<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______ to _______
COMMISSION FILE NUMBER 001-13803
WELLPOINT HEALTH NETWORKS INC.
(Exact name of registrant as specified in its charter)
DELAWARE 95-4635504
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
1 WELLPOINT WAY, THOUSAND OAKS, CALIFORNIA 91362
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (818) 234-4000
Not Applicable
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date:
TITLE OF EACH CLASS OUTSTANDING AT NOVEMBER 7, 2000
------------------- -------------------------------
Common Stock, $0.0l par value 62,569,997 shares
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER ENDED SEPTEMBER 30, 2000
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION PAGE
<S> <C>
ITEM 1. Financial Statements
Consolidated Balance Sheets as of September 30, 2000 and
December 31, 1999.................................................................. 1
Consolidated Income Statements for the Three and Nine Months
Ended September 30, 2000 and 1999.................................................. 2
Consolidated Statement of Changes in Stockholders' Equity
for the Nine Months Ended September 30, 2000....................................... 3
Consolidated Statements of Cash Flows for the
Nine Months Ended September 30, 2000 and 1999...................................... 4
Notes to Consolidated Financial Statements.............................................. 5
ITEM 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations..................................... 13
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk............................. 31
PART II. OTHER INFORMATION
ITEM 6. Exhibits and Reports on Form 8-K....................................................... 32
SIGNATURES ......................................................................................34
</TABLE>
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
WELLPOINT HEALTH NETWORKS INC.
Consolidated Balance Sheets
(Unaudited)
<TABLE>
<CAPTION>
(IN THOUSANDS, EXCEPT SHARE DATA) September 30, December 31,
2000 1999
------------- ------------
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents $ 408,826 $ 505,014
Investment securities, at market value 2,948,277 2,645,372
Receivables, net 679,620 513,079
Deferred tax assets 84,689 92,774
Other current assets 65,116 59,725
------------- ------------
Total Current Assets 4,186,528 3,815,964
Property and equipment, net 140,378 125,917
Intangible assets, net 167,595 96,298
Goodwill, net 392,228 307,647
Long-term investments, at market value 112,624 108,280
Deferred tax assets 117,169 84,063
Other non-current assets 54,138 55,065
------------- ------------
Total Assets $5,170,660 $4,593,234
============= ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Medical claims payable $1,398,599 $1,142,183
Reserves for future policy benefits 58,787 57,435
Unearned premiums 234,479 230,407
Accounts payable and accrued expenses 548,955 440,412
Experience rated and other refunds 232,926 223,066
Income taxes payable 12,864 84,026
Other current liabilities 422,698 349,757
------------- ------------
Total Current Liabilities 2,909,308 2,527,286
Accrued postretirement benefits 70,758 68,903
Reserves for future policy benefits, non-current 269,020 291,626
Long-term debt 400,108 347,884
Other non-current liabilities 41,623 44,835
------------- ------------
Total Liabilities 3,690,817 3,280,534
Stockholders' Equity:
Preferred Stock - $0.01 par value, 50,000,000 shares
authorized, none issued and outstanding - -
Common Stock - $0.01 par value, 300,000,000 shares
authorized, 71,390,971 issued at September 30, 2000
and December 31, 1999 714 714
Treasury stock, at cost, 9,129,743 and 7,764,668 shares at
September 30, 2000 and December 31, 1999, respectively (585,636) (481,331)
Additional paid-in capital 970,809 955,016
Retained earnings 1,077,968 854,642
Accumulated other comprehensive income (loss) 15,988 (16,341)
------------- ------------
Total Stockholders' Equity 1,479,843 1,312,700
------------- ------------
Total Liabilities and Stockholders' Equity $5,170,660 $4,593,234
============= ============
</TABLE>
See the accompanying notes to the consolidated financial statements
1
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
Consolidated Income Statements
(Unaudited)
<TABLE>
<CAPTION>
(IN THOUSANDS, EXCEPT EARNINGS PER SHARE)
Three Months Ended September 30, Nine Months Ended September 30,
-------------------------------- -------------------------------
2000 1999 2000 1999
--------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Revenues:
Premium revenue $ 2,184,639 $ 1,744,255 $ 6,307,746 $ 5,069,739
Management services revenue 115,376 103,989 336,719 323,188
Investment income 53,309 43,269 142,940 126,604
--------------- -------------- -------------- --------------
2,353,324 1,891,513 6,787,405 5,519,531
Operating Expenses:
Health care services and other benefits 1,762,220 1,400,391 5,097,757 4,092,039
Selling expense 101,313 85,263 290,825 240,882
General and administrative expense 324,658 269,245 932,052 786,520
--------------- -------------- -------------- --------------
2,188,191 1,754,899 6,320,634 5,119,441
--------------- -------------- -------------- --------------
Operating Income 165,133 136,614 466,771 400,090
Interest expense 5,657 3,686 18,430 15,693
Other expense, net 12,749 7,914 33,805 26,249
--------------- -------------- -------------- --------------
Income before Provision for Income Taxes and Cumulative
Effect of Accounting Change 146,727 125,014 414,536 358,148
Provision for income taxes 57,223 48,781 161,721 139,726
--------------- -------------- -------------- --------------
Income before Cumulative Effect of Accounting Change 89,504 76,233 252,815 218,422
Cumulative Effect of Accounting Change, net of tax -- -- -- (20,558)
--------------- -------------- -------------- --------------
Net Income $ 89,504 $ 76,233 $ 252,815 $ 197,864
=============== ============== ============== ==============
Earnings Per Share
Income before Cumulative Effect of Accounting Change $ 1.43 $ 1.16 $ 4.04 $ 3.27
Cumulative Effect of Accounting Change, net of tax -- -- -- (0.31)
--------------- -------------- -------------- --------------
Net Income $ 1.43 $ 1.16 $ 4.04 $ 2.96
=============== ============== ============== ==============
Earnings Per Share Assuming Full Dilution
Income before Cumulative Effect of Accounting Change $ 1.38 $ 1.11 $ 3.91 $ 3.19
Cumulative Effect of Accounting Change, net of tax -- -- -- (0.30)
--------------- -------------- -------------- --------------
Net Income $ 1.38 $ 1.11 $ 3.91 $ 2.89
=============== ============== ============== ==============
</TABLE>
See the accompanying notes to the consolidated financial statements
2
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
Consolidated Statement of Changes in Stockholders' Equity
(Unaudited)
<TABLE>
<CAPTION>
(IN THOUSANDS)
Common Stock
------------------------------------- Accumulated
Issued In Treasury Additional Other
Preferred ----------------- ----------------- Paid-in Retained Comprehensive
Stock Shares Amount Shares Amount Capital Earnings Income Total
--------- ------ ------ ------ --------- ---------- -------- --------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balance as of December 31, 1999 $ - 71,391 $ 714 7,765 $(481,331) $ 955,016 $854,642 $(16,341) $1,312,700
Stock grants to employees and
directors (14) 901 901
Stock issued for employee stock
option and stock purchase plans (1,104) 69,396 15,793 85,189
Stock repurchased, at cost 2,483 (174,602) (174,602)
Net losses from treasury stock
reissued (29,489) (29,489)
Comprehensive income
Net income 252,815 252,815
Other comprehensive income,
net of tax
Change in unrealized valuation
adjustment on investment
securities, net of
reclassification adjustment 32,390 32,390
Foreign currency adjustments,
net of tax (61) (61)
--------- -------- -----------
Total comprehensive income 252,815 32,329 285,144
--------- -------- -----------
--------- ------ ------ ------ --------- ---------- --------- -------- ----------
Balance as of September 30, 2000 $ - 71,391 $ 714 9,130 $(585,636) $ 970,809 $1,077,968 $15,988 $ 1,479,843
========= ====== ====== ====== ========= ========== ========== ======== ===========
</TABLE>
See the accompanying notes to the consolidated financial statements
3
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
Consolidated Statements of Cash Flows
(Unaudited)
<TABLE>
<CAPTION>
(IN THOUSANDS) Nine Months Ended September 30,
-------------------------------
2000 1999
---- ----
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Income before cumulative effect of accounting change $ 252,815 $ 218,422
Adjustments to reconcile income before cumulative effect of accounting
change to net cash provided by operating activities:
Depreciation and amortization, net of accretion 55,737 57,701
Losses on sales of assets, net 14,972 8,200
Provision (benefit) for deferred income taxes (12,252) 41,684
Amortization of deferred gain on sale of building (3,320) (3,320)
Accretion of interest on zero coupon subordinated debentures 2,224 1,004
(Increase) decrease in certain assets:
Receivables, net (144,762) (4,387)
Income taxes recoverable - 179,585
Other current assets (5,016) (21,169)
Other non-current assets 727 926
Increase (decrease) in certain liabilities:
Medical claims payable 178,879 130,570
Reserves for future policy benefits (21,254) (23,578)
Unearned premiums 3,807 2,454
Accounts payable and accrued expenses 97,328 75,376
Experience rated and other refunds 9,860 (36,680)
Income taxes payable (71,104) -
Other current liabilities 25,668 13,716
Accrued postretirement benefits 1,855 3,925
Other non-current liabilities 692 287
----------- -----------
Net cash provided by operating activities 386,856 644,716
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Investments purchased (2,731,253) (2,502,604)
Proceeds from investments sold and matured 2,491,508 2,072,059
Property and equipment purchased (34,410) (26,589)
Proceeds from property and equipment sold 1,842 263
Settlement of sales price for sale of Workers' Compensation business - (6,733)
Purchase of subsidiary, net of cash acquired (142,730) -
----------- -----------
Net cash used in investing activities (415,043) (463,604)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of zero coupon subordinated convertible debentures - 200,823
Net borrowing of long-term debt under the revolving credit facility 50,000 -
Proceeds from issuance of common stock 56,601 33,352
Common stock repurchased (174,602) (182,130)
----------- -----------
Net cash provided by (used in) financing activities (68,001) 52,045
----------- -----------
Net increase (decrease) in cash and cash equivalents (96,188) 233,157
Cash and cash equivalents at beginning of period 505,014 410,875
----------- -----------
Cash and cash equivalents at end of period $ 408,826 $ 644,032
=========== ===========
</TABLE>
See the accompanying notes to the consolidated financial statements
4
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. ORGANIZATION
WellPoint Health Networks Inc. (the "Company" or "WellPoint") is one of the
nation's largest publicly traded managed health care companies. As of
September 30, 2000, WellPoint had approximately 7.7 million medical members
and approximately 38.0 million specialty members. The Company offers a
broad spectrum of network-based managed care plans. WellPoint provides
these plans to the large and small employer, individual and senior markets.
