sentara potomac hospital and subsidiary

SENTARA POTOMAC HOSPITAL AND SUBSIDIARY

Consolidated Financial Statements and Schedules

December 31, 2010 and 2009

(With Independent Auditors’ Report Thereon)


Table of Contents

Page(s)

Independent Auditors’ Report 1

Consolidated Financial Statements:

Consolidated Balance Sheets 3

Consolidated Statements of Operations 4

Consolidated Statements of Changes in Net Assets 5

Consolidated Statements of Cash Flows 6

Notes to Consolidated Financial Statements 7 – 22

Schedules

1 Consolidating Balance Sheet 23

2 Consolidating Statement of Operations 24

3 Potomac Ventures Corporation – Consolidating Balance Sheet 25

4 Potomac Ventures Corporation – Consolidating Statement of Operations 26

Independent Auditors’ Report

The Board of Directors Sentara Potomac Hospital:

We have audited the accompanying consolidated balance sheets of Sentara Potomac Hospital and subsidiary (together, the Corporations) as of December 31, 2010 and 2009, and the related consolidated statements of operations, changes in net assets, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Corporations’ management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Corporations’ internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Sentara Potomac Hospital and subsidiary as of December 31, 2010 and 2009, and the results of their operations, changes in net assets, and cash flows for the years then ended, in conformity with U.S. generally accepted accounting principles.

As discussed in note 2(r) to the consolidated financial statements, on January 1, 2010, the Corporations adopted the recognition, measurement, and disclosure provisions of Financial Accounting Standards Board Accounting Standards Update 2010-07, Not-for-Profit Entities (Topic 958): Not-for-Profit Entities: Mergers and Acquisitions.

As discussed in note 1, on December 1, 2009, the Corporations were purchased by Sentara Healthcare. The 2009 consolidated financial statements include the effect of the resultant purchase accounting.

KPMG LLP Suite 1900 440 Monticello Avenue Norfolk, VA 23510

KPMG LLP is a Delaware limited liability partnership, the U.S. member firm of KPMG International Cooperative (“KPMG International”), a Swiss entity.

2

Our audits were made for the purpose of forming an opinion on the basic consolidated financial statements taken as a whole. The consolidating information included in schedules 1 through 4 is presented for purposes of additional analysis of the basic consolidated financial statements rather than to present the financial position and results of operations of the individual corporations and is not a required part of the basic consolidated financial statements. The consolidating information has been subjected to the auditing procedures applied in the audit of the basic consolidated financial statements and, in our opinion, is fairly stated in all material respects in relation to the basic consolidated financial statements taken as a whole.

April 29, 2011


Consolidated Balance Sheets


(In thousands)

Assets 2010 2009

Current assets:Cash and cash equivalents $ 38,887 21,510 Receivables, net 20,784 23,467 Inventories 4,237 3,584 Prepaid expenses and other current assets 789 1,425

Total current assets 64,697 49,986

Investments 29,952 35,217 Property, plant, and equipment, net 132,470 140,286 Land held for future use, at cost 7,792 7,733 Other assets, net 6,589 5,668

Total assets $ 241,500 238,890

Liabilities and Net Assets

Current liabilities:Accounts payable and accrued expenses $ 2,881 3,707 Employee compensation and benefits 3,789 3,050 Current installments of long-term debt 1,725 1,655 Payables to affiliated organizations 4,142 3 Accrued interest payable 838 849 Deferred revenue 23 3 Estimated third-party payor settlements 288 — Other current liabilities 7,098 9,490

Total current liabilities 20,784 18,757

Long-term debt, excluding current installments 62,642 64,343 Pension liability — 21,445 Negative goodwill — 32,544 Other liabilities 11,084 6,978

Total liabilities 94,510 144,067

Net assets:Unrestricted 142,736 89,778 Temporarily restricted 3,587 4,378 Permanently restricted 667 667

Total net assets 146,990 94,823

Total liabilities and net assets $ 241,500 238,890

See accompanying notes to consolidated financial statements.

3


Consolidated Statements of Operations

Years ended December 31, 2010 and 2009

(In thousands)

2010 2009

Operating revenues, gains, and other support:Net patient service revenue $ 181,651 182,987 Other operating revenue 3,834 3,055 Net assets released from restrictions for operations 1,165 2,234

Total operating revenues, gains, and other support 186,650 188,276

Operating costs and expenses:Salaries and wages 62,508 63,375 Employee benefits 16,410 17,475 Other operating expenses 59,423 66,375 Interest expense 3,425 3,777 Provision for bad debts 31,337 29,119 Depreciation and amortization 10,884 11,414

Total operating costs and expenses 183,987 191,535

Operating income (loss) 2,663 (3,259)

Nonoperating gains, net 2,068 4,580

Excess of revenues over expenses 4,731 1,321

Net assets released from restrictions for capital purchases 1,003 1,757 Assumption of pension liability by Sentara Healthcare 47,864 — Transfers to affiliates, net — (482) Cumulative effect of change in accounting principle 27,416 — Change in funded status of pension liability (28,056) (14,904)

Increase (decrease) in unrestricted net assets $ 52,958 (12,308)


4


Consolidated Statements of Changes in Net Assets


(In thousands)

2010 2009Unrestricted net assets:

