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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

FORM 10-Q

(Mark One)

For the quarterly period ended September 30, 2013

For the transition period from                      to                     

Commission File Number: 001-34171

GRAYMARK HEALTHCARE, INC.

(Exact name of registrant as specified in its charter)

204 N. Robinson Avenue, Ste. 400

Oklahoma City, Oklahoma 73102

(Address of principal executive offices)

(405) 601-5300

(Registrant’s telephone number, including area code)

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.    x  Yes    ¨  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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    x  Yes    ¨  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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

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

As of November 19, 2013, 163,509,214 shares of the registrant’s common stock, $0.0001 par value, were outstanding.

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GRAYMARK HEALTHCARE, INC.

FORM 10-Q

For the Quarter Ended September 30, 2013

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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION

Certain statements under the captions “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and “Item 1A. Risk Factors,” and elsewhere in this report constitute “forward-looking statements” Certain, but not necessarily all, of such forward-looking statements can be identified by the use of forward-looking terminology such as “anticipates,” “believes,” “expects,” “may,” “will,” or “should” or other variations thereon, or by discussions of strategies that involve risks and uncertainties. Our actual results or industry results may be materially different from any future results expressed or implied by such forward-looking statements. Factors that could cause actual results to differ materially include general economic and business conditions; our ability to implement our business strategies; competition; availability of key personnel; increasing operating costs; unsuccessful promotional efforts; changes in brand awareness; acceptance of new product offerings; and adoption of, changes in, or the failure to comply with, and government regulations.

Throughout this report the first personal plural pronoun in the nominative case form “we” and its objective case form “us”, its possessive and the intensive case forms “our” and “ourselves” and its reflexive form “ourselves” refer collectively to Graymark Healthcare, Inc. and its subsidiaries including Foundation Surgery Affiliates, LLC (“FSA”) and Foundation Surgical Hospital Affiliates, LLC (“FSHA”).

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PART I. FINANCIAL INFORMATION

Item 1. Graymark Healthcare, Inc. Condensed Consolidated Financial Statements.

The condensed consolidated financial statements included in this report have been prepared by us pursuant to the rules and regulations of the Securities and Exchange Commission. The condensed consolidated balance sheets as of September 30, 2013 and December 31, 2012, the condensed consolidated statements of operations for the three and nine month periods ended September 30, 2013 and 2012, and the condensed consolidated statements of cash flows for nine months ended September 30, 2013 and 2012, have been prepared without audit. 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 condensed or omitted pursuant to those rules and regulations, although we believe that the disclosures are adequate to make the information presented not misleading. On July 22, 2013, we acquired Foundation Surgery Affiliates, LLC (“FSA”) and FSA’s consolidated variable interest entity, Foundation Surgical Hospital Affiliates, LLC (“FSHA”). For accounting purposes, the acquisition of FSA was accounted for as a reverse acquisition and as a result, our historical operating results included in this Form 10Q for the periods prior to July 22, 2013 represent those of FSA. It is suggested that these condensed consolidated financial statements be read in conjunction with the financial statements and the related notes thereto included in our latest annual report on Form 10-K and the consolidated financial statements of FSA included in our Form 8-K that was filed on November 13, 2013.

The consolidated statements for the unaudited interim periods presented include all adjustments, consisting of normal recurring adjustments, necessary to present a fair statement of the results for such interim periods. The results for any interim period may not be comparable to the same interim period in the previous year or necessarily indicative of earnings for the full year.

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GRAYMARK HEALTHCARE, INC.

Condensed Consolidated Balance Sheets

(Unaudited)

See Accompanying Notes to Condensed Consolidated Financial Statements

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GRAYMARK HEALTHCARE, INC.

Condensed Consolidated Statements of Operations

For the Three Months Ended September 30, 2013 and 2012

(Unaudited)

See Accompanying Notes to Condensed Consolidated Financial Statements

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GRAYMARK HEALTHCARE, INC.

Condensed Consolidated Statements of Operations

For the Nine Months Ended September 30, 2013 and 2012

(Unaudited)

See Accompanying Notes to Condensed Consolidated Financial Statements

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GRAYMARK HEALTHCARE, INC.

Condensed Consolidated Statements of Cash Flows

For the Nine Months Ended September 30, 2013 and 2012

(Unaudited)

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GRAYMARK HEALTHCARE, INC.

Condensed Consolidated Statements of Cash Flows (continued)

For the Nine Months Ended September 30, 2013 and 2012

(Unaudited)

See Accompanying Notes to Condensed Consolidated Financial Statements

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GRAYMARK HEALTHCARE, INC.

Notes to Condensed Consolidated Financial Statements

For the Periods Ended September 30, 2013 and 2012

(Unaudited)

Note 1 – Nature of Business

Graymark Healthcare, Inc. (the “Company”) is organized under the laws of the state of Oklahoma and owns controlling and noncontrolling interests in surgical hospitals located in Texas. The Company also owns noncontrolling interests in ambulatory surgery centers (“ASCs” and “Affiliates”) located in Texas, Oklahoma, Louisiana, Pennsylvania, New Jersey, Maryland and Ohio. Additionally, the Company provides sleep testing management services to various rural hospitals in Iowa, Minnesota, Missouri, Nebraska and South Dakota under management contracts with the hospitals. The Company provides management services to a majority of its Affiliates under the terms of various management agreements.

Note 2 – Basis of Presentation

On July 22, 2013, the Company acquired Foundation Surgery Affiliates, LLC (“FSA”) and FSA’s consolidated variable interest entity, Foundation Surgical Hospital Affiliates, LLC (“FSHA”) (collectively referred to as “Foundation”). For accounting purposes, the acquisition of FSA was accounted for as a reverse acquisition and as a result, the Company’s historical operating results included in the accompanying condensed consolidated financial statements for the periods prior to July 22, 2013 represent those of FSA. The historical financial statements of FSA have been adjusted for the effect of the recapitalization that occurred as a result of the reverse acquisition.

As of September 30, 2013, the Company had an accumulated deficit of $31.5 million and a working capital deficiency of $20.6 million. During the nine months ended September 30, 2013, the Company generated a net loss attributable to Graymark Healthcare of $15.9 million, including a goodwill impairment charge of $20.8 million, and generated cash flow from operating activities from continuing operations of $5.1 million. Management expects to refinance, by the end of the first quarter of 2014, a significant portion of the Company’s long-term debt obligations. Management expects that the Company will be able to significantly reduce its annual debt service payments as part of the refinancing; however, there is no assurance that management will be successful in completing the debt refinancing.

Note 3 – Summary of Significant Accounting Policies

For a complete list of the Company’s significant accounting policies, please see the Company’s Annual Report on Form 10-K for the year ending December 31, 2012 and the consolidated financial statements of FSA as of December 31, 2012 as filed in the Company’s Form 8-K on November 13, 2013.

Interim Financial Information – The condensed consolidated financial statements included herein are unaudited and have been prepared in accordance with generally accepted accounting principles for interim financial statements and in accordance with Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America (“GAAP”) for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the nine months ended September 30, 2013 are not necessarily indicative of results that may be expected for the year ended December 31, 2013. The consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Form 10-K for the year ended December 31, 2012 and the consolidated financial statements of FSA as of December 31, 2012 as filed in the Company’s Form 8-K on November 13, 2013. The December 31, 2012 consolidated balance sheet was derived from audited financial statements.

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Pro forma income information – Prior to July 22, 2013, FSA’s and FSHA’s member had elected to have FSA’s and FSHA’s income taxed as an “S” Corporation under provisions of the Internal Revenue Code and a similar section of the state income tax law. Therefore, taxable income or loss is reported to the individual member for inclusion in its tax returns and no provision for income taxes is included in the Company’s consolidated financial statements for periods prior to July 22, 2013. The pro forma income information provides an adjustment for income tax expense as if FSA and FSHA had been a “C” Corporation prior to July 22, 2013 at an assumed combined federal and state effective tax rate of 40%, which approximates the calculated statutory tax rates for the periods.

Consolidation – The accompanying consolidated financial statements include the accounts of the Company and its wholly owned, majority owned and controlled subsidiaries. All significant inter-company accounts and transactions have been eliminated in consolidation.

