.

On February 23, 2012, our hospital in Hattiesburg, Mississippi received a document subpoena from the United States Department of Health and Human Services, OIG relating to its relationship with Allegiance Health Management, Inc., or Allegiance, a company that provides intensive outpatient psychiatric, or IOP, services to its patients. The subpoena seeks information concerning the hospital’s financial relationship with Allegiance, medical records of patients receiving IOP services, and other documents relating to Allegiance such as agreements, policies and procedures, audits, complaints, budgets, financial analyses and identities of those delivering services. This is our only hospital that received services from this vendor. We are cooperating fully with this investigation.

On February 4, 2010, suit was filed in the matter styled Managed Care Solutions, Inc. v. Community Health Systems, Inc., United States District Court for the Southern District of Florida. Plaintiff contracted with two affiliated hospitals to provide services collecting receivables from third-party payors. Plaintiff seeks to extend the contract to additional facilities at which it never provided any services and is claiming $435 million in damages. A motion for summary judgment was filed on February 17, 2012. On June 4, 2012, the District Court affirmed the recommendation of the Magistrate Judge limiting the Plaintiff’s claims to only two hospitals. The Court also bifurcated the case with liability set to be tried on December 3, 2012 and, most recently on September 27, 2012, the court granted our motion for leave to file a renewed motion for summary judgment. We will continue to vigorously defend this action.

On February 29, 2012, Gregg Becker, a former chief financial officer at Rockwood Clinic in Spokane, Washington, sued “Community Health Systems, Inc. d/b/a Community Health Systems Professional Services Corporation d/b/a Community Health Systems d/b/a Community Health Systems PSC, Inc. d/b/a Rockwood Clinic P.S and Rockwood Clinic, PS” in Superior Court, Spokane, Washington. On March 9, 2012, the case was removed to federal court in Spokane. Becker claims he was wrongfully terminated for allegedly refusing to certify a budget for Rockwood Clinic in 2012. On February 29, 2012, he also filed an administrative complaint with the Department of Labor, Occupational Safety and Health Administration alleging that he is a whistleblower under Sarbanes-Oxley and a response was filed on May 21, 2012. At a hearing on July 27, 2012, the court dismissed Community Health Systems, Inc. from this case and we will seek permission to pursue appellate relief of the denial to dismiss the hospital. We are vigorously defending this action.

Management of Significant Legal Proceedings

In accordance with our governance documents, including our Governance Guidelines and the charter of the Audit and Compliance Committee, our management of significant legal proceedings is overseen by the independent members of the Board of Directors and, in particular, the Audit and Compliance Committee. The Audit and Compliance Committee is charged with oversight of compliance, regulatory and litigation matters, and enterprise risk management. All significant legal proceedings and allegations of financial statement fraud, error, or misstatement are promptly referred to the Audit and Compliance Committee for its oversight and evaluation. Consistent with New York Stock Exchange and Sarbanes-Oxley independence requirements, the Audit and Compliance Committee is comprised entirely of individuals who are independent of Company management, and all three members of the Audit and Compliance Committee are “audit committee financial experts” as defined in the Exchange Act.

 

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In addition, the Audit and Compliance Committee and the other independent members of the Board of Directors oversee the functions of the voluntary compliance program, including its auditing and monitoring functions and confidential disclosure program. In recent years, the voluntary compliance program has addressed the potential for a variety of billing errors that might be the subject of audits and payment denials by the CMS Recovery Audit Contractors’ permanent project, including MS-DRG coding, outpatient hospital and physician coding and billing, and medical necessity for services (including a focus on hospital stays of very short duration). Efforts by management, through the voluntary compliance program, to identify and limit risk from these government audits included significant policy and guidance revisions, training and education, and auditing. With respect to Medicare inpatient admissions, improvements in case management, including updating of inpatient medical necessity criteria, heightened focus on correct use of observation status, and new policies requiring unambiguous signed physician orders prior to billing, were all adopted in 2009 and 2010. These activities were communicated to and discussed with the Audit and Compliance Committee.

With respect to the various assertions of third parties about the Audit and Compliance Committee’s oversight:

 

   

The September 2010 allegation made by CtW Investment Group (that a high percentage of our hospitals had a high percentage of Medicare short-stay inpatient admissions, which could signal billing improprieties) was promptly referred to the Audit and Compliance Committee and an investigation was authorized and initiated with outside counsel and consultants in December 2010 (on February 15, 2012, we received a follow-up letter from CtW Investment Group that discusses the inherent limitations in using only publicly available data and points out that other factors can affect admission and length of stay patterns; the letter also concludes that CtW Investment Group is now satisfied with the commitment of the Company, its management and its Board of Directors to acting in accordance with their respective duties and obligations);

 

   

Prior to the receipt of the civil investigative demands in Texas in November 2010, no concerns had been raised that the Pro-MED emergency department management system inappropriately caused physicians or hospitals to order tests or admit patients, and we continue to dispute that it does so; and

 

   

The purported “observation rate” metric, which served as a basis for allegations contained in Tenet’s lawsuit, is not generally accepted in the industry and fails to account for patients who are treated and discharged promptly (i.e., neither admitted as inpatients nor placed in observation). We continue to dispute the validity of the metric in the manner used by Tenet or that the metric is a meaningful indicator of incorrect billing practices, and on March 21, 2012, Tenet’s lawsuit was dismissed in its entirety.