Excess of revenues over expenses $ 4,731 1,321 Net assets released from restrictions for capital purchases 1,003 1,757 Assumption of pension liability by Sentara Healthcare 47,864 — Transfers to affiliates, net — (482) Cumulative effect of change in accounting principle 27,416 — Change in funded status of pension liability (28,056) (14,904)

Increase (decrease) in unrestricted net assets 52,958 (12,308)

Temporarily restricted net assets:Contributions 1,323 342 Investment loss, net — (28) Net unrealized gains on investments 54 154 Net assets released from restrictions (2,168) (3,991)

Decrease in temporarily restricted net assets (791) (3,523)

Permanently restricted net assets:Contributions — 5

Increase (decrease) in net assets 52,167 (15,826)

Net effect of purchase accounting (note 1) — (30,097) Net assets, beginning of year 94,823 140,746

Net assets, end of year $ 146,990 94,823


5


Consolidated Statements of Cash Flows


(In thousands)

2010 2009Cash flows from operating activities:

Increase (decrease) in net assets $ 52,167 (15,826) Adjustments to reconcile increase (decrease) in net assets to

net cash provided by operating activities:Provision for bad debts 31,337 29,119 Depreciation and amortization 10,884 11,414 Net realized and unrealized gain on investments (1,776) 1,617 Loss on disposition of property, plant, and equipment (64) 67 Equity in earnings of joint ventures (926) (646) Transfer of pension liability to Sentara Healthcare (47,864) — Transfers to affiliates, net — 482 Cumulative effect of change in accounting principle (27,416) — Restricted contributions received (1,323) (342) Change in operating assets and liabilities:

Receivables, net (29,532) (25,275) Inventories (653) (130) Prepaid expenses and other current assets 636 (238) Accounts payable and accrued expenses (826) (2,472) Employee compensation and benefits 739 (1,922) Pension liability 26,419 6,172 Payables to affiliated organizations 4,139 3 Estimated third-party payor settlements 288 (1,040) Other liabilities 388 11,619

Net cash provided by operating activities 16,617 12,602

Cash flows from investing activities: Capital expenditures (4,363) (6,114) Sales of investments, net 7,041 (382) Net changes in other assets (1,675) (3,010) Proceeds from disposition of property, plant, and equipment 65 1

Net cash provided by (used in) investing activities 1,068 (9,505)

Cash flows from financing activities: Proceeds from restricted contributions 1,323 342 Repayment of bonds payable (1,631) (1,571) Repayment of notes payable — (10,000)

Net cash used in financing activities (308) (11,229)

Net increase (decrease) in cash and cash equivalents 17,377 (8,132)

Cash and cash equivalents, beginning of year 21,510 29,642

Cash and cash equivalents, end of year $ 38,887 21,510

Supplemental disclosure of cash flow information: Cash paid during year for interest $ 3,436 3,894


6


Notes to Consolidated Financial Statements


(In thousands)

7 (Continued)

(1) Description of Organization

Sentara Potomac Hospital (the Hospital) is a nonstock, nonprofit, 501(c)(3) tax-exempt Virginia Corporation that provides acute care hospital services to the citizens of eastern Prince William, southern Fairfax, and northern Stafford Counties in northern and central Virginia.

In 2006, the Hospital opened a new 183-bed patient care facility, which provides state-of-the-art diagnostic services including nuclear medicine, cardiovascular radiology, radiation therapy, and chemotherapy for cancer treatment, neonatal intensive care, and cardiac and pulmonary rehabilitation. Potomac Ventures Corporation (Ventures), its subsidiary, has been organized to carry on healthcare activity of a taxable nature.

Effective December 1, 2009, both the Hospital and Ventures (together, the Corporations) were purchased by Sentara Healthcare. The effect of the purchase accounting adjustments on the Corporations’ December 1, 2009 consolidated balance sheet reduced unrestricted net assets by $30,097.

(2) Summary of Significant Accounting Policies

(a) Principles of Consolidation

The consolidated financial statements include the accounts of the Corporations. All significant intercompany accounts and transactions have been eliminated.

(b) Cash and Cash Equivalents

Cash and cash equivalents include highly liquid investments with original maturities of three months or less, excluding amounts held in investments. Cash and cash equivalents whose use is limited by designation, trust agreements, or donor restrictions are excluded.

(c) Receivables

Receivables are primarily comprised of patient receivables and are presented net of allowances for contractual adjustments and uncollectible receivables. The allowance for uncollectible accounts is management’s best estimate of the amount of probable credit losses in the Hospital’s existing receivables. The Hospital determines the allowance based on historical write-off experience. Account balances are charged off against the allowance after all means of collection have been exhausted and the potential for recovery is considered remote. The Hospital does not have any off-balance-sheet credit exposure related to its customers.

(d) Inventories

Inventories consist primarily of pharmaceutical and medical supplies and are carried at the lower of cost (first-in, first-out basis) or market.

(e) Investments and Assets Limited as to Use

Investments in equity securities with readily determinable fair values and all investments in debt securities are carried at fair value in the consolidated financial statements. Guaranteed investment contracts are valued at cost plus interest accrued at the contract rate.




