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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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FORM 10-K
(MARK ONE)
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______________ TO ______________
COMMISSION FILE NUMBER 001-13803
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WELLPOINT HEALTH NETWORKS INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 95-4635504
(State of incorporation) (I.R.S. Employer Identification
No.)
ONE WELLPOINT WAY 91362
THOUSAND OAKS, CA (Zip Code)
(Address of principal executive offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (805) 557-6110
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NAME OF EACH EXCHANGE ON WHICH
TITLE OF EACH CLASS REGISTERED
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Common Stock, $0.01 par value New York Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
None
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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 by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of the Form 10-K or any amendment to this
Form 10-K. / /
State the aggregate market value of the voting stock held by non-affiliates
of the Registrant as of March 15, 1999: $3,922,112,194 (based on the last
reported sale price of $79 5/8 per share on March 19, 1999, on the New York
Stock Exchange).
Common Stock, $0.01 par value of Registrant outstanding as of March 19,
1999: 67,439,029 shares.
DOCUMENTS INCORPORATED BY REFERENCE
Part III of this Annual Report on Form 10-K incorporates by reference
information from the Registrant's definitive proxy statement for its 1999 Annual
Meeting of Stockholders.
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WELLPOINT HEALTH NETWORKS INC.
FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
PAGE
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PART I
Item 1. Business....................................................................................... 1
Item 2. Properties..................................................................................... 23
Item 3. Legal Proceedings.............................................................................. 23
Item 4. Submission of Matters to a Vote of Security Holders............................................ 23
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters...................... 24
Item 6. Selected Financial Data........................................................................ 25
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.......... 26
Item 8. Financial Statements and Supplementary Data.................................................... 44
Item 9. Changes and Disagreements with Accountants on Accounting and Financial Disclosure.............. 44
PART III
Item 10. Directors and Executive Officers of the Registrant............................................. 45
Item 11. Executive Compensation......................................................................... 45
Item 12. Security Ownership of Certain Beneficial Owners and Management................................. 45
Item 13. Certain Relationships and Related Transactions................................................. 45
PART IV
Item 14. Exhibits, Financial Statements Schedules and Reports on Form 8-K............................... 45
SIGNATURES
INDEX TO FINANCIAL STATEMENTS
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PART I
ITEM 1. BUSINESS
GENERAL
WellPoint Health Networks Inc. (the "Company" or "WellPoint") is one of the
nation's largest publicly traded managed health care companies. As of December
31, 1998, WellPoint had approximately 6.9 million medical members and
approximately 25 million specialty members. The Company offers a broad spectrum
of quality network-based managed care plans. WellPoint provides these plans to
the large and small employer, individual and senior markets. The Company's
managed care plans include preferred provider organizations ("PPOs"), health
maintenance organizations ("HMOs") and point-of-service ("POS") and other hybrid
plans and traditional indemnity plans. In addition, the Company offers managed
care services, including underwriting, actuarial services, network access,
medical cost management and claims processing. The Company offers a continuum of
managed health care plans while providing incentives to members and employers to
select more intensively managed plans. The Company typically offers such plans
at a lower cost in exchange for additional cost-control measures, such as
limited flexibility in choosing physician and hospitals that are not included in
the Company's provider networks. The Company believes that it is better able to
predict and control its health care costs as its members select more intensively
managed health care plans. The Company also provides a broad array of specialty
and other products, including pharmacy, dental, utilization management, life
insurance, preventive care, disability insurance, behavioral health, COBRA and
flexible benefits account administration.
The Company markets its products in California primarily under the name Blue
Cross of California and outside of California primarily under the name UNICARE.
Historically, the Company's primary market for its managed care products has
been California. The Company holds the exclusive right in California to market
its products under the Blue Cross name and mark. The Company's California
customer base is diversified, with extensive membership among large and small
employer groups and individuals and a growing presence in the Medicare and
Medicaid markets.
In 1996, the Company began pursuing a nationwide expansion strategy through
selective acquisitions and start-up activities in key geographic areas. With the
acquisitions in March 1996 of the Life & Health Benefits Management division
("MMHD") of Massachusetts Mutual Life Insurance Company (the "MMHD Acquisition")
and in March 1997 of certain portions of the health and related life group
benefit operations (the "GBO") of John Hancock Mutual Life Insurance Company
(the "GBO Acquisition"), the Company has significantly expanded its operations
outside of California. The Company's acquisition strategy has focused on large
employer group plans that offer indemnity and other health insurance products
that are less intensively managed than the Company's products in California.
Since 1987, the Company has transitioned substantially all of its California
indemnity insurance customers to managed care products. An element of the
Company's geographic expansion strategy is to replicate its experience in
California in motivating traditional indemnity members to transition to the
Company's broad range of managed care products. In addition, the Company focuses
on acquiring businesses that provide significant concentrations of members in
strategic locations outside of California. The Company believes that its current
UNICARE medical membership provides its UNICARE operations with sufficient scale
to begin development of proprietary provider network systems in key geographic
areas, which will enable the Company over time to begin offering a broader range
of managed care products. The Company has used and intends to continue to use
these new networks to introduce individual, small group and senior products in
these markets. The Company has developed or is actively developing proprietary
networks in Texas, Georgia, Illinois, Maryland, Ohio and Virginia and has
introduced new managed care products in, among other states, Texas, Georgia and
Illinois.
Prior to the MMHD and GBO Acquisitions, the Company's significant operations
were primarily confined to the State of California. As a result of these
acquisitions, during 1996, 1997 and 1998, the Company's operations, with the
exception of stand-alone specialty products, were organized generally into
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two internal business units with a geographic focus. Revenues (with sales to
external customers and sales or transfers to other segments shown separately),
operating profit or loss and identifiable assets attributable to each of the
Company's segments are set forth in Note 21 to the Consolidated Financial
Statements, which are included elsewhere in this Annual Report on Form 10-K.
Effective as of April 1, 1999, the Company intends to effect a modification of
its internal business divisions. Upon completion of this change, the Company
expects that its primary internal business divisions will be focused on large
employer group business, individual and small employer group business and senior
and specialty business.
RECENT DEVELOPMENTS
PENDING TRANSACTION WITH CERULEAN
On July 9, 1998, WellPoint entered into an Agreement and Plan of Merger (the
"Merger Agreement") with Cerulean Companies, Inc. ("Cerulean"). Upon completion
of this transaction (the "Merger"), Cerulean will become a wholly owned
subsidiary of WellPoint. Cerulean currently holds the exclusive license to use
the Blue Cross and Blue Shield names and marks in the state of Georgia. Cerulean
is the parent company of Blue Cross Blue Shield of Georgia, which served
approximately 1.6 million medical members in the state of Georgia as of December
31, 1998. At the effective time of the Merger, the shareholders of Cerulean will
receive WellPoint Common Stock with a market value of $500 million (subject to
certain adjustments provided in the Merger Agreement). Certain shareholders of
Cerulean will have the option to receive cash in lieu of WellPoint Common Stock,
subject to a maximum aggregate limit of $225 million. The transaction is
intended to qualify as a tax-free organization for Cerulean shareholders that
elect to receive WellPoint Common Stock. The closing of the transaction is
subject to the approval of the shareholders of Cerulean and to a number of
regulatory and other approvals. The Company currently expects the transaction to
close during the second half of 1999.
In September 1998, a class action lawsuit was filed in Richmond County,
Georgia on behalf of certain current and former policyholders of Blue Cross Blue
Shield of Georgia (the "Conversion Litigation"). The claims brought in the
Conversion Litigation relate to the conversion of Blue Cross Blue Shield of
Georgia from a non-profit entity to a for-profit entity in October 1996 (the
"Conversion"). At the time of the Conversion, each eligible Blue Cross Blue
Shield of Georgia subscriber was offered five shares of Cerulean Class A stock.
In order to receive such shares, each eligible subscriber had to return certain
election forms prepared by Cerulean. At the time of the Conversion,
approximately 90,000 of the 160,000 eligible subscribers did not return their
election forms. The litigation sought to compel Cerulean to issue five
additional shares of its Class A Common Stock to each of the 90,000 subscribers.
On December 17, 1998, the Superior Court judge in the Conversion Litigation
issued an order in favor of the plaintiffs. Cerulean is pursuing an appeal of
the judge's decision before the Georgia Supreme Court, which held oral arguments
with respect to the matter on March 8, 1999.
The Company intends to continue to explore opportunities to work with other
Blue Cross Blue Shield entities. The Company currently provides pharmacy
benefits management services to certain Blue Cross Blue Shield entities
(including Blue Cross Blue Shield of Georgia) and may market additional
specialty products to and pursue additional relationships with other Blue Cross
Blue Shield plans in the future.
SALE OF WORKERS' COMPENSATION BUSINESS
On July 29, 1998, WellPoint entered into a Stock Purchase Agreement (the
"Stock Purchase Agreement") with Fremont Indemnity Company ("Fremont"). Pursuant
to the Stock Purchase Agreement, Fremont acquired all of the outstanding capital
stock of UNICARE Specialty Services, Inc. a wholly owned subsidiary of WellPoint
("UNICARE Specialty"). The transaction was completed on September 1, 1998. The
principal asset of UNICARE Specialty was the capital stock of UNICARE Workers'
Compensation Insurance Company ("UNICARE Workers' Compensation"). The purchase
price for the acquisition was approximately $110.0 million. Pursuant to the
Stock Purchase Agreement, the purchase price for the
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acquisition was the statutory surplus (adjusted in accordance with the terms of
the Stock Purchase Agreement) of UNICARE Workers' Compensation as of the date of
closing. As part of the transaction, the Company and Fremont entered into a
joint marketing agreement with respect to workers' compensation and medical
insurance products in the small employer group market.
MANAGED HEALTH CARE OVERVIEW
An increasing focus on costs by employers and consumers has spurred the
growth of HMO, PPO, POS and other forms of managed care plans as alternatives to
traditional indemnity health insurance. Typically, HMOs and PPOs, as well as
hybrid plans incorporating features of each (such as POS plans), develop health
care provider networks by entering into contracts with hospitals, physicians and
other providers to deliver health care at favorable rates that incorporate
health care utilization management and other cost-control measures as well as
network credentialing and quality assurance. HMO, PPO and POS members generally
are charged periodic, prepaid premiums, and copayments or deductibles. PPOs, POS
plans and a number of HMOs allow out-of-network usage, typically at
substantially higher out-of-pocket costs to members. HMO members generally
select one primary care physician from a network who is responsible for
coordinating health care services for the member, while PPOs and other "open
access" plans generally allow members to select physicians without coordination
through a primary care physician. Hybrid plans, such as POS plans, typically
involve the selection of primary care physicians similar to HMOs, but allow
members to choose non-network providers at higher out-of-pocket costs similar to
PPOs.
