The following selected consolidated financial data as of and for each of the five years in the period ended December 31, 2003 have been derived from the audited Consolidated Financial Statements of the Company. The following data should be read in conjunction with the Consolidated Financial Statements and the notes thereto and Management’s Discussion and Analysis of Financial Condition and Results of Operations included herein.
For all periods presented, the results of the Company’s former AMS subsidiary (for 2003, the period ended on the date of sale, November 18, 2003), its Senior Market Division, its Special Risk Division, its former sub-prime credit card business and its third party administration business unit have been classified as discontinued operations for financial reporting purposes.
Does not include restricted cash. See Note A of Notes to Consolidated Financial Statements.
Excludes the unrealized gains on securities available for sale, which gains are reported in accumulated other comprehensive income (loss) as a separate component of stockholders’ equity.
We offer insurance (primarily health and life) to niche consumer and institutional markets. Through our subsidiaries we issue primarily health insurance policies, covering individuals and families, to the self-employed, association group, voluntary employer group and student markets, and life insurance policies to markets that we believe are underserved.
Set forth in the table below is premium by insurance segment for each of the past three fiscal years:
In connection with various stock-based compensation plans that we maintain for the benefit of our employees and independent agents, we record non-cash variable stock-based compensation expense in amounts that depend and fluctuate based upon the market performance of the Company’s common stock. See discussion below “Variable Stock-Based Compensation” and Note M of Notes to Consolidated Financial Statements. The accounting treatment of the Company’s agent plans will continue to result in unpredictable stock-based compensation charges, primarily dependent upon future fluctuations in the quoted price of UICI common stock.
Over the past three years we have actively endeavored to simplify our business by closing and/or disposing of assets and operations not otherwise related to our core health and life insurance operations. We have separately classified as discontinued operations for financial reporting purposes the operations of our former Academic Management Services Corp. (“AMS”) subsidiary (engaged in the student loan origination and funding business, student loan servicing business, and tuition installment payment plan business, which we sold in November 18, 2003), our Senior Market Division (through which we formerly developed and marketed long-term care and Medicare supplement insurance products for the senior market), our Special Risk Division (through which we formerly provided various niche health insurance related products, including “stop loss”, marine crew accident, organ transplant and international travel accident products and various insurance intermediary services and managed care services), our former sub-prime credit card operations, and our third party administration business (through which we formerly provided underwriting, claims management and claims administrative services to third party insurance carriers, third party administrators, Blue Cross/ Blue Shield organizations and self-administered employer health care plans).
In July 2003 we announced that we had uncovered collateral shortfalls in the type and amount of collateral supporting two of the securitized student loan financing facilities of Academic Management Service Corp. (“AMS”) (our former subsidiary engaged in the student loan origination and funding business, student loan servicing business, and tuition installment payment plan business) and the failure to comply with reporting obligations under the financing documents at seven of those facilities. We subsequently entered into waiver and release agreements requiring us in July 2003 to contribute $48.25 million in cash to the capital of AMS.
Following the collateral issues at AMS, we decided to dispose of our interest in the subsidiary, and on November 18, 2003 we completed the sale of our entire equity interest in AMS. We generated from the sale net cash proceeds of approximately $27.8 million. At closing, we also received uninsured student loan assets formerly held by one of AMS’ special purpose financing subsidiaries with a face amount of approximately $44.3 million (including accrued interest). In anticipation of the sale of AMS, in the third quarter of 2003 the Company wrote down the carrying value of these loans to fair value, which was significantly less than the face amount of the loans. As part of the transaction, the purchaser agreed to assume responsibility for liquidating and terminating the remaining special purpose financing facilities through which AMS previously securitized student loans.
During 2003 we completed the wind down of our former Senior Market Division, which the Company established in 2001 to develop long-term care and Medicare supplement insurance products for the senior market. In 2003 the Company reported losses associated with the former Senior Market Division in the amount of $(9.2) million (net of tax), compared to losses in the amount of $(5.0) million (net of tax) in 2002. The losses in 2003 were primarily attributable to a loss of $(5.5) million (net of tax) recognized in the second quarter of 2003 upon sale of the Company’s interest in the agency through which the Company formerly marketed and distributed insurance products to the senior market, a write off of impaired assets, operating losses incurred at the Senior Market Division through the close-down date and costs associated with the wind down and closing of the operations.
We determined that, effective May 31, 2003, we would no longer issue new life insurance policies under our College First Alternative Loan Program, through which we historically offered an interest-sensitive whole life insurance product issued with a child term rider requiring us to provide private student loans to help fund the named child’s higher education if certain restrictions and qualifications are satisfied. In connection with the closedown, the Company incurred exit costs (consisting primarily of employee severance and relocation expenses and lease termination costs) in the amount of approximately $1.1 million, which costs were expensed as incurred in 2003.
The Company continues to have outstanding commitments made under the College First Alternative Loan Program to fund student loans for the years 2003 through 2024. See Notes H and L of Notes to Consolidated Financial Statements.
In the fourth quarter of 2003, we recognized a pre-tax gain in the amount of $40.4 million ($26.2 million, or $0.55 per diluted share, net of tax) associated with the sale of a substantial portion of the Company’s stake in AMLI Residential Properties Trust (a publicly-traded (NYSE: AML) real estate investment trust) (“AMLI Residential”). Prior to the sale, we held approximately 11.9% of the issued and outstanding shares of beneficial interest of AMLI Residential. We determined to sell the securities to diversify our portfolio and to generate taxable capital gains that could be used to offset capital losses generated from other investments.
