Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

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Overview

Our principal business is owning and operating, through our subsidiaries, acute care hospitals and outpatient facilities and behavioral health care facilities.

As of February 28, 2017, we owned and/or operated 319 inpatient facilities and 33 outpatient and other facilities including the following located in 37 states, Washington, D.C., the United Kingdom, Puerto Rico and the U.S. Virgin Islands:

Acute care facilities located in the U.S.:

•26 inpatient acute care hospitals;
•4 free-standing emergency departments, and;
•4 outpatient surgery/cancer care centers & 1 surgical hospital.

Behavioral health care facilities (293 inpatient facilities and 24 outpatient facilities):

Located in the U.S.:

•189 inpatient behavioral health care facilities, and;
•20 outpatient behavioral health care facilities.

Located in the U.K.:

•100 inpatient behavioral health care facilities, and;
•2 outpatient behavioral health care facilities.

Located in Puerto Rico and the U.S. Virgin Islands:

•4 inpatient behavioral health care facilities, and;
•2 outpatient behavioral health care facility.

In late December, 2016, we completed the acquisition of Cambian Group, PLC’s adult services’ division (the “Cambian Adult Services”) for a total purchase price of approximately $473 million. The Cambian Adult Services division consists of 79 inpatient and 2 outpatient behavioral health facilities located in the U.K. The Competition and Markets Authority (“CMA”) in the U.K. is currently reviewing our acquisition of the Cambian Adult Services. We estimate that the CMA’s review of our acquisition will be completed during the second quarter of 2017. However, until such review is completed, we are not permitted to integrate the Cambian Adult Services business into our existing businesses located in the U.K. Further, we can provide no assurance that the CMA will not require us to divest certain parts of the Cambian Adults Services division or certain parts of our existing business located in the U.K.

As a percentage of our consolidated net revenues, net revenues from our acute care hospitals, outpatient facilities and commercial health insurer accounted for 52% during 2016 and 51% during each of 2015 and 2014. Net revenues from our behavioral health care facilities and commercial health insurer accounted for 48% of our consolidated net revenues during 2016 and 49% during each of 2015 and 2014.

Services provided by our hospitals include general and specialty surgery, internal medicine, obstetrics, emergency room care, radiology, oncology, diagnostic care, coronary care, pediatric services, pharmacy services and/or behavioral health services. We provide capital resources as well as a variety of management services to our facilities, including central purchasing, information services, finance and control systems, facilities planning, physician recruitment services, administrative personnel management, marketing and public relations.

Forward-Looking Statements and Risk Factors

You should carefully review the information contained in this Annual Report, and should particularly consider any risk factors that we set forth in this Annual Report and in other reports or documents that we file from time to time with the Securities and Exchange Commission (the “SEC”). In this Annual Report, we state our beliefs of future events and of our future financial performance. This Annual Report contains “forward-looking statements” that reflect our current estimates, expectations and projections about our future results, performance, prospects and opportunities. Forward-looking statements include, among other things, the information concerning our possible future results of operations, business and growth strategies, financing plans, expectations that regulatory developments or other matters will not have a material adverse effect on our business or financial condition, our competitive position and the effects of competition, the projected growth of the industry in which we operate, and the benefits and synergies to be obtained from our completed and any future acquisitions, and statements of our goals and objectives, and other similar expressions concerning matters that are not historical facts. Words such as “may,” “will,” “should,” “could,” “would,” “predicts,” “potential,” “continue,” “expects,” “anticipates,” “future,” “intends,” “plans,” “believes,” “estimates,” “appears,”

“projects” and similar expressions, as well as statements in future tense, identify forward-looking statements. In evaluating those statements, you should specifically consider various factors, including the risks related to healthcare industry trends and those set forth herein in Item 1A. Risk Factors.

Forward-looking statements should not be read as a guarantee of future performance or results, and will not necessarily be accurate indications of the times at, or by which, such performance or results will be achieved. Forward-looking information is based on information available at the time and/or our good faith belief with respect to future events, and is subject to risks and uncertainties that could cause actual performance or results to differ materially from those expressed in the statements. Such factors include, among other things, the following:

•our ability to comply with the existing laws and government regulations, and/or changes in laws and government regulations;
•an increasing number of legislative initiatives have been passed into law that may result in major changes in the health care delivery system on a national or state level. No assurances can be given that the implementation of these laws will not have a material adverse effect on our business, financial condition or results of operations;
•possible unfavorable changes in the levels and terms of reimbursement for our charges by third party payors or government based payors, including Medicare or Medicaid in the United States, and government based payors in the United Kingdom;
•our ability to enter into managed care provider agreements on acceptable terms and the ability of our competitors to do the same, including contracts with United/Sierra Healthcare in Las Vegas, Nevada;
•the outcome of known and unknown litigation, government investigations, false claim act allegations, and liabilities and other claims asserted against us and other matters as disclosed in Item 3. Legal Proceedings;
•the potential unfavorable impact on our business of deterioration in national, regional and local economic and business conditions, including a worsening of unfavorable credit market conditions;
•competition from other healthcare providers (including physician owned facilities) in certain markets;
•technological and pharmaceutical improvements that increase the cost of providing, or reduce the demand for healthcare;
•our ability to attract and retain qualified personnel, nurses, physicians and other healthcare professionals and the impact on our labor expenses resulting from a shortage of nurses and other healthcare professionals;
•demographic changes;
•our ability to successfully integrate and improve our recent acquisitions and the availability of suitable acquisitions and divestiture opportunities;
•as discussed below in Sources of Revenue, we receive revenues from various state and county based programs, including Medicaid in all the states in which we operate (we receive Medicaid revenues in excess of $100 million annually from each of Texas, California, Washington, D.C., Nevada, Pennsylvania, Illinois, Virginia and Massachusetts); CMS-approved Medicaid supplemental programs in certain states including Texas, Mississippi, Illinois, Oklahoma, Nevada, Arkansas, California and Indiana, and; state Medicaid disproportionate share hospital payments in certain states including Texas and South Carolina. We are therefore particularly sensitive to potential reductions in Medicaid and other state based revenue programs as well as regulatory, economic, environmental and competitive changes in those states. We can provide no assurance that reductions to revenues earned pursuant to these programs, particularly in the above-mentioned states, will not have a material adverse effect on our future results of operations;
•our ability to continue to obtain capital on acceptable terms, including borrowed funds, to fund the future growth of our business;
•our inpatient acute care and behavioral health care facilities may experience decreasing admission and length of stay trends;
•our financial statements reflect large amounts due from various commercial and private payors and there can be no assurance that failure of the payors to remit amounts due to us will not have a material adverse effect on our future results of operations;
•in March, 2010, the Health Care and Education Reconciliation Act of 2010 and the Patient Protection and Affordable Care Act (the “ACA”) were enacted into law and created significant changes to health insurance coverage for U.S. citizens as well as material revisions to the federal Medicare and state Medicaid programs. The two combined primary goals of these acts are to provide for increased access to coverage for healthcare and to reduce healthcare-related expenses. Medicare, Medicaid and other health care industry changes are scheduled to be implemented at various times during this decade.
Initiatives to repeal the ACA, in whole or in part, to delay elements of implementation or funding, and to offer amendments or supplements to modify its provisions, have been persistent and may increase as a result of the 2016 election. The ultimate outcomes of legislative attempts to repeal or amend the ACA and legal challenges to the ACA are unknown. Results of recent Congressional elections and the change of Presidential administrations beginning in 2017 could create a political environment in which substantial portions of the ACA are repealed or revised. Specifically, President Donald Trump’s 100 Day Action Plan called for full repeal of the ACA and its replacement with health savings accounts, cross-states sales of health insurance, and modifications to state-managed Medicaid programs. Nevertheless, prospects for rapid enactment of radical change in the health care regulatory landscape are not clear, and President Donald Trump has already indicated that popular provisions of the ACA should be preserved. It remains unclear what portions of the ACA may remain, or what any replacement or alternative programs may be created by any future legislation. Any such future repeal or replacement may have significant impact on the reimbursement for healthcare services generally, and may create reimbursement for services competing with the services offered by our hospitals. Accordingly, there can be no assurance that the adoption of any future federal or state healthcare reform legislation will not have a negative financial impact on our hospitals, including their ability to compete with alternative healthcare services funded by such potential legislation, or for our facilities to receive payment for services;
•the Department of Health and Human Services (“HHS”) published final regulations in July, 2010 implementing the health information technology (“HIT”) provisions of the American Recovery and Reinvestment Act (referred to as the “HITECH Act”). The final regulation defines the “meaningful use” of Electronic Health Records (“EHR”) and establishes the requirements for the Medicare and Medicaid EHR payment incentive programs. The implementation period for these new Medicare and Medicaid incentive payments started in federal fiscal year 2011 and can end as late as 2016 for Medicare and 2021 for the state Medicaid programs. Hospitals that do not qualify as a meaningful user of EHR by 2015 are subject to a reduced market basket update to the inpatient prospective payment system (“IPPS”) standardized amount in 2015 and each subsequent fiscal year. We believe that all of our acute care hospitals have met the applicable meaningful use criteria and therefore were not subject to a reduced market basked update to the IPPS standardized amount in federal fiscal year 2015. However, under the HITECH Act, hospitals must continue to meet the applicable meaningful use criteria in each fiscal year or they will be subject to a market basket update reduction in a subsequent fiscal year. Failure of our acute care hospitals to continue to meet the applicable meaningful use criteria would have an adverse effect on our future net revenues and results of operations;
•in August, 2011, the Budget Control Act of 2011 (the “2011 Act”) was enacted into law. The 2011 Act imposed annual spending limits for most federal agencies and programs aimed at reducing budget deficits by $917 billion between 2012 and 2021, according to a report released by the Congressional Budget Office. Among its other provisions, the law established a bipartisan Congressional committee, known as the Joint Select Committee on Deficit Reduction (the “Joint Committee”), which was tasked with making recommendations aimed at reducing future federal budget deficits by an additional $1.5 trillion over 10 years. The Joint Committee was unable to reach an agreement by the November 23, 2011 deadline and, as a result, across-the-board cuts to discretionary, national defense and Medicare spending were implemented on March 1, 2013 resulting in Medicare payment reductions of up to 2% per fiscal year (annual reduction of approximately $36 million to our Medicare net revenues) with a uniform percentage reduction across all Medicare programs. The Bipartisan Budget Act of 2015, enacted on November 2, 2015, continued the 2% reductions to Medicare reimbursement imposed under the 2011 Act. We cannot predict whether Congress will restructure the implemented Medicare payment reductions or what other federal budget deficit reduction initiatives may be proposed by Congress going forward;
•uninsured and self-pay patients treated at our acute care facilities unfavorably impact our ability to satisfactorily and timely collect our self-pay patient accounts;
•changes in our business strategies or development plans;
•fluctuations in the value of our common stock, and;
•other factors referenced herein or in our other filings with the Securities and Exchange Commission.

Given these uncertainties, risks and assumptions, as outlined above, you are cautioned not to place undue reliance on such forward-looking statements. Our actual results and financial condition could differ materially from those expressed in, or implied by, the forward-looking statements. Forward-looking statements speak only as of the date the statements are made. We assume no obligation to publicly update any forward-looking statements to reflect actual results, changes in assumptions or changes in other factors affecting forward-looking information, except as may be required by law. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by this cautionary statement.

Critical Accounting Policies and Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and assumptions that affect the amounts reported in our consolidated financial statements and accompanying notes.

A summary of our significant accounting policies is outlined in Note 1 to the financial statements. We consider our critical accounting policies to be those that require us to make significant judgments and estimates when we prepare our financial statements, including the following:

Revenue Recognition: We record revenues and related receivables for health care services at the time the services are provided. Medicare and Medicaid revenues represented 32% of our net patient revenues during 2016, 34% during 2015 and 38% during 2014. Revenues from managed care entities, including health maintenance organizations and managed Medicare and Medicaid programs accounted for 56% of our net patient revenues during 2016, 54% during 2015 and 52% during 2014.

We report net patient service revenue at the estimated net realizable amounts from patients and third-party payors and others for services rendered. We have agreements with third-party payors that provide for payments to us at amounts different from our established rates. Payment arrangements include prospectively determined rates per discharge, reimbursed costs, discounted charges and per diem payments. Estimates of contractual allowances under managed care plans are based upon the payment terms specified in the related contractual agreements. We closely monitor our historical collection rates, as well as changes in applicable laws, rules and regulations and contract terms, to assure that provisions are made using the most accurate information available. However, due to the complexities involved in these estimations, actual payments from payors may be different from the amounts we estimate and record.

We estimate our Medicare and Medicaid revenues using the latest available financial information, patient utilization data, government provided data and in accordance with applicable Medicare and Medicaid payment rules and regulations. The laws and regulations governing the Medicare and Medicaid programs are extremely complex and subject to interpretation and as a result, there is at least a reasonable possibility that recorded estimates will change by material amounts in the near term. Certain types of payments by the Medicare program and state Medicaid programs (e.g. Medicare Disproportionate Share Hospital, Medicare Allowable Bad Debts and Inpatient Psychiatric Services) are subject to retroactive adjustment in future periods as a result of administrative review and audit and our estimates may vary from the final settlements. Such amounts are included in accounts receivable, net, on our Consolidated Balance Sheets. The funding of both federal Medicare and state Medicaid programs are subject to legislative and regulatory changes. As such, we cannot provide any assurance that future legislation and regulations, if enacted, will not have a material impact on our future Medicare and Medicaid reimbursements. Adjustments related to the final settlement of these retrospectively determined amounts did not materially impact our results in 2016, 2015 or 2014. If it were to occur, each 1% adjustment to our estimated net Medicare revenues that are subject to retrospective review and settlement as of December 31, 2016, would change our after-tax net income by approximately $1 million.

We provide care to patients who meet certain financial or economic criteria without charge or at amounts substantially less than our established rates. Because we do not pursue collection of amounts determined to qualify as charity care, they are not reported in net revenues or in accounts receivable, net. See additional disclosure below in Charity Care, Uninsured Discounts and Provision for Doubtful Accounts for our estimated uncompensated care provided and estimated cost of providing uncompensated care.

Charity Care, Uninsured Discounts and Provision for Doubtful Accounts: Collection of receivables from third-party payers and patients is our primary source of cash and is critical to our operating performance. Our primary collection risks relate to uninsured patients and the portion of the bill which is the patient’s responsibility, primarily co-payments and deductibles. We estimate our provisions for doubtful accounts based on general factors such as payer mix, the agings of the receivables and historical collection experience. We routinely review accounts receivable balances in conjunction with these factors and other economic conditions which might ultimately affect the collectability of the patient accounts and make adjustments to our allowances as warranted. At our acute care hospitals, third party liability accounts are pursued until all payment and adjustments are posted to the patient account. For those accounts with a patient balance after third party liability is finalized or accounts for uninsured patients, the patient receives statements and collection letters. Our hospitals establish a partial reserve for self-pay accounts in the allowance for doubtful accounts for both unbilled balances and those that have been billed and are under 90 days old. All self-pay accounts are fully reserved at 90 days from the date of discharge. Third party liability accounts are fully reserved in the allowance for doubtful accounts when the balance ages past 180 days from the date of discharge. Patients that express an inability to pay are reviewed for potential sources of financial assistance including our charity care policy. If the patient is deemed unwilling to pay, the account is written-off as bad debt and transferred to an outside collection agency for additional collection effort.

