UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

For the quarterly period ended June 30, 2020

OR

For the transition period from                      to                     

Commission File Number: 001-39427

Oak Street Health, Inc.

(Exact Name of Registrant as Specified in its Charter)

Registrant’s telephone number, including area code: (312) 733-9730

Securities registered pursuant to Section 12(b) of the Act:

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  ☐    No  ☒

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes  ☒    No  ☐

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).      Yes  ☐    No  ☒

As of September 10, 2020, the registrant had 17,968,750 shares of common stock, $0.001 par value per share, outstanding.

FORWARD-LOOKING STATEMENTS

Throughout this Quarterly Report on Form 10-Q, we make “forward-looking statements” within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements describe future expectations, plans, results or strategies and can often be identified by the use of terminology such as “may,” “will,” “estimate,” “intend,” “plan,” “continue,” “believe,” “expect,” “anticipate,” “target,” “should,” “could,” “potential,” “opportunity,” “goal” or similar terminology. The forward-looking statements contained in this Quarterly Report on Form 10-Q are generally located in the material set forth under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations” but may be found in other locations as well. These statements are based upon management’s current expectations, assumptions and estimates and are not guarantees of timing, future results or performance. Therefore, you should not rely on any of these forward-looking statements as predictions of future events. Actual results may differ materially from those contemplated in these statements due to a variety of risks and uncertainties and other factors, including, among other things:

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We derive many of our forward-looking statements from our operating budgets and forecasts, which are based on many detailed assumptions. While we believe that our assumptions are reasonable, we caution that it is very difficult to predict the impact of known factors, and it is impossible for us to anticipate all factors that could affect our actual results. Important factors that could cause actual results to differ materially from our expectations, or cautionary statements, are disclosed under the sections entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Quarterly Report on Form 10-Q. All written and oral forward-looking statements attributable to us, or persons acting on our behalf, are expressly qualified in their entirety by these cautionary statements as well as other cautionary statements that are made from time to time in our other SEC filings and public communications. You should evaluate all forward-looking statements made in this Quarterly Report on Form 10-Q in the context of these risks and uncertainties.

We caution you that the important factors referenced above may not contain all of the factors that are important to you. In addition, we cannot assure you that we will realize the results or developments we expect or anticipate or, even if substantially realized, that they will result in the consequences or affect us or our operations in the way we expect. The forward-looking statements included in this Quarterly Report on Form 10-Q are made only as of the date hereof. We undertake no obligation to update or revise any forward-looking statement as a result of new information, future events or otherwise, except as otherwise required by law.

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Oak Street Health, Inc.

BALANCE SHEETS

The accompanying notes are an integral part of this balance sheet.

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Oak Street Health, Inc.

NOTES TO BALANCE SHEETS

(in thousands, except unit and per-unit data)

(Unaudited)

Oak Street Health, Inc. (the “Company”, “we”) was formed as a Delaware corporation on October 22, 2019. The Company was formed for the purpose of completing a public offering (“IPO”) and related transactions in order to carry on the business of Oak Street Health, LLC (“OSH LLC”) and affiliates.

Basis of Accounting

The balance sheet is presented in accordance with accounting principles generally accepted in the United States of America. Separate statements of operations, comprehensive income, changes in stockholder’s equity and cash flows have not been presented because there have been no activities in this entity as of June 30, 2020.

The Company was authorized to issue 1,000 shares of common stock, par value $0.001 per share, none of which was issued or outstanding as of June 30, 2020. In connection with the Company’s IPO described in Note 4, the Company increased its authorized shares in August 2020.

The Company has evaluated subsequent events through September 16, 2020, the date that this financial statement was issued.

Initial Public Offering

On August 5, 2020, our IPO Registration Statement on Form S-1 to register 17,968,750 shares of common stock, par value $0.001 per share, was declared effective by the Securities & Exchange Commission. Our common stock began trading on August 6, 2020 on the New York Stock Exchange (“NYSE”) under the ticker symbol “OSH.” As a result, our financial statements as of June 30, 2020 do not reflect the impact of the IPO.

On August 10, 2020, we completed our IPO in which we issued and sold 17,968,750 shares of our common stock at an offering price of $21.00 per share. This share amount includes the exercise in full of the underwriters’ options to purchase 2,343,750 additional shares of our common stock. We received net proceeds of $351,703, after deducting underwriting discounts and commissions of $22,641 and estimated deferred offering costs of $3,000. Deferred, direct offering costs are capitalized and consist of fees and expenses incurred in connection with the sale of our common stock in our IPO, including the legal, accounting, printing and other IPO-related costs. Upon completion of the IPO, these deferred offering costs were reclassified to stockholders’ equity of the Company and recorded against the net proceeds from the offering. On August 10, 2020, we increased our authorized shares to 500,000,000 shares of our common stock and 50,000,000 shares of our preferred stock, par value $0.001.

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Conversion of Existing Equity

The membership interests of OSH LLC, a wholly owned subsidiary of the Company, contain five classes of Units, consisting of voting classes of Units known as Founders’ Units (the “Founders’ Units”) and three classes of Investor Units known as Investor Units I, Investor Units II and Investor Units III (collectively with the Initial Investor Units, the “Investor Units”) and a non-voting class of Units (the “Incentive Units”). While OSH LLC’s Investor Units had no conversion rights related to any of the Investor Unit classes, in response to a reorganization plan to convert OSH LLC into a corporate form (per OSH LLC’s Amended and Restated Operating Agreement), Investor Unit holders were eligible to receive capital stock of the Company in number of and with terms relatively consistent to their Investor Units, as ultimately determined by the Company’s Board of Directors.

In March 2018, OSH LLC’s Board of Directors approved the Amended and Restated Equity Incentive Plan (the “Incentive Plan”). The Incentive Plan states that in the occurrence of an IPO, the Board may, in its discretion, (i) cause the exchange of Incentive Units for units or shares of common stock or other equity securities and apply the vesting provisions applicable to the Incentive Units to such shares of common stock or other equity securities; (ii) adjust the number of Incentive Units issued under the Incentive Plan or under any particular award; (iii) adjust the hurdle value applicable to any Incentive Units; and/or (iv) cancel all or any portion of the Incentive Units in exchange for payment to the plan participant in cash or capital stock (or other equity interests) or any combination thereof, of the fair market value of the Incentive Units; in each case, determined by the Board in a manner generally consistent with the treatment of other Units, taking into consideration the relative rights of all Units, including the hurdle value applicable to Incentive Units.

Prior to the closing of the IPO, the other direct and indirect equityholders of OSH LLC completed a series of transactions in accordance with the master structuring agreement dated as of August 10, 2020, by and among the Company and other signatories party thereto (the “Master Structuring Agreement”) that resulted in the Company becoming the ultimate parent company of OSH LLC and the current equityholders of OSH LLC immediately prior to the close of the IPO exchanged their interests (Founders Units, Investor Units, and Incentive Units) in OSH LLC for common stock of the Company as approved by the Board of Directors of the Company, OSH LLC and OSH Management Holdings, LLC (“OSH MH LLC”). We refer to these transactions as the “Organizational Transactions.”