(In thousands)

8 (Continued)

All investments are classified as noncurrent assets. These investments are deemed to be trading investments; therefore, investment income or loss (including realized and unrealized gains on investments, interest, and dividends) is included in nonoperating income unless the income or loss is restricted by donor or law.

Investments are exposed to several risks, including interest rate, currency, market, and credit risks. It is at least reasonably possible that changes in the values of investment securities will occur in the near term due to these risks, and such changes could materially affect the amounts reported in the consolidated financial statements.

The Hospital has invested in other entities that provide healthcare services. Investments where the Hospital has at least a 20% ownership interest are accounted for under the equity method. As these investments are primarily for the purpose of providing healthcare services, the Hospital’s equity in their earnings, which totaled $926 and $646 for the years ended December 31, 2010 and 2009, respectively, is included in other operating revenue in the consolidated statements of operations. The assets associated with these investments are included as a component of other assets, net in the consolidated balance sheets and totaled $2,002 and $1,331 at December 31, 2010 and 2009, respectively.

Investments limited as to use by designation or debt agreement are not considered to be donor-restricted assets.

(f) Property, Plant, and Equipment

Property, plant, and equipment acquisitions are recorded at cost. Depreciation is provided over the estimated useful life of each class of depreciable asset and is computed using the straight-line method. The general range of useful lives is 5 to 20 years on major movable equipment and 10 to 50 years on buildings and improvements. Interest cost incurred on borrowed funds during the period of construction of capital assets is capitalized as a component of the cost of acquiring those assets. Gains or losses on disposal of property, plant, and equipment are included in operating income. Repairs and maintenance are expensed as incurred.

(g) Impairment of Long-Lived Assets

The Corporations assess long-lived assets for impairment by determining whether their carrying value can be recovered through the undiscounted future operating cash flows generated by the assets. The amount of impairment, if any, is measured by comparison of the fair value of the assets to their carrying value. Fair value is determined using market data or projected discounted future operating cash flows using a discount rate reflecting the Corporations’ weighted average cost of capital.

(h) Goodwill

Goodwill represents the excess or deficiency of the purchase price over the fair value of the net assets of acquired companies. In conjunction with the implementation of Accounting Standards Update 2010-07, Not-for-Profit Entities (Topic 958): Not-for-Profit Entities: Mergers and Acquisitions (ASU 2010-07), effective January 1, 2010, the Corporations no longer amortize goodwill, but tests the carrying value of goodwill annually for impairment.




(In thousands)

9 (Continued)

Negative goodwill of $32,544 was recognized on the acquisition of the Corporations and is included in the accompanying 2009 consolidated balance sheet. In conjunction with the implementation of ASU 2010-07 on January 1, 2010, the negative goodwill, subsequent to certain purchase accounting adjustments, was reclassified to unrestricted net assets through a cumulative effect of change in accounting principle.

(i) Temporarily and Permanently Restricted Net Assets

Net assets and their related changes are classified based on the existence or absence of donor-imposed restrictions. Temporarily restricted net assets have been limited by donors to a specific time period or purpose. Permanently restricted net assets have been restricted by donors to be maintained in perpetuity. Related income is classified as temporarily restricted until expended. Net assets have been restricted primarily for the provision of various healthcare services.

(j) Nonoperating Income and Excess of Revenues over Expenses

Activities related to the provision of healthcare services are reported as operating revenues and expenses. Activities which result in gains or losses unrelated to the Corporations’ primary mission are considered to be nonoperating.

The consolidated statements of operations include excess of revenues and gains over expenses. Changes in unrestricted net assets which are excluded from excess of revenues over expenses, consistent with industry practice, include the cumulative effect of changes in accounting principle, nonperiodic changes in the funded status of defined benefit pension plans and contributions of long-lived assets (including assets acquired using donor restricted contributions).

(k) Net Patient Service Revenue

Net patient service revenue is reported at the estimated net realizable amounts, including estimated retroactive adjustments under reimbursement agreements with third-party payors. Retroactive adjustments are accrued on an estimated basis in the period the related services are rendered and adjusted in future periods as final settlements or changes to estimates become known and tentative and final settlement adjustments are determined.

(l) Charity Care

The Hospital provides care to patients who meet certain criteria under its charity care policy without charge or at amounts less than its established rates. Because the Hospital does not pursue collection of amounts determined to qualify as charity care, related charges are not reported as revenue.

(m) Income Taxes

The Hospital is a not-for-profit corporation as defined under 501(c)(3) of the Internal Revenue Code, and is exempt from federal income tax on related income pursuant to Section 501(a) of the Internal Revenue Code.

Ventures is a for-profit corporation. Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and




(In thousands)

10 (Continued)

their respective tax bases and operating losses and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that includes the enactment date.

(n) Use of Estimates

The preparation of the consolidated financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements. Estimates also affect the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant items subject to such estimates and assumptions include valuation allowances for patient accounts receivable, self-insurance liabilities, third-party settlement liabilities, retirement obligations, tax asset valuation allowances, and the carrying amount of property, plant, and equipment and investments.

(o) Fair Value of Financial Instruments

The fair value of a financial instrument is the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measuring date. Financial Standards Accounting Board (FASB) Accounting Standards Codification (ASC) 820 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The fair value hierarchy gives the highest priority to quoted market prices in active markets for identical assets (Level 1) and the lowest priority to unobservable inputs (Level 3).