Historically, a significant portion of the patients treated throughout our portfolio of acute care hospitals are uninsured patients which, in part, has resulted from patients who are employed but do not have health insurance or who have policies with relatively high deductibles. Generally, patients treated at our hospitals for non-elective services, who have gross income less than 400% of the federal

poverty guidelines, are deemed eligible for charity care. The federal poverty guidelines are established by the federal government and are based on income and family size. Effective January 1, 2016, our hospitals in certain states in which we operate reduced the charity care eligibility threshold to less than the federal poverty guidelines. Because we do not pursue collection of amounts that qualify as charity care, they are not reported in our net revenues or in our accounts receivable, net.

A portion of the accounts receivable at our acute care facilities are comprised of Medicaid accounts that are pending approval from third-party payers but we also have smaller amounts due from other miscellaneous payers such as county indigent programs in certain states. Our patient registration process includes an interview of the patient or the patient’s responsible party at the time of registration. At that time, an insurance eligibility determination is made and an insurance plan code is assigned. There are various pre-established insurance profiles in our patient accounting system which determine the expected insurance reimbursement for each patient based on the insurance plan code assigned and the services rendered. Certain patients may be classified as Medicaid pending at registration based upon a screening evaluation if we are unable to definitively determine if they are currently Medicaid eligible. When a patient is registered as Medicaid eligible or Medicaid pending, our patient accounting system records net revenues for services provided to that patient based upon the established Medicaid reimbursement rates, subject to the ultimate disposition of the patient’s Medicaid eligibility. When the patient’s ultimate eligibility is determined, reclassifications may occur which impacts the reported amounts in future periods for the provision for doubtful accounts and other accounts such as Medicaid pending. Although the patient’s ultimate eligibility determination may result in amounts being reclassified among these accounts from period to period, these reclassifications did not have a material impact on our results of operations in 2016, 2015 or 2014 since our facilities make estimates at each financial reporting period to reserve for amounts that are deemed to be uncollectible.

We also provide discounts to uninsured patients (included in “uninsured discounts” amounts below) who do not qualify for Medicaid or charity care. Because we do not pursue collection of amounts classified as uninsured discounts, they are not reported in our net revenues or in our net accounts receivable. In implementing the discount policy, we first attempt to qualify uninsured patients for governmental programs, charity care or any other discount program. If an uninsured patient does not qualify for these programs, the uninsured discount is applied. Our accounts receivable are recorded net of allowance for doubtful accounts of $410 million and $399 million at December 31, 2016 and 2015, respectively.

Approximately 85% during each of 2016 and 2015 of our consolidated provision for doubtful accounts, was incurred by our acute care hospitals. Shown below is our payer mix concentrations and related aging of our billed accounts receivable, net of contractual allowances, for our acute care hospitals as of December 31, 2016 and 2015:

As of December 31, 2016:

Days
Payer0-6061-120121-180over 180
Medicare$71,213$4,519$1,385$4,225
Medicaid15,6596,6544,2568,966
Commercial insurance and other336,346117,91962,806164,143
Private pay114,38267,31616,68926,881
Total$537,600$196,408$85,136$204,215

As of December 31, 2015:

Days
Payer0-6061-120121-180over 180
Medicare$71,364$5,189$1,837$4,743
Medicaid11,8177,6303,4188,419
Commercial insurance and other315,674120,89659,765143,736
Private pay101,92762,35622,00025,437
Total$500,782$196,071$87,020$182,335

Accounting for Medicare and Medicaid Electronic Health Records Incentive Payments: In July 2010, the Department of Health and Human Services published final regulations implementing the health information technology provisions of the American Recovery and Reinvestment Act. The regulation defines the “meaningful use” of Electronic Health Records (“EHR”) and established the requirements for the Medicare and Medicaid EHR payment incentive programs. The implementation period for these new Medicare and Medicaid incentive payments started in federal fiscal year 2011 and ended as late as 2016 for Medicare and can end as late as 2021 for the state Medicaid programs. We recognize income related to Medicare and Medicaid incentive payments using a gain contingency model that is based upon when our eligible hospitals have demonstrated “meaningful use” of certified EHR technology

for the applicable period and the cost report information for the full cost report year that will determine the final calculation of the incentive payment is available.

Medicare EHR incentive payments: Federal regulations require that Medicare EHR incentive payments be computed based on the Medicare cost report that begins in the federal fiscal period in which a hospital meets the applicable “meaningful use” requirements. Since the annual Medicare cost report periods for each of our acute care hospitals ends on December 31st, we have recognized Medicare EHR incentive income for each hospital during the fourth quarter of the year in which the facility meets the “meaningful use” criteria.

Medicaid EHR incentive payments: Medicaid EHR incentive payments are determined based upon prior period cost report information available at the time our hospitals met the “meaningful use” criteria. Therefore, the majority of the Medicaid EHR incentive income recognition occurred in the period in which the applicable hospitals were deemed to have met initial “meaningful use” criteria.

Self-Insured/Other Insurance Risks: We provide for self-insured risks including general and professional liability claims, workers’ compensation claims and healthcare and dental claims. Our estimated liability for self-insured professional and general liability claims is based on a number of factors including, among other things, the number of asserted claims and reported incidents, estimates of losses for these claims based on recent and historical settlement amounts, estimate of incurred but not reported claims based on historical experience, and estimates of amounts recoverable under our commercial insurance policies. All relevant information, including our own historical experience is used in estimating the expected amount of claims. While we continuously monitor these factors, our ultimate liability for professional and general liability claims could change materially from our current estimates due to inherent uncertainties involved in making this estimate. Our estimated self-insured reserves are reviewed and changed, if necessary, at each reporting date and changes are recognized currently as additional expense or as a reduction of expense. In addition, we also: (i) own commercial health insurers headquartered in Reno, Nevada, and Puerto Rico and; (ii) maintain self-insured employee benefits programs for employee healthcare and dental claims. The ultimate costs related to these programs/operations include expenses for claims incurred and paid in addition to an accrual for the estimated expenses incurred in connection with claims incurred but not yet reported. Given our significant insurance-related exposure, there can be no assurance that a sharp increase in the number and/or severity of claims asserted against us will not have a material adverse effect on our future results of operations.

See Note 8 to the Consolidated Financial Statements-Commitments and Contingencies, for additional disclosure related to our professional and general liability, workers’ compensation liability and property insurance.

Long-Lived Assets: We review our long-lived assets, including intangible assets, for impairment whenever events or circumstances indicate that the carrying value of these assets may not be recoverable. The assessment of possible impairment is based on our ability to recover the carrying value of our asset based on our estimate of its undiscounted future cash flow. If the analysis indicates that the carrying value is not recoverable from future cash flows, the asset is written down to its estimated fair value and an impairment loss is recognized. Fair values are determined based on estimated future cash flows using appropriate discount rates.

Goodwill and Intangible Assets: Goodwill and indefinite-lived intangible assets are reviewed for impairment at the reporting unit level on an annual basis or sooner if the indicators of impairment arise. Our judgments regarding the existence of impairment indicators are based on market conditions and operational performance of each reporting unit. We have designated October 1st as our annual impairment assessment date and performed an impairment assessment as of October 1, 2016 which indicated no impairment of goodwill or indefinite-lived intangible assets. There were also no impairments during 2015 or 2014. During 2015, we changed our annual goodwill and indefinite-lived intangibles testing date from September 1st to October 1st. Management believes that this voluntary change in accounting method is preferable as it aligns the annual impairment testing date with our annual budgeting process. The 2015 change in annual testing date did not delay, accelerate or avoid an impairment charge. Future changes in the estimates used to conduct the impairment review, including profitability and market value projections, could indicate impairment in future periods potentially resulting in a write-off of a portion or all of our goodwill or indefinite-lived intangible assets.

Income Taxes: Deferred tax assets and liabilities are recognized for the amount of taxes payable or deductible in future years as a result of differences between the tax bases of assets and liabilities and their reported amounts in the financial statements. We believe that future income will enable us to realize our deferred tax assets net of recorded valuation allowances relating to state net operating loss carry-forwards.

We operate in multiple jurisdictions with varying tax laws. We are subject to audits by any of these taxing authorities. Our tax returns have been examined by the Internal Revenue Service (“IRS”) through the year ended December 31, 2006. We believe that adequate accruals have been provided for federal, foreign and state taxes.

See Provision for Income Taxes and Effective Tax Rates below for discussion of our effective tax rates during each of the last three years.

Recent Accounting Pronouncements: For a summary of recent accounting pronouncements, please see Note 1 to the Consolidated Financial Statements-Accounting Standards as included in this Report on Form 10-K for the year ended December 31, 2016.

Results of Operations

The following table summarizes our results of operations, and is used in the discussion below, for the years ended December 31, 2016, 2015 and 2014 (dollar amounts in thousands):

Year Ended December 31,
201620152014
% of Net% of Net% of Net
AmountRevenuesAmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$10,507,788$9,784,724$8,904,071
Less: Provision for doubtful accounts741,578741,273698,983
Net revenues9,766,210100.0%9,043,451100.0%8,205,088100.0%
Operating charges:
Salaries, wages and benefits4,585,53047.0%4,212,38746.6%3,845,46146.9%
Other operating expenses2,359,33924.2%2,119,80523.4%1,922,74323.4%
Supplies expense1,031,33710.6%974,08810.8%895,69310.9%
Depreciation and amortization416,6084.3%398,6184.4%375,6244.6%
Lease and rental expense97,3241.0%94,9731.1%93,9931.1%
Electronic health records incentive income(5,339)-0.1%(15,815)-0.2%(27,902)-0.3%
Costs related to extinguishment of debt00.0%00.0%36,1710.4%
Subtotal-operating expenses8,484,79986.9%7,784,05686.1%7,141,78387.0%
Income from operations1,281,41113.1%1,259,39513.9%1,063,30513.0%
Interest expense, net125,0531.3%113,4941.3%133,6381.6%
Income before income taxes1,156,35811.8%1,145,90112.7%929,66711.3%
Provision for income taxes409,1874.2%395,2034.4%324,6714.0%
Net income747,1717.7%750,6988.3%604,9967.4%
Less: Net income attributable to noncontrolling interests44,7620.5%70,1700.8%59,6530.7%
Net income attributable to UHS$702,4097.2%$680,5287.5%$545,3436.6%

Year Ended December 31, 2016 as compared to the Year Ended December 31, 2015:

Net revenues increased 8% or $723 million to $9.77 billion during 2016 as compared to $9.04 billion during 2015. The increase was primarily attributable to:

•a $542 million or 6% increase in net revenues generated from our acute care and behavioral health care operations owned during both periods (which we refer to as “same facility”), and;
•other combined net increase of $181 million consisting primarily of the revenues generated at 4 behavioral health care hospitals acquired in the U.K. in connection with our acquisition of Alpha Hospital Holdings Limited (“Alpha”) during the third quarter of 2015, and 4 inpatient facilities and 8 outpatient centers acquired during the fourth quarter of 2015 as result of our acquisition of Foundations Recovery Network, LLC (“Foundations”).

Income before income taxes (before deduction for income attributable to noncontrolling interests) increased $10 million to $1.16 billion during 2016 as compared to $1.15 billion during 2015. The net increase in our income before income taxes during 2016, as compared to 2015, was due to the following:

a.an increase of $30 million as discussed below in Acute Care Hospital Services;
b.an increase of $9 million as discussed below in Behavioral Health Services;
c.a decrease of $12 million resulting from an increase in interest expense due primarily to increased aggregate average outstanding borrowings, and;
d.$17 million of other combined net decreases.

Net income attributable to UHS increased $22 million to $702 million during 2016 as compared to $681 million during 2015.

The increase consisted of:

•an increase of $10 million in income before income taxes, as discussed above;
•an increase of $26 million resulting from a decrease in the income attributable to noncontrolling interests which was due primarily to our May, 2016, purchase of the minority ownership interests held by a third-party in six acute care hospitals located in Las Vegas, Nevada, and;
•a decrease of $14 million resulting from an increase in the provision for income taxes recorded on the $36 million increase in pre-tax income ($10 million increase in income before income taxes plus the $26 million increase in income resulting from a decrease in the income attributable to noncontrolling interests).

Year Ended December 31, 2015 as compared to the Year Ended December 31, 2014:

Net revenues increased 10% or $838 million to $9.04 billion during 2015 as compared to $8.21 billion during 2014. The increase was primarily attributable to:

•a $552 million or 7% increase in net revenues generated from our acute care and behavioral health care operations owned during both periods, and;
•other combined net increase of $286 million consisting primarily of: (i) the revenues generated at 21 behavioral health care facilities acquired in the U.K. between September, 2014 and December, 2015; (ii) a full year of revenues generated at a commercial health insurer headquartered in Reno, Nevada, that was acquired in June, 2014, and; (iii) the revenues generated at the behavioral health care facilities acquired during the third and fourth quarters of 2015 in connection with the Alpha and Foundations transactions.

Income before income taxes (before deduction for income attributable to noncontrolling interests) increased $216 million to $1.15 billion during 2015 as compared to $930 million during 2014. Included in our income before income taxes during 2015, as compared to 2014, was the following:

a.an increase of $77 million as discussed below in Acute Care Hospital Services, excluding the EHR impact (as mentioned in g. below) and excluding the change resulting from the reduction to our prior year professional and general liability self-insurance reserves recorded during 2014 (as mentioned in c. below);
b.an increase of $86 million as discussed below in Behavioral Health Services, excluding the change resulting from the reduction to our prior year professional and general liability self-insurance reserves during 2014 (as mentioned in c. below);
c.a net decrease of $20 million resulting from the reduction recorded during 2014 to our professional and general liability self-insurance reserves based upon a reserve analysis, as discussed in Note 8 to the Consolidated Financial Statements-Commitments and Contingencies ($11 million of which was applicable to our acute care hospitals and $9 million was applicable to our behavioral health care facilities);
d.an increase of $20 million resulting from a reduction in interest expense due primarily to decreases in interest rate swap expense and amortization of financing fees;
e.an increase of $48 million resulting from a charge incurred during 2014 in connection with the settlement of the Garden City Employees’ Retirement System v. Psychiatric Solutions, Inc. legal matter;
f.an increase of $36 million resulting from a charge incurred during the third quarter of 2014 in connection with the costs related to extinguishment of debt resulting from various financing transactions that occurred at that time;
g.a decrease of $12 million related to the incentive income ($16 million in 2015 and $28 million in 2014), net of related depreciation and amortization expense ($37 million in each of 2015 and 2014), recorded during each year in connection with the implementation of EHR applications at our acute care hospitals;
h.a decrease of $10 million due to the pre-tax gain realized during 2014 resulting from the divestiture of a non-operating investment, and;
i.$9 million of other combined net decreases.

Net income attributable to UHS increased $135 million to $681 million during 2015 as compared to $545 million during 2014.

The increase consisted of:

•an increase of $216 million in income before income taxes, as discussed above;
•a decrease of $10 million resulting from an increase in the income attributable to noncontrolling interests, and;
•a decrease of $71 million resulting from an increase in the provision for income taxes resulting primarily from the income tax provision on the $206 million increase in pre-tax income ($216 million increase in income before income taxes less the $10 million decrease in income resulting from an increase in the income attributable to noncontrolling interests).