Other income (consisting primarily of income derived by the SEA Division from ancillary services and membership marketing and administrative services provided to the membership associations that make available to their members the Company’s health insurance products) increased by 15% to $101.3 million in 2003 from $87.9 million in 2002. Other income is directly related to sales of health insurance by the SEA Division and, as a result, the Company benefited from strong renewal income from health business originally written 2001 and 2002.
Benefits, claims and settlement expenses increased by 34% to $1.040 billion in 2003 from $774.5 million in 2002. Benefits, claims and settlement expenses grew faster than premium revenues primarily as a result of less than favorable experience in our Group Insurance division and charges related to increases in claim liabilities and final resolution of certain litigation in the Life Division.
The Company maintains for the benefit of its employees and independent agents various stock-based compensation plans, in connection with which it records non-cash variable stock-based compensation expense (benefit) in amounts that depend and fluctuate based upon the market performance of the Company’s common stock. In 2003 the Company recognized a stock based compensation benefit in the amount of $459,000, compared to stock based compensation expense of $(16.3) million in 2002, principally due to the lower average price of UICI shares in 2003 compared to the average share price in 2002.
Other expenses (consisting primarily of direct expenses incurred by the Company in connection with providing ancillary services and membership marketing and administrative services provided to the membership associations that make available to their members the Company’s health insurance products) increased by 19%, to $73.4 million in 2003 from $61.9 million in 2002.
Total interest expense decreased by 27%, to $3.0 million in 2003 from $4.1 million in 2002, primarily due to a decrease in interest expense associated with student loan borrowings (consisting of borrowings incurred to fund student loan obligations under the Company’s College Fund Life Division program - see Note H of Notes to Consolidated Financial Statements), which decrease resulted from a decline in prevailing market interest rates.
Effective January 1, 2003, the Company began to allocate to the Company’s operating business segments certain general expenses relating to corporate operations (consisting primarily of technology related expenses and expenses associated with the operations of the Company’s insurance company subsidiaries), which expenses had been formerly reflected in the Other Key Factors segment. The Company believes that this allocation of certain general expenses relating to corporate operations results in a more accurate portrayal of the financial results of its core insurance and other operations. All prior periods presented have been adjusted to reflect this allocation.
Reflects results of a subsidiary (ZON Re USA LLC) established in the third quarter of 2003 to underwrite, administer and issue accidental death, accidental death and dismemberment (AD&D), accident medical and accident disability insurance policies, both on a primary and on a reinsurance basis.
The SEA Division’s 30% year-over-year increase in operating income (to $109.1 million in 2003 from $84.2 million in 2002) was driven by a 30% increase in earned premium revenue (to $1.21 billion in 2003 from $931.0 million in 2002). The increase in earned premium revenue in 2003 was primarily attributable to earned premiums associated with renewals of business originally written in 2001 and 2002. Submitted annualized premium volume decreased in 2003 to $895.2 million from $929.3 million in 2002. As a result of this decrease in submitted annualized premium volume, the Company anticipates that the 2004 over 2003 growth rate for earned premium revenues for the SEA Division will be less than the 2003 over 2002 growth rate in earned premium revenues.
Allocations of investment income and certain general expenses are based on a number of assumptions and estimates, and the business segments’ reported operating results would change if different methods were applied.
Other. The Company has classified its former investment in Healthaxis, Inc. (HAXS: Nasdaq) (“HAI”) as its “Other” business segment. Effective September 30, 2003, the Company sold back to HAI its entire 48.27% equity interest in HAI for a total sale price of $3.9 million, of which $500,000 was paid in cash at closing, and the balance was paid by delivery of a promissory note payable to the Company in the amount of $3.4 million. The Company recognized a nominal loss for financial reporting purposes in connection with the sale.
Prior to disposal, the Company accounted for its investment in HAI utilizing the equity method and, accordingly, recognized its ratable share of HAI income and loss. See Note B of Notes to Consolidated
Financial Statements. The Company’s carrying value of its investment in HAI at December 31, 2002 was $4.9 million. Through the date of sale (September 30, 2003), the Company’s share of HAI’s operating losses (computed prior to amortization of goodwill associated with HAI’s 2000 merger with Insurdata) was $(2.2) million. For the year ended December 31, 2002, the total HAI segment loss in the amount of $(9.6) million reflected the Company’s share of HAI’s operating losses of $(3.1) million plus a $(6.5) million impairment charge related to the adjustment to the carrying value of the Company’s investment in HAI taken in the second quarter of 2002.
In 2003 the Company reported losses associated with the former Senior Market Division in the amount of $(9.2) million (net of tax), compared to losses in the amount of $(5.0) million (net of tax) in 2002. The losses in 2003 were primarily attributable to a loss of $(5.5) million (net of tax) recognized in the second quarter of 2003 upon sale of the Company’s interest in the agency through which the Company formerly marketed and distributed insurance products to the senior market, a write off of impaired assets, operating losses incurred at the Senior Market Division through the close-down date and costs associated with the wind down and closing of the operations.
