<PAGE> 1
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 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 MARCH 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM
------------------------
COMMISSION FILE NUMBER 000-21949
PACIFICARE HEALTH SYSTEMS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C>
DELAWARE 95-4591529
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
</TABLE>
3120 LAKE CENTER DRIVE, SANTA ANA, CALIFORNIA 92704
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) (714) 825-5200
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 [ ]
As of April 30, 1998, there were 14,809,811 shares of the Registrant's
Class A Common Stock, par value $0.01 per share, outstanding, and 26,922,062
shares of Class B Common Stock, par value $0.01 per share, outstanding.
================================================================================
<PAGE> 2
PACIFICARE HEALTH SYSTEMS, INC.
FORM 10-Q INDEX
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of March 31,
1998 and December 31, 1997............................ 3
Consolidated Statements of Operations for the three
months ended March 31, 1998 and 1997.................. 4
Consolidated Statements of Cash Flows for the three
months ended March 31, 1998 and 1997.................. 5
Notes to Condensed Consolidated Financial Statements... 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.................... 11
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.................. 18
SIGNATURES.................................................. 19
INDEX TO EXHIBITS........................................... 20
</TABLE>
2
<PAGE> 3
PART 1: FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
PACIFICARE HEALTH SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
MARCH 31,
1998 DECEMBER 31,
(UNAUDITED) 1997
------------- --------------
(IN THOUSANDS, EXCEPT PER SHARE
DATA)
<S> <C> <C>
Assets
Current assets:
Cash and equivalents...................................... $ 235,693 $ 680,674
Marketable securities..................................... 926,652 864,708
Receivables, net.......................................... 326,343 301,345
Prepaid expenses and other current assets................. 32,213 32,194
Deferred income taxes..................................... 111,401 112,037
---------- ----------
Total current assets.............................. 1,632,302 1,990,958
========== ==========
Property, plant and equipment, net.......................... 229,145 235,943
Marketable securities -- restricted......................... 157,596 145,989
Goodwill and intangible assets, net......................... 2,440,577 2,458,463
Other assets................................................ 35,261 36,605
---------- ----------
$4,494,881 $4,867,958
========== ==========
Liabilities and Shareholders' Equity
Current liabilities:
Medical claims and benefits payable....................... $ 708,700 $ 715,600
Accounts payable and accrued liabilities.................. 460,421 429,524
Unearned premium revenue.................................. 43,034 491,808
Long-term debt due within one year........................ 152 154
---------- ----------
Total current liabilities......................... 1,212,307 1,637,086
---------- ----------
Long-term debt due after one year........................... 1,041,195 1,011,234
Deferred income taxes....................................... 103,174 102,793
Other liabilities........................................... 54,155 54,283
Minority interest........................................... 355 375
Shareholders' equity:
Preferred shares, par value $0.01 per share; 40,000 shares
authorized; 10,517 shares of Series A Convertible
Preferred Stock issued and outstanding at March 31,
1998 and December 31, 1997 ($262,926 aggregate
liquidation value)..................................... 105 105
Class A common shares, par value $0.01 per share; 100,000
shares authorized; 14,860 and 14,794 issued and
outstanding at March 31, 1998 and December 31, 1997,
respectively........................................... 148 148
Class B common shares, par value $0.01 per share; 100,000
shares authorized; 27,307 and 27,201 issued and
outstanding at March 31, 1998 and December 31, 1997,
respectively........................................... 273 272
Additional paid-in capital................................ 1,607,518 1,599,229
Accumulated other comprehensive income.................... 7,832 9,993
Retained earnings......................................... 491,157 452,440
Treasury shares, at cost: Class A common shares -- 42;
Class B common shares -- 406........................... (23,338) --
---------- ----------
Total shareholders' equity........................ 2,083,695 2,062,187
---------- ----------
$4,494,881 $4,867,958
========== ==========
</TABLE>
See accompanying notes.
3
<PAGE> 4
PACIFICARE HEALTH SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
--------------------------------
1998 1997
-------------- --------------
(IN THOUSANDS, EXCEPT PER SHARE
DATA)
<S> <C> <C>
Revenue:
Commercial premiums....................................... $ 960,898 $ 756,927
Government premiums (Medicare and Medicaid)............... 1,396,522 1,074,995
Other income.............................................. 24,530 11,681
---------- ----------
Total operating revenue........................... 2,381,950 1,843,603
---------- ----------
Expenses:
Health care services:
Commercial services....................................... 798,452 629,793
Government services....................................... 1,210,049 917,862
---------- ----------
Total health care services........................ 2,008,501 1,547,655
---------- ----------
Marketing, general and administrative expenses.............. 282,313 214,514
Amortization of goodwill and intangible assets.............. 18,636 10,319
---------- ----------
Operating income............................................ 72,500 71,115
Interest income............................................. 25,304 17,685
Interest expense............................................ (17,518) (9,719)
---------- ----------
Income before income taxes.................................. 80,286 79,081
Provision for income taxes.................................. 38,940 35,587
---------- ----------
Net income.................................................. $ 41,346 $ 43,494
========== ==========
Preferred dividends......................................... (2,629) (904)
---------- ----------
Net income available to common shareholders................. $ 38,717 $ 42,590
========== ==========
Basic earnings per share.................................... $ 0.93 $ 1.17
========== ==========
Diluted earnings per share.................................. $ 0.90 $ 1.12
========== ==========
</TABLE>
See accompanying notes.
4
<PAGE> 5
PACIFICARE HEALTH SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
-----------------------
1998 1997
--------- ----------
(IN THOUSANDS)
<S> <C> <C>
Operating activities:
Net income................................................ $ 41,346 $ 43,494
Adjustments to reconcile net income to net cash used in
operating activities:
Amortization of goodwill and intangible assets......... 18,636 10,319
Depreciation and amortization.......................... 12,627 9,141
Deferred income taxes.................................. 2,368 911
Provision for doubtful accounts........................ 136 1,690
Other noncash items.................................... (22) --
Loss on disposal of property, plant and equipment...... -- 2,966
Changes in assets and liabilities, net of effects from
acquisitions:
Accounts receivable.................................. (25,134) (27,234)
Prepaid expenses and other assets.................... 1,325 (6,205)
Medical claims and benefits payable.................. (6,900) (29,000)
Accounts payable and accrued liabilities............. 33,017 31,857
Unearned premium revenue............................. (448,774) (213,630)
--------- ----------
Net cash flows used in operating activities....... (371,375) (175,691)
--------- ----------
Investing activities:
Sale (purchase) of marketable securities.................. (65,456) 57,862
Sale (purchase) of marketable securities -- restricted.... (11,607) 393
Purchase of property, plant and equipment................. (5,827) (8,673)
Acquisitions, net of cash acquired........................ (750) (980,646)
--------- ----------
Net cash flows used in investing activities....... (83,640) (931,064)
--------- ----------
Financing activities:
Proceeds from long-term borrowing, net of expenses........ 30,000 1,105,639
Repurchase of common stock................................ (23,338) --
Proceeds from issuance of common stock.................... 6,042 29,912
Cash dividends paid to preferred shareholders............. (2,629) (904)
Principal payments on long-term debt...................... (41) (99,725)
Capitalization of Talbert................................. -- (67,000)
--------- ----------
Net cash flows provided by financing activities... 10,034 967,922
--------- ----------
Net decrease in cash and equivalents........................ (444,981) (138,833)
Beginning cash and equivalents.............................. 680,674 367,748
--------- ----------
Ending cash and equivalents................................. $ 235,693 $ 228,915
========= ==========
</TABLE>
See accompanying notes.
5
<PAGE> 6
PACIFICARE HEALTH SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
----------------------
1998 1997
------- -----------
(IN THOUSANDS)
<S> <C> <C>
Supplemental cash flow information:
Cash paid during the period for:
Income taxes........................................... $ 360 $ 45,092
Interest............................................... $16,086 $ 2,437
Supplemental schedule of noncash investing and financing
activities:
Tax benefit realized upon exercise of stock options....... $ 2,216 $ 14,858
Compensation awarded in Class B Common Stock.............. $ 32 $ 721
Details of businesses acquired in purchase transactions:
Fair value of assets acquired............................. $ 750 $ 3,384,154
Liabilities assumed or created, including notes to
sellers................................................ -- (1,194,988)
Preferred and common consideration........................ -- (1,161,893)
------- -----------
Cash paid for acquisitions................................ 750 1,027,273
Cash acquired in acquisitions............................. -- (46,627)
------- -----------
Net cash paid for acquisitions............................ $ 750 $ 980,646
======= ===========
Details of unrealized changes in marketable securities:
Decrease in marketable securities......................... $(3,512) $ (7,530)
Less decrease in deferred income taxes.................... 1,351 2,882
------- -----------
Decrease in shareholders' equity.......................... $(2,161) $ (4,648)
======= ===========
</TABLE>
See accompanying notes.
6
<PAGE> 7
PACIFICARE HEALTH SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1998
(UNAUDITED)
NOTE 1 -- BASIS OF PRESENTATION
PacifiCare Health Systems, Inc. (the "Company" or "PacifiCare") is one of
the leading health care services companies in the United States, serving
approximately 3.7 million members in the commercial, Medicare and Medicaid lines
of business. The interim condensed consolidated financial statements included
herein have been prepared by the Company without audit, pursuant to the rules
and regulations of the Securities and Exchange Commission (the "SEC"). Certain
information and footnote disclosures, normally included in the financial
statements prepared in accordance with generally accepted accounting principles,
have been condensed or omitted pursuant to such SEC rules and regulations;
nevertheless, management of the Company believes that the disclosures herein are
adequate to make the information presented not misleading. It is suggested that
these condensed consolidated financial statements be read in conjunction with
the consolidated financial statements and notes thereto included in the
Company's December 31, 1997 Annual Report on Form 10-K, filed with the SEC in
March 1998.
In the opinion of management, all adjustments, consisting only of normal
recurring adjustments necessary to present fairly the consolidated financial
position of the Company with respect to the interim condensed consolidated
financial statements, and the consolidated results of its operations and its
cash flows for the interim periods then ended, have been included. The results
of operations for the interim periods are not necessarily indicative of the
results for the full year.