As a result of the abovementioned conversion of existing equity based on the provisions of the OSH LLC Amended and Restated Operating Agreement, the Company reclassified its existing redeemable preferred units and members’ capital to common stock on the Company’s balance sheet.

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Consolidation

Upon the completion of the IPO, our sole material asset is our interest in OSH LLC and its operating subsidiaries. In accordance with the Master Structuring Agreement, we have all management powers over the business and affairs of OSH LLC and to conduct, direct and exercise full control over the activities of OSH LLC. Accordingly, following the Organizational Transactions and the effective date of the IPO, we will consolidate the financial results of OSH LLC and its subsidiaries.

Oak Street Health, LLC is the Oak Street Health, Inc. predecessor for financial reporting purposes.

Payoff of Long-Term Debt

OSH LLC entered into a debt agreement with Hercules Capital, Inc. (“Hercules”) for $20,000 on August 7, 2017. In April 2019, OSH LLC amended the debt agreement with Hercules to allow for additional tranches which may be drawn upon. Tranche I is the existing loan of $30,000, Tranche II is an additional $30,000 available on April 26, 2019, Tranche III is an additional $20,000 available from July 1, 2019 through December 31, 2019 subject to continued covenant compliance, and Tranche IV is an additional $10,000 available from July 1, 2019 through December 31, 2019 subject to future lender investment committee approval. OSH LLC received Tranche II in April 2019 and Tranche III in November 2019 but has not made any further draws. As of the date of the receipt of Tranches II and III, the maturity date of the debt agreement was amended to June 1, 2022, and further extension of the maturity date occur upon the draw of additional tranches. In addition, upon the draw of each tranche a 5.95% end-of-term charge is applied to the total drawn amount and will be due upon the amended maturity date. On August 11, 2020, the Company used a portion of the net proceeds from the offering to pay off the $80,000 principal outstanding under the Hercules debt agreement, 9.75% interest loan originally due to mature December 2022 in full at a price of 107%. In connection with the voluntary prepayment of the entire remaining borrowings outstanding, the Company will recognize interest expense, net of $3,204 during the third quarter of 2020 related to the prepayment charge, the end of term charge and the write off of unamortized debt issuance costs. The remainder of the net proceeds from the IPO will be used for general corporate purposes.

2020 Omnibus Incentive Plan

On August 5, 2020, the Company’s Board of Directors adopted the 2020 Omnibus Incentive Plan (the “2020 Plan,”) which was subsequently approved by OSH LLC’s and OSH MH LLC’s majority equityholders. The 2020 Plan became effective on August 5, 2020. Under the 2020 Plan, pursuant to which employees, consultants and directors of our company and our affiliates perform services for us, including our executive officers, are eligible to receive awards. The 2020 Plan provides for the grant of stock options, stock appreciation rights, restricted shares, performance awards, other share-based awards (including restricted stock units (“RSUs”)) and other cash-based awards. The maximum number of shares available for issuance under the 2020 Plan may not exceed 48,138,967 shares (the “Share Reserve”). The Share Reserve will automatically increase on each January 1 that occurs after the August 5, 2020 effective date, for 10 years, by an amount equal to 5% of the total number of shares outstanding on December 31 of the preceding calendar year, or a lesser number as may be determined by the Board of Directors of the Company. This Share Reserve number is subject to adjustment in the event of a stock split, reverse stock split, recapitalization or other relevant change in our capitalization.

Employee Stock Purchase Plan

On August 5, 2020, the Board of Directors adopted, and the OSH LLC’s and OSH MH LLC’s majority equityholders approved, the 2020 Employee Stock Purchase Plan (the “ESPP”) for the issuance of up to a total of 2,386,875 shares of common stock. In addition, the number of shares available for issuance under the ESPP will be increased annually on January 1 of each calendar year beginning in 2021 and ending in and including 2030, by an amount equal to the lesser of (A) 1% of the shares outstanding on the final day of the immediately preceding calendar year and (B) such smaller number of shares as is determined by our Board of Directors, subject to an increase each January. In no event will more than 30,000,000 shares of our common stock will be available for issuance under the ESPP. Each offering period will be approximately six months in duration commencing on January and July 1 of each year and terminating on June 30 or December 31. The ESPP allows participants to purchase common stock through payroll deductions of up to 15% of their eligible compensation. The purchase price of the shares will be 85% of the lower of the fair market value of our common stock on the grant date or purchase date.

Emerging Growth Company Status

We are an emerging growth company, as defined in the Jumpstart Our Business Startups Act of 2012 (“JOBS Act”). Under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards issued subsequent to the enactment of the JOBS Act until such time as those standards apply to private companies. The JOBS Act provides that an emerging growth company can take advantage of the extended transition period for complying with new or revised accounting standards. Thus, an emerging growth company can delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have elected to avail ourselves of this extended transition period and, as a result, we will not adopt new or revised accounting standards on the relevant dates on which adoption of such standards is required for other public companies until required by private company accounting standards.

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OAK STREET HEALTH, LLC

AND AFFILIATES

CONSOLIDATED FINANCIAL STATEMENTS

For the quarterly period ended June 30, 2020

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OAK STREET HEALTH, LLC AND AFFILIATES

CONSOLIDATED BALANCE SHEETS

(in thousands, except unit and per-unit data)

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

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OAK STREET HEALTH, LLC AND AFFILIATES

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

(in thousands, except unit and per unit data)

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

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OAK STREET HEALTH, LLC AND AFFILIATES

CONSOLIDATED STATEMENTS OF CHANGES IN

REDEEMABLE INVESTOR UNITS AND MEMBERS’ DEFICIT

(Unaudited)

(in thousands, except unit and per-unit data)

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OAK STREET HEALTH, LLC AND AFFILIATES

CONSOLIDATED STATEMENTS OF CHANGES IN

REDEEMABLE INVESTOR UNITS AND MEMBERS’ DEFICIT

(Unaudited)

(in thousands, except unit and per-unit data)

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

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OAK STREET HEALTH, LLC AND AFFILIATES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(in thousands)

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

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OAK STREET HEALTH, LLC AND AFFILIATES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(in thousands, except for unit and per-unit data)

(Unaudited)

NOTE 1. NATURE OF BUSINESS

Basis of Presentation and Principles of Consolidation

Oak Street Health, LLC (“Oak Street Health” or “OSH”) and Affiliates, collectively referred to as “we” or “us” or “our” or the “Company”, operates primary care centers serving Medicare beneficiaries. The Company, through its centers and management services organization, combines an innovative care model with superior patient experience. The Company invests resources into primary care to prevent unnecessary acute events and manage chronic illnesses. The Company engages Medicare eligible patients through the use of an innovative community outreach approach. Once patients are engaged, the Company integrates population health analytics, social support services and primary care into the care model to drive improved outcomes. The Company contracts with health plans to generate medical costs savings and realize a return on its investment in primary care. As of June 30, 2020, the Company operated 54 centers.

