Memorial Hermann Health System

(UNAUDITED)

QUARTERLY REPORT ON FINANCIAL INFORMATION
AND OPERATING DATA

Fiscal Quarter Ended
March 31, 2017
Contact Information:

Dennis L. Laraway
Chief Financial Officer
Memorial Hermann Health System
929 Gessner, Suite 2703
Houston, Texas 77024
(713) 242-2707

Anthony P. Frank
Chief Accounting Officer
Memorial Hermann Health System
909 Frostwood, Suite 2:100
Houston, Texas 77024
(713) 338-4122

 CONSOLIDATED INTERIM FINANCIAL STATEMENTS
(UNAUDITED)
Memorial Hermann Health System
Nine Months Ended March 31, 2017 and 2016
With Report of Independent Auditors

 Memorial Hermann Health System
Consolidated Interim Financial Statements (Unaudited)

March 31, 2017

Contents
Review Report of Independent Auditors .........................................................................................1
Consolidated Balance Sheets ...........................................................................................................2
Consolidated Statements of Operations and Changes in Net Assets (Unaudited) ...........................3
Consolidated Statements of Cash Flows (Unaduited) .....................................................................4
Notes to Consolidated Financial Statements....................................................................................5

 Ernst & Young LLP
1401 McKinney Street
Suite 1200
Houston, TX 77010

Tel: +1 713 750 1500
ey.com

Review Report of Independent Auditors

The Board of Directors
Memorial Hermann Health System
We have reviewed the consolidated financial information of Memorial Hermann Health System
(the Health System), which comprise the consolidated balance sheet as of March 31, 2017, and the
related consolidated statements of operations and changes in net assets and cash flows for the ninemonth periods ended March 31, 2017 and 2016.
Management’s Responsibility for the Financial Information
Management is responsible for the preparation and fair presentation of the interim financial
information in conformity with U.S. generally accepted accounting principles; this includes the
design, implementation and maintenance of internal control sufficient to provide a reasonable basis
for the preparation and fair presentation of interim financial information in conformity with U.S.
generally accepted accounting principles.
Auditor’s Responsibility
Our responsibility is to conduct our review in accordance with auditing standards generally
accepted in the United States applicable to reviews of interim financial information. A review of
interim financial information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is substantially less in
scope than an audit conducted in accordance with auditing standards generally accepted in the
United States, the objective of which is the expression of an opinion regarding the financial
information. Accordingly, we do not express such an opinion.
Conclusion
Based on our review, we are not aware of any material modifications that should be made to the
consolidated financial information referred to above for it to be in conformity with U.S. generally
accepted accounting principles.

May 11, 2017

A member firm of Ernst & Young Global Limited

ey

 Memorial Hermann Health System
Consolidated Balance Sheets

March 31,
June 30,
2017
2016
(unaudited)
(audited)
(In Thousands)
Assets
Current assets:
Cash and cash equivalents, including $25,627 and
$29,648 of assets limited as to use as of March
2017 and June 2016, respectively
Patient accounts receivable, net of allowances for bad debt
(March 2017 - $705,414; June 2016 - $735,260)
Other current assets
Total current assets
Investments
Assets limited as to use, less current portion
Property, plant, and equipment, net
Other assets
Total assets
Liabilities and net assets
Current liabilities:
Accounts payable
Accrued payroll and related expenses
Other accrued expenses
Current portion of long-term debt, including capital
lease obligations
Long-term debt subject to liquidity agreements
Total current liabilities

$

$

$

368,001

$

307,689

674,898
157,673
1,200,572

670,867
182,972
1,161,528

2,157,356
370,699
2,863,328
215,307
6,807,262

1,967,289
482,300
2,756,231
210,638
6,577,986

267,573
225,098
223,098

$

$

289,707
211,450
202,874

58,023
389,325
1,163,117

53,998
389,229
1,147,258

Long-term debt, including capital lease obligations
Other long-term obligations
Total liabilities

1,871,368
575,337
3,609,822

1,875,066
608,522
3,630,846

Net assets, including noncontrolling interest of $124,848 and
$127,991 as of March 2017 and June 2016, respectively
Total liabilities and net assets

3,197,440
6,807,262

2,947,140
6,577,986

$

$

See accompanying notes.

2

 Memorial Hermann Health System
Consolidated Statements of Operations and Changes in Net Assets (Unaudited)

Nine Months Ended
March 31,

2017

2016

(In Thousands)
Revenues, gains, and other support:
Net patient service revenue before bad debt provision
Provision for bad debt
Net patient service revenue
Premium revenue, net
Other revenue
Total revenues, gains, and other support

$ 4,031,377
(556,321)
3,475,056
121,781
195,421
3,792,258

$ 3,888,555
(545,319)
3,343,236
70,913
216,076
3,630,225

1,710,085
1,041,068
640,999
65,886
200,998
66,097
3,725,133
67,125

1,567,897
988,198
611,846
27,241
184,911
59,395
3,439,488
190,737

Nonoperating activities:
Investment gains (losses), net
Interest rate swap agreements
Other expense, net
Revenues in excess of expenses

185,678
31,483
–
284,286

(125,721)
(35,620)
(635)
28,761

Revenues in excess of expenses attributable to noncontrolling interest
Revenues in excess (deficit) of expenses attributable to the Health System

(46,966)
237,320

(41,941)
(13,180)

Other changes in net assets:
Contributions and grants received and other changes in net assets, net
Change in noncontrolling interests
Change in net assets

16,123
(3,143)
250,300

95,163
65,501
147,484

2,947,140
$ 3,197,440

2,831,175
$ 2,978,659

Expenses:
Salaries, benefits, and related personnel costs
Services and other
Supplies and medicines
Outside medical claims
Depreciation and amortization
Interest
Total expenses
Operating income

Net assets at beginning of year
Net assets at end of period

See accompanying notes.

3

 Memorial Hermann Health System
Consolidated Statements of Cash Flows (Unaudited)
Nine Months Ended
March 31,
2017
2016
(In Thousands)
Operating activities
Cash received for patient services
Cash paid to or on behalf of employees
Cash paid for supplies and services
Other receipts from operations, including premiums
Investment gains (losses) realized
Interest paid
Net cash provided by operating activities

$

Investing activities
Capital expenditures, net
Change in assets limited as to use
Change in investments
Other
Net cash used in investing activities

3,492,722
(1,698,257)
(1,766,458)
339,702
26,322
(62,444)
331,587

$

3,199,791
(1,602,918)
(1,553,084)
297,671
(38,422)
(53,251)
249,787

(299,002)
103,853
(48,085)
91
(243,143)

(398,652)
72,650
106,736
170
(219,096)

Financing activities
Payments on long-term debt and notes payable
Restricted contributions
Deferred financing costs
Noncontrolling interest
Net cash used in financing activities

(4,233)
20,093
–
(43,992)
(28,132)

(11,295)
14,509
(460)
(32,213)
(29,459)

Net increase in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of period

$

60,312
307,689
368,001

$

1,232
374,752
375,984

$

250,300

$

147,484

$

200,998
(190,803)
17,434
(4,031)
39,995
11,742
5,952
81,287
331,587

$

184,911
128,991
(51,080)
(143,443)
(44,816)
(39,290)
67,030
102,303
249,787

Supplemental information – reconciliation of change in net assets
to net cash provided by operating activities
Change in net assets
Adjustments to reconcile change in net assets to net cash provided by
operating activities:
Depreciation and amortization
Unrealized net (gain) loss on investments and interest swaps agreements
Other changes in net assets
Change in patient accounts receivable, net of provision for bad debt
Change in other assets
Change in accounts payable, accrued payroll, and other accrued expenses
Change in other long-term obligations
Net cash provided by operating activities

See accompanying notes.