NOTE 2 -- ACQUISITIONS AND DISPOSITIONS
In February 1997, FHP International Corporation ("FHP") was acquired by the
Company (the "FHP Acquisition"), which was accounted for as a purchase. Total
consideration of approximately $2.2 billion was allocated to the assets acquired
and liabilities assumed based on estimates of their fair values. The fair values
of the assets acquired and liabilities assumed were $0.9 billion and $1.1
billion, respectively. A total of $2.4 billion, net of related deferred taxes,
representing the excess of the purchase price over the estimated fair values of
the net assets acquired, was allocated to goodwill and other acquired intangible
assets and is being amortized over a four to 40 year period.
In February 1997, the Company sold the outstanding common stock of its
Florida subsidiary, at which time the buyer assumed the daily operations. The
sales price, which approximated net book value, totaled $9 million. The close of
the sale was completed in July 1997 when the Company received regulatory
approval from the state of Florida.
7
<PAGE> 8
PACIFICARE HEALTH SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The pro forma information below presents combined results of operations as
if the FHP Acquisition and the sale of the Company's Florida subsidiary had
occurred at the beginning of 1997. The pro forma information gives effect to
actual operating results prior to the acquisition and adjustments to interest
expense, goodwill amortization and income taxes. No adjustment has been made to
give effect to synergies that may be realized as a result of the FHP
Acquisition.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31, 1997
------------------
(UNAUDITED)
(IN THOUSANDS,
EXCEPT
PER SHARE AMOUNTS)
<S> <C>
Total operating revenue............................ $2,396,482
Pretax income...................................... $ 69,501
Net income......................................... $ 35,243
==========
Basic earnings per share........................... $ 0.79
==========
Diluted earnings per share......................... $ 0.77
==========
</TABLE>
NOTE 3 -- LONG-TERM DEBT
The Company has a $1.5 billion credit facility under which it had $940
million in borrowings outstanding as of March 31, 1998. The credit facility
requires mandatory step-down payments beginning on January 1, 1999 with final
maturity on January 1, 2002. The outstanding balance on the credit facility, as
of March 31, 1998, would not require a reduction until July 1, 2001. Interest
under the credit facility is presently based on the London Interbank Offering
Rate ("LIBOR") plus a spread, except for $350 million of the outstanding balance
which is covered by interest-rate swap agreements. The average fixed interest
rate paid by the Company on the existing swap agreements is approximately six
percent. The terms of the credit facility contain various covenants usual for
financing of this type, including a minimum net worth requirement, a minimum
fixed charge requirement and leverage ratios. At March 31, 1998, the Company was
in compliance with all such covenants. In 1997, the Company assumed $100 million
in senior notes of FHP which carry an interest rate of seven percent, payable
semiannually, and mature on September 15, 2003.
NOTE 4 -- SHAREHOLDERS' EQUITY
In January 1998, the Company's board of directors approved a plan to
repurchase shares of the Company's equity instruments. The Company successfully
renegotiated terms of its credit facility to increase the maximum amount of
repurchases permitted to $500 million. The Company has and may repurchase its
equity instruments using cash flows from operations and additional borrowings
under its credit facility. See "Liquidity and Capital Resources." Shares
repurchased will be available for reissuance in connection with the Company's
employee benefit plans or for other corporate purposes. As of March 31, 1998,
the Company had repurchased 42,000 shares of its Class A Common Stock and
406,000 shares of its Class B Common Stock for an aggregate amount of $23
million.
The Company's Preferred Stock includes 11,000,000 authorized shares of
Series A Preferred Stock. Each share of Series A Preferred Stock entitles its
owner to convert it at any time to 0.374 shares of Class B Common Stock,
assuming no unpaid accrued dividends in arrears. Series A Preferred Stock
shareholders also have a preference of $25.00 per share over the Common Stock in
the event of involuntary or voluntary liquidation. Dividends on the Series A
Preferred Stock accrue at an annual rate of $1.00 per share, are cumulative and
are payable quarterly when, as and if declared by the board of directors. In
March 1998, the Company paid $0.25 per share or approximately $3 million in
dividends to preferred shareholders of record as of February 27, 1998. Unpaid
cumulative dividends earned were $0.4 million on the 10,517,044 Series A
Preferred shares outstanding at March 31, 1998.
8
<PAGE> 9
PACIFICARE HEALTH SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
On or after June 17, 1998, the Series A Preferred Stock may be redeemed at
the option of the Company for cash plus unpaid dividends. The redemption price
ranges from 103 percent to 100 percent of the stated value of Series A Preferred
Stock, or $25.00 per share, in one-half percent decrements for each successive
anniversary of June 17, 1998 through 2004. Series A Preferred Stock ranks senior
to the Class A and B Common Stock with respect to dividend and liquidation
rights. Holders of Series A Preferred Stock generally have no voting rights;
however, there are certain exceptions including the right to elect two
additional directors if the equivalent of six quarterly dividends payable on the
Series A Preferred Stock are in default.
NOTE 5 -- CONTINGENCIES
OPM. The Company's HMO subsidiaries have commercial contracts with the
United States Office of Personnel Management ("OPM") to provide managed health
care services to members under the Federal Employees Health Benefit Program
("FEHBP") for federal employees, annuitants and their dependents. In the normal
course of business, OPM audits health plans with which it contracts to, among
other things, verify that the premiums calculated and charged to OPM are
established in compliance with the best price community rating guidelines
established by OPM. OPM typically audits plans once every five or six years, and
each audit covers the prior five or six year period. Depending on the type of
contract the Company has with OPM, OPM will audit one or more health plans at
the same time. OPM has notified the Company of its intent to audit or has
recently completed an audit of the majority of the Company's health plans. While
the government's initial on-site audits are usually followed by a post-audit
briefing in which the government indicates its preliminary results, final
resolution and settlement of the audits have historically taken a minimum of
three to five years.
In addition to claims made by the auditors as part of the normal audit
process, OPM may also refer their results to the United States Department of
Justice ("DOJ") for potential legal action under the False Claims Act. The DOJ
has the authority to file a claim under the False Claims Act if it believes that
the health plan knowingly overcharged the government or otherwise submitted
false documentation or certifications. In False Claims Act actions, the
government may impose trebled damages and a civil penalty of not less than
$5,000 nor more than $10,000 for each separate alleged false claim. In November
1997, the Company was notified that the 1995 audit of the operations of the
Company's Oklahoma HMO subsidiary had been referred to the DOJ. The Company is
negotiating to settle this matter with the DOJ.
PacifiCare intends to negotiate with OPM and the DOJ on all matters to
attain a mutually satisfactory result. There can be no assurance that these
negotiations will be concluded satisfactorily, that additional audits will not
be referred to the DOJ, or that additional, possibly material, liability will
not be incurred. The Company has also entered into discussions with OPM. The
Company believes that any ultimate liability in excess of amounts accrued would
not materially affect the Company's consolidated financial position. However,
such liability could have a material effect on results of operations or cash
flows of a future quarter if resolved unfavorably.
Legal Proceedings. The Company has been served with several purported class
action suits alleging violations of federal securities laws by the Company and
by certain of its officers and directors. The complaints relate to the period
from the date of the FHP Acquisition through the Company's November 25, 1997
announcement that earnings for the fourth quarter of 1997 would be lower than
expected. These complaints primarily allege that the Company previously omitted
and/or misrepresented material facts with respect to its costs, earnings and
profits. These suits are at a very early stage and no discovery has occurred.
The Company believes it has good defenses to the claims in these suits and is
contesting them vigorously.
The Company is also involved in legal actions in the normal course of
business, some of which seek substantial monetary damages, including claims of
punitive damages that are not covered by insurance. After review, including
consultation with counsel, based on current information, management believes any
ultimate liability in excess of amounts accrued that would likely arise from
these actions (including the purported class
9
<PAGE> 10
PACIFICARE HEALTH SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
actions) would not materially affect the Company's consolidated financial
position, results of operations or cash flows.
NOTE 6 -- EARNINGS PER SHARE
In 1997, the Financial Accounting Standards Board issued Statement No. 128
("SFAS 128"), "Earnings per Share." SFAS 128 replaces the calculation of primary
and fully diluted earnings per share with basic and diluted earnings per share.
Unlike primary earnings per share, basic earnings per share excludes any
dilutive effects of options and convertible securities. Diluted earnings per
share is very similar to the previously reported primary earnings per share.
Earnings per share amounts reported for the three months ended March 31, 1997
were restated to conform to the SFAS 128 requirements, and did not vary
materially from amounts previously stated. The following table sets forth the
computation of the denominator for basic and diluted earnings per share for the
periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
MARCH 31,
---------------
1998 1997
------ ------
(IN THOUSANDS)
<S> <C> <C>
Shares outstanding at the beginning of the period........... 41,995 31,301
Weighted average number of shares issued (repurchased):
Repurchases............................................... (370) --
Exercise of stock options................................. 58 217
FHP Acquisition........................................... -- 4,842
------ ------
Denominator for basic earnings per share.................... 41,683 36,360
Assumed conversion of Series A Preferred Stock.............. 3,955 1,987
Employee stock options...................................... 250 634
------ ------
Denominator for diluted earnings per share.................. 45,888 38,981
====== ======
</TABLE>
NOTE 7 -- COMPREHENSIVE INCOME
As of January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130 ("SFAS 130"), "Reporting Comprehensive Income."
SFAS 130 establishes new rules for the reporting and display of comprehensive
income and its components; however, its adoption had no impact on the Company's
net income or shareholders' equity for the quarter ended March 31, 1998. SFAS
130 requires unrealized gains or losses on the Company's available-for-sale
securities to be included in other comprehensive income. These amounts were
reported separately in shareholders' equity prior to adoption. Prior year
financial statements have been conformed to the reporting requirements of SFAS
130. During each of the quarters ended March 31, 1998 and 1997, comprehensive
income totaled $39 million.
10
<PAGE> 11
PART I: FINANCIAL INFORMATION
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following table presents HMO membership data by state and by consumer
type as of the dates indicated.
