Integrated Healthcare Holdings Inc - FORM 10-Q

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EXCEL - IDEA: XBRL DOCUMENT - Integrated Healthcare Holdings Inc	Financial_Report.xls
EX-3.1 - BYLAWS - Integrated Healthcare Holdings Inc	ihhi_10qex3-1.htm
EX-32.1 - CERTIFICATION - Integrated Healthcare Holdings Inc	ihhi_10qex32-1.htm
EX-31.2 - CERTIFICATION - Integrated Healthcare Holdings Inc	ihhi_10qex31-2.htm
EX-31.1 - CERTIFICATION - Integrated Healthcare Holdings Inc	ihhi_10qex31-1.htm
EX-32.2 - CERTIFICATION - Integrated Healthcare Holdings Inc	ihhi_10qex32-2.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended December 31, 2011; or

[_] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from _______ to ________

Commission File Number 0-23511

INTEGRATED HEALTHCARE HOLDINGS, INC.

(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

NEVADA	87-0573331
(STATE OR OTHER JURISDICTION OF	(I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)

1301 NORTH TUSTIN AVENUE
SANTA ANA, CALIFORNIA	92705
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)	(ZIP CODE)

(714) 953-3503 (Registrant's telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

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

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

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

Large accelerated filer [_]	Accelerated filer [_]
Non-accelerated filer [_]	Smaller reporting company [X]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes [_] No [X]

There were 255,307,262 shares outstanding of the registrant's common stock as of February 6, 2012.

INTEGRATED HEALTHCARE HOLDINGS, INC.

FORM 10-Q

TABLE OF CONTENTS

		Page

	PART I - FINANCIAL INFORMATION

Item 1.	Financial Statements:	3

	Condensed Consolidated Balance Sheets as of December 31 and March 31, 2011 – (unaudited)	3

	Condensed Consolidated Statements of Operations for the three and nine months ended December 31, 2011 and 2010 – (unaudited)	4

	Condensed Consolidated Statement of Stockholders’ Deficiency for the nine months ended December 31, 2011 – (unaudited)	5

	Condensed Consolidated Statements of Cash Flows for the nine months ended December 31, 2011 and 2010 – (unaudited)	6

	Notes to Condensed Consolidated Financial Statements – (unaudited)	7

Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	22

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	33

Item 4.	Controls and Procedures	33

PART II - OTHER INFORMATION

Item 1.	Legal Proceedings	34

Item 1A.	Risk Factors	35

Item 6.	Exhibits	35

	Signatures	35

PART I - FINANCIAL INFORMATION

Item 1. Financial statements

INTEGRATED HEALTHCARE HOLDINGS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(amounts in 000's, except par value)

(unaudited)

	December 31,			March 31,
	2011			2011
ASSETS
Current assets:
Cash and cash equivalents	$	4,000		$	20,539
Restricted cash		11			24
Accounts receivable, net of allowance for doubtful accounts of $14,894 and $20,076, respectively		52,321			54,649
Inventories of supplies, at cost		6,517			5,945
Due from governmental payers		4,654			4,352
Prepaid insurance		1,249			3,108
Hospital quality assurance fees receivable		13,496			1,815
Electronic health records incentive program receivable		4,191			-
Other prepaid expenses and current assets		8,141			6,774
Total current assets		94,580			97,206

Property and equipment, net		52,765			54,251
Debt issuance costs, net		102			445

Total assets	$	147,447		$	151,902

LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current liabilities:
Revolving line of credit	$	20,000		$	19,081
Accounts payable		44,421			43,968
Accrued compensation and benefits		19,008			18,707
Accrued insurance retentions		16,055			16,642
Income taxes payable		2,024			12,800
Other current liabilities		3,276			7,261
Total current liabilities		104,784			118,459

Debt, noncurrent		45,000			45,000
Warrant liability, noncurrent		128			167
Capital lease obligations, net of current portion of $1,000 and $1,131, respectively		6,113			6,837
Total liabilities		156,025			170,463

Commitments and contingencies

Stockholders' deficiency:
Integrated Healthcare Holdings, Inc. stockholders' deficiency:
Common stock, $0.001 par value; 800,000 shares authorized; 255,307 shares issued and outstanding		255			255
Additional paid in capital		62,911			62,911
Receivable from stockholders		-			(882	)
Accumulated deficit		(69,101	)		(79,280	)
Total Integrated Healthcare Holdings, Inc. stockholders' deficiency		(5,935	)		(16,996	)
Noncontrolling interests		(2,643	)		(1,565	)
Total stockholders' deficiency		(8,578	)		(18,561	)

Total liabilities and stockholders' deficiency	$	147,447		$	151,902

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

INTEGRATED HEALTHCARE HOLDINGS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(amounts in 000's, except per share amounts)

(unaudited)

	Three months ended						Nine months ended
	December 31,						December 31,
	2011			2010			2011			2010

Net operating revenues	$	123,033		$	89,435		$	306,398		$	274,355

Operating expenses:
Salaries and benefits		56,101			53,813			162,499			157,493
Supplies		14,004			12,981			40,217			39,642
Provision for doubtful accounts		9,034			7,909			25,851			27,176
Other operating expenses		32,038			15,709			61,213			47,109
Depreciation and amortization		997			1,050			3,164			3,146
		112,174			91,462			292,944			274,566

Operating income (loss)		10,859			(2,027	)		13,454			(211	)

Other income (expense):
Income from electronic health records incentive program		6,802			-			6,802			-
Interest expense, net		(2,446	)		(2,943	)		(7,768	)		(9,208	)
Gain (loss) on warrants		256			1,127			39			(181	)
		4,612			(1,816	)		(927	)		(9,389	)

Income (loss) before income tax provision (benefit)		15,471			(3,843	)		12,527			(9,600	)
Income tax provision (benefit)		2,812			(4,269	)		2,012			(4,269	)
Net income (loss)		12,659			426			10,515			(5,331	)
Net income attributable to noncontrolling interests (Note 9)		(117	)		(56	)		(336	)		(192	)

Net income (loss) attributable to Integrated Healthcare Holdings, Inc.	$	12,542		$	370		$	10,179		$	(5,523	)

Per Share Data (Note 8):
Earnings (loss) per common share attributable to
Integrated Healthcare Holdings, Inc. stockholders
Basic	$	0.05		$	0.00		$	0.04		$	(0.02	)
Diluted	$	0.05		$	0.00		$	0.04		$	(0.02	)
Weighted average shares outstanding
Basic		255,307			255,307			255,307			255,307
Diluted		256,839			256,962			256,848			255,307

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

INTEGRATED HEALTHCARE HOLDINGS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIENCY

(amounts in 000's)

(unaudited)

	Integrated Healthcare Holdings, Inc. Stockholders
					Additional		Receivable
	Common Stock				Paid-in		from			Accumulated			Noncontrolling
	Shares		Amount		Capital		Stockholders			Deficit			Interests			Total

Balance, March 31, 2011		255,307	$	255	$	62,911	$	(882	)	$	(79,280	)	$	(1,565	)	$	(18,561	)

Payment received on receivable from stockholders		-		-		-		882			-			-			882

Net income		-		-		-		-			10,179			336			10,515

Noncontrolling interests distributions		-		-		-		-			-			(1,414	)		(1,414	)

Balance, December 31, 2011		255,307	$	255	$	62,911	$	-		$	(69,101	)	$	(2,643	)	$	(8,578	)

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

INTEGRATED HEALTHCARE HOLDINGS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(amounts in 000's)

(unaudited)

	Nine months ended December 31,
	2011			2010

Cash flows from operating activities:
Net income (loss)	$	10,515		$	(5,331	)
Adjustments to reconcile net income (loss) to net cash used in operating activities:
Depreciation and amortization of property and equipment		3,164			3,146
Provision for doubtful accounts		25,851			27,176
Amortization of debt issuance costs		487			230
(Gain) loss on warrants		(39	)		181
Noncash share-based compensation expense		-			40
Changes in operating assets and liabilities:
Accounts receivable		(23,523	)		(19,174	)
Inventories of supplies		(572	)		(183	)
Due from governmental payers		(302	)		2,486
Prepaid expenses - hospital quality assurance fees		-			(44,727	)
Prepaid income taxes		-			(4,269	)
Hospital quality assurance fees receivable		(11,681	)		-
Electronic health records incentive program receivable		(4,191	)		-
Prepaid insurance, other prepaid expenses and current assets, and other assets		348			(1,924	)
Accounts payable		453			3,968
Accrued compensation and benefits		301			(2,832	)
Unearned revenue - hospital quality assurance fees		-			42,578
Income taxes payable		(10,776	)		-
Accrued insurance retentions and other current liabilities		(3,822	)		481
Net cash provided by (used in) operating activities		(13,787	)		1,846

Cash flows from investing activities:
Decrease in restricted cash		13			2
Additions to property and equipment		(1,678	)		(1,230	)
Net cash used in investing activities		(1,665	)		(1,228	)

Cash flows from financing activities:
Proceeds from revolving line of credit, net		919			32,373
Debt issuance costs		-			(919	)
Repayment of debt		-			(34,968	)
Payment received - receivable from stockholders		132			-
Noncontrolling interests distributions		(1,414	)		(2,000	)
Payments on capital lease obligations		(724	)		(668	)
Net cash used in financing activities		(1,087	)		(6,182	)

Net decrease in cash and cash equivalents		(16,539	)		(5,564	)
Cash and cash equivalents, beginning of period		20,539			10,159
Cash and cash equivalents, end of period	$	4,000		$	4,595

Supplemental information:
Cash paid for interest	$	6,641		$	6,155
Cash paid for income taxes	$	13,095		$	-

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

NOTE 1 - DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

BASIS OF PRESENTATION - The accompanying unaudited condensed consolidated financial statements of Integrated Healthcare Holdings, Inc. and its wholly owned subsidiaries (the "Company") have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP") and the rules and regulations of the Securities and Exchange Commission ("SEC") for interim financial reporting. Accordingly, the accompanying unaudited condensed consolidated statements do not include all of the information and notes required by GAAP for complete financial statements. In the opinion of management, these statements include all adjustments that are of a normal and recurring nature necessary to present fairly the Company’s consolidated financial position, results of operations and cash flows. The results of operations for the three and nine months ended December 31, 2011 are not necessarily indicative of the results for the entire 2012 fiscal year. These unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and accompanying notes included in the Company’s Annual Report on Form 10-K for the year ended March 31, 2011 filed with the SEC on June 24, 2011.

The Company has determined that Pacific Coast Holdings Investment, LLC ("PCHI") (Note 9), is a variable interest entity as defined by GAAP and, accordingly, the financial statements of PCHI are included in the accompanying unaudited condensed consolidated financial statements.

All significant intercompany accounts and transactions have been eliminated in consolidation. Unless otherwise indicated, all amounts included in these notes to the condensed consolidated financial statements are expressed in thousands (except per share amounts, percentages and stock option prices and values).

LIQUIDITY - As of December 31, 2011, the Company had a total stockholders’ deficiency of $8.6 million and a working capital deficit of $10.2 million. For the three and nine months ended December 31, 2011, the Company had net income of $12.5 million and $10.2 million, respectively. At December 31, 2011, the Company had no additional availability under its revolving credit facility (Note 3).

DESCRIPTION OF BUSINESS - Effective March 8, 2005, the Company acquired four hospitals (the "Hospitals") from subsidiaries of Tenet Healthcare Corporation (the "Acquisition"). The Company owns and operates the four community-based hospitals located in southern California, which are:

	●	282-bed Western Medical Center in Santa Ana
	●	188-bed Western Medical Center in Anaheim
	●	178-bed Coastal Communities Hospital in Santa Ana
	●	114-bed Chapman Medical Center in Orange

RECLASSIFICATION FOR PRESENTATION - Certain amounts previously reported have been reclassified to conform to the current period's presentation with no impact on the reported net income (loss) of the Company.

CONCENTRATION OF RISK - The Hospitals are subject to licensure by the State of California and accreditation by the Joint Commission. Loss of either licensure or accreditation would impact the ability to participate in various governmental and managed care programs, which provide the majority of the Company's revenues.

Substantially all net operating revenues come from external customers. The largest payers are Medicare and Medicaid, which combined accounted for 68% and 58% of the net operating revenues for the three months ended December 31, 2011 and 2010, respectively, and 60% and 58% for the nine months ended December 31, 2011 and 2010, respectively. No other payers represent a significant concentration of the Company's net operating revenues.

The Company receives all of its inpatient services revenue from operations in Orange County, California. The economic conditions of this market could affect the ability of patients and third-party payers to reimburse the Company for services, through its effect on disposable household income and the tax base used to generate state funding for Medicaid programs.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

USE OF ESTIMATES - The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with GAAP. The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Principal areas requiring the use of estimates include third-party cost report settlements, income taxes, accrued insurance retentions, self-insurance reserves, and net patient receivables. Management regularly evaluates the accounting policies and estimates that are used. In general, management bases the estimates on historical experience and on assumptions that it believes to be reasonable given the particular circumstances in which its Hospitals operate. Although management believes that all adjustments considered necessary for fair presentation have been included, actual results may materially vary from those estimates.

REVENUE RECOGNITION - Net operating revenues are recognized in the period in which services are performed and are recorded based on established billing rates (gross charges) less estimated discounts for contractual allowances, principally for patients covered by Medicare, Medicaid, managed care, and other health plans. Gross charges are retail charges based on the Company’s Charge Description Master. They are not the same as actual pricing, and they generally do not reflect what a hospital is ultimately paid and therefore are not displayed in the accompanying unaudited condensed consolidated statements of operations. Hospitals are typically paid amounts that are negotiated with insurance companies or are set by the federal government or state government. Gross charges are used to calculate Medicare outlier payments and to determine certain elements of payment under managed care contracts (such as stop-loss payments). Since Medicare requires a hospital's gross charges to be the same for all patients (regardless of payer category), gross charges are also what the Hospitals charge all other patients prior to the application of discounts and allowances.