The Company's managed care plans include preferred provider organizations
("PPOs"), health maintenance organizations ("HMOs"), point-of-service
("POS") plans, other hybrid medical plans and traditional indemnity plans.
In addition, the Company offers managed care services, including
underwriting, actuarial services, network access, medical cost management
and claims processing. The Company offers a continuum of managed health
care plans while providing incentives to members and employers to select
more intensively managed plans. The Company also provides a broad array of
specialty and other products and services, including pharmacy, dental,
utilization management, life insurance, preventive care, disability,
behavioral health, COBRA and flexible benefits account administration.
2. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of WellPoint,
in the opinion of management, reflect all material adjustments (which are
of a normal recurring nature) necessary for the fair presentation of its
financial position as of September 30, 2000, the results of its operations
for the quarter and nine months ended September 30, 2000 and 1999, cash
flows for the nine months ended September 30, 2000 and 1999 and its changes
in stockholders' equity for the nine months ended September 30, 2000. The
results of operations for the interim periods presented are not necessarily
indicative of the operating results for the full year.
3. ACQUISITION OF RUSH PRUDENTIAL
On March 1, 2000, the Company completed its acquisition of Rush Prudential
Health Plans ("Rush Prudential"). Rush Prudential offers a broad array of
products and services ranging from HMO products to traditional PPO
products. The acquisition has more than doubled the Company's current
Illinois medical membership to over 530,000 members. Subsequent to the
acquisition, the Rush Prudential name was changed to UNICARE Health Plans
of the Midwest. The transaction, which was financed with both cash from
operations and debt from the Company's existing revolving credit facility,
is valued at approximately $204 million, subject to certain post-closing
adjustments. This acquisition was accounted for under the purchase method
of accounting. Cash of $104.0 million and debt totaling $100.0 million were
used to purchase net assets with a fair value of approximately $20.6
million, resulting in goodwill totaling $183.4 million. The purchase price
allocation, as of September 30, 2000, between goodwill and identifiable
intangible assets has not been finalized.
5
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
3. ACQUISITION OF RUSH PRUDENTIAL, CONTINUED
In accordance with the requirements of APB Opinion No. 16, "Business
Combinations," the following unaudited pro forma summary presents the
results of operations of WellPoint as if the acquisition of Rush Prudential
had occurred on January 1, 1999. The pro forma information includes the
results of operations for the period prior to the acquisition, adjusted for
interest expense on long-term debt incurred to fund the acquisition,
amortization of intangible assets and the related income tax effects. The
pro forma financial information is presented for informational purposes
only and may not be indicative of the results of operations had the Company
been a single entity during the three and nine months ended September 30,
2000 and 1999, nor is it necessarily indicative of future results of
operations. Pro forma earnings per share assuming full dilution is based on
65.1 million and 69.0 million weighted average shares outstanding during
the quarter ended September 30, 2000 and 1999, respectively. For the nine
months ended September 30, 2000 and 1999, pro forma earnings per share
assuming full dilution is based on 64.9 million and 68.8 million weighted
average shares outstanding, respectively.
<TABLE>
<CAPTION>
(IN THOUSANDS, EXCEPT PER SHARE DATA) Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------------- -----------------------------------
2000 1999 2000 1999
---------------- ---------------- ----------------- ----------------
<S> <C> <C> <C> <C>
Revenues $ 2,353,324 $ 2,018,969 $ 6,864,958 $ 5,894,330
Income before Cumulative Effect of
Accounting Change $ 89,504 $ 75,434 $ 251,550 $ 216,808
Net Income $ 89,504 $ 75,434 $ 251,550 $ 196,250
Earnings Per Share Assuming Full Dilution
Income before Cumulative Effect of
Accounting Change $ 1.38 $ 1.10 $ 3.90 $ 3.16
Net Income $ 1.38 $ 1.10 $ 3.90 $ 2.86
</TABLE>
4. DISCONTINUATION OF MEDICARE FISCAL INTERMEDIARY ACTIVITIES
On May 3, 2000, the Company's wholly owned subsidiary Blue Cross of
California ("BCC") announced that BCC would no longer participate as a
Medicare fiscal intermediary, effective December 1, 2000. BCC served as the
contractor for processing Medicare Part A (hospital) claims in California,
Nevada and Hawaii, and home health and hospice claims for providers and
Medicare beneficiaries in California, Nevada, Hawaii, Arizona, Oregon,
Idaho, Washington and Alaska. This action does not affect the Company's
offering of Medicare risk HMO and Medicare supplement products. In
addition, the Company does not anticipate any material effect on its
results of operations, cash flows or financial condition.
6
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
5. EARNINGS PER SHARE
The following is an illustration of the dilutive effect of the Company's
potential common stock on earnings per share ("EPS"). There were no
antidilutive securities in any of the periods presented.
<TABLE>
<CAPTION>
(IN THOUSANDS EXCEPT PER SHARE DATA)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ ----------------------
2000 1999 2000 1999
---------- ---------- --------- -----------
<S> <C> <C> <C> <C>
BASIC EARNINGS PER SHARE CALCULATION:
NUMERATOR
Income before cumulative effect of accounting change $ 89,504 $ 76,233 $ 252,815 $ 218,422
Cumulative effect of accounting change, net of tax -- -- -- (20,558)
---------- ---------- --------- -----------
Net Income $ 89,504 $ 76,233 $ 252,815 $ 197,864
========== ========== ========= ===========
DENOMINATOR
Weighted average shares outstanding 62,491 65,768 62,511 66,878
========== ========== ========= ===========
EARNINGS PER SHARE
Income before cumulative effect of accounting change $ 1.43 $ 1.16 $ 4.04 $ 3.27
Cumulative effect of accounting change, net of tax -- -- -- (0.31)
---------- ---------- --------- -----------
Net Income $ 1.43 $ 1.16 $ 4.04 $ 2.96
========== ========== ========= ===========
EARNINGS PER SHARE ASSUMING FULL DILUTION CALCULATION:
NUMERATOR
Income before cumulative effect of accounting change $ 89,504 $ 76,233 $ 252,815 $ 218,422
Interest expense on zero coupon convertible
subordinated debentures, net of tax 475 639 1,415 639
---------- ---------- --------- -----------
Adjusted income before cumulative effect of accounting 89,979 76,872 254,230 219,061
change
Cumulative effect of accounting change, net of tax -- -- -- (20,558)
---------- ---------- --------- -----------
Adjusted Net Income $ 89,979 $ 76,872 $ 254,230 $ 198,503
========== ========== ========= ===========
DENOMINATOR
Weighted average shares outstanding 62,491 65,768 62,511 66,878
Net effect of dilutive stock options 1,169 1,152 946 1,234
Assumed conversion of zero coupon convertible
subordinated debentures 1,481 2,032 1,481 677
---------- ---------- --------- -----------
Fully diluted weighted average shares outstanding 65,141 68,952 64,938 68,789
========== ========== ========= ===========
EARNINGS PER SHARE ASSUMING FULL DILUTION
Income before cumulative effect of accounting change $ 1.38 $ 1.11 $ 3.91 $ 3.19
Cumulative effect of accounting change, net of tax -- -- -- (0.30)
---------- ---------- --------- -----------
Net Income $ 1.38 $ 1.11 $ 3.91 $ 2.89
========== ========== ========= ===========
</TABLE>
7
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
6. COMPREHENSIVE INCOME
The following summarizes comprehensive income reclassification adjustments
for the nine months ended September 30, 2000, included in the statement of
changes in stockholders' equity:
<TABLE>
<CAPTION>
September 30,
(IN THOUSANDS) 2000
-------------------
<S> <C>
Holding gain on investment securities arising during the period
(net of tax expense of $27,143) $ 42,455
Holding gain related to foreign exchange transactions
(net of tax expense of $476) 744
Add:
Reclassification adjustment for realized loss on investment securities
(net of tax benefit of $6,435) (10,065)
Reclassification adjustment related to foreign exchange loss on
investment securities (net of tax benefit of $515) (805)
-------------------
Net gain recognized in other comprehensive income
(net of tax expense of $20,669) $ 32,329
===================
</TABLE>
7. NEW PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standards No. 133, "Accounting for
Derivative Instruments and Hedging Activities" ("SFAS No. 133"). SFAS No.
133, as amended by SFAS No. 137 and 138, establishes the accounting and
reporting standards for derivative instruments and for hedging activities.
Upon adoption of SFAS No. 133, all derivatives must be recognized on the
balance sheet at their then fair value. Any deferred gains and losses
remaining on the balance sheet under previous hedge-accounting rules must
be removed from the balance sheet and all hedging relationships must be
designated anew and documented pursuant to the new accounting. The new
standard will be effective in the first quarter of 2001. Based upon the
Company's review of its operations conducted thus far, the Company does not
expect that SFAS No. 133 will have a material effect on the financial
statements of the Company. The Company intends to continue its review of
its operations prior to and after the effective date of SFAS No. 133 in
order to properly monitor its implementation of SFAS No. 133.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements"
("SAB 101"). SAB 101 provides guidance on revenue recognition and related
disclosures. SAB 101 is effective no later than the fourth fiscal quarter
beginning after December 15, 1999. The Company believes that SAB 101 has no
effect on its current revenue recognition policies and related disclosures.