4

 Memorial Hermann Health System
Notes to Consolidated Financial Statements
March 31, 2017

1. Mission and Organization
Memorial Hermann Health System (the Health System), a Texas nonprofit membership corporation,
controls and coordinates the activities of certain other affiliates. The Health System Board of
Directors exercises governance control for the Health System and retains significant reserved powers
regarding its affiliates. The Health System is exempt from federal income tax under Section 501(c)
(3) of the Internal Revenue Code (IRC). The Health System owns and operates 13 nonsectarian
general acute care hospitals (including Memorial Hermann Texas Medical Center, the primary
teaching hospital for McGovern Medical School of the University of Texas Health Science Center at
Houston), a research and rehabilitation hospital (TIRR) in the Texas Medical Center, a Medicarecertified home health agency, and a comprehensive ambulatory care network of facilities and
services — all serving to position Memorial Hermann Health System as the market-share leader in
the greater Houston, Texas area. The Health System includes one of the nation’s largest Independent
Practice Association models, through which more than 4,000 physicians are clinically integrated to
the Health System for clinical practice standards, two insurance companies that underwrite group
health coverage for employers and the Medicare Advantage program, a captive casualty and liability
insurance company, and an accountable care organization. Additionally, the Health System is
supported by the Memorial Hermann Foundation (the Foundation). The consolidated financial
statements include the accounts of the Health System and its controlled affiliates. All significant
intercompany accounts and transactions have been eliminated.
2. Significant Accounting Policies
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted
in the United States requires management to make estimates and assumptions that affect the reported
amounts of assets, liabilities, revenues, expenses, and disclosure of contingent assets and liabilities,
at the date of the financial statements. Because of the subjectivity inherent in this process, actual
results may differ from those estimates. In the opinion of management, all adjustments considered
necessary for a fair presentation have been included and are of a normal recurring nature. Operating
results for the nine months ended March 31, 2017 are not necessarily indicative of the results
expected for the year ending June 30, 2017. For further information, refer to the audited consolidated
financial statements and notes thereto for the year ended June 30, 2016.
Subsequent Events
The Health System evaluates the impact of subsequent events, events that occur after the balance
sheet date but before the financial statements are issued, for potential recognition in the consolidated

5

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
financial statements as of the consolidated balance sheets’ date or disclosure in the notes to the
consolidated financial statements. The Health System evaluated events occurring subsequent to
March 31, 2017 through May 11, 2017, the date on which the accompanying consolidated financial
statements were issued.
Net Assets and Contributions
To ensure compliance with restrictions placed on the resources available to the Health System, the
Health System’s accounts are maintained in accordance with the existence or absence of donorimposed restrictions. This is the procedure by which resources are classified for accounting and
reporting into funds established according to their nature and purposes. In the consolidated financial
statements, funds that have similar characteristics have been consolidated into three net asset
categories: permanently restricted, temporarily restricted, and unrestricted.
•

Permanently restricted net assets contain donor-imposed restrictions that stipulate the
resources be maintained permanently, but permit the Health System to use the income
derived from the donated assets for donor-specified purposes.

•

Temporarily restricted net assets contain donor-imposed restrictions that permit the Health
System to use or expend the assets as specified. The restrictions are satisfied either by the
passage of time or by actions of the Health System.

•

Unrestricted net assets are not restricted by donors, or the donor-imposed restrictions have
expired or been met. When a donor restriction expires, temporarily restricted net assets are
reclassified as unrestricted net assets and reported in the consolidated statements of
operations and changes in net assets as net assets released from restrictions.

At March 31, 2017 and June 30, 2016, the Health System had $130,652,000 and $126,187,000,
respectively, in restricted net assets.
Unrestricted and restricted donations are recognized when received. Unrestricted and restricted
pledges are reported as revenue in the period the pledge is made at the present value of estimated
future cash flows. Amortization of the discount is included in contribution income. Pledges are
recorded net of an allowance for uncollectibles. This allowance is determined based upon historical
collection and write-off experience. Donor-restricted pledges and donations are recorded in the
appropriate donor-restricted fund until restrictions are met, at which time they are contributed to the
affiliate beneficiary. Gifts of property other than cash are recorded at fair market value at the dates
the gifts are received.

6

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
The Health System holds donor-restricted endowment funds established primarily to fund specified
activities for and within the Health System and the medical community as a whole. Net assets
associated with endowment funds are classified and reported based on the existence or absence of
donor-imposed restrictions.
Contributions are recorded as revenue at the present value of estimated future cash flows when an
unconditional promise is received. At March 31, 2017 and June 30, 2016, the Health System had
$27,356,000 and $35,690,000, respectively, in pledges receivable, net of discount and allowance for
uncollectibles of $3,279,000 and $3,280,000, respectively. Pledges receivable are recorded as assets
limited as to use in the accompanying consolidated balance sheets and are due, based on gross
pledges, as follows:
Pledges
June 30, 2017
$ 8,055,000
June 30, 2018
3,931,000
June 30, 2019
3,501,000
June 30, 2020
2,648,000
June 30, 2021
2,500,000
Thereafter
10,000,000
Net Patient Service Revenue and Patient Accounts Receivable
Net Patient Service Revenue
Net patient service revenue is reported at the estimated net realizable amounts from patients or thirdparty payors for services rendered, including estimated retroactive adjustments under reimbursement
agreements with third-party payors. For participants in the Medicare and Medicaid programs, and
certain managed care programs, the Health System ultimately collects amounts that are generally
less than standard charges. Medicare and Medicaid are federal and state programs generally designed
to provide services to elderly and indigent patients, respectively. Medicare and Medicaid together
constituted 50% and 48% of the Health System’s standard charges for the nine-month periods ended
March 31, 2017 and 2016, respectively. The Health System has also entered into multiple payment
agreements with commercial insurance carriers, health maintenance organizations, and preferred
provider organizations (managed care companies). The basis for payment to the Health System
under these agreements includes prospectively determined rates per discharge, discounts from
established charges, and prospectively determined fee schedules for episodic services. Together, the
revenues derived from these agreements constituted 38% and 40% of the Health System’s standard
charges for each of the nine-month periods ended March 31, 2017 and 2016.

7

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
Self-pay revenues are derived primarily from patients who do not have any form of health coverage.
The revenues associated with self-pay patients are generally reported at the Health System’s gross
charges. The Health System evaluates these patients, after the patient’s medical condition is
determined to be stable, for their ability to pay based upon federal and state poverty guidelines,
qualifications for Medicaid or other governmental assistance programs, as well as the Health
System’s policy for charity care. The Health System provides care without charge to certain patients
who qualify under its charity care policy.
Effective July 1, 2016, the Health System made a change to its classification of revenues and
receivables for patients who do not have any form of health coverage upon treatment, but who the
Health System expects will qualify for coverage under the Medicaid program. The Health System
previously classified these revenues and receivables as self-pay with corresponding bad debt
adjustments for uncollectible amounts. Effective July 1, 2016, the Health System began classifying
these revenues and receivables as Medicaid with corresponding contractual adjustments for
uncollectible amounts.
The Health System’s net patient service revenue before bad debt by payor, and approximate
percentages of total, were as follows for the nine-month periods ended March 31 (in thousands):
2017
Amount
Managed care
Medicare
Medicaid
Self-pay
Other
Total

$ 1,936,654
897,029
498,884
545,163
153,647
$ 4,031,377

2016
Ratio
48%
22
12
14
4
100%

Amount
$ 1,907,288
825,377
406,132
607,193
142,565
$ 3,888,555

Ratio
49%
21
10
16
4
100%

Patient Accounts Receivable
Patient accounts receivable are reported net of estimated allowances for contractual allowances, bad
debt, and other discounts. The Health System’s recorded allowances for bad debt are based on
expected net collections, after contractual adjustments, primarily from patients. Management
routinely assesses these recorded allowances relative to changes in payor mix, cash collections,
write-offs, recoveries, and market conditions. Unpaid accounts are written off as bad debts upon
reaching delinquent status. Charity care accounts are written off as identified or qualified under the
Health System’s charity care policy. The Health System’s concentration of credit risk with respect to
patient accounts receivable is limited due to the diversity of patients and payors.