The carrying amounts of cash and cash equivalents, patient accounts receivable, other receivables, accounts payable and accrued expenses, employee compensation and benefits, estimated third-party payor settlements, and other liabilities reported in the consolidated balance sheets approximate fair value because of the short maturity of these instruments.

(p) Reclassifications

Certain reclassifications have been made to the 2009 consolidated financial statements as a result of the Corporation’s adoption of Sentara Healthcare’s presentation policies. The reclassifications had no effect on net assets or excess of revenues over expenses for the year ended December 31, 2009.

(q) Subsequent Events

The Corporations have evaluated subsequent events for recognition and disclosure through April 29, 2011, the date the consolidated financial statements were issued.

(r) Newly Adopted Accounting Pronouncements

On January 1, 2010, the Hospital adopted ASU 2010-07, Not-for-Profit Entities (Topic 958): Not-for-Profit Entities: Mergers and Acquisitions. ASU 2010-07 amends financial accounting and reporting for not-for-profit business combinations. The pronouncement establishes principles and requirements for how a not-for-profit entity determines whether a combination is a merger or an acquisition, applies the carryover method in accounting for a merger, applies the acquisition method




(In thousands)

11 (Continued)

in accounting for an acquisition, including determining which of the combining entities is the acquirer, and determines what information to disclose to enable users of financial statements to evaluate the nature and financial effects of a merger or an acquisition. Additionally, goodwill is no longer amortized and negative goodwill is credited to net assets. A cumulative effect of change in accounting principle in the amount of $27,416 was recognized to reclassify previously recognized negative goodwill, subsequent to certain purchase accounting adjustments, to net assets in accordance with the pronouncement.

(3) Net Patient Service Revenue

Net patient service revenue is computed as follows for the years ended December 31:

2010 2009Gross patient charges $ 390,272 382,235 Charity care 18,016 14,304

Gross patient service revenue 372,256 367,931

Contractual deductions 190,605 184,944

Net patient service revenue $ 181,651 182,987

The Hospital has agreements with third-party payors that provide for payments at amounts different from its established rates. A summary of the payment arrangements with major third-party payors follows:

Medicare: Under the Medicare program, the Hospital receives reimbursement under a prospective payment system (PPS) for inpatient services. Under inpatient PPS, fixed payment amounts per inpatient discharge are established based on the patient’s assigned diagnosis related group (DRG). When the estimated cost of treatment for certain patients is higher than the average, providers typically will receive additional “outlier” payments. The majority of outpatient services provided to Medicare beneficiaries are prospectively reimbursed based on service groups called ambulatory payment classifications (APCs). The remainder of outpatient services are paid on a cost basis or based on a fee schedule. The Hospital is paid for cost reimbursable items at a tentative rate with final settlement determined after submission of annual cost reports and audits thereof by the Medicare fiscal intermediary. The Hospital has final settled with the Medicare program through the 2006 cost report year.

Medicaid: The Medicaid program is administered by the Department of Medical Assistance Services (DMAS) of the Commonwealth of Virginia, pursuant to federal and state laws and regulations. DMAS receives funding for program expenditures from both the federal government and the Commonwealth of Virginia. Federal or state law or regulations may affect limits on Medicaid payment. The majority of Medicaid recipients in the Hospital’s primary service area are enrolled in health maintenance organizations (HMOs). These HMOs contract with the Medicaid program to provide primary and acute care services to enrolled Medicaid recipients. The Hospital is paid for substantially all services rendered to Medicaid HMO beneficiaries on a prospective payment basis. There are certain Medicaid patients excluded from the HMO program for which the Hospital is reimbursed based on a diagnostic related groups based PPS, which is




(In thousands)

12 (Continued)

subject to certain limitations and possible retroactive adjustment. The Hospital has final settled with the Medicaid program through the 2009 cost report year.

In addition to Medicare and Medicaid discussed above, the Hospital also provides services to beneficiaries of numerous other third-party payors. These payors pay the Hospital based on negotiated contractual rates, which include prospectively determined rates per discharge, discounts from established charges, and prospectively determined daily rates.

Laws and regulations governing the Medicare and Medicaid programs are complex and subject to interpretation. As a result, there is a reasonable possibility that recorded estimates will change by a material amount in the near term. The effect of those settlement adjustments was to decrease net patient service revenue by $288 in 2010 and increase net patient service revenue by $477 in 2009.

Due to the nature of the governmental cost report settlement process, the complexities of governmental and nongovernmental patient billing and other financial statement exposures that are inherent in the provision of healthcare services, the Hospital has established financial accounting and reporting policies that formally govern the establishment of associated liability estimates beyond those related to specifically identifiable events. The establishment of related liabilities is based on a number of factors, including net patient service revenue volumes. The Hospital believes that such policy properly provides for routine and nonroutine exposures consistent with industry accounting principles and practices. These estimated liabilities are included in other long-term liabilities in the consolidated balance sheets in the amount of $8,950 and $5,350 as of December 31, 2010 and 2009, respectively.

