601 New Jersey Ave., NW • Suite 9000 • Washington, DC 20001

(202) 220-3700 • Fax: (202) 220-3759 • www. m e d p a c . g o v

Executive summary

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
entity is imprecise.

Policymakers could gain a better understanding of the total financial performance of providers if the part

of the Medicare cost reports that deals with total financial performance (referred to as Schedule G) were

revised to:

• Report what is normally shown in providers’ audited financial reports including an income statement,

a cash flow statement, a statement of changes in net assets, and a balance sheet as well as information

on revenues by payer type. The fiscal intermediaries could tie the key variables in a revised Schedule G

to variables from the audited financial statements to improve accuracy.

• Be reported separately and earlier than the rest of the cost report, and possibly more often. A s e p a r a t e

revised Schedule G could be available within three months of the end of the provider’sfiscal year. 

A quarterly electronic filing to CMS of a revised Schedule G could be required within 45 days of the

close of each period. Although quarterly data would not be audited, it would provide interim information

on financial status. 

• Reflect the income and assets of a single reporting entity (the smallest corporate entity including the

provider). A second report of consolidated data for the provider and its affiliates (such as a hospital

combined with a physician practice) could be required when the provider is part of a larger organization. 

The value of the additional information would have to be balanced against any additional burden on

providers. A revised Schedule G would enable analysts to compute multiple measures of financial 

performance in a timely manner. The revised Schedule G could be used to compute total profit marg i n s ,

cash flow generated from operations, changes in the net assets of providers, and the providers’ level of
designed to help the IRS and state charity regulators ensure that nonprofit organizations remain true to their

charitable purpose. It includes data on providers ’ revenues, expenses, assets, investments, endowments, and

fundraising expenses. However, there are some important limitations to the data reported in the Form 990—

including that they are neither timely nor consistently reported—and it would not be practicable to use this

source on a large scale. Appendix B discusses our findings on use of the Form 990 in more detail. ■
Sources of financial data 

on Medicare providers

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
S o u r c es o f F in an ci a l D a ta o n Me di c ar e P ro v i d er s | Ju ne 2 00 4 

• What measures best characterize health care providers’ p r o f i t a b i l i t y ?

• What measures are good predictors of providers’ future solvency?

• What data sources provide the most timely and accurate data?

• How can we improve existing data sources to provide more timely and accurate data? 

In an ideal world, we could identify measures that would give an unambiguous indication of a provider’s

current and future financial circumstances, we would have a source of data that was complete and nearly

instantaneous to compute the measures, and the data would be available for all providers in a standard

electronic database. Analysts would also be able to compute financial measures for the industry, individual

providers, and specific product lines within each provider. 

But the world is far from ideal. We have found that the data available, and hence the measures that can be

computed, have major shortcomings, such as:

• The reporting entity can vary by provider and data source. An organization providing hospital care, 

for example, can report as just the hospital itself, as a combination of the hospital and related entities

such as medical practices and foundations, or as an entire system of hospitals and other providers.

• Data sources that might provide more complete information on the entities are not readily accessible

in electronic form and are not consistently reported.

• The Medicare cost report, one of the most comprehensive data sources (in terms of number of providers),

is not particularly current and is often unaudited. 

• Too much significance is attached to total margins to the exclusion of other measures of total financial

p e r f o r m a n c e .
4 S o u r c es o f F i n a n c i al Da ta o n Me d i c a r e P ro v i de r s | J u ne 2 0 0 4 

General, and the Centers for Medicare & Medicaid Services (CMS). From the private sector, the panel

included accountants, academics, and consultants involved in evaluating the profitability and solvency 

o f health care providers. The private sector panel also included individuals who assist states in setting 

payment rates. The panel discussions focused on defining appropriate measures of total financial 

performance and obtaining complete and accurate data to construct those measures. The panel commented

on specific financial reporting concerns regarding hospitals, skilled nursing facilities, home health agencies,

and dialysis facilities. 

Financial measures 

Our panel members discussed several measures of providers’ total profitability and solvency. We describe

some of the most useful measures below. These measures are appropriate for evaluating providers’ t o t a l

profitability and solvency, but are not generally appropriate for measuring the profitability of serving

specific types of patients, such as Medicare patients.

Measuring total profitability 

Our government and private sector panels tended to have different perspectives on measuring total

financial performance. The government representatives rarely examined total financial performance, a n d

when they did, they focused almost exclusively on providers’total margin—a measure of profitability.

The private sector academics, consultants, and accountants on our panel tended to use a broader set of

profitability measures including cash flow measures such as free cash flow. (For definitions of free cash

flow and other financial measures see Appendix A.) 
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Net income is computed by subtracting both cash expenses and noncash expenses such as depreciation

and bad debt from total revenue. In contrast, free cash flow ignores noncash expenses and revenues.

Free cash flow is calculated by starting with cash flow generated from operations (cash revenue minus

net cash expenses) and subtracting the price of capital investments that are required to maintain the

p r o v i d e r’s ability to serve patients. After paying the price of required capital improvement, the owners of

the facility are “free” to use the remaining operating cash flow to reduce debt, build financial reserves,

or pay dividends to equity owners. If a provider has a high level of noncash expenses, such as depreciation, but has few requirements for capital improvements, the free cash flow generated by the facility

may exceed the reported income of the facility. The difficulty with calculating “free” cash flow is that

the analyst must estimate the required capital expenditures for the provider.

Return on investment 

Total margin and operating margin reflect the income to the owner of the facility relative to the facility’s

revenue. In contrast, return on investment (ROI) reflects profitability relative to the total amount of funds

invested in a facility by stockholders and bondholders. On an aggregate level, ROI is a useful indicator

of how attractive an industry is to private investors and creditors. 

Measuring solvency 

Congress specifically requested that this report discuss the solvency of providers. Our panel of financial

experts discussed measures that could reflect a provider’s risk of bankruptcy or closure. These indicators

included cash flow measured as earnings before interest, taxes, depreciation, amortization, and rent

(EBITDAR), changes in net assets, and the strength of the provider’s balance sheet. 
6 S o u r c es o f F i n a n c i al Da ta o n Me d i c a r e P ro v i de r s | J u ne 2 0 0 4 

povdes eebudg odag acaeseves. Weeag e sobaupcy o

closure, it is important to examine the size of a provider’s financial reserves in addition to the rate at

which the provider is draining those reserves. For example, an analyst could calculate annual rate of

decline in a provider’s net assets relative to the provider’s level of cash and unrestricted investments.

This would indicate how long the provider could survive while generating negative changes in net assets.

A simpler approach, which is often used by our private sector panel and bond rating agencies, is to 

calculate a measure called “days cash on hand,” which measures how long a facility could theoretically

survive without collecting any revenue (see Appendix A). In addition to measuring days cash on hand,

our panel also examined debt-to-asset ratios and debt-to-equity ratios when evaluating the strength of 

a provider’s balance sheet. 

Multi-year data 

When evaluating the strength of a provider’s cash flow and balance sheet, it is often important to examine

more than one year of data. Examining trends over three or five years will reduce the influence of singleyear fluctuations on financial ratios. Single-year phenomena could be provider-specific, such as stock

market losses, or industrywide trends such as requirements for increased contributions to defined benefit

pension plans. Capital expenditures are also highly variable and should be examined over multiple years

when evaluating the capital needs of an industry.

Required financial statements

To examine all of the measures listed in Appendix A, our panel suggested that we obtain all four standard

types of financial statements: income statement, balance sheet, cash flow statement, and changes in net

assets. The statement of changes in net assets allows the tracking of transfers to and from related entities

that do not appear on the income statement. A table of the various measures and the financial statements
S o u r c es o f F in an ci a l D a ta o n Me di c ar e P ro v i d er s | Ju ne 2 00 4 

Sources of data 

D i fferent sources of data are available to compute measures for examining hospitals’ and other providers’

financial circumstances. For each source, we are interested in which providers are included in the data,

how timely and accurate the data are, whether the data are consistent across providers, and if the data

include all the elements needed for thorough financial analysis.