Acute Care Hospital Services

Year Ended December 31, 2016 as compared to the Year Ended December 31, 2015:

Acute Care Hospital Services-Same Facility Basis

We believe that providing our results on a “Same Facility” basis (which is a non-GAAP measure), which includes the operating results for facilities and businesses operated in both the current year and prior year periods, is helpful to our investors as a measure of our operating performance. Our Same Facility results also neutralize (if applicable) the impact of the EHR applications, the effect of items that are non-operational in nature including items such as, but not limited to, gains on sales of assets and businesses, impacts of settlements, legal judgments and lawsuits and other amounts that may be reflected in the current or prior year financial statements that relate to prior periods. Our Same Facility basis results reflected on the tables below also exclude from net revenues and other operating expenses, provider tax assessments incurred in each period as discussed below Sources of Revenue-Various State Medicaid Supplemental Payment Programs. However, these provider tax assessments are included in net revenues and other operating expenses as reflected in the table below under All Acute Care Hospital Services. The provider tax assessments had no impact on the income before income taxes as reflected on the tables below since the amounts offset between net revenues and other operating expenses. To obtain a complete understanding of our financial performance, the Same Facility results should be examined in connection with our net income as determined in accordance with GAAP and as presented in the condensed consolidated financial statements and notes thereto as contained in this Annual Report on Form 10-K.

The following table summarizes the results of operations for our acute care hospital services on a same facility basis and is used in the discussions below for the years ended December 31, 2016 and 2015 (dollar amounts in thousands):

Year EndedYear Ended
December 31, 2016December 31, 2015
% of Net% of Net
AmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$5,611,838$5,187,677
Less: Provision for doubtful accounts625,170631,013
Net revenues4,986,668100.0%4,556,664100.0%
Operating charges:
Salaries, wages and benefits2,064,92841.4%1,895,04041.6%
Other operating expenses1,215,45924.4%1,058,67323.2%
Supplies expense832,15816.7%780,01917.1%
Depreciation and amortization233,4304.7%229,5175.0%
Lease and rental expense51,3361.0%50,1211.1%
Subtotal-operating expenses4,397,31188.2%4,013,37088.1%
Income from operations589,35711.8%543,29411.9%
Interest expense, net3,2750.1%4,2140.1%
Income before income taxes$586,08211.8%$539,08011.8%

On a same facility basis during 2016, as compared to 2015, net revenues from our acute care services increased $430 million or 9%. Income before income taxes increased $47 million or 9% to $586 million or 11.8% of net revenues during 2016 as compared to $539 million or 11.8% of net revenues during 2015.

Inpatient admissions to our acute care hospitals owned during both years increased 4.3% during 2016, as compared to 2015, while patient days increased 2.4%. Adjusted admissions (adjusted for outpatient activity) increased 5.2% and adjusted patient days increased 3.3% during 2016, as compared to 2015. The average length of inpatient stay at these facilities was 4.6 days during 2016 and 4.7 days during 2015. The occupancy rate, based on the average available beds at these facilities, was 60% during 2016 and 59%

during 2015. On a same facility basis, net revenue per adjusted admission at these facilities increased 2.7% during 2016, as compared to 2015, and net revenue per adjusted patient day increased 4.6% during 2016, as compared to 2015.

All Acute Care Hospital Services

The following table summarizes the results of operations for all our acute care operations during 2016 and 2015. These amounts include: (i) our acute care results on a same facility basis, as indicated above; (ii) the impact of the implementation of EHR applications at our acute care hospitals; (iii) the impact of provider tax assessments which increased net revenues and other operating expenses but had no impact on income before income taxes, and; (iv) certain other amounts including the results of a 25-bed acute care hospital located in Pahrump, Nevada that was acquired in August, 2016 and the results of a newly constructed, 130-bed acute care hospital located in Henderson, Nevada that was completed and opened during the fourth quarter of 2016. Dollar amounts below are reflected in thousands.

Year EndedYear Ended
December 31, 2016December 31, 2015
% of Net% of Net
AmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$5,740,777$5,263,577
Less: Provision for doubtful accounts627,827631,013
Net revenues5,112,950100.0%4,632,564100.0%
Operating charges:
Salaries, wages and benefits2,086,98640.8%1,896,00240.9%
Other operating expenses1,315,71525.7%1,131,48124.4%
Supplies expense836,48116.4%780,01916.8%
Depreciation and amortization273,1765.3%266,9125.8%
Lease and rental expense52,6041.0%50,1211.1%
Electronic health records incentive income(5,339)-0.1%(15,815)-0.3%
Subtotal-operating expenses4,559,62389.2%4,108,72088.7%
Income from operations553,32710.8%523,84411.3%
Interest expense, net3,2770.1%4,2140.1%
Income before income taxes$550,05010.8%$519,63011.2%

During 2016, as compared to 2015, net revenues generated from our acute care hospital services increased $480 million or 10% to $5.11 billion due primarily to: (i) a $430 million, or 9%, increase same facility revenues, as discussed above, and; (ii) other combined net increase of $50 million due primarily to the net revenues generated at the two above-mentioned acute care hospitals located in Nevada that were acquired or opened during 2016, and an increase in provider tax assessments.

Income before income taxes increased $30 million to $550 million or 10.8% of net revenues during 2016 as compared to $520 million or 11.2% of net revenues during 2015.

Included in these results are the following:

•the $47 million increase in income before income taxes from our acute care hospital services, on a same facility basis, as discussed above;
•a net decrease of $9 million related to the incentive income ($5 million in 2016 and $16 million in 2015), net of related depreciation and amortization expense ($35 million in 2016 and $37 million in 2015), recorded in connection with the implementation of EHR applications at our acute care hospitals, and;
•a net other combined decrease of $8 million consisting primarily of the operating losses incurred at the newly constructed, 130-bed acute care hospital located in Henderson, Nevada, that was completed and opened during the fourth quarter of 2016.

Uncompensated care (charity care and uninsured discounts):

The following table shows the amounts recorded at our acute care hospitals for charity care and uninsured discounts, based on charges at established rates, for the years ended December 31, 2016, 2015 and 2014:

(dollar amounts in thousands)
201620152014
Amount%Amount%Amount%
Charity care$733,58550%$506,57142%$515,43545%
Uninsured discounts720,20550%696,46358%620,58755%
Total uncompensated care$1,453,790100%$1,203,034100%$1,136,022100%

Generally, patients treated at our hospitals for non-elective services, who have gross income less than 400% of the federal poverty guidelines, are deemed eligible for charity care. The federal poverty guidelines are established by the federal government and are based on income and family size. Effective January 1, 2016, our hospitals in certain states in which we operate reduced the charity care eligibility threshold to less than the federal poverty guidelines. During 2016, as compared to 2015 and 2014, this change resulted in an increase in the charity care component of our total uncompensated care and a decrease in the uninsured discount component.

The provision for doubtful accounts at our acute care hospitals was approximately $628 million during 2016, $631 million during 2015 and $590 million during 2014.

The estimated cost of providing uncompensated care:

The estimated cost of providing uncompensated care, as reflected below, were based on a calculation which multiplied the percentage of operating expenses for our acute care hospitals to gross charges for those hospitals by the above-mentioned total uncompensated care amounts. The percentage of cost to gross charges is calculated based on the total operating expenses for our acute care facilities divided by gross patient service revenue for those facilities. An increase in the level of uninsured patients to our facilities and the resulting adverse trends in the provision for doubtful accounts and uncompensated care provided could have a material unfavorable impact on our future operating results.

(amounts in thousands)
201620152014
Estimated cost of providing charity care$107,887$77,557$78,475
Estimated cost of providing uninsured discounts related care105,920106,63094,484
Estimated cost of providing uncompensated care$213,807$184,187$172,959

Year Ended December 31, 2015 as compared to the Year Ended December 31, 2014:

Acute Care Hospital Services-Same Facility Basis

The following table summarizes the results of operations for our acute care hospital services on a same facility basis and is used in the discussions below for the years ended December 31, 2015 and 2014 (dollar amounts in thousands):

Year EndedYear Ended
December 31, 2015December 31, 2014
% of Net% of Net
AmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$5,080,467$4,695,474
Less: Provision for doubtful accounts618,011590,384
Net revenues4,462,456100.0%4,105,090100.0%
Operating charges:
Salaries, wages and benefits1,876,79442.1%1,728,80842.1%
Other operating expenses983,44822.0%930,79622.7%
Supplies expense778,78717.5%709,72517.3%
Depreciation and amortization226,4125.1%216,4965.3%
Lease and rental expense49,8171.1%50,7941.2%
Subtotal-operating expenses3,915,25887.7%3,636,61988.6%
Income from operations547,19812.3%468,47111.4%
Interest expense, net3,7760.1%4,3020.1%
Income before income taxes$543,42212.2%$464,16911.3%

On a same facility basis during 2015, as compared to 2014, net revenues generated from our acute care hospital services increased $357 million or 9%. Income before income taxes increased $79 million or 17% to $543 million or 12.2% of net revenues during 2015 as compared to $464 million or 11.3% of net revenues during 2014.

Inpatient admissions to our acute care hospitals owned during both years increased 4.2% during 2015, as compared to 2014, while patient days increased 4.4%. Adjusted admissions (adjusted for outpatient activity) increased 5.4% and adjusted patient days increased 5.5% during 2015, as compared to 2014. The average length of inpatient stay at these facilities was 4.7 days during 2015 and 4.6 days during 2014. The occupancy rate, based on the average available beds at these facilities, was 59% during 2015 and 58% during 2014. On a same facility basis, net revenue per adjusted admission at these facilities increased 3.9% during 2015, as compared to 2014, and net revenue per adjusted patient day increased 3.7% during 2015, as compared to 2014.

All Acute Care Hospital Services

The following table summarizes the results of operations for all our acute care operations during 2015 and 2014. These amounts include: (i) our acute care results on a same facility basis, as indicated above; (ii) the impact of the implementation of EHR applications at our acute care hospitals; (iii) the operating results of a commercial insurer acquired in June of 2014 (the operating results for the periods of June through December of 2015 and 2014 are also included in the same facility basis results reflected above); (iv) the impact of provider tax assessments which increased net revenues and other operating expenses but had no impact on income before income taxes, and; (v) certain other amounts. Dollar amounts below are reflected in thousands.

Year EndedYear Ended
December 31, 2015December 31, 2014
% of Net% of Net
AmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$5,263,577$4,768,487
Less: Provision for doubtful accounts631,013590,384
Net revenues4,632,564100.0%4,178,103100.0%
Operating charges:
Salaries, wages and benefits1,896,00240.9%1,728,97341.4%
Other operating expenses1,131,48124.4%993,06323.8%
Supplies expense780,01916.8%709,77617.0%
Depreciation and amortization266,9125.8%253,7696.1%
Lease and rental expense50,1211.1%50,7941.2%
Electronic health records incentive income(15,815)-0.3%(27,902)-0.7%
Subtotal-operating expenses4,108,72088.7%3,708,47388.8%
Income from operations523,84411.3%469,63011.2%
Interest expense, net4,2140.1%4,3020.1%
Income before income taxes$519,63011.2%$465,32811.1%

During 2015, as compared to 2014, net revenues generated from our acute care hospital services increased $454 million or 11% to $4.63 billion due primarily to: (i) a $357 million, or 9%, increase same facility revenues, as discussed above, and; (ii) other combined net increase of $97 million consisting primarily of a full year of revenues related to a commercial health insurer that was acquired in June of 2014.

Income before income taxes increased $54 million to $520 million or 11.2% of net revenues during 2015 as compared to $465 million or 11.1% of net revenues during 2014.

Included in these results are the following:

•the $79 million increase in income before income taxes experienced during 2015, as compared to 2014, from our acute care hospitals services, on a same facility basis, as discussed above;
•a net decrease of $11 million resulting from a reduction recorded during 2014 to our professional and general liability self-insurance reserves attributable to our acute care hospitals;
•a net decrease of $12 million related to the incentive income ($16 million in 2015 and $28 million in 2014), net of related depreciation and amortization expense ($37 million in each of 2015 and 2014), recorded in connection with the implementation of EHR applications at our acute care hospitals, and;
•a net other combined decrease of $2 million.

Behavioral Health Care Services

Year Ended December 31, 2016 as compared to the Year Ended December 31, 2015

Behavioral Health Care Services-Same Facility Basis

Our Same Facility basis results (which is a non-GAAP measure), which include the operating results for facilities and businesses operated in both the current year and prior year period, neutralize (if applicable) the effect of items that are non-operational in nature including items such as, but not limited to, gains on sales of assets and businesses, impacts of settlements, legal judgments and lawsuits and other amounts that may be reflected in the current or prior year financial statements that relate to prior periods. Our Same Facility basis results reflected on the tables below also exclude from net revenues and other operating expenses, provider tax assessments incurred in each period as discussed below Sources of Revenue-Various State Medicaid Supplemental Payment Programs. However, these provider tax assessments are included in net revenues and other operating expenses as reflected in the table below under All Behavioral Health Care Services. The provider tax assessments had no impact on the income before income taxes as reflected on the tables below since the amounts offset between net revenues and other operating expenses. To obtain a complete understanding of our financial performance, the Same Facility results should be examined in connection with our net income as determined in accordance with GAAP and as presented in the condensed consolidated financial statements and notes thereto as contained in this Annual Report on Form 10-K.

The following table summarizes the results of operations for our behavioral health care services, on a same facility basis, and is used in the discussions below for the years ended December 31, 2016 and 2015 (dollar amounts in thousands):

Year EndedYear Ended
December 31, 2016December 31, 2015
% of Net% of Net
AmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$4,537,418$4,422,803
Less: Provision for doubtful accounts112,061109,734
Net revenues4,425,357100.0%4,313,069100.0%
Operating charges:
Salaries, wages and benefits2,187,89649.4%2,084,15248.3%
Other operating expenses854,17419.3%838,73219.4%
Supplies expense189,2454.3%191,0014.4%
Depreciation and amortization127,0602.9%121,5242.8%
Lease and rental expense41,5840.9%42,5131.0%
Subtotal-operating expenses3,399,95976.8%3,277,92276.0%
Income from operations1,025,39823.2%1,035,14724.0%
Interest expense, net1,7530.0%1,8540.0%
Income before income taxes$1,023,64523.1%$1,033,29324.0%

On a same facility basis during 2016, as compared to 2015, net revenues generated from our behavioral health care services increased $112 million or 3% to $4.43 billion during 2016 as compared to $4.31 billion during 2015. Income before income taxes decreased $10 million or 1% to $1.02 billion or 23.1% of net revenues during 2016 as compared to $1.03 billion or 24.0% of net revenues during 2015.

Inpatient admissions to our behavioral health care facilities owned during both years increased 1.3% during 2016, as compared to 2015, while patient days increased 1.2%. Adjusted admissions increased 1.0% and adjusted patient days increased 0.9% during 2016, as compared to 2015. The average length of inpatient stay at these facilities was 13.0 days during each of 2016 and 2015. The occupancy rate, based on the average available beds at these facilities, was 76% during each of 2016 and 2015. On a same facility basis, net revenue per adjusted admission at these facilities increased 1.4% during 2016, as compared to 2015, and net revenue per adjusted patient day increased 1.5% during 2016, as compared to 2015.

In certain markets in which we operate, the ability of our behavioral health facilities to fully meet the demand for their services has been unfavorably impacted by a shortage of clinicians which includes psychiatrists, nurses and mental health technicians which has, at times, caused the closure of a portion of available bed capacity. As a result, we have instituted certain initiatives at the impacted facilities designed to enhance recruitment and retention of clinical staff. Although we believe the impact on these facilities is temporary, we can provide no assurance that these factors will not continue to unfavorably impact our patient volumes.