(4) Receivables, Net

Receivables, net are computed as follows at December 31:

2010 2009

Patient accounts receivable $ 47,169 51,392 Less:

Contractual allowances for third-party payors 19,709 16,579 Allowances for uncollectible accounts 10,256 15,559

Patient accounts receivable, net 17,204 19,254

Other receivables 3,580 4,213

Receivables, net $ 20,784 23,467




(In thousands)

13 (Continued)

(5) Investments

2010 2009

Investments at fair value $ 26,544 31,809 Guaranteed investment contract 3,408 3,408

Total investments $ 29,952 35,217

The composition of investments, excluding equity method investments, as of December 31, 2010 and 2009 is as follows:

2010 2009

Unrestricted investments:Fixed maturities $ 10,265 10,153 Equity securities 11,774 5,011 Short-term investments — 804

22,039 15,968

Designated for plant replacement:Fixed maturities — 4,456 Equity securities — 6,590 Short-term investments — 385

— 11,431

Assets whose use is limited under debtindenture agreement:

Fixed maturities 3,408 3,408 Equity securities 3,166 3,163

6,574 6,571

Donor-restricted investments:Fixed maturities 583 567 Equity securities 664 636 Short-term investments 92 44

1,339 1,247

Total investments at fair value $ 29,952 35,217

The three levels of the fair value hierarchy are as follows:

Level 1 – Quoted prices for identical assets or liabilities in active markets.

Level 2 – Quoted prices for similar instruments in active markets; for identical instruments in markets that are not active; and model-driven valuations whose inputs are observable either indirectly or directly.




(In thousands)

14 (Continued)

Level 3 – Unobservable inputs that are significant to the fair value of the assets or liabilities.

Short-term investments are comprised of cash equivalents and short-term fixed income securities. Because of the nature of these assets, carrying amounts approximate fair values, which have been determined from public quotations, when available.

Fair values for Sentara’s fixed maturity securities are based on prices provided by its investment managers and its custodian bank which use a variety of pricing sources to determine market valuations. Sentara’s fixed maturity securities portfolio is highly liquid, which allows for a high percentage of the portfolio to be priced through pricing services.

Fair values of equity securities have been determined by Sentara from observable market quotations, when available. Equity securities where a public quotation is not available are valued by using broker quotes.

The following tables present the Hospital’s fair value hierarchy for those assets and liabilities measured at fair value on a recurring basis as of December 31, 2010 and 2009:

Fair value measurementsFair at December 31, 2010 usingvalue Level 1 Level 2 Level 3

Investments:Fixed maturities $ 14,256 10,848 3,408 — Equity securities 12,438 10,185 2,253 — Short-term investments 3,258 3,258 — —

Total $ 29,952 24,291 5,661 —

Fair value measurementsFair at December 31, 2009 usingvalue Level 1 Level 2 Level 3

Investments:Fixed maturities $ 18,584 4,832 13,752 — Equity securities 12,237 12,237 — — Short-term investments 4,396 3,892 504 —

Total $ 35,217 20,961 14,256 —




(In thousands)

15 (Continued)

(6) Property, Plant, and Equipment

The components of property, plant, and equipment, at cost, and related accumulated depreciation are summarized as follows at December 31:

2010 2009Land $ 842 842 Land improvements 11,326 11,281 Buildings 174,227 170,818 Major moveable equipment 63,121 67,223

249,516 250,164

Less accumulated depreciation and amortization 118,554 113,086

130,962 137,078

Construction in progress 1,508 3,208

Total $ 132,470 140,286

Depreciation and amortization related to property, plant, and equipment totaled $10,814 and $10,794 for the years ended December 31, 2010 and 2009, respectively.

Construction projects in progress at December 31, 2010 and 2009, to which the Hospital is contractually committed, are expected to have remaining project costs of approximately $9,668 and $10,000, respectively. The commitments include the costs to complete various improvement projects. There was no capitalized interest recorded related to construction in progress during fiscal years 2010 or 2009.




(In thousands)

16 (Continued)

(7) Long-Term Debt

Long-term debt obligations at December 31 are summarized as follows:

2010 2009

Hospital revenue bonds:Industrial Development Authority of the County of

Prince William: Series 1998, payable in sinking fundinstallments ranging from $800 to $1,570 from 2010 to2025, with a fixed rate of interest ranging from4.5% to 5.0% $ 17,100 17,860

Series 2003, payable in sinking fund installments rangingfrom $925 to $3,230 from 2010 to 2036, with a fixedrate of interest ranging from 3.5% to 5.5% 47,585 48,480

Total 64,685 66,340

Less current maturities 1,725 1,655 Less unamortized bond discount 318 342

Long-term debt $ 62,642 64,343

The 1998 and 2003 Hospital Revenue Bonds were issued under sales agreements between the Hospital and the Industrial Development Authority of the County of Prince William (the Authority), pursuant to which the Authority will sell certain improvements back to the Hospital for aggregate installment payments sufficient to enable the Authority to pay the principal and interest on the bonds when due. Principal and interest payments are due semiannually. The bonds are not secured by any security interest in or lien on any revenues or real property.

Under the terms of the sales agreements, the Hospital delivered to the Authority promissory notes, pursuant to a Master Trust Indenture (the Indenture). Under the terms of the Indenture, the Hospital is required to maintain certain deposits with a trustee, including mandatory sinking fund payments. The Indenture also places limits on the incurrence of additional borrowings and requires that the Hospital satisfy certain measures of financial performance. At December 31, 2010 and 2009, management believes the Hospital was in compliance with such requirements.