The Company accounts for its investments in Affiliates in which the Company exhibits significant influence, but not control, in accordance with the equity method of accounting. The Company does not consolidate its equity method investments, but rather measures them at their initial costs and then subsequently adjusts their carrying values through income for their respective shares of the earnings or losses during the period. The Company monitors its investments for other-than-temporary impairment by considering factors such as current economic and market conditions and the operating performance of the companies and records reductions in carrying values when necessary.

Use of estimates – The preparation of financial statements in conformity with generally accepted accounting principles requires management of the Company to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.

Revenue recognition and accounts receivable – The Company recognizes revenues in the period in which services are performed. Accounts receivable primarily consist of amounts due from third-party payors and patients. The Company’s ability to collect outstanding receivables is critical to its results of operations and cash flows. Amounts the Company receives for treatment of patients covered by governmental programs such as Medicare and Medicaid and other third-party payors such as health maintenance organizations, preferred provider organizations and other private insurers are generally less than the Company’s established billing rates. Additionally, to provide for accounts receivable that could become uncollectible in the future, the Company establishes an allowance for doubtful accounts to reduce the carrying value of such receivables to their estimated net realizable value. Accordingly, the revenues and accounts receivable reported in the Company’s consolidated financial statements are recorded at the net amount expected to be received.

Contractual Discounts and Cost Report Settlements – The Company derives a significant portion of its revenues from Medicare, Medicaid and other payors that receive discounts from its established billing rates. The Company must estimate the total amount of these discounts to prepare its consolidated financial statements. The Medicare and Medicaid regulations and various managed care contracts under which these discounts must be calculated are complex and are subject to interpretation and adjustment. The Company estimates the allowance for contractual discounts on a payor-specific basis given its interpretation of the applicable regulations or contract terms. These interpretations sometimes result in payments that differ from the Company’s estimates. Additionally, updated regulations and contract renegotiations occur frequently, necessitating regular review and assessment of the estimation process by management. Changes in estimates related to the allowance for contractual discounts affect revenues reported in the Company’s accompanying consolidated statements of operations.

Cost report settlements under reimbursement agreements with Medicare and Medicaid are estimated and recorded in the period the related services are rendered and are adjusted in future periods as final settlements are determined. There is a reasonable possibility that recorded estimates will change by a material amount in the near term. There were no adjustments for estimated cost report settlements during the nine months ended September 30, 2013 and 2012. The net cost report settlements due to the Company and included as a receivable under the caption “Prepaid and other current assets” in the accompanying consolidated balance sheets was $88,800 and $3,500, respectively, at September 30, 2013 and December 31, 2012. The Company’s management believes that adequate provisions have been made for adjustments that may result from final determination of amounts earned under these programs.

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

Provision and Allowance for Doubtful Accounts – To provide for accounts receivable that could become uncollectible in the future; the Company establishes an allowance for doubtful accounts to reduce the carrying value of such receivables to their estimated net realizable value. The primary uncertainty lies with uninsured patient receivables and deductibles, co-payments or other amounts due from individual patients.

The Company has an established process to determine the adequacy of the allowance for doubtful accounts that relies on a number of analytical tools and benchmarks to arrive at a reasonable allowance. No single statistic or measurement determines the adequacy of the allowance for doubtful accounts. Some of the analytical tools that the Company utilizes include, but are not limited to, the aging of accounts receivable, historical cash collection experience, revenue trends by payor classification, revenue days in accounts receivable, the status of claims submitted to third party payors, reason codes for declined claims and an assessment of the Company’s ability to address the issue and resubmit the claim and whether a patient is on a payment plan and making payments consistent with that plan. Accounts receivable are written off after collection efforts have been followed in accordance with the Company’s policies.

Due to the nature of the healthcare industry and the reimbursement environment in which the Company operates, certain estimates are required to record net revenues and accounts receivable at their net realizable values at the time services are provided. Inherent in these estimates is the risk that they will have to be revised or updated as additional information becomes available, which could have a material impact on the Company’s operating results and cash flows in subsequent periods. Specifically, the complexity of many third-party billing arrangements and the uncertainty of reimbursement amounts for certain services from certain payors may result in adjustments to amounts originally recorded.

The patient and their third party insurance provider typically share in the payment for the Company’s services. The amount patients are responsible for includes co-payments, deductibles, and amounts not covered due to the provider being out-of-network. Due to uncertainties surrounding deductible levels and the number of out-of-network patients, the Company is not certain of the full amount of patient responsibility at the time of service. The Company estimates amounts due from patients prior to service and generally collects those amounts prior to service. Remaining amounts due from patients are then billed following completion of service.

The activity in the allowances for doubtful accounts for the nine months ending September 30, 2013:

Cash and cash equivalents – The Company considers all highly liquid temporary cash investments with an original maturity of three months or less to be cash equivalents. Certificates of deposit with original maturities of more than three months are also considered cash equivalents if there are no restrictions on withdrawing funds from the account.

Goodwill and Intangible Assets – The Company evaluates goodwill for impairment at least on an annual basis and more frequently if certain indicators are encountered. Goodwill is to be tested at the reporting unit level, defined as an ASC or hospital (referred to as a component), with the fair value of the reporting unit being compared

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to its carrying amount, including goodwill. If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is not considered to be impaired. The Company will complete its annual impairment test in December 2013.

Intangible assets other than goodwill which include physician membership interests, service contracts and covenants not to compete are amortized over their estimated useful lives using the straight line method. The remaining lives range from five to seven years. The Company evaluates the recoverability of identifiable intangible asset whenever events or changes in circumstances indicate that an intangible asset’s carrying amount may not be recoverable.

Net income (loss) per share – Basic net income (loss) per share is computed by dividing net income (loss) by the weighted average number of common shares outstanding for the period. Diluted loss per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted during the period. Dilutive securities having an anti-dilutive effect on diluted loss per share are excluded from the calculation.

Recently Adopted and Recently Issued Accounting Guidance

Adopted Guidance

On January 1, 2013, the Company adopted changes issued by the Financial Accounting Standards Board (FASB) to the testing of indefinite-lived intangible assets for impairment, similar to the goodwill changes adopted in September 2011. These changes provide an entity the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not (more than 50%) that the fair value of an indefinite-lived intangible asset is less than its carrying amount. Such qualitative factors may include the following: macroeconomic conditions; industry and market considerations; cost factors; overall financial performance; and other relevant entity-specific events. If an entity elects to perform a qualitative assessment and determines that an impairment is more likely than not, the entity is then required to perform the existing two-step quantitative impairment test, otherwise no further analysis is required. An entity also may elect not to perform the qualitative assessment and, instead, proceed directly to the two-step quantitative impairment test. Notwithstanding the adoption of these changes, management plans to proceed directly to the two-step quantitative test for the Company’s indefinite-lived intangible assets. The adoption of these changes had no impact on the Company’s consolidated financial statements.

On January 1, 2013, the Company adopted changes issued by the FASB to the disclosure of offsetting assets and liabilities. These changes require an entity to disclose both gross information and net information about both instruments and transactions eligible for offset in the statement of financial position and instruments and transactions subject to an agreement similar to a master netting arrangement. The enhanced disclosures will enable users of an entity’s financial statements to understand and evaluate the effect or potential effect of master netting arrangements on an entity’s financial position, including the effect or potential effect of rights of setoff associated with certain financial instruments and derivative instruments. The adoption of these changes had no impact on the Company’s consolidated financial statements.

Issued Guidance

In February 2013, the FASB issued changes to the accounting for obligations resulting from joint and several liability arrangements. These changes require an entity to measure such obligations for which the total amount of the obligation is fixed at the reporting date as the sum of (i) the amount the reporting entity agreed to pay on the basis of its arrangement among its co-obligors, and (ii) any additional amount the reporting entity expects to pay on behalf of its co-obligors. An entity will also be required to disclose the nature and amount of the obligation as well as other information about those obligations. Examples of obligations subject to these requirements are debt arrangements and settled litigation and judicial rulings. These changes become effective for the Company on January 1, 2014. Management has determined that the adoption of these changes will not have an impact on the consolidated financial statements, as the Company does not currently have any such arrangements.