All Behavioral Health Care Services

The following table summarizes the results of operations for all our behavioral health care services during 2016 and 2015 which includes our behavioral health results on a same facility basis, the impact of the facilities acquired or opened within the previous twelve months, and the impact of provider tax assessments which increased net revenues and other operating expenses but had no impact on income before income taxes (dollar amounts in thousands):

Year EndedYear Ended
December 31, 2016December 31, 2015
% of Net% of Net
AmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$4,758,761$4,510,477
Less: Provision for doubtful accounts113,754110,142
Net revenues4,645,007100.0%4,400,335100.0%
Operating charges:
Salaries, wages and benefits2,271,96748.9%2,105,20647.8%
Other operating expenses965,87320.8%910,74120.7%
Supplies expense194,8724.2%192,3874.4%
Depreciation and amortization134,4872.9%124,2052.8%
Lease and rental expense45,3461.0%44,1191.0%
Subtotal-operating expenses3,612,54577.8%3,376,65876.7%
Income from operations1,032,46222.2%1,023,67723.3%
Interest expense, net1,7280.0%1,8540.0%
Income before income taxes$1,030,73422.2%$1,021,82323.2%

During 2016, as compared to 2015, net revenues generated from our behavioral health care services increased 6% or $245 million to $4.65 billion during 2016 as compared to $4.40 billion during 2015. The increase in net revenues was attributable to: (i) $112 million or 3% increase in same facility revenues, as discussed above, and; (ii) $133 million of other combined increases consisting primarily of the revenues generated at the facilities acquired in the Alpha and Foundations transactions.

Income before income taxes increased $9 million or 1% to $1.03 billion or 22.2% of net revenues during 2016 as compared to $1.02 billion or 23.2% of net revenues during 2015. The increase in income before income taxes at our behavioral health facilities was attributable to:

•a $10 million decrease at our behavioral health facilities on a same facility basis, as discussed above, and;
•a combined net increase of $19 million related primarily to the income generated at the facilities acquired in the Alpha and Foundations transactions.

Year Ended December 31, 2015 as compared to the Year Ended December 31, 2014

Behavioral Health Care Services-Same Facility Basis

The following table summarizes the results of operations for our behavioral health care services, on a same facility basis, and is used in the discussions below for the years ended December 31, 2015 and 2014 (dollar amounts in thousands):

Year EndedYear Ended
December 31, 2015December 31, 2014
% of Net% of Net
AmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$4,230,018$4,036,585
Less: Provision for doubtful accounts107,362108,917
Net revenues4,122,656100.0%3,927,668100.0%
Operating charges:
Salaries, wages and benefits1,979,93048.0%1,904,76348.5%
Other operating expenses804,42019.5%744,87019.0%
Supplies expense186,4894.5%181,7004.6%
Depreciation and amortization115,2322.8%112,4612.9%
Lease and rental expense40,2291.0%41,0901.0%
Subtotal-operating expenses3,126,30075.8%2,984,88476.0%
Income from operations996,35624.2%942,78424.0%
Interest expense, net1,4780.0%1,9170.0%
Income before income taxes$994,87824.1%$940,86724.0%

On a same facility basis during 2015, as compared to 2014, net revenues generated from our behavioral health care services increased $195 million or 5% to $4.12 billion during 2015 as compared to $3.93 billion during 2014. Income before income taxes increased $54 million or 6% to $995 million or 24.1% of net revenues during 2015 as compared to $941 million or 24.0% of net revenues during 2014.

Inpatient admissions to our behavioral health care facilities owned during both years increased 3.2% during 2015, as compared to 2014, while patient days increased 1.6%. Adjusted admissions increased 2.9% and adjusted patient days increased 1.2% during 2015, as compared to 2014. The average length of inpatient stay at these facilities was 12.7 days during 2015 and 12.9 days during 2014. The occupancy rate, based on the average available beds at these facilities, was 76% during 2015 and 75% during 2014. On a same facility basis, net revenue per adjusted admission at these facilities increased 1.8% during 2015, as compared to 2014, and net revenue per adjusted patient day increased 3.4% during 2015, as compared to 2014.

All Behavioral Health Care Services

The following table summarizes the results of operations for all our behavioral health care services during 2015 and 2014 which includes our behavioral health results on a same facility basis, the impact of the facilities acquired or opened within the previous twelve months, the impact of the other items mentioned below and the impact of provider tax assessments which increased net revenues and other operating expenses but had no impact on income before income taxes (dollar amounts in thousands):

Year EndedYear Ended
December 31, 2015December 31, 2014
% of Net% of Net
AmountRevenuesAmountRevenues
Net revenues before provision for doubtful accounts$4,510,477$4,121,186
Less: Provision for doubtful accounts110,142108,970
Net revenues4,400,335100.0%4,012,216100.0%
Operating charges:
Salaries, wages and benefits2,105,20647.8%1,917,92747.8%
Other operating expenses910,74120.7%808,89420.2%
Supplies expense192,3874.4%182,6734.6%
Depreciation and amortization124,2052.8%114,5992.9%
Lease and rental expense44,1191.0%42,1381.1%
Subtotal-operating expenses3,376,65876.7%3,066,23176.4%
Income from operations1,023,67723.3%945,98523.6%
Interest expense, net1,8540.0%1,9170.0%
Income before income taxes$1,021,82323.2%$944,06823.5%

During 2015, as compared to 2014, net revenues generated from our behavioral health care services increased 10% or $388 million to $4.40 billion during 2015 as compared to $4.01 billion during 2014. The increase in net revenues was attributable to: (i) $195 million or 5% increase in same facility revenues, as discussed above, and; (ii) $193 million of other combined increases consisting primarily of the revenues generated at 21 behavioral health care facilities acquired in the U.K. between September of 2014 and December of 2015.

Income before income taxes increased $78 million or 8% to $1.02 billion or 23.2% of net revenues during 2015 as compared to $944 million or 23.5% of net revenues during 2014. The increase in income before income taxes generated from our behavioral health care services was attributable to:

•a $54 million increase from our behavioral health services on a same facility basis, as discussed above;
•a combined net increase of $33 million related primarily to the income generated at 21 behavioral health care facilities acquired in the U.K. between September of 2014 and December of 2015, and;
•a $9 million net decrease resulting from the reduction to our professional and general liability self-insurance reserves applicable to our behavioral health facilities recorded during 2014.

Sources of Revenue

Overview: We receive payments for services rendered from private insurers, including managed care plans, the federal government under the Medicare program, state governments under their respective Medicaid programs and directly from patients.

Hospital revenues depend upon inpatient occupancy levels, the medical and ancillary services and therapy programs ordered by physicians and provided to patients, the volume of outpatient procedures and the charges or negotiated payment rates for such services. Charges and reimbursement rates for inpatient routine services vary depending on the type of services provided (e.g., medical/surgical, intensive care or behavioral health) and the geographic location of the hospital. Inpatient occupancy levels fluctuate for various reasons, many of which are beyond our control. The percentage of patient service revenue attributable to outpatient services has generally increased in recent years, primarily as a result of advances in medical technology that allow more services to be provided on an outpatient basis, as well as increased pressure from Medicare, Medicaid and private insurers to reduce hospital stays and provide services, where possible, on a less expensive outpatient basis. We believe that our experience with respect to our increased outpatient levels mirrors the general trend occurring in the health care industry and we are unable to predict the rate of growth and resulting impact on our future revenues.

Patients are generally not responsible for any difference between customary hospital charges and amounts reimbursed for such services under Medicare, Medicaid, some private insurance plans, and managed care plans, but are responsible for services not covered by such plans, exclusions, deductibles or co-insurance features of their coverage. The amount of such exclusions, deductibles and co-insurance has generally been increasing each year. Indications from recent federal and state legislation are that this trend will continue. Collection of amounts due from individuals is typically more difficult than from governmental or business payers which unfavorably impacts the collectability of our patient accounts.

Sources of Revenues and Health Care Reform: Given increasing budget deficits, the federal government and many states are currently considering additional ways to limit increases in levels of Medicare and Medicaid funding, which could also adversely affect future payments received by our hospitals. In addition, the uncertainty and fiscal pressures placed upon the federal government as a result of, among other things, economic recovery stimulus packages, responses to natural disasters, and the federal budget deficit in general may affect the availability of federal funds to provide additional relief in the future. We are unable to predict the effect of future policy changes on our operations.

In March, 2010, the Health Care and Education Reconciliation Act of 2010 (H.R. 4872, P.L. 111-152), (the “Reconciliation Act”) and the Patient Protection and Affordable Care Act (P.L. 111-148), (the “ACA”), were enacted into law and created significant changes to health insurance coverage for U.S. citizens as well as material revisions to the federal Medicare and state Medicaid programs. Medicare, Medicaid and other health care industry changes which are scheduled to be implemented at various times during this decade are noted below.

Initiatives to repeal the ACA, in whole or in part, to delay elements of implementation or funding, and to offer amendments or supplements to modify its provisions, have been persistent and may increase as a result of the 2016 election. The ultimate outcomes of legislative attempts to repeal or amend the ACA and legal challenges to the ACA are unknown. Results of recent Congressional elections and the change of Presidential administrations beginning in 2017 could create a political environment in which substantial portions of the ACA are repealed or revised. Specifically, President Donald Trump’s 100 Day Action Plan called for full repeal of the ACA and its replacement with health savings accounts, cross-states sales of health insurance, and modifications to state-managed Medicaid programs. Nevertheless, prospects for rapid enactment of radical change in the health care regulatory landscape are not clear, and President Donald Trump has already indicated that popular provisions of the ACA should be preserved. It remains unclear what portions of the ACA may remain, or what any replacement or alternative programs may be created by any future legislation. Any such future repeal or replacement may have significant impact on the reimbursement for healthcare services generally, and may create reimbursement for services competing with the services offered by our hospitals. Accordingly, there can be no assurance that the adoption of any future federal or state healthcare reform legislation will not have a negative financial impact on our hospitals, including their ability to compete with alternative healthcare services funded by such potential legislation, or for our hospitals to receive payment for services.

The following tables show the approximate percentages of net patient revenue during the past three years for: (i) our Acute Care and Behavioral Health Care Facilities Combined; (ii) our Acute Care Facilities, and; (iii) our Behavioral Health Care Facilities. Net patient revenue is defined as revenue from all sources after deducting contractual allowances and discounts from established billing rates, which we derived from various sources of payment for the years indicated.

Percentage of Net Patient Revenues
Acute Care and Behavioral Health Care Facilities Combined201620152014
Third Party Payors:
Medicare20%21%23%
Medicaid12%13%15%
Managed Care (HMO and PPOs)56%54%52%
Other Sources12%12%10%
Total100%100%100%
Percentage of Net Patient Revenues
Acute Care Facilities201620152014
Third Party Payors:
Medicare25%26%27%
Medicaid7%7%8%
Managed Care (HMO and PPOs)63%64%61%
Other Sources5%3%4%
Total100%100%100%
Percentage of Net Patient Revenues
Behavioral Health Care Facilities201620152014
Third Party Payors:
Medicare15%16%18%
Medicaid16%19%21%
Managed Care (HMO and PPOs)48%45%43%
Other Sources21%20%18%
Total100%100%100%

Medicare: Medicare is a federal program that provides certain hospital and medical insurance benefits to persons aged 65 and over, some disabled persons and persons with end-stage renal disease. All of our acute care hospitals and many of our behavioral health centers are certified as providers of Medicare services by the appropriate governmental authorities. Amounts received under the Medicare program are generally significantly less than a hospital’s customary charges for services provided. Since a substantial portion of our revenues will come from patients under the Medicare program, our ability to operate our business successfully in the future will depend in large measure on our ability to adapt to changes in this program.

Under the Medicare program, for inpatient services, our general acute care hospitals receive reimbursement under the inpatient prospective payment system (“IPPS”). Under the IPPS, hospitals are paid a predetermined fixed payment amount for each hospital discharge. The fixed payment amount is based upon each patient’s Medicare severity diagnosis related group (“MS-DRG”). Every MS-DRG is assigned a payment rate based upon the estimated intensity of hospital resources necessary to treat the average patient with that particular diagnosis. The MS-DRG payment rates are based upon historical national average costs and do not consider the actual costs incurred by a hospital in providing care. This MS-DRG assignment also affects the predetermined capital rate paid with each MS-DRG. The MS-DRG and capital payment rates are adjusted annually by the predetermined geographic adjustment factor for the geographic region in which a particular hospital is located and are weighted based upon a statistically normal distribution of severity. While we generally will not receive payment from Medicare for inpatient services, other than the MS-DRG payment, a hospital may qualify for an “outlier” payment if a particular patient’s treatment costs are extraordinarily high and exceed a specified threshold. MS-DRG rates are adjusted by an update factor each federal fiscal year, which begins on October 1. The index used to adjust the MS-DRG rates, known as the “hospital market basket index,” gives consideration to the inflation experienced by hospitals in purchasing goods and services. Generally, however, the percentage increases in the MS-DRG payments have been lower than the projected increase in the cost of goods and services purchased by hospitals.

In August, 2016, CMS published its IPPS 2017 final payment rule which provides for a 2.7% market basket increase to the base Medicare MS-DRG blended rate. When statutorily mandated budget neutrality factors, annual geographic wage index updates, documenting and coding adjustments and Health Care Reform mandated adjustments are considered, without consideration for the decreases related to the required Medicare Disproportionate Share Hospital (“DSH”) payment changes and increase to the Medicare Outlier threshold, the overall increase in IPPS payments would approximate 0.95%. Including the estimated decreases to our DSH payments (approximating -0.8%) and certain other adjustments, we estimate our overall decrease from the final IPPS 2017 rule (covering the period of October 1, 2016 through September 30, 2017) will approximate -0.2%. This projected impact from the IPPS 2017 final rule includes both the impact of the American Taxpayer Relief Act of 2012 documentation and coding adjustment and the required changes to the DSH payments related to the traditional Medicare fee for service, however, it excludes the impact of the sequestration reductions related to the Budget Control Act of 2011, and Bipartisan Budget Act of 2015, as discussed below.

In July, 2015, CMS published its IPPS 2016 final payment rule which provides for a 2.4% market basket increase to the base Medicare MS-DRG blended rate. When statutorily mandated budget neutrality factors, annual geographic wage index updates, documenting and coding adjustments and Health Care Reform mandated adjustments are considered, without consideration for the decreases related to the required Medicare DSH payment changes and decrease to the Medicare Outlier threshold, the overall increase in IPPS payments would approximate 1.1%. Including the decreases to our Medicare DSH payments (approximating 1.6%) and certain other adjustments, our overall decrease from the final IPPS 2016 rule (covering the period of October 1, 2015 through September 30, 2016) was approximately -0.1%. The impact from the IPPS 2016 final rule includes both the impact of the American Taxpayer Relief Act of 2012 documentation and coding adjustment and the required changes to the DSH payments related to the traditional Medicare fee for service, however, it excludes the impact of the sequestration reductions related to the Budget Control Act of 2011, and Bipartisan Budget Act of 2015, as discussed below.

In August, 2014, CMS published its IPPS 2015 payment rule which provides for a 2.9% market basket increase to the base Medicare MS-DRG blended rate. When statutorily mandated budget neutrality factors, annual geographic wage index updates, documenting and coding adjustments and Health Care Reform mandated adjustments are considered, without consideration for the decreases related to the required DSH payment changes and increase to the Medicare Outlier threshold, the overall increase in IPPS

payments was approximately 0.6%. Including the decreases to our DSH payments (–1.9%) and Medicare Outlier threshold (–0.6%), our overall decrease from the IPPS 2015 rule (covering the period of October 1, 2014 through September 30, 2015) was approximately (–1.9%), or approximately $13 million annually. The impact from the IPPS 2015 rule includes both the impact of the American Taxpayer Relief Act of 2012 documentation and coding adjustment and the required changes to the DSH payments related to the traditional Medicare fee for service, however, it excludes the impact of the sequestration reductions related to the Budget Control Act of 2011, as discussed below.