THE CALIFORNIA MARKET. The desire of California-based employers for a range
of health care choices that promote effective cost controls and quality care has
contributed to substantial market acceptance of managed health care in
California, where the total penetration of managed health care companies is
higher than the national average. Although the Company has experienced increased
competition over the last several years, the Company remains a market leader in
offering managed health care plans to individuals and small employer groups in
California. WellPoint's large group business, which historically lagged the
performance of its small group and individual business, has experienced
considerable growth since 1994 with the rebound of the California economy and
the enhancement of the Company's reputation for customer service and value,
especially among established companies. Initial developments in California with
respect to managed care were generally focused on HMOs and other tightly
controlled plans. Over the last few years, this emphasis has decreased, as
consumers and media scrutiny have generally criticized the reduced choice
typical of HMO plans and as greater regulatory restrictions have been placed on
HMO offerings. The Company believes that this movement towards PPOs and other
open access plans will continue in the future.
OTHER STATES. Outside of California, the past few years have seen
significant transformations in the health care sector. Although market
acceptance of the array of managed health care plans continues to grow
throughout the United States, it still varies widely from state to state. In
some states, especially larger population centers, members are offered health
care choices focused on HMO or POS plans. In other states, members are typically
offered a spectrum of health care choices which are more focused on PPOs or
traditional indemnity health models than in California. Indemnity insurance
usually allows members substantial freedom of choice in selecting health care
providers but without significant financial incentives or cost-control measures
typical of managed care plans. Indemnity insurance plans typically require
annual deductible obligations of members. Upon satisfaction of the deductible,
the member is reimbursed for health care expenses on a full or partial basis of
the indicated charges. Health plan reimbursement is often limited to the health
plan's assessment of the reasonable and customary charges prevailing in a region
for the particular health care procedure. PPO coverage offered by health plans
outside of California is often typified by broad-based, third-party provider
networks which do not incorporate the cost-control measures or discounts typical
of the Company's proprietary provider networks in California and Texas. The
Company believes the higher costs generally associated with such third-party PPO
networks and traditional
3
indemnity health insurance will continue to cause employers and members to seek
out managed health care solutions similar to those offered by the Company in
California and Texas.
BLUE CROSS OF CALIFORNIA
Most of the Company's California operations are conducted under the trade
name Blue Cross of California.
MARKETING
WellPoint's Blue Cross of California products are developed and marketed in
California with an emphasis on the differing needs of various customer segments.
In particular, the Company's product development and marketing efforts take into
account the differing characteristics between the various customer groups served
by the Company, including large employers (generally with 51 or more employees),
individuals and small employers, seniors and California Medicaid recipients, as
well as the unique needs of educational and public entities, federal employee
health and benefit programs, national employers and state-run programs servicing
high-risk and under-served markets. Individual business units are responsible
for enrolling, underwriting and servicing customers in specific segments. Sales
representatives are generally assigned to a specific geographic region of
California to allow WellPoint to tailor its marketing efforts to the particular
health care needs of each regional market. Individual business units also use
advertising, public relations, promotion and marketing research to support their
efforts. The Company believes that one of the keys to its success in California
has been its focus on distinct customer groups defined generally by employer
size and geographic region, which better enables the Company to develop benefit
plans and services that meet the needs of these distinct markets. For example,
in 1998 the Company introduced its unique Employee Elect program, which allows
small employers to offer their employees a menu of PPO and HMO options.
WellPoint's managed health care plans to large employers in California are
generally sold in conjunction with an employer's broker or consultant to develop
a package of managed health care benefits specifically tailored to meet the
employer's needs. Individual and small employer group products are marketed in
California primarily through sales managers in both Comprehensive Integrated
Marketing Services, Inc. ("CIMS"), a wholly owned indirect subsidiary of the
Company, and WellPoint's sales department, who oversee independent agents and
brokers.
PRODUCTS
PPO PLANS. The Company's PPO products, which are generally marketed under
the name "Prudent Buyer," are designed to address the specific needs of
different customer segments. The Company's PPO plans require periodic, prepaid
premiums and may have copayment obligations for services rendered by network
providers that are often similar to the copayment obligations of its HMO plans.
Unlike WellPoint's HMO and other "closed-access" plans, members are not required
to select a primary care physician who is responsible for coordinating their
care and may be subject to annual deductible requirements. PPO members have the
option to receive health care services from non-network providers, typically at
substantially higher out-of-pocket costs to members. Among the Company's various
PPO plans are its Prudent Buyer Co-Pay product, which replaces annual deductible
obligations with HMO-like co-payments while maintaining the member choice
typical of PPO plans, and high-deductible health plans intended for use with
medical savings accounts ("MSAs").
HMO PLANS. The Company offers a variety of HMO products to the members of
its California HMO, CaliforniaCare. CaliforniaCare members are generally charged
periodic, prepaid premiums that do not vary based on the amount of services
rendered, as well as modest copayments (small per-visit charges). Members choose
a primary care physician from the HMO network who is responsible for
coordinating health care services for the member. Certain plans permit members
to receive health care services from
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providers that are not a part of the Company's HMO network at a substantial
out-of-pocket cost to members which includes a deductible and higher copayment
obligations. To enhance the marketability of its plans, in 1996 the Company
introduced its CaliforniaCare Saver HMO product, which has deductible
obligations for certain hospital and outpatient benefits. In response to
consumer demand for easier access to specialists, in 1997 the Company introduced
the Ready Access program in its CaliforniaCare HMO. The program expedites the
referral process to specialists within a member's participating medical group
("PMG"). In addition, the program also allows members of certain PMGs to
self-refer to designated frequently used specialists.
MEDICAID PLANS. The California Department of Health Services ("DHS")
administers Medi-Cal, California's Medicaid program. WellPoint has been awarded
contracts to administer Medi-Cal managed care programs in various California
counties. Under these programs, WellPoint provides health care coverage to
Medi-Cal program members and DHS pays WellPoint a fixed payment per member per
month. As of December 31, 1998, approximately 474,000 members were enrolled in
WellPoint's Medi-Cal managed care programs in Los Angeles, Sacramento, Orange,
San Francisco, Alameda, Santa Clara, Fresno, Kern, Stanislaus, Contra Costa and
San Diego counties and in the state-sponsored Healthy Families program. In
addition, the Company has been awarded a contract to administer the Medi-Cal
managed care program in Tulare County, although no enrollment had occurred as of
December 31, 1998.
SENIOR PLANS. WellPoint offers numerous Medicare supplemental plans, which
typically pay the difference between health care costs incurred and amounts paid
by Medicare, using existing PPO and HMO provider networks. One such product is
Medicare Select, a PPO-based product that offers supplemental Medicare coverage.
WellPoint also offers Medicare Select II, a hybrid product which allows seniors
over the age of 65 to maintain their full Medicare benefits for any
out-of-network benefits while enrolled in a supplemental plan that allows them
to choose their own physician with a copayment. As of December 31, 1998, the
Medicare supplemental plans served approximately 179,000 members. WellPoint also
offers Blue Cross Senior Secure, an HMO plan operating in defined geographic
areas, under a Medicare + Choice contract with the Health Care Financing
Administration ("HCFA"). This contract entitles WellPoint to a fixed per-member
premium from HCFA which is subject to adjustment annually by HCFA based on
certain demographic information relating to the Medicare population and the cost
of providing health care in a particular geographic area. In addition to
physician care, hospitalization and other benefits covered by Medicare, the
benefits under this plan (which vary by county) typically include prescription
drugs, routine physical exams, hearing tests, immunizations, eye examinations,
counseling and health education services. As of December 31, 1998, Blue Cross
Senior Secure HMO plans served over 17,000 members.
UNICARE
OVERVIEW
In 1996, the Company began pursuing a nationwide expansion strategy through
selective acquisitions and start-up activities in key geographic areas. The
Company believes that its success in the highly competitive California managed
care market is attributable to its broad range of managed care products that
target the differing needs of specific market segments. The Company's
acquisition strategy to date has focused on large employer group plans that
offer indemnity and other health care products that are less intensively managed
than the Company's current products. In addition, the Company has focused on
acquiring businesses that provide significant concentrations of members in
strategic locations outside of California. As of December 31, 1998, the Company
had approximately 2.2 million members covered under its UNICARE health plans
(including approximately 62,000 members in California). Approximately 50% of
UNICARE medical membership as of such date was concentrated in six states:
Illinois, Texas, Massachusetts, Ohio, Georgia and Indiana. Most of the Company's
non-California business is conducted by the Company's wholly owned subsidiary
UNICARE Life & Health Insurance Company ("UL&H") under the trade name UNICARE.
Upon completion of the Cerulean Merger, the Company intends to operate primarily
under the Blue Cross Blue Shield name and mark in the state of Georgia.
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MARKETING AND PRODUCTS
Similar to the Company's Blue Cross of California products, WellPoint's
UNICARE products are developed and marketed outside of California with a focus
on specific customer groups. The large employer group businesses that were
previously part of the MMHD and GBO operations have a national focus as a result
of the multi-state needs of such employers. UNICARE's individual and smaller
employer group and senior products are marketed on a more regional basis as a
result of the more localized nature of these customer segments and the agent and
broker communities that serve them. As with the Company's Blue Cross of
California products, UNICARE's individual and small employer group products are
generally distributed by independent sales agents, while large group products
are distributed by the Company's internal sales force or in conjunction with
third-party brokers and consultants.
Outside of California, the Company offers PPO and other open access products
(using proprietary networks and third-party provider networks), as well as
traditional fee-for-service products. As WellPoint continues to develop
proprietary provider network systems in key geographic areas, the Company
intends to offer more intensively managed products to the existing members of
acquired businesses and to new individual, small group and senior customers
outside of California. In 1998, UNICARE began offering in certain markets its
unique Planscape product. Planscape has been designed to address the differing
needs of consumers. The Planscape product allows individual family members to
select different plan options based upon that particular individual's health
needs. In addition, Planscape incorporates a personal needs assessment ("PNA")
which is designed to help each individual family member choose the Planscape
option most appropriate for that individual. In the event that an individual's
health needs change (for example, due to a significant illness), Planscape also
has an "opt up" feature allowing a particular individual, during certain times
of the year, to transfer to a Planscape option providing greater benefits and
incorporating more tightly managed care features.
Consistent with the Company's strategy of developing open access programs
that offer members greater choice, in December 1998 UNICARE's Texas HMO
subsidiary, UNICARE of Texas Health Plans, Inc. ("UTHP"), made the decision to
withdraw from the Texas marketplace. As of December 31, 1998, the Company had
approximately 2,620 members served by its UTHP subsidiary. The Company
anticipates that UTHP will cease active operations no later than the end of the
second quarter of 1999. The Company expects that existing UTHP members will be
offered a replacement PPO or similar plan from UL&H.
MANAGED HEALTH CARE NETWORKS AND PROVIDER RELATIONS
BLUE CROSS OF CALIFORNIA
WellPoint's extensive managed health care provider networks in California
include its HMO, PPO and specialty managed care networks. These provider
relationships are monitored regularly in order to control the cost of health
care while providing access to quality providers. As a result of this
network-monitoring process as well as member and provider financial incentives,
WellPoint reduces or eliminates the need to use out-of-network providers that
are not subject to WellPoint's cost and performance controls.