Oak Street Health is organized as a limited liability company (“LLC”). As such, no member, agent or employee of the Company shall be personally liable for debts, obligations or liabilities of the Company, whether arising in contract, tort, or otherwise or for the acts or omissions of any other member, director, manager, agent or employee of the Company, unless the individual has agreed otherwise under the provisions of the Company’s operating agreement or signed a specific personal guarantee. The duration of the Company is perpetual.

Oak Street Health, MSO LLC (“MSO”), a wholly owned subsidiary of Oak Street Health LLC, was formed in 2013 to provide a wide range of management services to the Physician Groups (as defined below). Activities include but are not limited to operational support of the centers, marketing, information technology infrastructure and the sourcing and managing of health plan contracts. Oak Street Health Physicians Group PC, OSH-IN Physicians Group PC, OSH-MI Physicians Group PC, OSH-OH Physicians Group LLC, OSH-PA Physicians Group PC, and OSH-RI Physicians Group PC (collectively the “Physician Groups”) employ healthcare providers to deliver primary care services to the Medicare covered population of Illinois, Indiana, Michigan, North Carolina, Ohio, Pennsylvania, Rhode Island, and Tennessee. These entities are consolidated as each are considered variable interest entities where Oak Street Health has a controlling financial interest (see Note 17). The Company considers itself to control an entity if it is the majority owner of or has voting control over such entity. The Company also assesses control through means other than voting rights (“variable interest entities” or “VIEs”) and determines which business entity is the primary beneficiary of the VIE. The Company consolidates VIEs when it is determined that the Company is the primary beneficiary of the VIE.

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In addition, Oak Street Health is the majority interest owner in three joint ventures: OSH-PCJ Joliet, LLC, OSH-RI, LLC, and OSH-ESC Joint Venture, LLC which are consolidated in the Company’s financial statements. No new joint ventures, or additional funding contributions with existing joint ventures, were entered into in 2020 through June 30, 2020. In the first quarter of 2019, initial contributions were made to OSH-ESC Joint Venture, LLC from Oak Street Health MSO, LLC (51% ownership) and Evangelical Services Corporation (49% ownership) totaling $2,754 and $2,646, respectively.

The accompanying unaudited interim consolidated financial statements and accompanying notes have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been omitted pursuant to such regulations. These financial statements have been prepared on a basis consistent with the accounting principles applied for the fiscal year ended December 31, 2019 in our Prospectus. In the opinion of management, all adjustments (consisting of all normal and recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the three and six-months ended June 30, 2020, including the impact of COVID-19, are not necessarily indicative of the results that may be expected for the year ending December 31, 2020.

The consolidated financial statements of Oak Street Health include the financial statements of all wholly owned subsidiaries and majority-owned or controlled companies. For those consolidated subsidiaries where our ownership is less than 100%, the portion of the net income or loss allocable to the non-controlling interests is reported as “Net loss (gain) attributable to non-controlling interests” in the consolidated statements of operations. Intercompany balances and transactions have been eliminated in consolidation.

Initial Public Offering

On August 5, 2020, Oak Street Health, Inc.’s (OSH Inc.’s) Registration Statement on Form S-1 to register 17,968,750 shares of common stock, par value $0.001 per share, was declared effective by the Securities & Exchange Commission. OSH Inc.’s common stock began trading on August 6, 2020 on the New York Stock Exchange (“NYSE”) under the ticker symbol “OSH.” As a result, our consolidated financial statements as of June 30, 2020 do not reflect the impact of the IPO.

On August 10, 2020, OSH Inc. completed its IPO in which it issued and sold 17,968,750 shares of its common stock at an offering price of $21.00 per share. The share amount includes the exercise in full of the underwriters’ options to purchase 2,343,750 additional shares of common stock. OSH Inc. received net proceeds of $351,703, after deducting underwriting discounts and commissions of $22,641 and estimated deferred offering costs of $3,000. Deferred, direct offering costs are capitalized and consist of fees and expenses incurred in connection with the sale of our common stock in an IPO, including the legal, accounting, printing and other IPO-related costs. Upon completion of the IPO, these deferred offering costs were reclassified to stockholders’ equity of OSH Inc. and recorded against the net proceeds from the offering. See further discussion of the Organizational Transactions and new equity plans that resulted in conjunction with the IPO in Note 22, Subsequent Events.

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Use of Estimates

The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. The areas where significant estimates are used in the accompanying financial statements include the liability for unpaid claims, unit-based compensation, the valuation and related impairment recognition of long-lived assets, including intangibles and goodwill, and the valuation of embedded derivatives and redeemable investor units. Actual results could differ from those estimates.

In accordance with its policy, the Company reviews its estimated liability for unpaid claims on an ongoing basis. During the second quarter of 2020, this review indicated that actual medical claims expense was higher than prior period estimates due to a change in our historical payer claim receipt and payment patterns. As a result, as of the period ended June 30, 2020, the Company updated its estimate of its liability of unpaid claims, primarily based on historical experience of medical claims expense. The result of this updated information was additional medical claims expense for the three-months ended June 30, 2020 of approximately $4,599, or $(8.55) per unit (basic and diluted) related to the first quarter of 2020 and $11,344 related to the year ended December 31, 2019, or $(21.10) per unit (basic and diluted). Additionally, for the six-months ended June 30, it resulted in incremental medical claims expense of approximately $11,344 related to the year ended December 31, 2019, or $(19.60) per unit (basic and diluted).

Business Combination

On April 2, 2019, the Company entered into an agreement to purchase a primary care center, which constitutes a business, located in Flint, Michigan for cash consideration of $166, which was accounted for under the acquisition method of accounting pursuant to ASC 805. The acquisition is not material to the consolidated financial statements.

Impact of COVID-19 on our Business

On March 11, 2020, the World Health Organization designated COVID-19 as a global pandemic. The rapid spread of COVID-19 around the world and throughout the United States has altered the behavior of businesses and people, with significant negative effects on federal, state and local economies, the duration of which is unknown at this time. Various policies were implemented by federal, state and local governments in response to the COVID-19 pandemic that caused may people to remain at home and forced the closure of or limitations on certain businesses, as well as suspended elective procedures by health care facilities. While some of these restrictions have been eased across the U.S. and most states have lifted moratoriums on non-emergent procedures, some restrictions remain in place, and some state and local governments are re-imposing certain restrictions due to the increasing rates of COVID-19 cases. The virus disproportionately impacts older adults, especially those with chronic illnesses, which describes many of our patients.

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In response to the COVID-19 pandemic, in the first six-months of 2020, we took the following actions designed to ensure the safety of our employees and their families and to address the physical, mental and social health of our patients:

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The COVID-19 pandemic did not have a material impact on the Company’s results of operations, cash flows and financial position as of and for the three and six-months ended June 30, 2020; although our decisions to defer center openings and limit patient outreach and marketing initiatives is likely to result in slower growth than we would have otherwise experienced in 2020. Over 97% of our total revenues are recurring, consisting of fixed monthly per-patient-per-month capitation payments we receive from Medicare Advantage plans. Due to our recurring revenue base, we experienced minimal impact to our revenue in the first six months of 2020 and expect minimal impact to revenue on our existing patient base in 2020.