8

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
The Health System’s accounts receivable by payor as a percentage of total accounts receivable were
as follows at March 31, 2017 and June 30, 2016:
March 31,
2017
Managed care
Medicare
Medicaid
Self-pay
Other
Total

28%
21
15
25
11
100%

June 30,
2016
29%
21
7
33
10
100%

A summary of activity in the Health System’s allowance for doubtful accounts is as follows
(in thousands):
Provision for
Balances at Bad Debt,
Beginning
Net of
of Period
Recoveries
Period ended March 31, 2017
Year ended June 30, 2016

$

735,260 $
680,776

556,321 $
698,990

Accounts
Written Off

Balances
at End
of Period

(586,167)
(644,506)

$ 705,414
735,260

Medicare and Medicaid Programs
While laws and regulations governing the Medicare and Medicaid programs are complex and subject
to interpretation, the Health System intends to be in compliance with all applicable laws and
regulations and, to that end, has implemented a comprehensive organization-wide corporate
compliance policy.
Certain payments for services provided under the Medicare and Medicaid programs and other
organizations are subject to review of the medical necessity of admission and propriety of discharge,
diagnosis, and coding. As part of the Tax Relief and Health Care Act of 2006, Congress directed the
expansion of the Recovery Audit Contractors (RAC) reviews. Management believes adequate
allowance has been provided for possible adjustments that might result from retrospective billing
reviews, including the ongoing or future RAC reviews.

9

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
Annual retroactive settlements with the Medicare and Medicaid programs are subject to review by
appropriate governmental authorities or their agents. Settlements are accrued on an estimated basis
in the period the related services are rendered, and adjusted in future periods as final settlements are
determined. Accruals for possible settlements are calculated based on historical experience.
The Health System’s Medicare and Medicaid cost reports have been audited by the applicable fiscal
intermediary through June 30, 2011 for all hospitals, and up to 2015 for certain entities.
Additionally, from time to time, the Health System appeals decisions of the fiscal intermediary in
order to recover funds it believes are appropriately due to the Health System for services rendered to
Medicare and/or Medicaid beneficiaries. Processes related to recovering these funds are often long
and complex. The Health System’s policy is to record any funds received from appeals as income in
the year in which the notice of cost report settlement is received.
At March 31, 2017 and June 30, 2016, aggregate accruals and allowances for possible settlements,
and pending reviews, as discussed above, of $43,211,000 and $46,895,000, respectively, are
included in the accompanying consolidated balance sheets in other accrued expenses. It is reasonably
possible that these estimates could differ from actual settlements and, thus, change in the near term
by material amounts.
During the nine-month periods ended March 31, 2017 and 2016, the Health System recognized
$10,674,000 and $3,783,000, respectively, in net patient service revenue from differences between
estimated and actual cost report settlements and appeals.
Medicaid Supplemental Payments
During fiscal years 2017 and 2016, the Health System participated in the Medicaid Disproportionate
Share hospital funding program, established by the state of Texas and administered by the Texas
Health and Human Services Commission (HHSC), which created additional federal matching funds
to increase access to health care by Texas’ indigent patients and defray the cost of treating indigent
patients. Funds are distributed to hospitals providing a high volume of services to Medicaid and
uninsured patients. During fiscal year 2012, a new Medicaid supplemental payment program was
established in Texas under an 1115 Waiver (Waiver). The Waiver program was initially a five-year
federally approved program designed to supplement the unreimbursed costs of providing care to
Medicaid and uninsured patients, as discussed in Note 3. In May 2016, HHSC announced that
HHSC and CMS agreed to extend the Waiver program through December 2017. There are two
pools of funds established under the Waiver program: an uncompensated care (UC) pool and a

10

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
delivery system reform incentive payment (DSRIP) pool. To receive payments from the UC pool, a
hospital must submit an application (referred to as the Waiver tool) estimating its uncompensated
costs for services provided to Medicaid and uninsured patients. The funding of this program is
dependent on intergovernmental transfers from state-owned and local governmental entities to draw
down federal funds to finance both pools. Medicaid supplemental funds, which include Medicaid
Disproportionate Share, DSRIP, and UC payments, of approximately $262,968,000 and
$314,654,000, were recorded for the nine-month periods ended March 31, 2017 and 2016,
respectively. Net patient service revenue includes UC and Disproportionate Share supplemental
funds as a reduction of contractual allowances. DSRIP is recorded as other revenue. At March 31,
2017 and June 30, 2016, the Health System has receivables recorded of $11,525,000 and
$37,777,000 for Medicaid supplemental payments, which are included in other current assets in the
accompanying consolidated balance sheets.
Medicaid supplemental payments have been recognized based on the most recent information
available, but it is reasonably possible that the recorded estimates may change by a material amount
in the near term. Management believes adequate allowance has been provided for possible
adjustments that might result from adjustments to the Medicaid supplemental payment programs.
Premium Revenues, Claims Payable, and Medical Claims Expenses
Premium revenues are recognized in the month in which members are entitled to health care
services. Premiums collected in advance are recorded as unearned premiums and are included in
accrued liabilities on the accompanying consolidated balance sheets.
The estimated cost of all health services rendered to members through March 31, 2017 and June 30,
2016 but not yet paid as of that date is included in other accrued expenses. This claims expense
estimate is developed using actuarial assumptions based on historical experience with respect to the
timing of payments in relation to the dates of service. Subsequent changes to prior period estimates
are reflected in the current period. Losses on contracts are recognized in the period when health care
costs are expected to exceed premium revenue.
Cash Equivalents
Liquid investments with an original maturity of three months or less are reported as cash equivalents,
except for those held for long-term investing purpose or subject to restrictions, which are reported as
investments or assets limited to use.