Since April 2011, our Audit and Compliance Committee and/or Board of Directors has met, on average, monthly to review the status of the lawsuits and investigations relating to allegations of improper billing for inpatient care at our hospitals and to oversee management in connection with our investigation and defense of these matters. At many of those meetings, the independent members of the Board of Directors have met in separate session, first with outside counsel handling the investigations and lawsuits, and then alone, to discuss their duties and oversight of these matters. The independent members of the Board of Directors have determined that (a) the Audit and Compliance Committee is the correct and most capable group of directors to oversee these matters and, given the independence and authority of the Audit and Compliance Committee, there is no need to form a further special committee to oversee these matters, and (b) outside counsel is handling the investigation and defense of these matters in the best interests of us and our stockholders and there is no need to engage separate counsel in connection with the investigation of these matters.

The independent members of our Board of Directors remain fully engaged in the oversight of these matters. We intend to provide additional updates about these matters as we are able to do so (taking into account any potential impact on these matters) through appropriate, widely-disseminated means.

Item 1A.  Risk Factors

None

 

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Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

We have not paid any cash dividends since our inception, and do not anticipate the payment of cash dividends in the foreseeable future. Our Credit Facility limits our ability to pay dividends and/or repurchase stock to an amount not to exceed $50 million in the aggregate plus the aggregate amount of proceeds from the exercise of stock options. The indentures governing our 8% Senior Notes due 2019, our 7 1/8% Senior Notes due 2020 and our 5 1/8% Senior Secured Notes due 2018 also limit our ability to pay dividends and/or repurchase stock. As of September 30, 2012, under the most restrictive test under these agreements, we have approximately $85.8 million available with which to pay permitted dividends and/or repurchase shares of stock or our Senior Notes.

Item 3.  Defaults Upon Senior Securities

None

Item 4.  Mine Safety Disclosures

None

Item 5.  Other Information

None

 

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Item 6.  Exhibits

 

No.    

Description

  4.1        Amendment No. 1 and Reaffirmation Agreement, dated as of August 17, 2012, relating to the Amended and Restated Guarantee and Collateral Agreement, dated as of July 25, 2007, as amended and restated as of November 5, 2010, among CHS/Community Health Systems, Inc., Community Health Systems, Inc., the guarantors party thereto, and Credit Suisse AG, as collateral trustee
  4.2        First Lien Intercreditor Agreement, dated as of August 17, 2012, among Credit Suisse AG, as collateral agent, Credit Suisse AG, as authorized representative, Regions Bank, as trustee and authorized representative, and the additional authorized representatives party thereto
  4.3        Copyright Security Agreement, dated as of August 17, 2012, among Community Health Systems, Inc., CHS Washington Holdings, LLC, Northwest Hospital, LLC, Quorum Health Resources, LLC, and Credit Suisse AG, as collateral agent
  4.4        Trademark Security Agreement, dated as of August 17, 2012, among CHS/Community Health Systems, Inc., Blue Island Hospital Company, LLC, CHS Washington Holdings, LLC, Quorum Health Resources, LLC, Triad Healthcare Corporation, Youngstown Ohio Hospital Company, LLC, and Credit Suisse AG, as collateral agent
  4.5        Fourth Supplemental Indenture relating to CHS/Community Health Systems, Inc.’s 8.000% Senior Notes due 2019, dated as of September 30, 2012, by and among CHS/Community Health Systems, Inc., the guarantors party thereto and Regions Bank, as successor trustee
  4.6        First Supplemental Indenture relating to CHS/Community Health Systems, Inc.’s 7.125% Senior Notes due 2020, dated as of September 30, 2012, by and among CHS/Community Health Systems, Inc., the guarantors party thereto and Regions Bank
  4.7        First Supplemental Indenture relating to CHS/Community Health Systems, Inc.’s 5.125% Senior Secured Notes due 2018, dated as of September 30, 2012, by and among CHS/Community Health Systems, Inc., the guarantors party thereto and Regions Bank
  10.1        First Omnibus Amendment, dated July 30, 2012, to the Receivables Sale Agreement among CHS/Community Health Systems, Inc., the originators party thereto and Community Health Systems Professional Services Corporation, as Collection Agent, to the Receivables Purchase and Contribution Agreement among CHS/Community Health Systems, Inc., CHS Receivables Funding, LLC and Community Health Systems Professional Services Corporation, as Collection Agent, and to the Receivables Loan Agreement among CHS Receivables Funding, LLC, the lenders party thereto, the managing agents party thereto, Credit Agricole Corporate and Investment Bank, as Administrative Agent, and Community Health Systems Professional Services Corporation, as Collection Agent, all dated as of March 21, 2012
  12        Computation of Ratio of Earnings to Fixed Charges
  31.1        Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
  31.2        Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
  32.1        Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
  32.2        Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
  101.INS      XBRL Instance Document
  101.SCH      XBRL Taxonomy Extension Schema
  101.CAL      XBRL Taxonomy Extension Calculation Linkbase
  101.DEF      XBRL Taxonomy Extension Definition Linkbase
  101.LAB      XBRL Taxonomy Extension Label Linkbase
  101.PRE      XBRL Taxonomy Extension Presentation Linkbase