We do expect COVID-19 to affect our medical claims expense. As we are financially responsible for essentially all of the healthcare costs associated with our at-risk patients whether we provide that care or a third party provides that care, we suspect that the healthcare costs of patients infected with COVID-19 will be greater than had COVID-19 not occurred. It is impossible, however, to know what other healthcare issues these patients may have encountered in their pre-COVID-19 lives and whether the COVID-19 costs are or will be greater or lesser than the costs these patients would otherwise incur. Additionally, because of the extraordinary measures taken by local governments in our markets, all of our patients had more limited access to healthcare services, including healthcare specialists such as cardiologists or orthopedists, to schedule both inpatient and outpatient surgeries, and to some hospital care. We expect that beginning in late March 2020 and extending through most of the second quarter of 2020, our patients who were not infected with COVID-19, which represents over 97% of our at-risk patients, incurred lower healthcare costs than we would have otherwise expected, which will result in lower medical claims expense than we typically incur. We expect the vast majority of these costs are delayed and will be incurred at future points in time and it is possible that the deferral of healthcare services could cause additional health problems in our existing patients, which could increase our costs in the future. We cannot accurately estimate the net potential impact, positive or negative, to medical claims expense at this time. Furthermore, given the time it takes for medical claims to be submitted to Medicare Advantage (“MA”) plans, adjudicated, and sent to us, we believe it will be several quarters before we will be able to accurately calculate the impact on medical claims expense from the COVID-19 pandemic. We do not believe, however, that the impact of medical claims related to COVID-19 that we have experienced to date will have a materially detrimental effect on our long-term financial performance.

On March 27, 2020, the United States President signed into law the Coronavirus Aid, Relief and Economic Securities Act (“CARES Act”) which provides economic assistance to a wide array of industries, including healthcare. Thus far, the Company has taken the following actions related to this legislation:

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NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The Company described its significant accounting policies in Note 2 of the notes to consolidated financial statements for the year ended December 31, 2019 in its Prospectus. During the three and six-month period ended June 30, 2020, there were no significant changes to those accounting policies, other than those impacted by the government funds received related to the coronavirus during the period and further described above in “Impact of COVID-19 Pandemic” and those policies impacted by the new accounting pronouncements adopted during the period and further described below in “Recently Adopted Accounting Pronouncements.”

Recently Adopted Accounting Pronouncements

In July 2018, the FASB issued ASU 2018-09, Codification Improvements (“ASU 2018-09”), which made minor amendments to the codification in order to correct errors, eliminate inconsistencies and provide clarifications in current guidance. ASU 2018-09 amends Subtopics 470-50, Debt Modifications and Extinguishments, and 718-40, Compensation-Stock Compensation-Income Taxes, among other Topics amended within the update. Several of the Topics within the ASU were effective immediately upon issuance of ASU 2018-09, however, some amendments require transition guidance which is effective for nonpublic business entities for fiscal years after beginning after December 15, 2019. The Company adopted the new guidance on January 1, 2020, noting no impact on its consolidated financial statements and related disclosures.

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In August 2018, the FASB issued ASC 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure for Fair Value Measurement (“ASU 2018-13”), which modifies the disclosure requirements on fair value measurements. ASU 2018-13 is effective for all entities for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years, with partial early adoption permitted for eliminated disclosures. The method of adoption varies by the disclosure. The Company adopted the new guidance on January 1, 2020, noting no impact on its consolidated financial statements and related disclosures.

Recent Accounting Pronouncements Not Yet Adopted

In February 2016, the FASB issued ASU 2016-02, Leases (“ASU 2016-02”), which amends the accounting for leases, requiring lessees to recognize most leases on their balance sheet with a right-of-use asset and a lease liability. Leases will be classified as either finance or operating leases, which will impact the expense recognition of such leases over the lease term. ASU 2016-02 also modifies the lease classification criteria for lessors and eliminates some of the real estate leasing guidance previously applied for certain leasing transactions. In June 2020, the FASB issued update 2020-05 that changed the required effective date. The Company is required to adopt ASU 2016-02 on January 1, 2022. Because of the number of leases, the Company utilizes to support its operations, the adoption of ASU 2016-02 is expected to have a significant impact on the Company’s consolidated financial position and results of operations. Management is currently evaluating the extent of this anticipated impact on the Company’s consolidated financial statements, and the quantitative and qualitative factors that will impact the Company as part of the adoption of ASU 2016-02, as well as any changes to its leasing strategy that may occur because of the changes to the accounting and recognition of leases. Most recently, the Company has organized an implementation group of cross-functional departmental management to ensure the completeness of its lease information, analyze the appropriate classification of current leases under the new standard, and develop new processes to execute, approve and classify leases on an ongoing basis. The Company has also evaluated system applications to assist in the implementation and tracking of leases in preparation for the new standard. The Company plans to early adopt, effective January 1, 2021.

In July 2017, the FASB issued ASU 2017-11, Earnings Per Unit Share (Topic 260); Distinguishing Liabilities from Equity (Topic 480); Derivatives and Hedging (Topic 815): (Part I) Accounting for Certain Financial Instruments with Down Round Features, (Part II) Replacement of the Indefinite Deferral for Mandatorily Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatorily Redeemable Noncontrolling Interests with a Scope Exception (“ASU 2017-11”). Among other items, Part I of ASU 2017-11 simplifies the accounting for certain financial instruments with down round features, a provision in an equity-linked financial instrument (or embedded feature) that provides a downward adjustment of the current exercise price based on the price of future equity offerings. Current accounting guidance creates cost and complexity for organizations that issue financial instruments with down round features by requiring, on an ongoing basis, fair value measurement of the entire instrument or conversion option. ASU 2017-11 will also require companies to disregard the down round feature when assessing whether the instrument is indexed to its own stock, for purposes of determining liability or equity classification. Companies that provide earnings per share (“EPS”) data will adjust their basic EPS calculation for the effect of the feature when triggered (i.e., when the exercise price of the related equity-linked financial instrument is adjusted downward because of the down round feature) and will also recognize the effect of the trigger within equity. ASU 2017-11 is effective for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, 2020. Early adoption is permitted for all entities. The Company is in the process of evaluating the potential impacts of this new guidance on its consolidated financial statements and related disclosures.