<TABLE>
<CAPTION>
AT MARCH 31, 1998 AT MARCH 31, 1997
------------------------------------ ------------------------------------
GOVERNMENT GOVERNMENT
(MEDICARE & (MEDICARE &
MEMBERSHIP DATA COMMERCIAL MEDICAID) TOTAL COMMERCIAL MEDICAID) TOTAL
--------------- ---------- ----------- --------- ---------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C>
Arizona.................... 111,100 88,700 199,800 101,700 88,400 190,100
California................. 1,578,000 605,900 2,183,900 1,693,700 633,500 2,327,200
Colorado................... 293,800 53,400 347,200 275,500 47,300 322,800
Guam....................... 42,600 -- 42,600 42,800 -- 42,800
Nevada..................... 44,200 24,400 68,600 40,100 22,800 62,900
Ohio....................... 48,700 14,000 62,700 55,200 8,400 63,600
Oklahoma................... 101,500 26,500 128,000 115,000 24,900 139,900
Oregon..................... 114,100 38,200 152,300 116,100 39,900 156,000
Texas...................... 138,600 68,500 207,100 137,000 68,900 205,900
Utah....................... 120,300 23,100 143,400 155,800 32,600 188,400
Washington................. 95,300 57,600 152,900 96,200 52,700 148,900
--------- --------- --------- --------- --------- ---------
Total membership(1)... 2,688,200 1,000,300 3,688,500 2,829,100 1,019,400 3,848,500
========= ========= ========= ========= ========= =========
</TABLE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
------------------
OPERATING STATISTICS 1998 1997
-------------------- ------ ------
<S> <C> <C>
Medical care ratio (health care services as a percent of
premium revenue):
Consolidated.............................................. 85.2% 84.5%
Commercial................................................ 83.1% 83.2%
Government (Medicare and Medicaid)........................ 86.6% 85.4%
Marketing, general and administrative expenses as a percent
of operating revenue...................................... 11.9% 11.6%
Operating income as a percent of operating revenue.......... 3.0% 3.9%
Effective tax rate.......................................... 48.5% 45.0%
</TABLE>
- ---------------
(1) The membership table does not include the members of Illinois and New Mexico
at March 31, 1997 because these companies were classified as net assets held
for sale, and were subsequently sold during 1997. As of March 31, 1997,
Illinois had 59,000 and 3,000 commercial and government members,
respectively; and New Mexico had 38,000 and 18,000 commercial and government
members, respectively.
11
<PAGE> 12
THREE MONTHS ENDED MARCH 31, 1998
COMPARED WITH THE
THREE MONTHS ENDED MARCH 31, 1997
RESULTS OF OPERATIONS
For the three months ended March 31, 1998, total operating revenue
increased 29 percent as compared to the same period in the prior year. The 1997
results include the results of operations of FHP from February 14, 1997 (see
Note 2 of the Notes to the Condensed Consolidated Financial Statements).
Enrollment gains, including the increased membership from the acquisition of
FHP, in both the government and commercial programs, contributed approximately
81 percent of the increase in revenue. Premium rate increases, mainly in the
government programs, contributed 13 percent of the increase. The Company's
specialty managed care products and services contributed the remainder of the
increase. Other income increased 110 percent as compared to the same period in
the prior year, due primarily to increased revenue from the Company's
prescription drug benefit management and Secure Horizons USA subsidiaries.
Total HMO membership decreased four percent to approximately 3.7 million
members at March 31, 1998, from approximately 3.8 million members at March 31,
1997. The membership declines were due, in part, to the exit of certain product
lines including Medicaid and geographic markets.
Commercial premiums increased 27 percent over the prior year due to a full
quarter of FHP Acquisition membership being included in 1998 compared to a half
quarter in the prior year. Premium rate increases of approximately two percent
contributed to a five percent membership decrease from 1997. The membership
decrease was expected, and is the result of the Company shifting its focus from
one of rapid growth to improved profit margins through the use of a more
disciplined product pricing strategy.
Government premiums increased 30 percent for the three months ended March
31, 1998, primarily due to the FHP Acquisition contributing 45 days more of
premiums than in the three months ended March 31, 1997. Government per member
premium rates increased as a result of the Company's exit of its Medicaid lines
of business in certain of the Company's markets. These increases were offset
slightly by reductions in member paid supplemental premiums in several of the
Company's markets.
The commercial medical care ratio (health care services as a percent of
premium revenue) decreased slightly for the three months ended March 31, 1998,
as compared to the same period of the prior year. The improvement in the
commercial medical care ratio was due to the continued renegotiation of provider
contracts into capitated arrangements, lower prescription drug costs and an
improved pricing environment.
The increase in the government programs' medical care ratio for the three
months ended March 31, 1998, as compared to the same period of the prior year,
was primarily the result of increases in out-of-area emergency costs and
provider insolvency reserves.
As a percentage of operating revenue, marketing, general and administrative
expenses increased from the prior year primarily from the accelerated
recognition of discretionary spending including accruals for employee profit
sharing plans and other overhead costs. Excluding these accelerated expenses,
the administrative ratio in this year would have been comparable to, or slightly
below, the ratio recorded in the same period last year.
Interest income increased approximately 43 percent for the three months
ended March 31, 1998 compared to the same period in the prior year primarily due
to gains on sales of marketable securities.
Interest expense increased approximately 80 percent for the three months
ended March 31, 1998 compared to the same period in the prior year primarily due
to increased borrowings under the Company's credit facility for the FHP
Acquisition.
The effective income tax rate was approximately 49 percent for the three
months ended March 31, 1998, which is an increase over the prior year. This
increase reflects the additional nondeductible goodwill amortization expense
over the prior year related to the acquisition of FHP.
12
<PAGE> 13
For the year ended December 31, 1997, the Company adopted the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per
Share." This statement requires a dual presentation of earnings per share, basic
and diluted, and restatement of prior years. The adoption of this statement did
not have a material affect on the Company's calculation of earnings per share
for the reported periods.
LIQUIDITY AND CAPITAL RESOURCES
The Company's consolidated cash, equivalents and marketable securities
decreased by $383 million to $1.2 billion at March 31, 1998 from $1.5 billion at
December 31,1997. The decrease reflects the impact of timing differences in
receipt of HCFA premiums. Cash flows provided by operations, excluding the
impact of the January 1998 advance Medicare payment from HCFA, were $77 million
and are primarily attributable to results of operations.
Net cash used in investing activities was $84 million and $931 million for
the three months ended March 31, 1998 and 1997, respectively. Cash used in 1998
was primarily attributable to the purchase of marketable securities and
investments in capital expenditures. Cash used in 1997 was primarily
attributable to the FHP Acquisition and investments in capital expenditures
which was partially offset by the sale of marketable securities.
Net cash provided by financing activities was $10 million and $968 million
for the three months ended March 31, 1998 and 1997, respectively. During 1998,
net cash provided by financing activities included $30 million in borrowings
under the Company's $1.5 billion credit facility to finance the repurchase of
common stock. In January 1998, the Company's board of directors approved a plan
to repurchase shares of the Company's equity instruments. As of March 31, 1998,
the Company had repurchased 42,000 shares of its Class A Common Stock and
406,000 shares of its Class B Common Stock for an aggregate amount of $23
million (see Note 4 of the Notes to the Condensed Consolidated Financial
Statements). For the three months ended March 31, 1997, the Company had borrowed
$1.1 billion and had repaid $80 million of its borrowings under the credit
facility. The issuance of common stock provided cash in 1998 and 1997 of $6
million and $30 million, respectively. The Company paid approximately $3 million
and $1 million of preferred stock dividends in 1998 and 1997, respectively. In
1997, the Company made capital contributions to Talbert Medical Management
Corporation, a former subsidiary of FHP, in the amount of $67 million.
NEW ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board ("FASB") has issued several
pronouncements regarding disclosure that the Company will adopt in 1998.
SFAS No. 129, "Disclosure of Information about Capital Structure,"
consolidates the existing guidance relating to an entity's capital structure.
The required capital structure disclosures include liquidation preferences of
preferred stock, information about the pertinent rights and privileges of the
outstanding equity securities and the redemption amounts of all issues of
capital stock that are redeemable at fixed or determinable prices on fixed or
determinable dates.
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information," significantly changes the way public companies report segment
information in annual financial statements and also requires those companies to
report selected segment information in interim financial reports. Under SFAS
131, public companies will report financial and descriptive information about
their operating segments. Operating segments are revenue-producing components of
the enterprise for which separate financial information is produced internally
and are subject to evaluation by the chief operating decision maker in deciding
how to allocate resources to segments.
In March 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants issued Statement of Position 98-1
("SOP 98-1"), "Accounting for the Costs of Computer Software Developed For or
Obtained For Internal Use." Under SOP 98-1, effective in 1999, certain computer
software costs are required to be capitalized and amortized over the software's
estimated useful life. The Company will adopt SOP 98-1 in 1999.
13
<PAGE> 14
DISCLOSURE REGARDING FORWARD LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward looking statements to encourage companies to provide
prospective information about themselves without fear of litigation so long as
those statements are identified as forward looking and are accompanied by
meaningful cautionary statements identifying important factors that could cause
actual results to differ materially from those projected in the statements. The
statements contained in this section, and throughout the document, are based on
current expectations. These statements are forward looking and actual results
may differ materially from those projected in the forward looking statements,
which statements involve risks and uncertainties. In addition, past financial
performance is not necessarily a reliable indicator of future performance and
investors should not use historical performance to anticipate results or future
period trends. Shareholders are also directed to the other risks discussed in
other documents filed by the Company with the SEC.
FORWARD LOOKING INFORMATION UNDER THE PRIVATE SECURITIES LITIGATION ACT OF 1995
Membership and Premiums. The Company's membership for the year ended
December 31, 1998 is expected to decline in the commercial program. In
accordance with the Company's strategic focus shifting from one of rapid growth
to improved margin performance, the Company's emphasis is on renewing employer
contracts with sufficient price increases to improve gross margin. Specifically,
the Company has implemented commercial price increases in all markets ranging
from zero to over 10 percent, with concentrated efforts in Utah and Washington,
which may result in net membership attrition. In addition to pricing increases,
the Company has or intends to exit certain geographical areas where the premiums
are insufficient to support the cost of health care in that area. Combined with
continued increases in competition and the potential disposition of its Utah
subsidiary, which currently has approximately 120,000 commercial members, the
Company expects to see declines in commercial membership in 1998.