Revenues under the traditional fee-for-service Medicare and Medicaid programs are based primarily on prospective payment systems. Discounts for retrospectively cost based revenues and certain other payments, which are based on the Hospitals' cost reports, are estimated using historical trends and current factors. Cost report settlements for retrospectively cost based revenues under these programs are subject to audit, and administrative and judicial review, which can take several years until final settlement of such matters are determined and completely resolved. Estimates of settlement receivables or payables related to a specific year are updated periodically, at year end, and at the time the cost report is filed with the fiscal intermediary. Typically no further updates are made to the estimates until the Final Notice of Program Reimbursement is received, at which time the cost report for that year has been audited by the fiscal intermediary. There could be several years’ time lag between the submission of a cost report and receipt of the Final Notice of Program Reimbursement. Since the laws, regulations, instructions and rule interpretations governing Medicare and Medicaid reimbursement are complex and change frequently, the estimates recorded by the Hospitals could change by material amounts. The Company has established settlement receivables of $213 and $456 as of December 31 and March 31, 2011, respectively, which are included as due from government payers in the accompanying unaudited condensed consolidated balance sheets.

The Hospitals receive supplemental payments from the State of California to support indigent care (Medi-Cal Disproportionate Share Hospital payments or "DSH") and from the California Medical Assistance Commission ("CMAC") under the SB 1100 and SB 1255 programs. The Hospitals received supplemental payments of $4.0 million and $7.3 million during the three months ended December 31, 2011 and 2010, respectively, and $9.9 million and $18.4 million during the nine months ended December 31, 2011 and 2010, respectively. The related revenue recorded for the three months ended December 31, 2011 and 2010, was $3.1 million and $4.9 million, respectively, and $10.5 million and $16.0 million for the nine months ended December 31, 2011 and 2010, respectively. As of December 31 and March 31, 2011, estimated DSH receivables were $4.4 million and $2.4 million, respectively, which are included as due from government payers in the accompanying unaudited condensed consolidated balance sheets.

The following is a summary of due from governmental payers:

	December 31, 2011		March 31, 2011
Medicare	$	213	$	456
Medicaid		4,441		3,896
	$	4,654	$	4,352

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

Revenues under managed care plans are based primarily on payment terms involving predetermined rates per diagnosis, per-diem rates, discounted fee-for-service rates and/or other similar contractual arrangements. These revenues are also subject to review and possible audit by the payers. The payers are billed for patient services on an individual patient basis. An individual patient's bill is subject to adjustment on a patient-by-patient basis in the ordinary course of business by the payers following their review and adjudication of each particular bill. The Hospitals estimate the discounts for contractual allowances utilizing billing data on an individual patient basis. Management believes the estimation and review process allows for timely identification of instances where such estimates need to be revised. The Company does not believe there were any adjustments to estimates of individual patient bills that were material to its net operating revenues.

The Hospitals provide charity care to patients whose income level is below 300% of the Federal Poverty Level. Patients with income levels between 300% and 350% of the Federal Poverty Level qualify to pay a discounted rate under AB 774 based on various government program reimbursement levels. Patients without insurance are offered assistance in applying for Medicaid and other programs they may be eligible for, such as state disability, Victims of Crime, or county indigent programs. Patient advocates from the Hospitals' Medical Eligibility Program ("MEP") screen patients in the hospital and determine potential linkage to financial assistance programs. They also expedite the process of applying for these government programs. The estimated costs (based on direct and indirect costs as a ratio of gross uncompensated charges associated with providing care to charity patients) for the three months ended December 31, 2011 and 2010 were approximately $2.5 million and $1.7 million, respectively, and $6.3 million and $6.3 million for the nine months ended December 31, 2011 and 2010, respectively.

Receivables from patients who are potentially eligible for Medicaid are classified as Medicaid pending under the MEP, with appropriate contractual allowances recorded. If the patient does not qualify for Medicaid, the receivables are reclassified to charity care and written off, or they are reclassified to self-pay and adjusted to their net realizable value through the provision for doubtful accounts. Reclassifications of Medicaid pending accounts to self-pay do not typically have a material impact on the results of operations as the estimated Medicaid contractual allowances initially recorded are not materially different than the estimated provision for doubtful accounts recorded when the accounts are reclassified. All accounts classified as pending Medicaid, as well as certain other governmental receivables, over the age of 90 days were reserved in contractual allowances as of December 31 and March 31, 2011 based on historical collections experience.

The Company receives payments for “eligible alien” care under Section 1011 of the Medicare Modernization Act of 2003. As of December 31 and March 31, 2011, the Company established a receivable in the amount of $1.3 million and $1.6 million, respectively, related to discharges deemed eligible to meet program criteria.

The Company is not aware of any material claims, disputes, or unsettled matters with any payers that would affect revenues that have not been adequately provided for in the accompanying unaudited condensed consolidated financial statements.

PROVISION FOR DOUBTFUL ACCOUNTS - The Company provides for accounts receivable that could become uncollectible by establishing an allowance to reduce the carrying value of such receivables to their estimated net realizable value. The Hospitals estimate this allowance based on the aging of their accounts receivable, historical collections experience for each type of payer and other relevant factors. There are various factors that can impact the collection trends, such as changes in the economy, which in turn have an impact on unemployment rates and the number of uninsured and underinsured patients, volume of patients through the emergency department, the increased burden of copayments to be made by patients with insurance and business practices related to collection efforts. These factors continuously change and can have an impact on collection trends and the estimation process.

The Company's policy is to attempt to collect amounts due from patients, including copayments and deductibles due from patients with insurance, at the time of service while complying with all federal and state laws and regulations, including, but not limited to, the Emergency Medical Treatment and Labor Act ("EMTALA"). Generally, as required by EMTALA, patients may not be denied emergency treatment due to inability to pay. Therefore, until the legally required medical screening examination is complete and stabilization of the patient has begun, services are performed prior to the verification of the patient's insurance, if any. In nonemergency circumstances or for elective procedures and services, it is the Hospitals' policy, when appropriate, to verify insurance prior to a patient being treated.

CASH AND CASH EQUIVALENTS - The Company considers all highly liquid debt investments purchased with a maturity of three months or less to be cash equivalents.

Cash and cash equivalents are maintained at financial institutions and, at times, balances may exceed federally insured limits. The Company has never experienced any losses related to these balances. All of the non-interest bearing cash balances were fully insured at December 31, 2011 due to a temporary federal program in effect from December 31, 2010 through December 31, 2012. Under the program, there is no limit to the amount of insurance for eligible accounts. Beginning 2013, insurance coverage will revert to $250,000 per depositor at each financial institution, and the Company’s non-interest bearing cash balances may again exceed federally insured limits.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

INVENTORIES OF SUPPLIES - Inventories of supplies are valued at the lower of weighted average cost or market.

PROPERTY AND EQUIPMENT - Property and equipment are stated at cost, less accumulated depreciation and any impairment write-downs related to assets held and used. Additions and improvements to property and equipment are capitalized at cost. Expenditures for maintenance and repairs are charged to expense as incurred. Capital leases are recorded at the beginning of the lease term as property and equipment and a corresponding lease liability is recognized. The value of the property and equipment under capital lease is recorded at the lower of either the present value of the minimum lease payments or the fair value of the asset. Such assets, including improvements, are amortized over the shorter of the lease term or their estimated useful life, where applicable.

The Company uses the straight-line method of depreciation for buildings and improvements, and equipment over their estimated useful lives of 25 years and 3 to 15 years, respectively.

LONG-LIVED ASSETS - The Company evaluates its long-lived assets for possible impairment whenever circumstances indicate that the carrying amount of the asset, or related group of assets, may not be recoverable from estimated future cash flows. However, there is an evaluation performed at least annually. Fair value estimates are derived from established market values of comparable assets or internal calculations of estimated undiscounted future net cash flows. The estimates of future net cash flows are based on assumptions and projections believed by the Company to be reasonable and supportable. These assumptions take into account patient volumes, changes in payer mix, revenue, and expense growth rates and changes in legislation and other payer payment patterns.

DEBT ISSUANCE COSTS - On August 30, 2010, the Company entered into a new revolving credit facility (Note 3) under which it incurred debt issuance costs consisting of a $450 origination fee for the Company's $40 million Revolving Line of Credit (new debt) and $469 in legal and other expenses paid to third parties. These amounts are amortized over the credit facility’s three year life using the straight-line method. Subsequently, the $40 million Revolving Line of Credit was reduced to $20 million, resulting in an acceleration of the amortization of the related debt issuance costs. Debt issuance costs of $38 and $75 were amortized during the three months ended December 31, 2011 and 2010, respectively, and $487 (including $334 in accelerated amortization) and $229 during the nine months ended December 31, 2011 and 2010, respectively. At December 31 and March 31, 2011, prepaid expenses and other current assets in the accompanying unaudited condensed consolidated balance sheets included $153 and $300, respectively, as the current portion of debt issuance costs.

FAIR VALUE MEASUREMENTS - The Company's financial assets and liabilities recorded in the unaudited condensed consolidated balance sheets include cash and cash equivalents, restricted cash, receivables, debt, accounts payable, and other liabilities, all of which are recorded at book value which approximates fair value.

GAAP has established a hierarchy for ranking the quality and reliability of the information used to determine fair values and requires that assets and liabilities carried at fair value be classified and disclosed in one of the following three categories:

	Level 1:	Unadjusted quoted market prices in active markets for identical assets or liabilities.

	Level 2:	Unadjusted quoted prices in active markets for similar assets or liabilities, unadjusted quoted prices for identical or similar assets or liabilities in markets that are not active, or inputs other than quoted prices that are observable for the asset or liability.

	Level 3:	Unobservable inputs for the asset or liability.

The Company utilizes the best available information in measuring fair value. Assets and liabilities are classified based on the lowest level of input that is significant to the fair value measurement. The Company currently has no financial or nonfinancial assets or liabilities subject to fair value measurement on a recurring basis except for warrants issued in April 2010 (Note 4).

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

The following table sets forth the Company’s financial assets and liabilities measured at fair value on a recurring basis and where they are classified within the hierarchy as of December 31, 2011:

	Total		Level 1		Level 2		Level 3

Warrant liability	$	128		-		-	$	128

Balance at March 31, 2011 - Fair value of warrants issued and vested	$	167
Change in fair value of warrant liability included in earnings		3,270
Balance at June 30, 2011		3,437
Change in fair value of warrant liability included in earnings		(3,053	)
Balance at September 30, 2011		384
Change in fair value of warrant liability included in earnings		(256	)
Balance at December 31, 2011	$	128

WARRANTS - The Company has entered into complex transactions that contain warrants (Notes 3 and 4). If an instrument (or an embedded feature) that has the characteristics of a derivative instrument is indexed to an entity’s own stock, it is still necessary to evaluate whether it is classified in stockholders’ equity (or would be classified in stockholders’ equity if it were a freestanding instrument).

INCOME (LOSS) PER COMMON SHARE – Income (loss) per share is calculated under two different methods, basic and diluted. Basic income (loss) per share is calculated by dividing the net income (loss) by the weighted average shares of common stock outstanding during the period. Diluted income (loss) per share is calculated by dividing the net income (loss) by the weighted average shares of common stock outstanding during the period and dilutive potential shares of common stock. Dilutive potential shares of common stock, as determined under the treasury stock method, consist of shares of common stock issuable upon exercise of stock warrants or options, net of shares of common stock assumed to be repurchased by the Company from the exercise proceeds (Note 8).

INCOME TAXES - Deferred income tax assets and liabilities are determined based on the differences between the book and tax basis of assets and liabilities and are measured using the currently enacted tax rates and laws using the asset and liability method. The Company assesses the realization of deferred tax assets to determine whether an income tax valuation allowance is required. The Company has recorded a 100% valuation allowance on its deferred tax assets.

There is a recognition threshold and measurement attribute for recognition and measurement of a tax position taken or expected to be taken in a tax return. It also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.

The Company and its subsidiaries file income tax returns in the U.S. federal jurisdiction and California. Certain tax attributes carried over from prior years continue to be subject to adjustment by taxing authorities. Any penalties or interest arising from federal or state taxes are recorded as a component of the Company’s income tax provision.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

SEGMENT REPORTING - The Company operates in one line of business, the provision of healthcare services through the operation of general hospitals and related healthcare facilities. The Company's Hospitals generate substantially all of its net operating revenues.

The Company's four Hospitals and related healthcare facilities operate in one geographic region in Orange County, California. The region's economic characteristics, the nature of the Hospitals' operations, the regulatory environment in which they operate, and the manner in which they are managed are all similar. This region is an operating segment, as defined by GAAP. In addition, the Company's Hospitals and related healthcare facilities share certain resources and benefit from many common clinical and management practices. Accordingly, the Company aggregates the facilities into a single reportable operating segment.

SUBSEQUENT EVENTS - The Company’s accompanying unaudited condensed consolidated financial statements are considered issued when filed with the SEC. The Company has evaluated subsequent events to the filing date of this Form 10-Q with the SEC.

NOTE 2 - PROPERTY AND EQUIPMENT

Property and equipment consists of the following:

	December 31,			March 31,
	2011			2011

Buildings	$	35,376		$	34,624
Land and improvements		13,523			13,523
Equipment		14,471			13,266
Construction in progress		1,161			1,375
Assets under capital leases		11,218			11,218
		75,749			74,006
Less accumulated depreciation		(22,984	)		(19,755	)

Property and equipment, net	$	52,765		$	54,251

Accumulated depreciation on assets under capital leases as of December 31 and March 31, 2011 was $4.7 million and $3.7 million, respectively.

The Hospitals are located in an area near active and substantial earthquake faults. The Hospitals carry earthquake insurance with a policy limit of $50.0 million. A significant earthquake could result in material damage and temporary or permanent cessation of operations at one or more of the Hospitals.

