<PAGE> 1
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: September 30, 1996
[ ] TRANSITION REPORT PURSUANT TO SECTION 13(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from ____________ to ____________.
Commission file number: 1-12718
HEALTH SYSTEMS INTERNATIONAL, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 95-42288333
-------------------------------------- ------------------------------------
(State or other jurisdiction (I.R.S. Employer identification No.)
of incorporation or organization)
21600 Oxnard Street, Woodland Hills, CA 91367
225 North Main Street, Pueblo, CO 81003
----------------------------------------- -----
(Address of principal executive offices) (Zip Codes)
Registrant's telephone numbers, including (818) 719-6978 (California)
area code: (719) 542-0500 (Colorado)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [x] No [ ]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock as of the latest practicable date.
As of November 12, 1996, 29,091,970 shares of Class A Common Stock,
$.001 par value per share, were outstanding (exclusive of 3,194,374 shares held
as treasury stock) and 19,297,642 shares of Class B Common Stock, $.001 par
value per share, were outstanding.
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PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Health Systems International, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets (Unaudited)
(In thousands, except share data)
<TABLE>
<CAPTION>
September 30, December 31,
1996 1995
-------------- -------------
<S> <C> <C>
ASSETS
Current assets
Cash and equivalents $ 139,661 $ 225,932
Marketable securities held for sale 387,557 366,629
Premiums receivable, net 94,899 91,106
Prepaid expenses and other 56,652 34,849
Deferred income taxes 15,976 18,902
------------ ------------
Total current assets 694,745 737,418
Property and equipment, net 84,891 84,743
Goodwill and other intangible assets, net 333,907 336,365
Deferred income taxes 521 1,958
Other assets 37,457 53,227
------------ ------------
Total assets $ 1,151,521 $ 1,213,711
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Estimated claims payable $ 235,110 $ 310,392
Shared risk and other settlements 14,984 30,664
Unearned subscriber premiums 30,977 91,596
Accounts payable and accrued expenses 98,414 120,161
Federal and state income taxes payable 28,250 13,196
Notes payable, current portion 2,373 2,340
------------ ------------
Total current liabilities 410,108 568,349
Notes payable 362,618 354,080
Other 9,996 5,755
------------ ------------
Total liabilities 782,722 928,184
------------ ------------
</TABLE>
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<TABLE>
<S> <C> <C>
Stockholders' equity
Preferred stock, $.001 par value
Authorized shares - 10,000,000
Issued and outstanding shares - none
Class A common stock, $.001 par value
Authorized shares - 135,000,000
Issued and outstanding shares - 32,286,344 in 1996
and 22,643,030 in 1995 32 23
Class B nonvoting convertible common stock, $.001 par value
Authorized shares - 30,000,000
Issued and outstanding shares - 19,297,642 in 1996 and
25,684,152 in 1995 19 26
Additional paid-in capital 186,444 66,147
Retained earnings 284,387 233,711
Advance to repurchase 574,869 shares of Class A common stock in 1995 (16,330)
Treasury Stock - 3,194,374 shares of Class A common stock in 1996 (95,831)
Unrealized gain/(loss) on marketable securities held for sale, net (6,252) 1,950
------------ ------------
Total stockholders' equity 368,799 285,527
------------ ------------
Total liabilities and stockholders' equity $ 1,151,521 $ 1,213,711
============ ============
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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Health Systems International, Inc. and Subsidiaries
Condensed Consolidated Statements of Income (Unaudited)
(In thousands, except per share data)
<TABLE>
<CAPTION>
Three-Months Ended Sept. 30, Nine-Months Ended Sept. 30,
---------------------------- ---------------------------
1996 1995 1996 1995
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenues:
Premium revenue $ 784,560 $ 694,193 $2,345,207 $1,963,062
Administrative services and
other revenue 18,258 8,689 56,919 28,029
---------- ---------- ---------- ----------
Total revenue 802,818 702,882 2,402,126 1,991,091
---------- ---------- ---------- ----------
Operating Expenses:
Health care expenses:
Physician 301,349 284,053 884,673 771,040
Hospital 268,111 224,668 817,514 639,203
Pharmacy and other 85,611 56,449 249,767 176,948
---------- ---------- ---------- ----------
Total health care expenses 655,071 565,170 1,951,954 1,587,191
Marketing, general and
administrative 74,533 75,546 234,554 221,517
Depreciation and amortization 12,921 12,468 39,595 35,227
Administrative services and
other expenses 17,209 8,415 50,771 26,553
Merger-related costs 2,328 13,440
---------- ---------- ---------- ----------
Total operating expenses 759,734 663,927 2,276,874 1,883,928
---------- ---------- ---------- ----------
Operating income 43,084 38,955 125,252 107,163
Investment income 8,996 8,007 27,775 23,960
Interest expense (6,466) (4,669) (18,398) (14,765)
---------- ---------- ---------- ----------
Income before income taxes and
minority interest 45,614 42,293 134,629 116,358
Income taxes 20,308 18,006 58,899 50,286
Minority interest in loss of
subsidiary 8 (3) 72 89
---------- ---------- ---------- ----------
Net Income $ 25,314 $ 24,284 $ 75,802 $ 66,161
========== ========== ========== ==========
Earnings per share:
Primary and fully diluted $ 0.52 $ 0.50 $ 1.57 $ 1.35
========== ========== ========== ==========
Weighted average common shares
outstanding:
Primary 48,419 48,787 48,301 48,842
========== ========== ========== ==========
Fully diluted 48,447 48,808 48,297 48,847
========== ========== ========== ==========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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Health Systems International, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows (Unaudited)
(In Thousands)
<TABLE>
<CAPTION>
Nine-Months Ended September 30,
------------------------------------
1996 1995
---------- ----------
<S> <C> <C>
OPERATING ACTIVITIES
Net income $ 75,802 $ 66,161
Adjustments to reconcile net income to net
cash (used) provided by operating activities:
Depreciation and amortization of fixed and intangible assets 39,595 35,227
Deferred income taxes 9,179 12,765
Changes in operating assets and liabilities net of acquisition:
Premiums receivable and unearned subscriber premiums (64,412) 9,361
Prepaid expenses and other (27,929) (21,906)
Estimated claims payable, shared risk and other settlements (92,526) (10,838)
Accounts payable and accrued expenses (19,689) (25,348)
Federal and state income taxes payable 18,835 12,708
---------- ----------
Net cash (used) provided by operating activities (61,145) 78,130
INVESTING ACTIVITIES
Sale or redemption of marketable securities held for sale 157,453 180,736
Purchases of marketable securities held for sale (169,425) (256,799)
Purchases of property and equipment (24,955) (28,708)
Acquisition of subsidiaries, net of cash acquired (4,114) (96,739)
---------- ----------
Net cash used by investing activities (41,041) (201,510)
FINANCING ACTIVITIES
Proceeds from exercise of stock options and
employee stock plan purchases 16,933 2,976
Proceeds from sale of stock 95,828
Borrowings 9,000 235,000
Purchase of treasury stock (105,417) (24,416)
Advances to repurchase shares of Class A common stock (16,330)
Repayment of debt and other non current liabilities (429) (144,908)
---------- ----------
Net cash provided by financing activities 15,915 52,322
---------- ----------
Decrease in cash and equivalents (86,271) (71,058)
Cash and equivalents, beginning of period 225,932 267,877
---------- ----------
Cash and equivalents, end of period $ 139,661 $ 196,819
========== ==========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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HEALTH SYSTEMS INTERNATIONAL, INC.
Notes to Condensed Consolidated Financial Statements
(Unaudited)
1. BASIS OF PRESENTATION
The accompanying unaudited interim condensed consolidated
financial statements of Health Systems International, Inc. and its
wholly and majority owned subsidiaries (collectively, the "Company")
have been prepared in accordance with generally accepted accounting
principles for interim financial information, and the instructions to
Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not
include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. In
the opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the nine month period ended
September 30, 1996 are not necessarily indicative of the results that
may be expected for the year ending December 31, 1996. For further
information, reference is made to the consolidated financial
statements and footnotes thereto included in the Company's Annual
Report on Form 10-K for the year ended December 31, 1995, and to
certain "Cautionary Factors" previously filed with the Company's
Quarterly Report on Form 10-Q for the quarter ended June 30, 1996.
2. FOUNDATION MERGER
On October 1, 1996, the Company and FH Acquisition Corp., a
wholly owned subsidiary of the Company ("Merger Sub"), entered into an
Agreement and Plan of Merger (the "Merger Agreement") with FHC, whereby
Merger Sub will merge (the "Merger") with and into FHC and FHC will
survive as a wholly owned subsidiary of the Company. Pursuant to the
Merger agreement FHC stockholders will receive 1.3 shares of the
Company's Class A Common Stock for every share of FHC common stock
held. The shares of the Company's Class A Common Stock issued to FHC's
stockholders in the Merger will constitute approximately 61% of the
outstanding stock of the Company after the Merger, and the Company's
current stockholders will hold approximately 39% of the outstanding
stock of the Company after the Merger.
Pursuant to the Merger Agreement, the Company will amend its
Certificate of Incorporation to change the name of the Company to
Foundation Health Systems, Inc. and to increase the number of
authorized shares of the Company's Common Stock to 380,000,000 shares
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consisting of 350,000,000 shares of Class A Common Stock and
30,000,000 shares of Class B Common Stock.
It is anticipated that the transaction will be completed by the
end of January 1997 and will be a tax-free combination and accounted
for as a pooling of interests, subject to shareholder and regulatory
approval as well as other customary conditions. The new company will
operate on a calendar year for financial reporting purposes.
3. CREDIT FACILITY
On April 26, 1996, the Company replaced its $400 million
revolving credit facility obtained on April 12, 1995 with a $700
million revolving credit facility. Under the new credit facility, the
Company may incur permitted subordinated indebtedness in a maximum
aggregate amount not to exceed $150 million which is available for
acquisition purposes and to provide short-term financing to repurchase
shares of stock. The Company may elect from various short-term
interest rates based upon a spread above the LIBOR rate; or the
greater of the bank's reference rate or the federal funds rate plus
1/2%. In addition, the Company may elect a "competitive bid auction"
in which participating banks are offered an opportunity to bid
alternative rates. The credit facility is for a term of five years
from the date of execution, with two one year extension options. At
September 30, 1996, $319 million had been borrowed against the new
$700 million credit facility.
4. CONTINGENCIES
The Company is involved in various legal proceedings,
most of which are routine to its business. In the opinion of
management, based in part on advice from litigation counsel to the
Company, the resolution of these matters should not have a material
adverse effect on the financial condition or results of operations of
the Company.
5. STOCKHOLDER'S EQUITY
During the three months ended March 31, 1996, the Company
repurchased 303,879 shares of its Class A Common Stock from certain
current and former management employees of the Company and HN
Management Holdings, Inc., a predecessor to the Company, at a price of
$31.55 per share. The repurchased shares were held pursuant to the
Amended and Restated Health Net Associate Trust Agreement dated as of
May 1, 1994 (the "Associate Trust Agreement"), on behalf of certain
founding stockholders of the Company at the date of the conversion of
Health Net to for-profit status (the "Class A Stockholders"). The
repurchased shares, having an aggregate value of $9,587,000, were
immediately canceled and netted against Class A Common Stock,
Additional Paid-in-Capital and Retained Earnings.
On May 15, 1996, the Company completed a public offering in
which the Company sold 3,194,374 shares of Class A Common Stock and
the California Wellness Foundation (the "Foundation") sold 6,386,510
shares of Class A Common Stock (constituting 6,386,510 shares of Class
B Common Stock which automatically converted into shares of Class A
Common Stock upon the sale) for a per share purchase price to the
public of $30.00 (the "Offering"). The net proceeds received by the
Company from the sale of the 3,194,374 shares of Class A Common Stock
were approximately $92.4 million after deducting underwriting
discounts and commissions and estimated expenses of the Offering
payable by the Company. The Company used its net proceeds
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from the Offering to repurchase 3,194,374 shares of Class A Common
Stock held pursuant to the Associate Trust Agreement from certain
Class A Stockholders. The Company repurchased these shares of Class A
Common Stock from the Class A Stockholders at $30.00 per share less
transaction costs associated with the Offering, amounting to $1.08 per
share. All of these 3,194,374 shares of Class A Common Stock
repurchased are currently held as treasury stock. The Company did not
receive any of the proceeds from the sale of shares of Class A Common
Stock in the Offering by the Foundation.