The rate of increase in government membership is expected to remain flat or
increase minimally in 1998 as compared to 1997 as competition increases and the
Company continues the migration of FHP senior members into the Company's benefit
structures and the combined provider network. Additionally, if the proposed Utah
disposition is completed, government membership will decrease by approximately
23,000 government members.
An unforeseen loss of profitable membership could have a material adverse
effect on the Company. Factors which could contribute to the loss of membership
include issues related to the retention of FHP's members as the Company combines
the PacifiCare and FHP health plans, sale of certain managed care operations,
failure to obtain new customers or to retain existing customers, effect of
premium increases, reductions in workforce by existing customers, adverse
publicity and news coverage, inability to carry out marketing and sales plans,
or the loss of key executives or key employees.
Health Care Provider Contracts. The Company's profitability depends, in
part, on its ability to maintain effective control over health care costs while
providing members with quality care. Specifically, capitating providers in Utah,
Nevada and Washington and recontracting with providers in Oregon will be
important to improved results of operations for those markets. Securing
cost-effective contracts with existing and new physician groups is more
difficult due to increased competition. The negotiation of provider contracts,
generally as of January 1, may be impacted by adverse state and federal
legislation and regulation discussed below. Failure to secure cost-effective
contracts may result in a loss in membership or a higher medical care ratio. The
Company's inability to contract with providers, loss of contracts with
providers, inability of providers to provide adequate care or insolvency of
providers could materially and adversely affect the Company. These contracting
and insolvency risks include, among others, a loss of membership; incurring
additional expenses to meet the requirement to continue to arrange for health
care services, and other services, for members; the inability to obtain
reimbursement due the Company from providers; the expenditure of additional
funds to maintain adequate provider networks; and assertion of claims by third
parties against the Company. The effect of these risks could result in the
recognition of a charge in a future period.
Commercial Medical Care Ratio. The commercial medical care ratio is
expected to increase for the three months ended June 30, 1998 as compared to the
three months ended March 31, 1998. For the remainder
14
<PAGE> 15
of 1998, the Company expects the commercial medical care ratio to increase from
the ratio experienced in the first three months of 1998, but overall,
anticipates that the medical care ratio for the full year will be lower than
that for the year ended December 31, 1997. The Company expects improvements as
it continues to renegotiate provider contracts and implement capitated contracts
and price increases. Price increases on a consolidated company basis are
expected to increase by an average of four percent, with increases ranging from
zero to over 10 percent. Moreover, higher premium rates offered during renewal
periods should result in the elimination of some high medical care ratio
business. During 1998, the Company will continue to concentrate its efforts on
renegotiations with providers, including contracts assumed by the FHP
Acquisition. Successful renegotiation of these contracts should reduce the
medical care ratio from the prior year. Finally, the commercial medical care
ratio should improve if the proposed Utah disposition is completed.
Government Medical Care Ratio. For the three months ended June 30, 1998,
the medical care ratio for the government programs is expected to be lower than
the three months ended March 31, 1998. For the year ended December 31, 1998, the
government medical care ratio is expected to be slightly higher than the prior
year. The Company believes that a portion of the out-of-area emergency costs
experienced in the first quarter of 1998 are one-time in nature and expects that
such costs will be improved in future quarters. Competitive pressures in the
Medicare market may require enhanced benefits. The implementation of Medicare
reform provisions which curtail program spending and allow the entry of new
forms of competitor plans could further increase competitive pressures (see
Legislation and Regulation below). The 1998 HCFA rate increases and lower FHP
government medical care ratio are expected to be offset by these competitive
pressures.
Medical Care Risk Factors. The commercial and government medical care ratio
expectations discussed above could be affected by various uncertainties,
including increases in medical and prescription drug costs which have been
escalating faster than premium increases in recent years, increases in
utilization and costs of medical services and the effect of actions by
competitors or groups of providers, termination of provider contracts or
renegotiations of such contracts at less cost-effective rates or terms of
payment. In addition, the commercial and government medical care ratio
expectations for the HMOs acquired in the FHP Acquisition could be impacted by
the ongoing conversion to the Company's computer systems which may result in
reduced timely visibility of actual claims costs.
Other Income. For the quarter ended June 30, 1998, other income is expected
to be comparable or slightly less than the quarter ended March 31, 1998 as
pharmacy funding from mail service co-payments is expected to decrease slightly.
Compared to 1997, other income is expected to increase substantially from the
Company's prescription drug benefit management and Secure Horizons USA
subsidiaries.
Marketing, General and Administrative Support. As a percentage of operating
revenue, marketing, general and administrative expenses are expected to decrease
for the three months ended June 30, 1998 as compared to the quarter ended March
31, 1998. Marketing, general and administrative expenses as a percentage of
operating revenue in 1998 are expected to be comparable to or slightly lower
than 1997. The Company expects to experience additional costs associated with
the integration of FHP largely related to upgrading and converting information
systems to maintain and enhance the Company's competitive edge in information
technology. These additional costs are expected to be offset as the Company
realizes the benefits of restructuring and a full year of synergies as a result
of the FHP Acquisition.
Marketing, general and administrative expenses could be adversely impacted
by the need for additional advertising, marketing, administrative, or management
information systems expenditures and the inability to carry out marketing and
sales plans. The ability of the Company to realize the anticipated benefits and
synergies related to the FHP Acquisition is subject to the following additional
uncertainties, among others: the ability to eliminate duplicative functions
while maintaining acceptable performance levels, and the possibility that the
continued integration will result in a loss of providers, employers, members or
key employees.
Future Dispositions. While the Company has previously announced its
intention to dispose of its Utah and workers' compensation operations, other
dispositions could be announced as the Company continues to evaluate whether
certain subsidiaries or products fit within its core business strategy. There is
no guarantee that the Company will be successful in selling all or a portion of
the Utah or workers' compensation operations at a price sufficient to avoid
disposition losses. Such losses could include restructuring expenses for
severance,
15
<PAGE> 16
lease and contract terminations as well as impairment of long-lived assets.
There can be no assurance that the dispositions will not result in additional
pretax charges. The Company believes, however, that any disposition operating
losses would not materially affect the Company's consolidated financial
position. However, the disposition losses could have a material adverse effect
on the results of operations or cash flows of a future quarter.
Impairment of Long-Lived Assets. The Company assesses the recoverability of
its long-lived assets (including goodwill and intangibles) on an annual basis or
whenever adverse events or changes in circumstances or the business climate
indicate that expected undiscounted future cash flows for individual business
units may not be sufficient to support the recorded asset. Based on the 1997
annual analysis, certain of the Company's operations will require more frequent
monitoring in 1998. In addition, at March 31, 1998 certain of the Company's
property, plant and equipment was determined to be recoverable because of long-
term operating lease agreements. Should there be a change in the rental income
stream, an impairment for these assets may be necessary. The Company believes
that this impairment would not materially affect the Company's consolidated
financial position. However, the impairment charges could have a material
adverse effect on the results of operations or cash flows.
Year 2000. In 1996, the Company developed and began execution of an
enterprise-wide plan to ensure application and systems compliance for the Year
2000. This plan's scope includes internal systems and the written confirmation
from all systems vendors ensuring Year 2000 compliance in conjunction with the
Company's target deadline of fall 1999. The Company is currently assessing the
impact, if any, of Year 2000 issues it may encounter with entities with which it
electronically interacts, including HCFA. If HCFA or certain other entities
experience significant failures or erroneous applications, it could have a
material adverse effect on the Company's financial position, results of
operations or cash flows.
Office of Personnel Management Contingencies. The Company intends to
negotiate with OPM and DOJ on all claims to attain a mutually satisfactory
result. While there is no assurance that the negotiations will be concluded
satisfactorily or that additional liability will not be incurred, management
believes that any ultimate liability in excess of amounts accrued, which could
arise upon completion of the audits by OPM of the health plans, would not
materially affect the Company's consolidated financial position. However, such
liability could have a material adverse effect on results of operations or cash
flows of a future quarter if resolved unfavorably (see Note 5 of the Notes to
Condensed Consolidated Financial Statements).
Liquidity and Capital Resources. The Company's credit facility requires
mandatory reductions of the outstanding principal balance beginning January 1999
and is required to be paid in full by January 1, 2002. As of March 31, 1998, the
outstanding balance on the credit facility would not require a reduction until
July 1, 2001. The Company believes cash flows from operations, existing cash
equivalents, marketable securities and other financing sources will be
sufficient to meet the requirements of the credit facility and should provide
sufficient liquidity for operations in the foreseeable future.
Cash flows could be adversely affected because the Company is subject to
greater operating leverage due to its higher levels of indebtedness as a result
of the FHP Acquisition. The Company's plan to repurchase shares of outstanding
stock may result in the reduction of cash and equivalents or in additional
borrowings on its credit facility. Additional borrowings on the credit facility
may result in the Company being subject to earlier mandatory reduction of its
outstanding balance. Additionally, should the credit facility be fully drawn,
the Company's ability to make a payment on, or repayment of, its future
obligations under the credit facility and $100 million of senior notes of FHP
assumed by the Company will be significantly dependent upon the receipt of funds
from the Company's subsidiaries. These subsidiary payments represent fees for
management services rendered by the Company to the subsidiaries and cash
dividends by the subsidiaries to the Company. Nearly all of the subsidiaries are
subject to HMO regulations or insurance regulations and may be subject to
substantial supervision by one or more HMO or insurance regulators. Subsidiaries
subject to regulation must meet or exceed various fiscal standards imposed by
HMO or insurance regulations, which may from time to time impact the amount of
funds that may be paid by subsidiaries to the Company. Additionally, from time
to time, the Company advances funds, in the form of a loan or capital
contribution, to its subsidiaries to assist them in satisfying federal or state
financial requirements. If a federal or state regulator has concerns about the
16
<PAGE> 17
financial position of a subsidiary, as a result of costs being incurred by such
subsidiary, a regulator may impose additional financial requirements on the
subsidiary which may require additional funding from the Company.