The State of California has imposed new hospital seismic safety requirements. Under these new requirements, the Hospitals must meet stringent seismic safety criteria in the future. In addition, there could be other remediation costs pursuant to this seismic retrofit.

The State of California has introduced a new seismic review methodology known as HAZUS. The HAZUS methodology may preclude the need for some structural modifications. All four Hospitals requested HAZUS review and received a favorable notice pertaining to structural reclassification. All Hospital buildings, with the exception of one (an administrative building), have been deemed compliant until January 1, 2030 for both structural and nonstructural retrofit. The Company does not have an estimate of the cost to remediate the seismic requirements for the administrative building as of December 31, 2011.

There are additional requirements that must be complied with by 2030. The costs of meeting these requirements have not yet been determined. Compliance with seismic ordinances will be costly and could have a material adverse effect on the Company's cash flow. In addition, remediation could possibly result in certain environmental liabilities, such as asbestos abatement.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

NOTE 3 - DEBT

On April 13, 2010 (the “Effective Date”), the Company entered into an Omnibus Credit Agreement Amendment (the “Omnibus Amendment”) with SPCP Group IV, LLC and SPCP Group, LLC (together, “Silver Point”), Silver Point Finance, LLC, as the Lender Agent, PCHI, Ganesha Realty LLC (“Ganesha”), Dr. Chaudhuri and KPC Resolution Company (“KPC”). KPC and Ganesha are companies owned and controlled by Dr. Chaudhuri, who is the majority shareholder of the Company. Ganesha owns a 49% membership interest in PCHI.

The Company entered into the Omnibus Amendment in connection with the Loan Purchase and Sale Agreement (the “Loan Purchase Agreement”), dated as of January 13, 2010, as amended, by and between KPC and the previous lender’s receiver. Under the Loan Purchase Agreement, and as approved by the Court on April 2, 2010, KPC agreed to purchase all of the Credit Agreements from Medical Capital Corporation’s receiver for $70.0 million. Concurrent with the closing of the Loan Purchase Agreement, KPC sold its interest in the Credit Agreements to Silver Point, and KPC purchased from Silver Point a 15% participation interest in the Credit Agreements. On April 13, 2010, concurrent with the effectiveness of the Omnibus Amendment and the closing of the Loan Purchase Agreement, Silver Point acquired all of the Credit Agreements, including the security agreements and other ancillary documents executed by the Company in connection with the Credit Agreements, and became the “New Lender” under the Credit Agreements.

The following are material terms of the Omnibus Amendment:

	●	The stated maturity date under each Credit Agreement was changed to April 13, 2013.

	●	Affirming release of prior claims between the Company and the previous lender’s receiver, Silver Point agreed to waive any events of default that had occurred under the Credit Agreements and waived claims to accrued and unpaid interest and fees of $6.4 million under the Credit Agreements as of April 13, 2010.
	●	The $80.0 million Credit Agreement was amended so that the $45.0 million term note (the “$45.0 million Loan”) and $35.0 million non-revolving line of credit note (the “$35.0 million Loan”) will each bear a fixed interest rate of 14.5% per year. These loans previously bore interest rates of 10.25% and 9.25%, respectively. In addition, the Company agreed to make certain mandatory prepayments of the $35.0 million Loan when it received proceeds from certain new financing of its accounts receivable or provider fee funds from Medi-Cal under the Hospital Quality Assurance Fee program (“QAF”) (Note 11). The $35.0 million Loan was refinanced on August 30, 2010 (see below).

	●	The $50.0 million Revolving Credit Agreement was amended so that Silver Point will, subject to the terms and conditions contained therein, make up to $10.0 million in new revolving funds available to the Company for working capital and general corporate purposes. Each advance under the $50.0 million Revolving Credit Agreement will bear interest at an annual rate of Adjusted LIBOR (calculated as LIBOR subject to certain adjustments, with a floor of 2% and a cap of 5%) plus 12.5%, compared to an interest rate of 24.0% that was previously in effect under the $50.0 million revolving credit agreement. In addition, the Company agreed to make mandatory prepayments of the $50.0 million Revolving Credit Agreement under the conditions described above with respect to the $80.0 million Credit Agreement. The financial covenants under the $50.0 million Revolving Credit Agreement were also amended to increase the required levels of minimum EBITDA (as defined in the Omnibus Amendment) from the levels previously in effect under the $50.0 million Revolving Credit Agreement. This $50.0 million revolving line of credit was refinanced on August 30, 2010 (see below).

	●	The $10.7 million Credit Agreement was amended so that the $10.7 million convertible term note will bear a fixed interest rate of 14.5% per year, compared to the interest rate of 9.25% previously in effect and to eliminate the conversion feature of the loan. In addition, the Company agreed to make mandatory prepayments of the $10.7 million Credit Agreement under the conditions described above with respect to the $80.0 million Credit Agreement. This $10.7 million term note was refinanced on August 30, 2010 (see below).

In connection with the sale of the Credit Agreements, all warrants and stock conversion rights issued to the previous lender were cancelled. In connection with the Omnibus Amendment, the Company issued new warrants (Note 4).

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

On August 30, 2010, the Company (excluding PCHI) entered into a three year Credit and Security Agreement (the “New Credit Agreement”) with MidCap Financial, LLC, a commercial finance lender specializing in loans to middle market health care companies, and Silicon Valley Bank (collectively, the “AR Lender”).

Under the New Credit Agreement, the AR Lender committed to provide up to $40.0 million in loans to the Company under a secured revolving credit facility (the “New Credit Facility”), which may be increased to up to $45.0 million upon the Company’s request, if the AR Lender consents to such increase. Upon execution of the New Credit Agreement, the AR Lender funded approximately $39.7 million of the New Credit Facility, which funds were used primarily to repay approximately $35.0 million in loans outstanding to affiliates of Silver Point (“Term Lender”). Upon such repayment, the remaining balances on the Company’s $35.0 million Loan, $50.0 million Revolving Credit Agreement and $10.7 million Credit Agreement with the Term Lender were fully repaid and terminated. The only loan currently outstanding to the Term Lender consists of the $45.0 million Loan issued under the Company’s $80.0 million Credit Agreement.

The New Credit Facility is secured by a first priority security interest on substantially all of the Company’s assets, including the equity interests in all of the Company’s subsidiaries (excluding PCHI). The availability of the AR Lender’s commitments under the New Credit Facility is limited by a borrowing base tied to the Company’s eligible accounts receivable and certain other availability restrictions.

Loans under the New Credit Facility accrue interest at LIBOR (subject to a 2.5% floor) plus 5.0% per annum, subject to a default rate of interest and other adjustments provided for in the New Credit Agreement. For purposes of calculating interest, all payments the Company makes on the New Credit Facility are subject to a six business day clearance period. The Company also pays a collateral management fee of .0625% per month on the outstanding balance (or a minimum balance amount equal to 85% of the monthly average borrowing base (the “Minimum Balance Amount”), if such amount is greater than the outstanding balance), a monthly minimum balance fee equal to the highest interest rate applicable to the loans if the Minimum Balance Amount is greater that the outstanding balance, and an unused line fee equal to .042% per month of the average unused portion of the New Credit Facility. The Company paid to the AR Lender a non-refundable origination fee of 1.0% of the AR Lender’s commitments under the New Credit Facility at closing.

The New Credit Agreement contains various affirmative and negative covenants and customary events of default, including payment defaults, breaches of representations and warranties, covenant defaults, cross-defaults to similar obligations, events of bankruptcy and insolvency, judgment defaults, the invalidity of liens on collateral, and the occurrence of events which have a material adverse effect on the Company.

Amendment to $80.0 million Credit Agreement – Concurrently with the execution of the New Credit Agreement, on August 30, 2010 the Company entered into an amendment to its existing $80.0 million Credit Agreement, as amended (the “Original Credit Agreement”), with the Term Lender, PCHI, and Ganesha. Under this amendment, the Company agreed with the Term Lender to the following material changes to the Original Credit Agreement:

	●	In the event of a mandatory prepayment of the Company’s accounts receivable based financing facility under the Original Credit Agreement, the outstanding loans under such agreement shall not be required to be prepaid below $10.0 million. There is also a floor of $10.0 million below which commitments under such accounts receivable based facility would not be mandatorily reduced as a result of such prepayment.

	●	The Original Credit Agreement was amended to add an affirmative covenant requiring the Company to deliver financial statements and other financial and non-financial information to the Term Lender on a regular basis, and a negative covenant requiring that the Company maintain a minimum fixed charge coverage ratio of 1.0 and minimum levels of earnings before interest, tax, depreciation and amortization.

	●	The Company agreed to the provisions of an Intercreditor Agreement executed on August 30, 2010 by and between the AR Lender and the Term Lender with respect to shared collateral of the Company that is being pledged under both the New Credit Agreement and the Original Credit Agreement. Under the Intercreditor Agreement, among other things, the Term Lender consented to the AR Lender having a first priority lien on substantially all of the Company’s assets while the Term Lender retained a second lien on such assets in addition to its first priority lien on the Company’s leased properties owned by PCHI.

On October 29, 2010, the Company entered into Amendment No. 1 (the “Amendment”) to the New Credit Agreement, dated as of August 30, 2010, by and among the Company and the AR Lender.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

Under the Amendment, the AR Lender committed to increase the total revolving loan commitment amount under the New Credit Agreement from $40.0 million to $45.0 million, and the Company agreed to pay to the AR Lender a non-refundable origination fee of 1.0% of the AR Lender’s increased commitment under the Amendment, or $50.

Also under the Amendment, the AR Lender agreed to allow the inclusion in Eligible Accounts that are used to determine the Company’s Borrowing Base of up to $33.6 million in aggregate federal or state matching payments to the Company related to QAF (Note 11), which amount was increased from $11.8 million for the first matching payment.

In addition, the optional prepayment and permanent commitment reduction provisions of the New Credit Agreement were amended to change the minimum Revolving Loan Commitment Amount to $20.0 million from $5.0 million. In addition, the prepayment fee calculation under the New Credit Agreement was changed so that the prepayment fee is based on $40.0 million rather than the amount of the permanent revolving loan commitment reduction amount.

Lastly, under the Amendment, in the event the Company permanently reduces its Revolving Loan Commitment Amount to $20.0 million (and assuming there is no Event of Default at the time), the Company would be permitted to transfer funds that are swept into the AR Lender’s account from the Company’s lockbox accounts to a different bank account designated by the Company. Effective March 1, 2011, the Company reduced its Revolving Loan Commitment Amount to $20.0 million. Beginning in April 2011, the funds that were previously swept into the AR Lender’s account were swept directly to the Company’s main account.

As of December 31, 2011, the Company had the following Credit Agreements:

	●	$45.0 million Loan issued under the $80.0 million Credit Agreement, bearing a fixed interest rate of 14.5% per year ($45.0 million outstanding balance at December 31, 2011). If any event of default occurs and continues, the lender can increase the interest rate to 19.5% per year.

	●	$20.0 million revolving line of credit under the New Credit Facility, bearing an interest rate of 5.0% plus LIBOR, with a 2.5% floor, per year (7.5% at December 31, 2011) and an unused commitment fee of 0.625% per year ($20.0 million outstanding balance at December 31, 2011). For purposes of calculating interest, all payments the Company makes on the New Credit Facility are subject to a six business day clearance period. As of December 31, 2011, the Company was in compliance with all financial covenants.

The Company's outstanding debt consists of the following:

	December 31, 2011		March 31, 2011

Current:
Revolving line of credit	$	20,000	$	19,081

Noncurrent:
Secured term note	$	45,000	$	45,000

NOTE 4 - COMMON STOCK WARRANTS

On April 13, 2010, the Company issued warrants (the “Omnibus Warrants”) to purchase its common stock for a period of three years at an exercise price of $0.07 per share in the following denominations: 139.0 million shares to KPC or its designees and 96.0 million shares to the Term Lender or its designees. The Omnibus Warrants also provide the holders with certain pre-emptive, information and registration rights. As of April 13, 2010, the Company recorded warrant expense and the related warrant liability of $2.9 million, representing fair value. As of December 31, 2011, the fair value of the Omnibus Warrants was $74.

In addition, on April 13, 2010, the Company issued a three-year warrant (the “Release Warrant”) to acquire up to 170.0 million shares of common stock at $0.07 per share to Dr. Chaudhuri who facilitated a release enabling the Company to recover amounts due from the Company’s prior lender and a $1.0 million reduction in principal of its outstanding debt, among other benefits to the Company. As a result, the Company recorded the fair value of the Release Warrant ($2.1 million) as an offsetting cost of the recovery of amounts due from the Company’s prior lender. The Release Warrant also provides the holder with certain pre-emptive, information and registration rights. As of December 31, 2011, the fair value of the Release Warrant was $54.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

The Omnibus Warrants and the Release Warrant are collectively referred to as the “April Warrants.” The net gain (loss) recorded related to the April Warrants for the three months ended December 31, 2011 and 2010 was $256 and $1.1 million, respectively, and $39 and $(181) for the nine months ended December 31, 2011 and 2010, respectively.

The fair value of warrants issued by the Company is estimated using the Black-Scholes valuation model, which the Company believes is the appropriate valuation method under the circumstances. Since the Company’s stock is thinly traded, the expected volatility is based on an analysis of the Company's stock and the stock of eight other publicly traded companies that own hospitals.

The risk-free interest rate is based on the average yield on U.S. Treasury notes with maturity commensurate with the terms of the warrants. The dividend yield reflects that the Company has not paid any cash dividends since inception and does not anticipate paying cash dividends in the foreseeable future. The assumptions used in the Black-Scholes valuation model are as follows.