6. INVESTMENT IN MEDAPHIS CORPORATION
During the nine months ended September 30, 1996, the Company
recorded unrealized depreciation of $7.3 million as a result of a
decline in the value of shares of Medaphis Common Stock that the
Company holds. Pursuant to FASB 115, the Company has classified such
investment as held for sale and, accordingly, has reflected such
depreciation as a reduction of Stockholders Equity. The Company has
filed a lawsuit against Medaphis Corporation in connection with this
decrease in the stock value of Medaphis.
7. ACQUISITIONS
Advantage Health
On May 14, 1996, the Company announced that it had reached a
definitive agreement with the St. Francis Health System to acquire
Advantage Health, Inc., a managed care company headquartered in
Pittsburgh, Pennsylvania, with approximately 60,000 members for
approximately $12.5 million in cash. The transaction is subject to
approvals from regulatory authorities, and other customary conditions
of closing. The transaction is expected to close in the fourth
quarter of 1996.
First Option Health Plan
On October 25, 1996, the Company announced it will make an
initial $30 million investment in FOHP, Inc., the parent company of
First Option Health Plan ("FOHP") of Red Bank, New Jersey. FOHP is a
managed health care company with approximately 168,000 health
maintenance organization ("HMO") members, 141,000 of which are
commercial and 27,000 of which are in Medicare and Medicaid programs.
In addition, FOHP has more than 70,000 Workers' Compensation members
and 60,000 preferred provider organization ("PPO") members.
At closing, the Company will purchase $30 million worth of FOHP
Convertible Subordinated Debentures convertible into 40 percent of
FOHP's outstanding equity at the Company's discretion. In addition,
FOHP will issue an option to the Company that could eventually lead to
the Company purchasing an additional 11 percent ownership position in
FOHP. The agreement with FOHP also contemplates that up to 20 percent
of FOHP
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<PAGE> 9
equity will either be directly purchased by the Company or repurchased
by FOHP with financing from the Company shortly following the closing.
All of these transactions, which value FOHP at $75 million, are
subject to FOHP shareholder approval, applicable regulatory approvals,
and other customary conditions of closing.
8. RESTRUCTURING CHARGE
On April 10, 1996, the Company announced its intention to take
a pre-tax one-time restructuring charge of approximately $34.2 million
or $.41 per share after tax, during the second quarter of 1996. The
charge was to cover non-recurring costs of a comprehensive
restructuring of the Company's Health Net subsidiary, computer software
and hardware write-offs, and the consolidation of certain operational
functions of other subsidiaries.
Due to the proposed merger with Foundation (See note 2 of the
Notes to Condensed Consolidated Financial Statements), the Company has
postponed the restructuring charge to the fourth quarter of 1996 to
allow management to reevaluate the impact of the Foundation merger on
the restructuring plan.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
GENERAL
The Company is one of the largest HMOs in the United States,
providing health care and administrative services to more than 1.95
million full-risk HMO and administrative services only ("ASO") members
in California, Colorado, Connecticut, Idaho, New Jersey, New Mexico,
Oregon, Pennsylvania and Washington. Through its operating
subsidiaries, the Company provides a wide range of managed health care
services through Network Model and Individual Practice Association
Model HMOs. The Company also provides various tailored managed health
care products, operates a PPO network and owns two health and life
insurance companies.
The following discussion should be read in conjunction with
the Management's Discussion and Analysis of Financial Condition and
Results of Operations included in the Company's Annual Report on Form
10-K for the year ended December 31, 1995.
RESULTS OF OPERATIONS
The following table sets forth certain selected operating
statistics and membership data of the Company for the three and nine
month periods ended September 30, 1996.
SUMMARY OF OPERATING STATISTICS AND MEMBERSHIP DATA
OPERATING STATISTICS
<TABLE>
<CAPTION>
Three Months Ended Sept. 30 Nine Months Ended Sept. 30
--------------------------- --------------------------
1996 1995 1996 1995
----- ---- ----- ----
<S> <C> <C> <C> <C>
Medical loss ratio (health care expense as a
percentage of premium revenue) 83.5% 81.4% 83.2% 80.9%
Marketing, general and administrative expense
including depreciation and amortization
as a percentage of premium revenue 11.1% 12.7% 11.7% 13.1%
Net income as a percentage of total revenue 3.2% 3.5% 3.2% 3.3%
Primary and fully diluted earnings per share
(before net merger-related costs in 1995) $0.52 $0.53 $1.57 $1.53
----- ----- ----- -----
Primary and fully diluted earnings per share $0.52 $0.50 $1.57 $1.35
------ ----- ----- -----
</TABLE>
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Enrollment Data
<TABLE>
<CAPTION>
September 30,
--------------------------------
1996 1995
----- ------
<S> <C> <C>
Members by Product Type
Commercial 1,604,784 1,587,885
Medicare 144,057 114,375
Medicaid 60,590 13,958
---------- ----------
Full Risk Members 1,809,431 1,716,218
ASO 141,132 102,625
Managed 4,567 4,289
---------- ----------
Total 1,955,130 1,823,132
========== ==========
Members by State
California 1,328,739 1,357,995
Colorado 74,094 53,567
New Mexico 28,991 27,584
Washington/Idaho 113,495 126,733
Oregon 50,422 43,022
Connecticut 169,247 136,503
Pennsylvania 190,142 77,728
---------- ----------
Total 1,955,130 1,823,132
========== ==========
</TABLE>
The Company added 131,998 new full-risk and ASO members since
the third quarter of 1995. Of this increase, 80,664 members resulted
from the acquisition of Greater Atlantic Health Services, Inc., an HMO
operating in Pennsylvania and New Jersey. Internal growth accounted
for the remaining increase in enrollment of 51,334.
For the nine months ended September 30, 1996, enrollment
increased by approximately 16,000 compared to December 31, 1995. The
increase represents the net effect of a 42,000 member reduction in
commercial enrollment, offset by increases of 11,000, 10,000 and 37,000
members in the Company's Medicare, Medicaid and ASO lines of business,
respectively. Enrollment increased by 38,000 members from June 30,
1996, resulting from a 10,000 member increase in commercial enrollment,
a 2,000 member increase in Medicare/Medicaid enrollment and a 26,000
member increase in ASO enrollment.
THREE MONTHS ENDED SEPTEMBER 30, 1996 COMPARED TO THREE MONTHS ENDED
SEPTEMBER 30, 1995
Net income increased 4.2% to $25.3 million for the three
months ended September 30, 1996, compared to $24.3 million, after net
merger-related costs of $1.5 million, for the comparable period in
1995. The increase in net income reflected the Company's growth in
membership and premium revenue, and a decrease in administrative
expenses as a percentage of revenue, offset in part by an increase in
the Company's medical loss ratio (i.e., health care expenses as a
percentage of
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premium revenue, or "MLR") to 83.5% in the three months ended
September 30, 1996 from 81.4% in the three months ended September 30,
1995.
Premium Revenue
Premium revenue, excluding ASO revenue, increased $90.4 million
or 13.0% in the third quarter of 1996 compared to the third quarter of
1995. The increase in premium revenue was reflective of increased
membership and premium rate increases in the Company's Medicare line of
business, and its continued Northeast expansion. $52.4 million of this
revenue increase represented premium from the Company's Northeast
operations acquired in December of 1995. On a same store basis, premium
revenue (including post-acquisition premium growth) increased by $38.0
million or 5.5%, between the three month periods ended September 30,
1996 and September 30, 1995.
Change in Net Premium Revenue
(In Millions)
Third Quarter 1996 Compared to Third Quarter 1995
<TABLE>
<S> <C> <C>
Change in revenue due to
premium change (same store):
Commercial $ 1.4
Medicare 10.0
------
11.4
Change in revenue due to
membership change (same store):
Commercial 2.0
Medicare 24.6
------
26.6
Change in revenue due to
acquisitions:
Commercial 29.9
Medicare 22.5
------
52.4
Total change in revenue:
Commercial 33.3
Medicare 57.1
------
$ 90.4
======
</TABLE>
Total member months (cumulative number of member service
months during the period) increased by 6.3% to 5,432,000 during the
third quarter of 1996 compared to the same period in 1995, and the
combined per member per month ("PMPM") premium revenue increased by
6.3% to $144.42.
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On a same store basis, total member months increased by 1.5%
to 5,185,000 during the third quarter of 1996 compared to the same
period in 1995, and total PMPM premium revenue increased by 3.9% to
$141.22.
Commercial member months increased by 4.7% to 5,002,000 during
the third quarter of 1996 compared to the same period in the prior
year. For the quarter ended September 30, 1996, commercial premium
revenue PMPM increased by 1.2% to $119.36, compared to the same period
last year. The increase was primarily due to higher PMPM revenues in
the Northwest. Excluding the effects of Northeast acquisitions,
commercial member months for the quarter ended September 30, 1996
increased by 0.4% to 4,795,000 compared to the prior year period.
Commercial premium revenue PMPM, excluding the effects of Northeast
acquisitions, increased by 0.3% to $118.30, compared to the same
period last year. This flat PMPM growth was mainly due to pricing
pressures in the highly competitive California market.
Medicare member months increased by 29.7% to 430,000 during
the third quarter of 1996 compared to the same period in the prior
year. For the quarter ended September 30, 1996, Medicare premium
revenue PMPM increased by 10.8% to $435.90, compared to the same
period last year. Excluding the effects of Northeast acquisitions,
Medicare member months for the quarter ended September 30, 1996
increased by 17.5% to 390,000. Medicare premium revenue PMPM,
excluding the effects of Northeast acquisitions, increased by 7.6% to
$423.32 compared to the same period last year. Increases in Medicare
PMPM are principally a result of rate increases by the Federal Health
Care Financing Administration in the Company's California, Southwest
and Northwest markets.
Health Care Expenses
Health care expenses increased by 15.9% from $565.2 million in
the third quarter of 1995 to $655.1 million in the third quarter of
1996. On a PMPM basis, health care expenses for the quarter ended
September 30, 1996 rose by 9.0% to $120.59 PMPM, versus $110.61 PMPM
during the equivalent period in the prior year. During the same
period, the Company's overall MLR increased to 83.5% as compared to
81.4% during the prior year's three-month period. Approximately 50% of
the MLR increase was due to higher pharmacy costs, with the remainder
due to higher utilization of services throughout the California,
Southwest and Northwest markets. These factors, coupled with flat PMPM
revenue growth in the California commercial market, accounted for the
overall increase in the Company's MLR.
Commercial health care expenses on a PMPM basis in the quarter
ended September 30, 1996 increased by 3.9% to $97.39 compared to
$93.72 during the same period last year. The commercial MLR increased
to 81.6% from 79.4% for the comparable period in 1995. As previously
described, the increase reflects higher pharmacy costs, increased
utilization and flat PMPM revenue growth in the California market.
Medicare health care expenses on a PMPM basis in the quarter
ended September 30, 1996 increased by 10.3% to $390.37, compared to
$354.04 during the same period last year. The Medicare MLR decreased
to 89.6% from 90.0% for the third quarter of 1995. The reduction in
this
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overall Medicare MLR is primarily a result of an 86.4% MLR for the
Company's Philadelphia Medicare business and a slight reduction in the
MLR for the Company's California market.
Marketing, General and Administrative Expenses
Marketing, general and administrative expenses, excluding the
effects of the Company's ASO business, decreased to 9.5% of premium
revenue in the third quarter of 1996 as compared to 10.9% during the
third quarter of the prior year. The decrease in marketing, general
and administrative expenses reflects the Company's ongoing efforts to
aggressively control its administrative costs.
Depreciation and Amortization Expenses
Depreciation and amortization expenses as a percentage of
premium revenue for the three months ended September 30, 1996
decreased slightly, compared to the same period in 1995. These
expenses were $12.9 million (1.6% of premium revenue) in the third
quarter of 1996 compared to $12.5 million (1.8% of premium revenue)
in the third quarter of 1995.
NINE MONTHS ENDED SEPTEMBER 30, 1996 COMPARED TO NINE MONTHS ENDED
SEPTEMBER 30, 1995
Net income increased 14.6% to $75.8 million for the nine
months ended September 30, 1996, compared with $66.2 million, after
merger related costs net of tax of $8.9 million, for the comparable
period in 1995. The increase in net income reflected the Company's
growth in membership and premium rates and a decrease in
administrative expenses as a percentage of revenue, offset in part by
an increase in the Company's MLR from 80.9% for the nine months ended
September 30, 1995 to 83.2% for the nine months ended September 30,
1996.
Premium Revenue
Premium revenue, excluding ASO revenue, increased $382.1
million or 19.5% in the first nine months of 1996 compared to the
first nine months of 1995. $181.8 million of this revenue increase
represented premium from the Company's Northeast operations acquired
in December of 1995. On a same store basis, premium revenue
(including post-acquisition premium growth) increased by $200.4
million or 10.2%, between the nine month periods ended September 30,
1996 and September 30, 1995.
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<PAGE> 15
Change in Net Premium Revenue
(In Millions)
Nine Months Ended Sept. 30, 1996 Compared to
Nine Months Ended Sept. 30, 1995
<TABLE>
<S> <C> <C>
Change in revenue due to
premium change (same store):
Commercial $ (5.9)
Medicare 26.7
------
20.8
Change in revenue due to
membership change (same store):
Commercial 70.9
Medicare 108.6
------
179.5
Change in revenue due to
acquisitions:
Commercial 114.5
Medicare 67.3
------
181.8
Total change in revenue:
Commercial 179.5
Medicare 202.6
------
$382.1
======
</TABLE>
Total member months increased by 12.0% to 16,246,000 during
the first nine months of 1996 compared to the same period in 1995, and
the combined PMPM premium revenue increased by 6.6% to $144.35.
On a same store basis, total member months increased by 5.9%
to 15,358,000 during the first nine months of 1996 compared to the
same period in 1995, and overall PMPM premium revenue increased by 4.1%
to $140.86.
Commercial member months increased by 10.1% to 14,975,000
during the first nine months of 1996 compared to the same period in
the prior year. For the nine months ended September 30, 1996,
commercial premium revenue PMPM increased by 1.0% to $119.69, compared
to the same period the prior year. Excluding the effects of Northeast
acquisitions, commercial member months for the nine months ended
September 30, 1996 increased by 4.4% to 14,207,000 compared to the
prior year period. Commercial premium revenue PMPM, excluding the
effects of Northeast acquisitions, decreased by .4% to $118.11,
compared to the same period last year. The decrease reflects
continuing pricing pressures in the highly competitive California
market.
Medicare member months increased by 42.3% to 1,271,000 during
the first nine months of 1996 compared to the same period in the prior
year. For the nine months ended September 30, 1996, Medicare premium
revenue PMPM increased by 11.0% to $434.89, compared to the same
-15-
<PAGE> 16
period last year. Excluding the effects of Northeast acquisitions,
Medicare member months for the nine months ended September 30, 1996
increased by 28.8% to 1,151,000. Medicare premium revenue PMPM,
excluding the effects of Northeast acquisitions, increased by 7.6% to
$421.79 compared to the same period last year. Increases in Medicare
PMPM are principally a result of rate increases by the Federal Health
Care Financing Administration in the Company's California and
Southwest markets.
Health Care Expenses
Health care expenses increased by 23.0% from $1.6 billion in
the first nine months of 1995 to $2.0 billion in the first nine months
of 1996. On a PMPM basis, health care expenses for the first nine
months ended September 30, 1996 rose by 9.8% to $120.15 PMPM, versus
$109.46 PMPM during the equivalent period in the prior year. During
the same period, the Company's MLR increased to 83.2% as compared to
80.9% during the prior year's nine month period. Approximately 41% of
the MLR increase was due to higher pharmacy costs, with the remainder
due to higher utilization of services throughout the California,
Southwest, Northwest and Northeast markets.
Commercial health care expenses on a PMPM basis for the nine
month period ended September 30, 1996 increased by 3.6% to $97.17
compared to $93.76 during the same period in 1995. The commercial MLR
increased to 81.2% for the first nine months of 1996 from 79.1% for
the comparable period in 1995. The increase reflects higher pharmacy
and outpatient costs in certain of the Company's markets, higher
medical costs for the Company's Philadelphia Medicaid business and
flat PMPM premium growth in the California commercial market.
Medicare health care expenses on a PMPM basis in the nine
months ended September 30, 1996 increased by 12.2% to $390.91,
compared to $348.54 during the same period last year. The Medicare
MLR increased to 89.9% from 88.9% for the first nine months of 1996.
The increase in this overall Medicare MLR is primarily a result of
unusually high Medicare fee for service claims volumes during the
first quarter of 1996.
Marketing, General and Administrative Expenses
Marketing, general and administrative expenses, excluding the
effects of the Company's ASO business, decreased to 10.0% of premium
revenue in the first nine months of 1996 as compared to 11.3% during
the first nine months of the prior year. The decrease in marketing,
general and administrative expenses reflects the Company's ongoing
efforts to aggressively control its administrative costs.
Depreciation and Amortization Expenses
Depreciation and amortization expenses remained relatively
static as a percentage of premium revenue in the first nine months of
1996 as compared to the first nine months of 1995. These expenses
were $39.6 million (1.7% of premium revenue) in the first nine months
of 1996 as compared to $35.2 million (1.8% of premium revenue) in the
first nine months of 1995.
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<PAGE> 17
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary source of cash is premium revenue. Its
primary uses of cash are claims and capitation payments. Estimates of
future cash flows include a component to account for the delay between
providing health care services and reporting their cost. The estimate
is based on actuarial projections of claims and other costs, claims
paid history, membership growth, inflation, seasonality, claims
inventory and reserves.
The Company's capital resources are managed according to
certain guidelines intended to ensure liquidity and maximize total
return by assuming prudent investment risks. The Company's liquidity
requirements consist of the need to service medical claims in a timely
manner and to satisfy shared risk and other obligations. Such
requirements are the principal factors in determining the appropriate
investment portfolio mix. The Company presently invests primarily in
a variety of fixed-income obligations according to established
investment guidelines.
During the first nine months of 1996, cash used by operating
activities was $61.1 million, compared with cash provided of $78.1
million in the comparable prior year period. This increase in cash
used by operating activities is due primarily to payments of claims
payable and shared risk settlement, and the timing of receipts of
unearned subscriber premiums. Increased efficiencies in the Company's
claims processing areas have allowed accelerated handling of claims, as
well as reductions in claims inventories.
Cash used by investing activities decreased from $201.5
million in the nine months ended September 30, 1995 to $41.0 million
in the nine months ended September 30, 1996, while cash provided by
financing activities also decreased from $52.3 million to $15.9
million during such periods. Decreases in these cash flow categories
resulted from limited acquisition activity during the first nine
months of 1996, as compared to the comparable prior year period.
The Company's current ratios at September 30, 1996 and
December 31, 1995 were 1.69 to 1 and 1.30 to 1, respectively. The
increase in the Company's current ratio is primarily attributable to
decreased current liabilities resulting from increased payments of
claims, accounts payable and accrued expenses, as well as reductions
in unearned premiums as of September 30, 1996.
Outstanding notes payable (including $319 million outstanding
under the Company's credit facility) amounted to $365.0 million at
September 30, 1996, an increase of $8.6 million from December 31, 1995,
resulting primarily from additional borrowings relating to the stock
repurchases during the first quarter of 1996 (see note 5 of the Notes
to Condensed Consolidated Financial Statements). Principal and
interest requirements of notes payable are scheduled at between $19
million and $25 million per year through 2006. The Company believes
that cash from operations and existing working capital are adequate to
fund existing obligations, introduce new products and services and
continue to develop health care-related businesses. The Company
regularly evaluates its cash requirements for current operations and
commitments, and for capital acquisitions and other strategic
transactions. The Company may elect to raise additional funds for
these purposes, either through the issuance of additional debt or
equity, the sale of investment securities or otherwise, as appropriate.
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<PAGE> 18
On April 26, 1996, the Company obtained an unsecured $700
million revolving line of credit from a lending syndicate led by Bank
of America and co-agented by Industrial Bank of Japan and Citibank.
The new credit facility replaced the Company's previous $400 million
credit facility. Under the credit facility the Company may incur
permitted subordinated indebtedness in a maximum aggregate amount not
to exceed $150 million which is available for acquisition and other
purposes, and to provide short-term financing to repurchase shares of
stock. As of September 30, 1996, $319 million was outstanding under
the Company's new credit facility.
The Company's subsidiaries must comply with certain minimum
capital requirements under applicable state laws and regulations. The
long-term portion of principal and interest payments under the
outstanding note payable to the Foundation is subordinated to Health
Net meeting its tangible net equity ("TNE") requirements under
applicable California laws and regulations. As of September 30, 1996,
each of the Company's subsidiaries was in compliance with its minimum
capital requirements.
IMPACT OF INFLATION AND OTHER ELEMENTS
The managed health care industry is labor intensive and its
profit margin is low. Hence, it is especially sensitive to inflation.
Increases in medical expenses without corresponding increases in
premiums could have a material adverse effect on the Company.
Various federal and state legislative initiatives regarding
the health care industry have been proposed during recent legislative
sessions, and health care reform and similar issues continue to be in
the forefront of social and political discussion. If health care
reform or similar legislation is enacted, such legislation could
impact the Company. Management cannot at this time predict whether
any such initiative will be enacted and, if enacted, the impact on the
financial condition or operations of the Company.
Reference is also made to the disclosures contained under the
heading "Cautionary Factors" included in the Company's Quarterly
Report on Form 10-Q for the quarter ended June 30, 1996, which could
cause the Company's actual results to differ from those projected in
forward looking statements of the Company made by or on behalf of the
Company. In addition, certain of these factors may have affected the
Company's past results and may affect future results.
-18-
<PAGE> 19
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
Restricted Stock Dispute
Following the conversion of Health Net to a for-profit subsidiary of
the Company (the "Conversion"), a restricted stock plan (the "Restricted Stock
Plan") was adopted and restricted shares were issued to certain management
employees of Health Net. In February 1993, the California Department of
Corporations (the "DOC") informed Health Net that it believed the issuance of
such restricted shares ("Restricted Shares") of the Company to persons who were
stockholders of the Company as of the date of the Conversion (the "Restricted
Share Recipients") violated certain provisions and terms imposed by the DOC in
connection with the Conversion. In March 1993, the DOC insisted that such
restricted shares be rescinded and stated that the DOC would take steps
necessary to revoke the approval of the Conversion if the issuance of the
Restricted Shares was not rescinded (the "Conditional Revocation Order"). In
April 1993 the Restricted Share Recipients agreed to rescind all of the
Restricted Shares issued to them, under express protest to the DOC.
Subsequently, a formal protest was filed with the DOC which requested a hearing
regarding the correctness of the decision.
On September 14, 1994, Health Net, the Company and certain of the
Restricted Stock Recipients, on behalf of all the Restricted Stock Recipients
(the "Petitioners"), filed a Petition for Writ of Administrative Mandamus in
the Superior Court of the County of Los Angeles (Case No. BS030426) (the "Writ
Proceeding"). The Writ Proceeding seeks to overturn the Conditional Revocation
Order and to require the Commissioner of the DOC to follow procedures set forth
in the Administrative Procedures Act which would result in an administrative
hearing regarding the correctness of the Conditional Revocation Order or, in
the alternative, to treat the Conditional Revocation Order as a final agency
action and to have the Court order the Commissioner of the DOC to rescind the
Conditional Revocation Order.
On May 25, 1995, the Petitioners filed an amended petition expanding
the original claims and adding a new cause of action for a declaratory judgment
that would revoke the rescission of the issuance of the Restricted Shares. The
DOC and The California Wellness Foundation (the "Foundation") filed new
demurrers to the amended petition on July 3, 1995. At a hearing on July 28,
1995, the Court sustained the demurrers without leave to amend. On August 7,
1995, the Petitioners filed objections to the Court's Statement of Decision.
On August 15, 1995, the Court overruled the objections of the Petitioners to
the Court's Statement of Decision. On September 8, 1995, the Court entered an
Order of Dismissal, and the Amended Petition for Writ of Mandate and Complaint
for Declaratory Relief of the Petitioners was dismissed. On September 19,
1995, the DOC served notice of the entry of the Order of Dismissal. On October
18, 1995, the Petitioners filed a Notice of Appeal. The opening brief was
filed on March 15, 1996, and the Respondents' briefs were filed on or around
June 13, 1996. The reply briefs to the Respondents' briefs were timely filed
on August 19, 1996 and the Court has set oral arguments on the appeal for
November 13, 1996.
Under the terms of the Agreement and Plan of Merger relating to the
merger involving QualMed, Inc. and Health Net which created the Company, in the
event that the Petitioners are successful and the Restricted Shares are
permitted to be issued to the Original Shareholders, shares of common stock
would be transferred from the Foundation to the Restricted Stock Recipients and
the Company would not suffer any adverse effect
-19-
<PAGE> 20
other than the payment of legal fees and related costs of the Writ Proceeding
which the Company is obligated to fund.
Medaphis Corporation
On November 7, 1996 the Company filed a lawsuit against Medaphis
Corporation ("Medaphis") and its former Chairman and Chief Executive Officer
Randolph G. Brown entitled Health Systems International, Inc. v. Medaphis
Corporation, Randolph G. Brown and Does 1-50, case number BC 160414, Superior
Court of California, County of Los Angeles. The lawsuit arises out of the
acquisition of Health Data Sciences Corporation ("HDS") by Medaphis. In June
1996, the Company, the owner of 1,234,544 shares (or 77%) of Series F Preferred
Stock of HDS, representing over sixteen percent of the total outstanding equity
of HDS, voted its shares in favor of the acquisition of HDS by Medaphis. The
Company received as the result of the acquisition 976,771 shares of Medaphis
Common Stock in exchange for its Series F Preferred Stock.
In its complaint, the Company alleges that Medaphis was actually a
poorly run company with sagging earnings in its core businesses, and had
artificially maintained its stock prices through a series of acquisitions and
accounting maneuvers which provided the illusion of growth while hiding the
reality of its weakening financial and business condition. The Company alleges
that Medaphis, Brown, and other insiders deceived the Company by failing to
reveal that Medaphis would shortly reveal a "write off" of up to $40,000,000 in
reorganization costs and would lower its earnings estimate for the following
year, thereby more than halving the value of the Medaphis shares received by
the Company. The Company alleges that these false and misleading statements
were contained in oral communications with the Company, as well as in the
prospectus provided by Medaphis to all HDS shareholders in connection with the
HDS acquisition. Further, despite knowing of the Company's discussions to form a
strategic alliance of its own with HDS, Medaphis and the individual defendants
wrongfully interfered with that prospective business relationship by proposing
to acquire HDS using Medaphis stock whose market price was artificially
inflated by false and misleading statements. These allegations of the Company
constitute violations of both federal and state securities laws, as well as
constituting fraud and other torts under state law. The Company is seeking
either rescission of the transaction or damages in excess of $38,000,000. Since
the complaint was just recently filed, the defendants have not yet responded.
Miscellaneous Proceedings
The Company and certain of its subsidiaries are also parties to
various other legal proceedings, many of which involve claims for coverage
encountered in the ordinary course of its business. Based upon information
presently available, management of the Company is of the opinion, based in part
on advice from litigation counsel to the Company, that the final outcome of all
such proceedings should not have a material adverse effect upon the Company's
results of operations or financial condition.
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<PAGE> 21
ITEM 2. CHANGES IN SECURITIES
Revolving Credit Facility
On April 26, 1996, the Company entered into an Amended and Restated
Credit Agreement among the Company, Bank of America National Trust and Savings
Association ("Bank of America"), as agent, and certain financial institutions
which are parties thereto (the "Credit Agreement") pursuant to which the
Company obtained an unsecured five-year $700 million revolving credit facility.
The Credit Agreement replaced the Company's prior credit agreement providing
for an unsecured $400 million revolving credit facility, which prior agreement
was also entered into by the Company with Bank of America, as agent.
Specifically, Section 7.11 of the Credit Agreement provides that the
Company and its subsidiaries may, so long as no event of default exists (i)
declare and distribute stock as a dividend; (ii) purchase, redeem or acquire
its stock, options and warrants with the proceeds of concurrent public
offerings and (iii) declare and pay dividends or purchase, redeem or otherwise
acquire its capital stock, warrants, options or similar rights with cash so
long as the sum of such acquisitions does not exceed $150 million plus 25% of
the net income of the Company and its subsidiaries in fiscal 1995 plus 50% of
the net income of the Company and its subsidiaries in fiscal 1996 and
subsequent years (calculated on a cumulative consolidated basis).
In addition, under the Credit Agreement as originally executed the
Company was allowed to incur Subordinated Indebtedness (as defined in the
Credit Agreement) to repurchase its Class A Common Stock, but was limited to
repurchasing not more than 50% of the Class A Common Stock held by certain
designated stockholders (the "50% Repurchase Limitation"). The Credit
Agreement was amended by Amendment No. 1 thereto on May 10, 1996 to eliminate
the 50% Repurchase Limitation. On May 28, 1996, the Credit Agreement was
further amended by Amendment No. 2 thereto to clarify the definition of the
term "LIBOR Base Rate".
Shareholder Rights Plan
On May 20, 1996, the Board of Directors of the Company declared a
dividend distribution of one right (a "Right") for each outstanding share of
the Company's Class A Common Stock and Class B Common Stock (collectively, the
"Common Stock"), to stockholders of record at the close of business on July 31,
1996 (the "Record Date"). The Board of Directors of the Company also
authorized the issuance of one Right for each share of Common Stock issued
after the Record Date and prior to the earliest of the Distribution Date (as
defined below), the redemption of the Rights and the expiration of the Rights
and in certain other circumstances. Rights will attach to all Common Stock
certificates representing shares then outstanding and no separate Rights
Certificates will be distributed. Subject to certain exceptions contained in
the Rights Agreement dated as of June 1, 1996 by and between the Company and
Harris Trust and Savings Bank, as Rights Agent (the "Rights Agreement"), the
Rights will separate from the Common Stock in the event any person acquires 15%
or more of the outstanding Class A Common Stock, the Board of Directors of the
Company declares a holder of 10% or more of the outstanding Class A Common
Stock to be an "Adverse Person," or any person commences a tender offer for 15%
of the Class A Common Stock (each event causing a "Distribution Date").
-21-
<PAGE> 22
Except as set forth below and subject to adjustment as provided in the
Rights Agreement, each Right entitles its registered holder, upon the
occurrence of a Distribution Date, to purchase from the Company one
one-thousandth of a share of Series A Junior Participating Preferred Stock, at
a price of $170.00 per one-thousandth share. However, in the event any person
acquires 15% or more of the outstanding Class A Common Stock, or the Board of
Directors of the Company declares a holder of 10% or more of the outstanding
Class A Common Stock to be an "Adverse Person," the Rights (subject to certain
exceptions contained in the Rights Agreement) will instead become exercisable
for Class A Common Stock having a market value at such time equal to $340.00.
The Rights are redeemable under certain circumstances at $.01 per Right and
will expire, unless earlier redeemed, on July 31, 2006.
A copy of the Rights Agreement has been filed with the Securities and
Exchange Commission as Exhibit 99.1 to the Company's Registration Statement on
Form 8-A (File No. 001-12718), and is available free of charge from the Company.
In connection with its execution of the Agreement and Plan of Merger (the
"Merger Agreement") with Foundation Health Corporation, the Company entered into
Amendment No. 1 (the "Amendment") to the Rights Agreement to exempt the Merger
Agreement and related transactions from triggering the Rights. In addition, the
Amendment modifies certain terms of the Rights Agreement applicable to the
determination of certain "Adverse Persons," which modifications become
effective upon consummation of the transactions provided for under the Merger
Agreement. This summary description of the Rights does not purport to be
complete and is qualified in its entirety by reference to the Rights Agreement.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
-22-
<PAGE> 23
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's security holders
during the quarter ended September 30, 1996.
-23-
<PAGE> 24
ITEM 5. OTHER INFORMATION
Public Offering
On May 15, 1996, the Company completed a public offering (the
"Offering") in which the Company sold 3,194,374 shares of Class A Common Stock
and the Foundation sold 6,664,964 shares of Class A Common Stock (constituting
6,664,964 shares of Class B Common Stock which automatically converted into
shares of Class A Common Stock upon the sale) for a per share purchase price to
the public of $30.00. The proceeds received by the Company from the sale of
the 3,194,374 shares of Class A Common Stock were approximately $92.4 million
after deducting underwriting discounts and commissions and estimated expenses
of the Offering payable by the Company. The Company used its net proceeds from
the Offering to repurchase 3,194,374 shares of Class A Common Stock held
pursuant to the Amended and Restated Health Net Associate Trust Agreement dated
as of May 1, 1994 (the "Associate Trust Agreement"), on behalf of certain
founding stockholders of the Company at the date of the conversion of Health
Net to for-profit status (the "Class A Stockholders"). The repurchase price
per share paid by the Company to repurchase these shares of Class A Common
Stock from the Class A Stockholders was $28.92, which represented the net
proceeds per share received by the Company in the Offering. All 3,194,374 of
such shares repurchased by the Company are currently held as treasury stock.
The Company did not receive any of the proceeds from the sale of shares of
Class A Common Stock by the Foundation.
Revolving Credit Facility
As indicated in Item 2 above, on April 26, 1996 the Company executed
the Credit Agreement which provides an unsecured five-year $700 million
revolving credit facility. A copy of the Credit Agreement was attached as
Exhibit 10.1 to the Company's Current Report on Form 8-K dated April 26, 1996.
Amendment No. 1 to the Credit Agreement was attached as Exhibit 10.33 to the
Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1996
and Amendment No. 2 to the Credit Agreement was attached as Exhibit 10.33 to
the Company's Quarterly Report on Form 10-Q for the quarter ended June 30,
1996. Capitalized terms used but not defined herein have the meanings set
forth in the Credit Agreement.
Approximately $319 million which was borrowed under the Company's
prior $400 million credit facility was rolled into the new facility under the
Credit Agreement. The new facility is available to the Company and its
subsidiaries for general corporate purposes including Permitted Acquisitions
and Joint Ventures and, if the Company should elect, to repurchase or redeem
the Company's capital stock to the extent allowed by the Federal Reserve Board
Regulations and other requirements of law and as set forth in the Credit
Agreement. As of September 30, 1996, the Company had drawn approximately $319
million under the facility of which approximately $135 million had been applied
to pay a portion of the notes payable to the Foundation, approximately $100
million had been drawn to fund the Company's acquisition of M.D. Enterprises of
Connecticut, Inc., approximately $75 million had been drawn to fund the
Company's acquisition of G.H. Holding Corporation and approximately $9 million
had been drawn to fund certain stock repurchases from the Class A Stockholders
in February of 1996.
Bank of America is the lead bank and agent for the other participating
banks named in the Credit Agreement. At the election of the Company, and
subject to customary covenants, loans can be initiated on a bid
-24-
<PAGE> 25
or committed basis and will carry interest at offshore or domestic rates, but
subject to the applicable LIBOR Rate or the Base Rate, of .50% above the
Federal Funds Rate or the Bank of America "reference rate." Actual rates on
borrowings under the facility will vary based on competitive bidding, sources
of funds and the Company's senior leverage ratio at the time of the borrowing.
The facility is available for five years, until April 2001, but may be
extended, under certain circumstances, for two additional years until April
2003.
Loans under the facility are unsecured but the Company and its
subsidiaries are subject to affirmative and negative covenants. As described
in Item 2 above, these include limitations on the payment of cash dividends on
the Company's capital stock and, in certain cases, the redemption or repurchase
of capital stock or securities. In addition to obligations incurred under the
facility, the Company and its subsidiaries are entitled to incur Permitted
Subordinated Indebtedness for seller financing of Permitted Acquisitions and
certain other items in an aggregate amount of up to $150 million and to incur
unsecured indebtedness to repurchase the Company's Class A Common Stock.
Under the Credit Agreement, the Company is (i) obligated to maintain
at all times a Total Leverage Ratio not to exceed 3 to 1, a Fixed Charge
Coverage of not less than 2.75 to 1 and to preserve its combined net worth and
Permitted Class A Subordinated Indebtedness (as defined in the Credit
Agreement) at not less than $100 million plus 50% of net income after December
31, 1994 on a cumulative consolidated basis, (ii) obligated to limit liens on
its assets to those incurred in the normal course and for taxes and other
similar obligations, and (iii) subject to customary covenants to dispose of
assets only in the ordinary course and generally at fair value, to restrict
mergers and consolidations to those permitted under the Credit Agreement, and
to limit loans, leases, joint ventures and contingent obligations and certain
transactions with affiliates. Upon the occurrence of a default or an event of
default, the Company and its subsidiaries would be subject to further
restrictions, including with respect to the operating HMO subsidiaries, an
obligation to advance to the parent company reserves in excess of those held to
comply with state and similar administrative requirements.
Cautionary Statements
In connection with the "safe harbor" provisions of the Private
Securities Litigation Reform Act of 1995, the Company has previously filed with
its Quarterly Report on Form 10-Q for the quarter ended June 30, 1996
certain cautionary statements identifying important risk factors that could
cause the Company's actual results to differ materially from those projected in
forward-looking statements of the Company made by or on behalf of the Company.
The Company wishes to caution readers that these factors, among
others, could cause the Company's actual financial or enrollment results to
differ materially from those expressed in any projected, estimated or
forward-looking statements relating to the Company. The factors should be
considered in conjunction with any discussion of operations or results by the
Company or its representatives, including any forward-looking discussion, as
well as comments contained in press releases, presentations to securities
analysts or investors, or other communications by the Company.
In making these statements, the Company was not and is not undertaking
to address or update each factor in future filings or communications regarding
the Company's business or results, and is not undertaking to address how any of
these factors may have caused changes to discussions or information contained in
-25-
<PAGE> 26
previous filings or communications. In addition, certain of these matters
may have affected the Company's past results and may affect future results.
RECENT DEVELOPMENTS
Foundation Health Corporation
On October 1, 1996, the Company and FH Acquisition Corp., a wholly
owned subsidiary of the Company ("Merger Sub"), entered into an Agreement and
Plan of Merger (the "Merger Agreement") with Foundation Health Corporation, a
Delaware corporation ("FHC"), whereby Merger Sub will merge (the "Merger") with
and into FHC and FHC will survive as a wholly owned subsidiary of the Company.
Pursuant to the Merger Agreement FHC stockholders will receive 1.3 shares of
the Company's Class A Common Stock for every share of FHC common stock held.
The shares of the Company's Class A Common Stock issued to FHC's stockholders
in the Merger will constitute approximately 61% of the outstanding stock of the
Company after the Merger and the Company's current stockholders will hold
approximately 39% of the outstanding stock of the Company after the Merger.
Pursuant to the Merger Agreement, the Company will amend its
Certificate of Incorporation to change the name of the Company to Foundation
Health Systems, Inc. and to increase the number of authorized shares of the
Company's Common Stock to 380,000,000 shares consisting of 350,000,000 shares
of Class A Common Stock and 30,000,000 shares of Class B Common Stock.
The Merger Agreement also provides for, among other things, amendment
of the Company's By-Laws to effect certain changes to the governance provisions
of the Company following the Merger, including provisions related to the
structure of the Company's Board of Directors and the committees of the
Company's Board of Directors. Except in certain circumstances, during a
transition period following the consummation of the Merger and up to, but not
including, the election of directors at the Company's May 2000 Annual Meeting
of Stockholders, the Company's Board of Directors will consist of 11 members,
six of whom (Daniel D. Crowley and five other independent directors) will be
designated by FHC and five of whom (Malik M. Hasan, M.D. and four other
independent directors) will be designated by the Company.
The Merger agreement and the transactions contemplated thereby require
the approval of the Company's stockholders and FHC's stockholders at their
respective special meeting of stockholders. Further information concerning the
Merger and the matters described above will be included in the proxy statement
related to such special meetings.
First Option Health Plan
On October 25, 1996, the Company announced it will make an initial $30
million investment in FOHP, Inc., the parent company of First Option Health
Plan ("FOHP") of Red Bank, New Jersey. FOHP is a managed health care company
owned by physicians, hospitals and other health care providers that provides a
full line of commercial products for businesses and individuals, along with
Medicare, Medicaid and Workers' Compensation programs. FOHP currently has
approximately 168,000 HMO members in New Jersey, 141,000 of which are
commercial and 27,000 of which are in Medicare and Medicaid programs. In
addition, FOHP has more than 70,000 Workers' Compensation members and 60,000
PPO members.
-26-
<PAGE> 27
At closing, the Company will purchase $30 million worth of FOHP
Convertible Subordinated Debentures convertible into 40 percent of FOHP's
outstanding equity at the Company's discretion. In addition, FOHP will issue an
option to the Company that could eventually lead to the Company purchasing an
additional 11 percent ownership position in FOHP. The agreement with FOHP also
contemplates that up to another 20 percent of FOHP equity will either be
directly purchased by the Company or repurchased by FOHP with financing from the
Company shortly following the closing. As part of the transaction the Company
will also provide a variety of management services to FOHP, including
information systems, utilization review and quality assurance, and strategic
planning, among others. The Company will receive management fees from FOHP for
these services.
All of these transactions, which value FOHP at $75 million, are
subject to FOHP shareholder approval, applicable regulatory approvals, and
other customary conditions of closing.
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<PAGE> 28
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
The following exhibits are filed as part of this Quarterly Report on
Form 10-Q or are incorporated herein by reference:
2.1 Agreement and Plan of Merger, dated August 28, 1993, between
and among HN Management Holdings, Inc., QualMed, Inc. and QM
Merger Sub, Inc. (included as Annex A to the HSI Proxy
Statement/Prospectus filed with HSI's Registration Statements
on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01,
respectively) which is incorporated by reference herein).
2.1.1 Amendment No. 1 to the Agreement and Plan of Merger, dated
August 29, 1993, between and among HN Management Holdings,
Inc., QualMed, Inc. and QM Merger Sub, Inc. (included in Annex
A to the HSI Proxy Statement/Prospectus filed with HSI's
Registration Statements on Forms S-1 and S-4 (File nos.
33-72892 and 33-72892-01, respectively) which is incorporated
by reference herein).
2.1.2 Letter Agreement re: Split Ratio, dated December 6, 1993, by
and among HN Management Holdings, Inc., QualMed, Inc. and QM
Merger Sub, Inc. (included in Annex A to the HSI Proxy
Statement/Prospectus filed with HSI's Registration Statements
on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01,
respectively) which is incorporated by reference herein).
2.2 Agreement and Plan of Merger, dated September 14, 1994, by and
among Health Systems International, Inc., M.D. Enterprises of
Connecticut, Inc., M.D. Health Plan, Inc. and MDE Merger Sub,
Inc., (included in Annex A to the Proxy Statement/Prospectus
with HSI's Registration Statement on Form S-4 (File No.
33-86524) which is incorporated by reference herein).
2.2.1 Amendment No. 1 to the Agreement and Plan of Merger, dated
November 14, 1994, by and among Health Systems International,
Inc., M.D. Enterprises of Connecticut, Inc., M.D. Health Plan,
Inc. and MDE Merger Sub, Inc. (included in Annex A to the
Proxy Statement/Prospectus with HSI's Registration Statement
on Form S-4 (File No. 33-86524) which is incorporated by
reference herein).
2.2.2 Amended and Restated Agreement and Plan of Merger dated
January 13, 1995 by and among Health Systems International,
Inc., M.D. Enterprises of Connecticut, Inc., M.D. Health
Plan, Inc. and MDE Merger Sub, Inc., (included in Annex A to
the Proxy Statement/Prospectus, filed with Amendment No. 1 to
HSI's Registration Statement on Form S-4 (File No. 33-86524)
which is incorporated by reference herein).
2.3 Purchase Agreement, dated as of June 13, 1995, between Health
Systems International, Inc. and G.H. Holding Corporation
(including the Addendum thereto dated as of July 10, 1995)
(filed as
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<PAGE> 29
Exhibit 2.1 to HSI's Current Report on Form 8-K dated July
10, 1995, which is incorporated by reference herein).
3.1 Third Amended and Restated Certificate of Incorporation of HSI
(included as Exhibit 4.1 to the HSI Registration Statement on
Form S-8 (File no. 33-74780) which is incorporated by
reference herein).
3.2 Third Amended and Restated By-Laws of HSI (included as Exhibit
4.1 to HSI's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1995, which is incorporated by reference
herein).
*3.2.1 Amendment to Third Amended and Restated By-Laws of HSI, a copy
of which is filed herewith.
4.1 Form of Class A Common Stock Certificate of HSI (included as
Exhibit 4.2 to HSI's Registration Statements on Forms S-1 and
S-4 (File nos. 33-72892 and 33-72892-01, respectively which is
incorporated by reference herein).
4.2 Form of Class B Common Stock Certificate of HSI (included as
Exhibit 4.3 to HSI's Registration Statements on Forms S-1 and
S-4 (File nos. 33-72892 and 33-72892-01, respectively) which
is incorporated by reference herein).
4.3.1 Nonnegotiable Senior Secured Promissory Note in the original
principal amount of $150,000,000, dated January 28, 1992, made
by Health Net in favor of The California Wellness Foundation
(filed as Exhibit 4.8 to HSI's Registration Statements on
Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01,
respectively) which is incorporated by reference herein).
4.3.2 Nonnegotiable Subordinated Secured Promissory Note in the
original principal amount of $75,000,000, dated January 28,
1992, made by Health Net in favor of The California Wellness
Foundation (filed as Exhibit 4.9 to HSI's Registration
Statements on Forms S-1 and S-4 (File nos. 33-72892 and
33-72892-01, respectively) which is incorporated by reference
herein).
4.3.3 Senior Security Agreement, dated January 28, 1992, between
Health Net and The California Wellness Foundation (filed as
Exhibit 4.10 to HSI's Registration Statements on Forms S-1 and
S-4 (File nos. 33-72892 and 33-72892-01, respectively) which
is incorporated by reference herein).
4.3.4 Subordinated Security Agreement, dated January 28, 1992,
between Health Net and The California Wellness Foundation
(filed as Exhibit 4.11 to HSI's Registration Statements on
Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01,
respectively) which is incorporated by reference herein).
4.3.5 Cash Pledge Agreement, dated January 28, 1992, by and between
Health Net and The California Wellness Foundation (filed as
Exhibit 4.12 to HSI's Registration Statements on Forms S-1 and
S-4 (File nos. 33-72892 and 33-72892-01, respectively) which
is incorporated by reference herein).
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<PAGE> 30
4.3.6 Sinking Fund Agreement, dated as of January 28, 1992, by and
between Health Net and The California Wellness Foundation
(filed as Exhibit 4.13 to HSI's Registration Statements on
Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01,
respectively) which is incorporated by reference herein).
4.3.7 Charitable Contribution Grant and Subordination Agreement,
dated January 28, 1992, between Health Net and The California
Wellness Foundation (filed as Exhibit 4.14 to HSI's
Registration Statements on Forms S-1 and S-4 (File nos.
33-72892 and 33-72892-01, respectively) which is incorporated
by reference herein).
4.3.8 Guaranty Agreement, dated January 28, 1992, between Health Net
and The California Wellness Foundation (filed as Exhibit 4.15
to HSI's Registration Statements on Forms S-1 and S-4 (File
nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).
9.1.1 Amended and Restated Trust Agreement, dated as of May 1, 1994,
among Roger F. Greaves, Gerald M. Cooper and Stephen D. Vogt,
as Trustees, and the shareholders on Exhibit 1 therein (filed
as Exhibit 9.1 to HSI's Quarterly Report on Form 10-Q for the
quarter ended March 31, 1994) which is incorporated by
reference herein).
9.1.2 Letter Agreement, dated March 31, 1995, among Health Systems
International, Inc., WellPoint Health Networks Inc. and Roger
F. Greaves, Stephen D. Vogt and Gerald M. Cooper, as Trustees
of the Trust created pursuant to the Amended and Restated
Trust Agreement dated as of May 1, 1994 (filed as Exhibit 10.3
to HSI's Quarterly Report on Form 10-Q for the quarter ended
March 31, 1995, which is incorporated by reference herein).
9.1.3 Letter Agreement dated as of January 26, 1995, among Health
Systems International, Inc., The California Wellness
Foundation and the founding stockholders of Health Systems
International, Inc. (filed as Exhibit 28.1 to HSI's Current
Report on Form 8-K dated January 26, 1995, which is
incorporated by reference herein).
9.1.4 Letter Agreement, dated March 9, 1995, among Health Systems
International, Inc. and Roger F. Greaves, Stephen D. Vogt and
Gerald M. Cooper, as Trustees of the Trust created pursuant to
the Amended and Restated Trust Agreement dated as of May 1,
1994 (filed as Exhibit 10.1 to HSI's Current Report on Form
8-K dated March 9, 1995, which is incorporated by reference
herein).
10.1 Amended Foundation Shareholder Agreement, dated as of January
28, 1992, among HN Management Holdings, Inc., the California
Wellness Foundation and the stockholders of HN Management
Holdings, Inc. named therein (filed as Exhibit 10.1 to HSI's
Registration Statements on Forms S-1 and S-4 (File nos.
33-72892 and 33-72892-01, respectively) which is incorporated
by reference herein).
10.2 Officers' Agreement, dated August 28, 1993, by and among HN
Management Holdings, Inc., QualMed, Inc., Roger F. Greaves,
Stephen D. Vogt and Gerald M. Cooper (filed as Exhibit 10.2
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<PAGE> 31
to HSI's Registration Statements on Forms S-1 and S-4 (File
nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).
10.3 Employment Agreement, dated August 28, 1993, by and among HN
Management Holdings, Inc., Health Net and Joe V. Criscione
(filed as Exhibit 10.16 to HSI's Registration Statements on
Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01,
respectively) which is incorporated by reference herein).
10.4 Employment Agreement, dated August 28, 1993, by and among
QualMed, Inc., HN Management Holdings, Inc. and Malik M.
Hasan, M.D. (filed as Exhibit 10.18 to HSI's Registration
Statements on Forms S-1 and S-4 (File nos. 33-72892 and
33-72892-01, respectively) which is incorporated by reference
herein).
10.5 Employment Agreement, dated August 28, 1993, by and among
QualMed, Inc., HN Management Holdings, Inc., Health Net and E.
Keith Hovland (filed as Exhibit 10.19 to HSI's Registration
Statements on Forms S-1 and S-4 (File nos. 33-72892 and
33-72892-01, respectively) which is incorporated by reference
herein).
10.6 Employment Agreement, dated August 28, 1993, by and among
QualMed, Inc., HN Management Holdings, Inc. and Dale T.
Berkbigler, M.D. (filed as Exhibit 10.20 to HSI's Registration
Statements on Forms S-1 and S-4 (File nos. 33-72892 and
33-72892-01, respectively) which is incorporated by reference
herein).
10.7 Employment Agreement, dated August 28, 1993, by and among
QualMed, Inc., HN Management Holdings, Inc. and Walter G.
Woodbury (filed as Exhibit 10.22 to HSI's Registration
Statements on Forms S-1 and S-4 (file nos. 33-72892 and
33-72892-01, respectively) which is incorporated by reference
herein).
10.8 Severance Payment Agreement, dated as of April 25, 1994, among
HSI, Health Net and James J. Wilk (filed as Exhibit 10.9 to
HSI's Annual Report on Form 10-K for the year ended December
31, 1994, which is incorporated by reference herein).
10.9 Severance Payment Agreement, dated as of April 25, 1994, among
HSI, QualMed, Inc. and B. Curtis Westen (filed as Exhibit
10.10 to HSI's Annual Report on Form 10-K for the year ended
December 31, 1994, which is incorporated by reference herein).
10.10 Severance Payment Agreement, dated as of April 25, 1994, among
HSI, QualMed, Inc. and Terry Fouts, M.D. (filed as Exhibit
10.11 to HSI's Annual Report on Form 10-K for the year ended
December 31, 1994, which is incorporated by reference herein).
10.11 Amendment No. 1 to Employment Agreement dated as of April 27,
1994, by and among HSI, Health Net and Joe Criscione (filed
as Exhibit 10.12 to HSI's Annual Report on Form 10-K for the
year ended December 31, 1994, which is incorporated by
reference herein).
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<PAGE> 32
10.12 Amendment No. 1 to Employment Agreement dated as of April 27,
1994, by and among HSI, QualMed, Inc. and Walter G. Woodbury
(filed as Exhibit 10.15 to HSI's Annual Report on Form 10-K
for the year ended December 31, 1994, which is incorporated by
reference herein).
10.13 Amendment No. 1 to Employment Agreement dated as of April 25,
1994, by and among HSI, QualMed, Inc. and Malik Hasan, M.D.
(filed as Exhibit 10.16 to HSI's Annual Report on Form 10-K
for the year ended December 31, 1994, which is incorporated by
reference herein).
10.14 Amendment No. 1 to Employment Agreement dated as of April 27,
1994, by and among HSI, QualMed, Inc. and Dale T. Berkbigler,
M.D. (filed as Exhibit 10.17 to HSI's Annual Report on Form
10-K for the year ended December 31, 1994, which is
incorporated by reference herein).
10.15 Amendment No. 1 to Employment Agreement dated as of April 27,
1994, by and among HSI, QualMed, Inc. and E. Keith Hovland
(filed as Exhibit 10.18 to HSI's Annual Report on Form 10-K
for the year ended December 31, 1994, which is incorporated by
reference herein).
10.16 Office Lease, dated as of January 1, 1992, by and between
Warner Properties III and Health Net (filed as Exhibit 10.23
to HSI's Registration Statements on Forms S-1 and S-4 (File
Nos. 33-72892 and 33-72892-01, respectively) which is
incorporated by reference herein).
10.17 Health Systems International, Inc. Second Amended and Restated
1991 Stock Option Plan (filed as Exhibit 10.30 to Registration
Statement on Form S-4 (File No. 33-86524) which is
incorporated by reference herein).
10.18 Health Systems International, Inc. Second Amended and Restated
Non-Employee Director Stock Option Plan (filed as Exhibit
10.31 to Registration Statement on Form S-4 (File No.
33-86524) which is incorporated by reference herein).
10.19 Health Systems International, Inc. Employee Stock Purchase
Plan (filed as Exhibit 10.33 to HSI's Registration Statements
on Forms S-1 and S-4 (File nos. 33-72892 and 33-72892-01
respectively) which is incorporated by reference herein).
10.20 Health Systems International, Inc. 1994 Optional Stock
Repurchase Program (filed as Exhibit 10.1 to HSI's Quarterly
Report on Form 10-Q for the quarter ended March 31, 1994,
filed May 13, 1994, which is incorporated by reference
herein).
10.21 Health Systems International, Inc. Performance-Based Annual
Bonus Plan (filed as Exhibit 10.35 to Registration Statement
on Form S-4 (File No. 33-86524) which is incorporated by
reference herein).
10.22 Deferred Compensation Agreement dated as of March 3, 1995, by
and among Malik M. Hasan, M.D., HSI and the Compensation and
Stock Option Committee of the Board of Directors of HSI (filed
as Exhibit 10.31 to HSI's Annual Report on Form 10-K for the
year ended December 31, 1994, which is incorporated by
reference herein).
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<PAGE> 33
10.23 Trust Agreement for Deferred Compensation Arrangement for
Malik M. Hasan, M.D., dated as of March 3, 1995, by and
between HSI and Norwest Bank Colorado N.A. (filed as Exhibit
10.32 to HSI's Annual Report on Form 10-K for the year ended
December 31, 1994, which is incorporated by reference herein).
10.24 Registration Rights Agreement dated as of March 2, 1995
between HSI and the Foundation (filed as Exhibit No. 28.2 to
HSI's Current Report on Form 8-K dated March 2, 1995, which is
incorporated by reference herein).
10.25 Description of Retention Payment Arrangement between Health
Systems International, Inc. and Andrew Wang (filed as Exhibit
10.10 to HSI's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1995, which is incorporated by reference
herein).
10.26 Health Systems International, Inc. 1995 Stock Appreciation
Right Plan (filed as Exhibit 10.12 to HSI's Quarterly Report
on Form 10-Q for the quarter ended September 30, 1995, which
is incorporated by reference herein).
10.27 Letter Agreement Re: Temporary Warehouse/Mail Center
Operations Support, dated October 16, 1995, between Health Net
and CBS Associates, Inc. (an affiliate of Charles Braden, a
director of HSI) (filed as Exhibit 10.15 to HSI's Quarterly
Report on Form 10-Q for the quarter ended September 30, 1995,
which is incorporated by reference herein).
10.28 Employment Letter, dated June 9, 1995, between Philip Katz,
Ph.D. and Health Net (filed as Exhibit 10.38 to HSI's Annual
Report on Form 10-K for the year ended December 31, 1995,
which is incorporated by reference herein).
10.29 Agreement and accompanying Promissory Note, each dated August
17, 1995, between Philip Katz, Ph.D. and Health Net (filed as
Exhibit 10.39 to HSI's Annual Report on Form 10-K for the year
ended December 31, 1995, which is incorporated by reference
herein).
10.30 Credit Agreement dated as of April 12, 1995 among Health
Systems International, Inc., Bank of America National Trust
and Savings Association, as Agent, and financial institutions
party thereto (filed as Exhibit 10.17 to HSI's Quarterly
Report on Form 10-Q for the quarter ended March 31, 1995,
which is incorporated by reference herein).
10.31 Amended and Restated Credit Agreement dated as of April 26,
1996 among Health Systems International, Inc., Bank of America
National Trust and Savings Association, as Agent, and
financial institutions party thereto (filed as Exhibit 10.1 to
HSI's Current Report on Form 10-K dated May 3, 1996, which is
incorporated by reference herein).
10.32 Amendment No. 1 to Credit Agreement dated as of May 10, 1996
among Health Systems International, Inc., Bank of America
National Trust and Savings Association, as Agent, and
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<PAGE> 34
financial institutions party thereto (filed as Exhibit 10.32
to HSI's Quarterly Report on Form 10-Q for the quarter ended
March 31, 1996, which is incorporated by reference herein).
10.33 Amendment No. 2 to Credit Agreement dated as of May 28, 1996
among Health Systems International, Inc., Bank of America
National Trust and Savings Association, as Agent, and
financial institutions party thereto (filed as Exhibit 10.33
to HSI's Quarterly Report on Form 10-Q for the quarter ended
June 30, 1996, which is incorporated by reference herein).
10.34 Confidential Settlement and Separation Agreement and General
Release dated as of June 15, 1996 by and between E. Keith
Hovland and HSI (filed as Exhibit 10.34 to HSI's Quarterly
Report on Form 10-Q for the quarter ended June 30, 1996 which
is incorporated by reference herein).
10.35 Employment Letter Agreement dated May 28, 1996 between Michael
D. Pugh and QualMed, Inc. (filed as Exhibit 10.35 to HSI's
Quarterly Report on Form 10-Q for the quarter ended June 30,
1996, which is incorporated by reference herein).
10.36 Employment Letter Agreement dated June 4, 1996 between Arthur
M. Southam and HSI and Health Net (filed as Exhibit 10.36 to
HSI's Quarterly Report on Form 10-Q for the quarter ended June
30, 1996, which is incorporated by reference herein).
*10.37 Employment Letter Agreement dated July 3, 1996 between Jay M.
Gellert and HSI, a copy of which is filed herewith.
*10.38 Employment Letter Agreement dated September 30, 1996 between
Douglas C. Werner and HSI, a copy of which is filed herewith.
10.39 Rights Agreement dated as of June 1, 1996 by and between the
Company and Harris Trust and Savings Bank, as Rights Agent
(filed as Exhibit 99.1 to the Company's Registration Statement
on Form 8-A (File No. 001-12718) which is incorporated by
reference herein).
*11.1 Statement relative to computation of earnings per share of the
Company, a copy of which is filed herewith.
21.1 Subsidiaries of HSI (filed as Exhibit 21.1 to HSI's Annual
Report on Form 10-K for the year ended December 31, 1995,
which is incorporated by reference herein).
*27.1 Financial Data Schedule, a copy of which is filed herewith.
* A copy of the Exhibit is filed herewith.
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<PAGE> 35
(b) Reports on Form 8-K
The following Current Report on Form 8-K was filed by the Company
during the quarterly period ended September 30, 1996:
A report dated October 1, 1996 was filed announcing that the Company
and FH Acquisition Corp., a wholly owned subsidiary of the Company ("Merger
Sub"), entered into an Agreement and Plan of Merger with Foundation Health
Corporation ("FHC") whereby Merger Sub will merge with and into FHC and FHC
will survive as a wholly owned subsidiary of the Company.
No other Current Reports on Form 8-K were filed by the Company during
such period.
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<PAGE> 36
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.
HEALTH SYSTEMS INTERNATIONAL, INC.
(Registrant)
Date: November 14, 1996 /s/ Malik M. Hasan, M.D.
----------------------------------
Malik M. Hasan, M.D., Chairman of the
Board of Directors and Chief
Executive Officer
Date: November 14, 1996 /s/ Jay M. Gellert
----------------------------------
Jay M. Gellert, President and
Chief Operating Officer
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<PAGE> 1
Exhibit 3.2.1
AMENDMENT TO BY-LAWS
OF HEALTH SYSTEMS INTERNATIONAL, INC.
On May 20, 1996 the Board of Director of Health Systems International,
Inc. (the "Corporation") voted to amend the Third Amended and Restated By-laws
(the "By-laws") of the Corporation as follows:
Paragraphs (a) and (b) of Section 3 of Article IV of the By-laws
were amended so that such paragraphs (a) and (b) read in their entirety as
follows:
(a) To recommend to the Board of Directors the compensation
including direct regular compensation, stock options or other
appropriate incentive plans, and perquisites, if any, of (i) the
Chairman and Chief Executive Officer of the Corporation and (ii) the
most highly compensated executive officer of the Corporation other than
the Chairman and Chief Executive Officer of the Corporation, which
recommendation shall be subject to ratification, modification or
rejection by the Board of Directors.
(b) To approve the compensation, including direct regular
compensation, stock options or other appropriate incentive plans, and
perquisites, if any, of the Chairmen, Chief Executive Officers,
Presidents, Chief Operating Officers and Senior Vice Presidents of the
Corporation, Health Net, QualMed, Inc. and any direct or indirect
subsidiaries of the Corporation other than Health Net or QualMed, Inc.,
other than those officers identified in (a) above.
Section 5 and Section 6 of Article V of the By-laws were amended so
that such Section 5 and Section 6 read in their entirety as follows, and a new
Section 11 was added to Article V of the By-laws, which Section 11 reads in its
entirety as follows:
SECTION 5. Chairman of the Board. The Chairman of the Board
shall be the Chief Executive Officer of the Corporation. The duties of
the Chairman of the Board shall be to preside at meetings of the Board
of Directors and, if present, to preside at the meetings of the
Stockholders. The Chairman of the Board shall preside as chairman of
the meetings of the Board of Directors or of any committee on which he
serves, and shall preside as chairman of the Stockholder meetings.
Except where by law the signature of the President is required, the
Chairman of the Board shall possess the same power as the President to
sign all contracts,
<PAGE> 2
certificates and other instruments of the Corporation that may be
authorized by the Board of Directors. During the absence or disability
of the President, the Chairman of the Board shall exercise all the
powers and discharge all the duties of the President. The Chairman of
the Board shall also perform such other duties and may exercise such
other powers as from time to time may be assigned to him by the By-laws
or by the Board of Directors, subject to the terms of applicable
employment agreements.
SECTION 6. President. The President shall, subject to the
control of the Board of Directors and the Chairman of the Board, have
general supervision of the business of the Corporation and shall see
that all orders and resolutions of the Board of Directors are carried
into effect. In the absence of the Chairman of the Board and the Vice
Chairman of the board (if a Vice Chairman of the Board exists), the
President shall preside at all meetings of the Board of Directors and,
if present, preside at all meetings of the Stockholders. The President
shall perform such other duties as the Chairman of the Board or the
Board of Directors may from time to time determine, subject to the terms
of applicable employment agreements.
SECTION 11. Vice Chairman of the Board of Directors. The Vice
Chairman of the Board, if there be one, shall, in the absence of the
Chairman of the Board, preside at all meetings of the Stockholders. The
Vice Chairman of the Board position shall not be considered an office of
the Corporation (although the Vice Chairman of the Board may or may not
hold other offices of the Corporation). The Vice Chairman of the Board
shall also perform such other duties and may exercise such other powers
as from time to time may be assigned to him by the By-laws or by the
Board of Directors.
2
<PAGE> 1
Exhibit 10.37
[HEALTH SYSTEMS INTERNATIONAL LETTERHEAD]
July 3, 1996
Mr. Jay M. Gellert
440 Davis Street, Unit 913
San Francisco, CA 94111
Re: Offer of Employment
Dear Jay:
We are pleased to extend to you an offer of employment with Health Systems
International, Inc. ("HSI") and its subsidiaries, Health Net and QualMed, Inc.
(hereinafter collectively referred to as the "Company"), for the exempt
positions of President and Chief Operating Officer of HSI and Chairman of
Health Net and QualMed, Inc. at an annual base salary of $425,000. In these
capacities, you will report to Malik M. Hasan, M.D., the Chairman of the Board
of Directors and Chief Executive Officer of HSI. Your office will be located
in Woodland Hills, California. The start date for your employment is June 3,
1996.
As a senior executive of the Company, your annual base salary will be reviewed
each year by the HSI Compensation and Stock Option Committee. Your first
review for annual salary compensation purposes is scheduled to occur on or
about July 1, 1997 and annually thereafter. Please be aware that a review
should not be construed as a guarantee for salary increase.
You will also be eligible to participate in the HSI Management Bonus Plan.
Under this plan you can earn up to 65% of your base salary as a bonus, subject
to the discretion of the HSI Compensation and Stock Option Committee, if
certain goals based upon Company and your individual performance are achieved.
Your 1996 bonus will be based upon corporate and individual performance for the
number of full months you are employed by the Company during the year. The
goals which will be used to measure your performance for 1996 are attached
hereto as Exhibit 1, and it is intended that you will be provided goals for
successive calendar years prior to January 31 of each such year.
As to any bonus award, you must be actively employed and on the Company payroll
at the time said bonus is to be paid which is on or before March 31 of each
year. The HSI Compensation and Stock Option Committee in its sole discretion
will award amounts as it deems appropriate consistent with the guidelines of
the HSI Management Bonus Plan. If you are deemed to be one of HSI's five
highest paid executive officers for any given year, you will participate in the
HSI Performance-Based Annual Bonus Plan as adopted by HSI shareholders in 1994
or as hereafter amended, modified or superseded, in lieu of
<PAGE> 2
Mr. Jay M. Gellert
July 3, 1996
Page 2
the Management Bonus Plan. (The HSI Performance-Based Annual Bonus Plan is
designed to address the limitations imposed under federal tax law on the
Company's ability to deduct certain compensation paid to the five highest paid
executive officers.)
In addition to the foregoing, and subject to (l) any applicable prerequisite
length of employment or other eligibility requirements and (2) your continued
employment with the Company, you will be eligible for consideration to receive
and/or participate in the fringe benefits set forth in the Company's applicable
Plan Documents, Associate Handbooks and/or Policy Statement, subject to the
Company's right to enhance, increase, reduce, eliminate or otherwise modify at
any time these or other fringe benefits (including the bonus plans referenced
above). Your Company benefits include:
o Associate 401(k) Savings Plan
o Employee Stock Purchase Plan
o Group medical coverage for you and your eligible dependents at
current monthly rates applicable to the Company's employees to
start June 3, 1996
o Group dental coverage for you and your eligible dependents at
current monthly rates applicable to the Company's employees to
start June 3, 1996
o Group term life insurance in the amount of $500,000
(supplemental term life insurance and term life insurance for
your dependents is also available at your expense)
o Short-term and long-term disability benefits
o 22 vacation and/or paid-time off days per calendar year
o An anticipated initial nonqualified stock option grant (vesting
one third per year, beginning on the third anniversary of your
employment, with a ten year life) to purchase 100,000 shares of
HSI Class A Common Stock at the market value of such stock at
the close of business on June 3, 1996. Notwithstanding the
vesting provisions above, in the event you should leave the
Company for any reason other than just cause, you shall have the
right to exercise your options for a one-year period from the
date you terminated employment.
o Eligibility to participate in HSI's profit-sharing stock grant
program, which is based upon the profits of the Company
<PAGE> 3
Mr. Jay M. Gellert
July 3, 1996
Page 3
o Eligibility to participate in the Company's Supplemental
Executive Retirement Plan
o Reimbursement of reasonable, substantiated monthly business
expenses
o Company paid holidays (currently ten days per year)
o Education Assistance Program
o A car allowance of $1,000 per month plus a corporate VISA
charge card which can be used for Company-related expenses
o A cellular phone for your vehicle
o A fax machine to be installed at your home
o Financial planning allowance for tax advice and financial
counseling subject to a maximum of $5,000 per year
beginning with 1996
The Company will provide you with temporary housing in Woodland Hills,
California for a period of one year from your start date at a monthly
cost not to exceed $2,000. Weekend trips to your residence in San
Francisco will be at your expense. Upon the expiration of said one-year
period, you must decide whether to relocate to Southern California or to
continue renting at your own expense. Should you decide to relocate,
the Company will provide you with certain benefits to assist you in
relocating to Woodland Hills, including:
o Payment for all packing, shipping and unloading of all your
reasonable household items upon your move and up to 60 days
storage
o Rental car in Woodland Hills for ten days
o Up to two round-trip airline coach tickets for purposes of
house hunting
o One-way airline coach tickets as final transportation to
Woodland Hills for you and each member of your family
o Assistance with the sale of your current home to include
payment of up to a 7% real estate commission, and
assistance in the purchase of a new home to include payment
of up to two points
o Federal and state tax gross-ups on the above items, as allowed
by law
<PAGE> 4
Mr. Jay M. Gellert
July 3, 1996
Page 4
Should you leave the employ of the Company within one year from your date of
hire, you will be obligated to reimburse the Company for relocation expenses
paid on your behalf, pro-rated by the number of months that have expired since
your employment began.
Additionally, acceptance of this offer of employment will protect you in the
unlikely event a Change-of-Control transaction (as defined below) occurs
resulting in termination of your employment. If, during a two-year period
following a Change-of-Control transaction, you are terminated by the Company or
voluntary resign for a "good reason" (as defined below), you will receive
severance pay equal to three years of your then current annual base salary,
except that any severance pay will not exceed the lesser of (i) $1.5 million or
(ii) the applicable Internal Revenue Code Section 280G limitations to avoid
penalty taxes and deduction limitations on "excess parachute payments."
Change-of-Control is defined as any one of the following:
o A 51% change in beneficial ownership as a result of a single
transaction of all capital stock of HSI;
o A change in the majority of outside directors of HSI's Board of
Directors over two years, which is unapproved by a majority of
HSI's current directors;
o The sale of substantially all of HSI's assets to an unrelated
third party; or
o The liquidation or dissolution of HSI.
For purposes of your Change-of-Control severance benefit, "good reason" means
a material reduction in the scope of your position, duties or responsibilities,
or of your salary or status with the Company, or your removal from your
positions referred to above as determined by the HSI Compensation and Stock
Option Committee existing as of the date of the Change-of-Control, except in
connection with the termination of your employment for disability, normal
retirement or cause, or by voluntary resignation other than for good reason.
If you are terminated by the Company for a reason other than just cause or
during a two year period following a Change-of-Control transaction, you will be
entitled to receive severance payments equal to two years of your then current
annual base salary and one year of your then current target bonus award.
Base salary severance payments made to you pursuant to this document, will be
made on a monthly basis in equal monthly amounts commencing as of the end of the
month immediately succeeding termination. The target bonus award will be made
at the
<PAGE> 5
Mr. Jay M. Gellert
July 3, 1996
Page 5
Company's discretion but no later than the March 31 occurring two years after
your termination date. Any severance payments are subject to verification that
you have not breached the non-compete agreement set forth below.
Should disagreements arise with respect to this offer of employment, you and
the Company agree to submit the matter to binding arbitration. The Company
shall also have the right to pursue an equitable remedy in a California court
pursuant to the applicable laws of California with respect to the non-compete
and confidentiality restrictions set forth below. The prevailing party in
either the arbitration and/or the equitable remedy action shall recover all
attorney's fees and costs incurred.
This offer of employment shall remain confidential and, if accepted by you,
will oblige you to the following two-year non-compete agreement. Accordingly,
if you accept this offer you agree that you will not, for a period of two (2)
years after any termination of your employment with the Company, undertake any
employment or activity on behalf of a Competitor (as defined below) in the
geographical area in which you performed services for the Company or any of its
affiliates (the "Market Area"), which employment or activity could call upon
you to reveal, to make judgments on or otherwise use any confidential business
information or trade secrets of the business of the Company or any of its
affiliates to which you had access during your employment with the Company.
For these purposes, "Competitor" shall refer to any health maintenance
organization, health care management company, physician group, insurance
company or similar entity that provides managed health care or related services
similar to those provided by the Company or any of its affiliates within the
Market Area. It is hereby further agreed that if an arbitrator or any court
of competent jurisdiction shall determine that the restrictions imposed in this
non-compete agreement are unreasonable, invalid or unlawful (including, but not
limited to, the definition of Market Area or Competitor or the time period
during which this restriction is applicable), the parties hereto hereby agree to
any restrictions that such arbitrator or court would find to be reasonable
under the circumstances. It is further agreed that the Company shall have all
equitable remedies available to enforce this non-competition restriction and the
confidentiality restriction set forth in the following paragraph.
You acknowledge and agree that, during the period of your employment by the
Company, you will have access to and become acquainted with various
confidential information and practices, confidential customer information, and
pricing methodology. All documents, memoranda, reports, files, correspondence,
lists and other written, electronic and graphic records, affecting or relating
to the Company's business that you may prepare, use, observe, possess or
control shall be and remain the Company's sole property, and you shall not
disclose any of these items, except as required in the course of your
employment by the Company. In the event of the termination of your employment,
you shall deliver
<PAGE> 6
Mr. Jay M. Gellert
July 3, 1996
Page 6
promptly to the Company all written and/or graphic records containing such trade
secrets or confidential information.
Nothing set forth herein is intended to create any condition or term of
employment other than that of an "at-will" employee. In other words, by
accepting employment with the Company you confirm that your employment is
voluntary and that there is no obligation on your part or on the part of the
Company to continue that employment relationship for any period of time. While
the Company certainly hopes that there will be a long and mutually satisfactory
relationship between you and the Company, it is expressly understood and agreed
that your employment can be terminated by either you or the Company at any time,
for any reason and with or without prior notice of any kind. The only way in
which this "at will" employment relationship can be changed is by a written
agreement, approved by the HSI Compensation and Stock Option Committee, and
signed by you and the Company.
The foregoing describes the terms of this offer of employment. Any prior or
contemporaneous agreements or representations, whether oral or written, which
may have been made or discussed but which are not included herein, are of no
force or effect whatsoever or at all. The HSI Compensation and Stock Option
Committee has approved this offer of employment. Please execute and return to me
the enclosed extra copy of this offer of employment.
Jay, you should know that Dr. Hasan joins me in extending our warmest wishes.
All of us at HSI are enthusiastic about having you on the Company's "First
Team". Wishing you the best of success and the very
Best of health,
/s/ JAMES J. WILK
- ----------------------------------------
James J. Wilk
Senior Vice President, Human Resources
and Administrative Services of Health Net
JJW/nr
I hereby accept the terms of this offer of employment as outlined above.
/s/ JAY GELLERT 9-20-96
- --------------- -------
Jay M. Gellert Date
Attachment: Exhibit 1
<PAGE> 1
Exhibit 10.38
[HEALTH SYSTEMS INTERNATIONAL LETTERHEAD]
September 30, 1996
Mr. Douglas C. Werner
1227 La Jolla Rancho Road
La Jolla, CA 92037
Re: Offer of Employment
Dear Doug:
We are pleased to extend to you an offer of employment with Health Systems
International, Inc. ("HSI") (hereinafter collectively referred to as the
"Company"), for the exempt position of Senior Vice President of Strategic
Planning and Business Development at an annual base salary of $245,000. In this
capacity, you will report to Jay M. Gellert, the President and Chief Operating
Officer of HSI. Your office will be located in San Diego, California. The
anticipated start date for your employment is October 1, 1996.
As a senior executive of the Company, your annual base salary will be reviewed
each year by the HSI Compensation and Stock Option Committee. Your first review
for annual salary compensation purposes is scheduled to occur at the conclusion
of the 1997 calendar year, and annually thereafter.
You will also be eligible to participate in the HSI Management Bonus Plan. Under
this plan you can earn up to 40% of your base salary as a bonus, subject to the
discretion of the HSI Compensation and Stock Option Committee, if certain goals
based upon HSI's and your individual performance are achieved. Your 1996 bonus
will be based upon corporate and individual performance for the number of full
months you are employed by the Company during the year. The goals which will be
used to measure your performance for 1996 will be mutually agreed to by Mr.
Gellert and you within 30 days following the commencement of your employment.
As to any bonus award, you must be actively employed and on the Company payroll
at the time said bonus is to be paid. The HSI Compensation and Stock Option
Committee in its sole discretion will award amounts as it deems appropriate
consistent with the guidelines of the HSI Management Bonus Plan. If you are
deemed to be one of HSI's five highest paid executive officers for any given
year, you will participate in the HSI Performance-Based Annual Bonus Plan as
adopted by HSI shareholders in 1994, in lieu of the Management Bonus Plan (the
HSI Performance-Based Annual Bonus Plan is designed to address the limitations
imposed under federal tax law on the Company's ability to deduct certain
compensation paid to the five highest paid executive officers.)
<PAGE> 2
Mr. Douglas C. Werner
September 30, 1996
Page 2
In addition to the foregoing, and subject to (1) satisfactory completion of
company-required drug test and background check; (2) any applicable
prerequisite length of employment or other eligibility requirements and (3)
your continued employment with the Company, you will be eligible for
consideration to receive and/or participate in the fringe benefits set forth in
the Company's applicable Plan Documents, Associate Handbooks and/or Policy
Statement, subject to the Company's right to enhance, increase, reduce,
eliminate or otherwise modify at any time these or other fringe benefits
(including the bonus plans referenced above). Your Company benefits include:
o Associate 401(k) Savings Plan.
o Employee Stock Purchase Plan.
o Group medical coverage for you and your eligible dependents at
current monthly rates applicable to the Company's employees to
start October 1, 1996.
o Group dental coverage for you and your eligible dependents at
current monthly rates applicable to the Company's employees to
start October 1, 1996.
o Eligibility to elect to designate up to $5,000 of your pay to be
contributed on a pre-tax basis to an account for your dependent
care expenses and up to $2,000 of your pay to be contributed on
a pre-tax basis to an account for your medical and dental
expenses.
o Group term life insurance in the amount of $500,000
(supplemental term life insurance and term life insurance for
your dependents is also available at your expense).
o Short-term and long-term disability benefits.
o 22 vacation and/or paid-time off days per calendar year. (For
vacation purposes only...you will receive special treatment
to accrue PTO. As such, you will initially be treated as a
mid-career hire and begin at the 4-9 year accrual rate.)
o An anticipated initial nonqualified stock option grant effective
October 1, 1996 (vesting one third per year, beginning on the
first anniversary of your employment, with a ten year life) to
purchase 17,500 shares of HSI Class A Common Stock at the market
value of such stock at the close of business on the date
granted. The above grant is to be effective on your start date
(projected to be October 1, 1996). The above grant also is
contingent upon agreement to the following two clauses:
<PAGE> 3
Mr. Douglas C. Werner
September 30, 1996
Page 3
1) Waiver of Acceleration. Notwithstanding anything to the contrary
contained herein or in the Plan, the Optionee hereby agrees that, for
purposes of determining the exercisability of the Option, neither (i)
the approval by the Board of Directors of the Company of the proposed
transactions (the "Proposed Transactions") by and between the Company
and Foundation Health Corporation, nor (ii) any other event associated
with such Proposed Transactions shall constitute an event giving rise
to the acceleration of the exercisability of the Option; provided that
in the event the Optionee's employment with the Company or a Subsidiary
is terminated by the Company or such Subsidiary without cause at any
time within three (3) years after the Grant Date the foregoing waiver
shall have no force or effect.
2) Cancellation. In the event the grant of the Option would, in the
opinion of the Company's outside accountants or legal counsel, preclude
the Company from accounting for the Proposed Transactions as a "pooling
of interests" such Option and this Option Agreement shall be null and
void and shall have no effect whatsoever.
o Eligibility to participate in HSI's profit-sharing stock grant program,
which is based upon the profits of HSI and QualMed.
o You are eligible to participate in the HSI SERP program. The plan
provides retirement benefits at age 62 equal to 50% of your final five
year earnings after a minimum of fifteen years of service. Upon
acceptance of your offer of employment, the Company has agreed to award
you 1.5 years of benefit service for each year you are employed. Please
be aware that no adjustment in service will be made for vesting
purposes. Thus your benefit will be 100% vested after 10 years and
partially vested after five years.
o Reimbursement of reasonable, substantiated monthly business expenses.
o Company paid holidays (currently ten days per year).
o Education Assistance Program.
o Eligibility to participate in the Decibel Credit Union (Decibel offers
low interest loans, low interest VISA credit cards, Christmas Club,
etc.)
o A car allowance of $1,000 per month plus a corporate VISA charge card
which can be used for Company-related expenses.
<PAGE> 4
Mr. Douglas C. Werner
September 30, 1996
Page 4
o A cellular phone for your vehicle.
o A fax machine to be installed at your home.
o Financial planning allowance for tax advice and financial counseling
subject to a maximum of $5,000 per year beginning with 1996.
If you are terminated by the Company for a reason other than just cause, you
will be entitled to receive severance pay equal to six months of your base
salary, at the salary rate in effect immediately prior to your termination of
employment. If you are terminated as a result of a change of control of
ownership resulting in the elimination of your job, you will receive twelve
months of your base salary, at the salary rate in effect prior to the
termination of your employment.
Should disagreements arise with respect to this offer of employment, you and
the Company agree to submit the matter to binding arbitration. The arbitration
committee shall consist of three individuals. You will select one individual,
the Company will select another, and the third individual will be selected by
The American Arbitration Association. The Company shall also have the right to
pursue an equitable remedy in a California court pursuant to the applicable
laws of California with respect to confidentiality restrictions set forth
below. The prevailing party in either the arbitration and/or the equitable
remedy action shall recover all attorney's fees and costs incurred.
This offer of employment shall remain confidential. You acknowledge and agree
that, during the period of your employment by the Company, you will have access
to and become acquainted with various confidential information and practices,
confidential customer information, and pricing methodology. All documents,
memoranda, reports, files, correspondence, lists and other written, electronic
and graphic records affecting or relating to the Company's business that you may
prepare, use, possess or control shall be and remain the Company's sole
property, and you shall not disclose any of these items, except as required in
the course of your employment by the Company. In the event of the termination of
your employment, you shall deliver promptly to the Company all written and/or
graphic records containing such trade secrets or confidential information.
Nothing set forth herein is intended to create any condition or term of
employment other than that of an "at-will" employee. In other words, by
accepting employment with the Company you confirm that your employment is
voluntary and that there is no obligation on your part or on the part of the
Company to continue that employment relationship for any period of time.
While the Company certainly hopes that there will be a long and mutually
satisfactory relationship between you and the Company, it is expressly
understood and agreed that your employment can be terminated by either you or
the Company at any time, for any reason and with or without prior notice of any
kind. The only way in which this "at will" employment relationship can be
changed is by a written agreement, approved by
<PAGE> 5
Mr. Douglas C. Werner
September 30, 1996
Page 5
the HSI Compensation and Stock Option Committee, which expressly sets forth a
specific length of employment and other appropriate terms and conditions for
the employment relationship.
The foregoing describes the terms of this offer of employment. Any prior or
contemporaneous agreements or representations, whether oral or written, which
may have been made or discussed but which are not included herein, are of no
force or effect whatsoever or at all. The HSI Compensation and Stock Option
Committee has approved this offer of employment.
Doug, you should know that both Jay Gellert and Dr. Hasan join me in extending
our warmest wishes. We are both enthusiastic about the prospect of having you
on the Company's "First Team." Wishing you the best of success and the very
Best of health,
/s/ JAMES J. WILK
- ----------------------------------------
James J. Wilk
Senior Vice President, Human Resources
and Administrative Services of Health Net
JJW/nr
I hereby accept the terms of this offer of employment as outlined above.
/s/ DOUGLAS C. WERNER 9-30-96
- ------------------------------------- -----------------
Douglas C. Werner Date
c: Malik M. Hasan, M.D.
Jay M. Gellert
<PAGE> 1
Exhibit 11.1
Health Systems International, Inc. and Subsidiaries
Computation of Earnings Per Share
(In thousands, except per share data)
<TABLE>
<CAPTION>
Three-Months Ended September 30, Nine-Months Ended September 30,
-------------------------------- -------------------------------
1996 1995 1996 1995
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Primary:
Shares outstanding at beginning of
period 48,320 48,484 48,327 48,492
Weighted average shares issued
(repurchased) during period 40 (5) (155) 93
Dilutive shares contingently issuable
upon exercise of stock options,
net of shares assumed to have
been purchased (at average
market price) for treasury with
assumed proceeds from exercise 59 308 129 257
---------- ---------- ---------- ----------
Total primary shares 48,419 48,787 48,301 48,842
========== ========== ========== ==========
Net income $ 25,314 $ 24,284 $ 75,802 $ 66,161
========== ========== ========== ==========
Net income per share $ 0.52 $ 0.50 $ 1.57 $ 1.35
========== ========== ========== ==========
Fully diluted:
Shares outstanding at beginning of
period 48,320 48,484 48,327 48,492
Weighted average shares issued
(repurchased) during period 40 (5) (155) 93
Dilutive shares contingently
issuable upon exercise of stock
options, net of shares assumed to
have been purchased (at the
greater of average or period-end
market price) for treasury with
assumed proceeds from exercise 87 329 125 262
---------- ---------- ---------- ----------
Total fully diluted shares 48,447 48,808 48,297 48,847
========== ========== ========== ==========
Net income $ 25,314 $ 24,284 $ 75,802 $ 66,161
========== ========== ========== ==========
Net income per share $ 0.52 $ 0.50 $ 1.57 $ 1.35
========== ========== ========== ==========
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM HEALTH NET'S
FORM 10-Q AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FORM 10-Q
FILING.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> SEP-30-1996
<CASH> 139,661
<SECURITIES> 387,557
<RECEIVABLES> 104,257
<ALLOWANCES> (9,358)
<INVENTORY> 0
<CURRENT-ASSETS> 694,745
<PP&E> 210,475
<DEPRECIATION> (116,584)
<TOTAL-ASSETS> 1,151,521
<CURRENT-LIABILITIES> 410,108
<BONDS> 362,618
0
0
<COMMON> 51
<OTHER-SE> 368,748
<TOTAL-LIABILITY-AND-EQUITY> 1,151,521
<SALES> 0
<TOTAL-REVENUES> 811<F1>
<CGS> 0
<TOTAL-COSTS> 655,071<F2>
<OTHER-EXPENSES> 104,663
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 6,466
<INCOME-PRETAX> 45,614<F3>
<INCOME-TAX> 20,308
<INCOME-CONTINUING> 25,314
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 25,314
<EPS-PRIMARY> .52
<EPS-DILUTED> .52
<FN>
<F1>Includes 8,996 million of investment income.
<F2>Includes heathcare expenses only.
<F3>Excludes 8 thousand of minority interest in loss of subsidiary.
</FN>
</TABLE>