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In October 2018, the FASB issued ASU 2018-17, Consolidation – Targeted Improvements to Related Party Guidance for Variable Interest Entities (Topic 810) (“ASU 2018-17”). ASU 2018-17 eliminates the requirement that entities consider indirect interests held through related parties under common control in their entirety when assessing whether a decision-making fee is a variable interest. Instead, the reporting entity will consider such indirect interests on a proportionate basis. ASU 2018-17 is effective for a private company for fiscal years beginning after December 15, 2020, and interim periods within fiscal years beginning after December 15, 2021. All entities are required to apply the adjustments in ASU 2018-17 retrospectively with a cumulative-effect adjustment to retained earnings at the beginning of the earliest period presented. Early adoption is permitted. The Company is currently evaluating the impact ASU 2018-17 will have on its consolidated financial statements and related disclosures.

In June 2018, the FASB issued ASU No. 2018-07, Improvements to Nonemployee Share-Based Payment Accounting (“ASU 2018-07”) which aligns the accounting treatment of stock awards granted to nonemployee consultants to those granted to employees. The updated guidance requires that share-based payment awards granted to a customer in conjunction with selling goods or services be accounted for under ASC 606, Revenue from Contracts with Customers. We are required to measure and classify share-based payment awards granted to a customer. The amount recorded as a reduction of the transaction price is required to be measured on the basis of the grant-date fair value of the share-based payment award in accordance with Topic 718. The updated guidance is effective for fiscal years and interim periods within those fiscal years beginning after December 15, 2020. Early adoption is permitted. The Company is currently evaluating the impact of Topic 718 on our consolidated financial statements.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments (“ASU 2016-13”). ASU 2016-13 introduces a new model for recognizing credit losses on financial instruments based on an estimate of current expected credit losses. The guidance is effective for us beginning January 1, 2023. The new current expected credit losses (CECL) model generally calls for the immediate recognition of all expected credit losses and applies to loans, accounts and trade receivables as well as other financial assets measured at amortized cost, loan commitments and off-balance sheet credit exposures, debt securities and other financial assets measured at fair value through other comprehensive income, and beneficial interests in securitized financial assets. The new guidance replaces the current incurred loss model for measuring expected credit losses, requires expected losses on available for sale debt securities to be recognized through an allowance for credit losses rather than as reductions in the amortized cost of the securities, and provides for additional disclosure requirements. The Company is currently evaluating the impact the adoption of ASU 2016-13 will have on its consolidated financial statements.

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In January 2020, the FASB issued ASU 2020-01, Investments—Equity Securities (Topic 321), Investments—Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815)—Clarifying the Interactions between Topic 321, Topic 323, and Topic 815 (“ASU 2020-01”). ASU 2020-01 clarifies the interaction of the accounting for equity securities under Topic 321 and investments accounted for under the equity method of accounting in Topic 323 and the accounting for certain forward contracts and purchased options accounted for under Topic 815. The guidance is effective for fiscal years beginning after December 15, 2020. The Company is currently evaluating the impact the adoption of ASU 2020-01 will have on its consolidated financial statements.

We do not expect that any other recently issued accounting guidance will have a significant effect on our consolidated financial statements.

NOTE 3. REVENUE RECOGNITION

Both our capitated and fee-for-service revenue generally relate to contracts with patients in which our performance obligation is to provide healthcare services to the patients. Revenues are recorded during the period our obligations to provide healthcare services are satisfied as noted below within each service type.

Capitated Revenue and Accounts Receivable

Capitated revenue consists primarily of capitated fees for medical services provided by us under capitated arrangements directly made with various Medicare Advantage managed care payors. The Company receives a fixed fee per patient under what is typically known as a “risk contract.” Risk contracting, or full risk capitation, refers to a model in which the Company receives from the third-party payor a fixed payment per patient per month (“PPPM” payment) for a defined patient population, and the Company is then responsible for providing healthcare services required by that patient population. The Company is responsible for incurring or paying for the cost of healthcare services required by that patient population in addition to those provided by the Company. Fees are recorded gross in revenues because the Company is acting as a principal in arranging for, providing and controlling the managed healthcare services provided to the managed care payors’ eligible enrolled members. Neither the Company nor any of its affiliates is a registered insurance company because state law in the states in which it operates does not require such registration for risk-bearing providers.

The Company’s payor contracts generally have a term of one year or longer, but the contracts between the enrolled members (our customers) and the payor are one calendar year or less. In general, the Company considers all contracts with customers (enrolled members) as a single performance obligation to stand ready to provide managed healthcare services. The Company identified that contracts with customers for capitation arrangements have similar performance obligations and therefore groups them into one portfolio. This performance obligation is satisfied as the Company stands ready to fulfill its obligation to enrolled members.

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Our revenues are based upon the estimated PPPM amounts we expect to be entitled to receive from Medicare Advantage managed care payors. The PPPM rates are determined as a percent of the premium the Medicare Advantage plan receives from CMS for our at-risk members. Those premiums are determined via a competitive bidding process with CMS and are based upon the cost of care in a local market and the average utilization of services by the patients enrolled. Medicare pays capitation using a “risk adjustment model,” which compensates providers based on the health status (acuity) of each individual patient. Payors with higher acuity patients receive more, and those with lower acuity patients receive less. Under the risk adjustment model, capitation is paid on an interim basis based on enrollee data submitted for the preceding year and is adjusted in subsequent periods after the final data is compiled. As premiums are adjusted via this risk adjustment model, our PPPM payments will change in unison with how our payor partners’ premiums change with CMS. The Company determined the transaction price for these contracts is variable as it primarily includes PPPM fees which can fluctuate throughout the contract based on the acuity of each individual enrollee. Our capitated revenues include $22,615 and $1,584 for the three-months ended June 30, 2020 and 2019, respectively, and $46,143 and $3,133 for the six-months ended June 30, 2020 and 2019, respectively, for acuity-related adjustments that have been received or are estimated to be received in subsequent periods. In certain contracts, PPPM fees also include adjustments for items such as performance incentives or penalties based on the achievement of certain clinical quality metrics as contracted with payors. There were no PPPM adjustments related to performance incentives/penalties for quality-related metrics for the three and six-months ended June 30, 2020 and 2019. The capitated revenues are recognized based on the estimated PPPM transaction price to transfer the service for a distinct increment of the series (i.e. month) and is recognized net of projected acuity adjustments and performance incentives/penalties because the Company is able to reasonably estimate the ultimate PPPM payment of these contracts. We recognize revenue in the month in which eligible members are entitled to receive healthcare benefits during the contract term. Subsequent changes in PPPM fees and the amount of revenue to be recognized by the Company are reflected through subsequent period adjustments to properly recognize the ultimate capitation amount and do not result in a significant reversal of revenue when the uncertainty is resolved in subsequent periods. As the period between the time of service and time of payment is typically one year or less, the Company elected the practical expedient under ASC 606-10-32-18 and did not adjust for the effects of a significant financing component.

Certain third-party payor contracts include a Medicare Part D payment related to pharmacy claims, which is subject to risk sharing through accepted risk corridor provisions. Under certain agreements the fund risk allocation is established where the Company, as the contracted provider, receives only a portion of the risk and the associated surplus or deficit. The Company estimates and recognizes an adjustment to Part D capitated revenues related to these risk corridor provisions, based upon pharmacy claims experience to date, as if the annual risk contract were to terminate at the end of the reporting period. Medicare Part D comprised 2% of capitated revenues and 3% of medical claims expense for the three and six-months ended June 30, 2020 and comprised 3% of capitated revenues and 5% of medical claims expense for the three and six-months ended June 30, 2019.