	December 31, 2011		April 13, 2010

Expected dividend yield		0.0%		0.0%
Risk-free interest rate		0.2%		1.7%
Expected volatility		50.9%		68.4%
Expected term (in years)		1.29		3.0

NOTE 5 - INCOME TAXES

The utilization of net operating loss (“NOL”) and credit carryforwards is limited under the provisions of the Internal Revenue Code (“IRC”) Section 382 and similar state provisions. Section 382 of the IRC of 1986 generally imposes an annual limitation on the amount of NOL carryforwards that may be used to offset taxable income where a corporation has undergone significant changes in stock ownership. In fiscal year 2009, the Company entered into the amended purchase agreement which resulted in a change in control. The Company conducted an analysis and determined that it is subject to significant IRC Section 382 limitations. For both Federal and State tax purposes, the Company's utilization of NOL and credit carryforwards is subject to significant IRC Section 382 limitations. The Company evaluates its ability to utilize the net operating losses each period with regard to the limitations imposed under IRC 382 and also considering the continuing expiration of statutes of limitation for prior years; and in the prior year determined that a portion of the federal and state net operating losses were no longer realizable, and removed from the schedule of deferreds those net operating losses in excess of the IRC 382 limitation and also considering prior years statutes now closed.

The difference between the reported income tax provision (benefit) and the amount computed by multiplying income before income tax provision (benefit) in the accompanying unaudited condensed consolidated statements of operations for the three and nine months ended December 31, 2011 and 2010 by the statutory federal income tax rate primarily relates to the impact of a full valuation allowance reserving the net deferred assets, permanently nondeductible expenses, state and local income taxes, and variable interest entity.

The application of FASB Interpretation Number 18 requires the Company to compute the interim period income tax provision by applying the estimated annual effective tax rate to the income from continuing operations for the three and nine months ended December 31, 2011, which resulted in the recognition of a tax expense for the three and nine months ended December 31, 2011.

The Company evaluated its historical and projected sources of income to determine the extent to which the net deferred tax assets projected at December 31, 2011 could be realized, and based on this analysis the Company concluded that there was not sufficient positive evidence to support the realization of the net deferred tax assets, and therefore will continue to maintain a full valuation allowance against its net deferred assets as of December 31, 2011.

The Company’s California Enterprise Zone credits are currently under examination by the California taxing authority. As a result of the examination, the Company recorded a liability of approximately $18.9 million for unrecognized tax benefits. The Company's utilization of these credits is also subject to significant IRC Section 383 limitations, and these limitations have been incorporated into the tax provision calculation.

PCHI tax status – PCHI is a limited liability company. PCHI's taxable income or loss will flow through to its owners and be their separate responsibility. Accordingly, the accompanying unaudited condensed consolidated financial statements do not include any amounts for the income tax expense or benefit, or liabilities related to PCHI's income or loss.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

NOTE 6 - STOCK INCENTIVE PLAN

The Company's 2006 Stock Incentive Plan (the "Plan"), which is shareholder-approved, permits the grant of share options to its employees and board members for up to a maximum aggregate of 12.0 million shares of common stock. In addition, as of the first business day of each calendar year in the period 2007 through 2015, the maximum aggregate number of shares shall be increased by a number equal to one percent of the number of shares of common stock of the Company outstanding on December 31 of the immediately preceding calendar year. Accordingly, as of December 31, 2011, the maximum aggregate number of shares under the Plan was 21.0 million. The Company believes that such awards better align the interests of its employees with those of its shareholders. In accordance with the Plan, incentive stock options, nonqualified stock options, and performance based compensation awards may not be granted at less than 100 percent of the estimated fair market value of the common stock on the date of grant. Incentive stock options granted to a person owning more than 10 percent of the voting power of all classes of stock of the Company may not be issued at less than 110 percent of the fair market value of the stock on the date of grant. Option awards generally vest based on 3 years of continuous service (1/3 of the shares vest on the twelve month anniversary of the grant date, and an additional 1/12 of the shares vest on each subsequent fiscal quarter-end of the Company following such twelve month anniversary). Certain option awards provide for accelerated vesting if there is a change of control, as defined. The option awards have 7-year contractual terms.

When the measurement date is certain, the fair value of each option grant is estimated on the date of grant using the Black-Scholes valuation model. Since there is limited historical data with respect to both pre-vesting forfeiture and post-vesting termination, the expected life of the options was determined utilizing the simplified method, whereby the expected term is calculated by taking the sum of the vesting term plus the original contractual term and dividing that quantity by two.

The Company recorded $0 and $3.4 of compensation expense relative to stock options during the three months ended December 31, 2011 and 2010, respectively, and $0 and $30.4 during the nine months ended December 31, 2011 and 2010, respectively. No options were exercised during the three and nine months ended December 31, 2011 and 2010. A summary of stock option activity for the nine months ended December 31, 2011 is presented as follows.

	Shares			Weighted- average exercise price		Weighted- average grant date fair value		Weighted- average remaining contractual term (years)		Aggregate intrinsic value

Outstanding, March 31, 2011		8,370		$	0.18
Granted		-		$	-	$	-
Exercised		-		$	-
Forfeited or expired		(115	)	$	0.25
Outstanding, December 31, 2011		8,255		$	0.18			2.9	$	-
Exercisable at December 31, 2011		8,255		$	0.18			2.9	$	-

All outstanding options were fully vested as of December 31and March 31, 2011.

NOTE 7 - RETIREMENT PLAN

The Company has a 401(k) plan for its employees. All employees with 90 days of service are eligible to participate, unless they are covered by a collective bargaining agreement which precludes coverage. The Company matches employee contributions up to 3% of the employee's compensation, subject to IRS limits. During the three months ended December 31, 2011 and 2010, the Company incurred expenses of $0.8 million and $0.7 million, respectively, and $2.4 million and $2.2 million during the nine months ended December 31, 2011 and 2010, respectively. These costs are included in salaries and benefits in the accompanying unaudited condensed consolidated statements of operations. At December 31 and March 31, 2011, accrued compensation and benefits in the accompanying unaudited condensed consolidated balance sheets included $3.2 million and $3.8 million, respectively, in accrued employer contributions.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

NOTE 8 - INCOME (LOSS) PER SHARE

Income per share for the three and nine months ended December 31, 2011 and the three months ended December 31, 2010 was computed as shown below. Stock options and warrants aggregating approximately 412 million shares were not included in the diluted calculations since they were anti-dilutive during the three and nine months ended December 31, 2011 and the three months ended December 31, 2010.

	Three months ended		Three months ended		Nine months ended
	December 31, 2011		December 31, 2010		December 31, 2011
Numerator:
Net income attributable to
Integrated Healthcare Holdings, Inc.	$	12,542	$	370	$	10,179

Denominator:
Weighted average common shares		255,307		255,307		255,307
Dilutive options		1,532		1,655		1,541
Denominator for diluted calculation		256,839		256,962		256,848

Income per share - basic	$	0.05	$	0.00	$	0.04
Income per share - diluted	$	0.05	$	0.00	$	0.04

Since the Company incurred a loss for the nine months ended December 31, 2010, the potential shares of common stock consisting of approximately 412 million shares issuable under warrants and stock options were not included in the diluted calculations since they were anti-dilutive for each of those periods.

NOTE 9 - VARIABLE INTEREST ENTITY

Concurrent with the close of the Acquisition, PCHI simultaneously acquired title to substantially all of the real property acquired by the Company in the Acquisition. The Company received $5.0 million and PCHI guaranteed the Company's $45.0 million Loan. The Company remains primarily liable as the borrower under the $45.0 million Loan notwithstanding its guarantee by PCHI. The $45.0 million Loan is cross-collateralized by substantially all of the Company's assets and all of the real property of the Hospitals. All of the Company's operating activities are directly affected by the real property that was sold to PCHI, which is a related party entity that is affiliated with the Company through common ownership and control. As of December 31, 2011, PCHI was owned 51% by various physician investors and 49% by Ganesha (Dr. Chaudhuri and Mr. Thomas). A company is required to consolidate the financial statements of any entity that cannot finance its activities without additional subordinated financial support, and for which one company provides the majority of that support through means other than ownership. Effective March 8, 2005, the Company determined that it provided the majority of financial support to PCHI through various sources including lease payments, remaining primarily liable under the $45.0 million Loan, and cross-collateralization of the Company's non-real estate assets to secure the $45.0 million Loan. Accordingly, the financial statements of PCHI are included in the accompanying unaudited condensed consolidated financial statements.

PCHI's assets, liabilities, and accumulated deficit are set forth below.

	December 31, 2011			March 31, 2011
Cash	$	49		$	330
Property, net		41,306			42,273
Other		168			70
Total assets	$	41,523		$	42,673

Debt (as guarantor)	$	45,000		$	45,000
Other		562			634
Total liabilities		45,562			45,634

Deficiency		(4,039	)		(2,961	)
Total liabilities and accumulated deficit	$	41,523		$	42,673

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

As noted above, PCHI is a guarantor on the $45.0 million Loan should the Company not be able to perform. PCHI's total liabilities represent the Company's maximum exposure to loss.

PCHI rental income and the Company’s related rental expense of $1.9 million and $1.8 million were eliminated upon consolidation for the three months ended December 31, 2011 and 2010, respectively, and $5.6 million and $5.3 million for the nine months ended December 31, 2011 and 2010, respectively.

The Company has a lease commitment to PCHI (Note 12). Additionally, the Company is responsible for seismic remediation under the terms of the lease agreement (Note 2).

NOTE 10 - RELATED PARTY TRANSACTIONS

The Company leases substantially all of the real property of the acquired Hospitals from PCHI which is owned by various physician investors and Ganesha, which is managed by Dr. Chaudhuri. As of December 31 and March 31, 2011, Dr. Chaudhuri and Mr. Thomas are the beneficial holders of an aggregate of 447.5 million shares of the outstanding stock of the Company. As described in Note 9, PCHI is a variable interest entity and, accordingly, the Company has consolidated the financial statements of PCHI in the accompanying unaudited condensed consolidated financial statements.

NOTE 11 - HOSPITAL QUALITY ASSURANCE FEE PROGRAM

In October 2009, the Governor of California signed legislation supported by the hospital industry to impose a provider fee on general acute care hospitals that, combined with federal matching funds, would be used to provide supplemental Medi-Cal payments to hospitals. The state submitted the plan to the Centers for Medicare and Medicaid Services (“CMS”) for a required review and approval process, and certain changes in the plan were required by CMS. Legislation amending the fee program to reflect the required changes was passed by the legislature and signed by the Governor on September 8, 2010. Among other changes, the legislation leaves distribution of “pass-through” payments received by Medi-Cal managed care plans that will be paid to hospitals under the program to the discretion of the plans.

The hospital quality assurance fee program (“QAF”) created by this legislation initially provided payments for up to 21 months retroactive to April 2009 and expiring on December 31, 2010 (“2010 QAF”). During fiscal year 2011, the Company recognized $87.2 million in revenue from the state for the 2010 QAF of which $1.8 million was received in April 2011 and is reflected as a receivable in the accompanying unaudited condensed consolidated balance sheet as of March 31, 2011. All other amounts had been received during fiscal year 2011. As of March 31, 2011, $378.6 of the other expenses relating to the 2010 QAF was accrued and included in other current liabilities in the accompanying unaudited condensed consolidated balance sheet.

In December 2011, CMS gave final approval for the extension of the QAF for the six month period from January 1 through June 30, 2011 (“2011 QAF”).

During the three months ended December 31, 2011, the Company recognized $31.9 million in revenue from the state for the 2011 QAF ($18.4 million from the fee-for-service portion and $13.5 million from the supplemental managed care portion). The $18.4 million fee-for-service portion was received prior to December 31, 2011. The managed care portion of $13.5 million is reflected as a receivable in the accompanying unaudited condensed consolidated balance sheet as of December 31, 2011.

The Company recorded expenses of $15.1 million for the 2011 QAF fees paid to the state and $0.8 million in other expenses relating to the 2011 QAF. As of December 31, 2011, $0.6 million of the other expenses relating to the QAF was accrued and included in other current liabilities in the accompanying unaudited condensed consolidated balance sheet.

The Company cannot provide any assurances or estimates in connection with a possible continuation of the QAF program beyond June 30, 2011.

NOTE 12 – ELECTRONIC HEALTH RECORDS INCENTIVE PROGRAM

Provisions of the American Recovery and Reinvestment Act of 2009 provide incentive payments for the adoption and meaningful use of certified electronic health record (EHR) technology. The Medicare EHR incentive program provides incentive payments to eligible hospitals (and certain other providers) that are meaningful users of certified EHRs. The Medicaid EHR incentive program provides incentive payments to eligible hospitals (and certain other providers) for efforts to adopt, implement, upgrade, or meaningfully use of certified EHR technology.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

CMS has established the final rule which requires eligible providers in their first year of participation in the Medicaid incentive payment program to demonstrate that they have adopted (acquired, purchased, or secured access to), or implemented, or upgraded to certified EHR technology in order to qualify for an incentive payment. During the second and subsequent years of the program, eligible providers are required to meet other criteria, including meaningful use, to receive additional funds. The Company was awarded a total amount of $13.6 million under the Medicaid EHR incentive program, which will be earned and received over a four year period.

The Company adopted certified EHR technology (Note 13) and recognized income of $6.8 million relative to the first year under the Medicaid EHR incentive program, which is reflected as other income in the accompanying unaudited condensed consolidated statements of operations for the three and nine months ended December 31, 2011.

The Company received $2.6 million under the program as of December 31, 2011 and received the remaining $4.2 million in January 2012. As a result, the accompanying unaudited condensed consolidated balance sheet reflects a receivable of $4.2 million as of December 31, 2011.

NOTE 13 - COMMITMENTS AND CONTINGENCIES

INFORMATION TECHNOLOGY SYSTEMS – On July 1, 2011, the Company entered into software and services agreements with McKesson Technologies Inc. (“McKesson”) to upgrade the Company’s information technology systems (Note 12).

Under the agreements, McKesson will provide the Company with a variety of services, including new software implementation and education/training services for the Company’s personnel, software maintenance services and professional services related to movement and migration of data from legacy systems. McKesson will also furnish to the Company and maintain new hardware to accommodate the upgraded software and systems. The new hardware will include computers and servers, among other things, and will include installation, testing, and ongoing maintenance. The Company has entered into the arrangement to enhance its clinical information systems and upgrade its billing and revenue management information systems.