8
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
8. CONTINGENCIES
From time to time in the ordinary course of business, the Company and
certain of its subsidiaries are parties to various legal proceedings, many
of which involve claims for coverage. The Company, like HMOs and health
insurers generally, excludes certain health care services from coverage
under its HMO, PPO and other plans. The Company is, in its ordinary course
of business, subject to the claims of its enrollees arising out of
decisions to restrict reimbursement for certain services. The loss of
even one such claim, if it results in a significant punitive damage award,
could have a material adverse effect on the Company. In addition, the risk
of potential liability under punitive damage theories may increase
significantly the difficulty of obtaining reasonable settlements of
coverage claims.
In June 2000, the California Medical Association filed a lawsuit in U.S.
district court in San Francisco against the Company's subsidiary, Blue
Cross of California ("BCC"). The lawsuit alleges that BCC violated the
federal Racketeering Influenced and Corrupt Organizations ("RICO") Act
through various misrepresentations to and inappropriate actions against
health care providers. In late 1999, a number of class-action lawsuits
were brought against several of the Company's competitors alleging,
among other things, various misrepresentations regarding their health
plans and breaches of fiduciary obligations to health plan members. In
August 2000, the Company was added as a party to SHANE V. HUMANA, ET
AL., a class-action lawsuit brought on behalf of health care providers
nationwide. In addition to the RICO claims brought in the California
Medical Association lawsuit, this lawsuit also alleges violations of
ERISA, federal "prompt pay" regulations and certain common law claims.
In October 2000, the federal Judicial Panel on Multidistrict Litigation
issued an order consolidating the California Medical Association lawsuit
the SHANE lawsuit and various other pending managed care class-action
lawsuits against other companies before District Court Judge Federico
Moreno in the Southern District of Florida for purposes of the pretrial
proceedings. The financial and operational impact that these and other
evolving theories of recovery will have on the managed care industry
generally, or the Company in particular, is at present unknown.
Certain of such legal proceedings are or may be covered under insurance
policies or indemnification agreements. Based upon information presently
available, management of the Company believes that the final outcome of all
such proceedings should not have a material adverse effect on the Company's
results of operations, cash flows or financial condition.
9. BUSINESS SEGMENT INFORMATION
The Company has two reportable segments: the Large Employer Group business
segment and the Individual and Small Employer Group business segment. The
Large Employer Group and Individual and Small Employer Group segments
provide a broad spectrum of network-based
9
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
health plans, including HMOs, PPOs, POS plans, other hybrid plans and
traditional indemnity products to large and small employers and
individuals. The Company's senior and specialty businesses are included in
the Corporate and Other segment.
9. BUSINESS SEGMENT INFORMATION, CONTINUED
The following tables present segment information for the Large Employer
Group and Individual and Small Employer Group for the three and nine months
ended September 30, 2000 and 1999, respectively.
QUARTER ENDED SEPTEMBER 30, 2000
<TABLE>
<CAPTION>
Large Individual and Corporate
Employer Small Employer and
Group Group Other Consolidated
----------------- ----------------- ----------------- -----------------
<S> <C> <C> <C> <C>
(IN THOUSANDS)
Premium revenue $ 1,283,463 $ 762,719 $ 138,457 $ 2,184,639
Management services revenue 95,444 622 19,310 115,376
----------------- ----------------- ----------------- -----------------
Total revenue from external customers 1,378,907 763,341 157,767 2,300,015
Intercompany revenues 13,035 5,517 (18,552) -
Segment income $ 70,540 $ 45,982 $ (27,018) $ 89,504
================= ================= ================= =================
Segment assets $ 2,193,392 $ 1,024,479 $ 1,952,789 $ 5,170,660
================= ================= ================= =================
</TABLE>
<TABLE>
<CAPTION>
QUARTER ENDED SEPTEMBER 30, 1999
Large Individual and Corporate
Employer Small Employer and
Group Group Other Consolidated
----------------- ----------------- ----------------- -----------------
<S> <C> <C> <C> <C>
(IN THOUSANDS)
Premium revenue $ 970,406 $ 660,180 $ 113,669 $ 1,744,255
Management services revenue 88,667 820 14,502 103,989
----------------- ----------------- ----------------- -----------------
Total revenue from external customers 1,059,073 661,000 128,171 1,848,244
Intercompany revenues 5,574 2,700 (8,274) -
Segment income $ 48,885 $ 40,240 $ (12,892) $ 76,233
================= ================= ================= =================
Segment assets $ 2,209,139 $ 946,177 $ 1,479,157 $ 4,634,473
================= ================= ================= =================
</TABLE>
10
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
9. BUSINESS SEGMENT INFORMATION, CONTINUED
NINE MONTHS ENDED SEPTEMBER 30, 2000
<TABLE>
<CAPTION>
Large Individual and Corporate
Employer Small Employer and
Group Group Other Consolidated
----------------- ----------------- ----------------- -----------------
<S> <C> <C> <C> <C>
(IN THOUSANDS)
Premium revenue $ 3,665,111 $ 2,243,055 $ 399,580 $ 6,307,746
Management services revenue 282,223 2,280 52,216 336,719
----------------- ----------------- ----------------- -----------------
Total revenue from external customers 3,947,334 2,245,335 451,796 6,644,465
Intercompany revenues 8,447 6,017 (14,464) -
Segment income $ 183,992 $ 138,304 $ (69,481) $ 252,815
================= ================= ================= =================
</TABLE>
NINE MONTHS ENDED SEPTEMBER 30, 1999
<TABLE>
<CAPTION>
Large Individual and Corporate
Employer Small Employer and
Group Group Other Consolidated
----------------- ----------------- ----------------- -----------------
<S> <C> <C> <C> <C>
(IN THOUSANDS)
Premium revenue $ 2,865,881 $ 1,871,098 $ 332,760 $ 5,069,739
Management services revenue 276,211 3,808 43,169 323,188
----------------- ----------------- ----------------- ---------------
Total revenue from external customers 3,142,092 1,874,906 375,929 5,392,927
Intercompany revenues 12,844 3,200 (16,044) -
Segment income before cumulative
effect of accounting change $ 147,885 $ 97,819 $ (27,282)$ 218,422
================= ================= ================= ===============
</TABLE>
10. PENDING TRANSACTION
On July 9, 1998, the Company entered into an Agreement and Plan of Merger
(the "Merger Agreement") by and among the Company, Cerulean Companies, Inc.
("Cerulean") and Water Polo Acquisition Corp., a wholly owned subsidiary of
the Company (the "Merger Sub"). Pursuant to the Merger Agreement, Cerulean
will merge with and into Merger Sub (the "Merger"). Cerulean is the parent
company of Blue Cross and Blue Shield of Georgia, Inc., which served
approximately 1.8 million persons in the State of Georgia as of September
30, 2000. At the effective time of the Merger, the shareholders of Cerulean
will receive WellPoint Common Stock with a market value of $500 million
(subject to certain adjustments). Certain shareholders of Cerulean will
have the option to receive cash in lieu of WellPoint Common
11
<PAGE>
WELLPOINT HEALTH NETWORKS INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
10. PENDING TRANSACTION, CONTINUED
Stock in the Merger, subject to a maximum aggregate limit of $225
million. The transaction is intended to qualify as a tax-free
reorganization for Cerulean shareholders that elect to receive WellPoint
Common Stock. In order to complete the transaction, the Company must
obtain the approval of the Georgia Department of Insurance after a
public hearing, which is currently scheduled to occur on December 7,
2000. The Company currently expects the transaction to be completed
during the fourth quarter of 2000.
12
<PAGE>
ITEM 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
This discussion contains forward-looking statements which involve risks and
uncertainties. The Company's actual results may differ materially from those
anticipated in these forward-looking statements as a result of certain factors
including, but not limited to, those set forth under "Factors That May Affect
Future Results of Operations."
GENERAL
The Company is one of the nation's largest publicly traded managed health care
companies. As of September 30, 2000, WellPoint had approximately 7.7 million
medical members and approximately 38.0 million specialty members. The Company
offers a broad spectrum of network-based managed care plans. WellPoint provides
these plans to the large and small employer, individual and senior markets. The
Company's managed care plans include HMOs, PPOs, POS plans, other hybrid plans
and traditional indemnity plans. In addition, WellPoint offers managed care
services, including underwriting, claims processing, actuarial services, network
access and medical cost management. The Company also provides a broad array of
specialty and other products, including pharmacy, dental, utilization
management, life insurance, preventive care, disability insurance, behavioral
health, COBRA and flexible benefits account administration. The Company markets
its products in California under the name Blue Cross of California and outside
of California under the name UNICARE. Historically, the Company's primary market
for managed care products has been California. The Company holds the exclusive
right in California to market its products under the Blue Cross name and mark.
NATIONAL EXPANSION AND OTHER RECENT DEVELOPMENTS
In an effort to pursue the expansion of the Company's business outside the state
of California, the Company acquired two businesses in 1996 and 1997, the Life
and Health Benefits Management Division ("MMHD") of Massachusetts Mutual Life
Insurance Company and the Group Benefits Operations (the "GBO") of John Hancock
Mutual Life Insurance Company. The Company's March 1, 2000 acquisition of Rush
Prudential Health Plans ("Rush Prudential") and its pending transaction with
Cerulean are also components of this expansion strategy.
As a result of the GBO and MMHD acquisitions, the Company has significantly
expanded its operations outside of California. In order to integrate its
acquired businesses and implement the Company's regional expansion strategy, the
Company has, and will need to continue to develop satisfactory networks of
hospitals, physicians and other health care service providers, develop
distribution channels for its products and successfully convert acquired books
of business to the Company's existing information systems, which will require
continued investments by the Company.
13
<PAGE>
NATIONAL EXPANSION AND OTHER RECENT DEVELOPMENTS, CONTINUED
In January 2001, the Company expects to introduce new benefit plans (known as
PlanScape) to all of its existing and future individual PPO members in
California. All of the Company's existing individual PPO plans will be converted
into newly designed plans, offering an array of premium levels, deductibles,
cost sharing features and out-of-pocket limits. The introduction of these plans
is subject to the approval of the California Department of Managed Health Care.