WellPoint uses its large California membership to negotiate provider
contracts at favorable rates that require utilization management and other
cost-control measures. Under these contracts, physician providers are paid
either a fixed per member monthly amount (known as a capitation payment) or on
the basis of a fixed fee schedule. In selecting providers for its networks,
WellPoint uses its credentialing programs to evaluate the applicant's
professional qualifications and experience, including license status,
malpractice claims history and hospital affiliations.
The following is a more detailed description of the principal features of
WellPoint's California PPO and HMO networks.
PPO NETWORK. The California PPO network included approximately 46,000
physicians and 440 hospitals throughout California as of December 31, 1998.
There were approximately 2.9 million members
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(including administrative services members) enrolled in WellPoint's California
PPO health care plans as of such date, approximately 41% of whom were
individuals or employees of small groups.
WellPoint endeavors to manage and control costs for its PPO plans by
negotiating favorable arrangements with physicians, hospitals and other
providers, which arrangements include utilization management and other
cost-control measures. In addition, WellPoint manages costs through pricing and
product design decisions intended to influence the behavior of both providers
and members.
WellPoint's California PPO plans provide for the delivery of specified
health care services to members by contracting with physicians, hospitals and
other providers. Hospital provider contracts are on a nonexclusive basis and
generally provide for per diem payments (a fixed fee schedule where the daily
rate is based on the type of service) that provide for rates that are below the
hospitals' standard billing rates. Physician provider contracts are also on a
nonexclusive basis and specify fixed fee schedules that are below standard
billing rates. WellPoint is able to obtain prices for hospitals and physician
services below standard billing rates because of the volume of business it
offers to health care providers that are part of its network. Provider rates are
generally negotiated on an annual or multi-year basis with hospitals. Provider
rates for physicians in the Company's PPO network are set from time to time by
the Company.
HMO NETWORK. Membership in CaliforniaCare was approximately 1.8 million
members as of December 31, 1998. As of December 31, 1998, the HMO network
included approximately 30,000 primary care and specialist physicians and
approximately 430 hospitals throughout California. The physician network of PMGs
is comprised of both multi-specialty medical group practices and individual
practice associations ("IPAs").
Substantially all primary care physicians or PMGs in the Company's
California HMO network are reimbursed on a capitated basis that incorporates
financial incentives to control health care costs. These arrangements specify
fixed per member per month payments to providers and may result in a marginally
higher medical loss ratio than a non-capitated arrangement, but significantly
reduce risk to WellPoint. Generally, HMO network hospital provider contracts are
on a nonexclusive basis and provide for a per diem payment, which is below the
hospitals' standard billing rates.
Contractual arrangements with PMGs typically include provisions under which
WellPoint provides limited stop-loss protection. If the PMG's actual charges for
medical services provided to a member exceed an agreed-upon threshold amount,
WellPoint will pay the group a portion of the excess amount. Provider rates are
generally negotiated with PMGs and hospitals on an annual or multi-year basis.
To encourage PMGs to contain costs for claims for non-capitated services such as
inpatient hospital, outpatient surgery, hemodialysis, emergency room, skilled
nursing facility, ambulance, home health and alternative birthing center
services, WellPoint's PMG agreements provide for a settlement payment to the PMG
based upon the PMG's effective utilization of such non-capitated services. PMGs
are also eligible for additional incentive payments based upon their management
of outpatient prescription drugs and satisfaction of quality criteria.
UNICARE
Due to the more recent development of the Company's national operations, the
Company's relations with health care providers outside of California are more
varied than in California. During 1998, the Company continued its significant
network development efforts in various states, including Georgia, Illinois,
Maryland, Ohio, Texas and Virginia. Some of these network development activities
involved start-up activities, while others involved supplementing existing
networks acquired in the MMHD and GBO acquisitions. As a result of the Company's
extensive efforts, the Company's proprietary networks in Georgia and Texas are
substantially completed. As of December 31, 1998, UNICARE's proprietary networks
included approximately 53,600 primary and specialist physicians and 600
hospitals.
As part of the MMHD Acquisition, the Company also acquired a majority
ownership interest in a PPO entity, National Capital Preferred Provider
Organization ("UNICARE NCPPO"), which operates in the Maryland/Virginia area and
is a joint venture with local health care providers. The UNICARE NCPPO
7
network included approximately 8,100 primary care and specialist physicians and
50 hospitals as of December 31, 1998.
A large number of UNICARE members are currently served by third-party
provider networks, which generally lack the provider selectivity and discounts
typical of the Company's proprietary networks. One of the Company's strategies
for the expansion of its UNICARE operations is to continue building proprietary
provider network systems in certain geographies similar to the Company's
networks in California and Texas, which provide a continuum of managed care
products to various customer segments. As the Company expands its out-of-state
operations, it intends to build or acquire such network operations and, as
appropriate, to replace or supplement the current third-party network
arrangements. Additionally, the Company has begun a process to consolidate its
third-party network relationships in an effort to further contain its
administrative expenses.
ANCILLARY NETWORKS
WellPoint evaluates current and emerging high volume or high cost services
to determine whether developing an ancillary service network will yield cost
control benefits. In establishing these ancillary service networks, WellPoint
seeks to enter into capitation or fixed fee arrangements with providers of these
services. WellPoint regularly collects and analyzes industry data on high cost
or high volume unmanaged services to identify the need for specialty managed
care networks. For example, WellPoint has created Centers of Expertise for
certain transplant services.
UTILIZATION MANAGEMENT
In order to better manage quality in its proprietary provider networks,
WellPoint adopts utilization management systems and guidelines that are intended
to reduce unnecessary procedures, admissions and other medical costs. The
utilization management systems seek to provide quality care to WellPoint's
members by ensuring that medical services provided are based on medical
necessity and that all final decisions are made by physicians. In its California
HMO, WellPoint permits PMGs to oversee most utilization management for their
particular medical group under WellPoint's guidelines. Currently, substantially
all of the PMGs in WellPoint's California HMO network have established
committees to oversee utilization management. For its California PPO network,
WellPoint uses treatment guidelines, requires pre-admission approvals of
hospital stays and concurrent review of all admissions and retrospectively
reviews physician practice patterns. Utilization management also includes an
outpatient program, with pre-authorization and retrospective review, ongoing
supervision of inpatient and outpatient care of members, case management and
discharge planning capacity. Review of practice patterns may result in
modifications and refinements to the PPO plan offerings, treatment guidelines
and network contractual arrangements. In addition, WellPoint manages health care
costs by periodically reviewing cost and utilization trends within its provider
networks. Cases are reviewed in the aggregate to identify a high volume of a
particular type of service to identify the most effective method of treatment
while more effectively managing costs. In addition, the Company reviews
high-cost procedures in an effort to provide new quality, cost-effective
treatment by utilizing new technologies or by creating additional networks, such
as its networks of home health agencies.
For the Company's UNICARE managed care health plans, utilization management
is provided both by UNICARE (through the Company's subsidiary CostCare, Inc.
("CCI")) and third-party provider networks. As part of the GBO Acquisition, the
Company acquired CCI, which provides medical management services. The Company
has integrated CCI utilization management services into UNICARE offerings. In
December 1997, CCI (which operates as UNICARE/Cost Care) received a two-year
accreditation from the Utilization Review Accreditation Commission ("URAC"), a
private organization providing voluntary accreditation of utilization review
entities.
8
UNDERWRITING
In establishing premium rates for its health care plans, WellPoint uses
underwriting criteria based upon its accumulated actuarial data, with
adjustments for factors such as claims experience, member mix and industry
differences to evaluate anticipated health care costs. WellPoint's underwriting
practices in the individual and small group market are subject to legislation in
California and other states affecting the individual and small employer group
market. Because UNICARE's members are in every state, the Company's underwriting
practices, especially in the individual and small group market, are subject to a
variety of legislative and regulatory requirements and restrictions. See
"--Government Regulation."
QUALITY MANAGEMENT
Quality management for most of the Company's California business is overseen
by the Company's Quality Management Department and is designed to ensure that
necessary care is provided by qualified personnel. Quality management
encompasses plan level quality performance, provider credentialing, provider and
member grievance monitoring and resolution, medical group auditing, monitoring
medical group compliance with Blue Cross of California standards for medical
records and medical offices, physician peer review and a quality management
committee.
SPECIALTY MANAGED HEALTH CARE AND OTHER PLANS AND SERVICES
WellPoint offers a variety of specialty managed health care and other
services. WellPoint believes that these specialty networks and plans complement
and facilitate the marketing of WellPoint's medical plans and help in attracting
employer groups and other members that are increasingly seeking a wider variety
of options and services. WellPoint also markets these specialty products on a
stand-alone basis to other health plans and other payors.
PHARMACY PRODUCTS
WellPoint offers pharmacy services and pharmacy benefit management services
to its members. WellPoint's pharmacy services incorporate features such as drug
formularies (a WellPoint-developed listing of preferred, cost-effective drugs),
a pharmacy network and maintenance of a prescription drug database and mail
order capabilities. Moreover, pharmacy benefit management services provided by
WellPoint include management of drug utilization through outpatient prescription
drug formularies, retrospective review and drug education for physicians,
pharmacists and members. As of December 31, 1998, WellPoint had more than 15.0
million risk and non-risk pharmacy members and approximately 52,000
participating pharmacies.
DENTAL PLANS
WellPoint's California dental plans include Dental Net, its California
dental HMO, with a provider network of approximately 2,100 dentists reimbursed
on a capitated basis, a dental PPO, with a network of approximately 11,000
dentists, and traditional indemnity plans. As of December 31, 1998, the
Company's dental networks outside of California included approximately 20,000
dentists. The Company's dental products outside of California currently include
a dental PPO in Texas and Georgia. As a result of the MMHD and GBO acquisitions,
the Company has acquired significant additional dental membership outside of
California. The Company's dental plans provide primary and specialty dental
services, including orthodontic services, and as of December 31, 1998, served
approximately 3.1 million dental members.
LIFE INSURANCE
The Company offers primarily term-life insurance to employers, generally in
conjunction with the Company's health plans. The MMHD and GBO acquisitions
expanded the Company's life insurance business both inside and outside of
California. As of December 31, 1998, the Company provided life insurance
products to approximately 2.2 million persons.
9
MENTAL HEALTH PLANS
WellPoint offers specialized mental health and substance abuse programs. The
plans cover mental health and substance abuse treatment services on both an
inpatient and an outpatient basis, through a network of approximately 4,200
contracting providers. In addition, approximately 388 employee assistance and
behavioral managed care programs have been implemented for a wide variety of
businesses throughout the United States. As of December 31, 1998, there were
approximately 740,000 members covered under WellPoint's mental health plans.
UTILIZATION MANAGEMENT
In connection with the GBO Acquisition, the Company acquired CCI, a wholly
owned subsidiary of John Hancock Mutual Life Insurance Company. CCI, which now
operates under the trade name UNICARE/CostCare, provides stand-alone utilization
management and other medical management services to other health plans and
self-funded employers. CCI utilization management services are also integrated
into UNICARE product offerings. As of December 31, 1998, the Company had
approximately 2.9 million utilization management members.