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The Company had agreements in place with the payors listed below and payor sources of capitated revenue for each period presented were as follows:

Other Patient Service Revenue

Other patient service revenue is comprised of ancillary fees earned under contracts with certain managed care organizations for the provision of certain care coordination services and care management services and is also comprised of fee-for-service revenue. The composition of other patient service revenue for each period was as follows:

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The Company has entered into multi-year agreements with Humana and its affiliates to provide services at certain centers to members covered by Humana. The agreements contain an administrative payment from Humana in exchange for the Company providing certain care coordination services during the term of the contract (“Care Coordination Payment”). The Care Coordination Payments are recognized in other patient service revenue ratably over the length of the terms stated in the contracts and are refundable to Humana on a pro-rata basis if the Company ceases to provide services at the centers within the length of the term specified in the contracts. We have identified a single performance obligation to stand ready to provide care coordination services to patients, which constitutes a series of distinct service increments.

Care management services are provided to enrolled members of certain contracted managed care organizations regardless of whether those members are Oak Street Health patients. Similar to the other care management services provided to the Company’s centers, the Company provides delegated services and other administrative services to plans in order to assist with the management of its Medicare population, therefore, we have identified a single performance obligation to stand ready to provide care management services, which constitutes a series of distinct service increments.

Fee-for-service revenue is primarily derived from healthcare services rendered to patients. The services provided by the Company have no fixed duration and can be terminated by the patient or the Company at any time, therefore each treatment is its own standalone contract. Services ordered by a healthcare provider during an office visit are not separately identifiable, and therefore have been combined into a single performance obligation for each contract. The Company recognizes revenue as its performance obligation is completed on the date of service. Fee-for-service revenue is recognized in the period in which services are provided at estimated net realizable amounts from patients, third-party payors and others. The fee-for-service revenue by payor source for each period presented were as follows:

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Other patient service accounts receivable consists primarily of amount due from Medicare and Medicare Advantage plans for fee-for-service patients. Receivables from commercial or government payors are recorded at a net amount determined by the original charge for the service provided, less contractual discounts provided to the payor. Receivables due directly from patients are recorded at the original charge for the service provided less amounts covered by third-party payors and an allowance for financial assistance. As of June 30, 2020, Medicare comprised 41% and Humana comprised 7% of other patient service accounts receivable. As of December 31, 2019, Medicare comprised 47% and Humana comprised 9% of other patient service accounts receivable. All other payors represent 52% and 44% of other patient service accounts receivable as of June 30, 2020 and December 31, 2019, respectively.

The Company has a financial assistance policy in which patients will be assessed for financial hardship and other criteria that are used to make a good-faith determination of financial need, in which case the Company will waive or reduce a Medicare beneficiary’s obligation to pay copay, coinsurance or deductible amounts owed for the provision of medical services. The majority of our fee-for-service patients qualify for financial assistance. The total amount of patient revenues that were waived per the Company’s financial assistance policy were $316 and $905 for the three-months ended June 30, 2020 and 2019, respectively, and $1,780 and $1,755 for the six-months ended June 30, 2020 and 2019, respectively. The Company’s cost to provide care in regard to the services for which the patient’s financial obligation was waived was estimated to be $530 and $1,521 for the three-months ended June 30, 2020 and 2019, respectively, and $2,991 and $2,948 for the six-months ended June 30, 2020 and 2019, respectively using a cost-to-charge ratio estimate. The Company invests heavily in primary care to prevent unnecessary acute events and manage chronic illnesses, and the cost incurred exceeds the amount that the Company would have realized under fee-for-service payment arrangements. The Company is willing to accept this deficit as many fee-for-service patients become Medicare Advantage patients under capitated arrangements.

Remaining Performance Obligations

As our performance obligations relate to contracts with a duration of one year or less, the Company elected the optional exemption in ASC 606-10-50-14(a). Therefore, the Company is not required to disclose the transaction price for the remaining performance obligations at the end of the reporting period or when the Company expects to recognize revenue. The Company has minimal unsatisfied performance obligations at the end of the reporting period as our patients typically are under no obligation to continue receiving services at our facilities.

NOTE 4. FAIR VALUE OF FINANCIAL INSTRUMENTS

In accordance with ASC 820, Fair Value Measurements and Disclosures (“ASC 820”), fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.

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Assets and liabilities carried at fair value are required to be classified and disclosed in one of the following three categories:

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

Level 2 Observable market-based inputs or unobservable inputs that are corroborated by market data.

Level 3 Unobservable inputs that are not corroborated by market data.

When determining the fair value measurements for assets and liabilities required to be recorded at fair value, management considers the principal or most advantageous market in which it would transact and considers risks, restrictions, or other assumptions that market participants would use when pricing the asset or liability. The carrying amounts of financial instruments including cash, accounts receivable, accounts payable, accrued liabilities and short-term borrowings approximate fair value due to the short maturity of these instruments.

The bifurcated derivative associated with the long-term debt (see Note 10) was classified within Level 3 due to a lack of quoted prices in an active market and observable inputs for similar liabilities. The fair value measurements for the bifurcated derivative as of June 30, 2020 and December 31, 2019 was $449 and $152, respectively. The bifurcated derivative liability was included in other long-term liabilities in the consolidated balance sheets as of June 30, 2020 and December 31, 2019. Changes in fair value of the bifurcated derivative were recorded within interest expense in the consolidated statements of operations and amounted to $200 and $308 during the three-month periods ending June 30, 2020 and 2019, respectively, and $297 and $(489) during the six-month periods ending June 30, 2020 and 2019, respectively. See Note 22, Subsequent Events, for further discussion around the prepayment made on the Company’s debt and related expense (including the bifuricated derivative) recorded as result of the extinguishment of debt in conjunction with the IPO.

NOTE 5. PROPERTY AND EQUIPMENT

Property and equipment consisted of the following as of June 30, 2020 and December 31, 2019:

The Company recorded depreciation expense of $2,577 and $1,760 for the three-months ended June 30, 2020 and 2019, respectively, and $4,985 and $3,388 for the six-months ended June 30, 2020 and 2019, respectively.

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NOTE 6. GOODWILL AND INTANGIBLE ASSETS

Goodwill, which represents the excess of cost over the fair value of net assets acquired, amounted to $9,634 at June 30, 2020 and December 31, 2019. Pursuant to ASC 350, “Intangibles – Goodwill and Other,” we review the recoverability of goodwill annually as of October 1 or whenever significant events or changes occur which might impair the recovery of recorded amounts. For purposes of the annual goodwill impairment assessment, the Company has identified a single reporting unit. The most recently completed impairment test of goodwill was performed as of October 1, 2019, and it was determined that no impairment existed. No other indicators of impairment were identified during the year.