11

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
Investments, Assets Limited to Use and Investment Income
Investments are reflected as investments or assets limited as to use in the consolidated balance sheets
and include fixed income, equity securities, master limited partnerships (MLPs) and alternative
investments. Investments in equity securities and all debt securities are carried at fair value. Fixed
income includes U.S. government securities, mortgage-backed securities, asset-backed securities and
other securitized credit, corporate obligations, and non-U.S. sovereign and corporate securities, in
pooled funds and separate accounts. Equity securities include domestic and international equities in
pooled funds and separate accounts. Pooled funds are professionally managed and include
institutional mutual funds, fixed income funds, equity funds, and commingled accounts. MLPs
include domestic MLPs in pooled funds and separate accounts and represent limited partnerships
that are typically publicly traded. Other characteristics often associated with these MLPs include the
requirement that the partnerships must generate most of their cash flows from particular businesses
(including commodities).
Alternative investments include ownership interests in hedge funds and limited partnerships that may
employ various investment strategies through the use of publicly traded securities, market neutral
arbitrage, floating rate loans and debt securities, fixed income swaps, private real assets, and private
equity. The Health System’s alternative investments include certain investments whose reported
values had been estimated by fund managers in the absence of readily available market values or
cannot otherwise be substantiated. Because of the inherent uncertainty of valuations, fund managers’
estimates of fair value may differ from the values that would have been used had a ready market for
the securities existed, and the differences could be material. Additionally, risks in certain of the
Health System’s alternative investments include limited transparency where funds are not required to
disclose the holdings in their portfolios to the Health System and limitations on liquidity as funds
may impose lockup periods or holdback provisions that limit the Health System’s ability to redeem
those investments. The Health System records its alternative investments at estimated fair value. As
of March 31, 2017, management has utilized the best available data for reported investment values,
which in most instances are valuations as of December 31, 2016. As of March 31, 2017, the
unfunded commitment related to alternative investments is approximately $326,606,000.
Investments are classified as noncurrent assets regardless of their maturity date due to the Health
System’s primary intent not to utilize these assets to meet current obligations, capital, and other cash
flow needs, and the investments have exposure to asset classes with longer term investment
horizons. Assets limited as to use are funds legally restricted by bond indentures, internally restricted
in connection with self-insurance programs, externally restricted by donor specifications, restricted
by resident agreements, or internally restricted for charity care or other purposes. Assets limited as to
use are classified as noncurrent assets, except for assets limited as to use that are required to meet
current liabilities, which are classified as current assets.

12

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
Substantially all of the Health System’s investments are designated as trading investments.
Investment income, including realized and unrealized gains and losses on investments, interest and
dividend income, and equity in earnings of alternative investments, is recorded as a nonoperating
activity and included in revenues in excess of expenses in the accompanying consolidated statements
of operations and changes in net assets, unless the income or loss is restricted by donor or law. Net
purchases and sales of investments are reported as a component of net cash used in investing
activities in the accompanying consolidated statements of cash flows, as the net proceeds were used
primarily to fund the Health System’s acquisition of capital assets.
The Health System maintains investments with various financial institutions and investment
management firms, and its policy is designed to limit exposure to any one institution or investment,
therefore reducing overall risk.
Property, Plant, and Equipment
Property, plant, and equipment are carried at cost or fair value at the time of donation and include
expenditures for new facilities and equipment and those expenditures that substantially increase the
useful life of existing facilities and equipment. Ordinary maintenance and repairs are charged to
expense when incurred. Depreciation is provided using the straight-line method over 20 to 40 years
for buildings, 5 to 10 years for improvements (limited to the term of the related lease, if applicable),
and 3 to 12 years for equipment. Assets accounted for as capital leases are amortized over the terms
of the respective leases, and such amortization is included in depreciation and amortization expense.
When events, circumstances, or operating results indicate that the carrying values of certain longlived assets might be impaired, the Health System prepares undiscounted projections of cash flows
expected to result from the use of the assets and their eventual disposition. If the projections indicate
that the recorded amounts are not expected to be recoverable, the related asset’s carrying value is
reduced to estimated fair value. Fair value may be estimated based upon internal evaluations that
include quantitative analyses of revenues and cash flows, reviews of recent sales of similar assets,
and independent appraisals. Property and equipment to be disposed of are reported at the lower of
the carrying amounts or fair value less costs to sell or close. The estimates of fair value are usually
based upon recent sales of similar assets and market responses based upon discussions with and
offers received from potential buyers.
Interest Rate Swap Agreements
The Health System records its interest rate swap agreements at fair value in the consolidated balance
sheets and the change in the fair values and net interest payments under swaps as a component of
interest rate swap agreements on the consolidated statements of operations and changes in net assets.

13

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
Investments in Joint Ventures
The Health System has entered into multiple joint venture and partnership arrangements for the
provision of medical services to patients and the development and construction of certain facilities.
For those ventures where the Health System has a controlling interest through majority ownership,
management control, or both, the ventures’ assets, liabilities, and operating results have been
included in the consolidated financial statements of the Health System. At March 31, 2017 and June
30, 2016, the Health System has recognized net assets attributable to noncontrolling interest of
$124,848,000 and $127,991,000, respectively, representing the venture partners’ interest in the
equity and undistributed earnings of the consolidated ventures. For those ventures where the
Health System does not maintain a controlling interest, the Health System accounts for its
investment under the equity method of accounting. At March 31, 2017 and June 30, 2016, the Health
System had investments representing its equity in these unconsolidated ventures of $4,267,000 and
$4,524,000, respectively, recorded in other assets. For the nine-month periods ended March 31, 2017
and 2016, the Health System recognized a net gain of $2,285,000 and $13,621,000, respectively,
recorded in investment gains (losses) in the accompanying consolidated statements of operations and
changes in net assets relating to unconsolidated ventures.
Goodwill
The Health System records goodwill arising from a business combination as the excess of the
purchase price and related costs over the fair value of the identifiable tangible and intangible assets
acquired and liabilities assumed. At March 31, 2017 and June 30, 2016, the Health System had
goodwill of $195,111,000 and $175,280,000, respectively, which relates to the purchase of several
entities from fiscal years 2010 through 2017, including purchases made by consolidated joint
ventures. Increases to goodwill for the nine-month periods ended March 31, 2017 and 2016, were
$19,831,000 and $114,948,000, respectively. Goodwill is reflected in other long-term assets.
Taxes
The Health System and certain other affiliates are Texas nonprofit corporations and have been
recognized as tax-exempt pursuant to Section 501(c)(3) of the IRC. The Health System owns certain
taxable subsidiaries and engages in certain activities that are unrelated to its exempt purpose and,
therefore, subject to tax.
Management annually reviews its tax positions and has determined that there are no material
uncertain tax positions that require recognition in the accompanying consolidated balance sheets.
The tax returns are subject to Internal Revenue Service review for three years subsequent to the dates
they are filed. The Health System has net operating losses (NOL) tax carryforwards that will expire
between 2019 and 2036. Due to the age of these NOLs, and the fact that management is uncertain
14

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
that the full amount of the NOLs will be realized in the future, no deferred tax asset has been
recorded.
Performance Indicator
The Health System’s consolidated statements of operations and changes in net assets contain a
performance indicator titled revenues in excess of expenses. Revenues in excess of expenses include
the Health System’s results from operations and nonoperating activities, and exclude changes in
noncontrolling interest, changes in unfunded pension obligations, restricted contributions and grants
received, and certain other changes in net assets. Health System activities directly related to the
furtherance of the Health System’s purpose, as discussed in Note 1, are considered to be operating
activities. Other activities that result in gains or losses are considered to be nonoperating, and
primarily include investment earnings, losses on extinguishment of debt, and other nonoperating
gains/losses, including unusual or infrequent recoveries or costs not directly related to operating
activities.
New Accounting Pronouncements
In February 2015, the FASB issued ASU 2015-02, Consolidation (Topic 810): Amendments to the
Consolidation Analysis, which requires a revaluation of whether certain legal entities, including
limited partnerships, should be consolidated, and eliminates the presumption that a general partner
should consolidate a limited partnership. ASU 2015-02 is effective for fiscal years and interim
periods within those fiscal years, beginning after December 15, 2015, with early adoption permitted.
The guidance was adopted effective July 1, 2016 and did not have a material impact to the Health
System’s consolidated financial statements.
Pending Accounting Pronouncements
In April 2015, the FASB issued ASU 2015-05 as an update to Subtopic 350-40, Intangibles –
Goodwill and Other – Internal Use Software. The update provides guidance on accounting for fees
paid in a cloud computing arrangement. Previously, there was no such guidance under U.S. GAAP
resulting in diversity in practice. The amendments in the update provide guidance to customers about
whether a cloud computing arrangement includes a software license. If a cloud computing
arrangement includes a software license, then the software license element of the arrangement
should be accounted for consistent with the acquisition of other software licenses. If a cloud
computing arrangement does not include a software license, the arrangement should be accounted
for as a service contract. The updated guidance will be effective for the Health System beginning
July 1, 2017, and interim periods in annual periods beginning after July 1, 2018. Early adoption is
permitted. The guidance can be adopted either (1) prospectively to all arrangements entered into or
materially modified after the effective date or (2) retrospectively. The adoption of the guidance is not
expected to have a material impact to the Health System’s consolidated financial statements.
15