In August, 2013, CMS published its final IPPS 2014 payment rule which expanded CMS’s policy under which it defines inpatient admissions to include the use of an objective time of care standard. Specifically, it would require Medicare’s external review contractors to presume that hospital inpatient admissions are reasonable and necessary when beneficiaries receive a physician order for admission and receive medically necessary services for at least two midnights (the “Two Midnight” rule). In October, 2015 as part of the 2016 Medicare Outpatient Prospective Payment System (“OPPS”) final rule (additional related disclosure below), CMS will allow payment for one-midnight stays under the Medicare Part A benefit on a case-by case basis for rare and unusual exceptions based the presence of certain clinical factors. CMS also announced in the final rule that, effective October 1, 2015, Quality Improvement Organizations (“QIOs”) will conduct reviews of short inpatient stay reviews rather than Medicare Administrative Contractors. Additionally, CMS also announced that Recovery Audit Contractors (“RACs”) resumed patient status reviews for claims with admission dates of January 1, 2016 or later, and the agency indicates that RACs will conduct these reviews focused on providers with high denial rates that are referred by the QIOs. In its IPPS 2017 final payment rule, CMS: (i) reversed the Two-Midnight rule’s 0.2% reduction in hospital payments, and; (ii) implemented a temporary one-time increase of 0.8% in FFY2017 payments to offset cuts in the preceding fiscal years affected by the prior 0.2% reduction.

In August, 2011, the Budget Control Act of 2011 (the “2011 Act”) was enacted into law. Included in this law are the imposition of annual spending limits for most federal agencies and programs aimed at reducing budget deficits by $917 billion between 2012 and 2021, according to a report released by the Congressional Budget Office. Among its other provisions, the law established a bipartisan Congressional committee, known as the Joint Committee, which was responsible for developing recommendations aimed at reducing future federal budget deficits by an additional $1.5 trillion over 10 years. The Joint Committee was unable to reach an agreement by the November 23, 2011 deadline and, as a result, across-the-board cuts to discretionary, national defense and Medicare spending were implemented on March 1, 2013 resulting in Medicare payment reductions of up to 2% per fiscal year. The Bipartisan Budget Act of 2015, enacted on November 2, 2015, continued the 2% reductions to Medicare reimbursement imposed under the 2011 Act. For federal fiscal year 2015, the aggregate annual sequestration reduction to our Medicare net revenues was approximately $36 million with a uniform percentage reduction across all Medicare programs.

On January 2, 2013 ATRA was enacted which, among other things, includes a requirement for CMS to recoup $11 billion from hospitals from Medicare IPPS rates during federal fiscal years 2014 to 2017. The recoupment relates to IPPS documentation and coding adjustments for the period 2008 to 2013 for which adjustments were not previously applied by CMS. Both the 2014 and 2015 IPPS final rules include a -0.8% recoupment adjustment. CMS has included the same 0.8% recoupment adjustment in fiscal year 2016 and has included a 1.5% recoupment adjustment in federal fiscal year 2017 in order to recover the entire $11 billion. This adjustment is reflected in the IPPS estimated impact amounts noted above. On April 16, 2015, the Medicare Access and CHIP Reauthorization Act of 2015 was enacted and an anticipated 3.2% payment increase in 2018 is scheduled to be phased in at 0.5% per year over 6 years beginning in fiscal year 2018.

Inpatient services furnished by psychiatric hospitals under the Medicare program are paid under a Psychiatric Prospective Payment System (“Psych PPS”). Medicare payments to psychiatric hospitals are based on a prospective per diem rate with adjustments to account for certain facility and patient characteristics. The Psych PPS also contains provisions for outlier payments and an adjustment to a psychiatric hospital’s base payment if it maintains a full-service emergency department.

In July, 2016, CMS published its Psych PPS final rule for the federal fiscal year 2017. Under this final rule, payments to psychiatric hospitals and units are estimated to increase by 2.3% compared to federal fiscal year 2016. This amount includes the effect of the 2.8% market basket update less a 0.2% adjustment as required by the ACA and a 0.3% productivity adjustment.

In July, 2015, CMS published its Psych PPS final rule for the federal fiscal year 2016. Under this final rule, payments to psychiatric hospitals and units increased by approximately 1.7% compared to federal fiscal year 2015. This amount includes the effect of the 2.4% market basket update less a 0.2% adjustment as required by the ACA and a 0.5% productivity adjustment. The final rule also updates the Inpatient Psychiatric Quality Reporting Program, which requires psychiatric facilities to report on quality measures or incur a reduction in their annual payment update.

In July, 2014, CMS published it Psych PPS final rule for the federal fiscal year 2015. Under this final rule, payments to psychiatric hospitals and units increased by approximately 2.1% compared to federal fiscal year 2014. This amount includes the effect

of the 2.9% market basket update adjusted by the ACA required 0.3% reduction and the -0.5% productivity adjustment. The final rule also updates the Inpatient Psychiatric Quality Reporting Program, which requires psychiatric facilities to report on quality measures or incur a reduction in their annual payment update.

In November, 2016, CMS published its OPPS final rule for 2017. The hospital market basket increase is 2.7%. The Medicare statute requires a productivity adjustment reduction of 0.3% and 0.75% reduction to the 2017 OPPS market basket resulting in a 2017 OPPS market basket update at 1.65%. When other statutorily required adjustments and hospital patient service mix are considered, we estimate that our overall Medicare OPPS update for 2017 will aggregate to a net increase of 1.5% which includes a -1.3% decrease to behavioral health division partial hospitalization rates. When the behavioral health division’s partial hospitalization rate impact is excluded, we estimate that our Medicare 2017 OPPS payments will result in a 2.1% increase in payment levels for our acute care division, as compared to 2016.

In October, 2015, CMS published its OPPS final rule for 2016. The hospital market basket increase is 2.8%. The Medicare statute requires a productivity adjustment reduction of 0.5% and 0.2% reduction to the 2016 OPPS market basket. Additionally, CMS also proposes a reduction of 2.0%, which the CMS claims is necessary to eliminate $1 billion in excess laboratory payments that CMS packaged into OPPS payment rates in 2014 resulting in a 2016 OPPS market basket update at -0.3%. When other statutorily required adjustments and hospital patient service mix are considered, our overall Medicare OPPS update for 2016 aggregated to a net decrease of approximately -0.2% which includes a 7.0% increase to behavioral health division partial hospitalization rates. When the behavioral health division’s partial hospitalization rate impact is excluded, our Medicare 2016 OPPS payments resulted in a -1.6% decrease in payment levels for our acute care division, as compared to 2015.

In October, 2014, CMS published its OPPS final rule for 2015. The hospital market basket increase is 2.9%. The Medicare statute requires a productivity adjustment reduction of 0.5% and 0.2% reduction to the 2015 OPPS market basket resulting in a 2015 OPPS market basket update at 2.2%. In the final rule, CMS will reduce the 2015 Medicare rates for both hospital-based and community mental health center partial hospitalization programs. When other statutorily required adjustments, hospital patient service mix and the aforementioned partial hospitalization rates are considered, our overall Medicare OPPS for 2015 aggregated to a net increase of approximately 0.2%. Excluding the behavioral health division partial hospitalization rate impact, our Medicare OPPS payment increase for 2015 was approximately 1.5%.

Medicaid: Medicaid is a joint federal-state funded health care benefit program that is administered by the states to provide benefits to qualifying individuals who are unable to afford care. Most state Medicaid payments are made under a PPS-like system, or under programs that negotiate payment levels with individual hospitals. Amounts received under the Medicaid program are generally significantly less than a hospital’s customary charges for services provided. In addition to revenues received pursuant to the Medicare program, we receive a large portion of our revenues either directly from Medicaid programs or from managed care companies managing Medicaid. All of our acute care hospitals and most of our behavioral health centers are certified as providers of Medicaid services by the appropriate governmental authorities.

We receive Medicaid revenues in excess of $100 million annually from each of Texas, California, Washington, D.C., Nevada, Pennsylvania, Illinois, Virginia and Massachusetts, making us particularly sensitive to reductions in Medicaid and other state based revenue programs as well as regulatory, economic, environmental and competitive changes in those states.

The ACA substantially increases the federally and state-funded Medicaid insurance program, and authorizes states to establish federally subsidized non-Medicaid health plans for low-income residents not eligible for Medicaid starting in 2014. However, the Supreme Court has struck down portions of the ACA requiring states to expand their Medicaid programs in exchange for increased federal funding. Accordingly, many states in which we operate have not expanded Medicaid coverage to individuals at 133% of the federal poverty level. Facilities in states not opting to expand Medicaid coverage under the ACA may be additionally penalized by corresponding reductions to Medicaid disproportionate share hospital payments beginning in 2018, as discussed below. We can provide no assurance that further reductions to Medicaid revenues, particularly in the above-mentioned states, will not have a material adverse effect on our future results of operations.

Various State Medicaid Supplemental Payment Programs:

We incur health-care related taxes (“Provider Taxes”) imposed by states in the form of a licensing fee, assessment or other mandatory payment which are related to: (i) healthcare items or services; (ii) the provision of, or the authority to provide, the health care items or services, or; (iii) the payment for the health care items or services. Such Provider Taxes are subject to various federal regulations that limit the scope and amount of the taxes that can be levied by states in order to secure federal matching funds as part of their respective state Medicaid programs. As outlined below, we derive a related Medicaid reimbursement benefit from assessed Provider Taxes in the form of Medicaid claims based payment increases and/or lump sum Medicaid supplemental payments.

Included in these Provider Tax programs are reimbursements received in connection with Texas Uncompensated Care/Upper Payment Limit program (“UC/UPL”) and Texas Delivery System Reform Incentive Payments program (“DSRIP”). Additional disclosure related to the Texas UC/UPL and DSRIP programs is provided below.

Texas Uncompensated Care/Upper Payment Limit Payments:

Certain of our acute care hospitals located in various counties of Texas (Hidalgo, Maverick, Potter and Webb) participate in Medicaid supplemental payment Section 1115 Waiver indigent care programs. Section 1115 Waiver Uncompensated Care (“UC”) payments replace the former Upper Payment Limit (“UPL”) payments. These hospitals also have affiliation agreements with third-party hospitals to provide free hospital and physician care to qualifying indigent residents of these counties. Our hospitals receive both supplemental payments from the Medicaid program and indigent care payments from third-party, affiliated hospitals. The supplemental payments are contingent on the county or hospital district making an Inter-Governmental Transfer (“IGT”) to the state Medicaid program while the indigent care payment is contingent on a transfer of funds from the applicable affiliated hospitals. However, the county or hospital district is prohibited from entering into an agreement to condition any IGT on the amount of any private hospital’s indigent care obligation.

On September 30, 2014, CMS notified the Texas Health and Human Services Commission (“THHSC”) that it was deferring the federal matching funds (approximately $75 million) on Texas Medicaid UC payments made to providers in certain counties. A deferral results in CMS withholding funds from the state representing the federal portion of Medicaid payments the state has previously made to providers. A deferral goes into effect when CMS questions the basis for all or part of the amount of Medicaid payments made to certain providers, and remains in place subject to CMS’s final determination. Our Texas hospitals are not located in the geographic areas impacted by this deferral. On January 7, 2015, CMS removed the aforementioned deferral but indicated they will continue their review and assessment of the underlying UC financing arrangements as to ensure their compliance with the applicable federal regulations and eligibility for federal matching dollars. In May, 2015, THHSC was informed by CMS that current private-hospital funding arrangements can continue for waiver-payment dates through August, 2017, without risk of disallowance of federal matching funds on the same grounds questioned in last year’s deferral.

For state fiscal year 2017, Texas Medicaid will continue to operate under a CMS-approved Section 1115 five-year Medicaid waiver demonstration program extended by CMS for fifteen months to December 31, 2017. During the first five years of this program that started in state fiscal year 2012, the THHSC transitioned away from UPL payments to new waiver incentive payment programs, UC and DSRIP payments. During the first year of transition, which commenced on October 1, 2011, THHSC made payments to Medicaid UPL recipient providers that received payments during the state’s prior fiscal year. During demonstration years two through seven (October 1, 2012 through December 31, 2017), THHSC has, and will continue to, make incentive payments under the program after certain qualifying criteria are met by hospitals. Supplemental payments are also subject to aggregate statewide caps based on CMS approved Medicaid waiver amounts.

Texas Delivery System Reform Incentive Payments:

In addition, the Texas Medicaid Section 1115 Waiver includes a DSRIP pool to incentivize hospitals and other providers to transform their service delivery practices to improve quality, health status, patient experience, coordination, and cost-effectiveness. DSRIP pool payments are incentive payments to hospitals and other providers that develop programs or strategies to enhance access to health care, increase the quality of care, the cost-effectiveness of care provided and the health of the patients and families served. In May, 2014, CMS formally approved specific DSRIP projects for certain of our hospitals for demonstration years 3 to 5 (our facilities did not materially participate in the DSRIP pool during demonstration years 1 or 2). DSRIP payments are contingent on the hospital meeting certain pre-determined milestones, metrics and clinical outcomes. Additionally, DSRIP payments are contingent on a governmental entity providing an IGT for the non-federal share component of the DSRIP payment. THHSC generally approves DSRIP reported metrics, milestones and clinical outcomes on a semi-annual basis in June and December.

Summary of Amounts Related To The Above-Mentioned Various State Medicaid Supplemental Payment Programs:

The following table summarizes the revenues, Provider Taxes and net benefit related to each of the above-mentioned Medicaid supplemental programs for the years ended December 31, 2016, 2015 and 2014. The Provider Taxes are recorded in other operating expenses on the Condensed Consolidated Statements of Income as included herein.

(amounts in millions)
201620152014
Texas UC/UPL:
Revenues$56$69$85
Provider Taxes(10)(8)(17)
Net benefit$46$61$68
Texas DSRIP:
Revenues$47$39$25
Provider Taxes(20)(15)(8)
Net benefit$27$24$17
Various other state programs:
Revenues$224$199$185
Provider Taxes(136)(114)(115)
Net benefit$88$85$70
Total all Provider Tax programs:
Revenues$327$307$295
Provider Taxes(166)(137)(140)
Net benefit$161$170$155

We estimate that our aggregate net benefit from the Texas and various other state Medicaid supplemental payment programs will approximate $145 million (net of Provider Taxes of $159 million) during the year ended December 31, 2017. This estimate is based upon various terms and conditions that are out of our control including, but not limited to, the states’/CMS’s continued approval of the programs and the applicable hospital district or county making IGTs consistent with 2016 levels. Future changes to these terms and conditions could materially reduce our net benefit derived from the programs which could have a material adverse impact on our future consolidated results of operations. In addition, Provider Taxes are governed by both federal and state laws and are subject to future legislative changes that, if reduced from current rates in several states, could have a material adverse impact on our future consolidated results of operations.

Texas and South Carolina Medicaid Disproportionate Share Hospital Payments:

Hospitals that have an unusually large number of low-income patients (i.e., those with a Medicaid utilization rate of at least one standard deviation above the mean Medicaid utilization, or having a low income patient utilization rate exceeding 25%) are eligible to receive a DSH adjustment. Congress established a national limit on DSH adjustments. Although this legislation and the resulting state broad-based provider taxes have affected the payments we receive under the Medicaid program, to date the net impact has not been materially adverse.