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Note 4 – Reverse Acquisition

On July 22, 2013, the Company acquired FSA and FSA’s consolidated variable interest entity, FSHA, from Foundation Healthcare Affiliates, LLC (“FHA”) pursuant to an Amended and Restated Membership Purchase Agreement (the “Purchase Agreement”). Pursuant to the Purchase Agreement, the Company (i) issued to FHA 114,500,000 shares of its common stock, (ii) issued to FHA a demand promissory note in the principal amount of $2.0 million, and (iii) assumed certain liabilities and obligations of FHA totaling approximately $2.0 million.

For accounting purposes, the acquisition of FSA was accounted for as a reverse acquisition and as a result, the Company’s historical operating results included in the accompanying condensed consolidated financial statements for the periods prior to July 22, 2013 represent those of FSA. The historical financial statements of FSA have been adjusted for the effect of the recapitalization that occurred as a result of the reverse acquisition.

The acquisition of Foundation was based on management’s belief that Foundation’s acquisition and development strategy and operating model will enable the Company to grow by taking advantage of highly-fragmented markets, an increasing demand for short stay surgery and a need by physicians to forge strategic alliances to meet the needs of the evolving healthcare landscape while also shaping the clinical environments in which they practice. The Company expects the acquisition of Foundation will generate positive earnings and cash flow that will be accretive to the earnings and cash flow of the Company.

Simultaneous with and subject to the reverse acquisition, the Company issued 6,000,000 shares of common stock to purchase a $6.0 million participation in the credit facility owed by the Company to Arvest Bank (see Note 5 – Discontinued Operations for more information) and 17,970,295 shares of common stock to Mr. Roy T. Oliver, one of our greater than 5% shareholders and affiliates, for full satisfaction of debt owed to Mr. Oliver totaling $8,136,390. Since the completion of the reverse acquisition was subject to these transactions, they have been recorded as part of the reverse acquisition.

Since FSA is deemed to be the accounting acquirer, the reverse acquisition was recorded by allocating the purchase price of the acquisition to the assets acquired, including intangible assets and liabilities assumed, from the legacy business of Graymark Healthcare, Inc. (“Graymark”), based on their estimated fair values at the acquisition date. The excess of the cost of the acquisitions over the net amounts assigned to the estimated fair value of the assets acquired, net of liabilities assumed, was recorded as goodwill, none of which is anticipated to be tax deductible. The fair value amounts recorded are preliminary and are subject to change. Management has engaged a third-party valuation company to complete a valuation of the fair value of the assets acquired and liabilities assumed in the reverse acquisition. Management expects to complete the valuation in the fourth quarter of 2013.

The fair value of the total consideration issued in the reverse acquisition amounted to $17.4 million and included $13.4 million for the issuance of the Company’s common stock to FHA, Arvest Bank and Mr. Oliver, $2.0 million for the promissory note issued to FHA and $2.0 million for the debt obligations and liabilities assumed from FHA.

The preliminary purchase allocation for the reverse acquisition is presented in the table below. These preliminary estimates will be revised in future periods and the revisions may materially affect the presentation of the Company’s consolidated financial results. Any changes to the initial estimates of the fair value of the assets and liabilities will be recorded as adjustments to those assets and liabilities and residual amounts will be allocated to goodwill, subject to a review for impairment.

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During the nine months ended September 30, 2013 and 2012, the Company incurred $435,522 and $222,335 in expenses related to the reverse acquisition. The expenses incurred related primarily to legal fees related to the Purchase Agreement and structure of the transaction and professional fees related to the audits of the 2012 and 2011 consolidated financial statements of FSA.

The amounts of acquisition revenues and earnings included in the Company’s consolidated statements of operations for the nine months ended September 30, 2013, and the revenue and earnings of the combined entity had the reverse acquisition date for Graymark been January 1, 2012 are as follows:

The pro forma information is presented for informational purposes only and is not necessarily indicative of the results of operations that actually would have been achieved had the acquisition been consummated as of that time, nor is it intended to be a projection of future results.

Note 5 – Discontinued Operations

Prior to the reverse acquisition, Graymark committed to a plan to divest of or close certain sleep diagnostic and sleep therapy locations. The decision was based on a combination of the financial performance of the facilities and the shift in focus to the business model of Foundation. As a result of the pending closure or sale of these locations, the related assets, liabilities, results of operations and cash flows were classified as discontinued operations which were acquired by the Company in the reverse acquisition.

Under the plan, from July 2013 to October 2013, Graymark closed or sold 24 sleep diagnostic locations including both IDTF and contracted locations in Georgia, Iowa, Kansas, Missouri, Nevada, Oklahoma and Texas and 5 sleep therapy locations in Iowa, Kansas, Nevada, Oklahoma and Texas.

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As part of the reverse acquisition, the Company acquired the special charge liability of $475,570 related to the estimated closing costs resulting from the plan to sell or close the sleep diagnostic and therapy locations. From July 22, 2013 to September 30, 2013, the activity in the acquired accruals for restructuring charges established for lease termination and other exit costs were as follows:

Additional charges may be recorded in future periods dependent upon the Company’s ability to sub-lease or otherwise mitigate future lease costs at closed facilities.

The operating results of the discontinued sleep diagnostic and therapy locations and the Company’s other discontinued operations from July 22, 2013 to September 30, 2013 are summarized below:

The balance sheet items for discontinued operations are summarized below:

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The Company’s borrowings and capital lease obligations included in discontinued operations as of September 30, 2013 is as follows:

At September 30, 2013, future maturities of long-term debt included in discontinued operations were as follows:

On July 22, 2013, the Company’s subsidiaries, SDC Holdings, LLC and ApothecaryRx, LLC (collectively the “Borrowers”), the Company and Mr. Stanton Nelson (the “Guarantor” and the Company’s chief executive officer) entered into a Second Amended and Restated Loan Agreement (the “New Loan Agreement”) and an Amended and Restated Promissory Note (the “New Note”) with Arvest Bank. The Company, Borrowers, Guarantor and other guarantors previously entered into the Amended and Restated Loan Agreement dated effective December 17, 2010, as amended by the First Amendment to Loan Agreement dated January 1, 2012, the Second Amendment to Loan Agreement dated effective June 30, 2012, and the Third Amendment to Loan Agreement dated effective October 12, 2012 (the “Prior Agreement”). Under the Prior Agreement, the Company and Borrowers were indebted to Arvest Bank under the Amended and Restated Promissory Note, in the original principal amount of $15,000,000 dated June 30, 2010 and the Second Amended and Restated Promissory Note, in the original principal amount of $30,000,000, dated June 30, 2010 (the “Prior Notes”). Arvest Bank, the Company, the Borrowers and the Guarantor have agreed to restructure the loan evidenced by the Prior Notes and the Prior Agreement. As of September 30, 2013, the outstanding principal amount of the New Note was $10,450,233.

On July 22, 2013, in conjunction with the New Loan Agreement with Arvest Bank, the Company entered into a Participation Agreement with Arvest Bank in which we purchased a $6,000,000 participation in the New Note from Arvest Bank in exchange for 13,333,333 shares of the Company’s common stock. The Company purchased the participation in the last $6,000,000 of the principal amount due under the Arvest credit facility. The Company’s participation in the note is eliminated against the New Note in the long-term debt table shown above.

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The New Loan Agreement and New Note were entered into on the same date as and in conjunction with the reverse acquisition. As such, the New Note is included in the opening balance sheet in the reverse acquisition accounting (see Note 4 – Reverse Acquisition).

The New Note is collateralized by substantially all of the assets of the Borrowers and the personal guaranty of the Guarantor which is limited to $2,919,000. The note bears interest at the greater of the prime rate or 6.0% and provided the Borrowers are not in default, the Borrowers are required to make monthly payments of interest only. The entire unpaid principal balance and all accrued and unpaid interest thereon will be due and payable on December 31, 2013. Additionally, the New Note is subject to certain financial covenants including a debt service coverage ratio (“DSR”) covenant of not less than 1.25 to 1. Arvest Bank has waived the DSR and other financial covenant requirements through December 31, 2013, which is the maturity date of the New Note.