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Report to be signed on its behalf by the undersigned thereunto duly authorized.

 

  COMMUNITY HEALTH SYSTEMS, INC.  
                        (Registrant)  
  By:  

/s/   Wayne T. Smith

 
    Wayne T. Smith  
    Chairman of the Board,  
    President and Chief Executive Officer  
    (principal executive officer)  
  By:  

/s/   W. Larry Cash

 
    W. Larry Cash  
    Executive Vice President, Chief Financial  
    Officer and Director  
    (principal financial officer)  
  By:  

/s/   Kevin J. Hammons

 
    Kevin J. Hammons  
    Vice President and Chief Accounting Officer  
    (principal accounting officer)  

Date: November 1, 2012

 

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Index to Exhibits

 

No.    

Description

  4.1        Amendment No. 1 and Reaffirmation Agreement, dated as of August 17, 2012, relating to the Amended and Restated Guarantee and Collateral Agreement, dated as of July 25, 2007, as amended and restated as of November 5, 2010, among CHS/Community Health Systems, Inc., Community Health Systems, Inc., the guarantors party thereto, and Credit Suisse AG, as collateral trustee
  4.2        First Lien Intercreditor Agreement, dated as of August 17, 2012, among Credit Suisse AG, as collateral agent, Credit Suisse AG, as authorized representative, Regions Bank, as trustee and authorized representative, and the additional authorized representatives party thereto
  4.3        Copyright Security Agreement, dated as of August 17, 2012, among Community Health Systems, Inc., CHS Washington Holdings, LLC, Northwest Hospital, LLC, Quorum Health Resources, LLC, and Credit Suisse AG, as collateral agent
  4.4        Trademark Security Agreement, dated as of August 17, 2012, among CHS/Community Health Systems, Inc., Blue Island Hospital Company, LLC, CHS Washington Holdings, LLC, Quorum Health Resources, LLC, Triad Healthcare Corporation, Youngstown Ohio Hospital Company, LLC, and Credit Suisse AG, as collateral agent
  4.5        Fourth Supplemental Indenture relating to CHS/Community Health Systems, Inc.’s 8.000% Senior Notes due 2019, dated as of September 30, 2012, by and among CHS/Community Health Systems, Inc., the guarantors party thereto and Regions Bank, as successor trustee
  4.6        First Supplemental Indenture relating to CHS/Community Health Systems, Inc.’s 7.125% Senior Notes due 2020, dated as of September 30, 2012, by and among CHS/Community Health Systems, Inc., the guarantors party thereto and Regions Bank
  4.7        First Supplemental Indenture relating to CHS/Community Health Systems, Inc.’s 5.125% Senior Secured Notes due 2018, dated as of September 30, 2012, by and among CHS/Community Health Systems, Inc., the guarantors party thereto and Regions Bank
  10.1        First Omnibus Amendment, dated July 30, 2012, to the Receivables Sale Agreement among CHS/Community Health Systems, Inc., the originators party thereto and Community Health Systems Professional Services Corporation, as Collection Agent, to the Receivables Purchase and Contribution Agreement among CHS/Community Health Systems, Inc., CHS Receivables Funding, LLC and Community Health Systems Professional Services Corporation, as Collection Agent, and to the Receivables Loan Agreement among CHS Receivables Funding, LLC, the lenders party thereto, the managing agents party thereto, Credit Agricole Corporate and Investment Bank, as Administrative Agent, and Community Health Systems Professional Services Corporation, as Collection Agent, all dated as of March 21, 2012
  12        Computation of Ratio of Earnings to Fixed Charges
  31.1        Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
  31.2        Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
  32.1        Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
  32.2        Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
  101.INS      XBRL Instance Document
  101.SCH      XBRL Taxonomy Extension Schema
  101.CAL      XBRL Taxonomy Extension Calculation Linkbase
  101.DEF      XBRL Taxonomy Extension Definition Linkbase
  101.LAB      XBRL Taxonomy Extension Label Linkbase
  101.PRE      XBRL Taxonomy Extension Presentation Linkbase

 

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