Data sources examined include:

• audited financial statements

• survey information

• Internal Revenue Service Form 990

• Medicare cost reports

Audited financial data 

Audited financial statements include the following four components, each of which provide different types

of detailed financial information on providers:

• income statement (operating revenues and expenses, nonoperating gains and losses);

• cash flow statement (cash flows from operating, investing and financing activities);

• statement of changes in net assets (unrestricted assets and funds restricted by donors); and

• balance sheet (assets, liabilities, and net assets).
8 S o u r c es o f F i n a n c i al Da ta o n Me d i c a r e P ro v i de r s | J u ne 2 0 0 4 

y py pyy p

information on hospitals’ total revenues, expenses, and utilization. The primary limitations of the survey

are that it is not nationally representative because it does not include all states and currently is not 

publicly available. It also is limited to hospitals; it does not include other types of providers. 

The American Hospital A s s o c i a t i o n’s (AHA) annual survey provides much of the same data as Databank,

but only once a year. It includes a large national sample of hospitals. However, some of the key financial

data that could be used to track provider financial performance are not publicly available. Also, as with all

voluntary surveys of providers, the A H A survey may suffer from selection bias. Providers must be willing

to participate in the survey, but if willingness to participate and profitability are correlated, then survey

data on profit margins would be biased. An alternative would be to make participation mandatory. 

Internal Revenue Service Form 990 

IRS Form 990 is filed by nonprofit organizations as an information return designed to help the IRS and

state charity regulators ensure that nonprofit organizations remain true to their charitable purpose.3In 2000,

more than 220,000 public charities and 60,000 private charities filed an IRS Form 990. In health c a r e ,

for example, private nonprofit hospitals, nursing homes, dialysis facilities, and home health agencies are

all required to file Form 990. The 990s provide data on provider revenues, expenses, assets, investments,

endowments, and fundraising expenses. 

Data on the 990s, however, can be difficult to convert to standardized financial ratios. The forms do not

differentiate among donor restricted and unrestricted revenues and expenses, which makes it difficult to

compute some of the needed financial measures. Also, it is not very timely, key data elements are not
S o u r c es o f F in an ci a l D a ta o n Me di c ar e P ro v i d er s | Ju ne 2 00 4 

analysts to examine providers’ Medicare financial circumstances. In this section, we discuss their limitations

and what improvements could be made to make them more useful for assessing total financial performa n c e .

We examine how the data might be improved in terms of completeness (whether they include everything

needed to get a complete financial picture), timeliness, accuracy (auditing and cost allocation), and consistency (entity definition). 

What is in the cost report?

The Medicare cost report consists of a series of worksheets, most of which are designed to portray the

cost of providing Medicare services. This is because the cost report was developed when facilities were

reimbursed based on their costs. The content and processing of Medicare cost reports was designed to

result in a “settled” cost report on which reimbursement could be made. The report provides a detailed

allocation of costs between Medicare and other payers and among types of services. Some items are still

reimbursed based on the cost report (e.g., bad debt, medical education). It also provides some descriptive

data such as the number of beds and discharges. 

The section on total financial performance—Schedule G—consists of four worksheets:

• Worksheet G: Balance sheet

• Worksheet G-1: Statement of changes in fund balances

• Worksheet G-2: Part I patient revenues and Part II operating expenses

• Worksheet G-3: Statement of revenues and expenses (including nonpatient income and expenses)
1 0 S o u r c es o f F i n a n c i al Da ta o n Me d i c a r e P ro v i de r s | J u ne 2 0 0 4 

net assets. This new Schedule G would follow the format of standard audited financial statements.It s h o u l d

be less burdensome for providers because they would present the same information as in their existing

financial statements. In the case of hospitals, they would no longer have to break down revenue into

minor categories such as vending machine rental and parking lot revenues, as is currently required by

Schedule G. Instead, they would report the standard broad categories of patient care revenues, other

operating revenues, and nonoperating revenues—all of which would need to be clearly defined. A

statement of cash flows would allow a more complete description of cash flows than is possible from

combining data from different schedules on the current cost report. 

Providers often maintain data on the amount of net patient revenue received from different types of payers,

namely Medicare, Medicaid, private insurance, and other. This information is currently not available on

the cost reports. The AHA collects this type of information on hospitals, but it is not publicly available.

A revised Schedule G could include an additional worksheet called Worksheet G–5 that reports charges

and net revenues by payer as well as by inpatient and outpatient service lines (see Table 2). 

The cost report also lacks information on service use for outpatient departments. This prevents easy analysis

of changes in outpatient volume or changes in payments or costs per unit of output. Showing visits in the

suggested worksheet would help in analysis of hospital financial performance. The information on worksheet

G-5 may not be readily available from all providers and thus may create an extra burden for some.

In summary, Schedule G could be revised to include a statement of cash flows and a statement of changes

in net assets, employing data that are already part of providers’ financial statements. The first four schedu l e s of a revised Schedule G would be changed to match standard financial statements. A fifth schedule
S o u r c es o f F i n a n c i al Da ta o n Me di c ar e P ro v i der s | J u ne 2 0 0 4 1 

would provide a breakdown of revenue by payer type as shown in Table 2. The primary advantages of

using Schedule G for this purpose is that it is collected nationally from all Medicare providers and could

be made available in a standardized electronic format. 

Timeliness 

One of the limitations in using cost report data for financial analysis is their lack of timeliness. On average,

cost report data are available seven or eight months after the close of the reporting period. The age of the

cost report data is a function of the time allowed to complete cost reports (5 months), and the time the fiscal

intermediaries and CMS take to approve cost reports and process them into the data system (2 to 3 months).

A delay by providers, the fiscal intermediaries, or CMS, though, will add to this turnaround. 

But, because providers’ fiscal years do not all begin at the same time, the average data lag over all

providers is greater than the eight-month lag for any particular provider at any point during the year.

Figure 1 shows the timing of cost report data for the three most common provider reporting periods that

substantially overlap federal fiscal year 2003. Data for providers with a cost reporting period that coincides

with the federal fiscal year, from October 1, 2002 to September 30, 2003 (the middle line in Figure 1),

should be available in May of 2004. Data for providers that started their fiscal year on January 1, 2003 (the

bottom line) should be available in August of 2004. By October of 2004, the data available would lag the

end of the provider’s reporting year by about one year on average and should include almost all providers’

fiscal year 2003 cost report data. Some data might be delayed even longer because of other problems. 
1 2 S o u r c es o f F i n a n c i al Da ta o n Me d i c a r e P ro v i de r s | J u ne 2 0 0 4 

pg py(p) y 

P r o v i d e r s ’ reporting periods affect the time lag of the data. For example, in October 2004, data for

January 1 to December 31, 2003 reporters will lag the end of the reporting period by 9 months, and for

July 1 to June 30, 2003 reporters, it will lag by 15 months. 

The first cost reports with a majority of the cost reporting period overlapping federal fiscal year 2004

would be for providers with a July 1, 2003 to June 30, 2004 fiscal year. CMS, however, would not have

the data for such providers from the fiscal intermediaries (FIs) until February 2005. The time lag inherent

in this system creates difficulties for its users (please see text box).

What causes the delay in data reporting? Providers have five months after the end of their fiscal year to

submit their cost reports to the FI. Providers have a strong incentive to file cost reports by the due date,

since CMS has the authority to halt all payments to the provider until the cost report is submitted. Providers

are required to file cost reports electronically (unless they receive a waiver from CMS).

Although the five-month window may appear long, some critical data often are not available until four

months after the end of a provider’s cost reporting period. For instance, finalized Provider Statistical and

Reimbursement (PS&R) reports, which contain finalized payment and charge information from CMS by

service line, are sent to providers by CMS’s FIs up to 120 days after the close of the provider’s fiscal year.

The long delay is to ensure that the cost reports reflect the majority of bills for Medicare services provided

during the reporting period. An earlier submission of the PS&R reports may result in underreporting

Medicare revenues, and thus would require a later revision to the cost report. Providers also face delays in

receiving final information on the number of Medicaid eligible patient days from state Medicaid agencies

for computing Medicare disproportionate share payments. (In the future, CMS will be required to provide
S o u r c es o f F i n a n c i al Da ta o n Me di c ar e P ro v i der s | J u ne 2 0 0 4 1 

(all payer) financial results. Although this data does not address financial performance under

Medicare, which is crucial for the Commissions work on updates, it may inform the Congress on

providers’ total financial circumstances. Later in this report we discuss how CMS could require

quarterly reporting of financial data to inform the Congress. ■

that information to hospitals.) Providers and our panel members also assert that providers need about five

months to accurately complete cost reports. 