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
2. Significant Accounting Policies (continued)
In August 2016, the FASB issued ASU 2016-14, Not-for-Profit Entities (Topic 958). ASU 2016-14
sets forth the FASB’s improvements to net asset classification requirements and the information
presented about a not-for-profit entity’s liquidity, financial performance, and cash flows. The
provisions of ASU 2016-14 are effective for the Health System’s annual financial statements for the
fiscal year starting July 1, 2018, and early adoption is permitted. Application to interim financial
statements is permitted but not required in the initial year of application, but is required starting July
1, 2019. Management is currently evaluating the impact of this pronouncement on the Health
System’s consolidated financial statements.
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606),
to clarify the principles for recognizing revenue and to improve financial reporting by creating
common revenue recognition guidance for GAAP and International Financial Reporting Standards.
The core principle of the new guidance is that an entity should recognize revenue to depict the
transfer of promised goods or services to customers in an amount that reflects the consideration to
which the entity expects to be entitled in exchange for those goods or services. The provisions of
ASU 2014-09 are effective for the Health System beginning July 1, 2018, including interim periods
within that reporting period. Management is evaluating the guidance in ASU 2014-09 and the impact
that the adoption of this update will have on its consolidated financial statements.
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). ASU 2016-02 requires
companies that lease assets to recognize a right-of-use asset and a lease liability, initially measured
at the present value of the lease payments, in its balance sheet. The pronouncement will also
require additional disclosures about the amount, timing and uncertainty of cash flows arising
from leases. The provisions of ASU 2016-02 are effective for the Health System starting July 1,
2019, including interim periods within that reporting period, and early adoption is permitted.
Management is currently evaluating the impact of this pronouncement on the Health System’s
consolidated financial statements.
In March 2017, the FASB issued ASU 2017-07, Compensation—Retirement Benefits (Topic 715):
Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit
Cost. The amendments in ASU 2017-07 require that an employer report the service cost component
in the same line item or items as other compensation costs arising from services rendered by the
pertinent employees during the period. It also requires the other components of net periodic pension
cost and net periodic postretirement benefit cost to be presented in the income statement separately
from the service cost component and outside a subtotal of income from operations. The provisions of
ASU 2017-07 are effective for the Health System starting July 1, 2018, including interim periods
within that reporting period, and early adoption is permitted. Management is currently evaluating the
impact of this pronouncement on the Health System’s consolidated financial statements.

16

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
3. Community Service
In accordance with its purpose and values, the Health System is committed to providing
high-quality, cost-effective health services to the community, including such underserved groups as
the indigent and the elderly. Self-pay revenues are derived primarily from patients who do not have
any form of health coverage. The revenues associated with self-pay patients are generally reported at
the Health System’s gross charges. The Health System evaluates these patients, after the patient’s
medical condition is determined to be stable, for their ability to pay based upon federal and state
poverty guidelines, or qualifications for Medicaid or other governmental assistance programs, as
well as the Health System’s policy for charity care. The Health System provides care without charge
to certain patients who qualify under the local charity care policy. The Health System’s gross charity
care charges include only services provided to patients who are unable to pay and qualify under the
Health System’s charity care policies. The Health System does not report a charity care patient’s
charges in revenues or in the provision for doubtful accounts, as it is the Health System’s policy not
to pursue collection of amounts related to these patients.
In addition, the Health System contributes to Harris County Clinical Services, Inc. (HCCS), which
provides health care services to low-income and needy residents in the community.
The Health System’s management estimates its costs of care provided under its charity care and
Medicaid programs utilizing a calculated ratio of costs to gross charges multiplied by the Health
System’s gross charges provided. These costs are as follows for the nine-month periods ended:
March 31,
2017
2016
(In Thousands)
Charity care costs
Medicaid costs in excess of reimbursement
HCCS payments

$

$

176,754
57,379
107,597
341,730

$

$

151,119
93,488
112,100
356,707

The Health System operates emergency rooms at its hospitals that are open to the public 24 hours a
day, 7 days a week. The Health System also operates Life Flight, an air ambulance service based at
the Memorial Hermann Texas Medical Center (Level I trauma center); a burn unit; a transplant
center; and two Level III neonatal intensive care units that provide services to many infants whose
mothers have not had access to appropriate prenatal care. Further, the Health System provides
various community screenings for the detection of diseases and disorders, as well as a forum for
various wellness activities and community health education classes.

17

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
3. Community Service (continued)
In addition to the uncompensated care provided to patients, the Health System funds various
community projects as part of its ongoing community benefit plan. These projects are developed in
response to specific community needs in the Health System’s service area identified through
community needs assessments. Examples of projects funded include 10 school-based health centers
and three mobile dental vans serving 63 schools in five school districts, an ER Navigator
program educating primary care patients about the importance of finding an appropriate medical
home other than the emergency room, and providing financial support to primary care clinics that
serve the community’s uninsured and underinsured population. Additionally, the Health System
supports various community and city-wide task forces committed to addressing the issue of health
access for the underserved.
As a part of its approval of the 1997 merger between Memorial Hospital System and Hermann
Healthcare System, Inc., a Harris County District Court entered an Agreed Order stipulating that the
Health System will continue providing charity care and community service in the amount of 6% of
net revenue or $22,500,000, whichever is greater. This amount is an additional 1% above the
percentage required of all Texas nonprofit hospitals under the charity care provision of the Texas
Health & Safety Code. During fiscal years 2017 and 2016, the Health System believes it has met all
stipulations of the agreement. Revenues of the other Health System entities are not obligated under
the agreement.
4. Investments and Assets Limited as to Use
Investments
The Health System maintains investments with various financial institutions and investment
management firms, and its policy is designed to limit exposure to any one institution or investment,
therefore reducing overall investment risks.
The following is a summary of unrestricted investments by classification:

March 31,
June 30,
2017
2016
(In Thousands)
Cash and cash equivalents
Fixed income
Equity securities
Alternative investments
Total investments

31,162
59,392 $
387,743
412,532
999,289
1,022,727
549,095
662,705
$ 2,157,356 $ 1,967,289
$

18

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
4. Investments and Assets Limited as to Use (continued)
Assets Limited as to Use
The following table sets forth the restricted purpose of the Health System’s assets limited as to use:
March 31,
June 30,
2016
2016
(In Thousands)
Bond indenture agreements
Self-insurance programs
Donor restrictions
Charity care and depreciation funds

$

Less current portion required for current liabilities

155,701 $ 288,820
96,992
109,138
122,067
127,159
4,069
4,328
511,948
396,326
(29,648)
(25,627)
$482,300
$370,699

Investment Income (Loss)
Investment income (loss) related to unrestricted net assets comprises the following for the ninemonth periods ended:
March 31,
2017
2016
(In Thousands)
Interest and dividend income
Realized gains (losses), net
Unrealized gains (losses)

$

$

15,716 $
22,435
147,527
185,678 $

29,558
(34,627)
(120,652)
(125,721)