Intangible assets with a finite useful life continue to be amortized over its useful lives. Net intangible assets amounted to $3,159 and $3,352 at June 30, 2020 and December 31, 2019, respectively. The Company recorded amortization expense of $97 for the three-months ended June 30, 2020 and 2019, and $193 for the six-months ended June 30, 2020 and 2019. We review the recoverability of the long-lived asset whenever events or changes in circumstances indicate the carrying amount of such assets may not be recoverable.

Due to the COVID-19 pandemic and its effect on our business and the overall economy, we considered the potential impact on our goodwill asset as of June 30, 2020. We determined that it was not more likely than not that the fair value of our reporting unit was below the carrying value based on our evaluation, which took into consideration our overall enterprise value, recent equity transactions (i.e. issuance of Inventor Unit III-E) and projected forecasted financial results. Our analysis of projected forecasted results considered a short-term temporary impact from the COVID-19 pandemic on volumes and growth, since our last quantitative analysis.

Our Significant Accounting Policy for goodwill and intangibles assets were disclosed in Note 2 of the notes to the consolidated financial statements for the fiscal year ended December 31, 2019 of our Prospectus. We will continue to monitor the significant global economic uncertainty as a result of the COVID-19 pandemic to assess the outlook for demand for our services and the impact on our business and our overall financial performance. A lack of recovery or further deterioration in market conditions, a trend of weaker than expected financial performance in our business, or a lack of recovery or a significant decline in the Company’s enterprise value, among other factors, could result in an impairment charge in future periods which could have a material adverse effect on our financial statements.

NOTE 7. INTERNAL USE SOFTWARE

Canopy is an application that was created by the Company’s internal Information Technology team in 2017 to provide support for Greenway, its electronic medical records (“EMR”) software. The Company’s EMR collects and contains general information such as treatment and medical history about its patients. The Canopy application is used to help fill Greenway gaps and make way for innovative healthcare tools. The Company considers the application as internal use as the Company does not market or sell the software. The Company capitalizes certain costs related to the development of Canopy. Costs incurred during the application development phase are capitalized only when the Company believes it is probable the development will result in new or additional functionality. The types of costs capitalized during the application development phase include employee compensation, as well as consulting fees for third-party developers working on these projects. Costs related to the preliminary project stage and post implementation activities are expensed as incurred. Internal use software is amortized on a straight-line basis over the estimated five-year life of the asset.

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As of June 30, 2020 and December 31, 2019, the Company capitalized a total of $3,088 and $1,679 of internal use software and recorded $469 and $327 in accumulated depreciation, respectively. The Company expensed $78 and $32 of capitalized development costs for the three-month periods ended June 30, 2020 and 2019, respectively, and $141 and $62 for the six-month periods ended June 30, 2020 and 2019, respectively. Capitalized external software costs include the actual costs to purchase software licenses from vendors. Costs incurred to maintain existing software are expensed as incurred.

NOTE 8. OTHER CURRENT AND LONG-TERM LIABILITIES

Accrued compensation and benefits consisted of the following as of:

Other current liabilities consisted of the following as of:

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Other long-term liabilities consisted of the following as of:

NOTE 9. LIABILITY FOR UNPAID CLAIMS

Medical claims expense and the liability for unpaid claims include estimates of the Company’s obligations for medical care services that have been rendered by third parties on behalf of insured consumers for which the Company is contractually obligated to pay (through the Company’s full risk capitation arrangements), but for which claims have either not yet been received, processed, or paid. The Company develops estimates for medical care services incurred but not reported (“IBNR”), which includes estimates for claims that have not been received or fully processed, using a process that is consistently applied, centrally controlled and automated. This process includes utilizing actuarial models when a sufficient amount of medical claims history is available from the third-party healthcare service providers. The actuarial models consider factors such as time from date of service to claim processing, seasonal variances in medical care consumption, health care professional contract rate changes, medical care utilization and other medical cost trends, membership volume and demographics, the introduction of new technologies, benefit plan changes, and business mix changes related to products, customers and geography. In developing its unpaid claims liability estimates, the Company applies different estimation methods depending on which incurred claims are being estimated. For the most recent three months, the Company estimates claim costs incurred by applying observed medical cost trend factors to the average PPPM medical costs incurred in prior months for which more complete claims data are available, supplemented by a review of near-term completion factors (actuarial estimates, based upon historical experience and analysis of current trends, of the percentage of incurred claims during a given period that have been adjudicated by the Company at the date of estimation). For the months prior to the most recent three months, the Company applies completion factors to actual claims adjudicated-to-date to estimate the expected amount of ultimate incurred claims for those months. As of June 30, 2020 and December 31, 2019, the Company recorded a liability for unpaid claims for $235,856 and $170,629, respectively.

The Company purchases provider excess insurance to protect against significant, catastrophic claims expenses incurred on behalf of its patients. The total amount of provider excess insurance premium was $869 and $448, and total reimbursements were $446 and $0 for the three-month periods ended June 30, 2020 and 2019, respectively. The total amount of provider excess insurance premium was $1,712 and $958, and total reimbursements were $752 and $0 for the six-month periods ended June 30, 2020 and 2019, respectively. The provider excess insurance premiums less reimbursements are reported in medical claims expense in the consolidated statements of operations. Provider excess recoverables due are reported in other current assets in the consolidated balance sheets. As of June 30, 2020, the Company’s provider excess insurance deductible was $250 per member and covered up to a maximum of $5,000 per member per calendar year.

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The Company’s liabilities for unpaid claims were as follows as of June 30, 2020 and December 31, 2019:

We assess the profitability of our managed care capitation arrangement to identify contracts where current operating results or forecasts indicate probable future losses. If anticipated future variable costs exceed anticipated future revenues, a premium deficiency reserve is recognized. No premium deficiency reserves were recorded as of June 30, 2020 and December 31, 2019.

In accordance with its policy, the Company reviews its estimated liability for unpaid claims on an ongoing basis. During the second quarter of 2020, this review indicated that actual medical claims expense was higher than prior period estimates as well as a change in our historical payer claim receipt and payment patterns. As a result, as of the period ended June 30, 2020, the Company updated its estimate of its liability of unpaid claims, primarily based on historical experience of medical claims expense. The result of this updated information was additional medical claims expense for the three-months ended June 30, 2020 of approximately $4,599, or $(8.55) per unit (basic and diluted) related to the first quarter of 2020 and $11,344 related to the year ended December 31, 2019, or $(21.10) per unit (basic and diluted). Additionally, for the six-months ended June 30, 2020, it resulted in incremental medical claims expense of approximately $11,344 related to the year ended December 31, 2019, or $(19.60) per unit (basic and diluted).