After a cost report is submitted, the FI has 30 days to determine if the cost report is acceptable and another

30 days to enter cost report data into the healthcare cost report information system for transmission to

CMS. Although this may appear to be a lot of time for these two activities, the FIs receive most cost

reports in three large batches reflecting providers’ fiscal years, beginning October 1, January 1, or July 1.

The large volume of cost reports potentially makes it difficult to reduce the amount of time the FIs need

to process the cost reports. The FIs process cost reports for hospitals, SNFs, home health agencies, dialysis centers, and hospices on the same schedule. 

Once CMS receives cost report data from the FIs, it posts the data to its system within 24 hours. CMS 

creates public use cost report files for the different types of providers at the close of each fiscal quarter.

CMS usually takes about 30 days to produce the files and 15 more days to get them onto the Internet for

downloading. However, by special request, CMS has produced special analytic files reflecting the data in

its system at a specific point in time, increasing the timeliness of the data by a couple of months. Such

special requests, though, can be burdensome and place competing demands on the agency, and thus should
1 4 S o u r c es o f F i n a n c i al Da ta o n Me d i c a r e P ro v i de r s | J u ne 2 0 0 4 

gbe ecessay aee acceps e cosepo.

• Streamlining cost reports so they are easier to fill out with a quicker turnaround. Such a wholesale

reform of cost reports is beyond the scope of this report. Even with a major reform, however, getting

better and more timely data depends on the timing of providers’ fiscal years and the time required for

CMS to create a data file. 

If only total (not Medicare-specific) financial data are needed, more timely reporting is possible. Providers

could report annual total financial data (a revised Schedule G) earlier, separate from the rest of the cost

reports. This might be the least disruptive and most effective means to gather more recent data on total

financial performance. The data reported on Schedule G comes from provider financial statements and

thus could be reported separately, on a more expedited basis than the rest of the cost report. If Schedule G

were to be revised to comport with annual audited financial statements, total financial data should be

available three months after the close of providers’ fiscal years, which is when audited financial statements

are generally produced. 

Most providers maintain unaudited monthly financial statements. The SEC requires public companies to

provide quarterly unaudited financial statements 45 days after the end of the quarter (this is moving to a

35-day requirement). If Schedule G were redesigned to align with these unaudited financial reports, Schedule

G data could be reported on a quarterly or semiannual basis to CMS in a similar time frame, providing

much more up-to-date data on providers’ total financial performance than would be available by waiting

until annual cost report data become available. Although quarterly data would not be audited and are 

generally less accurate than full year statements, they would provide interim information on the financial 

status of the industry. This would represent some additional reporting burden.
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data in audited financial statements. 

For most providers, the current audit process reveals little about the accuracy of the Medicare cost information.

Because audits take considerable time, they do not provide information on the accuracy of the most recent

year of data. However, audits of dialysis facilities are an example of how audits can contribute. Pre-audit

Medicare allowable costs were higher than post-audit Medicare allowable costs by 4 percent in 1996. 

Improving data accuracy. A limited number of full scale random audits on the parts of the cost report that

are not now reviewed could provide some insight into the quality of the data and potentially identify cost

report items that auditors should focus on in the future. The level of effort required to conduct more extensive audits would be substantial. The panel estimated that a full scale audit of a hospital’s cost report may

take an FI 1,000 to 2,000 hours to complete, not including the time and resources imposed on the provider. 

A l t e r n a t i v e l y, audits could be targeted to suspected problem areas within the cost reports. Such audits may

provide a more limited picture of the accuracy of the data than a full scale audit, but they would not be as

time consuming and costly and could still be used to improve the accuracy of the data. 

To provide a broader incentive for providers to accurately report their Medicare costs, CMS could be

authorized to impose penalties on providers if an audit found that they inappropriately calculated Medicare

allowable costs or misreported their total financial information. CMS would not have to audit all providers,

because random audits with penalties should have a sentinel effect on providers’ reporting accuracy. 
1 6 S o u r c es o f F i n a n c i al Da ta o n Me d i c a r e P ro v i de r s | J u ne 2 0 0 4 

A l t e r n a t i v e l y, if Schedule G were revised to comport with audited financial statements, requiring the fiscal

intermediaries to tie specific variables from the full year Schedule G to variables from the audited financial

statements might improve accuracy. Some fiscal intermediaries may do this already, and doing so would

place no extra burden on providers but would put extra demands on the FIs. Random audits of Schedule G

might also be useful but would be more costly for all concerned.

4 times per year. As a result, the desk review process occurs throughout the year. It is CMSs goal to

have cost reports that are not the subject of a field audit settled within 12 months of accepting the

cost report. 

• A u d i t s —On average, about 15 percent of providers’cost reports are audited at some level each

y e a r. The proportion of providers CMS audits, however, varies across settings. Hospitals may be

subject to audits more frequently than skilled nursing facilities, for instance. CMS is required to

audit dialysis facilities’ cost reports at least once every three years. There is no such audit requirement for other types of facilities. Audits generally focus on a limited number of issues where payment is made based on the data on the cost report. FIs rarely audit Medicare costs for items 

reimbursed under the inpatient or outpatient prospective payment system or the total financial data

reported on Schedule G of the cost reports. Cost reports that are subject to a field audit are generally

settled two to three years after the end of the provider’s cost reporting period. ■
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The default on the cost reports assigns costs based on accumulated costs. Other methods could be

used, but the alternatives will not necessarily result in a better assignment of costs. All approaches are

somewhat arbitrary. How indirectly allocated expenses are treated is one of the issues to consider in

looking at financial performance at the service level (e.g., inpatient, outpatient, skilled nursing facilities).

Hospitals with sophisticated cost accounting systems may be able to give a truer picture of hospital

costs for specific services, and therefore may provide for a more accurate measurement of sector costs.

H o w e v e r, not all hospitals use these sophisticated systems. 

One incremental improvement that could be made in the cost allocation process is to require the direct

assignment of certain expenses that are often treated as indirect costs. Direct assignment allocates the

actual cost of an item to the department where the service is used. According to our private sector

panel, about 20 percent of hospitals currently do not directly assign pharmacy or medical equipment

expenses, for example. Benefit expenses are another area where direct assignment could improve the

accuracy of cost accounting, because providers should know the benefit costs of each employee and

the department to which the employee is assigned. The default allocation apportions benefit costs

based on employee salaries. 

M e d PAC is studying hospital cost allocation practices. This study may provide some evidence on the

accuracy of cost allocation methods across sectors among hospitals that have invested in systems to

get a better understanding of the cost of different services. More complex cost allocation techniques

might better assign costs among sectors—particularly where charges have previously been the basis

for allocation. These more complex methods, if applied to the cost reports, potentially would improve

their accuracy but would also increase the amount of information providers need to report. ■
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other entities and these transfers erode the hospital’s equity and cash over time. If the transfers had not

been made, the hospital’s equity financing and days cash on hand ratios would have been even stronger. 

Hospital and Consolidated multi-hospital

Financial ratios Hospital only wholly owned subsidiaries integrated system

P ro f i t a b i l i t y

Total marg i n 6 . 0 % 4 . 4 % 2 . 0 %

Operating marg i n 3 . 2 % 1 . 7 % 0 . 0 %

L i q u i d i t y

Days cash on hand 1 9 5 1 8 3 1 6 4

S o l v e n c y

Equity financing 6 3 % 6 3 % 5 6 %

Debt service coverage 4 . 9 4 . 3 3 . 5

Average age of plant (years) 6 . 2 6 . 2 6 . 6

S o u rce: Nancy Kane, Harv a rd University School of Public Health.