Principal maturities and sinking fund requirements of long-term debt at December 31, 2010 are as follows:

2011 $ 1,725 2012 1,790 2013 1,875 2014 1,960 2015 2,065 Due after 2015 55,270

$ 64,685




(In thousands)

17 (Continued)

(8) Retirement Obligations

The Hospital has a pension plan covering substantially all employees. The Plan uses two formulas to calculate benefits. The Plan historically used a final average pay formula, which provides defined benefits based on years of service and final average salary. Effective January 1, 2004, a cash balance formula was added to the Plan. Employees hired on or after January 1, 2004 accrue benefits under the cash balance formula. Employees who were on the payroll on December 31, 2003 were given a choice to switch to the cash balance formula or stay under the final average pay formula.

Effective December 31, 2008, Plan benefits were frozen. Subsequent to December 31, 2008, Plan benefits are no longer increased for future service and compensation, and no new participants are eligible for benefits. On December 31, 2010, the Plan was merged into Sentara Healthcare’s defined benefit pension plan and Sentara Healthcare assumed responsibility for the related Plan assets and liabilities.

The following table sets forth amounts recognized in the consolidated financial statements as of and for the years ended December 31, 2010 and 2009 related to the Plan:

2010 2009

Change in projected benefit obligation:Benefit obligation at previous measurement date $ 114,949 94,003 Interest cost 7,342 6,682 Actuarial loss 28,717 17,968 Benefit payments (4,081) (3,704) Assumption of liability by Sentara Healthcare (146,927) —

Projected benefit obligation at measurement date $ — 114,949

Change in plan assets:Fair value of plan assets at previous measurement date $ 93,504 76,067 Actual return on plan assets 9,640 12,387 Employer contributions — 8,754 Benefit payments (4,081) (3,704) Assumption of liability by Sentara Healthcare (99,063) —

Fair value of plan assets at measurement date $ — 93,504

Amounts recognized in the consolidated balance sheetat December 31:

Noncurrent liabilities $ — 21,445

Components of net periodic pension expense:Interest cost $ 7,342 6,682 Expected return on plan assets (7,189) (6,690) Recognized actuarial loss — 329

Net periodic pension expense $ 153 321




(In thousands)

18 (Continued)

The following table presents the assumptions used to determine the benefit obligation for the Plan at December 31, 2010 and 2009:

2010 2009

Discount rate 5.32% 5.96%Rate of compensation increase — —

The following table presents the weighted average assumptions used to determine net periodic benefit expense for the Plan for the years ended December 31, 2010 and 2009:

2010 2009

Discount rate 5.96% 7.25%Expected long-term return on plan assets 7.25 7.25Rate of compensation increase — —

Determination of Expected Long-Term Rate of Return

In developing the expected long-term rate of return on assets assumption, the Hospital considered the current level of expected returns on risk-free investments (primarily, government bonds), the historical level of the risk premium associated with the other asset classes in which the portfolio is invested, and the expectations for future returns of each asset class. The expected return for each asset class was then weighted based on the target allocation to develop the expected long-term rate of return on assets assumption for the portfolio. This resulted in the selection of the 7.25% assumption for the years ended December 31, 2010 and 2009.

Plan Assets

The Hospital’s pension plan weighted average asset allocations at December 31, 2010 and 2009 by asset category are as follows:

TargetAsset category allocation

Equity securities 50% – 70%Debt securities 30% – 50%Cash —

Investment Policy and Strategy

The Hospital’s investment policy and strategy, established by the Pension Committee of the Hospital and approved by the Hospital Board of Directors, is to maximize the growth of capital within a defined range of risk tolerance. A registered investment manager has been approved and reviews investment performance at each quarterly meeting.




(In thousands)

19 (Continued)

The following table presents the Plan’s assets measured at fair value aggregated by the level in the fair value hierarchy within which those measurements fall as of December 31, 2009:

Fair value measurementsat December 31, 2009 using

Fair value Level 1 Level 2 Level 3

Investments:Fixed maturities $ 25,516 2,574 22,942 — Equity securities 65,525 65,376 149 — Short-term investments 2,463 2,463 — —

Total $ 93,504 70,413 23,091 —

The Plan’s assets as of December 31, 2010 had been transferred to Sentara Healthcare.

Defined Contribution Retirement Plan

Substantially all of the employees of the Hospital participate in a defined contribution retirement plan under Section 403(b) of the Internal Revenue Code. The Hospital matches a percentage of contributions made by the employees. The Hospital’s expense related to this plan for the years ended December 31, 2010 and 2009 was $3,537 and $3,647, respectively, and is included in employee benefits expense in the accompanying consolidated statements of operations.

Call Pay Plan

The Hospital adopted the Potomac Hospital Defined Contribution Call Pay Plan on January 1, 2008. This Plan was developed to assist the Hospital in attracting and retaining highly qualified individuals to provide call services to the Hospital. Income earned by physicians enrolled in this Plan is deferred and invested in the Plan. The Hospital’s expense related to this Plan for the years ended December 31, 2010 and 2009 was $1,238 and $636 and is included in other operating expenses in the consolidated statements of operations. Accrued benefit liabilities under this Plan totaled $2,134 and $1,072 as of December 31, 2010 and 2009, respectively, and are included in other long-term liabilities in the consolidated balance sheets.