Upon meeting certain conditions and serving a disproportionately high share of Texas’ and South Carolina’s low income patients, five of our facilities located in Texas and one facility located in South Carolina received additional reimbursement from each state’s DSH fund. The South Carolina and Texas DSH programs were renewed for each state’s 2017 DSH fiscal year (covering the period of October 1, 2016 through September 30, 2017). During the second quarter of 2015, the THHSC finalized DSH payments for federal fiscal year 2014 which resulted in a $6 million annualized reduction in our Texas Medicaid DSH payments retroactive to October, 2013.

In connection with these DSH programs, included in our financial results was an aggregate of $39 million during 2016, $36 million during 2015 and $49 million during 2014. We expect reimbursements to our hospitals, pursuant to the 2017 fiscal year programs for Texas and South Carolina, to be at amounts similar to each state’s 2016 fiscal year amounts.

The ACA and subsequent federal legislation provides for a significant reduction in Medicaid disproportionate share payments beginning in federal fiscal year 2018 (see below in Sources of Revenues and Health Care Reform-Medicaid Revisions for additional disclosure). The U.S. Department of Health and Human Services is to determine the amount of Medicaid DSH payment cuts imposed on each state based on a defined methodology. As Medicaid DSH payments to states will be cut, consequently, payments to Medicaid-participating providers, including our hospitals in Texas and South Carolina, will likely be reduced in the coming years. We are unable to estimate the impact of this federally required reduction at this time.

Nevada SPA:

In Nevada, CMS approved a state plan amendment (“SPA”) in August, 2014 that implemented a hospital supplemental payment program retroactive to January 1, 2014 and which was subsequently approved through September 30, 2016. In July, 2016, CMS approved the program for the period of July 1, 2016 through June 30, 2017.

In connection with this program, our financial results included revenues of approximately $14 million in 2016, $10 million in 2015 and $12 million in 2014. Assuming the program is approved for the state’s 2018 fiscal year, we estimate that our reimbursements pursuant to this program will approximate $20 million during the year ended December 31, 2017.

Risk Factors Related To State Supplemental Medicaid Payments:

As outlined above, we receive substantial reimbursement from multiple states in connection with various supplemental Medicaid payment programs. The states include, but are not limited to, Texas, Mississippi, Illinois, Oklahoma, Nevada, Arkansas, California and Indiana. Failure to renew these programs beyond their scheduled termination dates, failure of the public hospitals to provide the necessary IGTs for the states’ share of the DSH programs, failure of our hospitals that currently receive supplemental Medicaid revenues to qualify for future funds under these programs, or reductions in reimbursements, could have a material adverse effect on our future results of operations.

In April, 2016, CMS published its final Medicaid Managed Care Rule which explicitly permits but phases out the use of pass-through payments (including supplemental payments) by Medicaid Managed Care Organizations (“MCO”) to hospitals over ten years but allows for a transition of the pass-through payments into value-based payment structures, delivery system reform initiatives or payments tied to services under a MCO contract. Since we are unable to determine the financial impact of this aspect of the final rule, we can provide no assurance that the final rule will not have a material adverse effect on our future results of operations.

HITECH Act: In July 2010, the Department of Health and Human Services (“HHS”) published final regulations implementing the health information technology (“HIT”) provisions of the American Recovery and Reinvestment Act (referred to as the “HITECH Act”). The final regulation defines the “meaningful use” of Electronic Health Records (“EHR”) and establishes the requirements for the Medicare and Medicaid EHR payment incentive programs. The final rule established an initial set of standards and certification criteria. The implementation period for these new Medicare and Medicaid incentive payments started in federal fiscal year 2011 and can end as late as 2016 for Medicare and 2021 for the state Medicaid programs. State Medicaid program participation in this federally funded incentive program is voluntary but all of the states in which our eligible hospitals operate have chosen to participate. Our acute care hospitals may qualify for these EHR incentive payments upon implementation of the EHR application assuming they meet the “meaningful use” criteria. The government’s ultimate goal is to promote more effective (quality) and efficient healthcare delivery through the use of technology to reduce the total cost of healthcare for all Americans and utilizing the cost savings to expand access to the healthcare system.

Pursuant to HITECH Act regulations, hospitals that do not qualify as a meaningful user of EHR by 2015 are subject to a reduced market basket update to the IPPS standardized amount in 2015 and each subsequent fiscal year. We believe that all of our acute care hospitals have met the applicable meaningful use criteria and therefore are not subject to a reduced market basked update to the IPPS standardized amount in federal fiscal year 2015. However, under the HITECH Act, hospitals must continue to meet the applicable meaningful use criteria in each fiscal year or they will be subject to a market basket update reduction in a subsequent fiscal year. Failure of our acute care hospitals to continue to meet the applicable meaningful use criteria would have an adverse effect on our future net revenues and results of operations.

In connection with the implementation of EHR applications at our acute care hospitals, our consolidated results of operations include net pre-tax charges of $28 million during 2016, $18 million during 2015 and $8 million during 2014. These net pre-tax charges consisted primarily of depreciation and amortization expense related to the costs incurred for the purchase and development of the application, net of EHR incentive income (as reflected on our Consolidated Statements of Income) and the portion of the net expense that was attributable to noncontrolling interests.

Federal regulations require that Medicare EHR incentive payments be computed based on the Medicare cost report that begins in the federal fiscal period in which a hospital meets the applicable “meaningful use” requirements. Since the annual Medicare cost report periods for each of our acute care hospitals ends on December 31st , we will recognize Medicare EHR incentive income for each hospital during the fourth quarter of the year in which the facility meets the “meaningful use” criteria and during the fourth quarter of each applicable subsequent year.

Managed Care: A significant portion of our net patient revenues are generated from managed care companies, which include health maintenance organizations, preferred provider organizations and managed Medicare (referred to as Medicare Part C or Medicare Advantage) and Medicaid programs. In general, we expect the percentage of our business from managed care programs to continue to grow. The consequent growth in managed care networks and the resulting impact of these networks on the operating

results of our facilities vary among the markets in which we operate. Typically, we receive lower payments per patient from managed care payors than we do from traditional indemnity insurers, however, during the past few years we have secured price increases from many of our commercial payors including managed care companies.

Commercial Insurance: Our hospitals also provide services to individuals covered by private health care insurance. Private insurance carriers typically make direct payments to hospitals or, in some cases, reimburse their policy holders, based upon the particular hospital’s established charges and the particular coverage provided in the insurance policy. Private insurance reimbursement varies among payors and states and is generally based on contracts negotiated between the hospital and the payor.

Commercial insurers are continuing efforts to limit the payments for hospital services by adopting discounted payment mechanisms, including predetermined payment or DRG-based payment systems, for more inpatient and outpatient services. To the extent that such efforts are successful and reduce the insurers’ reimbursement to hospitals and the costs of providing services to their beneficiaries, such reduced levels of reimbursement may have a negative impact on the operating results of our hospitals.

Other Sources: Our hospitals provide services to individuals that do not have any form of health care coverage. Such patients are evaluated, at the time of service or shortly thereafter, for their ability to pay based upon federal and state poverty guidelines, qualifications for Medicaid or other state assistance programs, as well as our local hospitals’ indigent and charity care policy. Patients without health care coverage who do not qualify for Medicaid or indigent care write-offs are offered substantial discounts in an effort to settle their outstanding account balances.

Health Care Reform: Listed below are the Medicare, Medicaid and other health care industry changes which are have been, or are scheduled to be, implemented as a result of the ACA.

Implemented Medicare Reductions and Reforms:

•The Reconciliation Act reduced the market basket update for inpatient and outpatient hospitals and inpatient behavioral health facilities by 0.25% in each of 2010 and 2011, by 0.10% in each of 2012 and 2013, 0.30% in 2014 and 0.20% in each of 2015 and 2016.
•The ACA implemented certain reforms to Medicare Advantage payments, effective in 2011.
•A Medicare shared savings program, effective in 2012.
•A hospital readmissions reduction program, effective in 2012.
•A value-based purchasing program for hospitals, effective in 2012.
•A national pilot program on payment bundling, effective in 2013.
•Reduction to Medicare DSH payments, effective in 2014, as discussed above.

Medicaid Revisions:

•Expanded Medicaid eligibility and related special federal payments, effective in 2014.
•The ACA (as amended by subsequent federal legislation) requires annual aggregate reductions in federal DSH funding from federal fiscal year (“FFY”) 2018 through FFY 2025. The aggregate annual reduction amounts are $2.0 billion for FFY 2018, $3.0 billion for FFY 2019, $4.0 billion for FFY 2020, $5.0 billion for FFY 2021, $6.0 billion for FFY 2022, $7.0 billion for FFY 2023, and $8.0 billion for each of FFY 2024 and 2025.

Health Insurance Revisions:

•Large employer insurance reforms, effective in 2015.
•Individual insurance mandate and related federal subsidies, effective in 2014.
•Federally mandated insurance coverage reforms, effective in 2010 and forward.

The ACA seeks to increase competition among private health insurers by providing for transparent federal and state insurance exchanges. The ACA also prohibits private insurers from adjusting insurance premiums based on health status, gender, or other specified factors. We cannot provide assurance that these provisions will not adversely affect the ability of private insurers to pay for

services provided to insured patients, or that these changes will not have a negative material impact on our results of operations going forward.

Value-Based Purchasing:

There is a trend in the healthcare industry toward value-based purchasing of healthcare services. These value-based purchasing programs include both public reporting of quality data and preventable adverse events tied to the quality and efficiency of care provided by facilities. Governmental programs including Medicare and Medicaid currently require hospitals to report certain quality data to receive full reimbursement updates. In addition, Medicare does not reimburse for care related to certain preventable adverse events. Many large commercial payers currently require hospitals to report quality data, and several commercial payers do not reimburse hospitals for certain preventable adverse events.

The ACA contains a number of provisions intended to promote value-based purchasing. The ACA prohibits the use of federal funds under the Medicaid program to reimburse providers for medical assistance provided to treat hospital acquired conditions (“HAC”). Beginning in FFY 2015, hospitals that fall into the top 25% of national risk-adjusted HAC rates for all hospitals in the previous year will receive a 1% reduction in their total Medicare payments. Additionally, hospitals with excessive readmissions for conditions designated by HHS will receive reduced payments for all inpatient discharges, not just discharges relating to the conditions subject to the excessive readmission standard.

The ACA also required HHS to implement a value-based purchasing program for inpatient hospital services which became effective on October 1, 2012. The ACA requires HHS to reduce inpatient hospital payments for all discharges by a percentage beginning at 1% in FFY 2013 and increasing by 0.25% each fiscal year up to 2% in FFY 2017 and subsequent years. HHS will pool the amount collected from these reductions to fund payments to reward hospitals that meet or exceed certain quality performance standards established by HHS. HHS will determine the amount each hospital that meets or exceeds the quality performance standards will receive from the pool of dollars created by these payment reductions. In its fiscal year 2016 IPPS final rule, CMS will fund the value-based purchasing program by reducing base operating DRG payment amounts to participating hospitals by 1.75%. For FFY 2017, this reduction will increase to 2%.

Readmission Reduction Program:

In the ACA, Congress also mandated implementation of the hospital readmission reduction program (“HRRP”). The HRRP currently assesses penalties on hospitals having excess readmission rates for heart failure, myocardial infarction, pneumonia, acute exacerbation of chronic obstructive pulmonary disease (COPD) and elective total hip arthroplasty (THA) and total knee arthroplasty (TKA), excluding planned readmissions, when compared to expected rates. In the fiscal year 2015 IPPS final rule, CMS added readmissions for coronary artery bypass graft (CABG) surgical procedures beginning in fiscal year 2017. The impact of HRRP for federal fiscal year 2016 will not have a material adverse effect on our results of operations.

Accountable Care Organizations:

The ACA requires HHS to establish a Medicare Shared Savings Program that promotes accountability and coordination of care through the creation of accountable care organizations (“ACOs”). The ACO program allows providers (including hospitals), physicians and other designated professionals and suppliers to voluntarily work together to invest in infrastructure and redesign delivery processes to achieve high quality and efficient delivery of services. The program is intended to produce savings as a result of improved quality and operational efficiency. ACOs that achieve quality performance standards established by HHS will be eligible to share in a portion of the amounts saved by the Medicare program.

In addition to statutory and regulatory changes to the Medicare and each of the state Medicaid programs, our operations and reimbursement may be affected by administrative rulings, new or novel interpretations and determinations of existing laws and regulations, post-payment audits, requirements for utilization review and new governmental funding restrictions, all of which may materially increase or decrease program payments as well as affect the cost of providing services and the timing of payments to our facilities. The final determination of amounts we receive under the Medicare and Medicaid programs often takes many years, because of audits by the program representatives, providers’ rights of appeal and the application of numerous technical reimbursement provisions. We believe that we have made adequate provisions for such potential adjustments. Nevertheless, until final adjustments are made, certain issues remain unresolved and previously determined allowances could become either inadequate or more than ultimately required.

Finally, we expect continued third-party efforts to aggressively manage reimbursement levels and cost controls. Reductions in reimbursement amounts received from third-party payors could have a material adverse effect on our financial position and our results.

Interest Expense

Below is a schedule of our interest expense during 2016, 2015 and 2014 (amounts in thousands):

201620152014
Revolving credit & demand notes (a.)$4,577$3,355$2,984
$400 million, 7.125% Senior Notes due 2016 (b.)12,03128,49628,496
$250 million, 7.00% Senior Notes due 2018 (c.)——10,208
$300 million, 3.75% Senior Notes due 2019 (d.)11,25011,2504,500
$700 million, 4.75% Senior Notes due 2022 (d.)24,62814,2505,700
$400 million, 5.00% Senior Notes due 2026 (e.)11,556——
Term loan facility A/new (a.)36,57830,17512,507
Term loan facility A/original (a.)——9,769
Term loan facility A2 (a.)——8,747
Term loan facility B1 (a.)——8,009
Accounts receivable securitization program (f.)4,7393,0742,446
Subtotal-revolving credit, demand notes, senior notes, term loan facilities and accounts receivable securitization program105,35990,60093,366
Interest rate swap expense, net8,48810,20619,063
Amortization of financing fees8,2087,13415,400
Other combined interest expense5,0646,1376,346
Capitalized interest on major projects(1,916)(304)—
Interest income(150)(279)(537)
Interest expense, net$125,053$113,494$133,638
(a.)In June, 2016, we entered into a fifth amendment to our credit agreement dated November 15, 2010, as amended, to increase the size of the Term Loan A facility by $200 million. Interest rates were not impacted by this amendment. The credit agreement, as amended, which is scheduled to expire in August, 2019, consists of: (i) an $800 million revolving credit facility ($455 million of outstanding borrowings as of December 31, 2016), and; (ii) a Term Loan A facility with $1.864 billion outstanding as of December 31, 2016. Our formerly outstanding term loan facility A/original and A2 facilities were previously combined into the Term Loan A facility. The Term Loan B1 facility was repaid in August, 2014, utilizing other borrowed funds.
(b.)The $400 million, 7.125% Senior Notes matured and were repaid in June, 2016 utilizing a portion of the funds generated from the debt issuances described in (a.), (d.) and (e.).
(c.)In July, 2014, we redeemed the entire $250 million aggregate principal amount of our 7.00% Senior Notes due in 2018. An $11 million make-whole premium was paid in connection with this early extinguishment.
(d.)In August, 2014, we completed an offering of $300 million aggregate principal amount of 3.75% Senior Secured Notes due in 2019 and $300 million aggregate principal amount of 4.75% Senior Secured Notes due in 2022. In June, 2016, we completed the offering of an additional $400 million aggregate principal amount of 4.75% Senior Notes due in 2022 (issued at a yield of 4.35%), the terms of which were identical to the terms of our $300 million aggregate principal amount of 4.75% Senior Notes due in 2022, issued in August, 2014. These Senior Notes, combined, are referred to as $700 million, 4.75% Senior Notes due in 2022.
(e.)In June, 2016, we completed the offering of $400 million aggregate principal amount of 5.00% Senior Notes due in 2026.
(f.)In December, 2015, we amended our existing accounts receivable securitization program, which was scheduled to expire in October, 2016, to extend the term through December 21, 2018 and increase the borrowing limit to $400 million from $360 million.