Legislation and Regulation. The Company's success is significantly impacted
by federal and state legislation and regulation. Almost 60 percent of the
Company's revenue, and an even greater percentage of its profit, comes from its
government programs, the majority of which is Medicare risk business. Actual
results may differ materially from expected results discussed throughout this
document because of adverse state and federal legislation and regulation. This
includes limitations on premium levels; increases in minimum capital and
reserves and other financial viability requirements; prohibition or limitation
of capitated arrangements or provider financial incentives; benefit mandates
(including mandatory length of stay and emergency room coverage, many of which
are effective in 1998) and limitations on the ability to manage care and
utilization of any willing provider and direct access laws. Legislation and
regulation could also include adverse actions of governmental payors, including
unilateral reduction of Medicare premiums payable; discontinuance of or
limitation on governmentally funded programs and recovery by governmental payors
of previously paid amounts; the inability to increase premiums or prospective or
retroactive reductions to premium rates for federal employees; adverse
regulatory determinations resulting in care or limitations of licensure, and
certification or contracts with governmental payors; and consolidation of
operations or other efforts to integrate FHP.
On August 5, 1997, President Clinton signed into law the Balanced Budget
Act of 1997, which enacted numerous revisions to the Medicare program. The law
replaces the risk contract program with a new "Medicare+choice" program, which
is intended to increase Medicare enrollment in private health plans. During
1998, HCFA is expected to promulgate regulations that will allow participation
in the Medicare+choice program by HMOs, preferred provider organizations,
point-of-service plans, provider-sponsored organizations and fee-for-service
plans and provide for a new medical savings account demonstration project for
Medicare beneficiaries. The law also revises the formula used by HCFA to
calculate payments to Medicare health plans by establishing minimum payment
levels and annual increases and limiting the overall rate of payment growth.
Further, the law enacts new requirements for risk adjustment, information
disclosure, quality measurement and improvement and beneficiary enrollment,
among other provisions. The Company believes that any slowdown in the rate of
premium growth may be offset by the effect of this new legislation encouraging
managed health care for Medicare beneficiaries. The loss of Medicare contracts
or termination or modification of the HCFA risk-based Medicare program could
have a material adverse effect on the revenue, profitability and business
prospects of the Company.
Additionally, recently adopted federal legislation, among other things,
repeals the requirement that at least half of a Medicare health plan's
enrollment be drawn from commercial contracts (the "50/50 Rule") beginning
January 1, 1999, and gives the Department of Health and Human Services broad
authority to waive the 50/50 Rule for certain plans beginning January 1, 1998.
The Company believes that the repeal of the 50/50 Rule will allow it to develop
Medicare risk programs in markets where it does not have operations through
expansion of the Secure Horizons programs and affiliations between Secure
Horizons USA, its Medicare risk management subsidiary, and health plans or
providers in such markets.
Legal Proceedings. The Company has been served with several purported class
action suits alleging violations of federal securities laws by the Company and
by certain of its officers and directors. The complaints relate to the period
from the date of the FHP Acquisition through the Company's November 25, 1997
announcement that earnings for the fourth quarter of 1997 would be lower than
expected. These complaints primarily allege that the Company previously omitted
and/or misrepresented material facts with respect to its costs, earnings and
profits. These suits are at a very early stage and no discovery has occurred.
The Company believes it has good defenses to the claims in these suits and is
contesting them vigorously.
The Company is also involved in legal actions in the normal course of
business, some of which seek monetary damages, including claims for punitive
damages which are not covered by insurance. After review, including consultation
with counsel, based on current information, management believes any ultimate
liability in excess of amounts accrued which would likely arise from these
actions (including the purported class actions) would not materially affect the
Company's consolidated financial position, results of operations or
17
<PAGE> 18
cash flows. However, management's evaluation of the likely impact of these
actions could change in the future and an unfavorable outcome, depending upon
the amount and timing, could have a material adverse effect on the Company's
results of operations or cash flows of a future quarter.
Other. Results may differ materially from those projected, forecast,
estimated and budgeted by the Company due to adverse results in ongoing audits
or in other reviews conducted by federal or state agencies or health care
purchasing cooperatives; adverse results in significant litigation matters; and
changes in interest rates causing an increase in interest expense.
PART II. OTHER INFORMATION
ITEM 1: LEGAL PROCEEDINGS
No changes.
ITEM 2: CHANGES IN SECURITIES
None
ITEM 3: DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5: OTHER INFORMATION
None
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibit Index
<TABLE>
<S> <C>
Exhibit 10.1 Separation Agreement, dated as of February 3, 1998, between
the Company and Wayne B. Lowell.
Exhibit 27 Financial Data Schedule (filed electronically).
</TABLE>
b) There were no reports on Form 8-K filed by the Registrant or its
subsidiaries during the quarter ended March 31, 1998.
18
<PAGE> 19
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.
PACIFICARE HEALTH SYSTEMS, INC.
(Registrant)
Date: May 13, 1998 By: /s/ ALAN R. HOOPS
------------------------------------
Alan R. Hoops
President,
Chief Executive Officer
and Director
Date: May 13, 1998 By: /s/ WAYNE B. LOWELL
------------------------------------
Wayne B. Lowell
Executive Vice President
and Chief Financial Officer
19
<PAGE> 20
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
Exhibit 10.1 Separation Agreement, dated as of February 3, 1998, between
the Company and Wayne B. Lowell.
Exhibit 27 Financial Data Schedule (filed electronically).
</TABLE>
20
<PAGE> 1
EXHIBIT 10.1
SEPARATION AGREEMENT
This SEPARATION AGREEMENT (this "Agreement"), dated as of February 3, 1998, (the
"Effective Date") by and between PACIFICARE HEALTH SYSTEMS, INC., a Delaware
corporation (the "Company"), and, Wayne Lowell, an individual ("EXECUTIVE"),
with reference to the following facts:
RECITALS:
WHEREAS, on or about February 22, 1990, the Company and EXECUTIVE
entered into an Employment Agreement, pursuant to which the Company engaged
EXECUTIVE in the capacity of Chief Financial Officer of the Company (as such
agreement heretofore may have been amended, modified, or revised, the
"Employment Agreement");
WHEREAS, EXECUTIVE has tendered to the Company his resignation, to be
effective on a mutually agreeable date;
WHEREAS, the Company and EXECUTIVE mutually desire to terminate the
Employment Agreement and to provide for the complete satisfaction and settlement
of all obligations arising under the Employment Agreement upon the terms and
subject to the conditions set forth in this Agreement; and
WHEREAS, in view of EXECUTIVE'S impending separation from the Company,
EXECUTIVE desires to resign from the offices, positions, and board memberships
that EXECUTIVE currently holds with the Company and with the Company's
subsidiaries and affiliates.
NOW THEREFORE, in consideration of the above premises and the
representations, warranties, conditions, covenants, and promises exchanged by
the parties expressed below, the Company and EXECUTIVE agree as follows:
ARTICLE I.
TERMINATION OF EMPLOYMENT
SECTION 1.01 EFFECT OF THIS AGREEMENT.
-------------------------
This Agreement shall supersede the Employment Agreement, except to the
extent that specific provisions of the Employment Agreement are referenced and
incorporated herein.
SECTION 1.02 NOTICE OF INTENT TO RESIGN.
--------------------------
EXECUTIVE hereby reaffirms his intent to resign from the Company.
-1-
<PAGE> 2
SECTION 1.03 EFFECT OF RESIGNATION.
----------------------
At the request of the Company, EXECUTIVE has agreed to continue his
employment with the Company with the understanding that the final termination
date ("Termination Date") will be no sooner than March 15, 1998, and no later
than June 15, 1998. Between those dates, EXECUTIVE'S employment shall be
terminable at the will of either Company or EXECUTIVE, with or without cause and
with or without advance notice. EXECUTIVE'S employment may be extended beyond
June 15, 1998, by the mutual agreement of the Company and EXECUTIVE, in which
case, EXECUTIVE'S continued employment shall remain terminable at the will of
either Company or EXECUTIVE, with or without cause and with or without advance
notice. On the Termination Date, at 11:59 p.m., Pacific Standard Time,
EXECUTIVE'S Employment Agreement and EXECUTIVE'S employment with the Company,
will terminate. Moreover, on the Termination Date and without further action,
EXECUTIVE shall resign the offices of Executive Vice President and Chief
Financial Officer as well as all other offices, directorships or position he
held in the Company or in any of the subsidiaries of the Company.
SECTION 1.04 EXECUTIVE'S INTERIM EMPLOYMENT.
-------------------------------
During the period prior to the Termination Date, EXECUTIVE will remain
employed with the Company as an "at will" employee on a full-time basis. During
this interim period, EXECUTIVE'S duties will remain the same as they were prior
to the Effective Date except that EXECUTIVE'S duties also will include
assistance in management transition and support to all individuals necessary to
ensure a smooth and timely transfer of EXECUTIVE responsibilities. The
Compensation provisions set forth at Section 3.01 of the Employment Agreement,
which describe the salary and benefits to which EXECUTIVE was entitled during
the term of that agreement are incorporated herein and govern EXECUTIVE'S salary
and benefits during any period between the Effective Date and the Termination
Date.
ARTICLE II.
COMPENSATION
SECTION 2.01 CERTIFICATION OF COMPENSATION AT TERMINATION.
---------------------------------------------
As of the Termination Date, if the Company owes EXECUTIVE compensation
of any kind that is attributable to EXECUTIVE'S services to the Company on or
before the Termination Date, EXECUTIVE shall execute a Certificate of
Compensation, substantially in the form of Exhibit "A" attached hereto and
incorporated in full herein by this reference (the "Certificate of
Compensation"). Pursuant to the Certificate of Compensation, EXECUTIVE shall
certify to the Company the amount of any cash or non-cash compensation or
employee benefits to which EXECUTIVE may be entitled for services rendered
through the Termination Date (including those additional benefits, which the
EXECUTIVE shall accrue during the Vacation Benefit Period defined below).
EXECUTIVE shall deliver the Certificate of
-2-
<PAGE> 3
Compensation to the Company contemporaneously with the Company's delivery to
EXECUTIVE of the Final Gross Compensation defined therein. After the Termination
Date, EXECUTIVE shall not be entitled to any compensation for his past
employment services to the Company which is not reflected in a Certificate of
Compensation that is verified and approved the Company. The above
notwithstanding, the Certificate of Compensation shall not include any
compensation for accrued paid time off, as such accrued paid time off shall be
accounted for in the Vacation Benefit Period described in Section 2.02.