(9) Concentration of Credit Risk

Patient receivables and patient service revenue consist of amounts earned for patient care. Payments are made either directly by patients or by third-party payors, including the federal (Medicare) and state (Medicaid) governments and private insurance carriers. Services are generally provided without requiring collateral from patients or third-party payors.




(In thousands)

20 (Continued)

A breakdown of net patient revenue by significant payor type follows:

2010 2009

Commercial/managed care 27% 29%Medicare 22 20Anthem (Blue Cross) 33 31Medicaid 12 14Other 6 6

100% 100%

(10) Functional Expenses

The Corporations provide general healthcare services to residents within their geographic location. Expenses related to providing these services are as follows:

2010 2009

Health services $ 162,700 168,631 General and administrative 21,287 22,904

$ 183,987 191,535

(11) Commitments and Contingent Liabilities

(a) General Liability and Malpractice Insurance

Prior to December 1, 2009, the Hospital insured its professional and general liability risks through a comprehensive claims-made insurance policy issued by Hudson Specialty Insurance Company (Hudson). Hudson policy limits were $1,000 per occurrence and $3,000 in the aggregate per year for professional and general liability. The Hospital has a $500 per occurrence and $1,500 in the aggregate self-insured retention (SIR) under the policy. The Hospital also elected to be self-insured for tail coverage.

Subsequent to December 1, 2009, the Hospital is insured through Sentara Healthcare. Sentara Healthcare insures its professional, general, and managed care liability risks through insurance policies issued by Lexington Insurance Company. Professional and managed care liability risks are primarily insured on a claims-made basis and general liability risks are insured on a claims-incurred basis. Lexington policy limits are $2,000 per occurrence and $23,000 in the aggregate per year for professional and managed care liability and $1,000 per occurrence for general liability. Subsidiaries have a $1,500 per occurrence self-insured retention (SIR) under the policies for professional liabilities and a $750 per occurrence SIR for general liabilities.

The professional liability policies are on a claims-made basis and must be renewed or replaced with equivalent insurance if claims incurred during their term, but asserted after their expiration are to be insured. The estimated liability for professional and general liability claims will be significantly




(In thousands)

21 (Continued)

affected if current and future claims differ from historical trends. While management monitors reported claims closely and considers potential outcomes as estimated by its actuaries when determining its professional and liability accruals, the complexity of the claims, the extended period of time to settle the claims, and the wide range of potential outcomes complicate the estimation. Accrued professional liability costs at December 31, 2010 and 2009 amounted to $3,871 and $5,887, respectively, on an undiscounted basis and are included in other current liabilities in the consolidated balance sheets. In the opinion of management, adequate provision has been made for the related risk.

(b) Employee Health Insurance

The Corporations are self-insured for employee health benefits. Under the plan, the Corporations pay the claims for each of the participants in the plan. The liability associated with these claims totaled $1,200 and $1,172 at December 31, 2010 and 2009, respectively, and is included in accounts payable and accrued expenses in the consolidated balance sheets.

(c) Lease Commitments

The Corporations are party to operating leases for property and equipment. Rental expense incurred during the years ended December 31, 2010 and 2009 was $2,573 and $2,507, respectively. The following is a schedule of significant future minimum lease payments expected to be paid in the following years ended December 31:

2011 $ 1,140 2012 53 2013 12 Thereafter —

Total future minimumlease payments $ 1,205

(d) Litigation

The Corporations are involved in litigation arising in the ordinary course of business. After consultation with legal counsel, management estimates that these matters will be resolved without material adverse effect on future financial position or results from operations.

Laws and regulations governing Medicare and Medicaid programs are complex and subject to interpretation. Management believes the Corporations are in compliance with all applicable laws and regulations, and is not aware of any pending or threatened investigations involving allegations of potential wrongdoing that would have a material effect on the consolidated financial statements. Compliance with such laws and regulations can be subject to future government review and interpretation as well as significant regulatory action, including fines, penalties, and exclusion from the Medicare and Medicaid programs.




(In thousands)

22

(12) Income Taxes

Ventures is a taxable entity and, accordingly, is subject to federal and state income taxes. Because of net operating losses of prior periods, Ventures has not incurred any income tax liability since inception. Ventures has $114 of federal and state net operating losses available for carryforward. The losses available for carryforward expire if not used according to the schedule that follows:

2018 $ 8 2019 16 2023 7 2024 51 2029 32

$ 114

Schedule 1SENTARA POTOMAC HOSPITAL AND SUBSIDIARY

Consolidating Balance Sheet

December 31, 2010

(In thousands)

Potomac Sentara TotalVentures Potomac before

Assets Corporation Hospital eliminations Eliminations Consolidated

Current assets: Cash and cash equivalents $ 810 38,077 38,887 — 38,887 Patient accounts receivable, net 52 17,152 17,204 — 17,204 Other receivables 11 3,569 3,580 — 3,580 Inventories 227 4,010 4,237 — 4,237 Prepaid expenses and other current assets 1 788 789 — 789