Selected financial ratios for sample hospital 

based on reporting entity, 2002

TABLE 

3
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7 Please see Report to the Congress: Medicare Payment Policy, March 2004 and March 2003 for 

discussion of the Commission’s method for assessing Medicare payment adequacy and why total 

(all payer) margin information does not directly play a role in that assessment. 
M e a s u res of total financial perf o rm a n c e

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
2 2 S o u r c es o f F i n a n c i al Da ta o n Me d i c a r e P ro v i de r s | J u ne 2 0 0 4 

F ree cash flow

Net income from operations plus 

depreciation and amortization, 

less increases in working capital 

and needed capital expenditures.*

R e t u rn on investment

earnings before interest and taxes

total debt + net worth

Changes in net wort h

net worth = assets – liabilities 

Adjusts for noncash charges

such as one-time losses on the

sale of assets. Uses needed

capital expenses rather than

depreciation.*

Relates profits to the 

amount of assets invested 

in the provider.

Includes transfers from and to

re l a t e d entities that incre a s e

or decrease net w o rth. These

transfers are not a l w a y s

reflected in net income or

operating cash flow.

Can vary due to differences

in debt levels and rental payments. Requires estimates of

needed capital expenditure s . *

Does not evaluate whether

depreciation reflects needed

capital expenditures; is

affected by investment

returns.*

Does not indicate whether

the change in net worth is

due to changes in income or

t r a n s f e r s to or from related

entities.

they receive financial support

from related entities. 

Is a general indicator of

providers’ financial health

and of whether private

investors have an incentive 

to invest in the industry.

Indicates whether private

investors have an incentive 

to invest in the industry and

expand capacity.

Is most valuable when used

with a net income or cash

flow measure to evaluate

solvency.

continued on next page
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DEPARTMENTAL PROFITABILITY AND EFFICIENCY

Cost per discharge 

or outpatient service

allocated costs

units of service

Direct contribution margin

s e rvice area revenues – direct expenses**

service area revenues

Indicates cost pressures in 

the health care system and

p ro v i d e r s ’ comparative

advantages in providing

different types of care.

Avoids the issue of allocating

joint costs.

Difficult to allocate joint costs

to specific services. Difficult to

measure the number of units

of outpatient services due to

differences in the complexity

of each outpatient service.

Requires more precise 

allocation of direct costs.

Ignores the impact of 

volume on overhead.

subsidiaries. It is most useful

when examining highly

leveraged providers with 

limited access to capital.

Tracks changes in costs. 

Can compare costs among

different types of providers 

of the same type of service.

Is a rough upper bound on 

an individual department’s

profitability. Can compare

profitability of departments.

Note: EBITDAR (earnings before interest, taxes, depreciation, amortization, and rent). Measures of profitability can be computed for any type of provider 

with complete financial statements.

* To estimate needed capital expenditures, members of the expert panel suggested using average capital expenditures over the past five or ten years. 

Changes in working capital include changes in accounts payable, changes in accounts receivable, and changes in inventory. Free cash flow will also 

include the benefit of any deferral of taxes that can occur due to differences in generally accepted accounting principles and tax accounting.

** When estimating the direct costs for a revenue generating area or a specific diagnosis related group, charges are converted to estimated costs using 

a direct cost-to-charge ratio. Indirect costs are ignored.
for reporting on hospital investments, 

endowments, and access to capital

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .

IRS Form 990 as a Data Source for Reporting on 

 Hospital Investments, Endowments, and Access to Capital 

Report to the Medicare Payment Advisory Commission 

 

Nancy M. Kane, DBA 

Professor of Management 

Department of Health Policy and Management 

Harvard School of Public Health 

Federal Contract Number T-13606721 

IRS Form 990 as a Data Source for Reporting on Hospital Investments, 

Endowments, and Access to Capital 

Introduction 

Congress requested the Medical Payment Advisory Commission (MedPAC) to submit a 

report to Congress on “investments, endowments, and fundraising of hospitals 

participating under the medicare program and related foundations;” and on “access to 

capital financing for private and for not-for-profit hospitals” using return information 

provided under Form 990 of the Internal Revenue Service (IRS). This report evaluates 

the IRS Form 990 (Form 990) as a source of data on investments, endowments, fund 

raising, and capital financing for hospitals and hospital-related entities such as 

foundations. 

The Form 990, Return of Organization Exempt from Income Tax, is an annual 

information return filed with the IRS and available to the public. All tax-exempt 

organizations with greater than $25,000 in gross receipts, excluding churches and other 

religious organizations, are required to file. In 2000, more than 220,000 public charities 

and 60,000 private charities filed some version of the Form 990.1

 

The reporting schedules on the IRS Form 990 include: 

• Part 1, a statement of revenues, expenses, and changes in net assets (with useful 

details disclosed in attachments to the Form) 

• Part 2, a statement of functional expenses, with various line items broken out into 

program services, management and general, and fundraising 

• Part 3, a statement of program service accomplishments (often answered by 

referral to an attachment) 

• Part 4, balance sheets (where, again, much of the useful detail is in an attachment) 

• Part 5, a list of officers, directors, trustees, and key employees, reporting titles, 

hours worked and compensation details 

• Part 6, other information, including the names of related organizations, both 

exempt and nonexempt (again supplemented by attachments) 

The Form 990 is used by the IRS, state oversight agencies, donors, and others interested 

in the charitable activities and financial accountability of charities, including the media. 

The primary focus of the users is to determine whether the organization continues to meet 

requirements for tax exemption. Thus the Form 990 requires disclosure of items that 

permit consideration of potential private inurement such as management and board 

compensation, large financial transactions with independent contractors, and loans to 

managers or board members. It also requests disclosure of details related to fundraising 

revenues and expenses, unrelated business activity, control and financial relationships 

with other charitable and nonexempt organizations, lobbying activity, and a statement of 

 

1

 From “Guide to Using NCCS Data” p.4, found at nccsdataweb.urban.org/kbfiles/468/nccs-data-guidev3a.pdf

29
the relationship of revenues and expenses to tax-exempt purpose. While this information 

is critical to the oversight of charitable activities, it does not meet many of the basic 

requirements of those concerned with financial condition. 

This report will describe the strengths and weaknesses of the Form 990 as a data source 

for analyzing hospital financial condition, with a particular emphasis on what is needed 

for a reliable analysis of hospital investments, endowment, and access to capital. It is 

organized as follows: 

• Availability of Form 990 data for financial analysis of hospitals 

• Basic financial information needed to assess hospital investments and 

endowments, and evaluation of the Form 990 as a data source 

• Basic financial information needed to assess hospital access to capital, and 

evaluation of the Form 990 as a data source 

• Assessing the impact of related entities on hospital financial performance, and 

evaluation of the Form 990 as a data source 

• Level of effort required to systematically gather information from 990s on a large 

sample of hospitals 

• Changes that could be made to improve the Form 990 usefulness as a source of 

basic financial information about hospital investments, endowments, and access 

to capital 

• Summary of Form 990 Benefits and Drawbacks 

Availability of Form 990 Data for Financial Analysis of Hospitals 

In recent years, Congress expanded public access to Form 990 filings; individuals 

seeking to review a charitable organization’s Form 990 can now request a copy from any 

filer and receive it by mail or from a web site. This has led to the development of a 

public web site, www.guidestar.org2

, where 990 filings to the IRS are posted, including 

the filings of private nonprofit hospitals. Historically, Form 990 reports on Guidestar are 

electronic images of hard-copy reports. The infrastructure is in place at the IRS to begin 

electronic filing of Form 990s in 2004 for fiscal year 2003. 

Besides Guidestar, the IRS maintains electronic databases of standardized data on taxexempt organizations, based on items drawn from the Form 990 filings. The variables in 

the electronic databases are generally subsets or samples of Form 990 reports. For 

instance, the IRS Return Transaction Files (RTF) contain up to 60 of the financial 

variables on all filing organizations, depending on the year; however the Form 990 

requests 105 items in 6 pages of forms, and these are generally supplemented with 

attachments that can run an additional 20 – 40 pages or more. The RTF files form the 

basis for the National Center for Charitable Statistics core files; the NCCS data corrects 

large errors from the RTF files and adds some data elements, but only major aggregate 

 

2

 The Guidestar web site is owned and maintained by Philanthropic Research, Inc. (PRI), operating as

Guidestar. PRI obtains the Form 990s from the IRS and posts electronic copies on their web site, where 

the information is publicly available for free. PRI is supported by grants and gifts from users, including

several large foundations. 