SECTION 2.02 BENEFIT PERIOD.
---------------
Following the Termination Date, EXECUTIVE shall remain eligible to
participate in certain employee benefits for a period of time (the "Benefit
Period"). The Benefit Period shall be separated into two parts: the Vacation
Benefit Period and the Severance Benefit Period. The benefits available to the
EXECUTIVE shall vary depending upon whether they occur during the Vacation
Benefit Period or the Severance Benefit Period as set forth in Section 2.03.
2.02.01 Vacation Benefit Period Defined.
--------------------------------
The "Vacation Benefit Period" shall last for the number of days of
vacation that EXECUTIVE has accrued as of the Termination Date, plus any
additional days of paid time off which EXECUTIVE would accrue during the
Vacation Benefit Period. The Vacation Benefit Period shall begin on the day
after the Termination Date. By agreeing to the terms of the Vacation Benefit
Period set forth in this Agreement, EXECUTIVE is waiving his right to accept
full compensation for all accrued yet unused vacation pay, which would be due
and payable under California law on the Termination Date.
2.02.02 Severance Benefit Period Defined.
---------------------------------
The "Severance Benefit Period" shall last for a minimum of fifteen (15)
months. PacifiCare shall increase the Benefit Period by one month for each full
month (and by one day for each day of a partial month) that EXECUTIVE continues
his employment and service to the Company on and after January 1, 1998, such
continued at-will employment being at the sole discretion of the Company.
However, in no event shall the Severance Benefit Period exceed two years. The
Severance Benefit Period begins on the day after the last day of the Vacation
Benefit Period.
2.02.03 Examples.
---------
1. If the Company establishes a Termination Date of March 23, 1998,
the Vacation Benefit Period shall equal EXECUTIVE'S accrued
vacation as of March 23, 1998, and the Severance Benefit Period
shall be 17 months and 23 days, which is equal to 15 months plus
two additional months for EXECUTIVE'S service to the Company in
January and February, plus the 23 days in March.
-3-
<PAGE> 4
2. If the Company establishes a Termination Date of June 6, 1998,
the Vacation Benefit Period shall equal EXECUTIVE'S accrued
vacation as of June 6, 1998, and the Severance Benefit Period
shall be 20 months and six days, which is equal to 15 months plus
five additional months for EXECUTIVE'S service from January
through May, plus the six days in June.
These examples are for illustration purposes only and do not imply or
suggest either (i) that the Company will retain the services of EXECUTIVE for
any length of time following the Effective Date or (ii) that the Severance
Benefit Period will exceed 15 months.
SECTION 2.03 COMPENSATION AND BENEFITS DURING THE VACATION BENEFIT PERIOD.
-------------------------------------------------------------
2.03.01 Salary Continuation.
--------------------
During the Vacation Benefit Period, EXECUTIVE'S annual salary as of the
Termination Date shall continue payable every other week in equal installments
on the Company's regular payroll dates, less standard deductions and
withholdings required by law or directed by EXECUTIVE, including, without
limitation, state and federal income taxes social security contributions, and
all applicable deductions for the benefits described in Subsection 2.03.02
2.03.02 Benefits.
---------
During the Vacation Benefit Period, EXECUTIVE shall be entitled to all
of the benefits, which he was entitled to as a employee as of the Effective Date
including
1. Continued vesting in performance based incentive programs such as the
Annual Incentive Program and the Long Term Performance Incentive Program.
2. Continued accrual of paid time off, which shall be added to the
Vacation Benefit Period.
Notwithstanding the above, all benefits are subject to change to the
extent that a change is made for high level executives who remain employed with
the Company.
SECTION 2.04 COMPENSATION AND BENEFITS DURING THE SEVERANCE BENEFIT PERIOD
-------------------------------------------------------------
2.04.01 Salary Continuation.
--------------------
During the Severance Benefit Period, EXECUTIVE's current annual salary
as of the Effective Date shall continue payable every other week in equal
installments on the Company's regular payroll dates, less standard deductions
and withholdings required by law or
-4-
<PAGE> 5
directed by EXECUTIVE, including, without limitation, state and federal income
taxes, social security contributions, and standard amounts deducted for the
employee benefits set forth in this Section 2.04.
2.04.02 Health Benefits.
----------------
The Company's portion of the cost of EXECUTIVE'S current medical, dental
and life insurance benefits for EXECUTIVE and EXECUTIVE'S dependents shall be
paid by the Company though the end of the Severance Benefit Period. EXECUTIVE
shall be responsible for paying his portion of the cost of such coverage, which
shall be deducted from the payments set forth in Subsection 2.04.01. Thereafter,
EXECUTIVE may elect to continue his health care coverage at EXECUTIVE'S expense
as permitted under COBRA.
2.04.03 LTPIP and AIP Benefits.
-----------------------
EXECUTIVE shall be entitled to payment of benefits under the Long-Term
Performance Incentive Plan and the Annual Incentive Plan, which shall be deemed
to have accrued as of the end of the Vacation Benefit Period. However, EXECUTIVE
shall not be entitled to participate in the Company's Annual Incentive Plan or
Long-Term Performance Incentive Plan after the Vacation Benefit Period.
2.04.04 Vesting of Stock Options.
-------------------------
EXECUTIVE shall be entitled to vest any unvested stock options which
have been granted to the EXECUTIVE under the Company's various Stock Option
Plans for Executives and Key Employees, (the "Stock Option Plans"), through
December 31, 1998. For the sole purpose of permitting such continued vesting,
EXECUTIVE will be deemed an employee of the Company through December 31, 1998.
EXECUTIVE agrees that if the Company determines that it is inconsistent
with the Stock Option Plans to allow EXECUTIVE'S stock options to vest following
the Termination Date, the Company shall make provisions to provide a benefit to
the EXECUTIVE, which is identical in monetary terms to the options described in
the previous paragraph that would vest following the Termination Date.
EXECUTIVE shall not be considered a participant in the Stock Option
Plans for purposes of the issuance of any new grants of stock options following
the Effective Date.
2.04.05 Exercise of Vested and Unexercised Stock Options.
-------------------------------------------------
EXECUTIVE shall have the right to exercise any vested and unexercised
options under the Stock Option Plans in accordance with their terms on any day
prior to and including December 31, 1999. On December 31, 1999 at 5p.m.
Pacific Standard
-5-
<PAGE> 6
Time all rights to exercise any stock options issued under any of the Company's
Stock Option Plans shall terminate. These dates shall also apply to any
equivalent benefits which may be provided to EXECUTIVE in accordance with
Subsection 2.04.04 of this Agreement.
2.04.06 Benefits Not Available.
-----------------------
EXECUTIVE shall not be entitled to any benefits not expressly set forth
in this Agreement during the Severance Benefit Period. Without limiting the
foregoing, EXECUTIVE'S participation in (i) the accidental death and
dismemberment insurance policy, (ii) the disability insurance policy, and (iii)
the basic and supplemental life insurance policies shall terminate at the end of
the Vacation Benefit Period and shall not be available during the Severance
Benefit Period.
2.04.07 Effect of Earnings from Competitors.
------------------------------------
Notwithstanding the foregoing provisions of this Section 2.04, if
EXECUTIVE engages in employment with a competitor of the Company during the
Severance Benefit Period, the compensation payable to EXECUTIVE under this
Section 2.04.01 shall be reduced by the amount of any and all gross earnings
EXECUTIVE earns while engaged in employment with any such competitor or
competitors. For the purposes of this subsection 2.04.07, a "competitor of the
Company" shall include, without limitation, a health maintenance organization,
competitive medical plan, preferred provider organization, or health or life
insurance company which owns a managed care plan or program. EXECUTIVE agrees to
provide immediate written notification to Company upon receipt of any gross
earnings, which EXECUTIVE expects to receive, or has received, from any
competitor of the Company. For purposes of this subsection, "employment with a
competitor" shall any include services which EXECUTIVE provides as an
independent consultant to any competitor of the Company.
SECTION 2.05 ADDITIONAL CONSIDERATION DURING THE ENTIRE BENEFIT PERIOD.
----------------------------------------------------------
2.05.01 Automobile Allowance.
---------------------
EXECUTIVE shall receive an automobile allowance of $850.00 per month
during the Benefit Period; provided, however, that EXECUTIVE shall be
responsible for any expenses attributable to usage of his car.
2.05.02 Outplacement Services.
----------------------
The Company shall provide to EXECUTIVE the outplacement services
described in Section 3.01.06 of the Employment Agreement.
-6-
<PAGE> 7
2.05.03 Termination of Employee Benefits.
---------------------------------
Except as expressly set forth in this Agreement, EXECUTIVE shall not be
entitled to receive any cash, in-kind compensation, or benefits of any kind or
nature, for any periods after the Termination Date.
The foregoing prohibitions are not intended to limit, restrict, or deny
EXECUTIVE any benefits under employee mandatory or fringe benefit plans or
programs, in which EXECUTIVE participates on the Effective Date, that are earned
by EXECUTIVE on or before the Termination Date while being payable or
distributable to EXECUTIVE after the Termination Date.
ARTICLE III.
RETURN OF THE COMPANY'S PROPERTY
On or before the Termination Date, EXECUTIVE shall return all of the
Company's property, equipment, keys, credit cards, books, records, and any and
all other documents, property, or other items belonging to the Company.
ARTICLE IV.
CONFIDENTIALITY PROVISIONS
SECTION 4.01 TRADE SECRETS.