Note 6 – Goodwill and Other Intangibles

Changes in the carrying amount of goodwill as of September 30, 2013 and December 31, 2012 were as follows:

Goodwill and intangible assets with indefinite lives must be tested for impairment at least once a year. Carrying values are compared with fair values, and when the carrying value exceeds the fair value, the carrying value of the impaired asset is reduced to its fair value. The Company tests goodwill for impairment on an annual basis in the fourth quarter or more frequently if management believes indicators of impairment exist. The performance of the test involves a two-step process. The first step of the impairment test involves comparing the fair values of the applicable reporting units with their aggregate carrying values, including goodwill. The Company generally determines the fair value of its reporting units using the income approach methodology of valuation that includes the discounted cash flow method as well as other generally accepted valuation methodologies. If the carrying amount of a reporting unit exceeds the reporting unit’s fair value, the Company performs the second step of the goodwill impairment test to determine the amount of impairment loss. The second step of the goodwill impairment test involves comparing the implied fair value of the affected reporting unit’s goodwill with the carrying value of that goodwill.

The Company has estimated the goodwill associated with the reverse acquisition to be $20,847,608. The Company then determined the projected cash flows from the continuing operations of the legacy Graymark business were not sufficient to support the recorded goodwill. The Company evaluated the fair value of the goodwill subsequent to the reverse acquisition and determined the acquired goodwill was fully-impaired.

The carrying amount of intangible assets as of September 30, 2013 and December 31, 2012 follows:

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Intangible assets as of September 30, 2013 and December 31, 2012 include the following:

Amortization expense for the three months ended September 30, 2013 and 2012 was $556,816 and $129,970 respectively. Amortization expense for the nine months ended September 30, 2013 and 2012 was $1,453,777 and $434,199 million, respectively. Amortization expense for the next five years related to these intangible assets is expected to be as follows:

Note 7 – Borrowings and Capital Lease Obligations

The Company’s short-term debt obligations are as follows:

On March 19, 2013, the Company received a short-term working capital loan for $2,010,027 from its senior lender that is collateralized by the inventory, accounts receivable, equipment and other assets of one of the Company’s hospital subsidiaries. The note bears interest at a variable rate of prime plus 3.75%, with a minimum rate of 7%, and the Company is required to make monthly payments of interest only with the balance due at maturity in March 2014.

On July 22, 2013, in conjunction with the Foundation acquisition, the Company issued a promissory note for $2,000,000 to FHA. The note is unsecured, bears interest at a fixed rate of 7% and is due on demand. During the period from July 22, 2013 to September 30, 2013, the Company made payments totaling $286,904 on the FHA note. On October 14, 2013, the total principal and interest due on the FHA note, totaling $1,727,377 was paid.

On July 22, 2013, in conjunction with the Tyche Transaction (see Note 8 – Preferred Noncontrolling Interests), the Company issued a note payable to S&H Leasing, LLC (“S&H Leasing”), a member of Tyche. The note is unsecured and bears interest at a fixed rate of 11.5%. All principal and interest on the note is due at maturity on August 1, 2014.

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In August 2013, the HC REIT short-term note payable (“HC REIT Note 1”) was forgiven by HC REIT in conjunction with the El Paso Real Estate Transaction described in Note 10 – Extraordinary Gain and Other Item.

The Company’s long-term debt and capital lease obligations are as follows:

On July 22, 2013, as part of the acquisition of Foundation, the Company assumed a note payable with its senior lender from FHA. The note is unsecured and bears interest at a fixed rate of 6.75%. The Company is required to make monthly principal and interest payments under the note of $11,628.

In August 2013, the HC REIT note payable (“HC REIT Note 2”) was assigned to FSHA as part of the El Paso Real Estate Transaction described in Note 10 – Extraordinary Gain and Other Item.

The Company has a note payable with a bank that is collateralized by the Company’s equity investment in one of its Affiliates. The note bears interest at a fixed rate of 7.7% and the Company is required to make monthly principal and interest payments of $16,000.

On July 22, 2013, as part of the acquisition of Foundation, the Company assumed various notes payable from FHA, totaling $1.2 million that are owed to various third parties and a bank. The notes payable were related to

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past legal settlements of the Company that were funded by FHA through the notes payable. The assumed settlement notes bear interest at fixed rates ranging from 5.25% to 8%. On September 3, 2013, the Company entered into a note payable with a noncontrolling interest holder in one of the Company’s hospital subsidiaries. The note bears interest at prime plus 2% and was entered into as a settlement of a dispute and for the purpose of purchasing the noncontrolling interest from the holder. All of the settlements notes payable are unsecured and the Company is required to make monthly principal and interest payments totaling $51,449.

On August 30, 2013, the Company’s capital lease with HC REIT was forgiven in conjunction with the El Paso Real Estate Transaction described in Note 10 – Extraordinary Gain and Other Item.

The Company has entered into various short-term and long-term notes payable with its senior lender, Legacy Bank (referred to as “Legacy Debt”). As of September 30, 2013 and 2012, the balance of the Legacy Debt was $12.1 million and $11.5 million, respectively. The Legacy Debt is collateralized by substantially all of the assets of the Company’s subsidiaries, FSA and FSHA, and a portion is personally guaranteed by certain officers of the Company. In conjunction with the Legacy Debt, the Company has agreed to comply with certain financial covenants (as defined and calculated at the FSA and FSHA level) including:

As of September 30, 2013, FSA and FSHA are in compliance with the Legacy Bank Financial Covenants. Legacy Bank has waived the financial covenants until January 15, 2014. There is no assurance that Legacy Bank will waive any future violations of the financial covenants. The Company anticipates that it will also meet the financial covenants at January 15, 2014. Historically, management has been successful in obtaining waivers from the bank for any covenant non-compliance; however there is no assurance that the Company will be able to obtain waivers in the future.

At September 30, 2013, future maturities of long-term debt were as follows:

Note 8 – Preferred Noncontrolling Interest

On March 13, 2013, the Company’s wholly-owned subsidiary, Foundation Health Enterprises, LLC (“FHE”) initiated a private placement offering for up to $15,960,000. The offering is comprised of 152 units (“FHE Unit” or “preferred noncontrolling interest”). Each FHE Unit is being offered at $105,000 and entitles the purchaser to one (1) Class B membership interest in FHE, valued at $100,000, and 10,000 shares of the Company’s common stock, valued at $5,000. During the period from July 22, 2013 to September 30, 2013, FHE and the Company completed the sale of 75 FHE Units for total consideration of $7,875,000 which was comprised of $7,500,000 attributable to the preferred noncontrolling interest and $375,000 attributable to the 750,000 shares of the Company’s common stock.

The FHE Units provide for a cumulative preferred annual return of 9% on the amount allocated to the Class B membership interests. The FHE Units will be redeemed by FHE in four annual installments beginning in July 2014. The first three installments shall be in the amount of $10,000 per FHE Unit and the fourth installment will be in the amount of the unreturned capital contribution and any undistributed preferred distributions. The FHE Units are convertible at the election of the holder at any time prior to the complete redemption into restricted common shares of the Company at a conversion price of $2.00 per share. Since the FHE Units have a redemption feature and

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a conversion feature which the Company determined to be substantive, the preferred noncontrolling interests has been recorded at the mezzanine level in the accompanying consolidated balance sheets and the corresponding dividends are recorded as a reduction of accumulated deficit.

As of December 31, 2012, the Company had an outstanding preferred membership interest of $11,072,465. The preferred member interest was owned by Tyche Health Enterprises, LLC (“Tyche”) and provided for annual cash dividends at a rate of 11.5%. On March 31, 2013, the Company entered into an Asset Purchase Agreement (the “Tyche Agreement”) with Tyche which was subsequently amended on March 31, 2013 and amended and closed on July 22, 2013. Under the Tyche Agreement, the Company purchased from Tyche (i) all of Tyche’s right, title and interest in the Membership Interest Purchase Agreement; (ii) all of Tyche’s right, title and interest in the preferred and common membership interest in FSH and the right to various equity interests in the affiliates of FSH; (iii) all of Tyche’s right, title and interest in the preferred and common membership interest in FSHA and the right to various equity interest in the affiliates of FSHA; and (iv) all of Tyche’s right, title and interest in any preferred or non-preferred ownership interest in any Foundation entities that have been acquired as a result of the Membership Interest Purchase Agreement.