30
variables such as total revenues and total assets are maintained in the NCCS data sets. In 

addition, errors are common because the original source of the data, the IRS RTF files, 

were created for regulatory and not for research purposes. The NCCS guide to using its 

core data sets includes the statement that “financial data in the nonprofit database files 

should be used with great caution.”3

 

Thus the Form 990s are not yet available in an electronic database that collects enough 

detail to make it useful for large-scale analysis of private nonprofit hospitals. Instead, 

analysts must download the image copies of individual hospital Form 990s available on 

Guidestar, and enter variables by hand into an electronic database such as an excel 

spreadsheet. This has obvious implications for the level of effort required to gather Form

990 data on a large sample of hospitals, discussed in a later section of this report. 

Hospital Form 990 reports are generally filed between 8 and 11 months after the close of 

the fiscal year in question. Although the IRS requires that the Form 990 be filed five 

months after the close of the fiscal year, in practice 3 and 6 month extensions are 

regularly requested by hospitals and routinely granted by the IRS. As of April 2004, the 

most recent fiscal year available for most hospitals’ Form 990s on Guidestar is 2002.

Basic financial information needed to assess hospital investments and endowments 

Investment and Endowment Assets 

Investments in this context are assets composed of marketable securities such as stocks

and bonds. Endowments are investments that have been set aside, either by donors or by 

hospital boards, to generate income that supports the hospital’s operating and capital 

needs. How much hospitals have invested in marketable securities, and how much of 

those might be dedicated to current operating needs versus long-term purposes either by 

donor restriction (permanently restricted endowment) or board designation (quasiendowments, or amounts designated by the board to function as endowment) is an 

important policy question. Endowments and quasi-endowments are investments whose 

principal is expected to be held “in perpetuity”, while some or all of the interest and 

dividend income and some of the gains earned on the principal may be available for 

current operating or capital purposes.4

There are at least two major policy issues involving investments and endowments. One 

question is whether hospitals have enough investments - whether or not hospital reserves 

of investments provide adequate financial flexibility, either to subsidize temporary 

 

3 Guide to Using NCCS Data, op.cit., p 6. 4 When the donor does not expressly state the amount of income and gains of a donor-restricted endowment

permitted to be used for current purposes, the board is generally subject by state law to a maximum

“return” that they are allowed to recognize (e.g., 7% of the fair market value of the endowment assets) for 

current operating or capital purposes; what is not used for current operating purposes is generally credited

to restricted net assets. There is no such legal restriction on “quasi-endowments”, that is, amounts the 

board has chosen to set aside to act as endowment; boards could choose to spend not only the income but

also the principal of amounts that they have designated as endowments without legal restrictions. 

31
operating deficits or to internally finance needed capital projects. The other side of the 

question is whether hospitals have too much in investments – whether they have been 

accumulating high levels of marketable securities, perhaps by borrowing tax-exempt debt 

at levels above what they would have needed for capital purposes had they used more of 

their available internal resources. This might indicate an inefficient use of tax-exempt 

debt. For instance, Gentry estimates that as much as $32 billion of the $55.9 billion in 

tax-exempt liabilities of hospitals in 1996 could have been avoided if hospitals spent their 

endowments instead of borrowing.5

 Particularly in the stock market boom of the mid-tolate nineties, hospitals faced strong incentives to invest available funds in capital markets 

to generate investment income and gains, which had a much higher return than the 

interest expense required of tax-exempt debt. As one hospital system noted in its 1999 

Bond Prospectus: “Management has taken a pro-active approach to managing the debt 

position and the investment portfolio for the System. The overall weighted average 

interest rate on long-term debt is 5.50%, while the overall investment portfolio has 

generated an average annual return in excess of 14%. The long-term debt to 

capitalization of 46% has allowed the System to achieve an investment portfolio with 

unrestricted and undesignated days cash on hand of 255 as of June 30, 1998. 

Management continuously monitors the asset allocation of the investment portfolio based 

on the financial markets and capital needs of the System.”6

 

For a complete assessment of the adequacy or excess level of investment, it is important 

to be able to identify investments held by related organizations on behalf of hospitals, 

such as foundations or parent organizations. Such investments have historically not been 

disclosed on the balance sheet of the hospital entity, but recent accounting

pronouncements now require hospitals to disclose their interest in foundation assets held 

on their behalf in the hospitals’ own balance sheets.7

 However, related entities still have 

an important influence regarding understanding hospital access to capital, an issue that 

will be described later. 

To address the question of the adequacy or excess of hospital investments, it is important 

to be able to identify both the amount and the use limitations on hospital investments. 

Unrestricted investments (generally, current short term investments and board-designated 

investments) provide the reserve resources needed to insure financial flexibility; donorrestricted investments (both temporarily and permanently restricted) are not available for 

general operating purposes other than those specified by a donor. Temporarily restricted 

assets are held until a donor-specified capital or operating purpose is undertaken; as funds 

are spent for those purposes, the value is recognized as either operating revenue or a 

capital donation. Permanently restricted assets are held in perpetuity, although a portion 

or all of the return on those assets is available for donor-specified or general operating 

 

5

 Gentry WM. “Debt, Investment, and Endowment Accumulation: The Case of Not-for-Profit Hospitals”, 

2002. Journal of Health Economics 21 (5): 845-872. 6

 Official Statement for Revenue Bonds, Series 1999 A , UPMC Health System. P. A-15. 7

 Statement of Financial Accounting Standards Number 136, “Transfers of Assets to a Not-for-Profit 

Organization or Charitable Trust that Raises or Holds Contributions for Others”, effective for fiscal periods 

beginning after December 15,1999. Some hospitals identify these investments as “Interest in Net Assets of 

(Name of Related Entity)”, while others simply combine the investments held by related entities with the 

hospital’s traditional investments on the hospital balance sheet. 

32
purposes. If a hospital is in danger of bond default or is unable to meet payroll, it cannot 

use donor-restricted investments for those needs. Hospitals that violate donor restrictions 

can and are sued, either by the donors or the state attorney general with jurisdiction over 

charitable assets. A third type of limitation on investments is what falls under the general 

heading of trustee-held or contractually limited; this includes debt service reserve funds, 

amounts set aside for self-insurance purposes, and other contractually-based limitations. 

Trustee-held funds are not available for general operating purposes, other than the ones 

for which they have been set aside, without the danger of violating a contract (subject to 

renegotiation of the contract). 

Thus it is important in assessing the adequacy of hospital investment to be able to 

properly categorize all investment funds reported by the hospital. Table 1 summarizes 

those categories. 

Table 1: Key Investment Characteristics 

Type of investment Available for general operating and capital purposes: 

Unrestricted Fund: 

Operating cash and short-term investments Yes 

Board-designated investments Yes, subject to Board approval 

Trustee-held investments No, unless contract can be renegotiated 

Restricted Funds: 

Temporarily restricted investments No 

Permanently restricted investments No 

Unfortunately, the Form 990 does not break out investments by type of limitation. All 

investments in securities are reported in Line 54 (Part IV – Balance Sheets) as a single 

number. Also, while in audited financial statements hospitals must now disclose their 

interest in a foundation or parent holding investments on their behalf, they don’t always 

classify that interest as “investment in securities” in the Form 990. Identifying 

investments available for general operating and capital purposes is not a straightforward 

process if the Form 990 is the only source of information. 

Investment and Other Non-Patient Sources of Revenue and Expense 

Investment Revenues and Expenses 

Besides the question of the adequacy or excess of the level of investments held by 

hospitals, the income generated by investments plays an important role in the assessment 

of hospital financial performance. To the extent that “total margin” is used for policymaking purposes, it is important to understand the relative contribution of investment 

income versus income from operations (providing patient care) to the hospital industry’s 

bottom line. Figure 1 below describes the five year history of investment income versus 

operating income as sources of total income for all the hospitals in one state, based on an 

analysis of their standardized audited financial statements. 