--------------
EXECUTIVE acknowledges that, during the course of his employment with
the Company or with any affiliate or subsidiary of the Company, EXECUTIVE has
had, and will continue to have through the Termination Date, access to certain
Trade Secrets in the form of know-how, trade secrets, or proprietary information
of the Company or its subsidiaries or affiliates ("Trade Secrets ") and that
such Trade Secrets were acquired, or will be acquired, in confidence and as a
fiduciary of the Company or its subsidiaries or affiliates. For the purposes of
this Agreement, Trade Secrets shall include, without limitation, any and all
cost and expense data, marketing and customer data, sales manuals, underwriting
guidelines, case management policies and procedures, utilization review and
quality assurance policies and procedures, provider manuals, individual and
group subscriber information (including, the name, address, telephone number, or
contact person for an individual or group subscriber), subscriber group manuals,
processes, designs, devices, compilations of information, operating manuals,
symbols, service marks, logos, customer and vendor lists (including, without
limitation, lists of subscribers, subscriber groups, clients, brokers, and
providers contracting with the Company or any subsidiary or affiliate of the
Company), business information, marketing programs, plans, and strategies,
contracts and licenses, advertising and promotional materials, financial
information and strategies, computer software and other computer-related
materials, copyrightable material, and other legally protected information owned
by or used in
-7-
<PAGE> 8
the respective businesses of the Company or its subsidiaries or affiliates which
are confidential or proprietary in nature.
For the purposes of this Agreement, Trade Secrets shall not include
information which: (i) EXECUTIVE can prove became known to him other than
through his relationship with the Company through either (a) completely
independent development of such information not within the course of his
employment with the Company, or (b) a source other than the Company or a
subsidiary, affiliate, shareholder, director, officer, employee, consultant,
agent, or advisor of the Company, but only if such source did not disclose such
information in violation of a duty of nondisclosure owed to the Company or a
subsidiary or affiliate of the Company; (ii) is a matter of public knowledge
through no fault of EXECUTIVE; (iii) is approved in advance for release or use
by the Company's Board of Directors; or (iv) is required to be disclosed by law.
SECTION 4.02 CONFIDENTIALITY COVENANT.
-------------------------
EXECUTIVE acknowledges and agrees that maintaining the confidentiality
of all of the Trade Secrets is integral to the value of the Company and is vital
to the successful operations of the Company and its subsidiaries and affiliates.
In view of the foregoing, EXECUTIVE agrees to, at all times after the Effective
Date, maintain the confidentiality of all Trade Secrets and to not disclose,
divulge, exploit, or use, in any manner whatsoever, the Trade Secrets for
EXECUTIVE'S own benefit or the benefit of another individual or entity.
SECTION 4.03 EQUITABLE RELIEF.
-----------------
EXECUTIVE acknowledges and agrees that it would be difficult to measure
the damage to the Company (or any subsidiary or affiliate, as the case may be)
from any breach of EXECUTIVE'S obligations under this Article IV, that injury to
the Company (or to any subsidiary or affiliate, as the case may be) from any
such breach would be impossible to calculate, and that money damages would
therefore be an inadequate remedy for any such breach. Therefore, EXECUTIVE
acknowledges and agrees that the Company, in addition to any of its other rights
or remedies, shall be entitled to seek injunctive or other equitable relief
without bond or other security in the event of an actual or threatened breach of
this Agreement. The obligations of EXECUTIVE and the rights and remedies of the
Company under this Agreement are cumulative and in addition to, and not in lieu
of, any obligations, rights, or remedies created by applicable patent,
copyright, or other laws, including the statutory and common laws governing
unfair competition, misappropriation or theft of trade secrets, proprietary
rights, or Trade Secrets generally.
SECTION 4.04 ATTORNEYS' FEES.
----------------
In the event of any dispute involving the subject matter of this Article
IV (including an arbitration if applicable), the substantially prevailing party
shall be entitled to his or its reasonable attorneys' fees and court or
arbitration costs incurred in resolving or settling the
-8-
<PAGE> 9
dispute, in addition to any and all other damages or relief which a court or
arbitrator may deem proper. With the exception of a resolution of a dispute
relating to this Article, the parties agree that the prevailing party does not
have a right to collect attorneys' fees, unless specifically provided for by
law.
ARTICLE V.
MUTUAL RELEASE OF ANY AND ALL CLAIMS
SECTION 5.01 RELEASE OF ALL CLAIMS BY EXECUTIVE AGAINST COMPANY.
---------------------------------------------------
Effective as of the Termination Date, EXECUTIVE irrevocably and
unconditionally, fully and forever releases and discharges the Company and the
Company's parents, shareholders, successors, assigns, directors, officers,
agents, and representatives and subsidiaries (collectively, the "Company Group")
from any and all claims, demands, actions, causes of action (whether at law or
in equity), suits, and administrative actions or proceedings, of every kind and
nature, whether known or unknown, past or present, suspected or unsuspected,
foreseeable or unforeseeable, whether or not heretofore asserted, that EXECUTIVE
may now have, have ever had, or in the future may have against the Company or
any other member of the Company Group for any losses, liabilities, damages (of
any kind or nature), obligations, debts, indebtedness, costs, expenses, or fees
(including, without limitation, attorneys' fees), which in any way have arisen
from or are related to: (I) the Employment Agreement or EXECUTIVE'S employment
with the Company; (II) the termination of the Employment Agreement or
EXECUTIVE'S separation from the Company; or (III) any discriminatory conduct or
consequences, whether arising under (A) Title VII of the Civil Rights Act of
1964, (race, color, religion, sex, and national origin discrimination), (B) 42
U.S.C. Section 1981 (discrimination), (C) 29 U.S.C. Section 621-634 (age
discrimination), (D) 29 U.S.C. Section 206(d)(1) (equal pay), (E) The Americans
with Disabilities Act (disability discrimination) or (E) The California Fair
Employment and Housing Act (discrimination including race, color, national
origin, ancestry, physical handicap, medical condition, marital status, sex, or
age); (IV) retaliation or constructive or wrongful discharge relating to any
allegation of the above claims; (V) any claim that the Company violated any law
or public policy, (e.g. "whistle blower" claims or "qui tam" claims); (VI) any
past compensation, including regular wages, bonuses, commissions, overtime and
liquidated damages, or benefits relating to EXECUTIVE'S employment with the
Company Group; (VII) any claim capable of being raised in any complaint filed
with the United States Department of Labor ("DOL"), the California Department of
Fair Employment and Housing or the California Division of Labor Standards
Enforcement against the Company Group; (VIII) any claim that the Company Group
has violated any written, oral, or implied release with EXECUTIVE; (IX) any
claim of breach of any express or implied covenant of good faith and fair
dealing; (X) any claims in tort including, but not limited to, intentional
infliction of mental or emotional distress, interference with business or
employment relationship, invasion of privacy, defamation of character, slander,
libel, negligent supervision, gross negligence, or negligence
-9-
<PAGE> 10
of any kind; (XI) any claim of personal injury or unreported work-related injury
arising from or relating to any act or omission by the Company Group; (XII) any
claim that the Company Group has violated EXECUTIVE'S rights, if any, under the
Constitutions of the United States or the state of California.
SECTION 5.02 INDEMNIFICATION AND RELEASE OF CLAIMS BY COMPANY.
-------------------------------------------------
5.02.01 Release of all Claims by Company against EXECUTIVE.
---------------------------------------------------
Effective as of the Termination Date, the Company Group hereby
irrevocably and unconditionally, fully and forever releases and discharges
EXECUTIVE, from any and all claims, demands, actions, causes of action (whether
at law or in equity), suits, and administrative actions or proceedings, of every
kind and nature, whether known or unknown, past or present, suspected or
unsuspected, foreseeable or unforeseeable, whether or not heretofore asserted,
that Company or any member of the Company Group may now have, have ever had, or
in the future may have, for any losses, liabilities, damages (of any kind or
nature), obligations, debts, indebtedness, costs, expenses, or fees (including,
without limitation, attorneys' fees) which in any way have arisen from or are
related to: (I) the Employment Agreement or EXECUTIVE'S employment with the
Company; (II) EXECUTIVE'S conduct as a officer, director and employee of the
Company or any of the subsidiaries of the Company; (III) EXECUTIVE'S conduct
outside of the scope of his employment, which occurred prior to the Termination
Date.
5.02.02 Indemnification of EXECUTIVE by Company.
----------------------------------------
Company will indemnify EXECUTIVE to the extent required by Labor Code
Section 2802, which provides: "An employer shall indemnify his employee for all
that the employee necessarily expends or loses in direct consequence of the
discharge of his duties as such, or of his obedience to the directions of the
employer, even though unlawful, unless the employee, at the time of obeying such
directions, believed them to be unlawful."
In addition to the above, the Company and EXECUTIVE are currently named
as defendants in various law suits alleging violation of the federal securities
laws. Company will indemnify EXECUTIVE for any actions in violations of the
securities laws to the extent that the Company provides such indemnification to
its current officers and directors under its Certificate of Incorporation or to
the extent that the Company and its current directors and officers are insured
for such liability.
If EXECUTIVE is required to sue Company to enforce the terms of this
Section 5.02, and EXECUTIVE prevails in the lawsuit, EXECUTIVE shall be entitled
to reasonable attorney's fees incurred in bringing such suit.
-10-
<PAGE> 11
SECTION 5.03 SPECIFIC WAIVER OF ANY UNKNOWN CLAIMS.
--------------------------------------
Effective as of the Termination Date, each party expressly waives and
relinquishes all rights and benefits afforded by Section 1542 of the Civil Code
of the State of California, and does so understanding and acknowledging the
significance of such specific waiver of Section 1542. Section 1542 of the Civil
Code of the State of California states as follows:
A general release does not extend to claims which the creditor
does not know or suspect to exist in his favor at the time of
executing the release, which if known by him must have materially
affected his settlement with the debtor.
Thus, notwithstanding the provisions of Section 1542, and for the purpose of
implementing a full and complete release and discharge of all claims by either
party, EXECUTIVE and all members of the Company Group expressly acknowledge that
this Agreement is intended to include in its effect, without limitation, all
claims which either party does not know or suspect to exist in its favor at the
time of execution hereof, and that this Agreement contemplates the
extinguishment of any such claim or claims. This waiver, however, does not
extend to any actions or claims, which may arise after execution of this
Agreement.
SECTION 5.04 NO CLAIMS OR ASSIGNMENT OF CLAIMS.
----------------------------------
EXECUTIVE represents and warrants to the Company and to all members of
the Company's Group that he has not suffered any workplace injury and that he
has not made or commenced, and will not make or commence, any claim with any
governmental or administrative agency, department, or other regulatory body,
whether federal, state, or local, that in any way relates to his employment with
or severance from the Company and from any of its subsidiaries or affiliates.