UICI reported revenues and income from continuing operations in 2002 of $1.376 billion and $51.1 million ($1.05 per diluted share), respectively, compared to 2001 revenues and income from continuing operations of $967.9 million and $49.5 million ($1.03 per diluted share), respectively.
The Company reported net income in 2002 in the amount of $46.9 million ($0.96 per diluted share), compared to net income of $42.9 million ($0.90 per diluted share) in 2001. Reported net income included income (losses) from discontinued operations in 2002 and 2001 in the amount of $953,000 ($0.02 per diluted share) and $(6.6) million ($(0.13) per diluted share), respectively. Overall results in the full year ended December 31, 2002 also included a goodwill impairment charge in the amount of $(5.1) million (net of tax) ($(0.11) per diluted share), which has been reflected as a cumulative effect of a change in accounting principle in accordance with recently adopted Financial Accounting Standards Board (“FASB”) Statement No. 142, Goodwill and Other Intangible Assets.
Revenues. UICI’s revenues increased to $1.376 billion in 2002 from $967.9 million in 2001, an increase of $407.8 million, or 42%. The Company’s revenues in 2002 and 2001 were particularly impacted by the following factors:
The Company generated a significant increase in health premium revenue (to $1.181 billion in 2002 from $776.3 million in 2001, an increase of $404.7 million, or 52%), which increase was primarily attributable to an increase (from $578.5 million in 2001 to $929.3 million in 2002) in submitted annualized premium volume at the Company’s SEA Division.
Life premiums and other considerations decreased by 9%, to $31.5 million in 2002 from $34.7 million in 2001, which resulted primarily from reduced premiums and other considerations derived from closed blocks of life and annuity business.
Despite a 10% increase in invested assets over the year ended December 31, 2002, investment income remained relatively constant ($80.8 million in 2002 compared to $79.3 million in 2001) due to a decrease in yield on invested assets resulting from lower prevailing market interest rates.
The Company recognized losses on sale of investments of $(5.6) million in 2002 compared to gains of $5.2 million in 2001. During 2002 and 2001, the Company recorded impairment charges for certain fixed income and equity securities in the amount of $14.7 million and $3.5 million, respectively. The Company’s 2002 impairment charges included a $6.1 million impairment charge associated with the Company’s WorldCom, Inc. bond holdings, which was recorded in the second quarter of 2002 as a result of previously announced accounting irregularities at WorldCom, Inc. The impairment charges were partially offset by realized gains associated with other securities in the portfolio.
Expenses. UICI’s total expenses increased to $1.299 billion in 2002 from $894.8 million in 2001, an increase of $404.2 million, or 45%. The Company’s expenses were particularly impacted by the following factors:
The Company maintains for the benefit of its employees and independent agents various stock-based compensation plans, in connection with which it records non-cash variable stock-based compensation expense (benefit) in amounts that depend and fluctuate based upon the market performance of the Company’s common stock. In 2002 the Company recognized stock based compensation expense in the amount of $(16.3) million, compared to stock based compensation expense of $(6.1) million in 2001, due to the higher average price of UICI shares in 2002 compared to the average share price in 2001.
Operating income (loss) for each of the Company’s segments and divisions in 2002 and 2001 was as follows:
The Other Key Factors segment includes investment income not allocated to the other business segments, realized gains or losses on sale of investments, interest expense on non-student loan indebtedness, general expenses relating to corporate operations, the operations of the Company’s AMLI Realty Co. subsidiary, minority interest, variable stock-based compensation, operations that do not constitute reportable operating segments (consisting primarily of Barron Risk Management Services, Inc., the remaining portion of the Company’s former TPA Division, until sold by the Company in September 2002), and amortization of goodwill (with respect to periods ended prior to January 1, 2002).
Self-Employed Agency Division. Operating income at UICI’s SEA Division increased by 30%, to $84.2 million in 2002 from $64.7 million in 2001.
Group Insurance Division. For the year ended December 31, 2002, the Group Insurance Division reported operating income of $13.2 million compared to operating income of $2.7 million in 2001. This increase in operating income was primarily attributable to the incremental operating income associated with the Company’s Star HRG unit, which was acquired by the Company on February 28, 2002. An increase in earned premium revenue and decrease in administrative expenses as a percentage of earned premium (offset by a nominal increase in the loss ratio) at the Company’s Student Insurance Division also contributed to the increases in operating income at the Group Insurance Division in the 2002 period.
Life Insurance Division. For the year ended December 31, 2002, the Company’s Life Insurance Division (which includes the results of the Company’s OKC life insurance operations and its College Fund Life Division) reported operating income of $8.1 million compared to operating income of $6.3 million in 2001. The increase in operating income in the year ended December 31, 2002 compared to 2001 reflected the close down in May 2001 of the Company’s workers’ compensation business, in connection with which the Company incurred in the second quarter of 2001 a charge of $(8.7) million associated with a strengthening of claim liabilities.
The Company’s carrying value of its investment in HAI was $4.9 million at December 31, 2002. During the year ended December 31, 2002, the Company’s share of HAI’s operating losses (computed prior to amortization of merger related goodwill) was $(3.1) million, compared to its share of operating losses of $(10.6) million in 2001. For the year ended December 31, 2002, the total HAI segment loss in the amount of $(9.6) million reflected the Company’s share of HAI’s operating losses $(3.1) million plus a $(6.5) million impairment charge related to the adjustment to the carrying value of the Company’s investment in HAI taken in the second quarter of 2002.