Under the Tyche Agreement, the Company paid $11,102,372 to Tyche and Tyche related entities and TSH issued promissory notes totaling $2,339,905 to Tyche and Tyche related entities for total consideration of $13,442,277. As further consideration for the Tyche Agreement, the Company issued Tyche and certain Tyche related entities warrants for the purchase of Company’s common stock. The warrants issued included:

Note 9 – Commitments and Contingencies

The Company is exposed to asserted and unasserted legal claims encountered in the normal course of business, including claims for damages for personal injuries, medical malpractice, breach of contracts, wrongful restriction of or interference with physicians’ staff privileges and employment related claims. In certain of these actions, plaintiffs request payment for damages, including punitive damages that may not be covered by insurance. Management believes that the ultimate resolution of these matters will not have a material adverse effect on the operating results or the financial position of the Company. There were no settlement expenses during the nine months ended September 30, 2013. During the nine months ended September 30, 20112, the Company incurred $36,000 in settlement expenses related to its ongoing asserted and unasserted legal claims.

Note 10 – Extraordinary Gain and Other Item

Extraordinary Gain – On August 30, 2013, the Company, entered into an Agreement of Sale and Purchase (“Purchase Sale Agreement” or “PSA”) with HCRI Texas Properties, Ltd. (“Seller”) and HC REIT and an Agreement in Connection with Assignment and Assumption of PSA (“Assignment Agreement”) with DOC-FSH El Paso Medical Center, LLC (“DOC”) resulting in an extraordinary gain of $11,136,121 (collectively referred to as the “El Paso Real Estate Transaction”). The income taxes related to the extraordinary gain and the amount of the extraordinary gain attributable to noncontrolling interests are summarized below:

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Pursuant to the PSA, the Company agreed to acquire from Seller the real property occupied and certain personal property used by the Company’s subsidiary East El Paso Physicians’ Medical Center, LLC (“EEPPMC”) under a master lease agreement (“Master Lease”) between EEPPMC, Seller and HCN.

The real property and other consideration covered by the Purchase Sale Agreement includes the hospital (“Hospital”) and medical office building (“MOB”) occupied by EEPPMC, an adjoining parcel of vacant land (“Excess Land”), the HC REIT Note 2, and certain personal property, including medical equipment, owned by Seller and attached to or located in and used in the operation of the Hospital and MOB (“Personal Property. The purchase price under the Purchase Agreement was $39,066,428.

Simultaneous with the execution of the Purchase Sale Agreement, the Company executed the Assignment Agreement with DOC whereby FSHA assigned and DOC assumed all of FSHA’s right, title, interest and obligations in, to and under the Purchase Sale Agreement, except for the Excess Land, HC REIT Note 2 and Personal Property. The consideration under the Assignment Agreement with DOC was $40,000,000 and was composed of the following:

The estimated excess value of the assets obtained compared to the consideration paid as a result of the PSA and Assignment agreement was $4,027,561. The Company is in the process of conducting formal valuations of the Excess Land and Personal Property acquired in the transaction and will adjust the extraordinary gain accordingly based on the results of those evaluations.

In conjunction with the execution of the PSA and Assignment Agreement, HC REIT agreed to forgive certain liabilities totaling $7,108,560 due to HC REIT from EEPPMC composed of the following:

The Company determined that the nature of the El Paso Real Estate Transaction was both unusual in nature and infrequent in occurrence given the nature of our business and current operating environment. The event is unusual given we are a health care organization that invests in and manages existing healthcare facilities, not a real estate company. This event is also unique given the complex nature of both the transaction and the unusual level of debt and liabilities forgiven as part of the transaction and as such would not be reasonably expected to reoccur in the foreseeable future.

Other Item – On September 30, 2013, the Company entered into an Agreement of Sale and Purchase (“OKC MOB Agreement”) with Foundation Medical Center of Oklahoma City, LLC (“FMC”) pursuant to which the Company agreed to acquire from Seller the real property occupied as the corporate headquarters of FSA and FSHA.

The real property covered by the OKC MOB Agreement includes an ambulatory surgery center facility owned and operated by a Foundation affiliate called Foundation Surgery Affiliate of Northwest Oklahoma City, LLC. The remainder of the building is medical office space occupied by a physician group, a sleep lab, a medical infusion company, and the Foundation corporate office. The building consists of approximately 52,000 square feet. The purchase price under the Purchase Agreement was $10,588,235.

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Simultaneous with the execution of the OKC MOB Agreement, the Company entered into an Agreement in Connection with Assignment and Assumption of PSA (“OKC MOB Assignment Agreement”) with DOC-GREYMARK HQ OKC MOB, LLC (“OKC DOC”) whereby the Company assigned and OKC DOC assumed, all of the Company’s right, title, interest and obligations in, to and under the OKC MOB Agreement. The consideration under the OKC MOB Assignment Agreement with OKC DOC was $15,600,000 and was composed of the following:

Simultaneous with the sale to OKC DOC, the Company executed a 10 year master lease on the building for an annual rent of $1,248,000 with annual escalations of 2%. The current lease income on the underlying sub-leases is approximately $900,000 per year. The master lease is an operating lease. Given the disparity between the annual rent expense under the master lease and the rental income of the underlying sub-leases, the gain on the sale to OKC DOC will be deferred and recorded on a straight-line basis as a reduction in the rent expense under the master lease.

Note 11 – Fair Value Measurements

Fair value is the price that would be received from the sale of an asset or paid to transfer a liability (i.e., an exit price) in the principal or most advantageous market in an orderly transaction between market participants. In determining fair value, the accounting standards established a three-level hierarchy that distinguishes between (i) market data obtained or developed from independent sources (i.e., observable data inputs) and (ii) a reporting entity’s own data and assumptions that market participants would use in pricing an asset or liability (i.e., unobservable data inputs). Financial assets and financial liabilities measured and reported at fair value are classified in one of the following categories, in order of priority of observability and objectivity of pricing inputs:

The fair value measurement level for an asset or liability is based on the lowest level of any input that is significant to the fair value measurement. Valuation techniques should maximize the use of observable inputs and minimize the use of unobservable inputs.

Recurring Fair Value Measurements: The carrying value of the Company’s financial assets and financial liabilities is their cost, which may differ from fair value. The carrying value of cash held as demand deposits, money market and certificates of deposit, accounts receivable, short-term borrowings, accounts payable and accrued liabilities approximated their fair value. At September 30, 2013, the fair value of the Company’s long-term debt, including the current portion was determined approximate its carrying value.

Nonrecurring Fair Value Measurements:

Business Acquisition – In July 2013, the Company acquired Foundation in a transaction that was treated as a reverse acquisition for accounting purposes; see Note 4 – Reverse Acquisition for additional information. The assets acquired and liabilities assumed from Graymark in the reverse acquisition were recorded at their respective fair values on the date of the acquisition.

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These nonrecurring fair value measurements were developed using significant unobservable inputs (Level 3). The primary valuation technique used was an income methodology based on management’s estimates of forecasted cash flows for each business unit, with those cash flows discounted to present value using rates commensurate with the risks of those cash flows. Assumptions used by management were similar to those that would be used by market participants performing valuations of these business units and were based on analysis of current and expected future economic conditions and the updated strategic plan for each business unit.

Note 12 – Related Party Transactions

On July 22, 2013, the Company issued Mr. Roy T. Oliver, one of our greater than 5% shareholders and affiliates, 17,970,295 shares of common stock for full satisfaction of debt owed to Mr. Oliver totaling $8,136,390. The Company previously used the proceeds from the debt to fund its payment obligations to Arvest Bank.

As of September 30, 2013, the Company had $5.9 million on deposit at Valliance Bank. Valliance Bank is controlled by Mr. Roy T. Oliver, one of our greater than 5% shareholders and affiliates. In addition, the Company is obligated to Valliance Bank under certain notes payable totaling approximately $5.9 million and $0.8 million at September 30, 2013 and December 31, 2012, respectively. The interest rates on the notes range from 5% to 10%. Non-controlling interests in Valliance Bank are held by Mr. Stanton Nelson, the Company’s chief executive officer and Mr. Joseph Harroz, Jr., a director of the Company. Mr. Nelson and Mr. Harroz also serve as directors of Valliance Bank.