33
Figure 1: 

Excess Revenue, All Hospitals in One State

-20000

0

20000

40000

60000

80000

100000

1998 1999 2000 2001 2002

$000

Other Nonoperating

Revenue

Investment Income

Operating Income

Operating income remained flat at roughly $15 million over the period 1998-2000; 

however excess revenue (total income from all unrestricted sources) grew over the same

period, due to the substantial and growing contribution of investment income. In 2001 

and 2002, excess revenue dropped sharply, due to a steep fall-off of investment income. 

However operating income more than doubled in 2001, and continued to grow in 2002. 

It is also informative to understand the components of investment income that drive 

trends. Investment income includes interest and dividends, which accrue over time as the 

security is held; it also includes gains and losses, which are the result of trading the 

security. Finally, it can include “impairments”, which reflect unrealized losses in the

market value of held securities, losses that are deemed by management to be permanent 

and material in nature. Realized and unrealized gains and losses are the most volatile of 

investment returns, and can play a significant role in the “bottom line” of hospitals. 

Table 2 describes the nature of the investment income for the One State example in 

Figure 1 for the year 2002, when Investment Income dropped to only $1 million, down 

from a peak of $75 million just two years earlier: 

Table 2: Investment Income Breakdown in 2002, One State 

Interest and Dividends $ 31,851,725 

Realized gains (losses) ($ 14,026,600) 

Impairment of investment assets ($ 16,663,249) 

Total Investment Income $ 1,161,876 

If Congress is looking to the Form 990 as a data source that might clarify the role played 

by investment income and its contributing components, it can be misled by the reporting 

structure of the Form 990. According to generally accepted accounting principles 

(GAAP) and industry practice, investment income is credited to the Statement of 

Operations (the nonprofit term for “income statement”) only under some conditions; in 

other conditions, investment income is credited to restricted net assets (an equity account) 

and should not affect the income statement. Table 3 lays out the three types of 

investment income described earlier, and the conditions that determine how the 

investment income is recognized. 

34
Table 3: Recognition of Investment Income According to GAAP 

Investment Classification: Dividends and Interest Realized gains and losses Unrealized gains and losses

Unrestricted Investments: 

-Operating 

-Board-Designated 

-Trustee-held 

Nonoperating Revenue or 

Gain 8

Nonoperating Revenue or 

Gain 

Change in net assets unless 

the loss is considered 

permanent (impaired 

assets); losses on impaired

assets are generally 

recognized as 

Nonoperating Losses 

Donor-Restricted 

Investments: 

Temporary

Permanent9

Change in restricted net

assets 

Change in restricted net

assets 

 

Change in restricted net

assets 

As Table 3 indicates, whether or not investment income and/or unrealized losses affect a 

hospital’s bottom line depends on the investment classification and some considerations 

by the board and management. These distinctions are reported in a consistent fashion 

when using audited financial statements, and can be standardized using the footnotes to 

the audited statements when necessary. Unfortunately, the Form 990 requests dividends, 

interest, and realized gains/losses without recognition of whether they should be treated 

as nonoperating revenue (and hence affecting the hospital’s bottom line) or as a change in 

restricted net assets. Thus there is a tendency to over-report investment income as 

revenue when using the Form 990, because the restricted amounts are not segregated 

from the unrestricted amounts. 

Other Non-Patient Sources of Revenue and Expense 

There is a similar and at times bigger classification problem with respect to the treatment 

of contributions and grants. Without proper recognition of donor restrictions, the Form 

990 income statement will recognize more revenue and expense, gains and losses, as part 

of the income statement than will the income statement reported in the audited financial 

statements. This problem is worse in large teaching hospitals, which tend to have 

substantial amounts of restricted donations and grants, than it is in smaller community

hospitals with less donor-related activity. Table 4 compares the income statement 

provided in the audited financial statements of a large teaching hospital with the income

statement derived from the same hospital’s Form 990 in 2002. 

 

8

 Some hospitals classify the interest income on operating and trustee-held investments as “other operating 

income” 9

 As mentioned earlier, some of the return on endowments may be appropriated by the Board for operating

purposes; those amounts would be included as nonoperating revenue on the income statement

35
Table 4 uses the example of a major teaching hospital to illustrate where the largest 

mismatches occur. In the area of “other operating revenues” (line 2), most of the $10.7 

million in government contributions and grants (line 2.1) reported as revenue in the Form 

990 were classified as increases in restricted net assets in the audited statements. The 

Form 990 includes in “other operating expenses” (line 7) about $16 million more in 

expenses than does the audited financial statement. Nonoperating Revenue is 

significantly different in the area of gifts and donations (line 10), where the Form 990 is 

$8 million greater, and realized losses (line 12), where the Form 990 losses are greater by 

almost $3 million. Most of the items listed in the “Variance” column would have been 

treated as changes in restricted net assets in the audited financial statements. The 

Nonoperating Loss (line 13) reported in the audited statement is likely to be part of the 

Other Operating Expenses variance on the Form 990 (line 7). 

While the end result, Excess Revenue, is only off by $1.8 million, the variances among 

the individual categories throw the operating income off by $5.8 million, and the Form 

990 operating margin is 40% lower than that derived from audited financial data. 

Table 4: Comparison of Form 990 and Audited Financial Income Statement 

Elements, Sample Major Teaching Hospital, 2002 (in thousands) 

Audited Financials Form 990 Variance 10

Operating Revenues

1. Net Patient Service Revenue 459,354 459,354

 2.1 Government 

Contributions 

 10,664

 2.2 Miscellaneous Revenue 8,332 

2. Other Operating Revenue 8,718 18,996 

 (sum of 2.1 + 2.2) 

 10,278 

3. Total Operating Revenue 468,072 478,350

Operating Expenses:

 4. Depreciation and 

Amortization 

 29,668 29,668 

 5. Interest Expense 5,880 5,880 

 6. Provision for Bad Debt 25,668 25,668 

 7. Other Operating Expenses 393.513 409,669 (16,156) 

 8. Total Operating Expenses 454,083 470,239 

 9. Operating Income 13,989 8,111 

Nonoperating Revenue: 

 10. Gifts and donations 4,578 12,850 8272 

 11. Interest and Dividends 11,318 11,712 394 

 12. Realized gains (losses) (473) (3,400) (2927) 

 13. Other Nonoperating Gains

(Losses) 

 (1,948) 1,948 

 14. Total Nonoperating 

Revenue 

 13,475 21,162 

 15. Excess Revenue 27,464 29,273 

Profitability 

 16. Operating Margin 3.0% 1.7% 

 17. Total Margin 5.7% 5.9% 

 

10 Positive = better performance on 990 with respect to income. 

36
Smaller hospitals also have mismatches due to the classification of revenues and 

expenses as operating or nonoperating; while the numbers are small, so are the margins, 

so the impact of misclassification can be significant when looking at profitability ratios. 

Table 5 illustrates this problem using a small rural critical access hospital.

Table 5: Comparison of Form 990 and Audited Financial Income Statement 

Elements, Sample Small Rural Critical Access Hospital, 2001 (in thousands) 

Income Statement Audited Financial Statement Form 990 Variance 

 1. Net Patient Service

Revenue 

13,461 13,461

 2. Other Operating Revenue 303 476 173 

 3. Total Operating Revenue 13,764 13,937 

 4. Operating Expense 12,962 13,978 (1016) 

 5. Operating Income 803 (39) 

 6. Investment Income 72 72 

 7. Unrestricted 

Contributions and Other 

(789) 53 842

 8. Excess Revenue 86 86 

Operating Margin 5.8% -0.3% 

Total Margin 0.7% 0.6% 

It appears from Table 5 that the operating expenses (line 4) on the Form 990 include 

items that the audited financial statements have classified as part of nonoperating losses 

(line 7). While the nature of those items is not disclosed in either report, how it is 

classified makes a big difference with regard to how one views the hospital’s operating 

performance. 