Effective June 15, 2002, UICI and HAI terminated an information technology services agreement, amended and restated as of January 3, 2000 (the “Services Agreement”), pursuant to which HAI formerly provided information systems and software development services (including administration of the Company’s computer data center) to the Company and its insurance company affiliates. See Note K of Notes to Consolidated Condensed Financial Statements. As part of the termination arrangement, UICI made a one-time payment to HAI in the amount of $6.5 million and tendered 500,000 shares of HAI common stock to HAI. Substantially all of HAI’s technical personnel formerly supporting UICI under the Services Agreement were hired by UICI on June 17, 2002. Following the transaction, UICI continued to hold approximately 45% of the issued and outstanding shares of HAI. Because UICI constitutes a significant shareholder of HAI, the aggregate amount of consideration paid to HAI by UICI for the early termination of the Services Agreement (approximately $6.5 million) was reflected for financial reporting purposes as a contribution by UICI to the capital of HAI, the effect of which was to increase the Company’s carrying value of its investment in HAI.
Other Key Factors. The Other Key Factors category includes (a) investment income not allocated to other business segments, (b) realized gains or losses on sale of investments, (c) interest expense on non-student loan indebtedness, (d) general expenses relating to corporate operations, (e) the operations of the Company’s AMLI Realty Co. subsidiary, (f) minority interest, (g) variable stock-based compensation, (h) operations that do not constitute reportable operating segments and (i) amortization of goodwill (with respect to periods ended prior to January 1, 2002).
For the year ended December 31, 2002, Other Key Factors reported an operating loss of $(19.0) million, compared to operating income of $10.0 million in 2001. The increase in operating loss for the year ended December 31, 2002 was attributable to various factors, including a $7.6 million decrease in investment income not allocated to other segments (which in turn resulted from a decrease in yield on invested assets), a $5.6 million realized loss on sale of investments resulting primarily from a $6.1 million impairment charge taken in the second quarter of 2002 associated with the Company’s WorldCom, Inc. bond holdings compared to a realized gain of $5.2 million in the corresponding period in 2001, and an increase in variable stock-based compensation expense of $10.2 million (see discussion below). These factors contributing to the increase in Other Key Factors operating loss in the year ended December 31, 2002 were offset by the positive impact of the non-amortization of goodwill as required by Statement No. 142 for all periods commencing after January 1, 2002. In the year ended December 31, 2001, the Company recorded goodwill amortization in the amount of $530,000.
During the year ended December 31, 2002, the amount classified as stock appreciation expense with respect to the Employee Plan represented the incremental compensation expense associated with the allocation during the year of 630,000 shares previously purchased in 2000 by the Employee Plan from the Company at $5.25 per share (“$5.25 ESOP Shares”) to fund the Company’s matching and supplemental contributions to the ESOP. As and when the Company made matching and supplemental contributions to the ESOP by allocating to participants’ accounts these $5.25 ESOP Shares, the Company recorded additional non-cash compensation expense equal to the excess, if any, between the fair value of the shares allocated and $5.25 per share. As of December 31, 2002, all $5.25 ESOP Shares had been allocated to participants’ accounts. Accordingly, in 2003 the Company did not, and in future periods the Company will not, recognize any additional variable stock-based compensation associated with the ESOP feature of the Employee Plan. The allocated $5.25 ESOP Shares are considered outstanding for purposes of the computation of earnings per share.
The accounting treatment of the Company’s agent plans will continue to result in unpredictable stock-based compensation charges, primarily dependent upon future fluctuations in the quoted price of UICI common stock. These unpredictable fluctuations in stock based compensation charges may result in material non-cash fluctuations in the Company’s results of operations. Unvested benefits under the agent plans vest in
The Company has issued certain health policies with a “return-of-premium” (ROP) rider, pursuant to which the Company undertakes to return to the policyholder on or after age 65 all premiums paid less claims reimbursed under the policy. The ROP rider also provides that the policyholder may receive a portion of the benefit prior to age 65. Historically, the Company has established a liability for future ROP benefits, which liability has been calculated by applying mid-terminal reserve factors (calculated on two-year preliminary term basis, using 5% interest, 1958 CSO mortality terminations, and level future gross premiums) to the current premium on a contract-by-contract basis. A claim offset was applied, on a contract-by-contract basis, solely with respect to an older closed block of policies, utilizing only claims paid to date, with no assumption of future claims. The ROP liability is reflected in future policy and contract benefits on the Company’s consolidated balance sheet.
The net premium assumption was revised from two-year preliminary term to net level in order to produce a more appropriate accrual for the liability of the ROP benefits in relation to the premiums. The interest rate assumption was reduced from 5% to 4.5% to reflect current investment yields. Since the ROP rider is primarily attached to attained-age rated health insurance products that are subject to periodic rate adjustment, the Company has determined as part of its ongoing review of the ROP reserving technique to increase its ROP liability to cover reasonably foreseeable changes to the future gross premium. Based on Company experience, the revised reserve factors incorporate an assumption of 10% average annual increase in future gross premiums on such products. The reserve technique was also refined to use historical premiums and anticipated future premium increases in the calculation of future benefits rather than calculating the reserve only from the current gross premium. Finally, a claim offset for actual benefits paid through the reporting date is now applied to the ROP liability for all policies on a contract-by-contract basis. In the original simplified reserve technique, the intent was to balance the offsetting effects of applying the two-year preliminary term factors to the current gross premiums, since the historical premium information was not available. Changes to the technique were made in 2003 when sufficient historical premium information was available to refine the reserve calculation. Substantially all of the effect of this change in estimating the liability for future ROP benefits was attributed to the refinement of adding the assumption of a 10% average annual increase in future gross premiums.