DISABILITY PLANS
The Company offers short- and long-term disability programs, usually in
conjunction with the Company's health plans. As of December 31, 1998, the
Company provided long-term or short-term disability coverage to approximately
800,000 individuals.
LONG-TERM CARE INSURANCE
In November 1997, the Company began offering a group of long-term care
insurance products to its California members through its indirect wholly owned
subsidiary BC Life & Health Insurance Company ("BC Life"). These plans, which
are marketed under the Advantage Blue trade name, involve six different
products. The Company's long-term care products include both a skilled nursing
home care plan and comprehensive policies covering skilled, intermediate and
custodial long-term care, including home health care services.
WORKERS' COMPENSATION MANAGED CARE SERVICES
In California, the Company offers workers' compensation managed care
services, including bill review, network access, medical cost management and
utilization management, to employers who self-insure their workers' compensation
coverage, as well as to workers' compensation carriers.
MANAGEMENT SERVICES
WellPoint provides administrative services to large group employers that
maintain self-funded health plans. In California, the Company often has been
able to capitalize on this relationship by subsequently introducing WellPoint's
underwritten managed care products. The Company's managed care services revenues
have expanded considerably during the last three years as a result of the MMHD
and GBO Acquisitions. These businesses, especially the GBO, are comprised of a
higher percentage of administrative services business than the Company's
traditional California business. WellPoint offers managed care services,
including underwriting, actuarial services, medical cost management, claims
processing and administrative services for self-funded employers. WellPoint also
enables employers with self-funded health plans to use WellPoint's California
PPO and HMO provider networks and to realize savings through WellPoint's
favorable provider arrangements, while allowing employers the ability to design
certain health benefit plans in accordance with their own requirements and
objectives. As of December 31, 1998, WellPoint serviced self-insured health
plans covering approximately 2.6 million medical members.
10
MARKET RESEARCH AND ADVERTISING
WellPoint conducts market research and advertising programs to develop
products and marketing techniques tailored specifically to customer segments.
WellPoint uses print and broadcast advertising to promote its health care plans.
In addition, the Company engages in promotional activities with agents, brokers
and consultants. WellPoint incurred costs of approximately $43.3 million, $36.5
million and $33.7 million on advertising for the years ended December 31, 1998,
1997 and 1996, respectively.
COMPETITION
The managed health care industry in California is competitive on both a
regional and statewide basis. In addition, in recent years there has been a
trend of increasing consolidation among both national and California-based
health care companies, which may further increase competitive pressures.
WellPoint competes with other companies that offer similar managed health care
plans, some of which have greater resources than WellPoint. Currently, WellPoint
is a market leader in offering managed health care plans to individuals and
small employer groups in California. The medical loss ratio attributable to
WellPoint's individual and small group business has historically been lower than
that for its large employer group business. As a result, a larger portion of
WellPoint's profitability is due to the individual and small group business.
WellPoint has experienced increased competition in this market over the last
several years, which could adversely affect its medical loss ratio and future
financial condition, cash flows or results of operations. See "--Factors That
May Affect Future Results of Operations."
The markets in which the Company operates outside of California are also
highly competitive. Because of the many different markets in which the Company
now serves members, the Company faces unique competitive pressures in regional
markets as well as on a national basis. The Company competes with other
companies that offer managed health care plans as well as traditional indemnity
insurance products. Many of these companies have greater financial and other
resources than the Company and greater market share on either a regional or
national basis. As the Company continues to geographically expand its
operations, it will be subject to national competitive factors as well as unique
competitive conditions that may affect the more localized markets in which the
Company operates.
WellPoint believes that significant factors in the selection of a managed
health care plan by employers and individual members include price, the extent
and depth of provider networks, flexibility and scope of benefits, quality of
services, market presence, reputation (which may be affected by public rankings
or accreditation by voluntary organizations such as the National Committee for
Quality Assurance ("NCQA") and the URAC) and financial stability. WellPoint
believes that it competes effectively against other health care industry
participants.
GOVERNMENT REGULATION
CALIFORNIA
DOC AND DOI REGULATION. WellPoint offers its managed health care services
in California principally through its wholly owned indirect subsidiary Blue
Cross of California, which is subject to regulation by the California Department
of Corporations (the "DOC") under the Knox-Keene Health Care Service Plan Act of
1975 (the "Knox-Keene Act"). The insurance business conducted by BC Life is
regulated by the California Department of Insurance (the "California DOI"). Each
entity is subject to various minimum capital and other requirements, such as
restrictions on the payment of dividends or the issuance of capital stock,
established by its respective regulatory authority. Blue Cross of California's
managed health care programs are also subject to extensive DOC regulation
regarding benefit and coverage levels, relationships with health care providers,
administrative capacity, marketing and advertising, procedures for quality
assurance and subscriber and enrollee grievance resolution. Any material
modifications to the organization or operations of Blue Cross of California are
subject to prior review and approval by the DOC. BC Life must obtain approval
from the California DOI for all of its group insurance policies and certain
aspects of its individual policies prior to issuing those policies, as well as
certain other material actions which BC Life
11
may propose to take. The failure to comply with applicable regulations can
subject BCC or BC Life to various penalties, including fines or the imposition
of restrictions on the conduct of its operations.
In 1997, the DOC conducted a triennial medical survey of the Company and
each of its subsidiaries licensed under the Knox-Keene Act. During 1998, the
Company received a preliminary report of the DOC with respect to the surveys.
The Company has provided responses to the preliminary report. Based upon this
preliminary report, the Company does not expect any material impact on its
operations as a result of the surveys. In addition, the DOC conducted a regular
triennial audit during 1998 and early 1999. To date, the Company has not
received any results of this audit from the DOC.
CALIFORNIA HEALTH CARE LEGISLATION. From time to time, new California
legislation is enacted and regulatory interpretations are adopted that adversely
affect WellPoint. For example, California's various small group laws require
that coverage be offered to certain small groups, limit rate increases and
exclusions based on pre-existing conditions, limit waivers (a temporal
limitation of coverage) and impose other requirements designed to increase the
availability of coverage for small groups. This legislation has resulted in
increased claims expense for the Company. There can be no assurance that
compliance with existing or future legislation will not adversely affect
WellPoint's financial condition, cash flows or results of operations.
In 1997, the California Legislature established the Managed Health Care
Improvement Task Force to study and make recommendations regarding managed
health care issues in the state of California. The task force, which was
comprised of appointees chosen by then-California Governor Wilson and by the
Legislature, issued a preliminary report in 1998. The task force's report
included a broad range of recommendations to restructure managed health care in
California, including changes in patient confidentiality requirements,
quality-of-care issues, mandated benefit coverage and the restructuring of
California regulatory oversight of managed health care plans. After providing
its recommendations to Governor Wilson and the California Legislature, the task
force disbanded in 1998. As a result of the task force's recommendations, the
California Legislature did enact new laws in 1998 concerning direct access by
patients to obstetrician/gynecologists, hospital length of stay for mastectomies
and disclosure requirements to members in the individual and small group
markets. During 1998, the California Legislature also enacted new laws, among
others, mandating coverage for prostate cancer screening and certain
reconstructive surgery and requiring health plans under certain circumstances to
continue to cover services rendered by a provider who is not part of the health
plan's provider network.
In December 1998, BCC, along with several other managed care companies and
the California Association of Health Plans, announced an intention to
voluntarily adopt an independent external review program by the end of 1999. BCC
is still in the process of developing the specifics of this program, but it is
anticipated that it will provide members with the opportunity to appeal certain
medical necessity decisions. Since July 1998, BCC has allowed independent
external review of medical necessity decisions involving certain types of
life-threatening illnesses or experimental treatments.
During 1999, the Company expects that legislation may be proposed in
California regarding independent external review, health plan liability and
individual liability of health plan medical directors as well as additional
regulation of the individual market and a variety of other topics. As a result
of the November 1998 California elections, the California governor is now a
member of the same political party as a majority of the members of both houses
of the California Legislature, thereby increasing the likelihood of the passage
of health care reform legislation. While it is still too early to determine if
any additional legislation will be enacted into law, such legislation could have
a material adverse effect on the Company's results of operations, cash flows or
financial condition.
FEDERAL
RECENT FEDERAL HEALTH CARE LEGISLATION. In August 1997, the President
signed into law the Balanced Budget Act of 1997 (the "Balanced Budget Act"). The
Balanced Budget Act included a number of measures affecting the provision of
health care. The act placed restrictions on the variation in Medicare
12
reimbursement amounts (so-called "risk adjusters") between counties. HCFA has
released proposed risk adjusters for year 2000 implementation. In addition, the
Balanced Budget Act expanded the managed health plan options available to
Medicare enrollees to include PPO, POS and high deductible health plans intended
for MSAs. Regulations regarding these changes were adopted in June 1998.
Finally, the Balanced Budget Act implemented certain changes with respect to
Medicare supplement programs, including guaranteed coverage issues. Certain of
the changes under the Balanced Budget Act could have the result of increasing
the Company's costs.
In November 1997, the Advisory Commission on Consumer Protection and Quality
in the Health Care Industry (the "Clinton Quality Commission"), which had been
appointed by President Clinton to formulate recommendations regarding health
care quality and the protection of consumers, released a "Consumer Bill of
Rights and Responsibilities" containing a number of general and specific
recommendations regarding the provision of health care in the United States. No
legislation has yet been adopted as a result of its recommendations. In February
1998, the President issued an executive order to the government administrators
of each of the government-sponsored health programs directing them to take
appropriate actions to insure compliance with some or all of the recommendations
made in the Consumer Bill of Rights by various dates on or before December 31,
1999. Compliance with the President's executive order is likely to increase
health plan costs associated with these government-sponsored programs. In 1998,
the Department of Labor also issued proposed regulations regarding a mandated
health plan grievance and appeal process. These regulations would apply to all
plans subject to the Employee Retirement and Income Security Act of 1974
("ERISA"), including employer-funded plans. These regulations, if adopted, could
have the effect of increasing the Company's expenses.
On August 21, 1996, the President signed into law the Health Insurance
Portability and Accountability Act of 1996 (originally known in the Senate as
the Kennedy-Kassebaum bill) ("HIPAA"). HIPAA and the implementing regulations
that have been subsequently adopted impose new obligations for issuers of health
insurance coverage and health benefit plan sponsors. HIPAA requires certain
guaranteed issuance and renewability of health coverage for individuals and
small groups (generally 50 or fewer employees) and limits exclusions based on
preexisting conditions. Most of the insurance reform provisions of HIPAA became
effective for "plan years" beginning July 1, 1997.
Maternity length of stay and mental health parity benefits measures became
effective for plan years beginning January 1, 1998. The maternity stay provision
requires health plans to cover the cost of a 48-hour hospital stay (96 hours
following a Caesarian section). This measure does not mandate the length of
hospital stays but requires that longer stays be covered if deemed necessary by
the mother or her physician (in consultation with the mother). Although many
states already guarantee minimum hospital stays for mothers and newborns, these
measures have further increased WellPoint's claims expense.
MEDICARE LEGISLATION. WellPoint's health benefits programs include products
that are marketed to Medicare beneficiaries as a supplement to their Medicare
coverage. These products are subject to Federal regulations intended to provide
Medicare supplement customers with standard minimum benefits and levels of
coverage and full disclosure of coverage terms and assure that fair sales
practices are employed in the marketing of Medicare supplement coverage.
In California, WellPoint provides a senior plan product under a Medicare +
Choice contract that is subject to regulation by HCFA. Under this contract and
HCFA regulations, if WellPoint's premiums received for Medicare-covered health
care services provided to senior plan Medicare members are more than the
Company's projected costs associated with the provision of health care services
provided to senior plan members, then WellPoint must provide its senior plan
members with additional benefits beyond those required by Medicare or reduce its
premiums, or deductibles or co-payments, if any. HCFA has the right to audit
HMOs operating under Medicare contracts to determine the quality of care being
rendered and the degree of compliance with HCFA's contracts and regulations.
FUTURE HEALTH CARE REFORM. A number of legislative proposals have been made
at the Federal and state levels over the past several years. These proposals
would, among other things, mandate benefits with
13
respect to certain diseases or medical procedures, require plans to offer an
independent external review of certain coverage decisions or establish health
plan liability in a manner similar to the Texas legislation discussed in the
following section. There have been proposals made at the Federal level to
implement greater restrictions on employer-funded health plans, which are
generally exempted from state regulation by ERISA.
WellPoint is unable to evaluate what legislation may be proposed and when or
whether any legislation will be enacted and implemented. However, many of the
proposals, if adopted, could have a material adverse effect on WellPoint's
financial condition, cash flows or results of operations, while others, if
adopted, could potentially benefit WellPoint's business.
OTHER STATES
The Company's activities in other states are subject to state regulation
applicable to the provision of managed health care services and the sale of
traditional health indemnity insurance. As a result of the MMHD and GBO
Acquisitions, the Company and certain of its subsidiaries are also subject to
regulation by the DOI in Delaware (which is the state of incorporation and
domicile of UL&H) and in all other states. As the Company expands its offering
of managed care products in new geographic locations, it will be subject to
additional regulation by governmental agencies applicable to the provision of
health care services. The Company believes it is in compliance in all material
respects with all current state regulatory requirements applicable to its
business as presently conducted. However, changes in government regulations
could affect the level of services which the Company is required to provide or
the rates which the Company can charge for its health care products and
services.
As the Company continues to expand its operations outside of California, new
legislative and regulatory developments in Delaware, Texas, Georgia (especially
after the expected completion of the Cerulean transaction) and various other
states will have greater potential effect on the Company's financial condition,
cash flows or results of operations. Over the past few years, there has been an
increase throughout the United States in proposed state legislation regarding,
among other things, mandated benefits, health plan liability, third-party review
of health plan coverage determinations and health plan relationships with
providers. The Company expects that this trend of increased legislation will
continue. In this regard, in early 1999 several bills have been introduced in
the Georgia Legislature, including one that would require managed care plans to
offer coverage for services rendered by out-of-network providers and one that
would establish a "consumer advocate" with authority to review and comment upon
matters pending before the Department of Insurance Commissioner. These laws, if
passed, could have the effect of increasing the Company's claims expense,
especially after the anticipated completion of the Cerulean transaction.
In 1997, the Texas legislature adopted SB 386 which, among other things,
purports to make managed care organizations ("MCOs") such as the Company liable
for the failure by the MCO, its employees or agents to exercise ordinary care
when making "health care treatment decisions" (as defined in the legislation).
The legislation was effective as of September 1, 1997. In September 1998, the
United States District Court for the Southern District of Texas ruled, in part,
that the MCO liability provisions of SB 386 are not preempted by ERISA. To date,
this legislation has not adversely affected the Company's results of operations.
However, although the Company maintains insurance covering such liabilities, to
the extent that this legislation (or similar legislation that may be
subsequently adopted at the Federal or state level) effectively expands the
scope of liability of MCOs, such as the Company, it may have a material adverse
effect on the Company's results of operations and financial condition. Even if
the Company is not held liable under any litigation, the existence of potential
MCO liability may cause the Company to incur greater costs in defending such
litigation.
In connection with the GBO Acquisition, the Company has entered into a
reinsurance arrangement, on a 100% coinsurance basis, of the insured business of
the GBO. This business includes approximately 125 insured persons in Canada
covered by group policies issued to U.S.-based employers. As a result, the
Company may be subject to certain rules and regulations of applicable Canadian
regulatory agencies.
14
SERVICE MARKS
WellPoint and its subsidiaries have filed for registration of and maintain
several service marks, trademarks and trade names at the Federal level and in
California, including "Prudent Buyer Plan," "CaliforniaCare" and "UNICARE."
WellPoint, Blue Cross of California and BC Life are currently parties to license
agreements with the Blue Cross Blue Shield Association ("BCBSA") which allow
them to use the Blue Cross name and mark in California with respect to
WellPoint's HMO and PPO network-based plans. Cerulean has also been granted
similar BCBSA licenses for the state of Georgia, which licenses are expected to
be transferred to WellPoint at the closing of the Cerulean transaction. The
BCBSA is a national trade association of Blue Cross and Blue Shield licensees,
the primary function of which is to promote the Blue Cross and Blue Shield
names. Each licensee is an independent legal organization and is not responsible
for the obligations of other BCBSA member organizations. A Blue Cross or Blue
Shield license requires payment of a fee to the BCBSA and compliance with
various requirements established by the BCBSA, including the maintenance of
specified capital. The failure to meet such capital requirements can subject the
Company to certain corrective action, while the failure to meet a lower
specified level of capital can result in termination of the Company's license
agreement with the BCBSA. WellPoint considers the licensed Blue Cross name and
its registered service marks, trademarks and trade names important in the
operation of its business.
EMPLOYEES
At December 31, 1998, WellPoint and its subsidiaries employed approximately
10,600 people. Approximately 140 of the Company's employees are presently
covered by a collective bargaining agreement with the Office and Professional
Employees International Union, Local 29. As a result of the GBO Acquisition,
approximately 209 of the Company's office clerical employees in the greater
Detroit area are presently covered by a collective bargaining agreement with the
International Brotherhood of Teamsters, Chauffeurs, Warehousemen and Helpers of
America, Local No. 614. WellPoint believes that its relations with its employees
are good, and it has not experienced any work stoppages.
EXECUTIVE OFFICERS
Leonard D. Schaeffer, age 53, has been Chairman of the Board of Directors
and Chief Executive Officer of the Company since August 1992. From 1989 until
May 1996, Mr. Schaeffer was also Chairman of the Board of Directors and, from
1986, Chief Executive Officer of BCC. From 1982 to 1986, Mr. Schaeffer served as
President of Group Health, Inc., an HMO in the midwestern United States. Prior
to joining Group Health, Inc., Mr. Schaeffer was the Executive Vice President
and Chief Operating Officer of the Student Loan Marketing Association ("Sallie
Mae"), a financial institution that provides a secondary market for student
loans, from 1980 to 1981. From 1978 to 1980, Mr. Schaeffer was the Administrator
of HCFA. HCFA administers the Federal Medicare, Medicaid and Peer Review
Organization programs. Mr. Schaeffer serves as a director of Allergan, Inc.
D. Mark Weinberg, age 46, has been appointed Executive Vice President,
Individual and Small Group Businesses of the Company to be effective April 1999.
From October 1995 until March 1999, he has served as Executive Vice President,
UNICARE Businesses of the Company. From August 1992 until May 1996, Mr. Weinberg
served as a director of the Company. From February 1993 to October 1995, Mr.
Weinberg was Executive Vice President, Consumer and Specialty Services of the
Company. Prior to February 1993, Mr. Weinberg was Executive Vice President of
BCC's Consumer Services Group from December 1989 to February 1993 and was Senior
Vice President of Individual and Senior Services of BCC from April 1987 to
December 1989. From 1981 to 1987, Mr. Weinberg held a variety of positions at
Touche Ross & Co. From 1976 to 1981, Mr. Weinberg was general manager for the
CTX Products Division of PET, Inc.
Ronald A. Williams, age 49, has been appointed Executive Vice President,
Large Group Businesses of the Company to be effective April 1999. From October
1995 until March 1999, he has served as Executive Vice President, Blue Cross of
California Businesses of the Company. From August 1992 until May 1996, Mr.
Williams served as a director of the Company. From February 1993 to October
1995, Mr. Williams was
15
Executive Vice President, Group and Network Services of the Company. Prior to
February 1993, Mr. Williams was Executive Vice President of BCC's Group Services
from May 1992 to February 1993. Prior to that time, Mr. Williams served as
Executive Vice President of BCC's Health Services and Products Group from
December 1989 to May 1992 and as BCC's Senior Vice President of Marketing and
Related Products from November 1988 to December 1989. From May 1987 to November
1988 he was Vice President of Corporate Services of BCC. From July 1984 to May
1987 he was Senior Vice President of Vista Health Corporation, an alternative
delivery system for outpatient psychological and substance abuse services of
which he was also a co-founder. Mr. Williams also serves as a director of Syncor
International Corporation.
Joan E. Herman, age 45, joined the Company in June 1998 as Executive Vice
President, Specialty Businesses. Effective April 1999, Ms. Herman is Executive
Vice President, Senior and Specialty Businesses. From 1982 until joining the
Company, Ms. Herman was with Phoenix Home Life Mutual Insurance Company, a
mutual insurance company, most recently serving as Senior Vice President. Ms.
Herman is a member of the Society of Actuaries and American Academy of
Actuaries.
Clifton R. Gaus, age 56, joined the Company in March 1999 as Executive Vice
President and Chief Administrative Officer. From March 1997 until joining the
Company, Mr. Gaus was Senior Vice President, Research and Development of Kaiser
Permanente, a managed health care firm. Mr. Gaus was the owner and president of
a privately owned company, Potomac Valley Landscaping, Inc., from March 1997 to
1998. From February 1992 until March 1997, Mr. Gaus worked in the United States
Department of Health and Human Services, where he served in various positions,
including the Administrator of the Agency for Health Care Policy and Research
and senior advisor for the Office of Assistant Secretary. Mr. Gaus was the
founder and initial President of the Association for Health Services Research.
David C. Colby, age 45, joined the Company in September 1997 as Executive
Vice President and Chief Financial Officer. From April 1996 until joining the
Company, Mr. Colby was Executive Vice President, Chief Financial Officer and
Director of American Medical Response, Inc., a health care services company
focusing on ambulance services and emergency physician practice management. From
July 1988 until March 1996, Mr. Colby was with Columbia/HCA Healthcare
Corporation, most recently serving as Senior Vice President and Treasurer. From
September 1983 until July 1988, Mr. Colby was Senior Vice President and Chief
Financial Officer of The Methodist Hospital in Houston, Texas.
Thomas C. Geiser, age 48, has been Executive Vice President, General Counsel
and Secretary of the Company since May 1996. From July 1993 until May 1996, Mr.