The agreements will initially run for a period of five years, and the recurring services may be renewed by the Company for successive periods. The agreements do not provide that they may be terminated by the Company prior to the initial expiration date. The agreements provide for one-time fees and recurring fees which aggregate a total of $22.0 million. Approximately 60% of the fees are for one-time charges, while the balance is for recurring services.

GUARANTEE – At December 31, 2011, the Company had accrued $1.8 million for a guarantee extended to UC Irvine Healthcare, a state supported teaching institution, to accept the transfer of an uninsured patient for a necessary higher level of care. The agreement and the institution’s practice are being reviewed.

LONG TERM LEASE COMMITMENT WITH VARIABLE INTEREST ENTITY – On April 13, 2010, the Company and PCHI entered into a Second Amendment to Amended and Restated Triple Net Hospital Building Lease (the “2010 Lease Amendment”). Under the 2010 Lease Amendment, the annual base rent to be paid by the Company to PCHI was increased from $5.4 million to $7.3 million, but if PCHI refinances the $45.0 million Loan, the annual base rent will increase to $8.3 million. This lease commitment with PCHI is eliminated in consolidation.

CAPITAL LEASES - In connection with the Acquisition, the Company also assumed the leases for the Chapman facility, which include buildings and land with terms that were extended concurrently with the assignment of the leases to December 31, 2023. The Company leases equipment under capital leases expiring at various dates through December 2015. Assets under capital leases with a net book value of $6.5 million and $7.5 million are included in the accompanying unaudited condensed consolidated balance sheets as of December 31and March 31, 2011, respectively. Interest rates used in computing the net present value of the lease payments are based on the interest rates implicit in the leases.

INSURANCE - The Company accrues for estimated general and professional liability claims, to the extent not covered by insurance, when they are probable and reasonably estimable. The Company has purchased as primary coverage a claims-made form insurance policy for general and professional liability risks. Estimated losses within general and professional liability retentions from claims incurred and reported, along with incurred but not reported (“IBNR”) claims, are accrued based upon projections and are discounted to their net present value using a weighted average risk-free discount rate of 5%. To the extent that subsequent claims information varies from estimates, the liability is adjusted in the period such information becomes available. As of December 31 and March 31, 2011, the Company had accrued $13.0 million and $14.0 million, respectively, which is comprised of $5.2 million and $6.6 million, respectively, in incurred and reported claims, along with $7.8 million and $7.4 million, respectively, in estimated IBNR. Estimated insurance recoveries of $3.0 million and $2.7 million are included in other prepaid expenses and current assets in the accompanying unaudited condensed consolidated balance sheets as of December 31 and March 31, 2011, respectively.

INTEGRATED HEALTHCARE HOLDINGS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 2011

(UNAUDITED)

The Company has also purchased occurrence coverage insurance to fund its obligations under its workers compensation program. The Company has a "guaranteed cost" policy, under which the carrier pays all workers compensation claims, with no deductible or reimbursement required of the Company. The Company accrues for estimated workers compensation claims, to the extent not covered by insurance, when they are probable and reasonably estimable. The ultimate costs related to this program include expenses for deductible amounts associated with claims incurred and reported in addition to an accrual for the estimated expenses incurred in connection with IBNR claims. Claims are accrued based upon projections and are discounted to their net present value using a weighted average risk-free discount rate of 5%. To the extent that subsequent claims information varies from estimates, the liability is adjusted in the period such information becomes available. As of December 31 and March 31, 2011, the Company had accrued $800 and $836, respectively, comprised of $442 and $434, respectively, in incurred and reported claims, along with $358 and $402, respectively, in estimated IBNR.

In addition, the Company has a self-insured health benefits plan for its employees. As a result, the Company has established and maintains an accrual for IBNR claims arising from self-insured health benefits provided to employees. The Company's IBNR accruals at December 31 and March 31, 2011 were based upon projections. The Company determines the adequacy of this accrual by evaluating its limited historical experience and trends related to both health insurance claims and payments, information provided by its insurance broker and third party administrator and industry experience and trends. The accrual is an estimate and is subject to change. Such change could be material to the Company's unaudited condensed consolidated financial statements. As of December 31 and March 31, 2011, the Company had accrued $2.2 million and $1.8 million, respectively, in estimated IBNR. The Company believes this is the best estimate of the amount of IBNR relating to self-insured health benefit claims at December 31 and March 31, 2011.

The Company has also purchased umbrella liability policies with aggregate limits of $25 million. The umbrella policies provide coverage in excess of the primary layer and applicable retentions for insured liability risks such as general and professional liability, auto liability, and workers compensation (employers liability).

As of December 31, 2011, the Company finances various insurance policies at an interest rate of 4.03% per annum. The Company incurred finance charges relating to such policies of $7 and $4 for the three months ended December 31, 2011 and 2010, respectively, and $32 and $31 for the nine months ended December 31, 2011 and 2010, respectively. As of December 31 and March 31, 2011, the accompanying unaudited condensed consolidated balance sheets include the following balances relating to the financed insurance policies.

	December 31, 2011		March 31, 2011

Prepaid insurance	$	1,249	$	3,108

Accrued insurance premiums	$	220	$	1,951
(Included in other current liabilities)

CLAIMS AND LAWSUITS – The Company and the Hospitals are subject to various legal proceedings, most of which relate to routine matters incidental to operations. The results of these claims cannot be predicted, and it is possible that the ultimate resolution of these matters, individually or in the aggregate, may have a material adverse effect on the Company's business (both in the near and long term), financial position, results of operations, or cash flows. Although the Company defends itself vigorously against claims and lawsuits and cooperates with investigations, these matters (1) could require payment of substantial damages or amounts in judgments or settlements, which individually or in the aggregate could exceed amounts, if any, that may be recovered under insurance policies where coverage applies and is available, (2) cause substantial expenses to be incurred, (3) require significant time and attention from the Company's management, and (4) could cause the Company to close or sell the Hospitals or otherwise modify the way its business is conducted. The Company accrues for claims and lawsuits when an unfavorable outcome is probable and the amount is reasonably estimable.

On January 6, 2012, the Regents of the University of California, acting on behalf of UC Irvine Healthcare, filed suit in the County of Orange Superior Court against Western Medical Center – Anaheim (WMC-A) for breach of contract based upon an allegation that WMC-A guaranteed payment for health care services provided to a patient WMC-A transferred to UCI Medical Center because that patient needed a higher level of care than WMC-A could provide. The Company has not yet filed its response to the complaint. At this early stage in the proceedings, the Company is unable to determine what effect, if any, this lawsuit will have on the Company’s results of operations.

There have been no material developments in the other matters identified in the Company’s Form 10-K filed with the SEC on June 24, 2011 or in the Company’s Form 10-Q for the quarterly periods ended June 30 and September 30, 2011.

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

FORWARD-LOOKING INFORMATION

This Quarterly Report on Form 10-Q contains forward-looking statements, as that term is defined in the Private Securities Litigation Reform Act of 1995. These statements relate to future events or our future financial performance. In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” “continue,” or the negative of these terms or other comparable terminology. These statements are only predictions and involve known and unknown risks, uncertainties and other factors, including the risks discussed under the caption “Risk Factors” in our Annual Report on Form 10-K filed on June 24, 2011 that may cause our Company's or our industry's actual results, levels of activity, performance, or achievements to be materially different from those expressed or implied by these forward-looking statements.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, or achievements. Except as may be required by applicable law, we do not intend to update any of the forward-looking statements to conform these statements to actual results.

As used in this report, the terms “we,” “us,” “our,” “the Company,” “Integrated Healthcare Holdings” or “IHHI” mean Integrated Healthcare Holdings, Inc., a Nevada corporation, unless otherwise indicated.

Unless otherwise indicated, all amounts included in this Item 2 are expressed in thousands (except percentages and per share amounts).

OVERVIEW

On March 8, 2005, we completed our acquisition (the "Acquisition") of four Orange County, California hospitals and associated real estate, including: (i) 282-bed Western Medical Center - Santa Ana, CA; (ii) 188-bed Western Medical Center - Anaheim, CA; (iii) 178-bed Coastal Communities Hospital in Santa Ana, CA; and (iv) 114-bed Chapman Medical Center in Orange, CA (collectively, the "Hospitals") from Tenet Healthcare Corporation. The Hospitals were assigned to our four wholly owned subsidiaries formed for the purpose of completing the Acquisition. We also acquired the following real estate, leases and assets associated with the Hospitals: (i) a fee interest in the Western Medical Center at 1001 North Tustin Avenue, Santa Ana, CA, a fee interest in the administration building at 1301 North Tustin Avenue, Santa Ana, CA, certain rights to acquire condominium suites located in the medical office building at 999 North Tustin Avenue, Santa Ana, CA, and the business known as the West Coast Breast Cancer Center; (ii) a fee interest in the Western Medical Center at 1025 South Anaheim Blvd., Anaheim, CA; (iii) a fee interest in the Coastal Communities Hospital at 2701 South Bristol Street, Santa Ana, CA, and a fee interest in the medical office building at 1901 North College Avenue, Santa Ana, CA; (iv) a lease for the Chapman Medical Center at 2601 East Chapman Avenue, Orange, CA, and a fee interest in the medical office building at 2617 East Chapman Avenue, Orange, CA; and (v) equipment and contract rights. At the closing of the Acquisition, we transferred all of the fee interests in the acquired real estate to Pacific Coast Holdings Investment, LLC ("PCHI"), a company owned indirectly by two of our largest shareholders.

SIGNIFICANT CHALLENGES

COMPANY - Our Acquisition involved significant cash expenditures, debt incurrence and integration expenses that has seriously strained our consolidated financial condition. If we are required to issue equity securities to raise additional capital or for any other reasons, existing stockholders will likely be substantially diluted, which could affect the market price of our stock. In April 2010 we issued equity securities to existing shareholders and a new lender (see "WARRANTS”).

INDUSTRY - Our Hospitals receive a substantial portion of their revenues from Medicare and Medicaid. The healthcare industry is experiencing a strong trend toward cost containment, as the government seeks to impose lower reimbursement and resource utilization group rates, limit the scope of covered services and negotiate reduced payment schedules with providers. These cost containment measures generally have resulted in a reduced rate of growth in the reimbursement for the services that we provide relative to the increase in our cost to provide such services.

Changes to Medicare and Medicaid reimbursement programs have limited, and are expected to continue to have limited, payment increases. Also, the timing of payments made under the Medicare and Medicaid programs is subject to regulatory action and governmental budgetary constraints resulting in a risk that the time period between submission of claims and payment could increase. Further, within the statutory framework of the Medicare and Medicaid programs, a substantial number of areas are subject to administrative rulings and interpretations which may further affect payments.

Our business is subject to extensive federal, state and, in some cases, local regulation with respect to, among other things, participation in the Medicare and Medicaid programs, licensure and certification of facilities, and reimbursement. These regulations relate, among other things, to the adequacy of physical property and equipment, qualifications of personnel, standards of care, government reimbursement and operational requirements. Compliance with these regulatory requirements, as interpreted and amended from time to time, can increase operating costs and thereby adversely affect the financial viability of our business. Since these regulations are amended from time to time and are subject to interpretation, we cannot predict when and to what extent liability may arise. Failure to comply with current or future regulatory requirements could also result in the imposition of various remedies including (with respect to inpatient care) fines, restrictions on admission, denial of payment for all or new admissions, the revocation of licensure, decertification, imposition of temporary management or the closure of a facility or site of service.

We are subject to periodic audits by the Medicare and Medicaid programs, which have various rights and remedies against us if they assert that we have overcharged the programs or failed to comply with program requirements. Rights and remedies available to these programs include repayment of any amounts alleged to be overpayments or in violation of program requirements, or making deductions from future amounts due to us. These programs may also impose fines, criminal penalties or program exclusions. Other third-party payer sources also reserve rights to conduct audits and make monetary adjustments in connection with or exclusive of audit activities.

The healthcare industry is highly competitive. We compete with a variety of other organizations in providing medical services, many of which have greater financial and other resources and may be more established in their respective communities than we are. Competing companies may offer newer or different centers or services than we do and may thereby attract patients or customers who are presently our patients or customers or are otherwise receiving our services.

An increasing trend in malpractice litigation claims, rising costs of malpractice litigation, losses associated with these malpractice lawsuits and a constriction of insurers have caused many insurance carriers to raise the cost of insurance premiums or refuse to write insurance policies for hospital facilities. Also, a tightening of the reinsurance market has affected property, vehicle, and excess liability insurance carriers. Accordingly, the costs of all insurance premiums have increased.

We receive all of our inpatient services revenue from operations in Orange County, California. The economic condition of this market could affect the ability of our patients and third-party payers to reimburse us for our services, through its effect on disposable household income and the tax base used to generate state funding for Medicaid programs. An economic downturn, or changes in the laws affecting our business in our market and in surrounding markets, could have a material adverse effect on our financial position, results of operations, and cash flows.

LIQUIDITY AND CAPITAL RESOURCES

The accompanying unaudited condensed consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and settlement of obligations in the normal course of business. We had a total stockholders’ deficiency of $8.6 million and a working capital deficit of $10.2 million at December 31, 2011. For the three and nine months ended December 31, 2011, we had net income of $12.5 million and $10.2 million, respectively.

Key items for the nine months ended December 31, 2011 included:

Net collectible revenues (net operating revenues less provision for doubtful accounts) for the nine months ended December 31, 2011 and 2010 were $280.5 million and $247.2 million, respectively, representing an increase of 13.5%. The Hospitals serve a disproportionate number of indigent patients and receive governmental revenues and subsidies in support of care for these patients. Governmental revenues include payments from Medicaid, Medicaid DSH, and Orange County, CA (CalOptima). Governmental net revenues increased $26.0 million for the nine months ended December 31, 2011 compared to the nine months ended December 31, 2010. The primary reason for the significant increase in governmental net revenues was $31.9 million in QAF payments received from the State of California.