EXECUTIVE further represents and warrants to the Company and to all members of
the Company's Group that no portion of any claim, right, demand, action, or
cause of action that he has or may have arising out of or relating to his
employment with or severance from the Company (or any subsidiary or affiliate
thereof), nor any portion of any recovery or settlement to which he might be
entitled, has been assigned or transferred to any individual or entity in any
manner whatsoever, including by way of subrogation, operation of law, or
otherwise.
SECTION 5.05 EFFECT OF SETTLEMENT.
---------------------
The parties hereto expressly acknowledge and agree that this Agreement
pertains to disputed issues or claims and that any settlement discussions,
including proposing, negotiating, and entering into this Agreement, neither
indicate nor constitute an admission of any liability or wrongdoing of any
nature whatsoever by any party hereto. By considering, negotiating, and entering
into this Agreement, the parties hereto are simply buying their peace and
avoiding any potential legal costs or expenses. Therefore, this Agreement shall
not be used as evidence
-11-
<PAGE> 12
of any liability or wrongdoing for any purpose whatsoever except as may be
necessary to enforce the terms and conditions of this Agreement.
ARTICLE VI.
NOTICES
-------
Any and all notices, requests, consents, demands, and/or other
communications required or permitted to be given hereunder shall be in writing
and shall be deemed to have been duly given (i) when delivered, if sent by
United States registered or certified mail (return receipt requested), (ii) when
delivered, if delivered personally by commercial courier, or (iii) on the next
following business day, if sent by United States Express Mail or overnight
courier, in each case to the parties at the following addresses (or at such
other addresses as shall be specified by like notice) with postage or delivery
charges prepaid:
If to the Company:
PacifiCare Health Systems, Inc.
3120 Lake Center Drive
Santa Ana, California 92799
Attn: President
If to EXECUTIVE:
Mr. Wayne Lowell
6 Bayside
Irvine, California 92714
ARTICLE VII.
GENERAL PROVISIONS
------------------
SECTION 7.01 INTEGRATED AGREEMENT.
---------------------
This Agreement, together with the Certificate of Compensation, when
executed, constitutes the entire and complete understanding and fully integrated
agreement between the Company and EXECUTIVE with respect to the termination of
EXECUTIVE'S employment with the Company; and this Agreement and the Certificate
of Compensation supersede any and all prior or contemporaneous negotiations,
agreements, or communications, whether oral or written, between the Company and
EXECUTIVE with respect to such matter.
-12-
<PAGE> 13
SECTION 7.02 AMENDMENTS; WAIVER.
-------------------
This Agreement shall not be amended, modified, revised, or supplemented
orally unless evidenced by a dated written instrument executed by the Company
and EXECUTIVE. No waiver of any provision of this Agreement shall be effective
unless evidenced by a dated, written instrument executed by the Company. No
waiver of any provision hereof shall be construed as a further or continuing
waiver of such provision or of any other provision hereof.
SECTION 7.03 SEVERABILITY.
-------------
If any provision in this Agreement shall be found by a court of
competent jurisdiction to be invalid, illegal, or unenforceable, such provision
shall be construed and enforced as if it had been narrowly drawn so as not to be
invalid, illegal, or unenforceable, and the validity, legality, and
enforceability of the remaining provisions of this Agreement shall not in any
way be affected or impaired thereby.
SECTION 7.04 GOVERNING LAW.
--------------
This Agreement shall be governed by and construed in accordance with the
laws of the State of California, withoUt regard to principles of conflicts of
law.
SECTION 7.05 SUCCESSORS AND ASSIGNS.
-----------------------
This Agreement shall be binding upon the parties hereto and their
respective successors, transferees, heirs, devisees, assigns, and legal
representatives.
SECTION 7.06 CONSTRUCTION.
-------------
This Agreement has been drafted with the joint participation of each of
the parties hereto and shall be construed to be neither against nor in favor of
either party hereto, but rather in accordance with the fair meaning hereof.
SECTION 7.07 REPRESENTATION BY LEGAL COUNSEL.
--------------------------------
Each party has had an opportunity to consult with his or its legal
counsel with respect to this Agreement and has entered into this Agreement,
after consultation with such counsel, voluntarily, and without duress. Without
limiting the generality of the foregoing, EXECUTIVE acknowledges that he is
hereby advised in writing that EXECUTIVE should consult an attorney prior to
executing this Agreement. EXECUTIVE represents and agrees that he fully
understands his right to discuss all aspects of this Agreement with his private
attorney and that he has availed himself of this right, that he has carefully
read and fully understands all of the provisions of this Agreement, and that he
is voluntarily entering into this Agreement after having consulted with his
independent legal counsel.
-13-
<PAGE> 14
SECTION 7.08 TIME TO CONSIDER AGREEMENT.
---------------------------
EXECUTIVE acknowledges that Company is giving him a period of forty-five
(45) days within which to consider this Agreement, during which the offer of the
provisions of this Agreement will not be revoked by Company. EXECUTIVE may
accept and sign this Agreement before the expiration of the forty-five (45) day
time period, but he is not required to do so and failing to do so will not
prejudice him in any way as long as the Agreement is signed prior to the end of
the forty-five (45) day time period. For a period of seven (7) days following
the signing and submission of this Agreement to the Company, EXECUTIVE may
revoke this Agreement. Any such notice of revocation must be in writing to
Company's legal counsel. If EXECUTIVE has already received any payment
anticipated by this Agreement, the revocation will not be effective unless the
written notice is accompanied by a complete refund of all amounts paid. This
Agreement shall become effective on the eighth day after EXECUTIVE signs it, if
it has not been revoked during the revocation period.
SECTION 7.09 SECTION HEADINGS.
-----------------
The section headings contained in this Agreement are for reference
purposes only and shall not in any way affect the meaning or interpretation of
this Agreement.
SECTION 7.10 ARBITRATION.
------------
Except that any party to this Agreement may seek injunctive relief or a
prejudgment attachment in a court of competent jurisdiction, and except as
otherwise specifically provided for herein, any and all controversies, disputes,
or claims arising out of or relating to this Agreement, or any part hereof,
including, without limitation, the meaning, applicability, or scope of this
Section 7.10 and to the performance, breach, interpretation, meaning,
construction, or enforceability of this Agreement, or any portion hereof, and
all claims for rescission or fraud in the inducement of this Agreement, shall,
at the request of either party, be settled or resolved by binding arbitration.
The parties shall mutually agree upon an arbitrator and rules of arbitration. If
they are unable to agree on an arbitrator and arbitration rules within 45 days
of a written demand for arbitration, then the parties shall arbitrate pursuant
to the commercial rules and regulations of the American Arbitration Association
(the "AAA") for the resolution of commercial disputes, except as modified
hereinbelow. Any party requesting arbitration under this Agreement shall make a
demand on the other party by registered or certified mail with a copy to the
AAA. The parties consent and agree to have any such arbitration proceedings
heard in Los Angeles, California, or in the place closest thereto which the AAA
may select for convenience of the arbitrator(s). The arbitration shall take
place as noticed by the AAA regardless of whether one side to the dispute or
controversy fails or refuses to participate. The arbitrators shall apply
California substantive law and federal substantive law where state law is
preempted. Civil discovery for use in such arbitration may be conducted in
accordance with the California Code of Civil Procedure and the California
Evidence Code, and the arbitrator(s) selected shall have the power of discovery
-14-
<PAGE> 15
by the imposition of the same terms, conditions, and penalties as may be imposed
in like circumstances in a civil action by a superior court of the State of
California. Without limiting the generality of the foregoing, the provisions of
ss.983.05 of the California Code of Civil Procedure, as amended, permitting the
taking of depositions and the obtaining of discovery, are hereby incorporated in
full herein by this reference. The arbitrators shall have the power to grant all
legal and equitable remedies and award compensatory damages provided by
California law. The arbitrators shall prepare in writing and provide to the
parties an award including factual findings and the legal reasons on which the
decision is based. The arbitrators shall not have the power to commit errors of
law or legal reasoning and the award may be vacated or corrected pursuant to
California Code of Civil Procedure ss.986.2 or ss.986.6 for any such error.
Judgment upon any award may be entered in any court having jurisdiction thereof.
SECTION 7.11 COUNTERPARTS.
-------------
This Agreement may be executed in one or more counterparts, each of
which shall be deemed to be an original and all of which shall be considered one
and the same agreement.
IN WITNESS WHEREOF, the Company and EXECUTIVE have executed this Agreement as of
the day and year first written above.
THE COMPANY: PACIFICARE HEALTH SYSTEMS, INC.,
a Delaware corporation
By: [SIG]
------------------------------
Title: Secretary
------------------------------
EXECUTIVE: [SIG]
-------------------------------------
Wayne Lowell
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM PACIFICARE
HEALTH SYSTEMS, INC.'S UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEET AS OF
MARCH 31, 1998, AND RELATED UNAUDITED CONSOLIDATED STATEMENT OF INCOME FOR THE
THREE MONTHS ENDED MARCH 31, 1998, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> MAR-31-1998
<CASH> 235,693
<SECURITIES> 926,652
<RECEIVABLES> 352,579
<ALLOWANCES> 26,236
<INVENTORY> 0
<CURRENT-ASSETS> 1,632,302
<PP&E> 370,999
<DEPRECIATION> 141,854
<TOTAL-ASSETS> 4,494,881
<CURRENT-LIABILITIES> 1,212,307
<BONDS> 0
0
105
<COMMON> 421
<OTHER-SE> 2,083,169
<TOTAL-LIABILITY-AND-EQUITY> 4,494,881
<SALES> 0
<TOTAL-REVENUES> 2,381,950
<CGS> 0
<TOTAL-COSTS> 2,008,501
<OTHER-EXPENSES> 300,813
<LOSS-PROVISION> 136
<INTEREST-EXPENSE> 17,518
<INCOME-PRETAX> 80,286
<INCOME-TAX> 38,940
<INCOME-CONTINUING> 41,346
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 41,346
<EPS-PRIMARY> 0.93
<EPS-DILUTED> 0.90
</TABLE>