Interest expense increased $12 million during 2016 to $125 million as compared to $113 million during 2015. The increase was due primarily to: (i) a $15 million increase in aggregate interest expense on our revolving credit, demand notes, senior notes, term loan facility and accounts receivable securitization program due to an increase in the aggregate average outstanding borrowings ($3.5 billion in 2016 as compared to $3.1 billion in 2015), as well as an increase in our aggregate average cost of borrowings pursuant to these facilities (3.0% in 2016 as compared to 2.9% in 2015); (ii) a $2 million decrease in interest rate swap expense, resulting primarily from the 2015 maturities of previously outstanding interest rate swaps, and; (iii) other combined net decrease of $1 million.

Interest expense decreased $20 million during 2015 to $113 million as compared to $134 million during 2014. The decrease was due primarily to: (i) a $3 million decrease in aggregate interest expense on our revolving credit, demand notes, senior notes, term loan

facilities and accounts receivable securitization program due primarily to a decrease in our average outstanding borrowings ($3.1 billion in 2015 as compared to $3.2 billion in 2014), as discussed below; (ii) a $9 million decrease in interest rate swap expense, resulting primarily from the 2015 maturities of our previously outstanding interest rate swaps, and; (iii) an $8 million decrease in amortization and financing fees, resulting primarily from the write-off of certain deferred financing costs and original issue discounts in connection with various financing transactions that occurred during the third quarter of 2014, as discussed above.

The aggregate average outstanding borrowings under our revolving credit, demand notes, senior notes, term loan facilities and accounts receivable securitization program were approximately $3.5 billion during 2016, $3.1 billion during 2015 and $3.2 billion during 2014. The average effective interest rate on these facilities, excluding the amortization of deferred financing costs and original issue discounts and designated interest rate swap expense was 3.0% during 2016 and 2.9% during each of 2015 and 2014. The average effective interest rate on these facilities, including amortization of deferred financing costs and original issue discounts and designated interest rate swap expense was 3.4% during each of 2016 and 2015 and 3.9% during 2014.

Costs Related to Early Extinguishment of Debt

In connection with various financing transactions completed during 2014, as discussed below in Capital Resources-Credit Facilities and Outstanding Debt Securities, our 2014 results of operations include a $36 million pre-tax charge incurred for the costs related to the extinguishment of debt. This charge consisted of the write-off of deferred charges ($20 million) and original issue discount on the extinguished debt ($5 million) as well as the make-whole premium paid ($11 million) on the early redemption of the $250 million, 7.00% senior unsecured notes.

Provision for Income Taxes and Effective Tax Rates

The effective tax rates, as calculated by dividing the provision for income taxes by income before income taxes, were as follows for each of the years ended December 31, 2016, 2015 and 2014 (dollar amounts in thousands):

201620152014
Provision for income taxes$409,187$395,203$324,671
Income before income taxes1,156,3581,145,901929,667
Effective tax rate35.4%34.5%34.9%

In May, 2016, we purchased third-party minority ownership interests in six acute care hospitals located in Las Vegas, Nevada. Prior to that date, outside owners held various noncontrolling, minority ownership interests in eight of our acute care facilities and one behavioral health care facility. Each of these facilities are owned and operated by limited liability companies (“LLC”) or limited partnerships (“LP”). As a result, since there is no income tax liability incurred at the LLC/LP level (since it passes through to the members/partners), the net income attributable to noncontrolling interests does not include any income tax provision/benefit. When computing the provision for income taxes, as reflected on our consolidated statements of income, the net income attributable to noncontrolling interests is deducted from income before income taxes since it represents the third-party members’/partners’ share of the income generated by the joint-venture entities. In addition to providing the effective tax rates, as indicated above (as calculated from dividing the provision for income taxes by the income before income taxes as reflected on the consolidated statements of income), we believe it is helpful to our investors that we also provide our effective tax rate as calculated after giving effect to the portion of our pre-tax income that is attributable to the third-party members/partners.

The effective tax rates, as calculated by dividing the provision for income taxes by the difference in income before income taxes, minus net income attributable to noncontrolling interests, were as follows for each of the years ended December 31, 2016, 2015 and 2014 (dollar amounts in thousands):

201620152014
Provision for income taxes$409,187$395,203$324,671
Income before income taxes1,156,3581,145,901929,667
Less: Net income attributable to noncontrolling interests(44,762)(70,170)(59,653)
Income before income taxes and after net income attributable to noncontrolling interests1,111,5961,075,731870,014
Effective tax rate36.8%36.7%37.3%

The impact of discrete tax items did not have a material impact on our provision for income taxes during 2016, 2015 or 2014. The decrease in the effective tax rate during 2015, as compared to 2014, was due primarily to lower effective income tax rates

applicable to the income generated during 2015 at the behavioral health care facilities located in the U.K. that were acquired since the third quarter of 2014.

We consider the undistributed earnings of certain of our foreign subsidiaries as of December 31, 2016 and 2015, to be indefinitely reinvested and, accordingly, no U.S. income taxes have been provided thereon. As of December 31, 2016 and 2015, the amount of cash associated with indefinitely reinvested foreign earnings was approximately $54 million and $49 million, respectively.

Effects of Inflation and Seasonality

Seasonality —Our acute care services business is typically seasonal, with higher patient volumes and net patient service revenue in the first and fourth quarters of the year. This seasonality occurs because, generally, more people become ill during the winter months, which results in significant increases in the number of patients treated in our hospitals during those months.

Inflation —Inflation has not had a material impact on our results of operations over the last three years. However, since the healthcare industry is very labor intensive and salaries and benefits are subject to inflationary pressures, as are supply and other costs, we cannot predict the impact that future economic conditions may have on our ability to contain future expense increases. Our ability to pass on increased costs associated with providing healthcare to Medicare and Medicaid patients is limited due to various federal, state and local laws which have been enacted that, in certain cases, limit our ability to increase prices. We believe, however, that through adherence to cost containment policies, labor management and reasonable price increases, the effects of inflation on future operating margins should be manageable.

Liquidity

Year ended December 31, 2016 as compared to December 31, 2015:

Net cash provided by operating activities

Net cash provided by operating activities was $1.289 billion during 2016 as compared to $1.021 billion during 2015. The net increase of $268 million was primarily attributable to the following:

•a favorable change of $26 million due to an increase in net income plus/minus depreciation and amortization expense, stock-based compensation expense and net gains on sales of assets and businesses;
•$200 million favorable change in other working capital accounts due primarily to favorable changes in accrued compensation and accounts payable resulting from the timing of disbursements;
•$56 million favorable change in cash flows from forward exchange contracts related to our investment in foreign operations;
•$42 million unfavorable change in accounts receivable;
•$56 million favorable change in accrued and deferred income taxes;
•$32 million unfavorable change in other assets and deferred charges, and;
•$4 million of other combined net favorable changes.

Days sales outstanding (“DSO”): Our DSO are calculated by dividing our net revenue by the number of days in the year. The result is divided into the accounts receivable balance the end of the year. Our DSO were 53 days at each of December 31, 2016 and 2015 and 57 days at December 31, 2014.

Our accounts receivable as of December 31, 2016 and December 31, 2015 include amounts due from Illinois of approximately $38 million and $28 million, respectively. Collection of the outstanding receivables continues to be delayed due to state budgetary and funding pressures. Approximately $25 million as of December 31, 2016 and $12 million as of December 31, 2015, of the receivables due from Illinois were outstanding in excess of 60 days, as of each respective date. Although the accounts receivable due from Illinois could remain outstanding for the foreseeable future, since we expect to eventually collect all amounts due to us, no related reserves have been established in our consolidated financial statements. However, we can provide no assurance that we will eventually collect all amounts due to us from Illinois. Failure to ultimately collect all outstanding amounts due to us from Illinois would have an adverse impact on our future consolidated results of operations and cash flows.

Net cash used in investing activities

Net cash used in investing activities was $1.187 billion during 2016 and $913 million during 2015.

2016:

The $1.187 billion of net cash used in investing activities during 2016 consisted of $614 million spent related to the acquisition of businesses and property, $520 million spent on capital expenditures, $32 million spent to increase the statutorily required capital reserves of our commercial insurance subsidiary and, $21 million spent on the purchase and implementation of an information technology application.

2016 Acquisitions of Assets and Businesses:

During 2016 we spent $614 million to:

•acquire the adult services division of Cambian Group, PLC consisting of 79 inpatient and 2 outpatient behavioral health facilities located in the U.K. (acquired late in the fourth quarter);
•acquire Desert View Hospital, a 25-bed acute care facility located in Pahrump, Nevada (acquired during the third quarter), and;
•acquire various other businesses and real property assets.

2016 Capital Expenditures:

During 2016 we spent $520 million to finance capital expenditures including capital expenditures for equipment, renovations and new projects at various existing facilities, including additional capacity added to certain of our behavioral health facilities that have operated near full capacity, and the construction costs related to Henderson Hospital, a newly constructed 130-bed acute care facility located in Henderson, Nevada, that was completed and opened during the fourth quarter of 2016.

2015:

The $913 million of net cash used in investing activities during 2015 consisted of $534 million spent related to the acquisition of businesses and property, $379 million spent on capital expenditures, $3 million spent to increase investments of insurance subsidiary and, net of $3 million received from the sale of assets and businesses consisting primarily of divestiture of a small operator of behavioral health care services.

2015 Acquisitions of Assets and Businesses:

During 2015 we spent $534 million to:

•acquire a 46-bed behavioral health care facility located in the U.K. (acquired during the first quarter);
•acquire Alpha Hospitals Holdings Limited consisting of four behavioral health care hospitals located in the U.K. (acquired during the third quarter);
•acquire Foundations Recovery Network, LLC consisting of 4 inpatient facilities as well as 8 outpatient centers (during the fourth quarter), and;
•various other businesses, a management contract and real property assets.

2015 Capital Expenditures:

During 2015 we spent $379 million to finance capital expenditures including capital expenditures for equipment, renovations and new projects at various existing facilities, including additional capacity added to certain of our behavioral health facilities that have operated near full capacity, and the construction costs related to Henderson Hospital which was completed and opened during the fourth quarter of 2016.

Net cash used in financing activities

Net cash used in financing activities was $126 million during 2016 and $77 million during 2015.

2016:

The $126 million of net cash used in financing activities during 2016 consisted of the following:

•spent $459 million on net repayment of debt as follows: (i) $400 million related to the 7.125% senior secured notes that matured in June, 2016; (ii) $55 million related to our term loan A facility; (iii) $1 million related to our accounts receivable securitization program, and; (iv) $3 million related to other debt facilities;
•generated $1.171 billion of proceeds related to new borrowings as follows: (i) $406 million received in connection with the issuance of additional 4.75% senior secured notes due in 2022; (ii) $400 million received from the issuance of 5.0% senior secured notes due in 2026; (iii) $200 million of additional borrowings pursuant to our term loan A facility; (iv) $155 million of additional borrowings pursuant to our revolving credit facility, and; (v) $10 million of proceeds from new borrowings pursuant to a short-term, on-demand line of credit;
•spent $418 million to purchase third-party minority ownership interests in our six acute care hospitals located in Las Vegas, Nevada;
•spent $353 million to repurchase shares of our Class B Common Stock in connection with: (i) open market purchases pursuant to our $800 million stock repurchase program ($296 million), and; (ii) income tax withholding obligations related to stock-based compensation programs ($57 million);
•spent $70 million to pay profit distributions related to noncontrolling interests in majority owned businesses
•generated $45 million of excess income tax benefits related to stock-based compensation;
•spent $39 million to pay dividends (paid quarterly at $.10 per share);
•generated $10 million from the issuance of shares of our Class B Common Stock pursuant to the terms of employee stock purchase plans, and;
•spent $12 million in financing costs.

2015:

The $77 million of net cash used in financing activities during 2015 consisted of the following:

•generated $234 million of proceeds from additional borrowings consisting of: (i) $160 million of proceeds from new borrowings pursuant to our revolving credit facility; (ii) $70 million of proceeds from new borrowings pursuant to our accounts receivable securitization program, and; (iii) $4 million of proceeds from new borrowings pursuant to a short-term, on-demand line of credit;
•spent $68 million on net repayments of debt due primarily to repayments pursuant to our term loan A facility ($44 million) and various other combined debt facilities ($24 million);
•spent $210 million to repurchase shares of our Class B Common Stock in connection with: (i) open market purchases pursuant to our $800 million stock repurchase program ($152 million), and; (ii) income tax withholding obligations related to stock-based compensation programs ($58 million);
•generated $47 million of excess income tax benefits related to stock-based compensation;
•spent $40 million to pay cash dividends (paid quarterly at $.10 per share);
•spent $62 million to pay profit distributions related to noncontrolling interests in majority owned businesses;
•generated $8 million from the issuance of shares of our Class B Common Stock pursuant to the terms of employee stock purchase plans;
•generated $13 million from the from the sale/leaseback of two free-standing emergency departments, and;
•spent $1 million in financing costs.

Year ended December 31, 2015 as compared to December 31, 2014:

Net cash provided by operating activities

Net cash provided by operating activities was $1.021 billion during 2015 as compared to $1.036 billion during 2014. The net decrease of $15 million was primarily attributable to the following:

•a favorable change of $162 million due to an increase in net income plus/minus depreciation and amortization expense, stock-based compensation expense, net gains on sales of assets and businesses, and costs related to extinguishment of debt;
•a $199 million unfavorable change in other working capital accounts due primarily to unfavorable changes in accrued compensation and accounts payable resulting from the timing of disbursements;
•a $68 million unfavorable change in accrued and deferred income taxes;
•a $60 million favorable change in accounts receivable;
•a favorable change of $22 million in accrued insurance expense, net of commercial premiums paid, due primarily to a $20 million reduction recorded during 2014 to our professional and general liability self-insurance reserves, based upon a reserve analysis, and;
•$8 million of other combined net favorable changes.

Net cash used in investing activities

Net cash used in investing activities was $913 million during 2015 and $833 million during 2014. The factors contributing to the $913 million of net cash used in investing activities during 2015 are detailed above.

2014:

The $833 million of net cash used in investing activities during 2014 consisted of $431 million spent related to the acquisition of businesses and property, $391 million spent on capital expenditures, $13 million spent in connection with the purchase and implementation of an EHR application at our acute care facilities, $12 million spent to increase investments of insurance subsidiary, net of $15 million received from the sale of assets and businesses.