Inpatient admissions decreased by 9.1% to 15.9 for the nine months ended December 31, 2011 compared to 17.5 for the nine months ended December 31, 2010. The decline in admissions is primarily related to reductions in managed care and obstetrics admissions. Adjusting for the shift to outpatient, adjusted admissions decreased by 5.6% for the nine months ended December 31, 2011 compared to the same period in fiscal year 2011.

Uninsured patients, as a percentage of gross charges, were 5.3% for the nine months ended December 31, 2011 compared to 5.6% for the nine months ended December 31, 2010.

Operating expenses: Management is working aggressively to reduce costs without reduction in service levels. These efforts have in large part been offset by inflationary pressures. Operating expenses before interest for the nine months ended December 31, 2011 were $292.9 million, or 6.7%, higher than during the nine months ended December 31, 2010. The primary reason for the significant increase in operating expenses was $15.9 million in QAF related fees paid to the State of California.

DEBT – On April 13, 2010 (the “Effective Date”), we entered into an Omnibus Credit Agreement Amendment (the “Omnibus Amendment”) with SPCP Group IV, LLC and SPCP Group, LLC (together, “Silver Point”), Silver Point Finance, LLC, as the Lender Agent, PCHI, Ganesha Realty LLC (“Ganesha”), Dr. Chaudhuri and KPC Resolution Company (“KPC”). KPC and Ganesha are companies owned and controlled by Dr. Chaudhuri, who is our majority shareholder. Ganesha owns a 49% membership interest in PCHI.

We entered into the Omnibus Amendment in connection with the Loan Purchase and Sale Agreement (the “Loan Purchase Agreement”), dated as of January 13, 2010, as amended, by and between KPC and the previous lender’s receiver. Under the Loan Purchase Agreement, and as approved by the Court on April 2, 2010, KPC agreed to purchase all of the Credit Agreements from Medical Capital Corporation’s receiver for $70.0 million. Concurrent with the closing of the Loan Purchase Agreement, KPC sold its interest in the Credit Agreements to Silver Point, and KPC purchased from Silver Point a 15% participation interest in the Credit Agreements. On April 13, 2010, concurrent with the effectiveness of the Omnibus Amendment and the closing of the Loan Purchase Agreement, Silver Point acquired all of the Credit Agreements, including the security agreements and other ancillary documents executed by us in connection with the Credit Agreements, and became the “New Lender” under the Credit Agreements.

The following are material terms of the Omnibus Amendment:

	●	The stated maturity date under each Credit Agreement was changed to April 13, 2013.

	●	Affirming release of prior claims between us and the previous lender’s receiver, Silver Point agreed to waive any events of default that had occurred under the Credit Agreements and waived claims to accrued and unpaid interest and fees of $6.4 million under the Credit Agreements as of April 13, 2010.

	●	The $80.0 million Credit Agreement was amended so that the $45.0 million term note (the “$45.0 million Loan”) and $35.0 million non-revolving line of credit note (the “$35.0 million Loan”) will each bear a fixed interest rate of 14.5% per year. These loans previously bore interest rates of 10.25% and 9.25%, respectively. In addition, we agreed to make certain mandatory prepayments of the $35.0 million Loan when it received proceeds from certain new financing of its accounts receivable or provider fee funds from Medi-Cal under the Hospital Quality Assurance Fee program (see “HOSPITAL QUALITY ASSURANCE FEES PROGRAM”). The $35.0 million non-revolving line of credit was refinanced on August 30, 2010 (see below).

	●	The $50.0 million Revolving Credit Agreement was amended so that Silver Point will, subject to the terms and conditions contained therein, make up to $10.0 million in new revolving funds available to us for working capital and general corporate purposes. Each advance under the $50.0 million Revolving Credit Agreement will bear interest at an annual rate of Adjusted LIBOR (calculated as LIBOR subject to certain adjustments, with a floor of 2% and a cap of 5%) plus 12.5%, compared to an interest rate of 24.0% that was previously in effect under the $50.0 million revolving credit agreement. In addition, we agreed to make mandatory prepayments of the $50.0 million Revolving Credit Agreement under the conditions described above with respect to the $80.0 million Credit Agreement. The financial covenants under the $50.0 million Revolving Credit Agreement were also amended to increase the required levels of minimum EBITDA (as defined in the Omnibus Amendment) from the levels previously in effect under the $50.0 million Revolving Credit Agreement. This $50.0 million revolving line of credit was refinanced on August 30, 2010 (see below).

	●	The $10.7 million Credit Agreement was amended so that the $10.7 million convertible term note will bear a fixed interest rate of 14.5% per year, compared to the interest rate of 9.25% previously in effect and to eliminate the conversion feature of the loan. In addition, we agreed to make mandatory prepayments of the $10.7 million Credit Agreement under the conditions described above with respect to the $80.0 million Credit Agreement. This $10.7 million term note was refinanced on August 30, 2010 (see below).

On August 30, 2010, we (excluding PCHI) entered into a Credit and Security Agreement (the “New Credit Agreement”) with MidCap Financial, LLC, a commercial finance lender specializing in loans to middle market health care companies, and Silicon Valley Bank (collectively, the “AR Lender”).

Under the New Credit Agreement, the AR Lender committed to provide up to $40.0 million in loans to us under a secured revolving credit facility (the “New Credit Facility”), which may be increased to up to $45.0 million upon our request, if the AR Lender consents to such increase. Upon execution of the New Credit Agreement, the AR Lender funded approximately $39.7 million of the New Credit Facility, which funds were used primarily to repay approximately $35.0 million in loans outstanding to affiliates of Silver Point (“Term Lender”). Upon such repayment, the remaining balances on our $35.0 million non-revolving line of credit loan, $50.0 million revolving credit agreement and $10.7 million credit agreement with the Term Lender were fully repaid and terminated. The only loan currently outstanding to the Term Lender consists of a $45.0 million Loan issued under our $80.0 million Credit Agreement.

The New Credit Facility is secured by a first priority security interest on substantially all of our assets, including the equity interests in all of our subsidiaries (excluding PCHI). The availability of the AR Lender’s commitments under the New Credit Facility is limited by a borrowing base tied to our eligible accounts receivable and certain other availability restrictions.

Loans under the New Credit Facility accrue interest at LIBOR (subject to a 2.5% floor) plus 5.0% per annum, subject to a default rate of interest and other adjustments provided for in the New Credit Agreement. For purposes of calculating interest, all payments we make on the New Credit Facility are subject to a six business day clearance period. We also pay a collateral management fee of .0625% per month on the outstanding balance (or a minimum balance amount equal to 85% of the monthly average borrowing base (the “Minimum Balance Amount”), if such amount is greater than the outstanding balance), a monthly minimum balance fee equal to the highest interest rate applicable to the loans if the Minimum Balance Amount is greater that the outstanding balance, and an unused line fee equal to .042% per month of the average unused portion of the New Credit Facility. We paid to the AR Lender a non-refundable origination fee of 1.0% of the AR Lender’s commitments under the New Credit Facility at closing.

Amendment to $80.0 million Credit Agreement – Concurrently with the execution of the New Credit Agreement, on August 30, 2010 we entered into an amendment to its existing $80.0 million Credit Agreement, as amended (the “Original Credit Agreement”), with the Term Lender, PCHI, and Ganesha. Under this amendment, we agreed with the Term Lender to the following material changes to the Original Credit Agreement:

	●	In the event of a mandatory prepayment of our accounts receivable based financing facility under the Original Credit Agreement, the outstanding loans under such agreement shall not be required to be prepaid below $10.0 million. There is also a floor of $10.0 million below which commitments under such accounts receivable based facility would not be mandatorily reduced as a result of such prepayment.

	●	The Original Credit Agreement was amended to add an affirmative covenant requiring us to deliver financial statements and other financial and non-financial information to the Term Lender on a regular basis, and a negative covenant requiring that we maintain a minimum fixed charge coverage ratio of 1.0 and minimum levels of earnings before interest, tax, depreciation and amortization.

	●	We agreed to the provisions of an Intercreditor Agreement executed on August 30, 2010 by and between the AR Lender and the Term Lender with respect to shared collateral of ours that is being pledged under both the New Credit Agreement and the Original Credit Agreement. Under the Intercreditor Agreement, among other things the Term Lender consented to the AR Lender having a first priority lien on substantially all of our assets while the Term Lender retained a second lien on such assets, in addition to the Term Lender’s first priority lien on our leased properties owned by PCHI.

On October 29, 2010, we entered into Amendment No. 1 (the “Amendment”) to the New Credit Agreement, dated as of August 30, 2010, by and among us and the AR Lender.

Under the Amendment, the AR Lender committed to increase the total revolving loan commitment amount under the New Credit Agreement from $40.0 million to $45.0 million, and we agreed to pay to the AR Lender a non-refundable origination fee of 1.0% of the AR Lender’s increased commitment under the Amendment, or $50.

Also under the Amendment, the AR Lender agreed to allow the inclusion in Eligible Accounts that are used to determine our Borrowing Base of up to $33.6 million in aggregate federal or state matching payments to us related to the Hospital Quality Assurance Fee program (see “HOSPITAL QUALITY ASSURANCE FEES PROGRAM”) which amount was increased from $11.8 million for the first matching payment.

Lastly, under the Amendment, in the event we permanently reduce our Revolving Loan Commitment Amount to $20.0 million (and assuming there is no Event of Default at the time), we would be permitted to transfer funds that are swept into the Lender’s account from our lockbox accounts to a different bank account designated by us. Effective March 1, 2011, we reduced our Revolving Loan Commitment Amount to $20.0 million. Beginning in April 2011, the funds that were previously swept into the Lender’s account were swept directly to our main account.

As of December 31, 2011, we had the following Credit Agreements:

	●	A $45.0 million Loan issued under the $80.0 million Credit Agreement, bearing a fixed interest rate of 14.5% per year ($45.0 million outstanding balance at December 31, 2011). If any event of default occurs and continues, the lender can increase the interest rate to 19.5% per year.

	●	A $20.0 million Revolving Credit Agreement, bearing an interest rate of 5.0% plus LIBOR, with a 2.5% floor, per year (7.5% at December 31, 2011) and an unused commitment fee of 0.625% per year ($20.0 million outstanding balance at December 31, 2011). For purposes of calculating interest, all payments we make on the New Credit Facility are subject to a six business day clearance period. As of December 31, 2011, we were in compliance with all financial covenants.

WARRANTS – On April 13, 2010, we issued warrants (the “Omnibus Warrants”) to purchase our common stock for a period of three years at an exercise price of $0.07 per share in the following denominations: 139.0 million shares to KPC or its designees and 96.0 million shares to the Term Lender or its designees. The Omnibus Warrants also provide the holders with certain pre-emptive, information and registration rights. As of April 13, 2010, we recorded warrant expense and the related warrant liability of $2.9 million, representing fair value. As of December 31, 2011, the fair value of the Omnibus Warrants was $74.

In addition, on April 13, 2010, we issued a three-year warrant (the “Release Warrant”) to acquire up to 170.0 million shares of common stock at $0.07 per share to Dr. Chaudhuri who facilitated a release enabling us to recover amounts due from our prior lender and a $1.0 million reduction in principal of our outstanding debt, among other benefits. As a result, we recorded the fair value of the Release Warrant ($2.1 million) as an offsetting cost of the recovery of amounts due from our prior lender. The Release Warrant also provides the holder with certain pre-emptive, information and registration rights. As of December 31, 2011, the fair value of the Release Warrant was $54.

The Omnibus Warrants and the Release Warrant are collectively referred to as the “April Warrants.” The net gain (loss) related to the April Warrants for the nine months ended December 31, 2011 and 2010 was $39 and $(181), respectively.

HOSPITAL QUALITY ASSURANCE FEES PROGRAM - In October 2009, the Governor of California signed legislation supported by the hospital industry to impose a provider fee on general acute care hospitals that, combined with federal matching funds, would be used to provide supplemental Medi-Cal payments to hospitals. The state submitted the plan to the Centers for Medicare and Medicaid Services (“CMS”) for a required review and approval process, and certain changes in the plan were required by CMS. Legislation amending the fee program to reflect the required changes was passed by the legislature and signed by the Governor on September 8, 2010. Among other changes, the legislation leaves distribution of “pass-through” payments received by Medi-Cal managed care plans that will be paid to hospitals under the program to the discretion of the plans.

The hospital quality assurance fee program (“QAF”) created by this legislation initially provided payments for up to 21 months retroactive to April 2009 and expiring on December 31, 2010 (“2010 QAF”). During fiscal year 2011, we recognized $87.2 million in revenue from the state for the 2010 QAF of which $1.8 million was received in April 2011 and is reflected as a receivable in our unaudited condensed consolidated balance sheet as of March 31, 2011. All other amounts had been received during fiscal year 2011. As of March 31, 2011, $378.6 of the other expenses relating to the 2010 QAF was accrued and included in other current liabilities in our unaudited condensed consolidated balance sheet.

In December 2011, CMS gave final approval for the extension of the QAF for the six month period from January 1 through June 30, 2011 (“2011 QAF”).

During the three months ended December 31, 2011, we recognized $31.9 million in revenue from the state for the 2011 QAF ($18.4 million from the fee-for-service portion and $13.5 million from the supplemental managed care portion). The $18.4 million fee-for-service portion was received prior to December 31, 2011. The managed care portion of $13.5 million is expected to be received in March 2011.

We recorded expenses of $15.1 million for the 2011 QAF fees paid to the state and $0.8 million in other expenses relating to the 2011 QAF. As of December 31, 2011, $0.6 million of the other expenses relating to the QAF was accrued.

We cannot provide any assurances or estimates in connection with a possible continuation of the QAF program beyond June 30, 2011.