The Company occupies office space subject to a lease agreement with City Place, LLC (“City Place”). Under the lease agreement, the Company pays monthly rent of $17,970 until June 30, 2014; $0.00 from July 1, 2014 to January 31, 2015 and $17,970 from February 1, 2015 to March 31, 2017 plus additional payments for allocable basic expenses of City Place; the lease expires on March 31, 2017. Non-controlling interests in City Place are held by Roy T. Oliver, one of the Company’s greater than 5% shareholders and affiliates, and Mr. Stanton Nelson, the Company’s Chief Executive Officer. During the period from July 22, 2013 to September 30, 2013, the Company incurred approximately $54,000 in lease expense under the terms of the lease.

As of September 30, 2013 and December 31, 2012, the Company has obligations of $1.4 million that are owed to FHA and certain real estate subsidiaries and affiliates of FHA related to transactions that occurred prior to the Foundation acquisition in July 2013. The amounts owed to FHA and FHA affiliates are included in “Other liabilities” on the accompanying consolidated balance sheets.

The Company has entered into agreements with certain of its Affiliate ASCs and hospitals to provide management services. As compensation for these services, the surgery centers and hospitals are charged management fees which are either fixed or are based on a percentage of the Affiliates cash collected or the Affiliates net revenue. The percentages range from 2.25% to 6.0%.

Note 13 – Subsequent Events

Management evaluated all activity of the Company and concluded that no material subsequent events have occurred that would require recognition in the consolidated financial statements or disclosure in the notes to the consolidated financial statements, except as noted below:

On October 2, 2013, the Company and FHE completed the sale of 12 FHE Units for total consideration of $1,260,000 which was comprised of $1,200,000 attributable to the preferred noncontrolling interest and $60,000 attributable to the 120,000 shares of the Company’s common stock. See Note 8 – Preferred Noncontrolling Interests for additional information.

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

Company Overview

Graymark Healthcare, Inc. (the “Company”) is organized under the laws of the state of Oklahoma and owns controlling and noncontrolling interests in surgical hospitals located in Texas. We also own noncontrolling interests in ambulatory surgery centers (“ASCs” and “Affiliates”) located in Texas, Oklahoma, Louisiana, Pennsylvania, New Jersey, Maryland and Ohio. Additionally, we provides\ sleep testing management services to various rural hospitals in Iowa, Minnesota, Missouri, Nebraska and South Dakota under management contracts with the hospitals. We provide management services to a majority of our Affiliates under the terms of various management agreements.

Foundation Transaction

On July 22, 2013, we acquired 100% of the interests in Foundation Surgery Affiliates, LLC (“FSA”) and FSA’s consolidated variable interest entity, Foundation Surgical Hospital Affiliates, LLC (“FSHA”) (collectively “Foundation”) from Foundation Healthcare Affiliates, LLC (“FHA”) in exchange for 114,500,000 shares of the Company’s common stock and a promissory note in the amount of $2,000,000. We also assumed certain debt and other obligations of FHA in the amount of $1,991,733. The promissory note is unsecured, bears interest at a fixed rate of 7% and is due on demand. During the period from July 22, 2013 to September 30, 2013, we made payments totaling $286,904 on the FHA note. On October 14, 2013, the total principal and interest due on the FHA note, totaling $1,727,377 was paid.

For accounting purposes, the acquisition of FSA was accounted for as a reverse acquisition and as a result, our historical operating results included in our consolidated financial statements for the periods prior to July 22, 2013 represent those of FSA. The historical financial statements of FSA have been adjusted for the effect of the recapitalization that occurred as a result of the reverse acquisition. Prior to July 22, 2013, FSA’s member had elected to have FSA’s income taxed as an “S” Corporation under provisions of the Internal Revenue Code and a similar section of the state income tax law. Therefore, taxable income or loss is reported to the individual member for inclusion in its respective tax returns and no provision for federal and state income taxes is included in these consolidated financial statements for periods prior to July 22, 2013. We have included pro forma income information in our consolidated statements of operations that provides an adjustment for income tax expenses as if FSA and FSHA had been a “C” Corporation prior to July 22, 2013 at an assumed combined federal and state effective rate of 40%, which approximates the calculated statutory tax rates for the periods.

Hospital and ASC Business Overview

We are a nationally prominent owner and manager of ASCs and surgical hospitals with facilities located in Louisiana, Maryland, New Jersey, Ohio, Oklahoma, Pennsylvania and Texas. As of September 30, 2013, we owned interests and/or managed twelve ASCs and four surgical hospitals in partnership with over 400 local physicians. Through our facilities, we are a major provider of surgical services; we have performed approximately 54,700 outpatient and 1,700 inpatient surgical cases during the nine months ended September 30, 2013. [BRAD OR BOB – please complete] We believe that our acquisition and development strategy and operating model will enable us to continue to grow by taking advantage of highly-fragmented markets, an increasing demand for short stay surgery and a need by physicians to forge strategic alliances to meet the needs of the evolving healthcare landscape while also shaping the clinical environments in which they practice.

We typically own a minority ownership in facilities with ownership ranging from 10% to 31% in 13 facilities. However, we own over 51% in two of our larger hospitals located in San Antonio and El Paso, Texas. Our facilities collectively offer a “portfolio” of specialties ranging from relatively intensive specialties such as orthopedics and neurosurgery to low-surgery-intensive specialties such as pediatric ENT (tubes / adenoids), pain management and gastroenterology. Each of our facilities is located in freestanding buildings or medical office buildings. Our average ASC has approximately 16,000 square feet of space with four operating rooms, as well as ancillary areas for preparation, recover, reception and administration. Our surgery centers are normally open weekdays from 7:00 a.m. to approximately 5:00 p.m. or until the last patient is discharged. Our surgical hospitals have from 10 to 40 beds and average seven operating rooms, ranging in size from 40,000 to 126,000 square feet and are open 24 hours a day, 365 days a year.

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All of our ASC and surgical hospital facilities are licensed at the state level as either ASCs or hospitals, participate within the Medicare program and are accredited by the Accreditation Association for Ambulatory Healthcare (AAAHC), Det Norske Veritas (DNV) or the Joint Commission. We recognize that accreditation is a crucial quality benchmark for payors since many managed care organizations will not contract with a facility until it is accredited. We believe that our historical success in obtaining and retaining accreditation for our facilities reflects its commitment to providing high quality care in its facilities.

Generally, our ASC and surgical hospital facilities are owned and operated by limited partnerships or limited liability companies in which ownership interests are also held by local physicians who are on the medical staffs of the facilities. The facilities’ partnership and limited liability company agreements typically provide for the monthly or quarterly pro rata distribution of cash equal to net profits from operations, less amounts held in reserve for expenses and working capital. Even where we own a minority of the interests in a facility, the partnership or limited liability company agreements generally grant us representation on the facility’s governing board and ensure our participation in fundamental decisions. Our influence over the businesses of our facilities is enhanced by the management agreements which we possess with such facilities.

Our ASC and surgical hospital facilities depend upon third-party reimbursement programs, including governmental and private insurance programs, to pay for the preponderance of the services rendered to patients. Our ASC and surgical hospital facilities derive approximately 25% of their revenues from governmental healthcare programs, primarily Medicare and managed Medicare programs, and the remainder from a wide mix of commercial payors and patient co-pays and deductibles. Although our ASC and surgical hospital facilities receive only a quarter of their revenues from governmental programs, private payors typically follow the method in which the government reimburses healthcare providers. Under the government’s methodology our ASC and surgical hospital facilities are reimbursed for the performance of services through the payment of facility fees which vary according to whether the facility is an ASC or a hospital and the type of procedure that is performed. ASCs are reimbursed through the payment of a composite “ASC rate” which includes payment for most of the expenses associated with the performance of a procedure such as nursing services, supplies, and staffing costs. The reimbursement rates for inpatient hospital services are determined using Medicare severity diagnosis related groups which are intended to compensate hospitals according to the estimated intensity of hospital resources necessary to furnish care for a particular diagnosed illness. Hospitals are reimbursed for outpatient procedures in a manner similar to ASCs except that the methodologies employed to calculate reimbursement generally result in hospitals being reimbursed in this setting at a higher rate for outpatient procedures than free-standing ASCs.