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NOTE 10. LONG-TERM DEBT

Long-term debt balances as of the June 30, 2020 and December 31, 2019 were as follows:

The Company entered into a debt agreement with Hercules for $20,000 on August 7, 2017. See further discussion of the prepayment that occurred on this loan in conjunction with the IPO in Note 22, Subsequent Events. The note bears a floating interest rate of the greater of 9.75% or the sum of i) 9.75%, plus ii) the Prime Rate minus 4.75%. The interest rate at June 30, 2020 and December 31, 2019 was 9.75% and 9.75%, respectively. The note allowed for an additional $10,000 advance subject to terms and conditions of the loan agreement, which was drawn by the Company on June 28, 2018. The Company may prepay all, but not less than all, of the entire principal balance prior to maturity with an associated prepayment charge of detailed in the loan agreement. The terms of the loan agreement specify the prepayment penalty ranges from 3% to 1% depending on when prepayment occurs in relation to maturity date: if amounts are prepaid within 12 months of the Closing Date (3.0%); after 12 months but prior to 24 months (2.0%); and any time after 24 months (1.0%). The note is secured by a perfected first position lien on all of Company’s assets.

The original Hercules note required 13 months of interest-only payments, followed by monthly installments on a 36-month amortization schedule with the remaining principal and an end-of-term charge due when the note matures on September 1, 2021. The interest-only period was extended an additional twelve months as the Company met the performance conditions outlined in the loan agreement and received an additional $10,000 on June 28, 2018 as allowed by the note.

In April 2019, the Company amended the debt agreement with Hercules to allow for additional tranches which may be drawn upon. Tranche I is the existing loan of $30,000, Tranche II is an additional $30,000 available on April 26, 2019, Tranche III is an additional $20,000 available from July 1, 2019 through December 31, 2019 subject to continued covenant compliance, and Tranche IV is an additional $10,000 available from July 1, 2019 through December 31, 2020 subject to future lender investment committee approval. The Company received Tranche II in April 2019 and Tranche III in November 2019 but has not made any further draws. As of the date of the receipt of Tranches II and III, the maturity date of the debt agreement was amended to June 1, 2022, and further extensions of the maturity date occur upon the draw of additional tranches. In addition, upon the draw of each tranche a 5.95% end-of-term charge is applied to the total drawn amount and will be due upon the amended maturity date.

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In January 2020, the Company amended the debt agreement with Hercules to provide for the following changes subject to certain performance milestones which were met in February 2020: (i) the extension of the principle payment start date from July 1, 2020 to October 1, 2021, (ii) the extension of the loan maturity date from June 1, 2022 to December 1, 2022, (iii) the change in interest rate to the greater of either 9.75% or the sum of the prime rate plus 5.00%, (iv) the change in prepayment charge to 2.0% of the amount prepaid if amounts are prepaid prior to June 30, 2020; 1% if prepaid after June 30, 2020 but on or prior to December 31, 2020; and 0.5% if prepaid thereafter prior to maturity, and (v) the elimination of all financial covenants with the exception of the net patient-level contribution covenant.

The Company recorded a derivative liability related to the change in control provisions within the Hercules debt agreement in the amount of $449 and $152 as of June 30, 2020 and December 31, 2019, respectively. The Company recognized all changes in fair value of the derivative liability within interest expense of $200 and $308 for the three-month periods ended June 30, 2020 and 2019, respectively, and $297 and $(489) for the six-month periods ended June 30, 2020 and 2019, respectively.

The estimated fair value of the Company’s bifurcated derivative instrument has been valued using an outcome-probability-weighted discounted cash flow analysis at the end of each reporting period using inputs that are not corroborated by market data which resulted in the Company classifying such derivatives as Level 3 (see Note 4).

The carrying amount of long-term debt approximates fair value because the interest rates fluctuate with market interest rates or the fixed rates are based on current rates offered to the Company for debt with similar terms and maturities.

Scheduled maturity requirements of long-term debt, excluding the unamortized discount, end of term charge, and debt issuance costs as of June 30, 2020 are as follows:

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Debt issuance costs and original issuance discount

As part of entering into the Hercules debt agreement, the Company incurred (or will incur due to the end-of-term charge) certain third-party costs. The costs incurred relate to attorney and other third-party costs. Debt issuance costs and original issuance discount as of the periods presented below were as follows:

Debt issuance costs are presented in the consolidated balance sheets as a direct deduction from the carrying value of the long-term debt. Included in debt issuance costs is an end-of-term charge due to Hercules. The end-of-term charge is to be paid in full at the end of the term and was $4,760 as of June 30, 2020 and December 31, 2019 and are being accreted over the expected term of the loan. Debt issuance costs are amortized over the term of the related debt instrument using the effective interest method. Amortization of debt issuance costs and accretion of end-of-term charge are recorded as interest expense in the consolidated statements of operations.

NOTE 11. INCOME TAX

The most significant impact to the Company’s effective tax rate is related to the tax treatment of certain equity compensation. However, the Company was still in a tax loss and net deferred tax asset position after this adjustment. As a result, and in accordance with accounting standards, the Company recorded a valuation allowance to reduce the value of the net deferred tax assets to zero. The Company’s effective tax rate as of June 30, 2020 was 0.0%. This is unchanged from the previous year.

NOTE 12. REDEEMABLE INVESTOR UNITS

The membership interests of the Company contain five classes of Units, consisting of voting classes of Units known as Founders’ Units and three classes of Investor Units known as Investor Units I, Investor Units II and Investor Units III and a non-voting class of Incentive Units. Due to contingent redemption features, the Investor Units are presented as temporary equity in the mezzanine section of the consolidated balance sheets. See further discussion of the conversion of existing equity to common stock that occurred in conjunction with the IPO in Note 22, Subsequent Events.

The Unit III class is further divided into five series: Investor Units III-A, Investor Units III-B, Investor Units III-C, Investor Units III-D, and Investor Units III-E. The holders of Investor Units III-B do not have any governance or voting rights. The Company is authorized to issue up to 100,000,000 Investor Units in aggregate.

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Redeemable Investor Units consisted of the following at the issuance price per unit as of:

The following table shows the Company’s activity related to its Investor Units as of and for the periods ending:

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In May 2019, we issued 25,518 units of Investor Units III-D in exchange for $1,500. The price per unit was $58.78.

In February 2020, we issued 1,471,623 units of Investor Units III-E in exchange for $230,000. The price per unit was $156.29. There was $5,637 in legal fees recorded as a reduction of equity as result of the capital raise.

The redeemable Investor Units have the following rights and characteristics:

Dividends

Dividends are payable in cash, if declared, by the Company’s Board or upon a liquidation, deemed liquidation event or as determined by the Board in its sole discretion. The Company has not declared dividends for the periods ended June 30, 2020 and 2019, respectively.

Preferred Return

Whether or not declared or approved by the Board, the holders of the Investor Units accrue a preferred return in the amount of 8%, per annum, on the varying balance of each Investor Units’ unreturned capital contribution beginning on the date of initial investment. This preferred return is cumulative and shall take into account, in determining the satisfaction of the preferred return, all distributions resulting from or paid to members holding Investor Units in connection with a dissolution or deemed liquidation event.

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The following table shows accumulated dividends on the redeemable Investor Units on a cumulative basis as of the periods ended: