UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION
13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission file number 1-5975
HUMANA INC.
(Exact name of registrant as specified in its charter)
Delaware 61-0647538
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
500 West Main Street
Louisville, Kentucky 40202
(Address of principal executive offices) (Zip Code)
(502) 580-1000
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act
of 1934 during the preceding 12 months, and (2) has been subject to such
filing requirements for the past 90 days.
YES X NO
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date.
Outstanding at
Class of Common Stock July 31, 1998
$.16 2/3 par value 166,946,570 shares
1 of 22
Humana Inc.
Form 10-Q
June 30, 1998
Page of
Form 10-Q
Part I: Financial Information
Item 1. Financial Statements
Condensed Consolidated Statements of Income for
the quarters and six months ended June 30, 1998 and 1997 3
Condensed Consolidated Balance Sheets at June 30, 1998
and December 31, 1997 4
Condensed Consolidated Statements of Cash Flows for the
six months ended June 30, 1998 and 1997 5
Notes to Condensed Consolidated Financial Statements 6-9
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 10-18
Part II: Other Information
Items 1 to 6 19-22
Exhibits
Ratio of Earnings to Fixed Charges
Financial Data Schedules
2
Humana Inc.
Condensed Consolidated Statements of Income
For the quarters and six months ended June 30, 1998 and 1997
Unaudited
(Dollars in millions, except per share results)
<TABLE>
<S> <C> <C> <C> <C>
Quarter Six Months
1998 1997 1998 1997
Revenues:
Premiums $ 2,397 $ 1,805 $ 4,749 $ 3,608
Investment and other income 49 31 99 60
Total revenues 2,446 1,836 4,848 3,668
Operating expenses:
Medical expenses 1,995 1,487 3,950 2,971
Selling, general and
administrative 326 258 650 519
Depreciation and amortization 33 25 65 49
Total operating expenses 2,354 1,770 4,665 3,539
Income from operations 92 66 183 129
Interest expense 10 1 22 4
Income before income taxes 82 65 161 125
Provision for income taxes 30 23 59 44
Net income $ 52 $ 42 $ 102 $ 81
Earnings per common share $ .31 $ .26 $ .61 $ .50
Earnings per common share -
assuming dilution $ .31 $ .25 $ .61 $ .49
See accompanying notes.
3
</TABLE>
Humana Inc.
Condensed Consolidated Balance Sheets
Unaudited
(Dollars in millions, except per share amounts)
<TABLE>
<S> <C> <C>
June 30, December 31,
1998 1997
Assets
Current assets:
Cash and cash equivalents $ 310 $ 627
Marketable securities 1,493 1,507
Premiums receivable, less allowance
for doubtful accounts $52 - June 30, 1998
and $48 - December 31, 1997 423 351
Other 264 265
Total current assets 2,490 2,750
Long-term marketable securities 379 512
Property and equipment, net 445 420
Cost in excess of net assets acquired 1,209 1,224
Other 519 512
Total assets $ 5,042 $ 5,418
Liabilities and Stockholders' Equity
Current liabilities:
Medical and other expenses payable $ 1,374 $ 1,478
Trade accounts payable and accrued expenses 449 471
Unearned premium revenues 61 304
Income taxes payable 5 10
Total current liabilities 1,889 2,263
Long-term medical and other expenses payable 493 597
Long-term debt 922 889
Professional liability and other obligations 90 168
Total liabilities 3,394 3,917
Commitments and contingencies
Stockholders' equity:
Preferred stock, $1 par; authorized 10,000,000
shares; none issued
Common stock, $.16 2/3 par; authorized
300,000,000 shares; issued and outstanding
166,883,580 shares - June 30, 1998 and
164,058,225 shares - December 31, 1997 28 27
Other 1,620 1,474
Total stockholders' equity 1,648 1,501
Total liabilities and stockholders'equity $ 5,042 $ 5,418
See accompanying notes.
4
Humana Inc.
Condensed Consolidated Statements of Cash Flows
For the six months ended June 30, 1998 and 1997
Unaudited
(Dollars in millions)
1998 1997
Net cash flows from operating activities $ (424) $ 15
Cash flows from investing activities:
Purchases of marketable securities (550) (250)
Maturities and sales of marketable securities 686 233
Other (93) (48)
Net cash provided by (used in) investing activities 43 (65)
Cash flows from financing activities:
Repayment of line of credit (300)
Net commercial paper borrowings (repayments) 333 (223)
Other 31 6
Net cash provided by (used in) financing activities 64 (217)
Decrease in cash and cash equivalents (317) (267)
Cash and cash equivalents at beginning of period 627 322
Cash and cash equivalents at end of period $ 310 $ 55
Interest payments $ 23 $ 2
Income tax payments (refunds), net $ 46 $ (4)
</TABLE>
See accompanying notes.
5
Humana Inc.
Notes To Condensed Consolidated Financial Statements
Unaudited
(A) Basis of Presentation
The accompanying condensed consolidated financial statements are presented in
accordance with the requirements of Form 10-Q and consequently do not include
all of the disclosures normally required by generally accepted accounting
principles or those normally made in an annual report on Form 10-K.
Accordingly, for further information, the reader of this Form 10-Q may wish to
refer to the Form 10-K of Humana Inc. (the "Company") for the year ended
December 31, 1997.
The preparation of the Company's condensed consolidated financial statements
in conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect (a) the reported
amounts of assets and liabilities, (b) disclosure of contingent assets and
liabilities at the date of the financial statements and (c) reported amounts
of revenues and expenditures during the reporting period. Actual results
could differ from those estimates.
The financial information has been prepared in accordance with the Company's
customary accounting practices and has not been audited. In the opinion of
management, the information presented reflects all adjustments necessary for
a fair statement of interim results. All such adjustments are of a normal and
recurring nature.
(B) Contingencies
The Company's Medicare risk contracts with the federal government are renewed
for a one-year term each December 31 unless terminated 90 days prior thereto.
In 1997, Congress passed legislation which revised the structure of and
reimbursement for private health plan options for Medicare enrollees.
Management is unable to predict the impact the modification of federal
reimbursement will have on the Company's financial position, results of
operations or cash flows. The Company also maintains annual contracts with
various states and a two-year contract with the Commonwealth of Puerto Rico,
scheduled to expire March 31, 1999, to provide health care to
Medicaid-eligible individuals. Additionally, the Company's contract with the
United States Department of Defense to administer the TRICARE program is a
one-year contract renewable annually for up to two additional years. The loss
of these contracts or significant changes in these programs as a result of
administrative or legislative action, including reductions in payments or
increases in benefits without corresponding increases in payments, would have
a material adverse effect on the revenues, profitability and business
prospects of the Company.
Resolution of various loss contingencies, including litigation pending against
the Company in the ordinary course of business, is not expected to have a
material adverse effect on the Company's financial position, results of
operations or cash flows.
6
Humana Inc.
Notes To Condensed Consolidated Financial Statements, continued
Unaudited
(C) Earnings Per Common Share
The Financial Accounting Standards Board ("FASB") issued Statement of
Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS No. 128")
which specifies the computation, presentation and disclosure requirements for
earnings per share effective for periods ending after December 15, 1997. In
accordance with SFAS No. 128, earnings per share data for the quarter and six
months ended June 30, 1997 have been restated.
Detail supporting the computation of earnings per common share and earnings
per common share-assuming dilution follows:
Dollars in millions, except per share results
<TABLE>
<S> <C> <C> <C>
Per Share
Quarter Ended June 30, 1998 Net Income Shares Results
Earnings per common share $ 52 166,600,047 $ .31
Effect of dilutive stock options 2,517,847
Earnings per common share
- assuming dilution $ 52 169,117,894 $ .31
Quarter Ended June 30, 1997
Earnings per common share $ 42 163,158,148 $ .26
Effect of dilutive stock options 2,610,674
Earnings per common share
- assuming dilution $ 42 165,768,822 $ .25
Six Months Ended June 30, 1998
Earnings per common share $ 102 165,728,787 $ .61
Effect of dilutive stock options 2,424,889
Earnings per common share
- assuming dilution $ 102 168,153,676 $ .61
Six Months Ended June 30, 1997
Earnings per common share $ 81 162,979,561 $ .50
Effect of dilutive stock options 2,413,251
Earnings per common share
- assuming dilution $ 81 165,392,812 $ .49
For the quarter ended June 30, 1998, all outstanding options to purchase
common shares were included in the computation of earnings per common
share-assuming dilution because the average market price of the common shares
exceeded the options' exercise prices. For the quarter ended June 30, 1997,
options to purchase 2,931,697 shares (1,007,580 and 3,029,114 for the six
months ended June 30, 1998 and 1997, respectively) were not included in the
computation because the options' exercise prices were greater than the average
market price of the common shares during the respective periods.
7
</TABLE>
Humana Inc.
Notes To Condensed Consolidated Financial Statements, continued
Unaudited
(D) Long-Term Debt
The Company repaid the outstanding balance under its five-year revolving
credit agreement ("Credit Agreement") during the quarter ended March 31, 1998,
using funds obtained through its commercial paper program. As a result,
borrowings under the commercial paper program, which is backed by the Credit
Agreement, totaled approximately $922 million at June 30, 1998, with an
average interest rate during both the quarter and six months then ended of 5.8
percent.
Borrowings under both the Credit Agreement and commercial paper program have
been classified as long-term debt based on management's ability and intent to
refinance borrowings on a long-term basis.
(E) Acquisitions and Dispositions
On February 28, 1997, the Company acquired Health Direct, Inc.
("Health Direct") from Advocate Health Care for $23 million in cash. This
transaction, which was recorded using the purchase method of accounting, added
approximately 50,000 medical members to the Company's Chicago, Illinois,
membership.
On September 8, 1997, the Company acquired Physician Corporation of America
("PCA") for total consideration of $411 million in cash, consisting primarily
of $7 per share for PCA's outstanding common stock and the assumption of $121
million in debt. The purchase was funded with borrowings under the Company's
commercial paper program. PCA served approximately 1.1 million medical
members and provided comprehensive health services through its HMOs in
Florida, Texas and Puerto Rico. In addition, PCA provided workers'
compensation third-party administrative management services. Prior to
November 1996, PCA also was a direct writer of workers' compensation insurance
in Florida. Long-term medical and other expenses payable in the accompanying
consolidated balance sheets includes the long-term portion of workers'
compensation liabilities related to this business. This transaction was
recorded using the purchase method of accounting.
On October 17, 1997, the Company acquired ChoiceCare Corporation
("ChoiceCare") for approximately $250 million in cash. The purchase was
funded with borrowings under the Company's commercial paper program.
ChoiceCare provided health services products to approximately 250,000 medical
members in the Greater Cincinnati, Ohio, area. This transaction was recorded
using the purchase method of accounting.
On January 31, 1997, the Company completed the sale of its Washington, D.C.,
health plan to Kaiser Foundation Health Plan of the Mid-Atlantic States, Inc.
Effective April 1, 1997, the Company also completed the sale of its Alabama
operations, exclusive of its small group business and Alabama TRICARE
operations, to PrimeHealth of Alabama, Inc. On October 31, 1997, the
8
Humana Inc.
Notes To Condensed Consolidated Financial Statements, continued
Unaudited
Company also sold The Lexington Hospital in Lexington, Kentucky, to Jewish
Hospital Healthcare Services, Inc. These sale transactions did not have a
material impact on the Company's financial position, results of operations or
cash flows.
(F) Adoption of New Generally Accepted Accounting Principles
Effective January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income"
("SFAS No. 130"), issued by the FASB in June 1997. Comprehensive income is
defined therein as all changes in equity during the period except those
resulting from shareholder equity contributions and distributions.
Comprehensive income, comprised of net income and unrealized investment gains
and losses, totaled $46 million and $52 million for the quarters ended
June 30, 1998 and 1997, respectively ($97 million and $82 million for the six
months ended June 30, 1998 and 1997, respectively).
In addition, effective January 1, 1998, the Company adopted Statement of
Position 98-1, "Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use" ("SOP 98-1"), issued by the AICPA's Accounting
Standards Executive Committee in March 1998. SOP 98-1 specifies the costs to
be capitalized in connection with obtaining or developing computer software to
be used solely to meet the Company's internal needs. The adoption of SOP
98-1 did not have a material impact on the Company's financial position or
results of operations.
(G) Subsequent Events
On August 10, 1998, the Company and United HealthCare Corporation ("United")
announced their mutual agreement to terminate the previously announced
Agreement and Plan of Merger among the two companies and a subsidiary of
United (the "Merger Agreement"). The Merger Agreement, dated as of May 27,
1998, provided that United would exchange one share of United Common Stock for
every two shares of the Company's outstanding Common Stock in a tax-free
transaction to have been accounted for as a pooling of interests. In
conjunction with the Merger Agreement, the parties, as of May 27, 1998, also
entered into a Stock Option Agreement whereby United, under certain
circumstances, would have the right to purchase up to 19.9 percent of the
Company's outstanding Common Stock. The Stock Option Agreement was mutually
terminated along with the Merger Agreement.
In light of the termination of the planned merger with United, the Company
intends to conduct a strategic evaluation of its current markets and product
offerings. Such evaluation will include assessing the anticipated impact of
the competitive and cost environments in which the Company operates. As a
result of this strategic evaluation, the Company believes there is a
possibility of its recording a related charge for the 1998 third quarter.
Management believes that if, after its evaluation, such a charge is taken,
it will not have a material adverse effect on the Company's financial
position, future results of ongoing operations or cash flows.
9
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
This discussion and analysis contains both historical and forward-looking
information. The forward-looking statements may be significantly impacted by
risks and uncertainties, and are made pursuant to the safe harbor provisions
of the Private Securities Litigation Reform Act of 1995. There can be no
assurance that anticipated future results will be achieved because actual
results may differ materially from those projected in the forward-looking
statements. Readers are cautioned that a number of factors, which are
described herein and in the Company's Annual Report on Form 10-K for the year
ended December 31, 1997, could adversely affect the Company's ability to
obtain these results. These include the effects of either federal or state
health care reform or other legislation, renewal of the Company's Medicare
risk contracts with the federal government, renewal of the Company's contract
with the federal government to administer the TRICARE program, renewal of the
Company's Medicaid contracts with various state governments and the
Commonwealth of Puerto Rico. Such factors also include the effects of other
general business conditions, including but not limited to, the Company's
ability to integrate its acquisitions, the Company's ability to appropriately
address the "Year 2000" computer system issue, government regulation,
competition, premium rate and yield changes, retrospective premium
adjustments relating to federal government contracts, medical cost trends,
changes in Commercial and Medicare risk membership, capital requirements,
the ability of health care providers (including physician practice management
companies), to assume financial risk, general economic conditions and the
retention of key employees. In addition, past financial performance is not
necessarily a reliable indicator of future performance.
Introduction
The Company offers managed health care products that integrate medical
management with the delivery of health care services through a network of
providers. This network of providers may share financial risk or have
incentives to deliver quality medical services in a cost-effective manner.
These products are marketed primarily through health maintenance organizations
("HMOs") and preferred provider organizations ("PPOs") that encourage or
require the use of contracting providers. HMOs and PPOs control health care
costs by various means, including pre-admission approval for hospital
inpatient services and pre-authorization of outpatient surgical procedures.
The Company also offers various specialty and administrative service products
including dental, group life and workers' compensation.
The Company's HMO and PPO products are marketed primarily to employers and
other groups ("Commercial") as well as Medicare- and Medicaid-eligible
individuals. The products marketed to Medicare-eligible individuals are
either HMO products ("Medicare risk") or indemnity insurance policies that
supplement Medicare benefits ("Medicare supplement"). The Medicare risk
product provides managed care services that include all Medicare benefits and,
in certain circumstances, additional managed care services. The Company also
maintains annual contracts with various states and a two-year contract with
the Commonwealth of Puerto Rico, scheduled to expire March 31, 1999, to
provide health care to Medicaid-eligible individuals. The Company
10
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations, continued
also offers administrative services ("ASO") to employers who self-insure their
employee health plans. In total, the Company's products are licensed in 47
states, the District of Columbia and Puerto Rico, with approximately 22
percent of its membership in the state of Florida.
The Company is in the third year of its managed care support contract with the
United States Department of Defense to administer the TRICARE program. Under
the TRICARE contract, which is renewable annually for up to two additional
years, the Company provides managed care services to the beneficiaries of
active military personnel and retired military personnel and their
beneficiaries located in the southeastern United States.
Comparison of Results of Operations
Quarters Ended June 30, 1998 and 1997
Income before income taxes totaled $82 million for the quarter ended
June 30, 1998 (the "1998 quarter"), compared to $65 million for the quarter
ended June 30, 1997 (the "1997 quarter"). Net income was $52 million, or
$.31 per diluted share, in the 1998 quarter, compared to $42 million, or $.25
per diluted share, in the 1997 quarter. This earnings increase primarily
resulted from increased Commercial membership and premium yields, strong
performance in the Company's small-group business, Medicare risk membership
growth, continuing reductions in the Company's administrative cost ratio and
the 1997 acquisitions of Physician Corporation of America ("PCA") and
ChoiceCare Corporation ("ChoiceCare"). These favorable items were partially
offset by the effects of increased pharmacy costs system wide.
The Company's premium revenues increased 33 percent to $2.4 billion for the
1998 quarter, compared to $1.8 billion for the same period in 1997. The
premium revenue increase was primarily attributable to $418 million of
combined premium revenue from PCA and ChoiceCare, same-plan Commercial and
Medicare risk membership growth and increased Commercial premium yields.
Same-plan Commercial premium yields increased a net 4.6 percent for the 1998
quarter and are expected to increase approximately 5 percent throughout the
remainder of 1998. While the Company's Medicare risk statutory premium rate
increased by slightly less than 2 percent, the changing geographical mix of
the Company's Medicare risk membership resulted in a 1 percent decline in the
Medicare risk premium yield during the 1998 quarter.
The Company's same-plan fully insured Commercial membership increased 25,500
members during the 1998 quarter, compared to a decline of 3,400 for the same
period in 1997, and its Commercial same-plan ASO membership increased 11,000.
The Company's same-plan Medicare risk membership increased 8,600 during the
1998 quarter, compared to a same-plan increase of 15,400 members for the same
period in 1997. While this growth in Medicare risk membership reflects
enrollment gains in both the Company's newer and base Medicare risk markets,
it also reflects the Company's slowing of its sales efforts in certain high
cost Medicare markets.
11
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations, continued
In addition to these same-plan membership results, PCA and ChoiceCare
membership totaled 631,600 Commercial members, 594,200 Medicaid members,
55,300 Medicare risk members and 51,600 ASO members. At June 30, 1998, the
Company's medical membership totaled over 6.2 million. Management expects
same-plan Commercial membership to increase at a low to mid single digit rate
during 1998, while Medicare risk membership is expected to increase
approximately 10 percent.
The Company's medical expense ratio for the 1998 quarter was 83.3 percent,
increasing from 82.3 percent for the same period in 1997 as a result of the
PCA and ChoiceCare acquisitions. Excluding the effect of these acquisitions,
the Company's medical expense ratio increased slightly to 82.4 percent. This
increase resulted from pharmacy rate and utilization increases system wide
and slightly higher Medicare risk days per thousand. These medical cost
increases were partially offset by a continued modest improvement in
Commercial days per thousand trends.
During the 1998 quarter, the Company's administrative cost ratio improved to
15.0 percent from 15.7 percent in the 1997 quarter. This year-over-year
improvement in the administrative cost ratio reflects the impacts of the PCA
and ChoiceCare acquisitions and the Company's efforts to rationalize staffing
levels and streamline the organizational structure. Continued improvement is
expected in the administrative cost ratio throughout 1998.
Investment income totaled $39 million and $27 million for the 1998 and 1997
quarters, respectively. The increase is primarily attributable to a larger
investment portfolio resulting from the addition of PCA and ChoiceCare. The
tax equivalent yield on invested assets approximated 9 percent and 8 percent
for the 1998 and 1997 quarters, respectively.
Six Months Ended June 30, 1998 and 1997
Income before income taxes totaled $161 million for the six months ended
June 30, 1998 (the "1998 period"), compared to $125 million for the same
period in 1997 (the "1997 period"). Net income was $102 million, or $.61 per
diluted share, in the 1998 period, compared to $81 million, or $.49 per
diluted share, in the 1997 period. This earnings increase was primarily a
result of the increased Commercial membership and premium yields, Medicare
risk membership growth, administrative cost ratio reductions and the PCA and
ChoiceCare acquisitions. These favorable items were partially offset by the
effects of increased Medicare risk hospital utilization and increased pharmacy
costs system wide.
12
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations, continued
The Company's premium revenues increased 32 percent to $4.7 billion for the
1998 period, compared to $3.6 billion for the 1997 period. The premium
revenue increase was primarily attributable to $841 million of combined
premium revenue from PCA and ChoiceCare, same-plan Commercial and Medicare
risk membership growth and increased Commercial premium yields. Same-plan
Commercial premium yields increased a net 4.6 percent for the 1998 period,
while the Medicare risk premium yield declined 1 percent due to the
aforementioned Medicare risk statutory premium rate increase of slightly less
than 2 percent and the changing geographical mix of the Company's Medicare
risk membership.
The Company's same-plan fully insured Commercial membership increased 10,000
members during the 1998 period, compared to a decline of 106,200 for the same
period in 1997 and its Commercial same-plan ASO membership increased 51,700.
The Company's same-plan Medicare risk membership increased 21,300 during the
1998 period, compared to a same-plan increase of 30,500 members for the same
period in 1997. While this growth in Medicare risk membership reflects
enrollment gains in both the Company's newer and base Medicare risk markets,
it also reflects the Company's slowing of its sales efforts in certain high
cost Medicare markets.
Same-plan membership results exclude the addition of the PCA and ChoiceCare
membership, as set forth in the discussion of quarterly results, and the sale
of the Company's Washington, D.C. health plan and Alabama operations.
Reflecting the effects of the PCA and ChoiceCare acquisitions, the Company's
medical expense ratio increased to 83.2 percent in the 1998 period, from 82.3
percent in the 1997 period. Excluding these acquisitions, the medical expense
ratio for the 1998 period increased slightly to 82.4 percent, due largely to
pharmacy cost trends and utilization system wide and higher Medicare risk days
per thousand. These medical cost increases were partially offset by a modest
improvement in Commercial days per thousand trends.
The Company's administrative cost ratio was 15.1 percent and 15.8 percent for
the 1998 and 1997 periods, respectively. This improvement results primarily
from the impacts of the PCA and ChoiceCare acquisitions and the Company's
efforts to rationalize staffing levels and streamline the organizational
structure.
Investment income totaled $80 million in the 1998 period, compared to $53
million in the 1997 period. This increase is primarily attributable to a
larger investment portfolio resulting from the addition of PCA and ChoiceCare.
The tax equivalent yield on invested assets approximated 9 percent and 8
percent for the 1998 and 1997 periods, respectively.
13
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations, continued
Liquidity
During the 1998 period, $424 million was used in the Company's operating
activities, compared to $15 million being provided by operations in the 1997
period. This net cash used in operations during the 1998 period can be
attributed in large part to the timing of receipts of cash for Medicare and
TRICARE premiums ($320 million), various timing items related to the
recognition and payment of medical claims ($80 million), payment of claims
related to the PCA workers' compensation "run-off business" ($75 million), and
the payment of various general and administrative accruals, including
acquisition and other severance, pension and compensation-related obligations
($70 million).
The Company's subsidiaries operate in states that require minimum levels of
equity and regulate the payment of dividends to the parent company. As a
result, the Company's ability to use operating subsidiaries' cash flows is
restricted to the extent of the subsidiaries' abilities to obtain regulatory
approval to pay dividends.
The Company maintains a five-year revolving credit agreement ("Credit
Agreement") which provides a line of credit of up to $1.5 billion. Principal
amounts outstanding under the Credit Agreement bear interest at rates ranging
from LIBOR plus 12 basis points to LIBOR plus 30 basis points, depending on
the ratio of debt to debt plus net worth. The Credit Agreement, under which
there were no outstanding borrowings at June 30, 1998, contains customary
covenants and events of default.
The Company also maintains a commercial paper program and issues debt
securities thereunder. At June 30, 1998, borrowings under the commercial
paper program totaled approximately $922 million, with an average interest
rate during both the quarter and six months then ended of 5.8 percent. The
commercial paper program is backed by the Credit Agreement. Borrowings under
both the Credit Agreement and commercial paper program have been classified as
long-term debt based on management's ability and intent to refinance
borrowings on a long-term basis.
Management believes that existing working capital, future operating cash flows
and funds available under the Credit Agreement and commercial paper program
are sufficient to meet future liquidity needs. Management also believes the
aforementioned sources of funds are adequate to allow the Company to pursue
strategic acquisition and expansion opportunities, as well as fund capital
requirements.
14
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations, continued
Capital Resources
The Company's ongoing capital expenditures relate primarily to administrative
facilities and related information systems necessary for activities such as
claims processing, billing and collections, medical utilization review and
customer service. Excluding acquisitions, planned capital spending in 1998
will approximate $80 to 90 million for the expansion and improvement of such
items.
Impact of the Year 2000 Issue
The Company has conducted an assessment of its computer systems to identify
the systems that could be affected by the "Year 2000" issue, which results
from computer programs having been written to define the applicable year using
two digits rather than four digits. The Company believes that, with
modifications to existing software, the Year 2000 issue will not pose
significant operational problems for its computer systems as so modified. The
Company plans to complete the majority of the Year 2000 modifications by
December 31, 1998. At present, the Company anticipates that the incremental
costs incurred in connection with the Year 2000 project, which are being
expensed as incurred, will approximate $15 million during 1998 and $3 million
in 1999.
The costs of the project and the date on which the Company plans to complete
the necessary Year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future events
including the continued availability of certain resources and other factors.
However, there can be no guarantee that these estimates will be achieved and
actual results could differ materially from those plans. Specific factors
that might cause such material differences include, but are not limited to,
the availability and cost of personnel trained in this area, the ability to
locate and correct all relevant computer codes, the ability of the Company's
significant suppliers, customers and others with which it conducts business,
including federal and state governmental agencies, to identify and resolve
their own Year 2000 issues and similar uncertainties.
Strategic Evaluation
On August 10, 1998, the Company and United HealthCare Corporation ("United")
announced their mutual agreement to terminate the previously announced
Agreement and Plan of Merger among the two companies and a subsidiary of
United (the "Merger Agreement"). The Merger Agreement, dated as of May 27,
1998, provided that United would exchange one share of United Common Stock for
every two shares of the Company's outstanding Common Stock in a tax-free
transaction to have been accounted for as a pooling of interests. In
conjunction with the Merger Agreement, the parties, as of May 27, 1998, also
entered into a Stock Option Agreement whereby United, under certain
circumstances, would have the right to purchase up to 19.9 percent of the
Company's outstanding Common Stock. The Stock Option Agreement was mutually
terminated along with the Merger Agreement.
In light of the termination of the planned merger with United, the Company
intends to conduct a strategic evaluation of its current markets and product
offerings. Such evaluation will include assessing the anticipated impact of
the competitive and cost environments in which the Company operates. As a
result of this strategic evaluation, the Company believes there is a
possibility of its recording a related charge for the 1998 third quarter.
Management believes that if, after its evaluation, such a charge is taken,
it will not have a material adverse effect on the Company's financial
position, future results of ongoing operations or cash flows.
15
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations, continued
<TABLE>
<S> <C> <C>
Quarterly Membership
1998 1997
Commercial members at:
March 31 3,249,600 2,577,800
June 30 3,260,700 2,577,600
September 30 3,056,400
December 31 3,258,600
Medicare risk members at:
March 31 495,800 374,200
June 30 501,000 389,600
September 30 462,400
December 31 480,800
TRICARE eligible members at:
March 31 1,103,500 1,103,100
June 30 1,096,300 1,107,300
September 30 1,107,300
December 31 1,112,200
Medicaid members at:
March 31 632,200 53,200
June 30 630,200 51,000
September 30 638,400
December 31 635,200
Medicare supplement members at:
March 31 64,600 93,500
June 30 61,800 74,600
September 30 71,200
December 31 68,800
Administrative services members at:
March 31 682,200 566,300
June 30 693,400 555,000
September 30 584,500
December 31 651,200
Total medical members at:
March 31 6,227,900 4,768,100
June 30 6,243,400 4,755,100
September 30 5,920,200
December 31 6,206,800
Specialty members at:
March 31 2,647,800 2,172,900
June 30 2,477,800 2,127,200
September 30 2,358,200
December 31 2,440,600
</TABLE>
16
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations, continued
Supplemental Consolidated Statement of Quarterly Income (Unaudited)
(Dollars in millions, except per share results)
<TABLE>
<S> <C> <C> <C>
1998
First Second Total
Revenues:
Premiums:
Commercial $ 1,290 $ 1,305 $ 2,595
Medicare risk 722 730 1,452
TRICARE 185 210 395
Medicaid 137 135 272
Medicare supplement 18 17 35
Total premiums 2,352 2,397 4,749
Investment and other income 50 49 99
Total revenues 2,402 2,446 4,848
Operating expenses:
Medical expenses 1,955 1,995 3,950
Selling, general and administrative 324 326 650
Depreciation and amortization 32 33 65
Total operating expenses 2,311 2,354 4,665
Income from operations 91 92 183
Interest expense 12 10 22
Income before income taxes 79 82 161
Provision for income taxes 29 30 59
Net income $ 50 $ 52 $ 102
Earnings per common share $ .30 $ .31 $ .61
Earnings per common share
- assuming dilution $ .30 $ .31 $ .61
Medical expense ratio 83.1 % 83.3 % 83.2 %
Administrative cost ratio 15.2 % 15.0 % 15.1 %
17
</TABLE>
Humana Inc.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations, continued
Supplemental Consolidated Statement of Quarterly Income
(Unaudited)
(Dollars in millions, except per share results)
<TABLE>
<S> <C> <C> <C> <C> <C>
1997
First Second Third Fourth Total
Revenues:
Premiums
Commercial $ 1,028 $ 1,013 $ 1,074 $ 1,272 $ 4,387
Medicare risk 550 571 610 695 2,426
TRICARE 183 184 185 212 764
Medicaid 19 18 47 140 224
Medicare supplement 23 19 19 18 79
Total premiums 1,803 1,805 1,935 2,337 7,880
Investment and other income 29 31 33 63 156
Total revenues 1,832 1,836 1,968 2,400 8,036
Operating expenses:
Medical expenses 1,484 1,487 1,596 1,955 6,522
Selling, general and
administrative 261 258 274 323 1,116
Depreciation and amortization 24 25 26 33 108
Total operating expenses 1,769 1,770 1,896 2,311 7,746
Income from operations 63 66 72 89 290
Interest expense 3 1 3 13 20
Income before income taxes 60 65 69 76 270
Provision for income taxes 21 23 25 28 97
Net income $ 39 $ 42 $ 44 $ 48 $ 173
Earnings per common share $ .24 $ .26 $ .27 $ .29 $ 1.06
Earnings per common share -
assuming dilution $ .24 $ .25 $ .27 $ .29 $ 1.05
Medical expense ratio 82.3 % 82.3 % 82.5 % 83.6 % 82.8 %
Administrative cost ratio 15.8 % 15.7 % 15.5 % 15.2 % 15.5 %
18
</TABLE>
Humana Inc.
Part II: Other Information
Item 1: Legal Proceedings
A class action lawsuit styled Mary Forsyth, et al v. Humana Inc., et al, Case
#CV-5-89-249-PMP (L.R.L.), was filed on March 29, 1989, in the United States
District Court for the District of Nevada. On August 18, 1997, the Company
filed a Petition for Writ of Certiorari in the United States Supreme Court
("Petition") requesting the Supreme Court to reverse part of a ruling by the
Court of Appeals for the Ninth Circuit which had reinstated certain claims
that had been dismissed by the U.S. District Court in Nevada in the case
involving claims arising out of the method of calculation of coinsurance for
Nevada insureds prior to 1988. The Petition requested the Supreme Court to
reverse the Ninth Circuit's decision to reinstate the claim under the
Racketeer Influenced and Corrupt Organizations Act ("RICO") on behalf of a
class of insureds who paid coinsurance at Humana hospitals (the "Co-Payer
Class"). The petition was granted by the Supreme Court on June 22, 1998. The
Ninth Circuit, in a decision issued on May 23, 1997, in response to the
Company's Petition for Reconsideration on Rehearing En Banc following its
original November 4, 1996 decision, ruled that the damages in the Co-Payer
Class's RICO claim, before any trebling, were correctly limited to the amount
of overpayment of the co-insurance, which totaled approximately $1.6 million
plus interest. The Ninth Circuit also reinstated an antitrust claim that had
been dismissed by the District Court. The Company requested summary judgment
in the District Court on that Claim on October 6, 1997. On September 22,
1997, plaintiffs filed their Fourth Amended Complaint. On October 1, 1997,
the plaintiffs filed a motion in the District Court for leave to file a Fifth
Amended Complaint reasserting an ERISA claim and adding new RICO and antitrust
claims. The Company filed a motion to dismiss the amended complaint and a
motion opposing the plaintiffs' request to file the amended complaint. The
motions are pending before the District Court. Oral arguments on the
plaintiffs' and Company's motions were held on January 30, 1998. The trial
which was scheduled to begin on February 23, 1998 on all of the remaining
claims has been postponed.
Damages for claims for personal injuries and medical benefit denials are
usual in the Company's business. Personal injury claims are covered by
insurance from the Company's wholly-owned captive insurance subsidiary and
excess carriers, except to the extent that claimants seek punitive damages,
which may not be covered by insurance if awarded. Punitive damages generally
are not paid where claims are settled and generally are awarded only where a
court determines there has been a willful act or omission to act.
Management does not believe that any pending legal actions will have a
material adverse effect on the Company's financial position, results of
operations or cash flows.
Items 2 - 3:
None.
19
Humana Inc.
Part II: Other Information, continued
Item 4: Submission of Matters to a Vote of Security Holders
(a) The regular annual meeting of stockholders of Humana Inc. was held in
Louisville, Kentucky on May 14, 1998, for the purpose of:
(1) Electing the Board of Directors;
(2) Approving amendments to the Company's 1989 Stock Option Plan for
Non-employee Directors (a) to permit the award of Shares of
Company Common Stock in lieu of all or a portion of the directors'
annual retainer; (b) to increase the number of authorized Shares
of Company Common Stock for which options or awards may be granted
and (c) to extend the term thereof;
(3) Approving the Company's 1998 Executive Management Incentive
Compensation Plan; and
(4) Approving an amendment to the Company's 1996 Stock Incentive Plan
for Employees to increase the number of authorized Shares of
Company Common Stock for which options or awards may be granted.
(b) Proxies for the meeting were solicited pursuant to Section 14(a) of the
Securities Exchange Act of 1934 and there was no solicitation in
opposition to management's solicitations. All management's nominees for
directors were elected, the amendments to both the Company's 1989 Stock
Option Plan for Non-employee Directors and 1996 Stock Incentive Plan for
Employees were approved, and the Company's 1998 Executive Management
Incentive Compensation Plan was approved.
(c) Four proposals were submitted to a vote of security holders as follows:
(1) The stockholders approved the election of the following persons as
directors of the Company:
Name For Withheld
K. Frank Austen, M.D. 149,914,431 459,239
Michael E. Gellert 149,924,782 448,888
John R. Hall 149,930,989 442,681
David A. Jones 149,930,278 443,392
David A. Jones, Jr. 149,784,319 589,351
Irwin Lerner 149,927,680 445,990
W. Ann Reynolds, Ph.D. 149,924,352 449,318
Gregory H. Wolf 149,935,131 438,539
20
Humana Inc.
Part II: Other Information, continued
(2) The stockholders approved with 143,193,882 affirmative votes, 6,578,693
negative votes, and 601,095 abstentions, the proposal to adopt the
amendments to the Company's 1989 Stock Option Plan for Non-employee
Directors.
(3) The stockholders approved with 144,291,548 affirmative votes, 5,477,932
negative votes, and 604,190 abstentions, the proposal to adopt the
Company's 1998 Executive Management Incentive Compensation Plan.
(4) The stockholders approved with 95,707,600 affirmative votes, 54,141,380
negative votes, and 524,690 abstentions, the proposal to adopt the
amendment to the Company's 1996 Stock Incentive Plan for Employees.
Item 5:
None.
Item 6: Exhibits and Reports on Form 8-K
(a) Exhibits:
Exhibit 12 - Statement re: Computation of Ratio of Earnings to Fixed
Charges, filed herewith.
Exhibit 27 - Financial Data Schedule for Six Months Ended June 30,
1998.
Exhibit 27.Q297 - Restated Financial Data Schedule for Six Months
Ended June 30, 1997.
Exhibit 27.Q397 - Restated Financial Data Schedule for Nine Months
Ended September 30, 1997.
(b) Forms 8-K:
(1) On August 10, 1998, the Company filed a report on Form 8-K
regarding the termination of the agreement to merge with United
HealthCare Corporation and the cancellation of the August 27,
1998 shareholder meeting regarding such proposed merger.
(2) On May 29, 1998, the Company filed a report on Form 8-K
regarding the execution of a definitive agreement to merge with
United HealthCare Corporation.
21
Humana Inc.
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.
HUMANA INC.
Date: August 14, 1998 /s/ James E. Murray
James E. Murray
Chief Financial Officer
(Principal Accounting Officer)
Date: August 14, 1998 /s/ Arthur P. Hipwell
Arthur P. Hipwell
Senior Vice President and
General Counsel
22
<TABLE>
Humana Inc.
Ratio of Earnings to Fixed Charges
For the quarters and six months ended June 30, 1998 and 1997
Unaudited
(Dollars in millions)
<S> <C> <C> <C> <C>
Quarter Ended Six Months Ended
June 30, June 30,
1998 1997 1998 1997
Earnings:
Income before income taxes $ 82 $ 65 $ 161 $ 125
Fixed charges 13 3 28 8
$ 95 $ 68 $ 189 $ 133
Fixed charges:
Interest charged to expense $ 10 $ 1 $ 22 $ 4
One-third of rent expense 3 2 6 4
$ 13 $ 3 $ 28 $ 8
Ratio of earnings to fixed charges 7.6 20.9 6.8 15.9
The one-third of rent expense included in fixed charges is that proportion
deemed representative of the interest portion.
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000,000
<S> <C>
<PERIOD-START> JAN-01-1998
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> JUN-30-1998
<CASH> 310
<SECURITIES> 1,493
<RECEIVABLES> 475
<ALLOWANCES> 52
<INVENTORY> 5
<CURRENT-ASSETS> 2,490
<PP&E> 776
<DEPRECIATION> 331
<TOTAL-ASSETS> 5,042
<CURRENT-LIABILITIES> 1,889
<BONDS> 922
0
0
<COMMON> 28
<OTHER-SE> 1,620
<TOTAL-LIABILITY-AND-EQUITY> 5,042
<SALES> 4,749
<TOTAL-REVENUES> 4,848
<CGS> 3,950
<TOTAL-COSTS> 4,665
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 22
<INCOME-PRETAX> 161
<INCOME-TAX> 59
<INCOME-CONTINUING> 102
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 102
<EPS-PRIMARY> .61
<EPS-DILUTED> .61
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000,000
<RESTATED>
<S> <C>
<PERIOD-START> JAN-01-1997
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> JUN-30-1997
<CASH> 55
<SECURITIES> 1,261
<RECEIVABLES> 292
<ALLOWANCES> 36
<INVENTORY> 7
<CURRENT-ASSETS> 1,780
<PP&E> 699
<DEPRECIATION> 324
<TOTAL-ASSETS> 2,958
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<BONDS> 3
0
0
<COMMON> 27
<OTHER-SE> 1,357
<TOTAL-LIABILITY-AND-EQUITY> 2,958
<SALES> 3,608
<TOTAL-REVENUES> 3,668
<CGS> 2,971
<TOTAL-COSTS> 3,539
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 4
<INCOME-PRETAX> 125
<INCOME-TAX> 44
<INCOME-CONTINUING> 81
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 81
<EPS-PRIMARY> .50
<EPS-DILUTED> .49
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000,000
<RESTATED>
<S> <C>
<PERIOD-START> JAN-01-1997
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> SEP-30-1997
<CASH> 156
<SECURITIES> 1,559
<RECEIVABLES> 342
<ALLOWANCES> 51
<INVENTORY> 7
<CURRENT-ASSETS> 2,287
<PP&E> 777
<DEPRECIATION> 356
<TOTAL-ASSETS> 4,734
<CURRENT-LIABILITIES> 1,848
<BONDS> 616
0
0
<COMMON> 27
<OTHER-SE> 1,427
<TOTAL-LIABILITY-AND-EQUITY> 4,734
<SALES> 5,543
<TOTAL-REVENUES> 5,636
<CGS> 4,567
<TOTAL-COSTS> 5,435
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 7
<INCOME-PRETAX> 194
<INCOME-TAX> 69
<INCOME-CONTINUING> 125
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 125
<EPS-PRIMARY> .77
<EPS-DILUTED> .76
</TABLE>