Although the precise effects of these plans will not be known until some time
after they are introduced, the Company expects that this portion of its
business will be subject to less seasonality than traditionally experienced.
In connection with the introduction of these plans, the Company has announced
that it will not increase premiums for affected members at any time through
June 30, 2001 and for new California individual PPO members at any time
through December 31, 2001. These plan changes will not effect any of the
Company's PPO plans under employer-sponsored arrangements.
In response to rising medical and pharmacy costs the Company has from time to
time implemented premium increases with respect to certain of its products. The
Company will continue to evaluate the need for further premium increases, plan
design changes and other appropriate actions in the future in order to maintain
or restore profit margins. There can be no assurances, however, that the Company
will be able to take subsequent pricing or other actions or that any actions
previously taken or implemented in the future will be successful in addressing
any concerns that may arise with respect to the performance of certain
businesses. In this regard, as mentioned in the previous paragraph the Company
has committed that it will not increase premiums for its California individual
PPO members for certain periods during 2001.
ACQUISITION OF RUSH PRUDENTIAL
On March 1, 2000, the Company completed its acquisition of Rush Prudential (See
Note 3 to the Consolidated Financial Statements). Rush Prudential offers a broad
array of products and services ranging from HMO products to traditional PPO
products. Rush Prudential has historically experienced a higher loss ratio than
the Company's core business, which may result in an increase in the Company's
overall loss ratio. The acquisition has more than doubled the Company's Illinois
medical membership to over 530,000 members. Subsequent to the acquisition, the
Rush Prudential name was changed to UNICARE Health Plans of the Midwest. The
transaction, which was financed with cash from operations and debt from the
Company's existing revolving credit facility, is valued at approximately $204
million, subject to certain post-closing adjustments. This acquisition was
accounted for under the purchase method of accounting.
PENDING ACQUISITION OF CERULEAN
On July 9, 1998, the Company entered into an Agreement and Plan of Merger with
Cerulean (See Note 10 to the Consolidated Financial Statements). Cerulean,
principally through its Blue Cross and Blue Shield of Georgia subsidiary, offers
insured and administrative services products primarily in the State of Georgia.
Cerulean has historically experienced a higher administrative expense ratio than
the Company's core businesses due to its higher concentration of administrative
services business. Cerulean has also historically experienced a higher medical
loss ratio than the Company's core businesses due to its higher percentage of
14
<PAGE>
PENDING ACQUISITION OF CERULEAN, CONTINUED
large group business, and fewer managed care offerings. Accordingly, it is
expected that Cerulean's higher loss and administrative expense ratios will
ultimately contribute to an increase in those ratios for the Company.
In September 1998, a class action lawsuit was filed in Richmond County, Georgia
on behalf of certain current and former policyholders of Blue Cross Blue Shield
of Georgia (the "Conversion Litigation"). The claims brought in the Conversion
Litigation relate to the conversion of Blue Cross Blue Shield of Georgia from a
non-profit entity to a for-profit entity in October 1996 (the "Conversion"). At
the time of the Conversion, each eligible Blue Cross Blue Shield of Georgia
subscriber was offered five shares of Cerulean Class A stock. In order to
receive such shares, each eligible subscriber had to return certain election
forms prepared by Cerulean. At the time of the Conversion, approximately 70,000
of the 140,000 eligible subscribers did not return their election forms. The
litigation sought to compel Cerulean to issue five additional shares of its
Class A Common Stock to each of the 70,000 subscribers. On December 17, 1998,
the Superior Court judge in the Conversion Litigation issued an order in favor
of the plaintiffs. Cerulean filed an appeal with the Georgia Supreme Court,
which accepted jurisdiction and granted expedited treatment to the appeal. On
May 3, 1999, the Georgia Supreme Court reversed the ruling of the Superior
Court, holding that the Superior Court erred in considering and ruling upon the
plaintiffs' claims. The Georgia Supreme Court's ruling did not affect pending
derivative and fraud claims brought by the plaintiffs.
The plaintiffs in this litigation subsequently filed a petition with the Georgia
Department of Insurance, arguing substantially the same claims made in the
Richmond County litigation. This petition was denied by the Georgia Department
of Insurance, and the plaintiffs brought an appeal in the Richmond County
Superior Court. On September 23, 1999, the Superior Court judge ruled in favor
of the plaintiffs and effectively overturned the denial of the plaintiffs'
petition by the Georgia Department of Insurance. The Superior Court judge ruled
that the Conversion was not carried out in accordance with the terms of the
order issued in 1996 by the Georgia Department of Insurance and that, as a
result, the plaintiffs were entitled to be issued five shares each of Cerulean
Class A Common Stock. The judge's order directed the Georgia Department of
Insurance to vacate its earlier order denying the plaintiffs' petition and to
enter an order in their favor. At the same time, the judge also denied a motion
by Cerulean to intervene in the plaintiffs' appeal.
The Georgia Department of Insurance and Cerulean each filed motions with the
Georgia Supreme Court for appeal of these orders and, on November 12, 1999, the
Georgia Supreme Court transferred the appeals to the Georgia Court of Appeals,
Georgia's intermediate level court. The Georgia Court of Appeals held oral
arguments on the case on March 22, 2000. On June 29, 2000, the Georgia Court of
Appeals reversed the September 23, 1999 decision of the Superior Court judge and
affirmed the Georgia Department of Insurance's earlier denial of the plaintiffs'
petition. On July 19, 2000, the plaintiffs filed a petition with the Georgia
Supreme Court seeking to appeal the Georgia Court of Appeals' decision.
On August 1, 2000, the plaintiffs filed a motion in the Richmond County Superior
Court seeking to enforce a purported settlement of the litigation with Cerulean.
Cerulean has notified
15
<PAGE>
PENDING ACQUISITION OF CERULEAN, CONTINUED
the plaintiffs in writing that it considers the claims in this motion to be
frivolous and to constitute abusive litigation under Georgia law, and that it
intends to seek damages and attorney's fees against the plaintiffs and their
counsel if they do not withdraw the motion.
In order to complete the Merger, a number of conditions must be satisfied,
including approval by the Georgia Department of Insurance after a public hearing
and the absence of pending material litigation. This public hearing is
currently scheduled to occur on December 7, 2000. The plaintiffs in the Richmond
County litigation have been granted the right to intervene in the public hearing
as policyholders of Blue Cross Blue Shield of Georgia.
In October 2000, WellPoint announced that WellPoint, Cerulean and the plaintiffs
had entered into a settlement agreement regarding the Conversion Litigation.
Under the terms of this settlement agreement, WellPoint will pay $5 million,
plus certain associated expenses, to the plaintiffs and their counsel, and the
plaintiffs will dismiss the various pending actions. The settlement is
conditioned upon the closing of the Merger, the terms of which are unaffected by
the settlement. At a hearing held on November 2, 2000, the Superior Court judge
in the Conversion Litigation held that the proposed settlement was fair to the
plaintiff class.
The Merger Agreement between the Company and Cerulean originally provided that
either party could terminate the Merger Agreement if all conditions to closing
were not satisfied on or before July 9, 1999. The Company and Cerulean have
agreed to an extension of this date until December 31, 2000. The Company
currently expects the transaction to be completed during the fourth quarter of
2000. However, if all of the conditions to closing have not been satisfied by
the extended termination date and Cerulean and WellPoint have not mutually
agreed to a further extension of the termination date, then either WellPoint or
Cerulean could elect to terminate the Merger Agreement.
LEGISLATION
In September 1999, the California Legislature enacted and the California
Governor subsequently signed into law a number of health care reform measures.
California legislation enacted during 1999, among other things, establishes an
explicit duty on managed care entities to exercise ordinary care in arranging
for the provision of medically necessary health care services and establishes a
system of independent medical review. This legislation is discussed in greater
detail in the Company's Annual Report on Form 10-K for the year ended December
31, 1999. Federal legislation enacted during the last four years seeks, among
other things, to insure the portability of health coverage and mandates minimum
maternity hospital stays. In 1997, Texas adopted legislation purporting to make
managed care organizations such as the Company liable for their failure to
exercise ordinary care when making health care treatment decisions. Similar
legislation has also been enacted in Georgia. These and other proposed measures
may have the effect of dramatically altering the regulation of health care and
of increasing the Company's loss ratio and administrative costs or decreasing
the affordability of the Company's products.
16
<PAGE>
CONSOLIDATED RESULTS OF OPERATIONS
The Company's revenues are primarily generated from premiums earned for
risk-based health care and specialty services provided to its members, fees for
administrative services, including claims processing and access to provider
networks for self-insured employers, and investment income. Operating expenses
include health care services and other benefits expenses, consisting primarily
of payments for physicians, hospitals and other providers for health care and
specialty products claims; selling expenses for broker and agent commissions;
general and administrative expenses; interest expense; depreciation and
amortization expense; and income taxes.
The Company's consolidated results of operations for the quarter ended September
30, 2000 include a full quarter of earnings for Rush Prudential. The Company's
consolidated results of earnings for the nine months ended September 30, 2000
include the results of Rush Prudential from March 1, 2000, the date of its
acquisition.
The following table sets forth selected operating ratios. The loss ratio for
health care services and other benefits is shown as a percentage of premium
revenue. All other ratios are shown as a percentage of premium revenue and
management services revenue combined.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------- --------------------------
2000 1999 2000 1999
-------- -------- ------- --------
<S> <C> <C> <C> <C>
Operating Revenues:
Premium revenue 95.0% 94.4% 94.9% 94.0%
Management services revenue 5.0% 5.6% 5.1% 6.0%
----- ----- ----- -----
100.0% 100.0% 100.0% 100.0%
Operating Expenses:
Health care services and other
benefits (loss ratio) 80.7% 80.3% 80.8% 80.7%
Selling expense 4.4% 4.6% 4.4% 4.5%
General and administrative expense 14.1% 14.6% 14.0% 14.6%
</TABLE>
17
<PAGE>
MEMBERSHIP
The following table sets forth membership data and the percent change in
membership:
MEDICAL MEMBERSHIP (a) (b) (c):
<TABLE>
<CAPTION>
As of September 30,
----------------------------- Percent
2000 1999 Change
------------ ------------ ---------
<S> <C> <C> <C>
Large Employer Group (d)
California
HMO 1,759,805 1,575,946 11.7%
PPO and Other 1,923,421 1,758,296 9.4%
------------ ------------
Total California 3,683,226 3,334,242 10.5%
------------ ------------
Texas 194,765 171,124 13.8%
Georgia 42,705 54,630 -21.8%
Illinois 462,516 248,070 86.4%
Other States 1,196,114 1,300,758 -8.0%
------------ ------------
Total Large Employer Group 5,579,326 5,108,824 9.2%
------------ ------------
Individual and Small Employer Group
California
HMO 350,695 339,699 3.2%
PPO and Other 1,221,393 1,165,462 4.8%
------------ ------------
Total California 1,572,088 1,505,161 4.4%
------------ ------------
Texas 171,382 152,350 12.5%
Georgia 31,259 29,024 7.7%
Illinois 62,111 32,043 93.8%
Other States 99,514 115,874 -14.1%
------------ ------------
Total Individual and Small Employer Group 1,936,354 1,834,452 5.6%
------------ ------------
Senior (e)
California
HMO 34,247 24,514 39.7%
PPO and Other 172,623 167,506 3.1%
------------ ------------
Total California 206,870 192,020 7.7%
------------ ------------
Texas (f) 228 22,883 -99.0%
Georgia 915 473 93.4%
Illinois 10,047 3,271 207.2%
Other States 9,233 12,440 -25.8%
------------ ------------
Total Senior 227,293 231,087 -1.6%
------------ ------------
Total Medical Membership 7,742,973 7,174,363 7.9%
============ ============
MEMBERSHIP BY NETWORK (g)
Proprietary Networks 6,016,295 5,553,284 8.3%
Affiliate Networks 1,083,485 845,124 28.2%
Non-Network 643,193 775,955 -17.1%
------------ ------------
TOTAL MEDICAL MEMBERSHIP 7,742,973 7,174,363 7.9%
============ ============
MANAGEMENT SERVICES MEMBERSHIP
California 1,272,171 1,209,346 5.2%
Other States 1,246,736 1,384,038 -9.9%
------------ ------------
TOTAL MANAGEMENT SERVICES MEMBERSHIP 2,518,907 2,593,384 -2.9%
============ ============
</TABLE>
---------------
(a) Membership numbers are approximate and include some estimates based upon
the number of contracts at the relevant date and an actuarial estimate of
the number of members represented by the contract.
(b) Classification between states for employer groups is determined by the zip
code of the subscriber.
(c) Medical membership includes management services members, which are
primarily included in the Large Employer Group segment.
18
<PAGE>
MEMBERSHIP, CONTINUED
(d) Large Employer Group membership includes 788,505 and 621,845
state-sponsored programs members as of September 30, 2000 and 1999,
respectively.
(e) Senior membership includes members covered under both Medicare risk and
Medicare supplement products.
(f) In the fourth quarter of 1999, the Company's UNICARE Life & Health
Insurance Company made a strategic decision to discontinue its offering of
Medicare supplement products primarily in the state of Texas.
(g) Proprietary networks consist of California, Texas and other
WellPoint-developed or WellPoint-controlled networks. Affiliate networks
consist of third-party networks that incorporate provider discounts and
some basic managed care elements. Non-network consists of fee for service
and percentage-of-billed charges contracts with providers. Membership in
both periods shown reflects a restatement to include in proprietary
network membership members of WellPoint-controlled networks which were
previously reflected as affiliate network members.
SPECIALTY MEMBERSHIP
<TABLE>
<CAPTION>
As of September 30,
---------------------------- Percent
2000 1999 Change
---------- ---------- --------
<S> <C> <C> <C>
Pharmacy 27,808,491 20,701,034 34.3%
Dental 2,223,482 2,463,704 -9.8%
Utilization Management 2,114,175 2,674,736 -21.0%
Life 1,992,818 2,038,744 -2.3%
Disability 561,146 605,380 -7.3%
Behavioral Health (a) 3,274,074 2,089,118 56.7%
</TABLE>
---------------
(a) Behavioral health membership as of September 30, 2000 reflects an addition
of 925,773 members over September 30, 1999 due to the mental health parity
requirements in the State of California, which became effective in the
third quarter of 2000.
COMPARISON OF RESULTS FOR THE THIRD QUARTER 2000 TO THE THIRD QUARTER 1999
The following table depicts premium revenue by business segment:
<TABLE>
<CAPTION>
(IN THOUSANDS) Quarter Ended September 30,
2000 1999
------------ ------------
<S> <C> <C>
Large Employer Group $ 1,283,463 $ 970,406
Individual and Small Employer Group 762,719 660,180
Other 138,457 113,669
------------ ------------
Consolidated $ 2,184,639 $ 1,744,255
============ ============
</TABLE>
Premium revenue increased 25.2%, or $440.4 million, to $2,184.6 million for
the quarter ended September 30, 2000 from $1,744.3 million for the quarter
ended September 30, 1999. The Rush Prudential acquisition contributed $113.0
million, or 25.7%, of the overall premium revenue increase. Also contributing
to increased premium revenue was an increase in insured member months of
13.7% in the Large Employer Group and Individual and Small Employer Group
business segments, in addition to the implementation of premium increases in
both segments.
19
<PAGE>
COMPARISON OF RESULTS FOR THE THIRD QUARTER ENDED SEPTEMBER 30, 2000 TO THE
THIRD QUARTER ENDED SEPTEMBER 30, 1999
The following table depicts management services revenue by business segment:
<TABLE>
<CAPTION>
(IN THOUSANDS) Quarter Ended September 30,
2000 1999
--------- ---------
<S> <C> <C>
Large Employer Group $ 95,444 $ 88,667
Individual and Small Employer Group 622 820
Other 19,310 14,502
--------- ---------
Consolidated $ 115,376 $ 103,989
========= =========
</TABLE>
Management services revenue increased approximately $11.4 million to $115.4
million for the quarter ended September 30, 2000 from $104.0 million for the
quarter ended September 30, 1999. The change is primarily due to the
implementation of price increases, partially offset by a decrease in insured
member months of approximately 2.5%, related to attrition of previously acquired
businesses.
Investment income was $53.3 million for the quarter ended September 30, 2000
compared to $43.3 million for the quarter ended September 30, 1999, an increase
of $10.0 million. Net realized gains on investment securities totaled $1.4
million for the quarter ended September 30, 2000 in comparison to a loss of
$11.7 million for the quarter ended September 30, 1999. Net interest and
dividend income decreased $3.9 million to $51.2 million for the quarter ended
September 30, 2000, in comparison to $55.1 million for the quarter ended
September 30, 1999.
The loss ratio attributable to managed care and related products for the quarter
ended September 30, 2000 increased to 80.7% compared to 80.3% for the quarter
ended September 30, 1999, due to the incremental effect of the Rush Prudential
acquisition on the Company's overall results. The acquired Rush Prudential
business has traditionally experienced a higher loss ratio than the Company's
core business. Excluding the acquired operations of Rush Prudential, the loss
ratio would have been 80.1%. The decline in the loss ratio excluding Rush
Prudential was primarily due to the effect of prices increases primarily within
the Individual and Small Group business segment, partially offset by growth in
the Company's Large Employer Group business segment which has historically
experienced a higher loss ratio than the Company's individual and Small Employer
Group business.
Selling expense consists of commissions paid to outside brokers and agents
representing the Company. The selling expense ratio decreased to 4.4% for the
quarter ended September 30, 2000 from 4.6% for the quarter ended September 30,
1999. The slight decrease was primarily due to the discontinuance of the Texas
senior business, which historically had experienced a
20
<PAGE>
COMPARISON OF RESULTS FOR THE THIRD QUARTER ENDED SEPTEMBER 30, 2000 TO THE
THIRD QUARTER ENDED SEPTEMBER 30, 1999
higher broker commission rate than the Company's other business, in addition to
an increase in Medicare+Choice revenues, which have a lower sales commission
rate.
The administrative expense ratio decreased to 14.1% for the quarter ended
September 30, 2000 from 14.6% for the quarter ended September 30, 1999. The
overall decline is primarily attributable to savings from the consolidation of
various regional offices outside of California, the integration of information
systems centers related to acquired businesses on the Company's information
systems platform, a reduction in Year 2000 expense from 1999 levels, in addition
to economies of scale associated with premium revenue growth in relation to
fixed corporate administrative expenses.
Interest expense increased $2.0 million for the quarter ended September 30, 2000
compared to the quarter ended September 30, 1999. The increase in interest
expense was related to an increase in the effective interest rate offset by a
lower average debt balance in 2000 compared to 1999. The weighted average
interest rate for all debt for the quarter ended September 30, 2000, including
the fees associated with the Company's borrowings and interest rate swap
agreements, was 6.0%.
The Company's income before the cumulative effect of accounting change for the
quarter ended September 30, 2000 was $89.5 million, compared to $76.2 million
for the quarter ended September 30, 1999. Earnings per share before the
cumulative effect of accounting change totaled $1.43 and $1.16 for the quarter
ended September 30, 2000 and 1999, respectively. Earnings per share before the
cumulative effect of accounting change assuming full dilution totaled $1.38 and
$1.11 for the quarter ended September 30, 2000 and 1999, respectively.
Earnings per share for the quarter ended September 30, 2000 is based upon
weighted average shares outstanding of 62.5 million, excluding potential common
stock, and 65.1 million shares, assuming full dilution. Earnings per share for
the quarter ended September 30, 1999 is based on 65.8 million shares, excluding
potential common stock, and 69.0 million shares, assuming full dilution. For the
quarter ended September 30, 2000, the decrease in weighted average shares
outstanding primarily relates to the effect of the repurchase of approximately
3.9 million treasury shares during the twelve months ended September 30, 2000.
For weighted average shares outstanding assuming full dilution, the decline was
further effected by the impact of the assumed conversion of the Company's
outstanding Zero Coupon Convertible Subordinated Debentures (the
"Debentures").
21
<PAGE>
COMPARISON OF RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 TO THE NINE
MONTHS ENDED SEPTEMBER 30, 1999
The following table depicts premium revenue by business segment:
<TABLE>
<CAPTION>
(IN THOUSANDS) Nine Months Ended September 30,
2000 1999
------------- --------------
<S> <C> <C>
Large Employer Group $ 3,665,111 $ 2,865,881
Individual and Small Employer Group 2,243,055 1,871,098
Other 399,580 332,760
------------- --------------
Consolidated $ 6,307,746 $ 5,069,739
============= ==============
</TABLE>
Premium revenue increased 24.4%, or $1,238.0 million, to $6,307.7 million for
the nine months ended September 30, 2000 from $5,069.7 million for the nine
months ended September 30, 1999. The Rush Prudential acquisition contributed
$266.4 million, or 21.5%, of the overall premium revenue increase. Also
contributing to increased premium revenue was an increase in insured member
months of 12.3% in the Large Employer Group and Individual and Small Employer
Group business segments, in addition to the implementation of premium increases
in both segments.
The following table depicts management services revenue by business segment:
<TABLE>
<CAPTION>
(IN THOUSANDS) Nine Months Ended September 30,
2000 1999
------------- --------------
<S> <C> <C>
Large Employer Group $ 282,223 $ 276,211
Individual and Small Employer Group 2,280 3,808
Other 52,216 43,169
------------- --------------
Consolidated $ 336,719 $ 323,188
============= ==============
</TABLE>
Management services revenue increased approximately $13.5 million to $336.7
million for the nine months ended September 30, 2000 from $323.2 million for the
nine months ended September 30, 1999. The change is primarily due to the
implementation of price increases, partially offset by a decrease in insured
member months of approximately 0.5%, related to attrition of previously acquired
businesses.
Investment income was $142.9 million for the nine months ended September 30,
2000 compared to $126.6 million for the nine months ended September 30, 1999, an
increase of $16.3 million. Net realized losses on investment securities totaled
$10.0 million for the nine months ended September 30, 2000 in comparison to
$15.0 million for the nine months ended September 30, 1999. Net interest and
dividend income increased $7.0 million to $151.1 million for the nine months
ended September 30, 2000, in comparison to $144.1 million for the nine months
ended September 30, 1999. This increase was primarily due to higher average
22
<PAGE>
COMPARISON OF RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 TO THE NINE
MONTHS ENDED SEPTEMBER 30, 1999, CONTINUED
investment balances and yields for debt securities in 2000 versus 1999 (See
"--Liquidity and Capital Resources").
The loss ratio attributable to managed care and related products for the quarter
ended September 30, 2000 increased to 80.8% compared to 80.7% for the nine
months ended September 30, 1999, due to the incremental effect of the Rush
Prudential acquisition on the Company's overall results. The acquired Rush
Prudential business has traditionally experienced a higher loss ratio than the
Company's core business. Excluding the acquired operations of Rush Prudential,
the loss ratio would have been 80.6%. The decline in the loss ratio excluding
Rush Prudential was primarily due to the effect of prices increases primarily
within the Individual and Small Group business segment, partially offset by
growth in the Company's Large Employer Group business segment which has
historically experienced a higher loss ratio than the Company's Individual and
Small Employer Group business.
The selling expense ratio decreased slightly to 4.4% for the nine months
ended September 30, 2000 from 4.5% for the nine months ended September 30,
1999. The slight decrease was primarily due to the discontinuance of the
Texas senior business, which historically had experienced a higher broker
commission rate than the other Company's business, in addition to an increase
in Medicare+Choice revenues, which have a lower sales commission rate.
The administrative expense ratio decreased to 14.0% for the nine months ended
September 30, 2000 from 14.6% for the nine months ended September 30, 1999. The
overall decline is primarily attributable to savings from the consolidation of
various regional offices outside of California, the integration of information
systems centers related to acquired businesses on the Company's information
systems platform, a reduction in Year 2000 expense from 1999 levels, in addition
to economies of scale associated with premium revenue growth in relation to
fixed corporate administrative expenses.
Interest expense increased $2.7 million to $18.4 million for the nine months
ended September 30, 2000 compared to $15.7 million the nine months ended
September 30, 1999. The increase in interest expense was related to the higher
average debt balance due to the Rush Prudential acquisition in 2000 compared to
1999, which was partially offset by a decrease in the effective interest rate
due to the issuance of the Company's Debentures in July 1999. The weighted
average interest rate for all debt for the nine months ended September 30, 2000,
including the fees associated with the Company's borrowings and interest rate
swap agreements, was 6.3%.
Effective January 1, 1999, the Company changed its method of accounting for
start-up costs related to the Company's provider network development. The
cumulative effect of this change of $20.6 million, after tax, is reflected in
the results of operations for the nine months ended September 30, 1999. The
Company's income before the cumulative effect of accounting change for the nine
months ended September 30, 2000 was $252.8 million, compared to $218.4 million
for the nine months ended September 30, 1999. Earnings per share before the
cumulative effect of accounting change totaled $4.04 and $3.27 for the nine
months ended September 30, 2000 and 1999, respectively. Earnings per share
before the cumulative effect of
23
<PAGE>
COMPARISON OF RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 TO THE NINE
MONTHS ENDED SEPTEMBER 30, 1999, CONTINUED
accounting change assuming full dilution totaled $3.91 and $3.19 for the nine
months ended September 30, 2000 and 1999, respectively.
Earnings per share for the nine months ended September 30, 2000 is based upon
weighted average shares outstanding of 62.5 million, excluding potential common
stock, and 64.9 million shares, assuming full dilution. Earnings per share for
the nine months ended September 30, 1999 is based on 66.9 million shares,
excluding potential common stock, and 68.8 million shares, assuming full
dilution. For the nine months ended September 30, 2000, the decrease in weighted
average shares outstanding primarily relates to the effect of the repurchase of
approximately 3.9 million treasury shares during the twelve months ended
September 30, 2000. For weighted average shares outstanding assuming full
dilution, the decline was partially offset by the impact of the assumed
conversion of the Debentures.
FINANCIAL CONDITION
The Company's consolidated assets increased by $577.5 million, or 12.6%, from
$4,593.2 million as of December 31, 1999 to $5,170.7 million as of September 30,
2000. The increase in total assets was largely due to growth in cash and
investments primarily as a result of operating cash flow. In addition,
consolidated assets increased due to an increase in receivables related to the
timing of certain large customer payments and an increase in net goodwill and
intangible assets totaling $155.9 million related to the purchase of Rush
Prudential. The Company is currently in the process of completing the final
asset valuation in connection with the Rush Prudential acquisition and, as a
result, the allocation of the purchase price between goodwill and identifiable
intangible assets was preliminary as of September 30, 2000. Cash and investments
totaled $3.5 billion as of September 30, 2000, or 67.1% of total assets.
Overall claims liabilities increased $235.2 million, or 15.8%, from $1,491.2
million as of December 31, 1999 to $1,726.4 million as of September 30, 2000.
This increase is primarily due to an increase in insured membership from
December 31, 1999 to September 30, 2000 of approximately 11.1% in the Company's
Large Employer Group and Individual and Small Employer Group business segments.
As of September 30, 2000, the Company's long-term indebtedness was $400.1
million, of which $150.1 million was related to the Company's Debentures and
$250.0 million was related to the Company's revolving credit facility. As of
December 31, 1999, the Company's long-term indebtedness was $347.9 million, of
which $200.0 million was outstanding under the Company's revolving credit
facility.
Stockholders' equity totaled $1,479.8 million as of September 30, 2000, an
increase of $167.1 million from $1,312.7 million as of December 31, 1999. The
increase was primarily due to net income of $252.8 million for the nine months
ended September 30, 2000, an increase of $86.1 million of stock issuances under
the Company's stock option/purchase plans and an increase in net unrealized
gains on investment securities, net of tax, of $32.3 million. These increases
24
<PAGE>
COMPARISON OF RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 TO THE NINE
MONTHS ENDED SEPTEMBER 30, 1999, CONTINUED
were partially offset by stock repurchases made during 2000 totaling $174.6
million funded primarily from income from operations. In addition, the Company
experienced net losses on the reissuance of the Company's Common Stock from
treasury of $29.5 million.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary sources of cash are premium and management services
revenues received and investment income. The primary uses of cash include health
care claims and other benefits, capitation payments, income taxes, repayments of
long-term debt, interest expense, broker and agent commissions, administrative
expenses and capital expenditures. In addition to the foregoing, other uses of
cash include costs of provider networks and systems development, and costs
associated with acquisitions and the integration of acquired businesses.
The Company generally receives premium revenue in advance of anticipated claims
for related health care services and other benefits. The Company's investment
policies are designed to provide liquidity, preserve capital and maximize yield.
Cash and investment balances maintained by the Company are sufficient to meet
applicable regulatory financial stability and net worth requirements, including
license requirements of the Blue Cross Blue Shield Association. As of September
30, 2000, the Company's investment portfolio consisted primarily of investment
grade fixed maturity securities.
Net cash flow provided by operating activities was $386.9 million for the nine
months ended September 30, 2000, compared with $644.7 million for the nine
months ended September 30, 1999. The decrease is primarily due to a decrease in
income taxes recoverable of $179.6 million, which was related to the August 1999
receipt of the tax refund from the Internal Revenue Service. Cash flow from
operations for the nine months ended September 30, 2000 was due primarily to
income before the cumulative effect of accounting change of $252.8 million,
increases in medical claims payable of $178.9 million related to the growth of
insured members and the timing of other operating liability payments, and
increases in unearned premiums of $97.3 million. These items were partially
offset by an increase in accounts receivable of $144.8 million, which was
primarily related to the timing of collection of large customer receivables in
the normal course of business, and a decline in income taxes payable of $71.1
million primarily related to tax payments made during the third quarter of 2000.
Net cash used in investing activities for the nine months ended September 30,
2000 totaled $415.0 million, compared with $463.6 million for the nine months
ended September 30, 1999. The cash used in 2000 was attributable primarily to
the purchase of investments of $2.7 billion and the purchase of property, plant
and equipment, net of sales proceeds, of $32.6 million. In addition, during the
nine months ended September 30, 2000, net cash used in investing activities was
affected by the purchase of Rush Prudential for approximately $204.0 million
less acquired cash of $61.3 million. These items were partially offset by the
proceeds from investments sold and matured of $2.5 billion.
Net cash used in financing activities totaled $68.0 million for the nine months
ended September 30, 2000, compared to net cash provided by financing activities
totaling $52.0 million for the nine months ended September 30, 1999. Net cash
used in financing activities
25
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES, CONTINUED
during the nine months ended September 30, 2000 was primarily affected by a net
increase in indebtedness of $50.0 million under the Company's revolving credit
facility. In addition, during the nine months ended September 30, 2000 the
Company repurchased 2.5 million shares of the Company's Common Stock for an
aggregate $174.6 million and issued Common Stock for an aggregate of $56.6
million pursuant to the Company's stock incentive and employee stock purchase
programs.
The Company has a $1.0 billion unsecured revolving credit facility. Borrowings
under the credit facility bear interest at rates determined by reference to the
bank's base rate or to the London Interbank Offered Rate ("LIBOR") plus a margin
determined by reference to the Company's leverage ratio (as defined in the
credit agreement) or the then-current rating of the Company's unsecured
long-term debt by specified rating agencies. Borrowings under the credit
facility are made on a committed basis or pursuant to an auction-bid process.
The credit facility expires as of May 15, 2002, although it may be extended for
an additional one-year period under certain circumstances. The credit agreement
requires the Company to maintain certain financial ratios and contains
restrictive covenants, including restrictions on the occurrence of additional
indebtedness and the granting of certain liens, limitations on acquisitions and
investments and limitations on changes in control. The total amount outstanding
under the credit facility was $250 million as of September 30, 2000 and $200
million as of December 31, 1999. The weighted average interest rate, including
associated fees and the Company's interest rate swap agreements, for the nine
months ended September 30, 2000 was 7.9%.
As part of a hedging strategy, the Company has entered into interest rate swap
agreements in order to reduce the volatility of interest expense resulting from
changes in interest rates. As of September 30, 2000, the Company had entered
into $200 million of floating to fixed rate swap agreements, which consists of a
$150 million notional amount swap agreement at 6.99% and a $50 million notional
amount swap agreement at 7.06%.
The Company has entered into foreign currency forward exchange contracts for
each of the fixed maturity securities on hand as of September 30, 2000
denominated in foreign currencies in order to hedge asset positions with respect
to these securities. The unrealized gains and losses from such forward exchange
contracts are reflected in accumulated other comprehensive income. In addition,
the Company has entered into forward exchange contracts to hedge the foreign
currency risk between the trade date and the settlement date when a
foreign-currency denominated bond is purchased. Gains and losses from these
contracts are recognized in income.
Certain of the Company's subsidiaries are required to maintain minimum capital
requirements prescribed by various regulatory agencies, including the California
Department of Managed Health Care, and the Departments of Insurance in
California and various other states. As of September 30, 2000, those
subsidiaries of the Company were in compliance with all minimum capital
requirements.
26
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES, CONTINUED
In July 1996, the Company filed a registration statement relating to the
issuance of $1.0 billion of senior or subordinated unsecured indebtedness. As of
September 30, 2000, no indebtedness had been issued pursuant to this
registration statement.
The Company believes that cash flow generated by operations, and its cash and
investment balances, supplemented by the Company's ability to borrow under its
existing revolving credit facility or through public or private financing
sources will be sufficient to fund continuing operations and expected capital
requirements (including the proposed Merger with Cerulean) for the foreseeable
future.
FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATIONS
Certain statements contained herein, such as statements concerning potential or
future loss ratios, pending acquisitions and other statements regarding matters
that are not historical facts, are forward-looking statements (as such term is
defined in the Securities Exchange Act of 1934). Such statements involve a
number of risks and uncertainties that may cause actual results to differ from
those projected. Factors that can cause actual results to differ materially
include, but are not limited to, those discussed below and those discussed from
time to time in the Company's various filings with the Securities and Exchange
Commission, including the Company's Annual Report on Form 10-K.
The Company's operations are subject to substantial regulation by Federal, state
and local agencies in all jurisdictions in which the Company operates. Many of
these agencies have increased their scrutiny of managed health care companies in
recent periods or are expected to increase their scrutiny, as newly passed
legislation becomes effective. From time to time, the Company and its
subsidiaries receive requests for information from regulatory agencies or are
notified that such agencies are conducting reviews, investigations or other
proceedings with respect to certain of the Company's activities. The Company
also provides insurance products to Medi-Cal beneficiaries in various California
counties under contracts with the California Department of Health Services (or
delegated local agencies) and provides administrative services to the Health
Care Finance Administration ("HCFA") in various capacities. There can be no
assurance that acting as a government contractor in these circumstances will not
increase the risk of heightened scrutiny by such government agencies or that
such scrutiny will not have a material adverse effect on the Company, either
through negative publicity about the Company or through an adverse impact on the
Company's results of operations. In addition, profitability from this business
may be adversely affected through inadequate premium rate increases due to
governmental budgetary issues. Future actions by any regulatory agencies may
have a material adverse effect on the Company's business.
Completion of the Company's pending transaction with Cerulean is contingent
upon, among other things, receipt of necessary approvals from certain federal
and state agencies on or before December 31, 2000. Broad latitude in
administering the applicable regulations is given to the agencies from which
WellPoint and Cerulean must seek these approvals. There can be no assurance that
these approvals will be obtained. As a condition to approval of the transaction,
regulatory agencies may impose requirements or limitations or costs on the way
that the
27
<PAGE>
FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATION, CONTINUED
combined company conducts business after consummation of the transaction. If the
Company or Cerulean were to agree to any material requirements or limitations in
order to obtain any approvals required to consummate the transaction, such
requirements or limitations or additional costs associated therewith could
adversely affect WellPoint's ability to integrate the operations of Cerulean
with those of WellPoint, and a material adverse effect on WellPoint's revenues
and results of operations following completion of the transaction could result.
The Company intends to incur debt to finance some or all of the cash payments to
be made to Cerulean shareholders in connection with the pending acquisition. In
addition, WellPoint has received authorization to, and has, repurchased shares
of WellPoint stock to offset shares that are expected to be issued in connection
with the transaction. WellPoint has made significant purchases of treasury stock
for this purpose, using excess cash as well as the issuance of additional
indebtedness. Upon completion of the Cerulean transaction, WellPoint could incur
significant additional indebtedness to fund not only the cash portion of the
transaction but also any further repurchases of shares of WellPoint stock. Such
additional indebtedness may require that a significant amount of the Company's
cash flow be applied to the payment of interest, and there can be no assurance
that the Company's operations will generate sufficient cash flow to service the
indebtedness. Any additional indebtedness may adversely affect the Company's
ability to finance its operations and could limit its ability to pursue business
opportunities that may be in the best interests of the Company and its
stockholders.
As part of the Company's business strategy, the Company has acquired substantial
operations in new geographic markets over the last four years. The Company has
also entered into a merger agreement with Cerulean, pursuant to which Cerulean
will become a wholly owned subsidiary of the Company. These businesses, some of
which include substantial indemnity-based insurance operations, have experienced
varying profitability or losses in recent periods. Since the relevant dates of
acquisition of MMHD and GBO, the Company has continued to work extensively on
the integration of these businesses. The Company has also begun its integration
of the Rush Prudential business. However, there can be no assurances regarding
the ultimate success of the Company's integration efforts or regarding the
ability of the Company to maintain or improve the results of operations of the
businesses of completed or pending transactions as the Company pursues its
strategy of motivating the acquired members to select managed care products. In
order to implement this business strategy, the Company has incurred and will,
among other things, need to continue to incur considerable expenditures for
provider networks, distribution channels and information systems in addition to
the costs associated with the integration of these acquisitions. The integration
of these complex businesses may result in, among other things, temporary
increases in claims inventory or other service-related issues that may
negatively affect the Company's relationship with its customers and contribute
to increased attrition of such customers. The Company's results of operations
could be adversely affected in the event that the Company experiences such
problems or is otherwise unable to implement fully its expansion strategy.
The Company and certain of its subsidiaries are subject to capital requirements
by the California Department of Managed Health Care, various other state
departments of insurance
28
<PAGE>
FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATION, CONTINUED
and the Blue Cross Blue Shield Association. Although the Company believes that
it is currently in compliance with all applicable requirements, there can be no
assurances that such requirements will not be increased in the future.
From time to time, the Company and certain of its subsidiaries are parties to
various legal proceedings, many of which involve claims for coverage encountered
in the ordinary course of business. The Company, like HMOs and health insurers
generally, excludes certain health care services from coverage under its HMO,
PPO and other plans. The Company is, in its ordinary course of business, subject
to the claims of its enrollees arising out of decisions to restrict treatment or
reimbursement for certain services. The loss of even one such claim, if it
results in a significant punitive damage award, could have a material adverse
effect on the Company. In addition, the risk of potential liability under
punitive damage theories may increase significantly the difficulty of obtaining
reasonable settlements of coverage claims.
In June 2000, the California Medical Association filed a lawsuit in U.S.
district court in San Francisco against the Company's subsidiary, Blue Cross
of California ("BCC"). The lawsuit alleges that BCC violated the RICO Act
through various misrepresentations to and inappropriate actions against
health care providers. In late 1999, a number of class-action lawsuits were
brought against several of the Company's competitors alleging, among other
things, various misrepresentations regarding their health plans and breaches
of fiduciary obligations to health plan members. In August 2000, the Company
was added as a party to SHANE V. HUMANA, ET AL., a class-action lawsuit
brought on behalf of health care providers nationwide. In addition to the
RICO claims brought in the California Medical Association lawsuit, this
lawsuit also alleges violations of ERISA, federal "prompt pay" regulations
and certain common law claims. In October 2000, the federal Judicial Panel on
Multidistrict Litigation issued an order consolidating the California Medical
Association lawsuit, the SHANE lawsuit and various other pending managed care
class-action lawsuits against other Companies before District Court Judge
Federico Moreno in the Southern District of Florida for purposes of the
pretrial proceedings. The financial and operational impact that these and
other evolving theories of recovery will have on the managed care industry
generally, or the Company in particular, is at present unknown.
The Company's future results will depend in large part on accurately predicting
health care costs incurred on existing business and upon the Company's ability
to control future health care costs through product and benefit design,
underwriting criteria, utilization management and negotiation of favorable
provider contracts. Changes in mandated benefits, utilization rates, demographic
characteristics, health care practices, provider consolidation, inflation, new
pharmaceuticals/technologies, clusters of high-cost cases, the regulatory
environment and numerous other factors are beyond the control of any health plan
provider and may adversely affect the Company's ability to predict and control
health care costs and claims, as well as the Company's financial condition,
results of operations or cash flows. Periodic renegotiation of hospital and
other provider contracts coupled with continued consolidation of physician,
hospital and other provider groups may result in increased health care costs and
limit the
29
<PAGE>
FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATION, CONTINUED
Company's ability to negotiate favorable rates. Recently, large physician
practice management companies have experienced extreme financial difficulties,
including bankruptcy, which may subject the Company to increased credit risk
related to provider groups and cause the Company to incur duplicative claims
expense. Additionally, the Company faces competitive pressure to contain premium
prices. In connection with the planned introduction of new individual PPO plans
in California in January 2001, the Company has announced that it will not raise
premiums to certain members during portions of 2001. Fiscal concerns regarding
the continued viability of government-sponsored programs such as Medicare and
Medicaid may cause decreasing reimbursement rates for these programs. Any
limitation on the Company's ability to increase or maintain its premium levels,
design products, implement underwriting criteria or negotiate competitive
provider contracts may adversely affect the Company's financial condition or
results of operations.
Managed care organizations operate in a highly competitive environment that has
undergone significant change in recent years as a result of business
consolidations, new strategic alliances, aggressive marketing practices by
competitors and other market pressures. Additional increases in competition
(including competition from market entrants offering internet-based products and
services) could adversely affect the Company's financial condition, cash flows
or results of operations.
As a result of the Company's acquisitions, the Company operates on a select
geographic basis nationally and offers a spectrum of health care and specialty
products through various risk-sharing arrangements. The Company's health care
products include a variety of managed care offerings as well as traditional
fee-for-service coverage. With respect to product type, fee-for-service products
are generally less profitable than managed care products. A critical component
of the Company's expansion strategy is to transition over time the traditional
insurance members of the Company's acquired businesses to more managed care
products.
With respect to the risk-sharing nature of products, managed care products that
involve greater potential risk to the Company generally tend to be more
profitable than management services products and those managed care products
where the Company is able to shift risks to employer groups. Individuals and
small employer groups are more likely to purchase the Company's higher-risk
managed care products because such purchasers are generally unable or unwilling
to bear greater liability for health care expenditures. Typically,
government-sponsored programs involve the Company's higher risk managed care
products. Over the past few years, the Company has experienced a slight decline
in margins in its higher risk managed care products and to a lesser extent on
its lower-risk managed care and management services products. This decline is
primarily attributable to product mix change, product design, competitive
pressure and greater regulatory restrictions applicable to the small employer
group market. From time to time, the Company has implemented price increases in
certain of its managed care businesses. While these price increases are intended
to improve profitability, there can be no assurance that this will occur.
Subsequent unfavorable changes in the relative profitability between the
Company's various products could have a material adverse effect on
30
<PAGE>
FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATION, CONTINUED
the Company's results of operations and on the continued merits of the Company's
geographic expansion strategy.
Substantially all of the Company's investment assets are in interest-yielding
debt securities of varying maturities or equity securities. The value of fixed
income securities is highly sensitive to fluctuations in short- and long-term
interest rates, with the value decreasing as such rates increase and increasing
as such rates decrease. In addition, the value of equity securities can
fluctuate significantly with changes in market conditions. Changes in the value
of the Company's investment assets, as a result of interest rate fluctuations,
can affect the Company's results of operations and stockholders' equity. There
can be no assurances that interest rate fluctuations will not have a material
adverse effect on the results of operations or financial condition of the
Company.
The Company's operations are dependent on retaining existing employees,
attracting additional qualified employees and achieving productivity gains from
the Company's investment in technology. The Company faces intense competition
for qualified information technology personnel and other skilled professionals.
There can be no assurances that an inability to retain existing employees or
attract additional employees will not have a material adverse effect on the
Company's results of operations.
In December 2000, a wholly owned subsidiary of the Company experts to
complete its acquisition of certain mail order pharmaceutical service assets
and to thereafter conduct business as a mail order pharmacy. The pharmacy
business is subject to extensive federal, state and local regulations which
are in many instances different from those under which the Company currently
operates. The failure to properly adhere to these and other applicable
regulations could result in the imposition of civil and criminal penalties,
which could adversely affect the Company's results of operations or financial
condition. In addition, pharmacies are exposed to risks inherent in the
packaging and distribution of pharmaceuticals and other health care products.
Although the Company intends to maintain professional liability and errors
and omissions liability insurance, there can be no assurances that the
coverage limits under such insurance programs will be adequate to protect
against future claims or that the Company will be able to maintain insurance
on acceptable terms in the future.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in market risk from that disclosed in the
Company's Annual Report on Form 10-K for the year ended December 31, 1999.
31
<PAGE>
PART II OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<TABLE>
<S> <C>
2.01 Amended and Restated Recapitalization Agreement dated as of
March 31, 1995 by and among the Registrant, Blue Cross of
California, Western Health Partnership and Western
Foundation for Health Improvement, incorporated by reference
to Exhibit 2.1 of the Registrant's Registration Statement on
Form S-4 dated April 8, 1996.
2.02 Agreement and Plan of Merger dated as of July 9, 1998, by
and among Cerulean Companies, Inc., WellPoint and Water Polo
Acquisition Corp., incorporated by reference to Exhibit 2.4
of the Registrant's Registration Statement on Form S-4
(Registration No. 333-64955).
2.03 Stock Purchase Agreement dated as of July 29, 1998, by and
between the Registrant and Fremont Indemnity Company,
incorporated by reference to Exhibit 2.1 to the Registrant's
Current Report on Form 8-K dated September 1, 1998.
2.04 First Amendment to the Stock Purchase Agreement dated as of
November 5, 1998, by and between the Registrant and Fremont
Indemnity Company, incorporated by reference to Exhibit 2.05
to the Registrant's Annual Report on Form 10-K for the year
ended December 31, 1998.
2.05 Second Amendment to the Stock Purchase Agreement dated as of
February 1, 1999, by and between the registrant and Fremont
Indemnity Company, incorporated by reference to Exhibit 2.06
to Registrant's Annual Report on Form 10-K for the year
ended December 31, 1998.
2.06 First Amendment to the Agreement and Plan of Merger dated as
of July 9, 1999, by and among Cerulean Companies, Inc., the
Registrant and Water Polo Acquisition Corp., incorporated by
reference to Exhibit 2.07 to Registrant's Quarterly Report
on Form 10-Q for the quarter ended September 30, 1999.
2.07 Second Amendment to the Agreement and Plan of Merger dated
as of December 31, 1999, by and among Cerulean Companies,
Inc., the Registrant and Water Polo Acquisition Corp.
incorporated by reference to Exhibit 2.07 of the
Registrant's Annual Report on Form 10-K for the year
ended December 31, 1999.
3.01 Restated Certificate of Incorporation of the Registrant,
incorporated by reference to Exhibit 3.1 of the Registrant's
Current Report on Form 8-K filed on August 5, 1997.
3.02 Bylaws of the Registrant, incorporated by reference to
Exhibit 4.2 of the Registrant's Registration Statement on
Form S-8, Registration No. 333-90791.
4.01 Specimen of common stock certificate of WellPoint Health
Networks Inc., incorporated by reference to Exhibit 4.4 of
Registrant's Registration Statement on Form 8-B,
Registration No. 001-13083.
</TABLE>
32
<PAGE>
PART II OTHER INFORMATION, Continued
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits, Continued
<TABLE>
<S> <C>
4.02 Restated Certificate of Incorporation of the Registrant
(included in Exhibit 3.01).
4.03 Bylaws of the Registrant (included in Exhibit 3.02).
4.04 Indenture dated as of July 2, 1999 by and between the
Registrant and The Bank of New York, as trustee (including
the form of Debenture attached as Exhibit A thereto),
incorporated by reference to Exhibit 4.04 to the
Registrant's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1999.
10.01 Promissory Note made by Woodrow Myers in favor of the
Registrant.
10.02 Amendment No. 5 to the Registrant's 401(k) Retirement
Savings Plan.
27.1 Financial Data Schedule
</TABLE>
(b) Reports on Form 8-K
The Registrant filed a Current Report on Form 8-K dated as of September 1, 2000,
disclosing that the Registrant had entered into a Stock Purchase Agreement with
the California HealthCare Foundation (the "Foundation") to repurchase 602,800
shares of WellPoint Common Stock held by the Foundation. As a result of this
agreement, certain registration rights previously granted to the Foundation were
terminated.
33
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
WELLPOINT HEALTH NETWORKS INC.
Registrant
Date: November 14, 2000 By: /s/ LEONARD D. SCHAEFFER
------------------------
Leonard D. Schaeffer
Chairman of the Board of Directors
and Chief Executive Officer
Date: November 14, 2000 By: /s/ DAVID C. COLBY
-------------------
David C. Colby
Executive Vice President
and Chief Financial Officer
Date: November 14, 2000 By: /s/ KENNETH C. ZUREK
--------------------
Kenneth C. Zurek
Senior Vice President, Controller
and Taxation
34