As a result of these changes, the liability for future ROP benefits increased by $12.9 million during the first quarter of 2003.
Due to the continual favorable development in the Company’s reserve estimates and the anticipation of a future increase in this level of favorable development associated with the growth in business, the Company undertook an analysis of the reserve estimation process. The Company believes that the developmental method is the standard methodology within the health insurance industry and therefore re-evaluated the key assumptions utilized under this method. As the Company gained more experience with the older blocks of business, the original incurred date coding assumption was re-examined. This re-examination resulted in the decision to utilize a new incurred date definition instead of the original incurred date definition for purposes of estimating claim liabilities for the SEA Division.
Several refinements in the claims liability calculation, all of which were treated as changes in accounting estimates, resulted in a further reduction of the claims liability in the amount of $5.4 million during the first quarter of 2003. This reduction in the claims liability was attributable primarily to the effects of a change in estimate of the reserve for excess pending claims. This change was necessary to maintain consistency with the historical data underlying the calculation of the new completion factors used in the claim development reserve. These completion factors are based on more recent experience with claims payments than the previous factors. This more recent experience has a greater number of pending claims. As a result, the new completion factors have built in a higher level of reserves for pending claims. The release of a portion of the excess pending claims reserve reflects the additional pending claims included in the completion factors.
The Company’s consolidated short and long-term indebtedness (exclusive of indebtedness secured by student loans) increased from $7.9 million at December 31, 2002 (all of which constituted indebtedness of the holding company) to $19.0 million at December 31, 2003 (all of which constituted indebtedness of the holding company).
At each of December 31, 2003 and 2002, the Company, through its College Fund Life Division, had an aggregate of $150.0 million of indebtedness outstanding under a secured student loan credit facility, which indebtedness was issued by a bankruptcy-remote special purpose entity. At December 31, 2003 and 2002, indebtedness outstanding under the secured student loan credit facility was secured by alternative (i.e., non-federally guaranteed) student loans and accrued interest in the carrying amount of $111.8 million and $102.7 million, respectively, and by a pledge of cash, cash equivalents and other qualified investments in the amount of $40.4 million and $48.2 million, respectively. At December 31, 2003, $32.5 million of such cash, cash equivalents and other qualified investments was available to fund the purchase from the Company of additional student loans generated under the Company’s College First Alternative Loan program, which purchases may be made in accordance with the terms of the agreements governing the securitization until February 2006. All such indebtedness issued under the secured student loan credit facility is reflected as student loan indebtedness on the Company’s consolidated balance sheet; all such student loans pledged to secure such facilities are reflected as student loan assets on the Company’s consolidated balance sheet; and all such cash, cash equivalents and qualified investments specifically pledged under the student loan credit facilities are reflected as restricted cash on the Company’s consolidated balance sheet.
Consists of dividends paid to the parent by The MEGA Life and Health Insurance Company, Mid-West National Life Insurance Company of Tennessee and Chesapeake Life Insurance Company.
Includes repayment of loans payable to subsidiaries and advances to subsidiaries.
At December 31, 2003 and 2002, UICI at the holding company level held cash and cash equivalents in the amount of $37.8 million and $22.4 million, respectively. The Company currently estimates that, through December 31, 2004, the holding company will have net operating cash requirements in the amount of
Historically, the Company has not caused its regulated domestic insurance subsidiaries to declare and pay dividends in the full amount that such subsidiaries could otherwise pay without prior regulatory approval, and during 2004 the Company intends to continue to adhere to that policy. During 2004, the Company’s domestic insurance companies could pay, without prior approval of the regulatory authorities, aggregate dividends in the ordinary course of business to the parent company of approximately $49.2 million. However, as it has done in the past, the Company will assess the results of operations of the regulated domestic insurance companies to determine the prudent dividend capability of the subsidiaries, consistent with UICI’s practice of maintaining risk-based capital ratios at each of the Company’s domestic insurance subsidiaries significantly in excess of minimum requirements.
During 2003 and 2002, the Company’s cash at the holding company level was impacted by the following factors and developments:
On November 18, 2003, the Company sold its AMS unit, generating net cash proceeds to UICI of approximately $27.8 million (which amount is reflected as “Proceeds from sale of AMS” in the table above). At closing, UICI also received uninsured student loan assets formerly held by AMS’ special purpose financing subsidiaries with a face amount of approximately $44.3 million (including accrued interest). The Company is actively marketing the portfolio of uninsured loans. See Note Q of Notes to Consolidated Financial Statements and Uses of Cash below.
The Company and Mr. Jensen (the Company’s Chairman) were formerly defendants in litigation (Sun Communications, Inc. v. SunTech Processing Systems, LLC, UICI, Ronald L. Jensen, et al) concerning the distribution of the cash proceeds from the sale and liquidation of SunTech Processing Systems, LLC (“STP”) assets in February 1998 (the “Sun Litigation”). Effective April 2, 2002, the Company and Mr. Jensen entered into an Assignment and Release Agreement, which, among other things, transferred UICI’s financial and other rights and obligations in STP to Mr. Jensen and effectively terminated the Company’s active participation in, and limited the Company’s financial exposure associated with, the Sun Litigation. In accordance with the terms of the Assignment and Release Agreement, on April 2, 2002 Mr. Jensen made a total payment to UICI of $15.6 million (which amounts are reflected as “Proceeds from Sun Litigation agreement” in the table above) and granted to
UICI various indemnities against possible losses which UICI might incur resulting from the Sun Litigation. See Note K of Notes to Consolidated Financial Statements.
In July 2003 we announced that we had uncovered collateral shortfalls in the type and amount of collateral supporting two of the securitized student loan financing facilities of AMS unit and the failure to comply with reporting obligations under the financing documents at seven of those facilities. We subsequently entered into waiver and release agreements with all of the financial institutions that were parties to the securitized student loan financing facilities, which agreements required us in July 2003 to contribute $48.25 million in cash to the capital of AMS (which amount is reflected as “Contribution to AMS” in the table above). See Note Q of Notes to Consolidated Financial Statements.
During 2003, UICI utilized approximately $5.1 million to repurchase 349,200 shares of its common stock pursuant to its previously announced share repurchase program, which was reconfirmed by the Board of Directors of the Company at its July 31, 2002 meeting. During 2002, UICI utilized approximately $29.3 million to repurchase 2,000,000 shares of its common stock pursuant to its share repurchase program. Such amounts are reflected as “Purchases of UICI common stock” in the table above
On July 1, 2002, UICI discharged an obligation to purchase from an affiliated party 369,174 shares of common stock at a put price of $32.25 per share, or $11.9 million in the aggregate (which amount is reflected as “Discharge of common stock put obligation” in the table above). See Note K of Notes to Consolidated Financial Statements.
Effective June 15, 2002, UICI and HAI terminated a Services Agreement, pursuant to which HAI formerly provided information systems and software development services (including administration of the Company’s computer data center) to the Company and its insurance company affiliates. As part of the termination arrangement, UICI made a one-time payment to HAI in the amount of $6.5 million (which amount is reflected as “Contributions/investment in subsidiaries” in the table above) and tendered 500,000 shares of HAI common stock to HAI. See Note K of Notes to Consolidated Financial Statements.
Effective February 28, 2002, UICI acquired Star HRG for an initial cash purchase price of $25.0 million (which amount is reflected as “Acquisitions (Star HRG and SeniorsFirst)” in the table above), plus additional contingent consideration based on the future annualized premium of Star HRG measured over the three-month period ended May 31, 2003. In full payment of all contingent consideration payable, on November 10, 2003, UICI delivered to the sellers UICI’s 6% convertible subordinated notes in the aggregate principal amount of $15.0 million, together with cash interest in the aggregate amount of approximately $1.5 million. See Note H of Notes to Consolidated Financial Statements.
On January 17, 2002, UICI completed the purchase, for a cash purchase price of $8.0 million (which amount is reflected as “Acquisitions (Star HRG and SeniorsFirst)” in the table above), of a 50% interest in an agency specializing in the sale of long-term care and Medicare supplement insurance products. In the second quarter of 2003, the Company completed the sale of its 50% interest in this agency for a nominal price.
Set forth below is a summary of the Company’s contractual obligations at December 31, 2003:
The Company’s off balance sheet arrangements consist of commitments to fund student loans generated by its former College Fund Life Division and letters of credit.
The Company has historically funded, and intends to continue to fund, its College Fund Life Division student loan commitments with the proceeds of indebtedness issued by a bankruptcy-remote special purpose entity. See discussion above and Note H of Notes to Consolidated Financial Statements. At each of December 31, 2003 and 2002, the Company had $7.1 million and $7.2 million, respectively, of letters of credit outstanding relating to its insurance operations. At February 28, 2004, the Company had outstanding letters in the amount of $5.1 million.
During 2003, 2002 and 2001, the Company recorded impairment charges for certain fixed and equity securities in the amount of $5.1 million, $14.7 million and $3.5 million, respectively. The Company’s 2002 impairment charge included a $6.1 million impairment charge associated with the Company’s
WorldCom, Inc. holdings, which was recorded in the second quarter of 2002 as a result of previously announced accounting irregularities at WorldCom, Inc.
Following is a summary of the three securities that comprise 70% of the unrealized twelve (12) months or longer loss:
The third largest unrealized loss ($353,000) is represented by a security issued by an airline and secured by a pledge of a single aircraft manufactured in 1991. The Company believes that the realizable value of the collateral for this security is sufficient to retire the debt.
The Fidelity Institutional Money Market Fund is a diversified institutional money market fund that invests solely in the highest quality United States dollar denominated money market securities of domestic and foreign issuers.