19

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
5. Property, Plant, and Equipment
Property, plant, and equipment consist of the following:
March 31,
June 30,
2016
2016
(In Thousands)
Buildings and improvements
Building and equipment under capital lease
Equipment
Less accumulated depreciation
Land
Construction-in-progress

$ 2,848,159 $ 2,719,713
727,458
746,703
1,861,498
1,901,198
(3,302,458) (3,114,641)
2,194,028
2,193,602
139,612
144,020
422,591
525,706
$ 2,863,328 $ 2,756,231

At March 31, 2017, the Health System had remaining commitments for planned construction of
approximately $502,386,000.
In 2015 and 2016, the Health System sold 12 medical office buildings for $238,500,000 and leased
them back. Under the provisions of ASC 840-40, Leases – Sale-Leaseback Transactions, the Health
System is required to continue to capitalize the medical office buildings and to recognize an
obligation for the sales proceeds received. A gain on the sale of approximately $117,590,000 has
been deferred until specified forms of continuing involvement have ceased. The consolidated
balance sheets as of March 31, 2017 and June 30, 2016, include approximately $67,142,000 and
$70,757,000 of property, plant, and equipment, net, respectively; and $219,216,000 and
$223,827,000, respectively, in other long-term obligations related to this transaction.
In 2015, the Health System entered into 12-year lease agreements with three five-year renewal
options for two new medical office buildings. The Health System is considered the accounting
owner of the medical office buildings due to “lessee” involvement during the construction period.
Accordingly, the leases are accounted for as financing obligations, and the costs of the medical
office buildings are capitalized and depreciated over their estimated economic life. The
corresponding financing obligations are amortized over the term of the related leases. At March 31,
2017 and June 30, 2016, approximately $35,353,000 and $36,045,000 for the office buildings is
included in property and equipment, net, respectively. At March 31, 2017 and June 30, 2016
approximately $36,297,000 and $36,755,000 was included in long-term debt related to this
obligation. Lease payments under the arrangements average approximately $3,400,000 annually over
a 12-year period and are applied to reduce the related financing obligations.

20

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
6. Indebtedness
Long-term debt consisted of the following (in thousands):
March 31,
June 30,
2017
2016
(In Thousands)
Obligations issued under the Memorial Hermann Health Master
Trust Indenture:
Revenue bonds, in variable-rate demand mode, with interest
rates ranging from 0.75% to 1.08% at March 31, 2017,
due in varying installments through June 1, 2046:
Series 2014C and D
Series 2015A, B and C
Series 2016B, C, D and E

$

70,400
263,100
326,305

$

70,400
263,100
326,305

Revenue bonds, in variable rate mode, with interest rate
ranging from 0.91% to 1.49% at March 31, 2017, due in
annual installments through December 1, 2042:
Series 2013B
Series 2014B

89,340
70,425

89,340
70,425

Revenue bonds, in fixed rate mode, bearing interest from
2.40% to 5.30%, due in annual installments through
July 1, 2046:
Series 2010A
Series 2013A
Series 2014A
Series 2016A

46,140
308,870
143,680
132,900

46,140
315,515
145,005
132,900

757,799
72,849
2,281,808
45,472
(8,564)
2,318,716
(447,348)
1,871,368

748,720
69,908
2,277,758
49,534
(8,999)
2,318,293
(443,227)
$ 1,875,066

Other long-term debt obligations:
Capital lease obligations
Line of credit and other notes
Premiums on long-term debt, net
Less deferred financing fees
Less current portion, including amounts subject to self-liquidity
$

21

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
6. Indebtedness (continued)
Debt Obligations
The Health System has issued revenue bonds through the Harris County Health Facilities
Development Corporation and the Harris County Education Facilities Finance Corporation.
Payments to the bondholders are funded by the issuing affiliates under a master trust indenture with
the trustees of the respective bond issues. The Health System and substantially all operating affiliates
have agreed to arrangements and indentures related to the bonds to abide by guidelines regarding
repayment, financial performance, organizational changes, reporting, and additional borrowing.
Certain variable rate demand bonds were issued under the Health System’s self-liquidity program,
and therefore, have been classified as current liabilities. The Health System will provide its own
liquidity to purchase any tendered bonds that cannot be successfully remarketed.
The Health System entered into a syndicated revolving line of credit agreement, which was renewed
in February 2017 for a term of 5 years with a maximum amount available of $300,000,000. The
purpose of this line of credit facility is to provide a source of liquidity in the case of emergency or
disaster, or to provide a means of bridge financing in advance of any permanent debt financing
transaction. As of March 31, 2017 and June 30, 2016, $36,500,000 and $36,000,000 was
outstanding, respectively.
On December 15, 2015, the Health System refinanced its Series 2010B ($162,400,000) variable rate
demand bonds by issuing the Series 2015A ($81,200,000) and Series 2015B ($81,200,000)
refunding bonds. These bonds were purchased by banks and have no “put feature” for a term of five
years. The amortization and final maturity of the bonds remain unchanged.
On December 15, 2015, the Health System also refinanced its Series 2008A-1 ($107,800,000)
variable rate demand bonds by issuing the Series 2015C ($107,800,000) refunding bonds. These
bonds were purchased by a bank until the final maturity of the bonds and do not have a put option.
The amortization and final maturity of the bonds remain unchanged.
The bank notes associated with the Series 2015A, Series 2015B, and Series 2015C bonds
($270,200,000 aggregate) contain certain criteria under which the respective banks can call for the
repayment of the debt in advance of the stated maturities. Management has evaluated these criteria,
and believes the debt is appropriately classified as long-term.
On June 8, 2016, the Health System issued the Series 2016A fixed rate bonds in the amount of
$132,900,000 due on July 1, 2046. The Series 2016A bonds were sold at a net premium of
$18,316,215.

22

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
6. Indebtedness (continued)
On June 8, 2016, the Health System issued the Series 2016B variable rate demand bonds in
commercial paper mode in the amount of $150,000,000. On June 8, 2016, the Health System
refinanced the 2013C and 2013D bonds by issuing the Series 2016C ($62,370,000) and 2016D
($41,605,000). The Series 2016C and 2016D are variable rate demand bonds.
On June 8, 2016, the Health System restructured the Series 2008A-2 into 2016E Series
($72,300,000) variable rate demand refunding bonds.
The 2014C and D and 2016B, C, D and E Series bonds were issued under the Health System’s selfliquidity program and therefore, have been classified as current liabilities.
Other notes consist of secured loans by financial institutions to finance the equipment purchases of
the Health System’s joint venture partnerships.
The estimated fair value of the Health System’s serial and term fixed rate bonds at March 31, 2017
and June 30, 2016, was approximately $685,517,000 and $743,780,000, respectively. The valuation
of the bonds is based on a combination of quoted market prices for identical securities when
available, a Level 1 input, and quoted market prices for similarly rated health care revenue bond
issues, a Level 2 input. The Health System considers the carrying value of its variable rate long-term
debt to approximate fair value at March 31, 2017 and June 30, 2016, due to the variable nature of the
interest rate.
Leases
The Health System leases certain health facilities located in the Houston metropolitan area. One such
leasing arrangement, which is reflected as a capital lease in the accompanying consolidated financial
statements, consists of a 520-licensed-bed general acute care hospital and rehabilitation care facility
located in west Houston. All revenues and income from the operation of the leased facilities during
the lease term accrue to the Health System. The Health System is responsible under the lease for ad
valorem taxes, normal maintenance, utilities, and other operating costs.
In June 2010, the Health System entered into 10-year lease agreements for additional floors of the
Memorial City Medical Tower and for certain land, buildings, and improvements of medical offices
currently existing near the Memorial City Medical Tower. These agreements are being recorded as
operating leases with rental payments reflected in the accompanying consolidated statements of
operations and changes in net assets.