Geiser held the position of Senior Vice President, General Counsel and
Secretary. Prior to joining the Company, he was a partner in the law firm of
Brobeck, Phleger & Harrison from June 1990 to June 1993 and a partner in the law
firm of Epstein Becker Stromberg & Green from May 1985 to May 1990. Mr. Geiser
joined the law firm of Hanson, Bridgett, Marcus, Vlahos & Stromberg as an
associate in March 1979 and became a partner in the firm, leaving in May 1985.
MAY 1996 RECAPITALIZATION AND AUGUST 1997 REINCORPORATION
The Company's predecessor, WellPoint Health Networks Inc., a Delaware
corporation ("Old WellPoint"), was organized in 1992 as a public for-profit
subsidiary of Blue Cross of California ("BCC"), to own and operate substantially
all of the managed health care businesses of BCC. In order to fulfill BCC's
public benefit obligations to the State of California arising out of the
creation of Old WellPoint, BCC and Old WellPoint undertook a recapitalization
(the "Recapitalization") which was concluded on May 20, 1996. As a result of the
Recapitalization, among other things, Old WellPoint merged into BCC, a special
dividend of $995.0 million was made to the shareholders of Old WellPoint and the
California HealthCare Foundation (the "Foundation") became the holder of
53,360,000 shares, or approximately 80%, of the surviving WellPoint entity.
In connection with the Recapitalization, BCC relinquished its rights under
the Blue Cross License Agreement date January 1, 1991, between Blue Cross of
California and the BCBSA. The BCBSA and the
16
Company entered into a new License Agreement (the "License Agreement"), pursuant
to which the Company became the exclusive licensee for the right to use the Blue
Cross name and related service marks in California and became a member of the
BCBSA. See "--Service Marks."
The License Agreement required that the Foundation enter into a voting trust
agreement (the "Voting Trust Agreement"), pursuant to which the Foundation
deposited into a voting trust (the "Voting Trust") the number of shares of the
Company's Common Stock sufficient to reduce the Foundation's holdings outside
such Voting Trust to a level not in excess of 50% of the voting power of the
outstanding shares of the Company's Common Stock. The shares held by the trustee
under the Voting Trust Agreement (the "Voting Trust Shares") generally must be
voted (i) with respect to elections of directors, where the nominees have been
selected by the Nominating Committee (or, in certain instances, subsets of the
Board) in conformity with procedures set forth in the Company's Bylaws, to
support the position of the Board of Directors, (ii) with certain exceptions, on
matters requiring a vote of at least an absolute majority of all outstanding
shares of Common Stock, as the majority of non-Voting Trust Shares vote, and
(iii) on all other matters, in the identical proportion in favor of or in
opposition to such matters as non-Voting Trust Shares vote. With respect to the
removal of directors, calling of stockholder meetings and amendments of the
Company's Certificate of Incorporation and Bylaws, where such actions are
opposed by the Board of Directors, the Foundation has also agreed under the
Voting Trust Agreement to support the position of the Board of Directors. In
addition, the Voting Trust Agreement requires that the Foundation, through sales
(which may involve exercises of its registration rights discussed below) or
additional deposits into the Voting Trust, reduce its holdings outside the
Voting Trust to 20% and 5% of the outstanding Common Stock on and after June 12,
1998 and June 12, 1999, respectively. As of March 15, 1999, approximately
4,426,818 shares held by the Foundation were subject to the provisions of the
Voting Trust Agreement. As of March 15, 1999, the Foundation owned 17,910,000
shares of WellPoint Common Stock, or approximately 26.6% of the outstanding
Common Stock.
With respect to those shares held by the Foundation in excess of the
"Ownership Limit" (as defined in the Company's Certificate of Incorporation and
discussed further in the following paragraph) that are not subject to the Voting
Trust Agreement, the Foundation has also entered into a voting agreement (the
"Voting Agreement"). The Voting Agreement provides among other things, that the
Foundation, during the period that it continues to own in excess of the
Ownership Limit, will vote all shares of the Company's Common Stock owned by it
in excess of 5% of the outstanding shares (except those shares held pursuant to
the Voting Trust Agreement) in favor of each nominee to the Board of Directors
of the Company who has been nominated by the Nominating Committee of the Board
of Directors, or under certain circumstances, other subsets of the board, all as
set forth in the Company's Bylaws. With respect to the removal of directors,
calling of shareholder meetings and amendment of the Company's Articles of
Incorporation and Bylaws, where such actions are opposed by the Board of
Directors, the Foundation has also agreed under the Voting Agreement to support
the position of the Board of Directors. As of March 15, 1999, approximately
10,112,384 shares held by the Foundation were subject to the Voting Agreement.
At the time of the Recapitalization, the "Ownership Limit" was established
as one share less than 5% of the Company's outstanding voting securities. In
December 1997, the Company and the BCBSA, in accordance with the provisions of
Article VII, Section 14(f)(2) of the Company's Certificate of Incorporation,
agreed to modify the Ownership Limit to be the following: (i) for any
"Institutional Investor," one share less than 10% of the Company's outstanding
voting securities; and (ii) for any "Noninstitutional Investor," other than the
Foundation, one share less than 5% of the Company's outstanding voting
securities. For these purposes, "Institutional Investor" means any person if
(but only if) such person is (1) a broker or dealer registered under Section 15
of the Securities Exchange Act of 1934 (the "Exchange Act"), (2) a bank as
defined in Section 3(a)(6) of the Exchange Act, (3) an insurance company as
defined in Section 3(a)(19) of the Exchange Act, (4) an investment company
registered under Section 8 of the Investment Company Act of 1940, (5) an
investment adviser registered under Section 203 of the Investment Advisers Act
of 1940, (6) an employee benefit plan, or pension fund which is subject to the
provisions of the Employee Retirement Income Security Act of 1974 or an
endowment fund, (7) a parent
17
holding company, provided the aggregate amount held directly by the parent, and
directly and indirectly by its subsidiaries which are not persons specified in
paragraphs (1) through (6), does not exceed one percent of the securities of the
subject class, or (8) a group, provided that all the members are persons
specified in paragraphs (1) through (7). In addition, every filing made by such
person with the SEC under Regulation 13D-G (or any successor Regulation) under
the Exchange Act with respect to such person's beneficial ownership must contain
a certification (or a substantially similar one) that the WellPoint Common Stock
acquired by such person was acquired in the ordinary course of business and was
not acquired for the purpose of and does not have the effect of changing or
influencing the control of WellPoint and was not acquired in connection with or
as a participant in any transaction having such purpose or effect. For such
purposes, "Noninstitutional Investor" means any person that is not an
Institutional Investor.
In connection with the Recapitalization, the Company and the Foundation also
entered into a registration rights agreement (the "Registration Rights
Agreement") with respect to the shares of the Company held by the Foundation.
The Registration Rights Agreement grants the Foundation (and certain transferees
of the shares covered by the Registration Rights Agreement), certain demand and
"piggyback" registration rights. The undertakings made by Old WellPoint in order
to secure the DOC's approval of the Recapitalization required the Foundation to
make certain minimum annual distributions beginning in 1997. In order to fund
such required distributions, the Foundation may make sales from time to time of
shares of the Company's Common Stock pursuant to the exercise of its rights
under the Registration Rights Agreement.
In connection with the Recapitalization, BCC also received a ruling from the
IRS that, among other things, the conversion of BCC from a nonprofit public
benefit corporation to a for-profit entity (the "BCC Conversion") qualified as a
tax-free transaction and that no gain or loss was recognized by BCC for Federal
income tax purposes. The Foundation and the Company have entered into an
Indemnification Agreement which provides, with certain exceptions, that the
Foundation will indemnify WellPoint against the net tax liability as a result of
a revocation or modification, in whole or in part, of the ruling by the IRS or a
determination by the IRS that the BCC Conversion constitutes a taxable
transaction for Federal income tax purposes.
In August 1997, pursuant to approval by the stockholders at the Company's
1997 Annual Meeting, the Company reincorporated in the state of Delaware. Each
of the material agreements (other than the Indemnification Agreement) entered
into in connection with the Recapitalization was amended and restated on
substantially similar terms at the time of the reincorporation.
FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATION
Certain statements contained in "Item 1. Business," such as statements
concerning the Company's geographic expansion and other business strategies, the
effect of recent health care reform legislation and small group membership
growth and other statements contained herein regarding matters that are not
historical facts, are forward-looking statements (as such term is defined in the
Exchange Act). Such statements involve a number of risks and uncertainties that
may cause actual results to differ from those projected. Factors that can cause
actual results to differ materially include, but are not limited to, those
discussed below. Readers are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date hereof.
FEDERAL AND STATE HEALTH CARE REGULATION; LEGISLATIVE REFORM; ACTIVITIES AS
GOVERNMENT CONTRACTOR
WellPoint's operations are subject to substantial regulation by Federal,
state and local agencies. As a result of the MMHD and GBO Acquisitions,
WellPoint is now subject to the authority of state regulatory agencies in all 50
states. Such regulation may either relate to the Company's business operations
or to the financial condition of regulated subsidiaries. With regard to the
former, regulation typically covers prescribed benefits, relationships with
providers, marketing, advertising, quality assurance and member grievance
resolution. With regard to the latter, regulation typically governs the amount
of capital required to be retained in regulated subsidiaries and the ability of
such subsidiaries to pay dividends. There can be
18
no assurance that any future regulatory action by any such agencies will not
have a material adverse effect on the profitability or marketability of
WellPoint's health plans, the Company's ability to access capital from the
operations of its regulated subsidiaries or on its financial condition, cash
flows or result of operations.
In addition to capital requirements imposed by the California Department of
Corporations and Department of Insurance, the Company and its BCBSA-licensed
affiliates are required to maintain certain levels of capital to satisfy BCBSA
requirements. During 1998, the National Association of Insurance Commissioners
(the "NAIC"), the trade association representing state insurance regulators,
adopted a risk-based capital formula for licensed managed care organizations
called Managed Care Organization Risk-Based Capital ("MCORBC"). The NAIC also
approved an accompanying Risk-Based Capital for Health Organizations Model Act
(the "Model Act"), which will serve as a model for states considering enacting
new legislation. The BCBSA is expected to transition to the MCORBC formula
effective as of December 31, 1999. If adopted by states, the minimum capital
requirements under the Model Act are not expected to have a material impact on
the Company, although there can be no assurances that new minimum capital
requirements will not increase the Company's capital requirements in the future.
The health care industry has become the subject of greater legislative and
media scrutiny in recent years. In 1996, the President signed HIPAA into law as
well as maternity length of stay and mental health parity measures. The
maternity length of stay and mental health parity measures took effect as of
January 1, 1998. See "--Government Regulation." Various states have passed
similar legislation, some providing for more extensive benefits than those
required by HIPAA. An increasing number of proposals are being considered by the
United States Congress and state legislature relating to health care reform and
the Company expects that some of such proposals will be enacted. There can be no
assurance that compliance with recently enacted or future legislation will not
have a material adverse impact on WellPoint's claims expense, its financial
condition, cash flows or results of operations.