The Company’s discussion and analysis of its financial condition and results of operations are based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates, including those related to health and life insurance claims, bad debts, investments, intangible assets, income taxes, financing operations and contingencies and litigation. The
The Company establishes liabilities for benefit claims that have been reported but not paid and claims that have been incurred but not reported under health and life insurance contracts. The Company calculates a single best estimate of the liability developed using actuarial principles and assumptions that consider a number of items, including but not limited to historical and current claim payment patterns, product variations, the timely implementation of appropriate rate increases and seasonality. The Company does not develop ranges in the setting of the claims liability reported in the financial statements. However, to the extent not already reflected in the actuarial analyses, management also considers qualitative factors that may affect the ultimate benefit levels to determine its best estimate of the claims liability. These qualitative considerations include, among others, the impact of medical inflation, utilization of health services, exposure levels, product mix, pending claim levels and other relevant factors.
The Company believes that its recorded claim liabilities are reasonable and adequate to satisfy its ultimate claims liability. Each of the Company’s major operating units has an actuarial staff that has primary responsibility for assessing the claim liabilities. The Company uses its own experience as appropriate and relies on industry loss experience as necessary in areas where the Company’s data is limited. Our estimate of claim liabilities represents management’s best estimate of the Company’s liability as of December 31, 2003. Assuming a hypothetical 1% difference in the loss ratio (i.e., benefits, claims and settlement expenses stated as a percentage of earned premiums) for the year ended December 31, 2003, net income would increase or decrease by approximately $10.4 million and diluted net earnings per common share would increase or decrease by approximately $0.22 per share.
Due to the continual favorable development in the Company’s reserve estimates and the anticipation of a future increase in this level of favorable development associated with the growth in business, the Company undertook an analysis of the reserve estimation process. The Company believes that the developmental method is the standard methodology within the health insurance industry and therefore re-evaluated the key assumptions utilized under this method. With the aging of the older blocks of business, the original
incurred date coding assumption was re-examined. This re-examination resulted in the decision to utilize a new incurred date definition instead of the original incurred date definition for purposes of estimating claim liabilities for the SEA Division.
Effective January 1, 2003, the Company determined to utilize a new incurred date coding definition to establish incurred dates under the developmental method in the SEA Division. Under this new incurred date coding definition, a break in service of more than six months will result in the establishment of a new incurred date for subsequent services. In addition, under this new incurred date coding definition, claims for services provided more than thirty-six months after the original incurred date will result in the establishment of a new incurred date for subsequent services. This change in the incurred date definition assumption resulted in a reduction in the estimated claim liabilities at the SEA Division in the amount of $12.3 million during the first quarter of 2003.
The SEA Division also estimates various additional claim liabilities as appropriate. The additional claim liabilities estimate liabilities for situations, such as excess pending claims inventory and disputed claims.
Set forth below is a summary of claim liabilities at each of December 31, 2003, 2002 and 2001 by business unit:
The products of the Group Insurance Division (consisting of the Company’s Student Insurance business unit and the Star HRG business unit) consist principally of medical insurance. In general, medical insurance
The adverse experience for the Life Insurance Division is attributable to its workers’ compensation business. The Life Insurance Division previously wrote workers’ compensation insurance and similar group accident coverage for employers in a limited geographical market. In May 2001, the Company made the decision to terminate this operation, and all existing policies were terminated as the policies came up for renewal over the succeeding twelve months. The closing of new and renewal business starting in July of 2001 had the effect of concentrating the claims experience into existing policies and eliminating any benefits that might accrue from improved underwriting of new business or liabilities released on newer claims that might settle more quickly. The effect of closing a block of this type of business is difficult to estimate at the date of closing, due to the longer claims tail usually experienced with workers compensation, and the effect of the closure itself on that claims tail.
The Company adopted Statements 141 and 142 on January 1, 2002. In accordance with Statement No. 142, the Company tested for goodwill impairment effective January 1, 2002. As a result of the transitional impairment testing, completed during the quarter ended June 30, 2002, the Company determined that goodwill recorded in connection with the acquisition of Academic Management Services Corp. (“AMS”) and Barron Risk Management Services (“Barron”) was impaired in the aggregate amount of $6.9 million ($5.1 million net of tax). The Company reflected this impairment charge in its financial statements as a cumulative effect of a change in accounting principle as of January 1, 2002 in accordance with Statement No. 142. During 2003 and 2002, the Company sold AMS and Barron, respectively. Statement 142 prohibits the amortization of goodwill and intangible assets with indefinite useful lives. Statement 142 requires that these assets be reviewed for impairment at least annually, or more frequently if certain indicators arise. The Company has determined that it will review goodwill and intangible assets for impairment as of November 1 of each year or more frequently if certain indicators arise. An impairment loss would be recorded in the period
The Company has classified its investments in securities with fixed maturities as available for sale. Investments in equity securities and securities with fixed maturities have been recorded at fair value, and unrealized investment gains and losses are reflected in stockholders’ equity. Investment income is recorded when earned, and capital gains and losses are recognized when investments are sold. Investments are reviewed quarterly to determine if they have suffered an impairment of value that is considered other than temporary. If investments are determined to be impaired, a loss is recognized at the date of determination.
The Company records deferred tax assets to reflect the impact of temporary differences between the financial statement carrying amounts and tax bases of assets. The Company establishes a valuation allowance when management believes, based on the weight of the available evidence, that it is more likely than not that
some portion of the deferred tax asset will not be realized. Realization of the net deferred tax asset is dependent on generating sufficient future taxable income. The amount of the deferred tax asset considered realizable, however, could be reduced in the near term if estimates of future taxable income during the carryforward period are reduced.