23

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
6. Indebtedness (continued)
The Health System leased certain other health facilities in the Houston metropolitan area consisting
of a 255-licensed-bed general acute care hospital in north Houston. All revenues and income from
the operation of the leased facilities during the lease term accrue to the Health System. The Health
System is responsible under the lease for ad valorem taxes, normal maintenance, utilities, and other
operating costs. This agreement was recorded as an operating lease with annual rental payments of
$6,500,000 reflected in the accompanying consolidated statements of operations and changes in net
assets. In May 2016, the Health System purchased the leased facilities for $55,000,000. As part of
the purchase agreement, the Health System has an obligation to operate the hospital for at least 10
years and to construct a new hospital tower with an expected cost of approximately $70,000,000
with the Northeast Hospital Authority contributing $10,000,000 toward the cost.
7. Interest Rate Swap Agreements
The Health System utilizes interest rate swap agreements to manage its capital costs and interest rate
risk. The following table summarizes the Health System’s swap portfolio, the fair values at March
31, 2017 and June 30, 2016 and the change in value for the nine-month periods ended March 31,
in thousands:
Swap
Description
LIBOR-based to
fixed (5.3425%)
LIBOR-based to
fixed (3.629%)
LIBOR-based to
fixed (3.635%)
LIBOR-based to
fixed (3.685%)

Term
Date
2032

Interest
Rate
Agreements
1

2029

3

2024

2

2027

3

Aggregate
Notional
Amount

Fair Value Liability
March 31,
June 30,
2017
2016

Change in Fair Value
March 31,
March 31,
2017
2016

$113,120

($37,633)

($55,830)

$18,197

($10,465)

131,700

(24,153)

(36,087)

11,934

(6,835)

88,000

(7,233)

(11,549)

4,316

(286)

172,600

(20,030)

(30,711)

10,681

(2,779)

$505,420

($89,049)

($134,177)

$45,128

($20,365)

9

The notional amounts under each of the interest rate swap agreements are reduced in conjunction
with the Health System’s principal payments on the associated bonds. At March 31, 2017 and June
30, 2016, the fair value of swap agreements was a liability of $89,049,000 and $134,177,000,
respectively, and has been included in other long-term liabilities in the accompanying consolidated
balance sheets. As of March 31, 2017, none of the Health System’s swap agreements include
provisions that would require posting of collateral.
The Health System classified the net interest cost on its interest rate swaps for the nine-month
periods ended March 31, 2017 and 2016, of $13,645,000 and $15,255,000, respectively, in
nonoperating expenses (interest rate swap agreements) in the consolidated statements of operations
and changes in net assets.

24

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
8. Fair Value Measurement
The Health System categorizes, for disclosure purposes, assets and liabilities measured at fair value
in the consolidated financial statements based upon whether the inputs used to determine their fair
values are observable or unobservable. Observable inputs are inputs that are based on market data
obtained from sources independent of the reporting entity. Unobservable inputs are inputs that reflect
the reporting entity’s own assumptions about pricing the asset or liability, based on the best
information available in the circumstances.
In certain cases, the inputs used to measure fair value may fall into different levels of the fair value
hierarchy. In such cases, an asset’s or liability’s level within the fair value hierarchy is based on the
lowest level of input that is significant to the fair value measurement of the asset or liability. The
Health System’s assessment of the significance of a particular input to the fair value measurement in
its entirety requires judgment, and considers factors specific to the asset or liability.
The Health System follows the three-level fair value hierarchy to categorize these assets and
liabilities recognized at fair value at each reporting period, which prioritizes the inputs used to
measure such fair values. Level inputs are defined as follows:
Level 1 – Quoted prices (unadjusted) in active markets for identical assets or liabilities on the
reporting date.
Level 2 – Inputs to the valuation methodology other than quoted market prices included in
Level 1 that are observable for the asset or liability. Level 2 pricing inputs include quoted prices
for similar assets and liabilities in active markets, and inputs that are observable for the asset or
liability, either directly or indirectly, for substantially the full term of the financial instrument.
Level 3 – Inputs that are unobservable for the asset or liability.

25

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
8. Fair Value Measurement (continued)
The following tables present financial instruments carried at fair value on a recurring basis as of
March 31, 2017 and June 30, 2016. The table does not include contributions receivable of
$27,356,000 and $35,690,000 at March 31, 2017 and June 30, 2016, respectively, and real estate of
$187,000 that are not carried at fair value, and are included in assets limited as to use in the
consolidated balance sheets. The tables also do not include alternative investments of $699,061,000
and $561,415,000 at March 31, 2017 and June 30, 2016, respectively, which are measured at fair
value using net asset value as a practical expedient, as allowed under ASU 2009-12, Fair Value
Measurements and Disclosures (Topic 820): Investments in Certain Entities That Calculate Net
Asset Value per Share (or Its Equivalent). Valuations provided by the respective investment’s
management consider variables such as the financial performance of underlying investments, recent
sales prices of underlying investments, and other pertinent information. In addition, actual market
exchanges at period-end provide additional observable market inputs of the exit price. The majority
of these funds have restrictions on the timing of withdrawals, which may reduce liquidity, in some
cases for up to 12 months.

26

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
8. Fair Value Measurement (continued)
March 31, 2017
Level 2
Level 3
(In Thousands)

Level 1
Assets
Investments:
Cash and equivalents
U.S. government securities
Pooled funds:
Domestic equities
Global equities
Risk parity
Fixed income
Hedge fund
Public REITs
Corporate obligations
Corporate equities
Global equities
MLPs

$

Assets limited as to use:
Cash and equivalents
Pooled funds:
Domestic equities
Global equities
Fixed income
MLPs
Corporate equities
Total assets
Liabilities
Interest rate swap agreements
Total liabilities

$
$

59,392
15,883

$

–
22,423

$

Total

–
–

$

59,392
38,306

52,865
191,050
66,182
265,146
–
35,818
–
275,783
44,362
145,600

–
146,046
65,021
–
68,803
–
16,095
–
–
–

–
–
–
–
–
–
–
–
–
–

52,865
337,096
131,203
265,146
68,803
35,818
16,095
275,783
44,362
145,600

198,218

–

198,218

9,285
58,427
44,686
5,398
14,968
$ 1,483,063

$

–
–
–
–
–
318,388

$

–
–
–
–
–
–
–
–

9,285
58,427
44,686
5,398
14,968
$ 1,801,451

–
–

$
$

89,049
89,049

$
$

–
–

$
$

89,049
89,049

27

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
8. Fair Value Measurement (continued)
June 30, 2016
Level 2
Level 3
(In Thousands)

Level 1
Assets
Investments:
Cash and equivalents
U.S. government securities
Pooled funds:
Domestic equities
Global equities
Risk parity
Fixed income
Hedge fund
Public REITs
Corporate obligations
Corporate equities
Global equities
MLPs

$

31,162
10,908

$

–
–

$

Total

–
–

$

31,162
10,908

1,716
201,539
70,735
265,087
–
50,906
–
288,534
39,991
139,098

–
129,180
77,590
–
67,068
–
45,196
–
–
–

–
–
–
–
–
–
–
–
–
–

1,716
330,719
148,325
265,087
67,068
50,906
45,196
288,534
39,991
139,098

Assets limited as to use:
Cash and equivalents
Pooled funds:
Domestic equities
Global equities
Fixed income
MLPs
Corporate equities
Total assets