2014 Acquisitions of Assets and Businesses:

During 2014 we spent $431 million to:

•acquire the stock of Cygnet Health Care Limited comprised of 17 facilities located throughout the U.K. including 15 inpatient behavioral health hospitals and 2 nursing homes (during the third quarter);
•acquire and fund the required capital reserves related to Prominence Health Plan, a commercial health insurer headquartered in Reno, Nevada (during the second quarter);
•acquire the Psychiatric Institute of Washington, a 124-bed behavioral health care facility and outpatient treatment center located in Washington, D.C. (during the second quarter);
•acquire the operations of Palo Verde Behavioral Health, a 48-bed behavioral health facility in Tucson, Arizona (during the first quarter);
•acquire the real property of The Bridgeway, a 103-bed behavioral health care facility located in North Little Rock, Arkansas, that was previously leased from Universal Health Realty Income Trust (during the fourth quarter);
•acquire the previously leased real property of Cygnet Hospital-Harrow, a 44-bed behavioral health care facility located in the U.K., the operations of which were acquired as part of our acquisition of Cygnet (during the fourth quarter), and;
•acquire physician practices.

2014 Capital Expenditures:

During 2014 we spent $391 million to finance capital expenditures including capital expenditures for equipment, renovations and new projects at various existing facilities, including additional capacity added to certain of our behavioral health facilities that have operated near full capacity.

2014 Divestiture of Assets and Businesses:

During 2014 we received $15 million in connection with the divestiture of a non-operating investment (during the first quarter) and the real property of a closed behavioral health facility (during the second quarter).

Net cash used in financing activities

Net cash used in financing activities was $77 million during 2015 and $187 million during 2014. The factors contributing to the $77 million of net cash used in financing activities during 2015 are detailed above.

2014:

The $187 million of net cash used in financing activities during 2014 consisted of the following:

•generated $830 million of proceeds from additional borrowings pursuant to: (i) the issuance in August of 2014 of $300 million aggregate principal amount of 3.750% senior secured notes due 2019 and the issuance of $300 million aggregate principal amount of 4.750% senior secured notes due 2022; (ii) $140 million from new borrowings pursuant to our revolving credit facility, and; (iii) $90 million of proceeds from new borrowings pursuant to our accounts receivable securitization program;
•spent $879 million on net repayments of debt due primarily to repayments pursuant to our: (i) previously outstanding term loan B facility ($550 million); (ii) previously outstanding $250 million, 7% senior unsecured notes ($250 million); (iii) previously outstanding term loan term loan A and A2 facilities ($36 million); (iv) short-term, on-demand line of credit ($25 million); (v) new term loan A facility ($11 million), and; (vi) various other debt facilities ($7 million);
•spent $101 million to repurchase shares of our Class B Common Stock in connection with: (i) open market purchases pursuant to our $800 million stock repurchase program ($58 million), and; (ii) income tax withholding obligations related to stock-based compensation programs ($43 million);
•generated $34 million of excess income tax benefits related to stock-based compensation;
•spent $15 million in financing costs;
•spent $30 million to pay quarterly cash dividends of $.05 per share during each of the first and second quarters and $.10 per share during the third and fourth quarters;
•spent $34 million to pay profit distributions related to noncontrolling interests in majority owned businesses, and;
•generated $7 million from the issuance of shares of our Class B Common Stock pursuant to the terms of employee stock purchase plans.

2017 Expected Capital Expenditures:

During 2017, we expect to spend approximately $475 million to $500 million on capital expenditures which includes expenditures for capital equipment, renovations and new projects at existing hospitals. Approximately $175 million of our 2017 expected capital expenditures relates to completion of projects that are in progress as of December 31, 2016. We believe that our capital expenditure program is adequate to expand, improve and equip our existing hospitals. We expect to finance all capital expenditures and acquisitions with internally generated funds and/or additional funds, as discussed below.

Capital Resources

Credit Facilities and Outstanding Debt Securities

On June 7, 2016, we entered into a Fifth Amendment (the “Fifth Amendment”) to our credit agreement dated as of November 15, 2010, as amended on March 15, 2011, September 21, 2012, May 16, 2013 and August 7, 2014, among UHS, as borrower, the several banks and other financial institutions from time to time parties thereto, as lenders (“Credit Agreement”). The Fifth Amendment increased the size of the term loan A facility by $200 million and those proceeds were utilized to repay outstanding borrowings under the revolving credit facility of the Credit Agreement. The Credit Agreement, as amended, which is scheduled to mature in August, 2019, consists of: (i) an $800 million revolving credit facility ($455 million of borrowings outstanding as of December 31, 2016), and; (ii) a term loan A facility with $1.864 billion of borrowings outstanding as of December 31, 2016.

Borrowings under the Credit Agreement bear interest at either (1) the ABR rate which is defined as the rate per annum equal to, at our election: the greatest of (a) the lender’s prime rate, (b) the weighted average of the federal funds rate, plus 0.5% and (c) one month LIBOR rate plus 1%, in each case, plus an applicable margin based upon our consolidated leverage ratio at the end of each quarter

ranging from 0.50% to 1.25% for revolving credit and term loan-A borrowings, or (2) the one, two, three or six month LIBOR rate (at our election), plus an applicable margin based upon our consolidated leverage ratio at the end of each quarter ranging from 1.50% to 2.25% for revolving credit and term loan-A borrowings. As of December 31, 2016, the applicable margins were 0.50% for ABR-based loans and 1.50% for LIBOR-based loans under the revolving credit and term loan-A facilities.

As of December 31, 2016, we had $455 million of borrowings outstanding pursuant to the terms of our $800 million revolving credit facility and we had $297 million of available borrowing capacity net of $33 million of outstanding letters of credit and $15 million of outstanding borrowings pursuant to a short-term, on-demand credit facility. The revolving credit facility includes a $125 million sub-limit for letters of credit. The Credit Agreement is secured by certain assets of the Company (which generally excludes asset classes such as substantially all of the patient-related accounts receivable of our acute care hospitals, certain real estate assets and assets held in joint-ventures with third-parties) and our material subsidiaries and guaranteed by our material subsidiaries.

Pursuant to the terms of the Credit Agreement, term loan-A installment payments of approximately $22 million per quarter commenced during the fourth quarter of 2016 and are scheduled through June, 2019. Previously, approximately $11 million of quarterly installment payments were made from the fourth quarter of 2014 through the third quarter of 2016.

Pursuant to the terms of our $400 million accounts receivable securitization program with a group of conduit lenders and liquidity banks (“Securitization”), which is scheduled to mature in December, 2018, substantially all of the patient-related accounts receivable of our acute care hospitals (“Receivables”) serve as collateral for the outstanding borrowings. We have accounted for this Securitization as borrowings. We maintain effective control over the Receivables since, pursuant to the terms of the Securitization, the Receivables are sold from certain of our subsidiaries to special purpose entities that are wholly-owned by us. The Receivables, however, are owned by the special purpose entities, can be used only to satisfy the debts of the wholly-owned special purpose entities, and thus are not available to us except through our ownership interest in the special purpose entities. The wholly-owned special purpose entities use the Receivables to collateralize the loans obtained from the group of third-party conduit lenders and liquidity banks. The group of third-party conduit lenders and liquidity banks do not have recourse to us beyond the assets of the wholly-owned special purpose entities that securitize the loans. At December 31, 2016, we had $399 million of outstanding borrowings and $1 million of additional borrowing capacity pursuant to the terms of the Securitization.

As of December 31, 2016, we had combined aggregate principal of $1.4 billion from the following senior secured notes:

•$300 million aggregate principal amount of 3.75% senior secured notes due in 2019 (“2019 Notes”) which were issued on August 7, 2014.
•$700 million aggregate principal amount of 4.75% senior secured notes due in 2022 (“2022 Notes”) which were issued as follows:
o$300 million aggregate principal amount issued on August 7, 2014 at par.
o$400 million aggregate principal amount issued on June 3, 2016 at 101.5% to yield 4.35%.
•$400 million aggregate principal amount of 5.00% senior secured notes due in 2026 (“2026 Notes”) which were issued on June 3, 2016.

Interest is payable on the 2019 Notes and the 2022 Notes on February 1 and August 1 of each year until the maturity date of August 1, 2019 for the 2019 Notes and August 1, 2022 for the 2022 Notes. Interest on the 2026 Notes is payable on June 1 and December 1 until the maturity date of June 1, 2026. The 2019 Notes, 2022 Notes and 2026 Notes were offered only to qualified institutional buyers under Rule 144A and to non-U.S. persons outside the United States in reliance on Regulation S under the Securities Act of 1933, as amended (the “Securities Act”). The 2019 Notes, 2022 Notes and 2026 Notes have not been registered under the Securities Act and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements.

In June, 2016, we repaid the $400 million, 7.125% senior secured notes which matured on June 30, 2016.

The average amounts outstanding during each of years 2016, 2015 and 2014 under the current and prior Credit Agreements, demand notes and accounts receivable securitization programs was $2.3 billion, $2.1 billion and $2.4 billion, respectively, with corresponding interest rates of 2.0%, 1.7% and 1.8%, respectively, including commitment and facility fees. The maximum amounts outstanding at any month-end were $2.7 billion in 2016, $2.3 billion in 2015 and $2.7 billion in 2014. The effective interest rate on our current and prior Credit Agreements, accounts receivable securitization programs, and demand notes, which includes the respective interest expense, commitment and facility fees, designated interest rate swaps expense and amortization of deferred financing costs and original issue discounts, was 2.3% in 2016, 2.4% in 2015 and 3.1% in 2014.

Our Credit Agreement includes a material adverse change clause that must be represented at each draw. The Credit Agreement contains covenants that include a limitation on sales of assets, mergers, change of ownership, liens and indebtedness, transactions with

affiliates, dividends and stock repurchases; and requires compliance with financial covenants including maximum leverage and minimum interest coverage ratios. We are in compliance with all required covenants as of December 31, 2016.

At December 31, 2016, the net carrying value and fair value of our debt were each approximately $4.1 billion. At December 31, 2015, the carrying value and fair value of our debt were each approximately $3.5 billion. The fair value of our debt was computed based upon quotes received from financial institutions. We consider these to be “level 2” in the fair value hierarchy as outlined in the authoritative guidance for disclosures in connection with debt instruments.

Our total debt as a percentage of total capitalization was 48% at December 31, 2016 and 45% at December 31, 2015.

We expect to finance all capital expenditures and acquisitions, pay dividends and potentially repurchase shares of our common stock utilizing internally generated and additional funds. Additional funds may be obtained through: (i) the issuance of equity; (ii) borrowings under our existing revolving credit facility or through refinancing the existing revolving credit agreement, and/or; (iii) the issuance of other long-term debt. We believe that our operating cash flows, cash and cash equivalents, available borrowing capacity under our $800 million revolving credit facility and $400 million accounts receivable securitization program, as well as access to the capital markets, provide us with sufficient capital resources to fund our operating, investing and financing requirements for the next twelve months. However, in the event we need to access the capital markets or other sources of financing, there can be no assurance that we will be able to obtain financing on acceptable terms or within an acceptable time. Our inability to obtain financing on terms acceptable to us could have a material unfavorable impact on our results of operations, financial condition and liquidity.

Contractual Obligations and Off-Balance Sheet Arrangements

As of December 31, 2016 we were party to certain off balance sheet arrangements consisting of standby letters of credit and surety bonds which totaled $126 million consisting of: (i) $104 million related to our self-insurance programs, and; (ii) $22 million of other debt and public utility guarantees.

Obligations under operating leases for real property, real property master leases and equipment amount to $370 million as of December 31, 2016. The real property master leases are leases for buildings on or near hospital property for which we guarantee a certain level of rental income. We sublease space in these buildings and any amounts received from these subleases are offset against the expense. In addition, we lease three hospital facilities from Universal Health Realty Trust (the “Trust”) with terms expiring in 2021. These leases contain up to two 5-year renewal options. We also lease two free-standing emergency departments and space in certain medical office buildings which are owned by the Trust. In addition, we lease the real property of certain other facilities from non-related parties as indicated in Item 2. Properties, as included herein.

The following represents the scheduled maturities of our contractual obligations as of December 31, 2016:

Payments Due by Period (dollars in thousands)
Less than2-34-5After
Total1 yearyearsyears5 years
Long-term debt obligations (a)$4,161,699$105,895$2,932,544$3,346$1,119,914
Estimated future interest payments on debt outstanding as of December 31, 2016 (b)611,569154,740226,652111,183118,994
Construction commitments (c)43,22013,96029,26000
Purchase and other obligations (d)350,43058,730108,50091,90091,300
Operating leases (e)370,03366,086102,19169,671132,085
Estimated future payments for defined benefit pension plan, and other retirement plan (f)212,68112,34015,33015,306169,705
Health and dental unpaid claims (g)90,38890,388000
Total contractual cash obligations$5,840,020$502,139$3,414,477$291,406$1,631,998
(a)Reflects borrowings outstanding as of December 31, 2016 as discussed in Note 4 to the Consolidated Financial Statements.
(b)Assumes that all debt outstanding as of December 31, 2016, including borrowings under our Credit Agreement, demand note and accounts receivable securitization program, remain outstanding until the final maturity of the debt agreements at the same interest rates (some of which are floating) which were in effect as of December 31, 2016. We have the right to repay borrowings upon short notice and without penalty, pursuant to the terms of the Credit Agreement, demand note and accounts receivable securitization program. Also includes the impact of various interest rate swap and cap agreements in effect as of December 31, 2016, as calculated to maturity dates utilizing the applicable floating interest rates in effect as of December 31, 2016.
(c)Our share of the estimated construction cost of two newly constructed behavioral health care facilities located in Pennsylvania and Washington that are scheduled to be completed and opened 2018. We are required to build these facilities pursuant to joint-
venture agreements with third parties. In addition, we had various other projects under construction as of December 31, 2016. Because we can terminate substantially all of the construction contracts related to the various other projects at any time without paying a termination fee, these costs are excluded from the table above.
(d)Consists of: (i) $101 million related to long-term contracts with third-parties consisting primarily of certain revenue cycle data processing services for our acute care facilities; (ii) $247 million related to the future expected costs to be paid to a third-party vendor in connection with the on-going operation of an electronic health records application and purchase and implementation of a revenue cycle application for each of our acute care facilities, and; (iii) a $2 million liability for physician commitments expected to be paid in the future.
(e)Reflects our future minimum operating lease payment obligations related to our operating lease agreements outstanding as of December 31, 2016 as discussed in Note 7 to the Consolidated Financial Statements. Some of the lease agreements provide us with the option to renew the lease and our future lease obligations would change if we exercised these renewal options.
(f)Consists of $194 million of estimated future payments related to our non-contributory, defined benefit pension plan (estimated through 2089), as disclosed in Note 8 to the Consolidated Financial Statements, and $19 million of estimated future payments related to another retirement plan liability. Included in our other non-current liabilities as of December 31, 2016 was a $1 million liability recorded in connection with the non-contributory, defined benefit pension plan and included in other non-current liabilities as of December 31, 2016 was a $15 million liability recorded in connection with the other retirement plan.
(g)Consists of accrued and unpaid estimated claims expense incurred in connection with our commercial health insurers and self-insured employee benefit plans.

As of December 31, 2016, the total accrual for our professional and general liability claims was $207 million, of which $48 million is included in other current liabilities and $159 million is included in other non-current liabilities. We exclude the $207 million for professional and general liability claims from the contractual obligations table because there are no significant contractual obligations associated with these liabilities and because of the uncertainty of the dollar amounts to be ultimately paid as well as the timing of such payments. Please see Self-Insured/Other Insurance Risks above for additional disclosure related to our professional and general liability claims and reserves.

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