The Company provides administrative services for Medi-Cal for the DHS in
various California counties. The Company also provides similar services for HCFA
in various capacities, including certain Medicare programs and under its Blue
Cross Senior Secure plan. There can be no assurance that acting as a government
contractor in these circumstances will not increase the risk of heightened
scrutiny by such government agencies, particularly in light of governmental
concern with increasing health care costs. Further, there can be no assurance
any such heightened scrutiny will not have a material adverse effect on the
Company either through negative publicity about the Company or through an
adverse impact on the Company's results of operations.
HEALTH CARE COSTS AND PREMIUM PRICING PRESSURES
WellPoint's future profitability will depend in part on accurately
predicting health care costs and on its ability to control future health care
costs through underwriting criteria, utilization management, product design and
negotiation of favorable provider and hospital contracts. Changes in utilization
rates, demographic characteristics, health care practices, inflation, new
technologies, clusters of high-cost cases, continued consolidation of physician,
hospital and other provider groups, the regulatory environment and numerous
other factors affecting health care costs may adversely affect WellPoint's
ability to predict and control health care costs as well as WellPoint's
financial condition or results of operations. Periodic renegotiation of hospital
and other provider contracts, coupled with continued consolidation of physician,
hospital and other provider groups, may result in increased health care costs or
limit the Company's ability to negotiate favorable rates. Recently, large
physician practice management companies have experienced extreme financial
difficulties (including bankruptcy), which may subject the Company to increased
credit risk related to provider groups.
19
In addition to the challenge of controlling health care costs, the Company
faces competitive pressure to contain premium prices. While health plans compete
on the basis of many factors, including service and the quality and depth of
provider networks, the Company expects that price will continue to be a
significant basis of competition. Fiscal concerns regarding the continued
viability of programs such as Medicare and Medicaid may cause decreasing
reimbursement rates for government-sponsored programs. WellPoint's financial
condition or results of operations would be adversely affected by significant
premium decreases by any of its major competitors or by any limitation on the
Company's ability to increase or maintain its premium levels.
PENDING TRANSACTION WITH CERULEAN
WellPoint has entered into the Merger Agreement with Cerulean pursuant to
which Cerulean will become a wholly owned subsidiary of the Company. (See
"--Recent Developments--Pending Transaction with Cerulean.") Completion of the
Merger is subject to the satisfaction of a number of conditions, including
approval by the Georgia Department of Insurance. There can be no assurances that
the required approvals will be obtained. In addition, the timing of the
resolution of the Conversion Litigation could delay the closing. If all
conditions to closing are not met on or before July 8, 1999, each of WellPoint
and Cerulean will have the right to terminate the Merger Agreement. As a result,
there can be no assurances that the transaction will be consummated.
As a condition to approval of the transaction, regulatory agencies may
impose requirements or limitations on the way that the combined company conducts
its business. If WellPoint or Cerulean were to agree to any material
requirements or limitations in order to obtain approvals, such requirements or
limitations or additional costs associated therewith could adversely affect
WellPoint's ability to intergrate the operations of Cerulean with those of
WellPoint. Accordingly, a material adverse effect on WellPoint's revenues and
results of operations following the merger could result.
INTEGRATION OF ACQUISITIONS; GEOGRAPHIC EXPANSION STRATEGY; FUTURE ACQUISITIONS
One component of the Company's business strategy has been to diversify into
new geographic markets, particularly through strategic acquisitions. The Company
completed the MMHD acquisition in March 1996 and the GBO acquisition in March
1997. During 1997 and 1998, the Company worked extensively on the integration of
these acquired businesses, including consolidating existing operations sites and
converting certain accounts to the Company's information systems. The Company is
continuing the consolidation of these recently acquired operations into its
operations, which will require considerable expenditures and a significant
amount of management time. Assuming the acquisition of Cerulean is consummated,
WellPoint will then undertake similar integration efforts for this acquired
business. Due to the complex nature of the merger integration process,
particularly the information systems designed to serve these businesses, the
Company may temporarily experience increases in claims inventory or other
service-related issues that may negatively affect the Company's relationship
with its customers and contribute to increased attrition of such customers. The
success of these acquisitions will, among other things, also require the
integration of a significant number of the employees into the Company's existing
operations and the completion of the integration of separate information
systems. No assurances can be given regarding the ultimate success of the
integration of these acquisitions into the Company's business.
Both the acquired MMHD operations and the GBO have some indemnity-based
insurance operations, with a significant number of members outside of
California. Each of these operations experienced varying profitability or losses
in recent periods. As anticipated at the time of acquisition, the Company has
experienced material membership attrition related to these businesses in 1998
and the early part of 1999 and expects to continue to experience membership
attrition during 1999 as it pursues its strategy of motivating traditional
indemnity health insurance members to select managed care products. There can be
no assurances that a sufficient number of these members will accept managed care
health plans or that the Company will be able to continue existing relationships
with provider networks currently serving those
20
members or develop satisfactory proprietary provider networks in these
geographic areas. The development of such networks will require considerable
expenditures by the Company.
As the Company pursues its geographic expansion strategy, the Company's
market share in new markets will not be as significant, and its provider
networks not as extensive, as in California, and the Company will not have the
benefit of the Blue Cross mark (except in Georgia after completion of the
Cerulean transaction), which are important components of its success in
California. After an initial transition period, the Company will also no longer
have the benefit of the MassMutual or John Hancock trade names under which these
acquired operations were previously conducted. There can be no assurance that
the absence of one or more of these elements will not adversely affect the
success of the Company's geographic expansion strategy.
The Company actively considers acquisition opportunities on a regular basis,
both in connection with its geographic expansion strategy and its California
operations. Except with respect to Cerulean, the Company currently has no
existing agreements or commitments to effect any material acquisition.
Accordingly, there can be no assurance that the Company will be able to identify
additional acquisition candidates available for sale at reasonable prices or
consummate any acquisition or that any discussions will result in an
acquisition. Any such acquisitions may require significant additional capital
resources and there can be no assurance that the Company will have access to
adequate capital resources to effect such future acquisitions. To the extent
that the Company consummates acquisitions, there can be no assurance that such
acquisitions will be successfully integrated into the Company or that such
acquisitions will not adversely affect the Company's results of operations, cash
flows and financial condition.
COMPETITION
Managed health care organizations operate in a highly competitive
environment that is subject to significant change from business consolidations,
new strategic alliances, legislative reform, aggressive marketing practices by
other managed health care organizations and other market pressures. A
significant portion of the Company's operations are in California, where the
managed health care industry is especially competitive. In addition, the managed
health care industry in California has undergone significant changes in recent
years, including substantial consolidation. Outside of California, the Company
faces competition from other regional and national companies, many of which have
(or due to future consolidation, may have) significantly greater financial and
other resources and market share than the Company. If competition were to
further increase in any of its markets, WellPoint's financial condition, cash
flows or results of operations could be materially adversely affected.
A substantial portion of WellPoint's California business is in the
individual and small employer group market, where the loss ratio is
significantly lower than in the large employer group market. The individual and
small employer group business constituted approximately 34% of WellPoint's total
premium revenue for the year ended December 31, 1998. WellPoint has experienced
increasing competition in the individual and small employer group market over
the past several years, which could adversely affect WellPoint's loss ratio and
future financial condition or results of operations. See "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations."
EVOLVING THEORIES OF RECOVERY
WellPoint, like health insurers generally, excludes certain health care
services from coverage under its HMO, PPO and other plans. In the ordinary
course of business, WellPoint is subject to the claims of its members from
decisions to restrict reimbursement for certain treatments. The loss of even one
such claim, if it were to result in a significant punitive damage award, could
have a material adverse effect on WellPoint's financial condition or results of
operations. In addition, the risk of potential liability under punitive damage
theories may significantly increase the difficulty of obtaining reasonable
settlements of coverage claims. The financial and operational impact that such
evolving theories of recovery may have on
21
the managed care industry generally, or WellPoint in particular, is presently
unknown. See "--Government Regulation."
DEPENDENCE ON INDEPENDENT AGENTS AND BROKERS
The Company is dependent on the services of independent agents and brokers
in the marketing of its health care plans, particularly with respect to
individual and small employer group members. Such independent agents and brokers
are typically not exclusively dedicated to the Company and may frequently also
market health care plans of the Company's competitors. The Company faces intense
competition for the services and allegiance of independent agents and brokers.
EMPLOYEE MATTERS
The Company is dependent on retaining existing employees and attracting and
retaining additional qualified employees to meet its future needs. The Company
faces intense competition for qualified employees, particularly during the
present economic environment of low unemployment, and there can be no assurance
that the Company will be able to attract and retain such employees or that such
competition among potential employers will not result in increasing salaries.
There can be no assurance that an inability to retain existing employees or
attract additional employees will not have a material adverse effect on the
results of operations of the Company. The Company is especially dependent on
attracting and retaining qualified computer programmers and other information
technology personnel. See "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations--Year 2000."
EFFECT OF YEAR 2000 ON COMPUTER SYSTEMS AND APPLICATIONS
The Company has developed and is in the midst of executing a comprehensive
plan designed to address the year 2000 issue for its information technology
("IT") and non-information technology systems and applications ("non-IT
systems"). With respect to IT systems, during 1997 the Company completed a
detailed risk assessment of its various computer systems, business applications
and other affected systems, formulated a plan for specific remediation efforts
and began certain of such remediation efforts. During 1998 and the first quarter
of 1999, the Company completed its remediation efforts and undertook internal
testing of its systems and applications. In the second quarter of 1999, the
Company expects to undergo third-party review of certain of its year 2000
remediation efforts. This third party review will include an assessment of
certain procedures undertaken by the Company as well as a computer software test
of select portions of the Company's computer code. With respect to non-IT
systems, the Company is currently in the process of completing the replacement
or renovation of Company-owned systems to address year 2000 issues. The Company
is also completing an assessment and, where appropriate, obtaining
certifications, from property owners that non-IT systems in leased facilities
will be remediated or replaced on a timely basis. The Company currently expects
that its year 2000 remediation efforts and third-party review with respect to
non-IT systems will be completed in the second quarter of 1999. See "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations--Year 2000" for a more comprehensive discussion of the year 2000
issue, the steps being taken by the Company to address it and the potential
effects on the Company's results of operations, cash flows and financial
condition of this issue.
TAX ISSUES RELATING TO THE RECAPITALIZATION
In connection with the Recapitalization, BCC received a ruling from the IRS
that, among other things, the BCC Conversion qualified as a tax-free transaction
and that no gain or loss was recognized by BCC for Federal income tax purposes.
If the ruling were subsequently revoked, modified or not honored by the IRS (due
to a change in law or for any other reason), WellPoint, as the successor to BCC,
could be subject to Federal income tax on the difference between the value of
BCC at the time of the BCC Conversion and BCC's tax basis in its assets at the
time of the BCC Conversion. The potential tax liability to WellPoint if
22
the BCC Conversion is treated as a taxable transaction is currently estimated to
be approximately $696 million, plus interest (and possibly penalties). BCC and
the Foundation entered into an Indemnification Agreement that provides, with
certain exceptions, that the Foundation will indemnify WellPoint against the net
tax liability as a result of a revocation or modification, in whole or in part,
of the ruling by the IRS or a determination by the IRS that the BCC Conversion
constitutes a taxable transaction for Federal income tax purposes. In the event
a tax liability should arise against which the Foundation has agreed to
indemnify WellPoint, there can be no assurance that the Foundation will have
sufficient assets to satisfy the liability in full, in which case WellPoint
would bear all or a portion of the cost of the liability, which could have a
material adverse effect on WellPoint's financial condition.
ITEM 2. PROPERTIES.
Effective as of January 1, 1996, the Company entered into a lease for Blue
Cross of California's Woodland Hills, California headquarters facility, which
provides for a term expiring in December 2019 with two options to extend the
term for up to two additional five-year terms. Rent expense under the lease was
approximately $8.4 million during 1998. In 1997, the Company entered into a
lease, which expires in December 2019, for its new headquarters facility located
in Thousand Oaks, California. This facility was completed in January 1999. The
Company and its subsidiaries have additional offices in the greater Los Angeles
and Ventura County area. As a result of the MMHD and GBO acquisitions and the
Company's continuing national expansion efforts, the Company maintains offices
in various other locations, including Springfield, Massachusetts; Charlestown,
Massachusetts; Schaumburg, Illinois; Dearborn, Michigan; and Plano, Texas.
ITEM 3. LEGAL PROCEEDINGS.
WellPoint and certain of its subsidiaries are parties to various legal
proceedings, many of which involve claims for coverage encountered in the
ordinary course of its business. WellPoint, like health plans generally,
excludes certain health care services from coverage under its HMO, PPO and other
plans. In the ordinary course of its business, WellPoint is subject to the
claims of its enrollees arising out of decisions to restrict reimbursement for
certain treatments. The loss of even one such claim, if it resulted in a
significant punitive damage award, could have a material adverse effect on
WellPoint. In addition, the risk of potential liability under punitive damage
theories may increase significantly the difficulty of obtaining reasonable
settlements of coverage claims. Further, legislation that would establish the
liability of health plans for medical decisions is pending in various states.
See "Item 1. Business--Government Regulation." The financial and operational
impact that such evolving theories of recovery will have on the managed care
industry generally, or WellPoint in particular, is at present unknown. Certain
of such legal proceedings are or may be covered under insurance policies or
indemnification agreements. Based upon information presently available, the
Company believes that the final outcome of all such proceedings should not have
a material adverse effect upon WellPoint's results of operations, cash flows or
financial condition.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
23
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's Common Stock has been traded on the New York Stock Exchange
under the symbol "WLP" since the Company's initial public offering on January
27, 1993. The following table sets forth for the periods indicated the high and
low sale prices for the Common Stock.
HIGH LOW
------- -------
Year Ended December 31, 1997
First Quarter............................................................... $45 7/8 $32 7/8
Second Quarter.............................................................. 51 37 3/4
Third Quarter............................................................... 60 1/2 46 1/4
Fourth Quarter.............................................................. 58 13/16 38 13/16
Year Ended December 31, 1998
First Quarter............................................................... 70 1/16 42 1/4
Second Quarter.............................................................. 74 61 15/16
Third Quarter............................................................... 74 11/16 51 1/4
Fourth Quarter.............................................................. 87 51 7/16
On March 15, 1999 the closing price on the New York Stock Exchange for the
Company's Common Stock was $73 13/16 per share. As of March 15, 1999, there were
approximately 209 holders of record of Common Stock.
The Company did not pay any dividends on its Common Stock in 1997 or 1998.
Management currently expects that all of WellPoint's future income will be used
to expand and develop its business. The Board of Directors currently intends to
retain the Company's net earnings during 1999.
24
ITEM 6. SELECTED FINANCIAL DATA.
YEAR ENDED DECEMBER 31,
(IN THOUSANDS, EXCEPT PER SHARE DATA, MEMBERSHIP ---------------------------------------------------------------
DATA AND OPERATING STATISTICS) 1998 1997 1996 1995 1994
----------- ----------- ----------- ----------- -----------
CONSOLIDATED INCOME STATEMENTS(A)
Revenues:
Premium revenue.............................. $ 5,934,812 $ 5,068,947 $ 3,699,337 $ 2,776,760 $ 2,564,371
Management services revenue.................. 433,960 377,138 147,911 61,151 36,253
Investment income............................ 109,578 196,153 123,584 120,913 92,188
----------- ----------- ----------- ----------- -----------
6,478,350 5,642,238 3,970,832 2,958,824 2,692,812
Operating Expenses:
Health care services and other benefits...... 4,776,345 4,087,420 2,825,914 2,090,036 1,865,887
Selling expense.............................. 280,078 249,389 202,318 177,058 161,596
General and administrative expense........... 975,099 836,581 543,541 327,951 320,417
Nonrecurring costs........................... -- 14,535 -- 57,074 --
----------- ----------- ----------- ----------- -----------
6,031,522 5,187,925 3,571,773 2,652,119 2,347,900
----------- ----------- ----------- ----------- -----------
Operating Income............................... 446,828 454,313 399,059 306,705 344,912
Interest expense............................. 26,903 36,658 36,628 -- --
Other expense, net........................... 27,939 31,301 25,195 9,718 5,504
----------- ----------- ----------- ----------- -----------
Income from Continuing Operations before
Provision for Income Taxes................... 391,986 386,354 337,236 296,987 339,408
Provision for Income Taxes................... 72,438 156,917 138,718 122,232 137,149
----------- ----------- ----------- ----------- -----------
Income from Continuing Operations 319,548 229,437 198,518 174,755 202,259
Income (Loss) from Discontinued Operations... (88,268) (2,028) 3,484 5,234 10,911
----------- ----------- ----------- ----------- -----------
Net Income..................................... $ 231,280 $ 227,409 $ 202,002 $ 179,989 $ 213,170
----------- ----------- ----------- ----------- -----------
----------- ----------- ----------- ----------- -----------
Per Share Data(A)(B)(C):
Income from Continuing Operations:
Earnings Per Share......................... $ 4.63 $ 3.33 $ 2.99 $ 2.63 $ 3.05
Earnings Per Share Assuming Full
Dilution................................. $ 4.55 $ 3.30 $ 2.99 $ 2.63 $ 3.05
Income (Loss) from Discontinued Operations:
Earnings Per Share......................... $ (1.28) $ (0.03) $ 0.05 $ 0.08 $ 0.16
Earnings Per Share Assuming Full
Dilution................................. $ (1.26) $ (0.03) $ 0.05 $ 0.08 $ 0.16
Net Income:
Earnings Per Share......................... $ 3.35 $ 3.30 $ 3.04 $ 2.71 $ 3.21
Earnings Per Share Assuming Full
Dilution................................. $ 3.29 $ 3.27 $ 3.04 $ 2.71 $ 3.21
OPERATING STATISTICS (A)(D):
Loss ratio..................................... 80.5% 80.6% 76.4% 75.3% 72.8%
Selling expense ratio.......................... 4.4% 4.6% 5.3% 6.2% 6.2%
General and administrative expense ratio....... 15.3% 15.4% 14.1% 11.6% 12.3%
Net income ratio............................... 3.6% 4.2% 5.3% 6.3% 8.2%
DECEMBER 31,
---------------------------------------------------------------
1998 1997 1996 1995 1994
----------- ----------- ----------- ----------- -----------
BALANCE SHEET DATA(A):
Cash and investments........................... $ 2,764,302 $ 2,560,537 $ 1,849,814 $ 1,981,532 $ 1,724,026
Total assets................................... $ 4,225,834 $ 4,234,124 $ 3,149,378 $ 2,471,360 $ 2,185,950
Long-term debt................................. $ 300,000 $ 388,000 $ 625,000 -- --
Total equity................................... $ 1,315,223 $ 1,223,169 $ 870,459 $ 1,670,226 $ 1,418,919
Cash dividends declared per common share(E).... -- -- $ 10.00 -- --
MEDICAL MEMBERSHIP(F)............................ 6,892,000 6,638,000 4,485,000 2,797,000 2,617,000
25
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(A) Financial information prior to 1998 has been restated to present the
workers' compensation business as a discontinued operation.
(B) Per share data for all periods presented prior to 1996 have been recomputed
using 66,366,500 shares, the number of shares outstanding immediately
following completion of the Recapitalization. Per share data for the year
ended December 31, 1996 has been calculated using such 66,366,500 shares,
plus the weighted average number of shares issued since the
Recapitalization.
(C) Per share data includes nonrecurring costs of $0.13 per share and $0.52 per
share for 1997 and 1995, respectively.
(D) The loss ratio represents health care services and other benefits as a
percentage of premium revenue. All other ratios are shown as a percentage of
premium revenue and management services revenue.
(E) The Company paid a $995.0 million special dividend in conjunction with the
Recapitalization which occurred on May 20, 1996. Management currently
expects that all of the Company's future income will be used to expand and
develop its business.
(F) Membership numbers are approximate and include some estimates based upon the
number of contracts at the relevant date and an actuarial estimate of the
number of members represented by each contract.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This discussion contains forward-looking statements which involve risks and
uncertainties. The Company's actual results may differ materially from those
anticipated in these forward-looking statements as a result of certain factors
including, but not limited to, those set forth under "Factors That May Affect
Future Results of Operations."
GENERAL
The Company is one of the nation's largest publicly traded managed health
care companies. As of December 31, 1998, WellPoint had approximately 6.9 million
medical members and approximately 25 million specialty members. The Company
offers a broad spectrum of network-based managed care plans. WellPoint provides
these plans to the large and small employer, individual and senior markets. The
Company's managed care plans include HMOs, PPOs, POS plans, other hybrid plans
and traditional indemnity plans. In addition, WellPoint offers managed care
services, including underwriting, claims processing, actuarial services, network
access and medical cost management. The Company also provides a broad array of
specialty and other products, including pharmacy, dental, utilization
management, life insurance, preventive care, disability insurance, behavioral
health, COBRA and flexible benefits account administration.
As discussed in Note 11 to the Consolidated Financial Statements, during
1998, the Company discontinued its workers' compensation operations. All
financial information presented herein has been restated in both current and
prior periods to exclude the workers' compensation operations and the discussion
and analysis that follows has been modified accordingly.
In accordance with Statement of Financial Accounting Standards No. 131,
"Disclosures about Segments of a Business Enterprise," the Company was organized
into two primary segments, the California and National business segments, during
the year ended December 31, 1998. Effective April 1, 1999, the Company intends
to modify its internal business operations. It is anticipated that the impact of
this internal change will also affect the disclosures of the Company's segments
from that presented as of December 31, 1998. The Company is currently evaluating
the effect of this proposed change and expects that future filings under the
Securities Exchange Act of 1934 on or after the effective date of this
reorganization will reflect such modified segments.
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SALE OF WORKERS' COMPENSATION SEGMENT
On July 29, 1998, WellPoint entered into a Stock Purchase Agreement (the
"Sto