Basic financial information needed to assess hospital access to capital 

Basic Measures of Access to Capital 

There are dozens of financial measures derived from income statements and balance 

sheets that might be used to evaluate a hospital’s access to capital, among the standard

categories of profitability, solvency, and liquidity. In addition, there are measures 

derived from the statement of cash flows that describe the sources and uses of cash in 

terms of operating activities, investing activities, and financing activities. While the 

types of analysis that can be derived from a cash flow statement are very useful, these 

will not be discussed here as there is no Statement of Cash Flows in the Form 990.11

Table 6 below identifies 7 commonly used ratios for assessing a hospital’s access to 

capital. Average values of these ratios for a set of hospitals ranked by their relative 

financial condition are provided. The financial classifications of all the hospitals in one 

state were determined by the author and colleagues in an unrelated research effort. The 

classifications were based on 7 years of standardized audited financial statements; this

table shows only the ratio values for the 7th year, which was 2000. The purpose of this 

 

11 See, for instance, Kane, NM. Profits: A misleading measure of financial health; the case of Massachusetts

hospitals. Journal of American Health Policy. June; Vol. 1, No. 1. 1991.

37
table is to illustrate the utility of the 7 ratios as analytic tools for determining hospital 

access to capital. The hospitals in the “Distressed” category did not have access to new 

longterm debt, and many “Red Flag” hospitals would have trouble gaining access if they 

were not in a large multihospital system that could raise debt based on system rather than 

individual hospital performance.12

Table 6: Average Ratios by Financial Condition 

2000 PERFORMANCE GROUP ADVANTAGED

25%

SUSTAINING 

HISTORIC

POSITION

38%

RED FLAG

29%

DISTRESSED

8%

Profitability 

Average Total Margin 0.13 0.05 0.01 (0.09) 

Average Operating Margin 0.06 0.01 (0.03) (0.12) 

Liquidity 

*Average Days in Accounts Receivable 73days 70. days 72.days 73 days

Average Days Cash on Hand, including 

board-designated investments 400 days 230 days 172 days 141 days

Solvency 

*Average Equity Financing Ratio 0.72 0.69 0.45 0.46 

 Average Debt Service Coverage Ratio 5.98 3.77 2.03 (0.36) 

Other Ratios 

 *Average Age of Plant 7.94 years 8.34 years 9.77 years 11.26 years 

Availability of Basic Measures from Form 990 Reports 

Of these seven ratios, only the three that are starred can be reliably calculated using data 

reported in the standard forms of the Form 990 (not relying on the attachments, which 

provide varying degrees of necessary detail). The unreliability of the profitability ratios 

have already been discussed in the context of differences in restricted and unrestricted, 

operating and nonoperating classifications between the Form 990 and the audited 

financial statements. 

The Days Cash on Hand ratio requires appropriate reporting of investment categories, 

including the ability to separately identify Board-designated from Trustee-Held and 

Donor-Restricted Investments, and the ability to recognize when “Other Investments” are 

marketable securities. For some hospitals it is possible to approximate this ratio using the 

Form 990, but for large hospitals with a lot of donor-restricted activity or related 

foundation assets, the Days Cash on Hand ratio can be significantly off the mark.13

 

12 Note that these category labels reflect composite data on financial performance and are not intended to

signal a judgment regarding reasonable or appropriate performance. 13 For instance, in 2002 one very large, well-endowed teaching hospital disclosed in its audited statements a 

$534 million “interest in the net assets” of its supporting foundation; however, in the Form 990, the $534

million was not reported on line 54, “Investments – securities,” instead, it was reported on line 56, 

“Investments-Other”, without further disclosure. If the Form 990 had been the sole source of information 

38
The Debt Service Coverage Ratio cannot be routinely calculated from the Form 990 

because there is no indication of the annual amount of principal repayment required; on 

an audited financial statement, the easiest way to determine this is to use the previous 

year’s current longterm debt. However the Form 990 does not separate current from

noncurrent assets or liabilities. Also Excess Revenue is not a reliable number on the Form

990 for the reasons discussed earlier. 

Thus the Form 990 is not as useful as one would like for evaluating a hospital’s access to 

capital. 

Assessing the impact of related entities on hospital financial performance 

The Form 990 generally reports on a single entity within a system; Part VI line 80 (b) 

requests the name(s) of related exempt and nonexempt organizations, and these are 

usually supplied in an attachment which can include dozens of organizations. It is 

possible to locate the Form 990 of many of the tax-exempt entities on the list, and the 

total income

14 and end-of-year assets of taxable subsidiaries are disclosed in Part IX. 

Figure 2 provides an abbreviated version of the structure of a single-state multihospital 

system in 2002, one of several structures typical for the industry. It is based on the 

consolidated audited financial statements, using the consolidating statements of the 

various member entities to provide entity-specific financial information. 

Figure 2: Single State Multihospital System Related Entities15

System A

$47 Million Assets

$3.4 million Investments

$18.5 Million LT Debt

Corporation B

$31 Million Assets

$4 Million Investments

$8.8 Million TE Debt

MD Practices

$ 6 Million Assets

$0 Investments

$0 TE Debt

Hospitalist Company

$.3 Million Assets

$0 Investments

$0 TE Debt

Real Estate Company

$20 Million Assets

$ 0 Investments

$0 TE Debt

Major Teaching Hospital

$619 Million Assets

$93 Million Investments

$104 Million TE Debt

Major Hospital System

$653 M Assets

$100 Million Investments

$91 Million TE Debt

7 More Affiliates

$80 Million Assets

$30 Million Investments

$37 Million TE Debt

Parent Company

$44 million assets

$14 million investments

No TE Debt

 on investments in securities, the analysis would have generated a “days unrestricted cash on hand” ratio of

only 86 days, when the actual value, including the unrestricted assets held by the supporting foundation, 

was 219 days. 14 Some organizations take the term “total income” to mean revenues, and others to mean the net of

revenues minus expenses. 15 The four major subsystems of the whole System include multiple subsidiaries; the total number of 

entities within the System number roughly 40. 

39
At the least, using the Form 990 to find and consolidate all related entities to determine 

the financial condition of the whole system is tedious and a paper-intensive process. 

Sometimes it is impossible due to missing filings and nondescript disclosures (e.g., over 

half the assets of an entity may be called “inter-organizational receivable” or 

“miscellaneous other”). However understanding the impact of related entities on hospital 

access to capital is important, as Table 7 illustrates. 

Table 7: Comparison of Key Ratios by Reporting Entity, Single State Multihospital 

System, 2002 

Ratio 

Major Teaching Hospital 

Only

Single Hospital plus 

wholly-owned 

subsidiaries 

Consolidated System in 

Single State

Operating Margin 3.2% 1.7% 0.2%

Total Margin 6.0% 4.4% 2.0%

Days in Accounts Receivable 53 53 56 

Days Cash on Hand 195 183 164 

Equity Financing 63% 63% 56%

Debt Service Coverage 4.9 4.3 3.5

Average Age of Plant 6.2 6.2 6.6 

Source: Audited financial statements and consolidating schedules by entity

In Table 7, the consolidated system is considerably weaker than the hospital only or the 

hospital plus its wholly owned subsidiaries. In addition, key ratios for the Major 

Teaching Hospital, including Days Cash on Hand and the Equity Financing Ratio, are 

lower than they would have been had the Major Teaching Hospital entity not been 

transferring cash and equity to its subsidiaries and other affiliates. For instance, in 2002, 

the Major Teaching Hospital transferred almost $17 million to subsidiaries and other 

related entities, out of a total profit or excess revenue of $27 million; in 2001 it 

transferred out $10 million of a total profit of $26 million. These affiliate relationships

have a significant impact on the investment and net asset position of the Major Teaching 

Hospital. 

One problem with all sources of financial data – the Form 990, the audited financials, and 

the Medicare Cost Report – is that of defining the reporting entity and its financial 

relationships – including loans, guarantees, and equity transfers – with other entities 

whose financial condition is not disclosed. The problem of disclosure can also occur 

when the hospital entity only is the object of analysis. Some hospital systems do not 

maintain audited data for their individual parts. The “Foundation Model” structure 

shown in Figure 3 illustrates the problem – the only financial data is at the consolidated

level. 

40
Figure 3: Foundation Model 

Multispecialty

Clinic

Hospital

Offshore

Captive

Insurance

(Nonexempt)

Ambulance and

Day Care

Development

Foundation

Medical

Plan

(Nonexempt)

Retirement

Centers

Nursing Home

Parent

$608 M Assets

$351 M Investments

$167 M TE Debt

(Note: All entities below the parent are subsidiaries of the parent, but are not subsidiaries of each other even though the 

chart puts some entities below others.) 