In the event that the Company was to determine that it would be able to realize all or part of its net deferred tax asset in the future, the valuation allowance would be adjusted to reflect its deferred tax assets at the amount that the Company believes is more likely than not to be realized. Increasing the valuation allowance would result in a charge to income in the period such determination was made. The Company will consider future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need to change the valuation allowance. In the event the Company was to determine that it would be able to realize its deferred tax assets in the future in excess of its net recorded amount, an adjustment to the deferred tax asset would increase income in the period such determination was made.
The federal Health Insurance Portability and Accountability Act of 1996 (“HIPAA”) contains provisions requiring mandatory standardization of certain communications between health plans (including health insurance companies), electronic clearinghouses and health care providers who transmit certain health information electronically. HIPAA requires health plans to use specific data-content standards, mandates the use of specific identifiers (i.e., national provider identifiers and national employer identifiers) and requires specific privacy and security procedures. HIPAA authorized the Secretary of the federal Department of Health and Human Services (“HHS”) to issue standards for the privacy and security of medical records and other individually identifiable patient data.
UICI is currently reviewing the potential impact of the HIPAA privacy and security regulations on its operations, including its information technology and security systems. The Company cannot at this time predict with specificity what impact the recently adopted final HIPAA rules governing the privacy and security of individually-identifiable health information may have on the business or results of operations of the Company. However, these new rules will likely increase the Company’s burden of regulatory compliance with respect to its life and health insurance products and other information-based products, and may reduce the amount of information the Company may disclose and use if the Company’s customers do not consent to such disclosure and use. There can be no assurance that the restrictions and duties imposed by the recently adopted final rules on the privacy and security of individually-identifiable health information will not have a material adverse effect on UICI’s business and future results of operations.
The state of domicile of each of the Company’s domestic insurance subsidiaries imposes minimum risk-based capital requirements that were developed by the NAIC. The formulas for determining the amount of risk-based capital specify various weighting factors that are applied to financial balances and premium levels based on the perceived degree of risk. Regulatory compliance is determined by a ratio of a company’s regulatory total adjusted capital, as defined, to its authorized control level risk-based capital, as defined. Companies’ specific trigger points or ratios are classified within certain levels, each of which requires specified corrective action. At December 31, 2003, the risk-based capital ratio of each of the Company’s domestic insurance subsidiaries significantly exceeded the ratios for which regulatory corrective action would be required.
On March 14, 2003, the AICPA’s Accounting Standards Executive Committee issued an exposure draft Statement of Position (SOP), Accounting by Insurance Enterprises for Deferred Acquisition Costs on Internal Replacements Other Than Those Specifically Described in FASB Statement No. 97. The exposure draft provides guidance on accounting by insurance enterprises for deferred acquisition costs (DAC) on internal replacements other than those specifically described in FASB Statement No. 97, including definition of an internal replacement, determining “not substantially different” internal replacements, accounting for internal replacements that are substantially different, accounting for internal replacements that are not substantially different, sales inducements offered in conjunction with an internal replacement, costs and assessments related to internal replacements, and recoverability.
Certain statements set forth herein or incorporated by reference herein from the Company’s filings that are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act. Actual results may differ materially from those included in the forward-looking statements. These forward-looking statements involve risks and uncertainties including, but not limited to, the following: changes in general economic conditions, including the performance of financial markets, and interest rates; competitive, regulatory or tax changes that affect the cost of or demand for the Company’s products; health care reform; the ability to predict and effectively manage claims related to health care costs; and reliance on key management and adequacy of claim liabilities.
The Company’s future results will depend in large part on accurately predicting health care costs incurred on existing business and upon the Company’s ability to control future health care costs through product and benefit design, underwriting criteria, utilization management and negotiation of favorable provider contracts.
The Company provides health insurance products to consumers in the self-employed market in 44 states. A substantial portion of such products is issued to members of various independent membership associations that act as the master policyholder for such products. The two principal membership associations in the self-employed market for which the Company underwrites insurance are the National Association for the Self-Employed (“NASE”) and the Alliance for Affordable Services (“AAS”). The associations provide their membership with a number of benefits and products, including health insurance underwritten by the Company. Subject to applicable state law, individuals generally may not obtain insurance under an association’s master policy unless they are also members of the associations. UGA agents and Cornerstone agents also act as enrollers of new members for the associations, for which the agents receive compensation. Specialized Association Services, Inc. (a company controlled by the adult children of Ronald L. Jensen. the Chairman of the Company) provides administrative and benefit procurement services to the associations. A subsidiary of the Company generates new membership sales prospect leads for both UGA and Cornerstone for use by the enrollers (agents) and provides video and print services to the associations and to Specialized Association Services, Inc. See Note K of Notes to Consolidated Financial Statements. In addition to health insurance premiums derived from the sale of health insurance, the Company receives fee income from the associations, including fees associated with the enrollment of new members, fees for association membership marketing and administrative services and fees for certain association member benefits. The agreements with these associations requiring the associations to continue as the master policyholder and to make available to their respective members the Company’s insurance products to their respective members are terminable by the Company and the associations upon not less than one year’s advance notice to the other party.
and/or changes in the laws and regulations governing so-called “association group” insurance (particularly changes that would subject the issuance of policies to prior premium rate approval and/or require the issuance of policies on a “guaranteed issue” basis) could have a material adverse impact on the financial condition, results of operations and/or business of the Company.