ELECTRONIC HEALTH RECORDS INCENTIVE PROGRAM – Provisions of the American Recovery and Reinvestment Act of 2009 provide incentive payments for the adoption and meaningful use of certified electronic health record (EHR) technology. The Medicare EHR incentive program provides incentive payments to eligible hospitals (and certain other providers) that are meaningful users of certified EHRs. The Medicaid EHR incentive program provides incentive payments to eligible hospitals (and certain other providers) for efforts to adopt, implement, upgrade, or meaningfully use of certified EHR technology.

CMS has established the final rule which requires eligible providers in their first year of participation in the Medicaid incentive payment program to demonstrate that they have adopted (acquired, purchased, or secured access to), or implemented, or upgraded to certified EHR technology in order to qualify for an incentive payment. During the second and subsequent years of the program, eligible providers are required to meet other criteria, including meaningful use, to receive additional funds. We have been awarded a total amount of $13.6 million under the Medicaid EHR incentive program, which will be earned and received over a four year period.

We adopted certified EHR technology and recognized income of $6.8 million relative to the first year under the Medicaid EHR incentive program during the three and nine months ended December 31, 2011. We received $2.6 million under the program as of December 31, 2011 and received the remaining $4.2 million in January 2012.

LONG TERM LEASE COMMITMENT WITH VARIABLE INTEREST ENTITY – On April 13, 2010, we and PCHI entered into a Second Amendment to Amended and Restated Triple Net Hospital Building Lease (the “2010 Lease Amendment”). Under the 2010 Lease Amendment, the annual base rent to be paid to PCHI was increased from $5.4 million to $7.3 million, but if PCHI refinances the $45.0 million Loan, the annual base rent may increase to $8.3 million. This lease commitment with PCHI is eliminated in consolidation.

COMMITMENTS AND CONTINGENCIES – The State of California has imposed new hospital seismic safety requirements. Under these new requirements, the Hospitals must meet stringent seismic safety criteria in the future. In addition, there could be other remediation costs pursuant to this seismic retrofit.

The State of California has introduced a new seismic review methodology known as HAZUS. The HAZUS methodology may preclude the need for some structural modifications. All four Hospitals requested HAZUS review and received a favorable notice pertaining to structural reclassification. All Hospital buildings, with the exception of one (an administrative building), have been deemed compliant until January 1, 2030 for both structural and nonstructural retrofit. We do not have an estimate of the cost to remediate the seismic requirements for the administrative building as of December 31, 2011.

There are additional requirements that must be complied with by 2030. The costs of meeting these requirements have not yet been determined. Compliance with seismic ordinances will be costly and could have a material adverse effect on our cash flow. In addition, remediation could possible result in certain environmental liabilities, such as asbestos abatement.

On July 1, 2011, we entered into software and services agreements with McKesson Technologies Inc. (“McKesson”) to upgrade our information technology systems.

Under the agreements, McKesson will provide us with a variety of services, including new software implementation and education/training services for our personnel, software maintenance services and professional services related to movement and migration of data from legacy systems. McKesson will also furnish to us and maintain new hardware to accommodate the upgraded software and systems. The new hardware will include computers and servers, among other things, and will include installation, testing, and ongoing maintenance. We have entered into the arrangement to enhance our clinical information systems and upgrade our billing and revenue management information systems.

The agreements will initially run for a period of five years, and the recurring services may be renewed by us for successive periods. The agreements do not provide that they may be terminated by us prior to the initial expiration date. The agreements provide for one-time fees and recurring fees which aggregate a total of $22.0 million. Approximately 60% of the fees are for one-time charges, while the balance is for recurring services.

CASH FLOW - Net cash provided by (used in) operating activities for the nine months ended December 31, 2011 and 2010 was $(13.8) million and $1.8 million, respectively. Net income (loss), adjusted for depreciation and other non-cash items, excluding the provision for doubtful accounts and net income from noncontrolling interests (not a measurement under accounting principles generally accepted in the United States of America (“GAAP”)), totaled $14.1 million and $(1.7) million for the nine months ended December 31, 2011 and 2010, respectively. We provided (used) $(27.6) million (including $10.8 million for income taxes) and $3.8 million in working capital for the nine months ended December 31, 2011 and 2010, respectively. Net cash provided (used) in payment of accounts payable, accrued compensation and benefits and other current liabilities was $(3.1) million and $1.6 million for the nine months ended December 31, 2011 and 2010, respectively. Cash provided by accounts receivable, net of provision for doubtful accounts, was $2.3 million and $8.0 million for the nine months ended December 31, 2011 and 2010, respectively.

Net cash used in investing activities during the nine months ended December 31, 2011 and 2010 was $1.7 million and $1.2 million, respectively. During the nine months ended December 31, 2011 and 2010, we invested $1.7 million and $1.2 million in cash, respectively, in new equipment.

Net cash used in financing activities for the nine months ended December 31, 2011 and 2010 was $1.1 million and $6.2 million, respectively.

RESULTS OF OPERATIONS AND FINANCIAL CONDITION

The following table sets forth, for the three and nine months ended December 31, 2011 and 2010, our unaudited condensed consolidated statements of operations expressed as a percentage of net operating revenues.

	Three months ended December 31,						Nine months ended December 31,
	2011			2010			2011			2010

Net operating revenues		100.0	%		100.0	%		100.0	%		100.0	%

Operating expenses:
Salaries and benefits		45.6	%		60.2	%		53.0	%		57.4	%
Supplies		11.4	%		14.5	%		13.1	%		14.4	%
Provision for doubtful accounts		7.3	%		8.8	%		8.5	%		9.9	%
Other operating expenses		26.0	%		17.6	%		20.0	%		17.2	%
Depreciation and amortization		0.8	%		1.2	%		1.0	%		1.2	%
		91.1	%		102.3	%		95.6	%		100.1	%

Operating income (loss)		8.9	%		(2.3	%)		4.4	%		(0.1	%)

Other income (expense):
Income from electronic health records incentive program		5.5	%		0.0	%		2.2	%		0.0	%
Interest expense, net		(2.0	%)		(3.3	%)		(2.5	%)		(3.4	%)
Income (loss) on warrants		0.2	%		1.3	%		0.0	%		0.0	%
		3.7	%		(2.0	%)		(0.3	%)		(3.4	%)

Income (loss) before income tax provision (benefit)		12.6	%		(4.3	%)		4.1	%		(3.5	%)
Income tax provision (benefit)		2.3	%		(4.8	%)		0.7	%		(1.6	%)
Net income (loss)		10.3	%		0.5	%		3.4	%		(1.9	%)
Net income attributable to
noncontrolling interests		(0.1	%)		(0.1	%)		(0.1	%)		(0.1	%)
Net income (loss) attributable to
Integrated Healthcare Holdings, Inc.		10.2	%		0.4	%		3.3	%		(2.0	%)

THREE MONTHS ENDED DECEMBER 31, 2011 COMPARED TO THREE MONTHS ENDED DECEMBER 31, 2010

NET OPERATING REVENUES - Net operating revenues for the three months ended December 31, 2011 increased 37.6% compared to the same period in fiscal year 2011, from $89.4 million to $123.0 million. Net operating revenues for the three months ended December 31, 2011 included QAF payments of $31.9 million. Admissions for the three months ended December 31, 2011 decreased 6.9% compared to the same period in fiscal year 2011. A significant factor in the decline in admissions is the result of lower obstetrical deliveries. Net operating revenues per admission improved by 47.8% during the three months ended December 31, 2011 as a result of QAF payments received, improved trauma case reimbursement, a decrease in self-pay admissions and visits, and negotiated managed care and governmental payment rate increases. Adjusting for the shift to outpatient, adjusted admissions decreased by 3.3% for the three months ended December 31, 2011 compared to the same period in fiscal year 2011.

Essentially all net operating revenues come from external customers. The largest payers are the Medicare and Medicaid programs accounting for 68% and 58% of the net operating revenues for the three months ended December 31, 2011 and 2010, respectively.

Uninsured patients, as a percentage of gross charges, decreased to 5.3% from 5.4% for the three months ended December 31, 2011 compared to the three months ended December 31, 2010.

Although not a GAAP measure, we define "Net Collectible Revenues" as net operating revenues less provision for doubtful accounts. This eliminates the distortion caused by the changes in patient account classification. Net collectible revenues (net operating revenues less provision for doubtful accounts) for the three months ended December 31, 2011 and 2010 were $114.0 million and $81.5 million, respectively, representing an increase of 39.9%. Net Collectible Revenues increased due to the reasons discussed above. The Hospitals serve a disproportionate number of indigent patients and receive governmental revenues and subsidies in support of care for these patients. Governmental revenues include payments from Medicaid, Medicaid DSH, and Orange County, CA (CalOptima). Governmental net revenues increased $31.1 million for the three months ended December 31, 2011 compared to the three months ended December 31, 2010. The primary reason for the significant increase in governmental revenues was $31.9 million in QAF payments received from the State of California.

OPERATING EXPENSES - Operating expenses for the three months ended December 31, 2011 increased to $112.2 million from $91.5 million, an increase of $20.7 million, or 22.6%, compared to the same period in fiscal year 2011. Operating expenses expressed as a percentage of net operating revenues for the three months ended December 31, 2011 and 2010 were 91.1% and 102.3%, respectively. On a per admission basis, operating expenses increased 31.8%.

Salaries and benefits increased $2.3 million (4.3%) for the three months ended December 31, 2011 compared to the same period in fiscal year 2011. The increase is primarily due to increases in contract labor utilization and cost of employee health and workers compensation insurance of $0.4 million and $1.2 million, respectively.

Other operating expenses during the three months ended December 31, 2011 increased to $32.0 million from $15.7 million, an increase of $16.3 million, or 103.8%, compared to the same period in fiscal 2011, primarily due to QAF related fees of $15.9 million.

The provision for doubtful accounts for the three months ended December 31, 2011 was $9.0 million compared to $7.9 million for the three months ended December 31, 2010, representing a 13.9% increase. The primary reasons for the increase were due to additional allowances for aged managed care and commercial accounts, and self-pay balances after insurance aggregating $0.8 million.

OPERATING INCOME (LOSS) - The operating income (loss) for the three months ended December 31, 2011 and 2010 was $10.9 million and $(2.0) million, respectively.

OTHER INCOME (EXPENSE) – We adopted certified EHR technology and recognized other income of $6.8 million under the Medicaid EHR incentive program during the three months ended December 31, 2011.

Interest expense for the three months ended December 31, 2011 was $2.4 million compared to $2.9 million for the same period in fiscal year 2011.

On April 13, 2010, we issued warrants which had a fair value at the date of issuance of $5.0 million. Of the fair value on April 13, 2010, $2.1 million was related to the warrants issued to Dr. Chaudhuri and were a component of the recovery of overswept funds by our previous lender that was recorded during fiscal year 2010. The remaining $2.9 million was recorded as warrant expense during fiscal year 2011. As of December 31, 2011, the fair value of the warrants aggregated $128. The gain related to the change in the fair value of the April Warrants for the three months ended December 31, 2011 and 2010 was $0.3 million and $1.1 million, respectively. See “DEBT.”

NET INCOME - Net income for the three months ended December 31, 2011 and 2010 was $12.5 million and $0.37 million, respectively.

NINE MONTHS ENDED DECEMBER 31, 2011 COMPARED TO NINE MONTHS ENDED DECEMBER 31, 2010

NET OPERATING REVENUES - Net operating revenues for the nine months ended December 31, 2011 increased 11.7% compared to the same period in fiscal year 2011, from $274.4 million to $306.4 million. Net operating revenues for the nine months ended December 31, 2011 included QAF payments of $31.9 million. Admissions for the nine months ended December 31, 2011 decreased 9.1% compared to the same period in fiscal year 2011. The decline in admissions is the combined result of lower obstetrical deliveries and psychiatric admissions. Net operating revenues per admission improved by 23.3% during the nine months ended December 31, 2011 as a result of QAF payments received, improved trauma case reimbursement, negotiated managed care, and governmental payment rate increases. Adjusting for the shift to outpatient, adjusted admissions decreased by 5.6% for the nine months ended December 31, 2011 compared to the same period in fiscal year 2011.

Essentially all net operating revenues come from external customers. The largest payers are the Medicare and Medicaid programs accounting for 60% and 58% of the net operating revenues for the nine months ended December 31, 2011 and 2010, respectively.

Uninsured patients, as a percentage of gross charges, decreased to 5.3% from 5.6% for the nine months ended December 31, 2011 compared to the nine months ended December 31, 2010.

Although not a GAAP measure, we define "Net Collectible Revenues" as net operating revenues less provision for doubtful accounts. This eliminates the distortion caused by the changes in patient account classification. Net collectible revenues (net operating revenues less provision for doubtful accounts) for the nine months ended December 31, 2011 and 2010 were $280.5 million and $247.2 million, respectively, representing an increase of 13.5%. The Hospitals serve a disproportionate number of indigent patients and receive governmental revenues and subsidies in support of care for these patients. Governmental revenues include payments from Medicaid, Medicaid DSH, and Orange County, CA (CalOptima). Governmental net revenues increased $26.0 million for the nine months ended December 31, 2011 compared to the nine months ended December 31, 2010. The primary reason for the significant increase in governmental revenues was $31.9 million in QAF payments received from the State of California.

OPERATING EXPENSES - Operating expenses for the nine months ended December 31, 2011 increased to $292.9 million from $274.6 million, an increase of $18.3 million, or 6.7%, compared to the same period in fiscal year 2011. Operating expenses expressed as a percentage of net operating revenues for the nine months ended December 31, 2011 and 2010 were 95.6% and 100.1%, respectively. On a per admission basis, operating expenses increased 17.8%.

Salaries and benefits increased $5.0 million (3.2%) for the nine months ended December 31, 2011 compared to the same period in fiscal year 2011. The increase is primarily due to increases in contract labor utilization and cost of employee health insurance of $1.1 million and $3.1 million, respectively.