The Form 990 for the hospital within this Foundation model did not provide much detail; 

for instance, $101 million of its total assets of $177 million were “intercompany 

accounts”, and the 990 income statement reconciliation to the audited financial 

statements in Part IV A and B carried a disclaimer stating that the financial statements are 

audited on a consolidated basis only, so audited information by entity is not available. 

In sum, the reporting entity issue is an important one with respect to being able to assess 

a particular hospital’s access to capital; while the audited financial statements provide the 

most detailed information about related entities and contingent financial obligations of a 

hospital entity, they do not always disclose the entire constellation of relationships among 

affiliates that are financially relevant for understanding a particular hospital’s financial 

position.16

 

16 For instance, in the bankruptcy of the Allegheny health system known as AHERF, complex relationships

among various obligated groups were inadequately disclosed in the audited financial statements, misleading

creditors as to the extent of financial obligation and the limited liquidity of the whole. 

41
Level of effort required to systematically gather information from 990s on a large 

sample of hospitals 

Because of the lack of GAAP-compliant footnotes, the reporting limitations noted above, 

and the non-uniform reporting of information in attachments, financial analysis of 

hospitals using the Form 990 takes more effort than does analysis of audited financial 

statements. For meaningful assessment of hospital financial performance relevant to 

determining access to capital, a minimum of three years, and preferably five years of 

financial data would be needed. Based on the author’s own experience using Form 990s, 

standardizing five years of Form 990 data into electronic spreadsheets could easily take 8 

hours (for an easy one) to 16 hours (for more complex organizations) per hospital, and 

more time would be needed if information on related entities was included. To 

standardize a database including 100 hospitals (excluding related entities) with 5 years of 

data, one would need to budget at least 200 days of a highly trained financial analyst’s 

time. It is difficult to project how much time it would take to complete a database that

included all available information on related entities, as some hospitals have only a few 

related entities, while others have 50 or more. 

Changes that could be made such that the Form 990 provides basic financial 

information required for reliable financial analysis 

Some simple changes could make the Form 990 far more valuable as a data source for 

hospital financial analysis. The simplest change would be to require that the hospital 

attach an audited financial statement, complete with footnotes, as part of its Form 990 

filing. The audited financial statement should correspond to the reporting entity, either as 

a whole or in the consolidating schedules (which must be included in the attachment) if a 

more consolidated audited is submitted. 

If the audited statements cannot be required as attachments, there are other changes that 

could be made to the Form 990’s instructions and/or format. These are presented in 

Table 8. 

Table 8: Recommendations for Changing the Form 990 

Recommended Change: Elements on Form 990 

Affected 

Separate donor-restricted from unrestricted revenues and 

expenses 

Part 1: 1 (a-d), 4,5,8 (a-c), 9c, 11, 17 

(Can be carried forward into Parts II and VII as well – the 

elements that are summarized in Part 1) 

Require that Revenues and Expenses be classified either 

as Operating Revenues and Expenses, or Nonoperating

Gains and Losses, in accordance with GAAP and industry

practice 

Part VII, lines 95 – 103 –request an attachment that 

separates revenues into Operating and Nonoperting 

Part II, request an attachment that separates expenses into 

Operating and Nonoperating 

Require disclosure of donor restrictions and other 

limitations (externally by contract, board designated) on 

Investments in Securities 

Part IV, Line 54 – request an attachment providing

limitations in accordance with those provided in audited 

financial statements 

Require that an interest in the net assets of a support 

organization or foundation be disclosed and the nature of 

the assets of the support organization clarified 

Either require that the interest be reported as part of 

Investments in Securities ( Part 1, line 54) or explain any

other reporting method in an attachment 

Separate longterm debt into current and noncurrent 

portions 

Part IV, line 64 (a and b) – separate into current and 

noncurrent portion, or disclose in an attachment 

42
Summary of Form 990 Benefits and Drawbacks 

Table 9 summarizes the benefits and drawbacks of using the Form 990 as a data source 

for reporting on hospital investments, endowments, and access to capital. 

Table 9: Benefits and Drawbacks to the Form 990 

Benefits Drawbacks

• All private nonprofit hospitals report • Omits public and for-profit hospitals 

• Balance sheet provides some useful ratios • To get the most out of an analysis, must use 

attachments which can add 40+ pages and are 

not consistent among hospitals or across years 

• With some changes, income statement could be

very useful 

• Electronic filing just beginning, and 

attachments not standardized 

• Provides useful hospital-entity level data in

most cases, supplementing consolidated audited 

statements

• Not audited data 

On the benefits side, the Form 990 must be filed and made public by all private nonprofit 

hospitals, which makes it far more accessible than audited financial statements of 

hospitals. Audited financial statements are not centrally collected at the national level; 

there are various collections of them for various purposes at municipal repositories17, 

Medicare intermediaries, some state departments of health or related agencies, and some

state hospital associations. Even when they are centrally collected in a state or by an 

intermediary, they are not always made available to the public. The data reported in the 

Form 990 is certainly better than nothing, and its availability on the Web is a unique 

convenience. 

On the drawbacks side, the Form 990 is missing some key data elements, which have 

been much of the focus of discussion in this paper. It may be possible to request that the 

IRS change or modify the reporting format and instructions for hospitals, as they do 

represent some of the very largest charities in the country; but hospitals are only a small 

number of the hundreds of thousands of charities filing. 

In addition, public and for-profit hospitals do not file Form 990s. This would limit any 

national sampling to the universe of hospitals that are private not-for-profit; while this is 

the dominant group of hospitals, and the one that independently accesses the tax-exempt 

capital markets and relies on investments and endowments for supporting operating 

activities, it is not the full universe of hospitals. The nonprofit constraint would be an 

even bigger problem for obtaining financial data for provider types such as nursing 

homes and home health agencies where a higher proportion are investor-owned than in 

the hospital industry. 

 

17 These are filings by “obligated groups” of entities, including a hospital, that have issued tax-exempt debt

since 1995; these required filings are made available, for a fee, in municipal repositories such as 

Bloomberg or MuniIris; they also form the database for other commercial financial data companies such as 

Merritt Millenium

43
Finally, Form 990s are not yet available in an electronic database that would permit easy 

sampling of a nationally representative group of hospitals for purposes of informing 

national policy. An appropriate financial analysis of hospitals using the Form 990 

requires painstaking effort by people with a high level of financial sophistication. While 

the same is true of audited financial statements, the audited financials are prepared in 

accordance with generally accepted accounting principles, and provide a level of 

disclosure that is superior to that of the Form 990. The combination of the Form 990 and 

audited financials on a web site could greatly advance our knowledge of the investments, 

endowments, and access to capital of private not-for-profit hospitals, but it would require 

a significant investment to build an electronic database of a meaningful sample. 

44
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Ralph W. Muller

University of Pennsylvania

Health System

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Joseph P. Newhouse, Ph.D.

H a rv a rd University

Boston, MA

Alice Rosenblatt, F.S.A., M.A.A.A.

WellPoint Health Networks

Thousand Oaks, CA

John W. Rowe, M.D.

Aetna Inc.

Hartford, CT

Visiting Nurse Service of New Yo r k

New York, NY

M a ry K. Wakefield, Ph.D.

R.N., F. A . A . N .

Center for Rural Health

University of North Dakota

Grand Forks, ND

Nicholas J. Wo l t e r, M.D.

Deaconess Billings Clinic

Billings, MT

R o b e rt D. Reischauer, Ph.D.

David A. Smith

D e m o s

New York, NY

Ray E. Stowers, D.O.

Oklahoma State University 

College of Osteopathic Medicine

Tulsa, OK

Susanne Seagrave, Ph.D.

Joan Sokolovsky, Ph.D.

J e ffrey Stensland, Ph.D.

Ariel Wi n t e r, M.P. P.

Chantal Worzala, Ph.D.

Daniel Zabinski, Ph.D.

R e s e a rch assistants

Vivek Garg, B.S.

Sarah Lowery, B.A.

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