Total current assets 1,101 63,596 64,697 — 64,697

Investments — 29,952 29,952 — 29,952 Property, plant, and equipment, net 2 132,468 132,470 — 132,470 Land held for future use, at cost — 7,792 7,792 — 7,792 Other assets, net — 6,589 6,589 — 6,589

Total assets $ 1,103 240,397 241,500 — 241,500

Liabilities and Net Assets

Current liabilities: Accounts payable and accrued expenses $ 103 2,778 2,881 — 2,881 Employee compensation and benefits — 3,789 3,789 — 3,789 Current installments of long-term debt — 1,725 1,725 — 1,725 Payables to affiliated organizations — 4,142 4,142 — 4,142 Accrued interest payable — 838 838 — 838 Deferred revenue — 23 23 — 23 Estimated third-party payor settlements — 288 288 — 288 Other current liabilities — 7,098 7,098 — 7,098

Total current liabilities 103 20,681 20,784 — 20,784

Long-term debt, excluding current installments — 62,642 62,642 — 62,642 Other liabilities — 11,084 11,084 — 11,084

Total liabilities 103 94,407 94,510 — 94,510

Net assets: Unrestricted net assets 1,000 141,736 142,736 — 142,736 Temporarily restricted net assets — 3,587 3,587 — 3,587 Permanently restricted net assets — 667 667 — 667

Total net assets 1,000 145,990 146,990 — 146,990

Total liabilities and net assets $ 1,103 240,397 241,500 — 241,500

See accompanying independent auditors’ report.

23

Schedule 2SENTARA POTOMAC HOSPITAL AND SUBSIDIARY

Consolidating Statement of Operations

Year ended December 31, 2010

(In thousands)

Potomac Sentara TotalVentures Potomac before

Corporation Hospital eliminations Eliminations Consolidated

Operating revenues, gains, and other support: Net patient service revenue $ 1,177 180,474 181,651 — 181,651 Other operating revenue 218 3,643 3,861 (27) 3,834 Net assets released from restrictions used for operations — 1,165 1,165 — 1,165

Total operating revenues, gains, and other support 1,395 185,282 186,677 (27) 186,650

Operating costs and expenses: Salaries and wages — 62,508 62,508 — 62,508 Employee benefits 47 16,363 16,410 — 16,410 Other operating expenses 1,302 58,148 59,450 (27) 59,423 Interest expense — 3,425 3,425 — 3,425 Provision for bad debts — 31,337 31,337 — 31,337 Depreciation and amortization 1 10,883 10,884 — 10,884

Total operating costs and expenses 1,350 182,664 184,014 (27) 183,987

Operating income 45 2,618 2,663 — 2,663

Investment income, net 1 1,108 1,109 — 1,109 Change in net unrealized gains and losses on investments — 959 959 — 959

Excess of revenues over expenses 46 4,685 4,731 — 4,731

Net assets released from restrictions for capital purchases — 1,003 1,003 — 1,003 Transfer of pension liability to Sentara Healthcare — 47,864 47,864 — 47,864 Cumulative effect of change in accounting principle — 27,416 27,416 — 27,416 Change in funded status of pension liability — (28,056) (28,056) — (28,056) Transfers (to) from affiliates 191 (191) — — —

Increase in unrestricted net assets $ 237 52,721 52,958 — 52,958


24

Schedule 3POTOMAC VENTURES CORPORATION

Consolidating Balance Sheet

December 31, 2010

(In thousands)

Potomac PotomacVentures Center

Assets Corporation Pharmacy Total

Current assets:Cash and cash equivalents $ 446 364 810 Patient accounts receivable, net — 52 52 Other receivables — 11 11 Inventories — 227 227 Prepaid expenses and other current assets — 1 1

Total current assets 446 655 1,101

Property, plant, and equipment, net — 2 2 Other assets, net — — —

Total assets $ 446 657 1,103

Liabilities and Owners’ Equity

Current liabilities:Accounts payable and accrued expenses $ — 103 103 Accrued salaries and professional fees — — —

Total current liabilities — 103 103

Owners’ equity:Capital stock — — — Additional paid-in capital 65 2,457 2,522 Retained earnings (deficit) 381 (1,903) (1,522)

Total owners’ equity 446 554 1,000

Total liabilities and owners’ equity $ 446 657 1,103


25

Schedule 4POTOMAC VENTURES CORPORATION

Consolidating Statement of Operations

Year ended December 31, 2010

(In thousands)

Potomac PotomacVentures Center

Corporation Pharmacy Total

Operating revenues, gains, and other support:Net patient service revenue $ — 1,177 1,177 Other operating revenue 218 — 218

Total operating revenues, gains,and other support 218 1,177 1,395

Operating costs and expenses:Salaries and wages — — — Employee benefits — 47 47 Other operating expenses 9 1,293 1,302 Interest expense — — — Provision for bad debts — — — Depreciation and amortization — 1 1

Total operating costs and expenses 9 1,341 1,350

Operating income (loss) 209 (164) 45

Investment income, net — 1 1

Excess (deficiency) of revenuesover (under) expenses 209 (163) 46

Transfers from Sentara Potomac Hospital — 191 191

Increase in unrestricted net assets $ 209 28 237


26

sentara potomac hospital and subsidiary

Documents