Other operating expenses during the nine months ended December 31, 2011 increased to $61.2 million from $47.1 million, an increase of $14.1 million, or 29.9%, compared to the same period in fiscal 2011, primarily due to QAF related fees of $15.9 million.

The provision for doubtful accounts for the nine months ended December 31, 2011 was $25.9 million compared to $27.2 million for the nine months ended December 31, 2010, representing a 4.8% decrease. The primary reason for the decrease was due to a decrease in self-pay revenues of $1.2 million.

OPERATING INCOME (LOSS) - The operating income (loss) for the nine months ended December 31, 2011 and 2010 was $13.5 million and $(0.2) million, respectively.

OTHER INCOME (EXPENSE) – We adopted certified EHR technology and recognized other income of $6.8 million under the Medicaid EHR incentive program during the nine months ended December 31, 2011.

Interest expense for the nine months ended December 31, 2011 was $7.8 million compared to $9.2 million for the same period in fiscal year 2011. The decrease primarily related to lower outstanding borrowings under our revolving line of credit, which was partially offset by accelerated amortization of debt issuance costs of $0.33 million as a result of the reduction in our $40 million Revolving Line of Credit to $20 million.

On April 13, 2010, we issued warrants which had a fair value at the date of issuance of $5.0 million. Of the fair value on April 13, 2010, $2.1 million was related to the warrants issued to Dr. Chaudhuri and were a component of the recovery of overswept funds by our previous lender that was recorded during fiscal year 2010. The remaining $2.9 million was recorded as warrant expense during fiscal year 2011. As of December 31, 2011, the fair value of the warrants aggregated $128. The gain (loss) related to the change in the fair value of the April Warrants for the nine months ended December 31, 2011 and 2010 was $39 and $(181), respectively. See “DEBT.”

NET INCOME (LOSS) – Net income (loss) for the nine months ended December 31, 2011 and 2010 was $10.2 million and $(5.5) million, respectively.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

REVENUE RECOGNITION - Net operating revenues are recognized in the period in which services are performed and are recorded based on established billing rates (gross charges) less estimated discounts for contractual allowances, principally for patients covered by Medicare, Medicaid, managed care, and other health plans. Gross charges are retail charges based on our Charge Description Master. They are not the same as actual pricing, and they generally do not reflect what a hospital is ultimately paid and therefore are not displayed in our consolidated statements of operations. Hospitals are typically paid amounts that are negotiated with insurance companies or are set by the federal government or the state government. Gross charges are used to calculate Medicare outlier payments and to determine certain elements of payment under managed care contracts (such as stop-loss payments). Since Medicare requires a hospital's gross charges be the same for all patients (regardless of payer category), gross charges are also what the Hospitals charge all other patients prior to the application of discounts and allowances.

Revenues under the traditional fee-for-service Medicare and Medicaid programs are based primarily on prospective payment systems. Discounts for retrospectively cost based revenues and certain other payments, which are based on the Hospitals' cost reports, are estimated using historical trends and current factors. Cost report settlements for retrospectively cost-based revenues under these programs are subject to audit, and administrative and judicial review, which can take several years until final settlement of such matters are determined and completely resolved. Estimates of settlement receivables or payables related to a specific year are updated periodically, at year end, and at the time the cost report is filed with the fiscal intermediary. Typically no further updates are made to the estimates until the final Notice of Program Reimbursement is received, at which time the cost report for that year has been audited by the fiscal intermediary. There could be several years’ time lag between the submission of a cost report and receipt of the Final Notice of Program Reimbursement. Since the laws, regulations, instructions and rule interpretations governing Medicare and Medicaid reimbursement are complex and change frequently, the estimates recorded by the Hospitals could change by material amounts. We have established settlement receivables of $213 and $456 as of December 31and March 31, 2011, respectively.

Our Hospitals receive supplemental payments from the State of California to support indigent care (Medi-Cal Disproportionate Share Hospital payments or "DSH") and from the California Medical Assistance Commission ("CMAC") under the SB 1100 and SB 1255 programs. The Hospitals received supplemental payments of $4.0 million and $7.3 million during the three months ended December 31, 2011 and 2010, respectively, and $9.9 million and $18.4 million during the nine months ended December 31, 2011 and 2010, respectively. The related revenue recorded for the three months ended December 31, 2011 and 2010, was $3.1 million and $4.9 million, respectively, and $10.5 million and $16.0 million during the nine months ended December 31, 2011 and 2010, respectively. As of December 31 and March 31, 2011, estimated DSH receivables were $4.4 million and $2.4 million, respectively.

Revenues under managed care plans are based primarily on payment terms involving predetermined rates per diagnosis, per-diem rates, discounted fee-for-service rates and/or other similar contractual arrangements. These revenues are also subject to review and possible audit by the payers. The payers are billed for patient services on an individual patient basis. An individual patient's bill is subject to adjustment on a patient-by-patient basis in the ordinary course of business by the payers following their review and adjudication of each particular bill. The Hospitals estimate the discounts for contractual allowances utilizing billing data on an individual patient basis. We believe the estimation and review process allows for timely identification of instances where such estimates need to be revised. We do not believe there were any adjustments to estimates of individual patient bills that were material to our net operating revenues.

Our Hospitals provide charity care to patients whose income level is below 300% of the Federal Poverty Level. Patients with income levels between 300% and 350% of the Federal Poverty Level qualify to pay a discounted rate under AB 774 based on various government program reimbursement levels. Patients without insurance are offered assistance in applying for Medicaid and other programs they may be eligible for, such as state disability, Victims of Crime, or county indigent programs. Patient advocates from our Hospitals' Medical Eligibility Program ("MEP") screen patients in the hospital and determine potential linkage to financial assistance programs. They also expedite the process of applying for these government programs. The estimated costs (based on direct and indirect costs as a ratio of gross uncompensated charges associated with providing care to charity patients) for the three months ended December 31, 2011 and 2010 were approximately $2.5 million and $1.7 million, respectively, and $6.3 million and $6.3 million for the nine months ended December 31, 2011 and 2010, respectively.

We receive payments for “eligible alien” care under Section 1011 of the Medicare Modernization Act of 2003. As of December 31 and March 31, 2011, we established a receivable in the amount of $1.3 million and $1.6 million, respectively, related to discharges deemed eligible to meet program criteria.

We are not aware of any material claims, disputes, or unsettled matters with any payers that would affect revenues that have not been adequately provided for in our unaudited condensed consolidated financial statements.

PROVISION FOR DOUBTFUL ACCOUNTS - We provide for accounts receivable that could become uncollectible by establishing an allowance to reduce the carrying value of such receivables to their estimated net realizable value. Our Hospitals estimate this allowance based on the aging of their accounts receivable, historical collections experience for each type of payer and other relevant factors. There are various factors that can impact the collection trends, such as changes in the economy, which in turn have an impact on unemployment rates and the number of uninsured and underinsured patients, volume of patients through the emergency department, the increased burden of copayments to be made by patients with insurance and business practices related to collection efforts. These factors continuously change and can have an impact on collection trends and the estimation process.

Our policy is to attempt to collect amounts due from patients, including copayments and deductibles due from patients with insurance, at the time of service while complying with all federal and state laws and regulations, including, but not limited to, the Emergency Medical Treatment and Labor Act ("EMTALA"). Generally, as required by EMTALA, patients may not be denied emergency treatment due to inability to pay. Therefore, until the legally required medical screening examination is complete and stabilization of the patient has begun, services are performed prior to the verification of the patient's insurance, if any. In nonemergency circumstances or for elective procedures and services, it is our Hospitals' policy, when appropriate, to verify insurance prior to a patient being treated.

INCOME TAXES - Deferred income tax assets and liabilities are determined based on the differences between the book and tax basis of assets and liabilities and are measured using the currently enacted tax rates and laws using the asset and liability method. We assess the realization of deferred tax assets to determine whether an income tax valuation allowance is required. We have recorded a 100% valuation allowance on its deferred tax assets.

We and our subsidiaries file income tax returns in the U.S. federal jurisdiction and California. Certain tax attributes carried over from prior years continue to be subject to adjustment by taxing authorities. Any penalties or interest arising from federal or state taxes are recorded as a component of our income tax provision.

INSURANCE - We accrue for estimated general and professional liability claims, to the extent not covered by insurance, when they are probable and reasonably estimable. We have purchased as primary coverage a claims-made form insurance policy for general and professional liability risks. Estimated losses within general and professional liability retentions from claims incurred and reported, along with incurred but not reported (“IBNR”) claims, are accrued based upon projections and are discounted to their net present value using a weighted average risk-free discount rate of 5%. To the extent that subsequent claims information varies from estimates, the liability is adjusted in the period such information becomes available. As of December 31 and March 31, 2011, we had accrued $13.0 million and $14.0 million, respectively, which is comprised of $5.2 million and $6.6 million, respectively, in incurred and reported claims, along with $7.8 million and $7.4 million, respectively, in estimated IBNR. Estimated insurance recoveries of $3.0 million and $2.7 million are included in other prepaid expenses and current assets as of December 31 and March 31, 2011, respectively.

We have also purchased occurrence coverage insurance to fund our obligations under our workers compensation program. We have a "guaranteed cost" policy, under which the carrier pays all workers compensation claims, with no deductible or reimbursement required of us. We accrue for estimated workers compensation claims, to the extent not covered by insurance, when they are probable and reasonably estimable. The ultimate costs related to this program include expenses for deductible amounts associated with claims incurred and reported in addition to an accrual for the estimated expenses incurred in connection with IBNR claims. Claims are accrued based upon projections and are discounted to their net present value using a weighted average risk-free discount rate of 5%. To the extent that subsequent claims information varies from estimates, the liability is adjusted in the period such information becomes available. As of December 31 and March 31, 2011, we had accrued $800 and $836, respectively, comprised of $442 and $434, respectively, in incurred and reported claims, along with $358 and $402, respectively, in estimated IBNR.

In addition, we have a self-insured health benefits plan for our employees. As a result, we have established and maintain an accrual for IBNR claims arising from self-insured health benefits provided to employees. Our IBNR accruals at December 31 and March 31, 2011 were based upon projections. We determine the adequacy of this accrual by evaluating our limited historical experience and trends related to both health insurance claims and payments, information provided by our insurance broker and third party administrator and industry experience and trends. The accrual is an estimate and is subject to change. Such change could be material to our consolidated financial statements. As of December 31 and March 31, 2011, we had accrued $2.2 million and $1.8 million, respectively, in estimated IBNR. We believe this is the best estimate of the amount of IBNR relating to self-insured health benefit claims at December 31 and March 31, 2011.

We have also purchased umbrella liability policies with aggregate limits of $25 million. The umbrella policies provide coverage in excess of the primary layer and applicable retentions for insured liability risks such as general and professional liability, auto liability, and workers compensation (employers liability).

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

As of December 31, 2011, the Company did not have any investment in, or outstanding liabilities under, market rate sensitive instruments. The Company does not enter into hedging instrument arrangements.

ITEM 4. CONTROLS AND PROCEDURES.

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company's reports under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to the Company's management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure based closely on the definition of "disclosure controls and procedures" in Rule 15d-15(e) under the Exchange Act. The Company's disclosure controls and procedures are designed to provide a reasonable level of assurance of reaching the Company's desired disclosure control objectives. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

As of December 31, 2011, the end of the period of this report, the Company carried out an evaluation, under the supervision and with the participation of the Company's management, including the Company's Chief Executive Officer and the Company's Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures. Based on that evaluation, the Company's Chief Executive Officer and Chief Financial Officer concluded that as of December 31, 2011 the Company's disclosure controls and procedures were effective to ensure that the information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to the Company’s management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

During the three months ended December 31, 2011, there were no changes in the Company's internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.

PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

The Company and the Hospitals are subject to various legal proceedings, most of which relate to routine matters incidental to operations. The results of these claims cannot be predicted, and it is possible that the ultimate resolution of these matters, individually or in the aggregate, may have a material adverse effect on the Company's business (both in the near and long term), financial position, results of operations, or cash flows. Although the Company defends itself vigorously against claims and lawsuits and cooperates with investigations, these matters (1) could require payment of substantial damages or amounts in judgments or settlements, which individually or in the aggregate could exceed amounts, if any, that may be recovered under insurance policies where coverage applies and is available, (2) cause substantial expenses to be incurred, (3) require significant time and attention from the Company's management, and (4) could cause the Company to close or sell the Hospitals or otherwise modify the way its business is conducted. The Company accrues for claims and lawsuits when an unfavorable outcome is probable and the amount is reasonably estimable.

ITEM 1A. RISK FACTORS

CONCENTRATION OF BUSINESS – Since the Company’s business is currently limited to the southern California area, any reduction in its revenues and profitability from a local economic downturn would not be offset by operations in other geographic areas.

To date, the Company has developed its business within only one geographic area to take advantage of economies of scale. Due to this concentration of business in a single geographic area, the Company is exposed to potential losses resulting from the risk of an economic downturn in southern California. If economic conditions deteriorate in southern California, the Company’s patient volumes and revenues may decline, which could significantly reduce its profitability.

There are no other material changes from the risk factors previously disclosed in the Company’s Annual Report on Form 10-K for the fiscal year ended March 31, 2011.

ITEM 6. EXHIBITS

Exhibit Number		Description

3.1		Amended and Restated Bylaws

31.1		Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

31.2		Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32.1		Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2		Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

101.INS	XBRL Instance Document
101.SCH	XBRL Schema Document
101.CAL	XBRL Calculation Linkbase Document
101.DEF	XBRL Definition Linkbase Document
101.LAB	XBRL Label Linkbase Document
101.PRE	XBRL Presentation Linkbase Document

SIGNATURES

In accordance with the requirements of the Securities Exchange Act of 1934, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	INTEGRATED HEALTHCARE HOLDINGS, INC.

Dated: February 10, 2012	By:	/s/ Steven R. Blake
		Steven R. Blake
		Chief Financial Officer (Principal Financial Officer)

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