The reimbursement rates payable to hospitals and ASCs are subject to frequent adjustment. In addition, the reimbursement methodologies contained in the Patient Protection and Affordable Care Act (the “ACA”) are still being evaluated and are a source of uncertainty. Physicians are typically paid separately for their professional services in both ASCs and hospitals.

Our revenues from the ASC and surgical hospital facilities are derived from (i) the pro rata distributions we receive on our ownership in the facilities, and (ii) management fees that we receive from these facilities. Such management fees are generally calculated as a percentage of the monthly net revenues. We own equity interests in all of our ASC and surgical hospital facilities except the Lake Surgery Center in Baton Rouge, Louisiana which we manage. We possess management agreements with all of our ASC and surgical hospital facilities except for the Houston Orthopedic Surgical Hospital in Houston, Texas in which we own 20% of the interest.

Liquidity Overview

As of September 30, 2013, we had an accumulated deficit of $31.5 million and a working capital deficiency of $20.6 million. During the nine months ended September 30, 2013, we generated a net loss attributable to Graymark Healthcare of $15.9 million, including a goodwill impairment charge of $20.8 million. We generated cash flow from operating activities from continuing operations of $5.1 million. We expect to refinance, by the end of the first quarter of 2014, a significant portion our long-term debt obligations and we expect that we will be able to significantly reduce our annual debt service payments as part of the refinancing. However, there is no assurance that we will be successful in completing the debt refinancing. See “Liquidity and Capital Resources” for additional information.

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Results of Operations

The following table sets forth selected results of our operations for the three and nine months ended September 30, 2013 and 2012. The following information was derived and taken from our unaudited financial statements appearing elsewhere in this report.

Comparison of the Three and Nine Month Periods Ended September 30, 2013 and 2012

Discussion of Three Month Periods Ended September 30, 2013 and 2012

Overall comments – as a result of the Foundation transaction on July 22, 2013 being recorded as a reverse acquisition, the operating results of the Company’s legacy business (referred to as “legacy Graymark”) is included for the period of July 22, 2013 to September 30, 2013. There are no operating results for the legacy Graymark business recorded in the third quarter of 2012. We acquired East El Paso Physician Medical Center, LLC (“EEPMC”), on October 26, 2012. As a result, there are no operating results for EEPMC recorded in the third quarter of 2012.

Patient services revenue increased $13.0 million or 148% during the three months ended September 30, 2013 compared with the third quarter of 2012. The increase was primarily due to:

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Management fees from affiliates decreased $0.4 million or 22% during the three months ended September 30, 2013 compared with the third quarter of 2012. Prior to our acquisition of EEPMC, we provided management services to that facility. That revenue is now eliminated in our consolidated financial statements. This change resulted in a $0.2 million decrease compared to the third quarter of 2012. Our management fees at both our ASCs and surgical hospitals are based on a percentage of collections. Lower collections at our ASCs resulted in a decrease of $0.1 million. An agreement to lower our management fees at one of our managed hospitals resulted in a decrease of $0.1 million.

Income from equity investments in affiliates decreased $0.2 million or 12% during the three months ended September 30, 2013 compared with the third quarter of 2012. Lower average reimbursement levels at one of our ASC’s in Pennsylvania resulted in a decrease of $0.3 million which was offset by improved operating results at our surgical hospitals resulting in a $0.1 million increase.

Other revenue increased $0.9 million or 510% during the three months ended September 30, 2013 compared with the third quarter of 2012. The increase was due to $0.5 million in revenue earned during the third quarter of 2013 from the sleep center management fees earned at our legacy Graymark hospital outreach locations. There is no revenue included from the hospital outreach locations during the third quarter of 2012 as a result of the reverse acquisition recorded on July 22, 2013. The remaining increase in other revenue of $0.4 million during the third quarter of 2013 compared to the third quarter of 2012 is primarily due to Tricare capital reimbursements on qualifying military admissions.

Provision for doubtful accounts increased $0.6 million or 453% during the three months ended September 30, 2013 compared with the third quarter of 2012. Provision for doubtful accounts as a percent of patient services revenue was 3.1% and 4.3% for the third quarter of 2013 and 2012, respectively. The increase is due to a $0.4 million reserve for EEPMC and a $0.2 million increase in the reserve at FBH SA related to increased revenues and accounts receivable balances.

Salaries and benefits increased $3.5 million or 101% to $7.0 million from $3.5 million during the three months ended September 30, 2013, compared with the third quarter of 2012. The increase in salaries and benefits was primarily due to:

Supplies expense increased $4.5 million or 203% to $6.7 million from $2.2 million during the three months ended September 30, 2013, compared with the third quarter of 2012. The increase in supplies expense was primarily due to $3.9 million of medical supply expenses at EEPMC and an increase of $0.6 million at FBH SA resulting from a increased number of high acuity surgical cases.

Other operating expenses increased $4.3 million or 99% to $8.6 million from $4.3 million during the three months ended September 30, 2013, compared with the third quarter of 2012. The increase in other operating expenses was primarily due to:

Impairment of goodwill – We recorded goodwill associated with the reverse acquisition related to legacy Graymark of $20,847,608. We then determined the projected cash flows from the continuing operations of the legacy Graymark business were not sufficient to support the recorded goodwill. We evaluated the fair value of the goodwill subsequent to the reverse acquisition and determined the acquired goodwill was fully-impaired.

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Depreciation and amortization represents the depreciation expense associated with our fixed assets and the amortization attributable to our intangible assets. Depreciation and amortization increased $0.7 million in the third quarter of 2013 compared to the second quarter of 2012. The increase was primarily due to $0.6 million of depreciation and amortization at EEPMC and $0.2 million of depreciation and amortization at legacy Graymark offset by a $0.1 million decrease at FBH SA due to certain assets becoming fully depreciated.

Net other expense represents primarily interest expense on borrowings reduced by interest income earned on cash and cash equivalents. Net other expense increased $0.4 million in the third quarter of 2013 compared to the second quarter of 2012. The increase is related to a $0.2 million increase in interest expense attributable to our increased borrowings as a result of the El Paso acquisition a $0.2 million increase related to legacy Graymark, and a gain of $0.1 million in the third quarter of 2012 related to the sale of an equity investment in affiliate which we did not have in 2013.

Provision for income taxes was $1.0 million for the third quarter in 2013. Prior to July 22, 2013, FSA’s member had elected to have FSA’s income taxed as an “S” Corporation under provisions of the Internal Revenue Code and a similar section of the state income tax law. Therefore, taxable income or loss is reported to the individual member for inclusion in its respective tax returns and no provision for federal and state income taxes is included in our consolidated financial statements for periods prior to July 22, 2013. We have included pro forma income information in our consolidated statements of operations that provides an adjustment for income tax expense as if FSA and FSHA had been a “C” Corporation prior to July 22, 2013 at an assumed combined federal and state effective tax rate of 40%, which approximates the calculated statutory tax rates for the periods.

Discontinued operations represent the net loss from the operations of our independent diagnostic testing facilities (“IDTF”) which were classified as held for sale prior the Graymark reverse acquisition. The results from our discontinued operations for the period of July 22, 2013 to September 30, 2013 are summarized below:

Extraordinary gain, net of tax – on August 30, 2013, we entered into an Agreement of Sale and Purchase (“Purchase Sale Agreement” or “PSA”) with HCRI Texas Properties, Ltd. (“Seller”) and HC REIT and an Agreement in Connection with Assignment and Assumption of PSA (“Assignment Agreement”) with DOC-FSH El Paso Medical Center, LLC (“DOC”) resulting in an extraordinary gain of $11,136,121 (collectively referred to as the “El Paso Real Estate Transaction”). The income taxes related to the extraordinary gain and the amount of the extraordinary gain attributable to noncontrolling interests are summarized below:

Pursuant to the PSA, the Company agreed to acquire from Seller the real property occupied by and certain personal property used by the Company’s subsidiary East El Paso Physicians’ Medical Center, LLC (“EEPPMC”) under a master lease agreement (“Master Lease”) between EEPPMC, Seller and HCN.