311,378

–

–

311,378

8,621
50,614
44,272
5,760
12,942
$ 1,533,263

$

–
–
–
–
–
319,034

$

–
–
–
–
–
–

8,621
50,614
44,272
5,760
12,942
$ 1,852,297

Liabilities
Interest rate swap agreements
Total liabilities

$
$

$
$

134,177
134,177

$
$

–
–

$ 134,177
$ 134,177

–
–

The fair values of the securities included in Level 1 were determined through quoted market prices,
and include money market funds, mutual funds, and marketable debt and equity securities. The fair
values of Level 2 securities were determined through evaluated bid prices based on recent trading
activity, and other relevant information, including market interest rate curves and referenced credit
spreads, and estimated prepayment rates, where applicable, are used for valuation purposes and are
provided by third-party services where quoted market values are not available. The fair values of the
interest rate swap agreements included in Level 2 were determined using third-party models that use
as their inputs observable market conditions.
28

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
9. Self-Funded Liabilities
The Health System is self-insured for general and professional liability, errors and omissions, and
workers’ compensation claims, and maintains excess insurance coverage at varying levels. A
provision is made for estimated losses and related expenses on risks not covered by insurance. The
provision includes estimated amounts for asserted claims, reported incidents for which a claim has
not been asserted, and claims incurred but not reported. The provision is based on specific claim loss
estimates by the Health System’s management and on estimates of total annual losses by an
independent consulting actuary using the Health System and similar facility experience.
The Health Professionals Insurance Company, Ltd. (HePIC), a wholly owned subsidiary, is a captive
insurance company that provides professional liability, general liability, and other insurance
coverage for the Health System’s affiliates. The Health System funds HePIC’s required insurance
reserves. Funding amounts are based on actuarial recommendations. The assets of HePIC and the
established liability for self-funded losses are reported in the consolidated balance sheets. Investment
income from the assets and the provision for estimated self-funded losses and administrative costs
are reported in the consolidated statements of operations and changes in net assets. The Health
System’s established liability for self-funded losses was $72,347,000 and $61,947,000 as of March
31, 2017 and June 30, 2016, respectively, and is recorded in other long-term obligations in the
accompanying consolidated balance sheets.
10. Commitments and Contingencies
Litigation
From time to time, the Health System is subject to litigation in the ordinary course of its operations.
In management’s opinion, any future settlements or judgments on asserted or unasserted claims will
not have a material effect on the Health System’s consolidated financial position.
Various federal and state agencies have initiated investigations regarding reimbursement claimed by
the Health System and other matters. The investigations are in various stages of discovery, and the
ultimate resolution of these matters, including the liabilities, if any, cannot be readily determined;
however, in the opinion of management, the results of these investigations will not have a material
adverse impact on the consolidated financial statements of the Health System.
Other
Under terms of an agreement, as amended, dated January 1, 1968, the Health System and the
University of Texas Health Science Center at Houston (the University) affiliated to operate and
maintain a patient care, medical teaching, research, and community service facility. The agreement
specifies that Memorial Hermann-Texas Medical Center will serve as the primary private hospital
teaching site for the University, and operate and maintain a fully accredited hospital, while
29

 Memorial Hermann Health System
Notes to Consolidated Financial Statements (continued)
10. Commitments and Contingencies (continued)
maintaining final authority over operational policy. The University agrees to offer the hospital
the opportunity to accommodate all teaching programs and clinical programs, maintain fully
accredited educational programs, and conduct research activities while utilizing Memorial HermannTexas Medical Center. Mutual commitments include administrative appointments and sharing of
certain operational and research costs. Expenses for obligations to the University for the nine-month
periods ended March 31, 2017 and 2016, totaled $184,089,000 and $179,888,000, respectively.
Effective October 16, 2016 this agreement was auto renewed and expires on October 15, 2029. The
parties are in active discussions to establish a new long-term academic and clinical affiliation
agreement.

30

 Key Statistical Indicators

Memorial Hermann Health System
Key Statistical Indicators
For Period Ending March 31, 2017

Current Period
Current

Prior

Year To Date

Budget

O/(U)

Current

Prior

Budget

O/(U)

Inpatient
14,414

13,861

13,868

546

Admissions

124,375

117,649

122,088

2,287

76,558

77,104

75,347

1,211

Patient Days

674,963

656,124

663,029

11,934

29,810

27,303

28,055

6.3%

Adjusted Admissions

250,002

230,863

242,140

3.2%

158,333

151,876

152,428

3.9%

Adjusted Patient Days

1,356,723

1,287,512

1,315,006

3.2%

2,016

2,066

2,240

(224)

Deliveries

18,729

19,229

20,510

(1,781)

4,133

4,192

4,076

57

Inpatient Surgeries

36,871

35,853

37,408

(537)

5.31

5.56

5.43

(2.2%)

5.43

5.58

5.43

(0.1%)

1.7526

1.7237

1.6992

3.1%

Case Mix Index - Total

1.6937

1.6928

1.6983

(0.3%)

2.0024

1.9701

1.9547

2.4%

Case Mix Index - Medicare

1.9475

1.9627

1.9716

(1.2%)

3.03

3.23

3.20

(5.2%)

3.20

3.29

3.20

0.2%

Average Length of Stay

CMI Adj Avg Length of Stay

Outpatient
6,533

5,823

6,031

502

Observation Days

55,233

54,194

53,503

1,730

5,506

5,259

5,057

449

Observation Patient Count

48,618

48,620

45,514

3,104

55,054

53,641

52,169

2,885

472,514

439,836

447,317

25,197

10,809

9,465

10,312

497

90,487

78,492

89,396

1,091

134,170

122,851

126,381

7,789

1,090,401

1,010,496

1,043,792

46,609

24,401

22,692

24,119

282

4.9

4.8

5.0

Emergency Visits
Outpatient Surgeries
Diag/Ther Registrations

Productivity/Cost Efficiency
25,158

23,746

24,081

1,077

Paid Full Time Equivalents

4.9

4.8

4.9

0.0%

44.7

40.4

44.1

Labor Cost as a % of NOR

45.1

43.2

44.9

16.8

16.2

16.4

Supply Cost as a % of NOR

16.9

16.9

17.0

FTE per Adj Occ Beds

(2.0%)

 Disclaimer
This Quarterly Report on Financial Information and Operating Data is provided solely to comply
with contractual disclosure commitments, made in connection with outstanding bond issues, to
provide specified information. Descriptions of the bonds, the source of payment and security for
the bonds, and risks associated with an investment in the bonds are described in the Official
Statements related to the bonds, as supplemented, copies of which are on file with the Municipal
Securities Rulemaking Board. This Quarterly Report is not made in connection with a purchase
or sale of bonds by MHHS and accordingly is not intended to contain all information material to
a decision to purchase or sell bonds.
Any statement in this Quarterly Report which includes a matter of opinion, whether or not
expressly so stated, is intended as such, and not as a representation of fact. The information
contained in this Quarterly Report is provided as of the respective dates specified herein and is
subject to change without notice, and the filing of this Quarterly Report shall not, under any
circumstances, create any implication that there has been no change in the affairs of the entities
referred to herein or in the other matters described herein since the date as of which such
information is provided. The historical information set forth in this Quarterly Report is not
necessarily indicative of future results or performance due to various factors, including, among
others, those discussed in the Official Statements referred to above.
In its disclosure commitments, MHHS disclaims any contractual or tort liability for damages
resulting in whole or in part from any breach of the commitments or from any statement made
pursuant to the commitments. See “Continuing Disclosure of Information” in the Official
Statements.