The real property and other consideration covered by the Purchase Sale Agreement includes the hospital (“Hospital”) and medical office building (“MOB”) occupied by EEPPMC, an adjoining parcel of vacant land (“Excess Land”), a note payable, and certain personal property, including medical equipment, owned by Seller and attached to or located in and used in the operation of the Hospital and MOB (“Personal Property”). The purchase price under the Purchase Agreement was $39,066,428.

Simultaneous with the execution of the Purchase Sale Agreement, the Company executed the Assignment Agreement with DOC whereby FSHA assigned and DOC assumed all of FSHA’s right, title, interest and obligations in, to and under the Purchase Sale Agreement, except for the Excess Land, a note payable and Personal Property.

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The consideration under the Assignment Agreement with DOC was $40,000,000. In conjunction with the execution of the PSA and Assignment Agreement, HC REIT agreed to forgive certain liabilities totaling $7,108,562 due to HC REIT from EEPPMC.

We determined that the nature of the El Paso Real Estate Transaction was both unusual in nature and infrequent in occurrence given the nature of our business and current operating environment. The event is unusual given we are a health care organization that invests in and manages existing healthcare facilities, not a real estate company. This event is also unique given the complex nature of both the transaction and the unusual level of debt and liabilities forgiven as part of the transaction and as such would not be reasonably expected to reoccur in the foreseeable future.

Noncontrolling interests were allocated $2.4 million and $0.4 million of net income during the three months ended September 30, 2013 and 2012, respectively. Noncontrolling interests are the equity ownership interests in our majority owned hospital subsidiaries, EEPMC and FBH SA.

Net income (loss) attributable to Graymark Healthcare. Our operations resulted in a net loss of $16.5 million during the third quarter of 2013, compared to net income of $1.2 million during the third quarter of 2012.

Discussion of Nine Month Periods Ended September 30, 2013 and 2012

Overall comments – as a result of the Foundation transaction on July 22, 2013 being recorded as a reverse acquisition, the operating results of the Company’s legacy business (referred to as “legacy Graymark”) is included for the period of July 22, 2013 to September 30, 2013. There are no operating results for the legacy Graymark business recorded in the nine months ended September 30, 2012. We acquired East El Paso Physician Medical Center, LLC (“EEPMC”), on October 26, 2012. As a result, there are no operating results for EEPMC recorded in the nine months ended September 30, 2012.

Patient services revenue increased $32.2 million or 135% during the nine months ended September 30, 2013 compared with the first nine months of 2012. The increase was primarily due to:

Management fees from affiliates decreased $1.0 million or 16% during the nine months ended September 30, 2013 compared with first nine months of 2012. Prior to our acquisition of EEPMC, we provided management services to that facility. That revenue is now eliminated in our consolidated financial statements. This change resulted in a $0.6 million decrease compared to the first nine months of 2012. We had two temporary management agreements in the first six months of 2012 we no longer have resulting in a decrease of $0.3 million. An agreement to lower our management fees at one of our managed hospitals resulted in a decrease of $0.2 million. Our management fees at both our ASCs and surgical hospitals are based on a percentage of collections. Greater year to date collections at our ASCs resulted in an offsetting increase of $0.1 million.

Income from equity investments in affiliates decreased $0.3 million or 7% during the nine months ended September 30, 2013 compared with the first nine months of 2012. Lower average reimbursement levels at one of our ASC’s in Pennsylvania resulted in a decrease of $0.2 million and lower operating results at our surgical hospitals resulted in a decrease of $0.1 million.

Other revenue increased $2.7 million or 229% during the nine months ended September 30, 2013 compared with the first nine months of 2013. The addition of EEPMC resulted in a $2.6 million increase, which includes $1.5 million in meaningful use payments related to the federal electronic medical records program, a $0.5 million settlement of the facilities 2009 Medicare cost report and $0.6 million in a combination of rental revenue from sub-lease tenants and Tricare capital reimbursements on qualifying military admissions. Revenue earned during the first nine months of 2013 from the sleep center management fees earned at our legacy Graymark hospital outreach

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locations resulted in a $0.5 million increase. There is no revenue included from the hospital outreach locations during the first nine months 2012 as a result of the reverse acquisition recorded on July 22, 2013. These amounts are offset by a $0.1 million decrease in miscellaneous service fees to our managed facilities and $0.3 million decrease at FBH SA due to a meaningful use payment related to the federal electronic medical records program received in the first half of 2012. No meaningful use payments have been received at FBH SA in 2013.

Provision for doubtful accounts increased $2.0 million or 524% during the nine months ended September 30, 2013 compared with the first nine months of 2012. Provision for doubtful accounts as a percent of patient services revenue was 4.3% and 1.6% for the first nine months of 2013 and 2012, respectively. The addition of EEPMC resulted in a $1.8 million increase and higher reserves related to increased revenues and account receivables at FBH SA resulted in a $0.2 million increase.

Salaries and benefits increased $9.6 million or 93% to $19.7 million from $10.2 million during the nine months ended September 30, 2013, compared with the first nine months of 2012. The increase in salaries and benefits was primarily due to:

Supplies expense increased $10.2 million or 149% to $17.0 million from $6.8 million during the nine months ended September 30, 2013, compared with the first nine months of 2012. The increase in supplies expense was primarily due to $10.0 million of medical supply expenses at EEPMC and an increase of $0.2 million at FBH SA resulting from an increase in the number of high acuity surgical cases.

Other operating expenses increased $13.2 million or 116% to $24.5 million from $11.3 million during the nine months ended September 30, 2013, compared with the first nine months of 2012. The increase in other operating expenses was primarily due to:

Impairment of goodwill – We recorded goodwill associated with the reverse acquisition related to legacy Graymark of $20,847,608. We then determined the projected cash flows from the continuing operations of the legacy Graymark business were not sufficient to support the recorded goodwill. We evaluated the fair value of the goodwill subsequent to the reverse acquisition and determined the acquired goodwill was fully-impaired.

Depreciation and amortization represents the depreciation expense associated with our fixed assets and the amortization attributable to our intangible assets. Depreciation and amortization increased $1.9 million in the nine months ended September 30, 2013 compared to the first nine months of 2012. The increase was primarily due to $1.9 million of depreciation and amortization at EEPMC and $0.2 million of depreciation and amortization at legacy Graymark partially offset by a $0.2 million decrease at FBH SA due to certain assets becoming fully depreciated.

Net other expense represents primarily interest expense on borrowings reduced by interest income earned on cash and cash equivalents. Net other expense increased $1.2 million in the third quarter of 2013 compared to the second quarter of 2012. The increase is related to an increase of $0.8 million in interest expense attributable to our increased borrowings as a result of the El Paso acquisition and a $0.2 million increase related to legacy Graymark and a gain of $0.3 million in the first nine months quarter of 2012 related to the sale of equity investments in certain affiliates, offset by a $0.1 million reduction in interest expense at FBH SA due to lower principle balances related to principle payments on existing loans.

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Provision for income taxes was $1.0 million for the first nine months of 2013. Prior to July 22, 2013, FSA’s member had elected to have FSA’s income taxed as an “S” Corporation under provisions of the Internal Revenue Code and a similar section of the state income tax law. Therefore, taxable income or loss is reported to the individual member for inclusion in its respective tax returns and no provision for federal and state income taxes is included in our consolidated financial statements for periods prior to July 22, 2013. We have included pro forma income information in our consolidated statements of operations that provides an adjustment for income tax expenses as if FSA and FSHA had been a “C” Corporation prior to July 22, 2013 at an assumed combined federal and state effective rate of 40%, which approximates the calculated statutory tax rates for the periods.

Discontinued operations represent the net loss from the operations of our independent diagnostic testing facilities (“IDTF”) which were classified as held for sale prior the Graymark reverse acquisition. The results from our discontinued operations for the period of July 22, 2013 to September 30, 2013 are summarized below: