Our principal executive offices are located at 120 Monument Circle, Indianapolis, Indiana. In addition to this property, following the merger with WellPoint Health Networks Inc., we have offices located at 1 WellPoint Way, Thousand Oaks, California that house certain corporate and specialty services. These properties are being leased. In addition, in order to conduct our operations, which have expanded nationally due to our mergers and acquisitions, we lease or own offices in various other locations, including the greater Los Angeles, California area; Denver, Colorado; North Haven, Connecticut; Atlanta and Columbus, Georgia; Manchester, New Hampshire; the greater Chicago, Illinois area; Indianapolis, Indiana; Louisville, Kentucky; South Portland, Maine; Charlestown and Andover, Massachusetts; Dearborn, Michigan; St. Louis, Missouri; Mason/Cincinnati, Ohio; Worthington/Columbus, Ohio; Houston and Plano, Texas; Richmond, Virginia and Milwaukee, Wisconsin. We believe that our properties are adequate and suitable for our business as presently conducted.
The table below provides selected consolidated financial data of WellPoint. The information has been derived from our consolidated financial statements for each of the years in the five year period ended December 31, 2004, which have been audited by Ernst & Young LLP. You should read this selected consolidated financial data in conjunction with the audited consolidated financial statements and notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in this Form 10-K.
The net assets and results of operations for Blue Cross Blue Shield of Maine, Trigon Healthcare, Inc. and WellPoint Health Networks Inc. are included from their respective acquisition dates of June 5, 2000, July 31, 2002 and November 30, 2004.
The benefit expense ratio represents benefit expense as a percentage of premium revenue. The selling, general and administrative expense ratio represents selling, general and administrative expense as a percentage of operating revenue.
IT EM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
V. Results of Operations-Year Ended December 31, 2004 Compared to the Year Ended December 31, 2003
VII. Results of Operations-Year Ended December 31, 2003 Compared to the Year Ended December 31, 2002
We are the nation’s largest publicly traded health benefits company in terms of membership, providing health benefit services to more than 27.7 million members as of December 31, 2004, and we operate as an independent licensee of the Blue Cross Blue Shield Association, or BCBSA. We are the Blue Cross licensee in California and a Blue Cross and Blue Shield licensee in 12 other states: Colorado, Connecticut, Georgia, Indiana, Kentucky, Maine, Missouri (excluding 30 counties in the Kansas City area), Nevada, New Hampshire, Ohio, Virginia (excluding the immediate suburbs of Washington, D.C.), and Wisconsin. We also serve customers throughout various parts of the country as HealthLink and UniCare.
Our Health Care segment includes strategic business units delineated primarily by geographic areas within which we offer similar products and services, including commercial accounts, senior and Medicaid. We offer a diversified mix of managed care products, including preferred provider organizations or PPOs, health maintenance organizations or HMOs, traditional indemnity benefits and point of service or POS plans. We also offer a variety of hybrid benefit plans, including consumer directed, hospital only and limited benefit products. Additionally, we provide a broad array of managed care services to self-funded customers, including claims processing, underwriting, stop loss insurance, actuarial services, provider network access, medical cost management and other administrative services.
Our Specialty segment is comprised of businesses providing pharmacy benefit management, group life and disability insurance benefits, dental, workers’ compensation and long-term care insurance. We also provide vision and behavioral health benefits services.
Our Other segment is comprised of our Medicare processing business, including AdminaStar Federal and United Government Services; Arcus Enterprises; intersegment revenue and expense eliminations; and corporate expenses not allocated to our Health Care or Specialty segments.
Our benefit expense includes costs of care for health services consumed by our members, such as outpatient care, inpatient hospital care, professional services (primarily physician care) and pharmacy benefit costs. All four components are affected both by unit costs and utilization rates. Unit costs include the cost of outpatient medical
Our selling expense consists of external broker commission expenses, and generally varies with premium volume. Our general and administrative expense consists of fixed and variable costs. Examples of fixed costs are depreciation, amortization and certain facilities expenses. Other costs are variable or discretionary in nature. Certain variable costs, such as premium taxes, vary directly with premium volume. Other variable costs, such as salaries and benefits, do not vary directly with changes in premium, but are more aligned with changes in membership. The acquisition or loss of a significant block of business would likely impact staffing levels, and thus salary and benefit expense. Discretionary costs include professional and consulting expenses and advertising. Other factors can impact our administrative cost structure, including systems efficiencies, inflation and changes in productivity.
This management’s discussion and analysis should be read in conjunction with our audited consolidated financial statements for the year ended December 31, 2004, included in this Form 10-K.
On November 30, 2004, Anthem, Inc. and WellPoint Health Networks Inc., or WHN, completed their merger. Under the terms of the merger agreement, the stockholders of WHN (other than subsidiaries of WHN) received consideration of twenty-three dollars and eighty cents ($23.80) in cash and one share of Anthem, Inc. common stock for each WHN share outstanding. In addition, WHN stock options and other awards were converted to WellPoint, Inc. awards in accordance with the merger agreement. The purchase price including cash, fair value of stock and stock awards and estimated transaction costs was approximately $16.0 billion. Anthem, Inc., the surviving corporate parent, was renamed WellPoint, Inc. concurrent with the merger.
Large Group consists of those employer customers with 51 to 4,999 employees eligible to participate as a member in one of our health plans. Large Group also includes members in the Federal Employee
Program, or FEP, which provides health insurance coverage to United States government employees and their dependents within our geographic markets through our participation in the national contract between the BCBSA and the U.S. Office of Personnel Management.
National Accounts customers are multi-state employer groups primarily headquartered in a WellPoint service area with 5,000 or more eligible employees, with at least 5% of eligible employees located outside of the headquarters state.
BlueCard host members represent enrollees of non-owned Blue Cross and Blue Shield plans who receive health care services in our Blue Cross and Blue Shield licensed markets.
“Comparable” statistics were calculated by adding historical statistics for the former WellPoint Health Networks Inc. to historical statistics for the former Anthem, Inc., and adjusting the combined totals to assure a consistent approach for calculating membership and volume statistics and to eliminate overlapping BlueCard host membership.
Represents prescription volume for mail order and retail prescriptions for the full years ended 2004 and 2003, respectively. Prescription volume for 2004 and 2003 is shown on a “comparable” basis.
Behavioral Health comparable membership increased 1,369,000, or 13%, in 2004 primarily due to HealthLink network growth, the integration of our Maine health customers which were previously serviced by an external vendor, and growth within our other existing health lines of business. Dental comparable membership decreased 243,000, or 5%, in 2004 primarily due to the loss of two specific large accounts. Vision comparable membership increased 342,000, or 79%, due to the integration of internal health members, as well as increased sales.
Despite the reported shortage of flu vaccine early in the 2004 - 2005 flu season, we have not seen an increase in hospital admissions, physician office visits and use of anti-viral drugs that would indicate a severe flu season in the fourth quarter of 2004. We are beginning to see an increase in these indications in early 2005.
Premiums increased $3,603.9 million, or 24%, to $18,771.6 million in 2004, due to the impact of the merger with WHN, and premium rate increases in our Large Group and ISG businesses. Also contributing to premium growth was higher fully-insured membership, primarily in our ISG business. Partially offsetting the growth were shifts by certain customers to self-funding arrangements, resulting in lower revenues. Included in 2003 were premium refunds of $40.4 million issued to policyholders from our Health Care segment, as claims costs in certain lines of business were much lower than expected. Our premium yields, net of buy-downs, for our fully-insured Large Group and ISG businesses were just less than 10% on a rolling 12-month basis as of December 31, 2004, including the business of pre-merger WHN for all periods.
Administrative fees increased $276.7 million, or 24%, to $1,436.9 million in 2004, primarily due to increased revenues from self-funded membership, primarily in National businesses, and also due to the impact of the merger with WHN. These increases were partially offset by decreased administrative fees from AdminaStar Federal’s 1-800 Medicare Help Line contract with Centers for Medicare & Medicaid Services, or CMS, which was substantially completed by June 30, 2003.
Other-than-temporary impairments recognized in 2003 were substantially related to our equity security investments, primarily due to the length of time that the securities’ fair value had been less than cost.
Benefit expense increased $3,133.3 million, or 26%, to $15,387.8 million in 2004. Benefit expense increased due to the impact of the merger with WHN, and also due to increased cost of care, which was driven primarily by higher costs in outpatient services and drug costs. Included in the 2003 results was a $31.7 million
net favorable prior year reserve development recorded during the second quarter of 2003 and a $24.5 million favorable adjustment for resolution of a litigation matter in our Health Care segment in the first quarter of 2003. Our benefit expense ratio increased 120 basis points from 80.8% in 2003 to 82.0% in 2004, increasing from lower than anticipated cost of care trends in 2003 and returning to more sustainable levels.
Amortization of other intangible assets increased $13.8 million, or 29%, to $61.4 million in 2004, primarily due to additional amortization expense on identifiable intangible assets resulting from the WHN merger.
We use operating gain to evaluate the performance of our reportable segments, as described in FAS 131, Disclosure About Segments of an Enterprise and Related Information. In connection with the WHN merger and related organizational changes, we evaluated FAS 131 criteria and determined our reportable segments to be Health Care, Specialty and Other. This represents a change from pre-merger Anthem, which disclosed each geographic health region as a reportable segment. Operating gain is calculated as total operating revenue less benefit expense, selling, general and administrative expense and cost of drugs. It does not include net investment income, net realized gains (losses) on investments, interest expense, amortization of other intangible assets, merger related undertakings, loss on repurchase of debt or income taxes, as these items are managed in a corporate shared service environment and are not the responsibility of operating segment management. For additional information, see Note 20 to our audited consolidated financial statements included in this Form 10-K. The discussions of segment results for the years ended December 31, 2004 and 2003 presented below are based on operating gain, as described above, and operating margin, which is calculated as operating gain divided by operating revenue. Our definitions of operating gain and operating margin may not be comparable to similarly titled measures reported by other companies.
Operating revenue increased $3,754.4 million, or 23%, to $19,754.5 million in 2004, due to the impact of the merger with WHN, as the results of the acquired health business is included effective November 30, 2004. Operating revenue also increased due to premium rate increases in our Large Group, ISG, and Senior businesses. Also contributing to this growth were membership increases in our ISG and National Accounts businesses.
Operating gain increased $330.7 million, or 28%, to $1,505.3 million, due to our merger with WHN, improved underwriting results in our Large Group business, and growth in our National Accounts businesses. Included in the 2003 results was a $31.7 million net favorable prior year reserve development recorded during the second quarter of 2003 and a $24.5 million favorable adjustment for resolution of a litigation matter in the first quarter of 2003. Also included in 2003 were premium refunds of $40.4 million issued to policyholders as claims costs in certain lines of business were much lower than expected. Additionally, our Health Care segment made contributions of $20.0 million to our charitable foundation in 2003 that did not occur in 2004.
Our Specialty segment’s summarized results of operations for the years ended December 31, 2004 and 2003 are as follows:
Our summarized results of operations for our Other segment for the years ended December 31, 2004 and 2003 are as follows:
The following table presents our medical membership by customer type, funding arrangement and geographical region as of December 31, 2003 and 2002. Also included below are key metrics from our Specialty segment, including prescription volume for our PBM and membership by product. The membership data presented is unaudited and in certain instances includes estimates of the number of members represented by each contract at the end of the period, rounded to the nearest thousand.
Self-funded medical membership increased 795,000, or 14%, primarily due to increases in BlueCard and National Accounts businesses. Fully-insured membership increased by 79,000 members, or 1%, primarily in our ISG businesses, as explained above. In addition, we experienced a change in our mix of business by funding arrangement as certain Large Group and National Accounts customers shifted from fully-insured to self-funded during the year ended December 31, 2003. Due to economic conditions, certain large accounts assumed the health care risk associated with insuring their employees. This shift in funding arrangements did not have a material impact on our financial results for the year ended December 31, 2003.
Our consolidated results of operations for the years ended December 31, 2003 and 2002 are as follows:
Financial results for 2003 and 2002 represent the results of the former Anthem, Inc. only and have been reclassified to conform to current presentation.
Premiums increased $3,229.8 million, or 27%, to $15,167.7 million in 2003, primarily due to the impact of the Trigon acquisition, and also due to premium rate increases in our Large Group and ISG businesses. Also
contributing to premium growth was higher fully-insured membership, primarily in our ISG business, which was partially offset by changes in the mix of our fully-insured products with members selecting less rich benefit designs, resulting in lower priced products. Also offsetting the growth were shifts by certain Large Group and National Account customers to self-funding arrangements, resulting in a shift from premiums to administrative fees and lower total revenues. The claims costs in certain Health Care segment lines of business were much lower than anticipated in 2003. Therefore, we issued premiums refunds to certain policyholders in the aggregate amount of $40.4 million, offsetting our premium growth. Our premium yields, net of buy-downs, for our fully-insured Large Group and Small Group businesses were approximately 10% on a rolling 12-month basis as of December 31, 2003.
Other revenue is comprised principally of co-payments and deductibles associated with the sale of mail-order drugs by our PBM, which provides its services principally to members of our Health Care segment. Other revenue increased $43.5 million, or 38%, to $159.2 million in 2003, primarily due to additional mail-order prescription volume and increased prices of prescription drugs sold by our PBM. Increased mail-order prescription volume resulted from both membership increases and additional utilization of our PBM’s mail-order pharmacy.
Benefit expense increased $2,432.6 million, or 25%, to $12,254.5 million in 2003. Included in these 2003 results was a $31.7 million net favorable prior year reserve development recorded during the second quarter of 2003, and a $24.5 million favorable adjustment for resolution of a litigation matter in the first quarter of 2003 in our Health Care segment. Included in the 2002 results was a $26.6 million net favorable prior year reserve development. Benefit expense increased primarily due to increased cost of care, which was driven primarily by higher costs in professional services and outpatient services. Our benefit expense ratio decreased 150 basis points from 82.3% in 2002 to 80.8% in 2003 due in part to the impact of our Trigon acquisition in 2002, and also due to lower than anticipated medical costs, the favorable resolution of litigation, disciplined pricing and mix of business shifts from fully-insured to self-funded arrangements by groups that have had historically higher loss ratios.
Selling, general and administrative expenses increased $582.4 million, or 23%, to $3,097.5 million in 2003 due to the impact of the Trigon acquisition, and also due to increases in volume-sensitive costs such as higher commissions, premium taxes and other expenses associated with growth in our business. Additionally, expenses increased due to higher salary and benefits costs resulting from normal merit and benefit increases. Included in the 2003 results were $20.0 million of contributions to our charitable foundation made by our Health Care segment. Included in the 2002 results was an unfavorable $23.0 million adjustment recorded to reflect the accrual of additional premium taxes in the state of Ohio and a $10.1 million reduction in the carrying value of our investment in MedUnite. Before the impact of our Trigon acquisition, our selling, general and administrative expense ratio decreased 70 basis points to 18.8% in 2003, primarily due to our growth in operating revenue and the leveraging of costs over these higher revenues.
Cost of drugs increased $14.7 million, or 61%, to $38.7 million in 2003, primarily due to higher prescription volume at our PBM.
A summary of our net realized gains on investments for the years ended December 31, 2003 and 2002 is as follows:
Other-than-temporary impairments recognized in 2003 were substantially related to our equity investments, primarily due to the length of time that the securities’ fair value had been less than cost. In 2002, we recorded a $3.1 million other-than-temporary impairment on a limited partnership.
Interest expense increased $32.7 million, or 33%, to $131.2 million in 2003, primarily resulting from additional interest expense incurred on the debt issued in conjunction with our Trigon acquisition. Interest expense on this debt was included for twelve months in 2003 and five months in 2002.
Amortization of other intangible assets increased $17.4 million, or 58%, to $47.6 million in 2003, primarily due to additional amortization expense on identifiable intangible assets resulting from our Trigon acquisition. This amortization expense was included for twelve months in 2003 and five months in 2002.
Our Health Care segment’s summarized results of operations for the years ended December 31, 2003 and 2002 are as follows:
In the table above, the year ended December 31, 2003 includes twelve months of operating results related to the Trigon acquisition, and the year ended December 31, 2002 includes five months of operating results related to the Trigon acquisition.
Operating gain increased $490.6 million, or 72%, to $1,174.6 million in 2003. Included in these 2003 results was a $31.7 million net favorable prior year reserve development recorded during the second quarter of 2003, a $24.5 million favorable adjustment for resolution of a litigation matter in the first quarter of 2003, and premium refunds of $40.4 million issued to policyholders, as claims costs in certain lines of business were much lower than expected. Also included in the 2003 results were $20.0 million of contributions to our charitable foundation. Included in the 2002 results was an unfavorable $23.0 million adjustment recorded to reflect the accrual of additional premium taxes in the state of Ohio and a $26.6 million net favorable prior year reserve development.
Our summarized results of operations for our Other segment for the years ended December 31, 2003 and 2002 are as follows:
increase was partially offset by the loss of AdminaStar Federal’s 1-800 Medicare Help Line contract with CMS. During the fourth quarter of 2002, CMS awarded a new contract for this service to a competitor. The transition of the contract was substantially completed by June 30, 2003. Elimination of intersegment revenues increased $143.2 million, or 48%, reflecting additional sales by our pharmacy benefit management company to our Health Care segment.
For the most recent incurred months, the percentage of claims paid for claims incurred in those months is generally low. This makes the completion factor methodology less reliable for such months. Therefore incurred claims for recent months are not projected from historical completion and payment patterns; rather they are projected by estimating the claims expense for those months based on recent claims expense levels and health care trend levels, or “trend factors”.
liabilities to re-estimated claim liabilities based on subsequent claims development is also considered in making the liability determination. In the actuarial process, the methods and assumptions are not changed as reserves are recalculated, but rather the availability of additional paid claims information drives our changes in the re-estimate of the unpaid claim liability. To the extent appropriate, changes in such development are recorded as a change to current period benefit expense.
In addition to the pending claims and incurred but not reported claims, the liability for medical claims payable includes reserves for premium deficiencies, if appropriate. Premium deficiencies are recognized when it is probable that expected claims and administrative expenses will exceed future premiums on existing medical insurance contracts without consideration of investment income. Determination of premium deficiencies for longer duration life and disability contracts includes consideration of investment income. For purposes of premium deficiencies, contracts are grouped in a manner consistent with our method of acquiring, servicing and measuring the profitability of such contracts.
As summarized below, Note 10 to our audited consolidated financial statements for the year ended December 31, 2004 included in this Form 10-K provides historical information regarding the accrual and payment of our medical claims liability. Components of the total incurred claims for each year include amounts accrued for current year estimated claims expense as well as adjustments to prior year estimated accruals. In Note
Amounts incurred related to prior years vary from previously estimated liabilities as the claims are ultimately settled. Liabilities at any year end are continually reviewed and re-estimated as information regarding actual claims payments, or runout, becomes known. This information is compared to the originally established year end liability. Negative amounts reported for incurred related to prior years result from claims being settled for amounts less than originally estimated. The redundancy of $172.4 million shown in the table above and in Note 10 to our audited consolidated financial statements for the year ended December 31, 2004, represents an estimate based on paid claim activity from January 1, 2004 to December 31, 2004. Medical claim liabilities are usually described as having a “short tail”, which means that they are generally paid within several months of the member receiving service from the provider. Accordingly, the majority, or approximately 81%, of the $172.4 million redundancy relates to claims incurred in calendar year 2003, with the remaining 19% related to claims incurred in 2002 and prior.
We calculate the percentage of prior year redundancies in the current period to total incurred claims recorded in each prior year in order to demonstrate the development of the prior year reserves. This metric was 1.4% for 2004, 2.3% for 2003 and 1.9% for 2002. The 2.3% ratio for 2003 was impacted by having only five months of incurred claims in 2002 related to the former Trigon Healthcare, Inc. If the former Trigon Healthcare, Inc. had been included for the full year 2002, the ratio would have been approximately 2.0% for 2003. For the
The following table shows the variance between total incurred as reported in the above table for each of 2003 and 2002 and the incurred claims for such years had it been determined retrospectively (computed as the difference between “Incurred related to current year” for the year shown and “Incurred related to prior years” for the immediately following year):
As a result of legislation enacted in Indiana on March 16, 2004, we recorded deferred tax assets and liabilities, with a corresponding net tax benefit in our income statement of $44.8 million, or $0.29 per basic share and $0.28 per diluted share, for the year ended December 31, 2004. The legislation eliminated the creation of tax credits resulting from the payment of future assessments to the Indiana Comprehensive Health Insurance Association, or ICHIA. ICHIA is Indiana’s high-risk health insurance pool. Our historical ICHIA assessment payments far exceeded our Indiana income tax liability. Thus, the recognition of a state deferred tax asset was not warranted, as a future Indiana tax liability was unlikely. Under the new legislation, ICHIA tax credits are limited to any unused ICHIA assessment paid prior to December 31, 2004. FAS 109 requires that deferred assets or liabilities be established in the period a change in law is enacted. These deferred tax assets and liabilities reflect temporary differences, net operating loss carryforwards and tax credits relating to our Indiana income tax filings. Following guidance in FAS 109, a valuation allowance of $5.6 million was established for the portion of the deferred tax asset, which we believe will likely not be utilized. There is no carryforward limitation on the tax credits and the net operating loss carryforwards do not begin to expire until 2018. We believe we will have sufficient taxable income in future years to offset these carryforwards; therefore, no additional valuation allowance was recorded.
We, like other companies, frequently face challenges from tax authorities regarding the amount of taxes due. These challenges include questions regarding the timing and amount of deductions that we have taken on our tax returns. In evaluating any additional tax liability associated with various positions taken in our tax return filings, we record additional tax liability for potential adverse tax outcomes. Based on our evaluation of our tax positions, we believe we have appropriately accrued for exposures. To the extent we prevail in matters we have accrued for, our future effective tax rate would be reduced and net income would increase. If we are required to pay more than accrued, our future effective tax rate would increase and net income would decrease. Our effective tax rate and net income in any given future period could be materially impacted.
For additional information, see Note 14 to our audited consolidated financial statements for the year ended December 31, 2004 included in this Form 10-K.
In addition to current available-for-sale investment securities, we held long-term investments of $748.1 million, or 2% of total consolidated assets, at December 31, 2004. These long-term investments consist primarily of restricted assets, certain equity securities and other investments, including investments on deposit with regulatory agencies. Due to their restricted nature, these investments are classified as long-term without regard to contractual maturity dates.
An impairment review of securities to determine if declines in fair value below cost are other-than-temporary is subjective and requires a high degree of judgment. We evaluate our investment securities on a quarterly basis, using both quantitative and qualitative factors, to determine whether a decline in value is other than temporary. Such factors considered include the length of time and the extent to which a security’s market value has been less than its cost, financial condition and near term prospects of the issuer, recommendations of investment advisors, and forecasts of economic, market or industry trends. If any declines are determined to be other than temporary, we charge the losses to income when that determination is made. The current economic environment and recent volatility of securities markets increase the difficulty of determining fair value and assessing investment impairment. The same influences tend to increase the risk of potential impairment of these assets. We recorded charges for other-than-temporary impairment of securities of $0.8 million, $24.4 million and $3.1 million, respectively, for the years ended December 31, 2004, 2003 and 2002. During the year ended December 31, 2003, we recorded a $22.3 million charge for other-than-temporary impairment of our equity securities, primarily due to the length of time that the securities’ fair value had been less than cost.
Management believes it has adequately reviewed for impairment and that its investment securities are carried at fair value. However, over time, the economic and market environment may provide additional insight regarding the fair value of certain securities, which could change management’s judgment regarding impairment. This could result in realized losses relating to other-than-temporary declines being charged against future income.
We have evaluated the impact on the fixed maturity portfolio’s fair value considering an immediate 100 basis point change in interest rates. A 100 basis point increase in interest rates would result in an approximate $476.7 million decrease in fair value, whereas a 100 basis point decrease in interest rates would result in an approximate $466.7 million increase in fair value. An immediate 10% decrease in each equity investment’s value, arising from market movement, would result in a fair value decrease of $117.3 million. Alternatively, an immediate 10% increase in each equity investment’s value, attributable to the same factor, would result in a fair value increase of $117.3 million.
An important factor in determining our pension expense is the assumption for expected long-term return on plan assets. As of our last measurement date, we selected an expected rate of return on plan assets of 8.00% (consistent with 8.00% for 2004 expense recognition). We use a total portfolio return analysis in the development
The discount rate reflects the current rate at which the pension liabilities could be effectively settled at the end of the year based on our measurement dates. The weighted average discount rate for all plans is 5.83%, which was developed using a benchmark rate of the Moody’s Aa Corporate Bonds index. Changes in the discount rates over the past three years have not materially affected pension expense, and the net effect of changes in the discount rate, as well as the net effect of other changes in actuarial assumptions and experience, have been deferred and amortized as a component of pension expense in accordance with FAS 87.
In addition to producing a reasonable return, the investment strategy seeks to minimize the volatility in the Company’s expense and cash flow. Over time, the Company has increased the duration and allocation of fixed maturity securities to more closely match the sensitivity of plan assets with the plan obligations.
As of our measurement dates, we had approximately 58% of plan assets invested in equity securities, 40% in fixed maturity securities and 2% in other assets. Approximately $10.0 million, or less than 1%, of plan assets were invested in WellPoint common stock as of December 31, 2004.
The assumed health care cost trend rates used to measure the expected cost of other benefits is 9.00% for 2005 with a gradual decline to 5.15% by the year 2009. These estimated trend rates are subject to change in the future. The health care cost trend assumption has a significant effect on the amounts reported. For example, an increase in the assumed health care cost trend rate of one percentage point would increase the postretirement benefit obligation as of December 31, 2004 by $36.0 million and would increase service and interest costs by $3.0 million. Conversely, a decrease in the assumed health care cost trend rate of one percentage point would decrease the postretirement benefit obligation by $30.0 million as of December 31, 2004 and would decrease service and interest costs by $2.5 million.
See “New Accounting Pronouncements” below for discussion of Financial Accounting Standards Board Staff Position 106-2, Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003.
For additional information regarding retirement benefits, see Note 17 to our audited consolidated financial statements for the year ended December 31, 2004 included in this Form 10-K.
There were no other new accounting pronouncements issued during 2004 that had a material impact on our financial position, operating results or disclosures.
Net cash provided by operating activities for 2004 included one month of WHN cash flow activity following the merger. WHN reported net cash provided by operating activities of $972.6 million for the nine months ended September 30, 2004.
Net cash used in investing activities was $2,373.9 million in 2004, compared to cash used of $1,129.2 million in 2003, an increase in cash used of $1,244.7 million. The table below outlines the changes in investing cash flow between the two years (in millions):
On December 9, 2004, we issued $300.0 million of 3.750% Notes due 2007, $300.0 million of 4.250% Notes due 2009, $500.0 million of 5.000% Notes due 2014 and $500.0 million of 5.950% Notes due 2034. Net proceeds from this offering were approximately $1,583.7 million after deducting the initial purchasers’ discount and estimated offering expenses. Proceeds from these notes were used to repay borrowings outstanding under our bridge loan and five year credit facility, which were used at the date of the WHN merger to complete the transaction. In addition, a portion of the proceeds were used to fund the tender offer to purchase subsidiary surplus notes. The remainder of the proceeds was used to repay amounts outstanding under our commercial paper program described above.
During 2003, $217.2 million was used to repurchase our common stock. In addition, $100.0 million was used to fund the payment of senior guaranteed notes, which matured on July 15, 2003. These payments were offset by $57.0 million of proceeds from the issuance of common stock related to the exercise of stock options and our employee stock purchase program.
During 2003, net cash flow provided by operating activities was $1,159.0 million, as compared to $994.1 million in 2002, an increase of $164.9 million. The increase resulted from improved net income, including the
Net cash flow used in investing activities was $1,129.2 million in 2003, compared to cash used of $1,414.9 million in 2002, a decrease in cash used of $285.7 million. The table below outlines the changes in investing cash flow between the two years (in millions):
During 2002, proceeds of $938.5 million were received from the issuance of senior notes used to fund a portion of the Trigon acquisition. In addition, $31.1 million was received from the issuance of common stock due to the exercise of stock options and from our employee stock program. Offsetting these amounts was $256.2 million used to repurchase shares of common stock and $4.1 million used for costs related to the issuance of shares for the Trigon acquisition.
Many of our subsidiaries are subject to various government regulations that restrict the timing and amount of dividends and other distributions that may be paid to their respective parent companies. Also, in connection with the WHN merger, the Company and certain of our subsidiaries in California and Georgia executed undertakings with the California Department of Managed Health Care, the California Department of Insurance and the Georgia Department of Insurance which contained various commitments, including the commitment to provide $61.5 million of support for health benefit programs in those states. Additional undertakings include the requirement to maintain certain capital levels at those subsidiaries. During 2004, we received $1,097.7 million of dividends from our subsidiaries. At December 31, 2004, we held at the parent company approximately $207.3 million of our consolidated $15.8 billion of cash, cash equivalents and investments, which is available for general corporate use, including investment in our businesses, acquisitions, share and debt repurchases and interest payments.
Our consolidated debt-to-total capital ratio (calculated as the sum of debt divided by the sum of debt plus shareholders’ equity) was 18.5% as of December 31, 2004 and 21.7% as of December 31, 2003.
Our senior debt is rated “BBB+” by Standard & Poor’s, “A-” by Fitch, Inc., “Baa1” by Moody’s Investor Service, Inc. and “a-” by AM Best Company, Inc. We intend to maintain our senior debt investment grade ratings. A significant downgrade in our debt ratings could adversely affect our borrowing capacity and costs.
Effective upon the merger with WHN, the board of directors authorized an increase in our commercial paper program from $1.0 billion to $2.0 billion. Proceeds from any issuance of commercial paper may be used for general corporate purposes, including the repurchase of our debt and common stock. Commercial paper notes are short-term senior unsecured notes, with a maturity not to exceed 270 days from date of issuance. When issued, the notes bear interest at current market rates. There were $793.2 million of borrowings outstanding under this commercial paper program as of December 31, 2004.
In 2003, the board of directors authorized us to repurchase up to $500.0 million of stock under a program that would have expired in February 2005. Under this program, repurchases may be made from time to time at prevailing prices, subject to certain restrictions on volume, pricing and timing. We purchased 1.0 million shares of our common stock during the year ended December 31, 2004, at a cost of $82.3 million. We purchased nearly 3.4 million shares of our common stock during the year ended December 31, 2003, at a cost of $217.2 million. On October 25, 2004, the board of directors authorized an increase of $500.0 million to the program and extended the expiration date until February 2006. As of December 31, 2004, we had $700.5 million of authorization remaining under this program.
Our estimated contractual obligations and commitments as of December 31, 2004 are as follows:
We believe that funds from future operating cash flows, cash and investments and funds available under our credit agreements or from public or private financing sources will be sufficient for future operations and commitments and for capital acquisitions and other strategic transactions.
Our regulated subsidiaries’ states of domicile have statutory risk-based capital, or RBC, requirements for health and other insurance companies largely based on the NAIC’s RBC Model Act. These RBC requirements are intended to measure capital adequacy, taking into account the risk characteristics of an insurer’s investments and products. The NAIC sets forth the formula for calculating the RBC requirements, which are designed to take into account asset risks, insurance risks, interest rate risks and other relevant risks with respect to an individual insurance company’s business. In general, under this Act, an insurance company must submit a report of its RBC level to the state insurance department or insurance commissioner, as appropriate, at the end of each calendar year. Our risk-based capital as of December 31, 2004, which was the most recent date for which reporting was required, was in excess of all mandatory RBC thresholds. In addition to exceeding the RBC requirements, we are in compliance with the liquidity and capital requirements for a licensee of the Blue Cross Blue Shield Association and with the tangible net worth requirements applicable to certain of the Company’s California subsidiaries.
X. Safe Harbor Statement under the Private Securities Litigation Reform Act of 1995
Our portfolio includes corporate securities (approximately 44% of the total fixed maturity portfolio at December 31, 2004) which are subject to credit/default risk. In a declining economic environment, corporate yields will usually increase prompted by concern over the ability of corporations to make interest payments, thus causing a decrease in the price of corporate securities, and the decline in value of the corporate fixed maturity portfolio. This risk is managed through fundamental credit analysis, diversification of issuers and industries and an average credit rating of the corporate fixed maturity portfolio of approximately AA.
Our equity securities portfolio, as of December 31, 2004, was approximately 9% of our current investments. An immediate 10% decrease in each equity investment’s value, arising from market movement, would result in a fair value decrease of $117.3 million. Alternatively, an immediate 10% increase in each equity investment’s value, attributable to the same factor, would result in a fair value increase of $117.3 million.
Our total debt at December 31, 2004 was $4.4 billion, and included $793.2 million of commercial paper. The carrying value of the commercial paper approximates fair value as the underlying instruments have variable interest rates at market value. The remainder of the debt is subject to interest rate risk as these instruments have fixed interest rates and the fair value is affected by changes in market interest rates.
WellPoint, Inc. (“WellPoint” and collectively with its subsidiaries, the “Company”), name changed from Anthem, Inc. (“Anthem”) effective November 30, 2004, is the largest publicly traded commercial health benefits company in terms of membership in the United States, serving more than 27.7 million members as of December 31, 2004. Through its subsidiaries, the Company offers a broad spectrum of network-based managed care plans to the large and small employer, individual, Medicaid and senior markets. The Company’s managed care plans include preferred provider organizations (“PPOs”), health maintenance organizations (“HMOs”), point-of-service (“POS”) plans, other hybrid plans and traditional indemnity plans. In addition, the Company provides a broad array of managed care services to self-funded customers, including claims processing, underwriting, stop loss insurance, actuarial services, provider network access, medical cost management and other administrative services. The Company also provides an array of specialty and other products and services including pharmacy benefit management, group life and disability insurance benefits, dental, vision, behavioral health benefits, workers compensation and long-term care insurance. The Company is licensed in all 50 states.
On November 30, 2004, Anthem and WellPoint Health Networks Inc. (“WHN”) completed their merger. WHN merged with and into Anthem Holding Corp., a direct and wholly-owned subsidiary of Anthem, with Anthem Holding Corp. as the surviving entity in the merger. In connection with the merger, Anthem amended its articles of incorporation to change its name to WellPoint, Inc. In addition, the ticker symbol for Anthem’s common stock listed on the New York Stock Exchange was changed to “WLP”. WHN’s operating results are included in WellPoint’s consolidated financial statements for the period following November 30, 2004.
Realized gains or losses, determined by specific identification of investments sold or impaired, are included in income.
Stock-Based Compensation: The Company has a plan that provides for stock-based compensation, including stock options, restricted stock awards and an employee stock purchase plan. Stock options are granted for a fixed number of shares with an exercise price at least equal to the fair value of the shares at the date of the grant. Restricted stock awards are issued at the fair value of the stock on the grant date. The employee stock purchase plan allows for a purchase price per share which is 85% of the lower of the fair value of a share of common stock on (i) the first trading day of the plan quarter, or (ii) the last trading day of the plan quarter. The Company accounts for stock-based compensation using the intrinsic method under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”), and, accordingly, recognizes no compensation expense related to stock options and employee stock purchases. For grants of restricted stock, other than those awarded under long-term incentive agreements, unearned compensation equivalent to the fair value of the shares at the date of grant is recorded as a separate component of shareholders’ equity and subsequently amortized to compensation expense over the vesting period. The Company has adopted the disclosure-only provisions of FAS 123, Accounting for Stock-Based Compensation (“FAS 123”), as amended by FAS 148, Accounting for Stock-Based Compensation-Transition and Disclosure.
Basic earnings per share excludes dilution and is computed by dividing income available to common shareholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share includes the dilutive effect of stock options, restricted stock and purchase contracts included in Equity Security Units, using the treasury stock method. The treasury stock method assumes exercise of stock options, vesting of restricted stock and conversion of stock purchase rights under purchase contracts included in Equity Security Units, with the assumed proceeds used to purchase common stock at the average market price for the period. The difference between the number of shares assumed issued and number of shares assumed purchased represents the dilutive shares. The purchase contracts included in Equity Security Units were settled in November 2004, and the common stock issued is included in the basic earnings per share calculation at December 31, 2004. Under long-term incentive plans, when cumulative net income, as defined, met or exceeded threshold targets, contingently issuable shares were dilutive to earnings per share.
In accordance with FAS 141, the purchase price was allocated to the fair value of WHN assets acquired and liabilities assumed, including identifiable intangible assets. The excess of purchase price over the fair value of net assets acquired resulted in $7,579.6 of estimated non-tax deductible goodwill, of which $7,200.6 was allocated to the Health Care segment and $379.0 to the Specialty segment. The purchase price allocation is preliminary and additional refinements may occur, including the completion of final third-party valuations of certain intangible assets.
The results of operations for WHN are included in WellPoint’s consolidated financial statements for the period following November 30, 2004.
Trigon’s shareholders each received consideration of thirty dollars in cash and 1.062 shares of the Company’s common stock for each Trigon share outstanding. The purchase price was $4,038.1 and included cash of $1,104.3, the issuance of approximately 39.0 million shares of the Company’s common stock, valued at $2,708.1, Trigon stock options converted into Company stock options for approximately 3.9 million shares, valued at $195.5 and $30.2 of transaction costs. On July 31, 2002, the Company issued $950.0 of long-term senior unsecured notes which were used, along with the sale of investment securities and available cash, to fund the cash portion of the purchase price.
In accordance with FAS 141, the purchase price was allocated to the fair value of Trigon assets acquired and liabilities assumed, including identifiable intangible assets. The excess of purchase price over the fair value of net assets acquired resulted in $2,146.1 of non-tax deductible goodwill, which is allocated to the Health Care segment.
The unaudited pro forma information includes the results of operations for Trigon for the periods prior to the acquisition, adjusted for interest expense on long-term debt and reduced investment income related to the cash and investment securities used to fund the acquisition, additional amortization and depreciation associated with the purchase and the related income tax effects. The unaudited pro forma financial information is presented for informational purposes only and may not be indicative of the results of operations had Trigon been owned by the Company for the full year ended December 31, 2002, nor is it necessarily indicative of future results of operations. The following summary of unaudited pro forma financial information for the year ended December 31, 2002 presents revenues, net income and per share data of WellPoint as if the Trigon acquisition had occurred on January 1, 2002.
The Company’s fixed maturity investment portfolio is sensitive to interest rate fluctuations, which impact the fair value of individual securities. Unrealized losses reported above were generally caused by the effect of a rising interest rate environment on certain securities with stated interest rates currently below market rates. The Company has the ability and intent to hold these securities until their full cost can be recovered. Therefore, the Company does not believe the unrealized losses represent an other-than-temporary impairment as of December 31, 2004.
The Company’s holdings in other long-term investments totaled $166.5 and $40.2 as of December 31, 2004 and 2003, respectively.
The major categories of net investment income related to investments available-for-sale and long-term investments for the years ended December 31 are as follows:
The Company had cash requirements of approximately $4,000.0 for the WHN merger, including both the cash portion of the purchase price and estimated transaction costs. In anticipation of the merger, on November 15, 2004, the Company entered into a bridge loan agreement under which it could borrow up to $3,000.0. The amounts available under this bridge loan were reduced to $1,500.0 upon the Company entering into the senior credit facilities described in the paragraph below. On November 30, 2004, the Company borrowed $500.0 under this bridge facility to partially fund the WHN merger. As further described below, senior unsecured notes were issued to replace this bridge loan during December 2004. Upon issuance of the senior unsecured notes, the $500.0 of borrowings under the bridge loan was required to be repaid and the commitments under the bridge loan agreement were terminated.
On November 19, 2004, the Company entered into new senior credit facilities with certain of its lenders (i) in connection with the pending merger with WHN, (ii) to replace the existing $600.0 revolving credit facility set to mature on June 28, 2005 and the $400.0 revolving facility, which would have matured on November 5, 2006, and (iii) for general corporate purposes. The new facilities include a $1,000.0 364-day credit facility which expires on November 29, 2005 and a $1,500.0 five year facility which matures on November 30, 2009. The Company’s ability to borrow under these facilities is subject to compliance with certain covenants. On November 30, 2004, Anthem borrowed $900.0 under the 364-day facility and $1,400.0 under the five year facility to partially fund the WHN merger. As described in more detail below, senior unsecured notes and commercial paper were issued to replace these borrowings during December 2004. There were no amounts outstanding under the senior credit facilities and the Company was in compliance with the covenants as of December 31, 2004.
Surplus notes ($42.0 at 2004 and $300.0 at 2003 of 9.125% notes due 2010 and $25.1 at 2004 and $200.0 at 2003 of 9.000% notes due 2027) are unsecured obligations of Anthem Insurance Companies, Inc. (“Anthem Insurance”), a wholly owned subsidiary, and are subordinate in right of payment to all of Anthem Insurance’s existing and future indebtedness. Any payment of interest or principal on the surplus notes may be made only with the prior approval of the Indiana Department of Insurance (“IDOI”), and only out of capital and surplus funds of Anthem Insurance that the IDOI determines to be available for the payment under Indiana insurance laws. During December 2004, WellPoint completed a tender offer to purchase Anthem Insurance surplus notes from the holders, and purchased $258.0 of 9.125% notes due 2010 and $174.9 of 9.000% notes due 2027. The Company recorded a loss of $146.1 which has been recorded as loss on repurchase of debt securities in the statement of income for the year ended December 31, 2004.
On July 31, 2002, the Company issued $950.0 of long-term senior unsecured notes ($800.0 of 6.800% notes due 2012 and $150.0 of 4.875% notes due 2005). The net proceeds of $938.5 from the note offerings were used to pay a portion of the cash consideration and expenses associated with the acquisition of Trigon.
Proceeds from the remarketing were used to purchase U.S. Treasury securities which were held by a collateral agent to satisfy the stock purchase contract portion of the Equity Security Units. In November 2004, proceeds of $230.0 were received from the collateral agent, and approximately 5.3 million shares of common stock were issued pursuant to the purchase contract portion of the Equity Security Units.
In connection with the remarketing, in August 2004, the Company issued $200.0 of 3.500% Notes due 2007, which were used to exchange and retire $190.0 aggregate principal amount of the 4.655% remarketed subordinated debentures. The Company also received approximately $4.7 of cash proceeds, net of underwriting discounts and offering expenses. Following issuance of the 3.500% Notes due 2007, $40.0 of aggregate principal amount of the 4.655% remarketed debentures remained outstanding. During November 2004, the Company repurchased and retired the remaining $40.0 of aggregate principal amount of the 4.655% subordinated debentures and as of December 31, 2004, no amounts of the 4.655% subordinated debentures remain outstanding. The $200.0 of 3.500% Notes due 2007 were issued under a shelf registration filed with the Securities and Exchange Commission in December 2002 for any combination of debt or equity securities in one or more
Upon termination of the swaps the Company received a net $15.7, the net fair value at the times of termination. The Company recorded an unrealized gain of $10.2, net of tax, as accumulated other comprehensive income. Prior to the WHN merger, the Company reclassified $0.7 ($0.5 net of tax) to net realized gains on investments for the portion of the hedges that were deemed not probable of occurring. Following the completion of the WHN merger on November 30, 2004, the Company issued the expected debt securities, and balances in accumulated other comprehensive income will be amortized into earnings, as a reduction of interest expense, over the life of the debt securities. The unamortized fair value included in accumulated comprehensive income at December 31, 2004 was $9.7. As of December 31, 2004, the total amount of amortization over the next twelve months will decrease interest expense by approximately $1.3.
Commercial paper: The carrying amount for commercial paper approximates fair value as the underlying instruments have variable interest rates at market value.
The Company reinsures certain of its risks with other companies and assumes risk from other companies and such reinsurance is accounted for as a transfer of risk. The Company is contingently liable for amounts recoverable from the reinsurer in the event that it does not meet its contractual obligations.
In connection with the WHN merger, the Company assumed the WellPoint Health Networks Inc. 1999 Stock Incentive Plan, the WellPoint Health Networks Inc. 2000 Employee Stock Option Plan, the Cobalt Corporation Equity Incentive Plan, the RightCHOICE Managed Care, Inc. 2001 Stock Incentive Plan, the RightCHOICE Managed Care, Inc. 1994 Equity Incentive Plan and the RightCHOICE Managed Care, Inc. Nonemployee Directors’ Stock Option Plan, which collectively provided for the granting of stock options to employees and non-employee directors. WHN stock options were converted to WellPoint stock options using the option exchange ratio as defined in the merger agreement. The converted stock options were recorded at the acquisition date as additional paid in capital and valued at $810.0 using a Black-Scholes option-pricing model with weighted average assumptions as follows:
During the year ended December 31, 2004, pursuant to the Stock Plan, the Company granted 1,146,023 shares of stock, including 692,937 shares of restricted stock and 84,218 shares of WellPoint common stock under the Company’s 2001 Long-Term Incentive Plan. The Company also granted 7,526 shares of restricted stock to Anthem Southeast employees under long term incentive agreements, 2,090 shares of WellPoint common stock to non-employee directors, 357,666 shares of restricted stock and 1,586 shares of WellPoint common stock for awards at the fair value of WellPoint’s common stock on the grant dates. As of December 31, 2004, 1,051,163 shares of restricted stock remain unvested.
For grants of restricted stock, other than those awarded under long-term incentive agreements, unearned compensation equivalent to the fair market value of the shares at the date of grant is recorded as a separate component of shareholders’ equity and subsequently amortized to compensation expense over the vesting period. Compensation expense totaling $10.0, $2.2 and $1.5 was recognized for 2004, 2003 and 2002, respectively.
The Company has registered 3.0 million shares of common stock for the Employee Stock Purchase Plan (“Stock Purchase Plan”) which is intended to provide a means to encourage and assist employees in acquiring a stock ownership interest in WellPoint. The Stock Purchase Plan was initiated in June 2002 and any employee that meets the eligibility requirements, as defined, may participate. No employee will be permitted to purchase more than $25,000 (actual dollars) worth of stock in any calendar year, based on the fair market value of the stock at the beginning of each plan quarter. Employees become participants by electing payroll deductions from 1% to 15% of gross compensation. Payroll deductions are accumulated during each quarter and applied toward the purchase of stock on the last trading day of each quarter. Once purchased, the stock is accumulated in the employee’s investment account. The purchase price per share is 85% of the lower of the fair market value of a share of common stock on either the first or last trading day of the quarter. Employee purchases under the Stock Purchase Plan were $21.9, $18.4 and $6.9, respectively, resulting in the issuance of approximately 0.3 million, 0.3 million and 0.2 million shares during 2004, 2003 and 2002, respectively. As of December 31, 2004, there were approximately 2.2 million shares of common stock available for issuance under the Stock Purchase Plan.
On January 27, 2003, the Board of Directors authorized the repurchase of up to $500.0 of stock under a program that was to expire in February 2005. On October 25, 2004, the Board of Directors authorized an increase of $500.0 to the program and extended the expiration date through February 2006. Under the program, repurchases may be made from time to time at prevailing prices, subject to certain restrictions on volume, pricing and timing. During 2004, the Company repurchased and retired 1.0 million shares, at an average per share price of $82.24, for an aggregate cost of $82.3. During 2003, the Company repurchased and retired approximately 3.4 million shares, at an average per share price of $64.06, for an aggregate cost of $217.2. The excess of cost of the repurchased shares over par value is charged on a pro rata basis to additional paid in capital and retained earnings. Under this program, an additional $700.5 remains authorized for future repurchases.
Effective July 31, 2002, as partial consideration for the purchase of Trigon, the Company issued 1.062 shares of common stock for each Trigon share outstanding, resulting in additional outstanding shares of approximately 39.0 million. The $2,708.1 fair value of the common shares issued was determined based on the average closing price of the Company’s common stock for the five trading days ranging from two days before to two days after the merger was announced. Offering costs of $4.1 reduced the aggregate fair value and $2,704.0 was recorded as par value of common stock and additional paid in capital.
At the time of its initial public offering on November 2, 2001, the Company issued 4.6 million Equity Security Units at 6.00%. Each Equity Security Unit contained a purchase contract under which the holder agreed to purchase, for fifty dollars, shares of the Company’s common stock on November 15, 2004. In November 2004, the Company received $230.0 for the issuance of approximately 5.3 million shares of Anthem common stock pursuant to the purchase contract portion of the Equity Security Units. The number of shares purchased was determined based on the average trading price of the Company’s common stock at the time of settlement.
Shares were issued under the long-term incentive plan in April 2004. The Equity Security Unit purchase contracts were settled on November 15, 2004, and approximately 5.3 million shares of the Company’s common stock were issued and included in the basic earnings per share calculation.
The net decrease in the valuation allowance for 2004 and 2003 was $33.8 and $81.9, respectively. The valuation allowance is attributable to the uncertainty of alternative minimum tax (“AMT”) credits and net operating loss carryforwards. As deferred tax assets related to these types of deductions are recognized in the tax return, the valuation allowance is no longer required and is reduced. During 2004 and 2003, the valuation allowance change was due to utilization of AMT credits and net operating loss carryforwards and the entire amount was recorded as additional tax liabilities. Also the valuation allowance was increased by $4.7 as a result of the WHN merger. During 2002, $18.0 of the change in the valuation allowance was recorded as a reduction to goodwill. This adjustment resulted from recognition of deferred tax assets previously determined to be unrealizable. In addition, during 2002, $57.2 of the decrease was recorded as additional tax liabilities and $37.2 was recorded as a reduction to income tax expense.
Certain employees of the former Cobalt Corporation, parent company of Blue Cross Blue Shield of Wisconsin and United Government Services, LLC (“UGS”) are covered by the UGS Pension Plan which
term rate of return is calculated by the geometric averaging method, which calculates an expected multi-period return, reflecting volatility drag on compound returns.
In October 2000, the federal Judicial Panel on Multidistrict Litigation (“MDL”) issued an order consolidating the CMA Litigation, the Shane lawsuit and various other pending managed care class-action lawsuits against other companies before District Court Judge Federico Moreno in the Southern District of Florida for purposes of pretrial proceedings (hereinafter collectively “MDL Cases”). A mediator has been appointed by Judge Moreno and the parties are currently conducting court-ordered mediation. On December 9, 2004, Judge
On November 4, 2003, in a case titled Jeffrey Solomon, D.C., et al., v. Blue Cross Blue Shield Association, et al., several chiropractors, podiatrists, a psychologist and a physical therapist, along with their professional corporations and trade associations, filed suit in federal district court in Miami, Florida against the Blue Cross Blue Shield Association and Blue Cross and Blue Shield plans across the country, including the Company. The suit alleges that the BCBS Association and the BCBS Plans violated RICO and challenges many of the same practices as other suits in the MDL Cases. This case has been transferred to the MDL docket and is now assigned to Judge Moreno in Miami. Plaintiffs filed a motion for class certification and the defendants have filed motions to dismiss and motions to compel arbitration. All motions are currently pending before Judge Moreno.
However, if the Company were to become subject to such liabilities, the Company could suffer losses that might have a material adverse effect on its financial condition, results of operations or cash flows.
The Company serves as a fiscal intermediary for Medicare Parts A and B. The fiscal intermediaries for these programs receive reimbursement for certain costs and expenditures, which is subject to adjustment upon audit by the Federal Centers for Medicare & Medicaid Services, formerly the Health Care Financing Administration. The laws and regulations governing fiscal intermediaries for the Medicare program are complex, subject to interpretation and can expose an intermediary to penalties for non-compliance. Fiscal intermediaries may be subject to criminal fines, civil penalties or other sanctions as a result of such audits or reviews. While the Company believes it is currently in compliance in all material respects with the regulations governing fiscal intermediaries, there are ongoing reviews by the federal government of the Company’s activities under certain of its Medicare fiscal intermediary contracts.
Statutory-basis capital and surplus for WellPoint’s insurance subsidiaries was $6,094.9 and $3,346.6 at December 31, 2004 and 2003, respectively. Statutory-basis net income of WellPoint’s insurance subsidiaries was $1,545.9, $565.0 and $538.9 for 2004, 2003 and 2002, respectively. Statutory-basis capital and surplus of WellPoint’s insurance subsidiaries are subject to regulatory restrictions with respect to amounts available for dividends to WellPoint. WellPoint’s insurance subsidiaries’ risk-based capital as of December 31, 2004 was in excess of all mandatory risk-based capital thresholds.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
There have been no changes in or disagreements with the Company’s independent certified public accountants on accounting or financial disclosures.
The Company completed its acquisition of WellPoint Health Networks Inc. (“WHN”) on November 30, 2004. As permitted by the Securities and Exchange Commission, management’s assessment did not include the Internal Control of the acquired operations of the former WHN, which is included in the Company’s consolidated financial statements as of December 31, 2004 and for the period from December 1, 2004 through December 31, 2004. Such operations of WHN constituted approximately $12.1 billion and $4.1 billion of the Company’s total
Based on management’s assessment, which excluded an assessment of Internal Control of the acquired operations of WHN, management has concluded that the Company’s Internal Control was effective as of December 31, 2004 to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external reporting purposes in accordance with GAAP.
Ernst & Young LLP, our independent registered public accounting firm, has audited the consolidated financial statements of the Company for the year ended December 31, 2004, and has also issued an audit report dated March 4, 2005, on management’s assessment of the Company’s Internal Control, which is included in this Annual Report on Form 10-K.
Changes to certain processes, information technology systems, and other components of Internal Control resulting from the November 30, 2004 acquisition of WHN may occur and will be evaluated by management as such integration activities are implemented. Other than the impact of the acquisition of WHN, there were no changes in Internal Control that have materially affected, or are reasonably likely to materially affect, the Company’s Internal Control during the quarter ended December 31, 2004.
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that WellPoint, Inc. (formerly Anthem, Inc.) maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO criteria”). WellPoint, Inc.’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the company’s internal control over financial reporting based on our audit.
As indicated in the accompanying Management’s Report on Internal Control Over Financial Reporting, management’s assessment of and conclusion on the effectiveness of internal control over financial reporting did not include the internal control of WellPoint Health Networks Inc., which is included in the 2004 consolidated financial statements of WellPoint, Inc. and constituted approximately $12.1 billion and $4.1 billion of total and net assets, respectively, as of December 31, 2004 and approximately $2.0 billion and $0.1 billion of revenues and net income, respectively, for the year then ended.
The Company completed its acquisition of WellPoint Health Networks Inc. on November 30, 2004, and as permitted by the Securities and Exchange Commission’s guidance, management did not assess the effectiveness of internal control over financial reporting of WellPoint Health Networks Inc. Our audit of internal control over financial reporting of WellPoint, Inc. also did not include an evaluation of the internal control over financial reporting of WellPoint Health Networks Inc.
In our opinion, management’s assessment that WellPoint, Inc. maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, WellPoint, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of WellPoint, Inc. as of December 31, 2004 and 2003, and the related consolidated statements of income, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2004, and our report dated March 4, 2005 expressed an unqualified opinion thereon.
The information required by this Item concerning certain relationships and related transactions is incorporated herein by reference from the Company’s definitive Proxy Statement for its 2005 Annual Meeting of Shareholders which will be filed with the Commission pursuant to Regulation 14A within 120 days after the end of the Company’s last fiscal year.
The information required by this Item concerning principal accounting fees and services is incorporated herein by reference from the Company’s definitive Proxy Statement for its 2005 Annual Meeting of Shareholders which will be filed with the Commission pursuant to Regulation 14A within 120 days after the end of the Company’s last fiscal year.
Consolidated Statements of Income for the years ended December 31, 2004, 2003 and 2002
All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions, are inapplicable, or the required information is included in the consolidated financial statements, and therefore have been omitted.
The response to this portion of Item 15 is submitted as a separate section of this report.
In WellPoint’s “parent company only” financial statements, WellPoint’s investment in subsidiaries is stated at cost plus equity in undistributed earnings of the subsidiaries. WellPoint’s share of net income of its unconsolidated subsidiaries is included in income using the equity method of accounting.
WellPoint’s investment in subsidiary surplus notes is stated at estimated fair value.
WellPoint’s parent company only financial statements should be read in conjunction with WellPoint’s audited consolidated financial statements and the accompanying notes included in this Form 10-K.
As described in Note 1, on November 30, 2004, Anthem completed its merger with WHN and purchased 100% of the outstanding common stock of WHN. As a result of the merger, each WHN stockholder received $23.80 in cash, without interest, and one share of WellPoint common stock for each share of WHN common stock held. The purchase price was $16,022.3 and included cash of $3,718.8, the issuance of approximately 155.3 million shares of WellPoint common stock, valued at $11,293.8, WHN stock options converted to WellPoint stock options and other stock awards for approximately 21.8 million shares valued at $806.3, and $203.4 of estimated transaction costs. The fair value of common stock issued was based on $72.70 per share, which represents the average closing price of the Company’s common stock for the five trading days ranging from two days before to two days after October 27, 2003, the date the merger was announced. In connection with the WHN merger, WellPoint executed certain undertakings with the California Department of Managed Health Care, the California Department of Insurance (“California DOI”), and the Georgia Department of Insurance which contained various commitments by WellPoint. Expenses for merger-related undertakings with the California DOI of $50.0 were recorded by WellPoint in 2004.
During December 2004, WellPoint completed a tender offer to purchase surplus notes of Anthem Insurance Companies, Inc. a direct wholly-owned subsidiary, and purchased $258.0 of 9.125% notes due 2010 and $174.9 of 9.00% notes due 2027. A loss of $146.1 was recorded by WellPoint, representing the amount fair value exceeded par value at the time of purchase.
On November 19, 2004, WellPoint entered into new senior credit facilities with certain of its lenders (i) in connection with the pending merger with WHN, (ii) to replace the existing $600.0 revolving credit facility set to mature on June 28, 2005 and the $400.0 revolving facility, which would have matured on November 5, 2006, and (iii) for general corporate purposes. The new facilities include a $1,000.0 364-day credit facility which expires on November 29, 2005 and a $1,500.0 five year facility which matures on November 30, 2009. WellPoint’s ability to borrow under these facilities is subject to compliance with certain covenants. On November 30, 2004, WellPoint borrowed $900.0 under the 364-day facility and $1,400.0 under the five year facility to partially fund the WHN merger. As described in more detail below, senior unsecured notes and commercial paper were issued to replace these borrowings during December 2004. There were no amounts outstanding under the senior credit facilities and WellPoint was in compliance with the covenants as of December 31, 2004.
On July 31, 2002, WellPoint issued $950.0 of long-term senior unsecured notes ($800.0 of 6.800% notes due 2012 and $150.0 of 4.875% notes due 2005). The net proceeds of $938.5 from the note offerings were used to pay a portion of the cash consideration and expenses associated with the acquisition of Trigon Healthcare, Inc.
On December 9, 2004, WellPoint issued $300.0 of 3.750% Notes due 2007, $300.0 of 4.250% Notes due 2009, $500.0 of 5.000% Notes due 2014 and $500.0 of 5.950% Notes due 2034. Net proceeds from this offering were approximately $1,583.7 after deducting the initial purchasers’ discount and estimated offering expenses. Proceeds from these notes were used to repay the $500.0 outstanding under the bridge loan, $500.0 outstanding under the five-year senior credit facility and $500.0 to fund the tender offer to purchase surplus notes of Anthem Insurance. The remainder of the proceeds was used to repay commercial paper.
The information regarding hedging activity contained in Note 7 of the Notes to Consolidated Financial Statements of WellPoint and its subsidiaries is incorporated herein by reference.
Executive Vice President and Chief Financial and Accounting Officer (Principal Financial and Principal Accounting Officer)
Amended and Restated Agreement and Plan of Merger, effective as of October 26, 2003, among the Company, Anthem Holding Corp. and WellPoint Health Networks Inc., incorporated by reference to Appendix A to the Company’s Registration Statement on Form S-4 (Registration No. 333-110830) (exhibits thereto will be furnished supplementally to the Securities and Exchange Commission upon request).
Articles of Incorporation of the Company, as amended effective November 30, 2004 (Included in Exhibit 3.1).
By-Laws of the Company, amended and restated effective November 30, 2004 (Included in Exhibit 3.2).
(a) First Supplemental Indenture, dated as of November 2, 2001, between the Company and The Bank of New York, as trustee, establishing 5.95% Subordinated Debentures due 2006, incorporated by reference to Exhibit 4.4 to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2001.
(e) Form of Normal Units Certificate relating to the 5.95% Subordinated Debentures due 2006 (Included in Exhibit 4.4(c)), incorporated by reference to Exhibit 4.6 to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2001.
(a) First Supplemental Indenture, dated as of July 31, 2002, between the Company and The Bank of New York, Trustee, establishing 4.875% Notes due 2005 and 6.800% Notes due 2012, incorporated by reference to Exhibit 4.14 to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2002.
Form of Subordinated Note Indenture by and between the Company and The Bank of New York, as trustee, incorporated by reference to Exhibit 4.17 to the Company’s Registration Statement on Form S-3 (Registration No. 333-101969).
364-Day Credit Agreement, dated as of November 19, 2004, among the Company, as the Borrower; Bank of America, N.A., as Administrative Agent; the other Lenders party thereto; JPMorgan Chase Bank, as Syndication Agent; UBS Loan Finance LLC and Williams Street Commitment Corporation, as Co-Documentation Agents; and Banc of America Securities LLC and J.P.Morgan Securities Inc., as Joint Lead Arrangers and Joint Book Managers, incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K filed on November 24, 2004.
(b) Form of Note evidencing WellPoint Health’s 6 3/8% Notes due 2006, incorporated by reference to Exhibit 4.1 to WellPoint Health’s Current Report on Form 8-K filed on June 14, 2001 (File No. 001-13083).
(a) Form of Anthem 2001 Stock Incentive Plan Option Grant Letter as of January 1, 2005.
(a) Amendment No. 1 to Anthem Employee Stock Purchase Plan, dated July 2, 2002, incorporated by reference to Exhibit 10.2(i) to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2002.
(b) Amendment No. 2 to Anthem Employee Stock Purchase Plan, dated July 29, 2002, incorporated by reference to Exhibit 10.2(ii) to the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2002.
Employment Agreement by and between Anthem Insurance Companies, Inc. and David R. Frick, dated as of January 1, 2000, incorporated by reference to Exhibit 10.4 to the Company’s Registration Statement on Form S-1 (Registration No. 333-67714).
(a) Amendment One to Employment Agreement by and between Anthem Insurance Companies, Inc. and Samuel R. Nussbaum, M.D., effective as of January 1, 2002, incorporated by reference to Exhibit 10.5(ii) to the Company’s Annual Report on Form 10-K for the year ended December 31, 2001.
(a) Amendment One to Employment Agreement by and between Anthem Insurance Companies, Inc. and Michael L. Smith, effective as of January 1, 2003, incorporated by reference to Exhibit 10.6(i) to the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.
Employment Agreement by and between Anthem Insurance Companies, Inc. and Marjorie W. Dorr, dated as of January 1, 1999, incorporated by reference to Exhibit 10.7(i) to the Company’s Registration Statement on Form S-1 (Registration No. 333-67714).
Employment Agreement by and between Anthem Insurance Companies, Inc. and Keith R. Faller, dated as of January 1, 1999, incorporated by reference to Exhibit 10.8(i) to the Company’s Registration Statement on Form S-1 (Registration No. 333-67714).
(a) Amendment One to Employment Agreement by and between Anthem Insurance Companies, Inc. and Keith R. Faller, effective as of January 1, 2000, incorporated by reference to Exhibit 10.8(ii) to the Company’s Registration Statement on Form S-1 (Registration No. 333-67714).
(c) Amendment Three to Employment Agreement by and between Anthem Insurance Companies, Inc. and Keith R. Faller, effective as of January 1, 2002, incorporated by reference to Exhibit 10.8(iv) to the Company’s Annual Report on Form 10-K for the year ended December 31, 2001.
(a) Amendment One to Employment Agreement by and between Anthem Insurance Companies, Inc. and Mark L. Boxer, effective as of January 1, 2003.
(b) Amendment Two to Employment Agreement by and between Anthem Insurance Companies, Inc. and Mark L. Boxer, effective as of January 1, 2005.
(a) First Amendment to Anthem Deferred Compensation Plan, adopted December 16, 1998, incorporated by reference to Exhibit 10.14(ii) to the Company’s Registration Statement on Form S-1 (Registration No. 333-67714).
(a) First Amendment to the Anthem Supplemental Executive Retirement Plan, executed on March 30, 2000, incorporated by reference to Exhibit 10.16(ii) to the Company’s Registration Statement on Form S-1 (Registration No. 333-67714).
(b) Second Amendment to the Anthem Supplemental Executive Retirement Plan, executed on September 1, 2000, incorporated by reference to Exhibit 10.16(iii) to the Company’s Registration Statement on Form S-1 (Registration No. 333-67714).
Anthem 2001-2003 Long-Term Incentive Plan, effective January 1, 2001, incorporated by reference to Exhibit 10.18 to the Company’s Registration Statement on Form S-1 (Registration No. 333-67714).
Employment Agreement among the Company, Trigon Healthcare, Inc. and Thomas G. Snead, Jr., dated as of June 7, 2002, incorporated by reference to Exhibit 10.24 to the Company’s Registration Statement on Form S-4 (Registration No. 333-88776).
(i) Amendment One to Employment Agreement by and between the Company and Thomas G. Snead, Jr., effective January 1, 2003, incorporated by reference to Exhibit 10.24(i) to the Company’s Annual Report on Form 10-K for the year ended December 31, 2002.
(a) First Amendment of the Anthem 401(k) Long Term Savings Investment Plan (Second Restatement Effective January 1, 1997), effective June 1, 2002, incorporated by reference to Exhibit 99.2 to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2002.
(d) Fourth Amendment of the Anthem 401(k) Long Term Savings Investment Plan (Second Restatement Effective January 1, 1997), effective January 1, 2002, incorporated by reference to Exhibit 10.25(iv) to the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2004.
Trigon Healthcare, Inc. 1997 Stock Incentive Plan, incorporated by reference to Exhibit A to Trigon Healthcare, Inc.’s Definitive Proxy Statement for its 1997 Annual Meeting of Shareholders filed on March 14, 1997.
Trigon Insurance Company 401(k) Restoration Plan, effective January 1, 1995, incorporated by reference to Exhibit 99(ii) to Trigon Healthcare, Inc.’s Registration Statement on Form S-8 (Registration No. 333-22463).
Anthem Annual Incentive Plan, effective January 1, 2003, incorporated by reference to Exhibit 10.32 to the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2003.
Orders Approving Notice of Material Modification and Undertakings, dated September 7, 1995, by Blue Cross of California, WellPoint Health and WellPoint Health’s subsidiaries to the California Department of Corporations, incorporated by reference to Exhibit 10.47 to WellPoint Health’s Quarterly Report on Form 10-Q for the quarter ended September 30, 1995 (File No. 1-11628).
Amended and Restated Undertakings, dated March 5, 1996, by Blue Cross of California, WellPoint Health and certain of its subsidiaries to the California Department of Corporations, incorporated by reference to Exhibit 99.1 to WellPoint Health’s Current Report on Form 8-K dated March 5, 1996 (File No. 1-11628).
Indemnification Agreement, dated as of May 17, 1996, by and among WellPoint Health, WellPoint Health Networks Inc., a Delaware corporation, and Western Health Partnerships, incorporated by reference to Exhibit 99.9 to WellPoint Health’s Current Report on Form 8-K filed June 3, 1996 (File No. 333-03292-01).
Undertakings, dated July 31, 1997, by WellPoint Health, Blue Cross of California and WellPoint California Services, Inc. to the California Department of Corporations, incorporated by reference to Exhibit 99.12 to WellPoint Health’s Current Report on Form 8-K filed on August 5, 1997 (File No. 001-13083).
Form of Indemnification Agreement between WellPoint Health and its Directors and Officers, incorporated by reference to Exhibit 10.17 to WellPoint Health’s Registration Statement on Form S-1 (Registration No. 33-54898).
(c) Form of WellPoint Health Networks Inc. 1999 Stock Incentive Plan Restricted Share Right Grant Agreement (Non-Officers), as of January 26, 2004, incorporated by reference to Exhibit 10.05 to WellPoint Health’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2004 (File No. 001-13083).
10-Q for the quarter ended September 30, 2004 (File No. 001-13083).
(g) Form of WellPoint Health Networks Inc. 1999 Stock Incentive Plan Notice of Automatic Grant of Stock Option, Notice of Annual Automatic Grant of Stock Option, Notice of Grant of Stock Option and Automatic Stock Option Agreement for Non-Employee Directors, incorporated by reference to Exhibit 10.09 to WellPoint Health’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2004 (File No. 001-13083).
WellPoint Health Networks Inc. 1999 Executive Officer Annual Incentive Plan, incorporated by reference to Annex II to WellPoint Health’s Definitive Proxy Statement for its 2001 Annual Meeting of Stockholders filed on March 30, 2001 (File No. 001-13083).
(a) Form of WellPoint Health Networks Inc. 2000 Employee Stock Option Plan Notice of Grant of Stock Option and Stock Option Agreement, revised December 2001, incorporated by reference to Exhibit 10.03 to WellPoint Health’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2004 (File No. 001-13083).
RightCHOICE Managed Care, Inc. 2001 Stock Incentive Plan, effective May 1, 2001, incorporated by reference to Exhibit 10 to the Registration Statement on Form S-8 of RightCHOICE Managed Care, Inc. (File No. 333-62898).
WellPoint Health Networks Inc. Officer Change-in-Control Plan (As amended and restated through December 4, 2001) (as revised in October 2003), incorporated by reference to Exhibit 10.13 to WellPoint Health’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2003 (File No. 001-13083).
(a) Amendment to the WellPoint 401(k) Retirement Savings Plan, effective as of April 30, 2002, incorporated by reference to Exhibit 10.01 to WellPoint Health’s Quarterly Report on Form
10-Q for the quarter ended June 30, 2002 (File No. 001-13083).
(d) EGTRRA Amendment to the WellPoint 401(k) Retirement Savings Plan (as amended through March 1, 2002), dated December 4, 2002, incorporated by reference to Exhibit 10.69 to the WellPoint Health’s Annual Report on Form 10-K for the year ended December 31, 2002 (File No. 001-13083).
(g) Amendment to the WellPoint 401(k) Retirement Savings Plan, dated October 10, 2003, incorporated by reference to Exhibit 10.12 to WellPoint Health’s Quarterly Report on Form
10-Q for the quarter ended September 30, 2003 (File No. 001-13083).
(i) Amendment to the WellPoint 401(k) Retirement Savings Plan (As Amended Through December 31, 2003), dated December 31, 2003, incorporated by reference to Exhibit 10.80 to WellPoint Health’s Annual Report on Form 10-K for the year ended December 31, 2003 (File No. 001-13083).
(j) Amendment to the WellPoint 401(k) Retirement Savings Plan (As Amended Through December 31, 2003), dated January 15, 2004, incorporated by reference to Exhibit 10.81 to WellPoint Health’s Annual Report on Form 10-K for the year ended December 31, 2003 (File No. 001-13083).
(k) Amendment to the WellPoint 401(k) Retirement Savings Plan, effective as of February 28, 2004, incorporated by reference to Exhibit 10.01 to WellPoint Health’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2004 (File No. 001-13083).
(l) Amendment to the WellPoint 401(k) Retirement Savings Plan, effective as of April 23, 2004, incorporated by reference to Exhibit 10.02 to WellPoint Health’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2004 (File No. 001-13083).
(m) Amendment to the WellPoint 401(k) Retirement Savings Plan, executed on July 9, 2004, incorporated by reference to Exhibit 10.01 to WellPoint Health’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2004 (File No. 001-13083).
Form of letter agreement, dated February 2004, between WellPoint Health and executive officers of WellPoint Health, incorporated by reference to Exhibit 10.83 to WellPoint Health’s Annual Report on Form 10-K for the year ended December 31, 2003 (File No. 001-13083).
WellPoint, Inc. Board of Directors Compensation Program, approved February 2, 2005, incorporated by reference to Exhibit 99.1 to the Company’s Current Report on Form 8-K filed on February 8, 2005.
Amended and Restated Employment Agreement dated as of December 31, 2002 by and between WellPoint Health Networks Inc. and Leonard D. Schaeffer, incorporated by reference to Exhibit 99.1 to the WellPoint Health Networks Inc. Current Report on Form 8-K dated December 31, 2002.
Certification of Chief Executive Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Exchange Act Rules, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
We have audited the accompanying consolidated balance sheets of WellPoint, Inc. (formerly Anthem, Inc.) as of December 31, 2004 and 2003, and the related consolidated statements of income, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2004. Our audits also included the financial statement schedule listed in the Index at Item 15(a). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
Investments: All current fixed maturity and equity securities are classified as “available-for-sale” and are reported at fair value. The Company has determined its investment securities are available to support current operations and, accordingly, has classified such investment securities as current assets without regard for contractual maturities. The unrealized gains or losses on these securities are included in accumulated other comprehensive income as a separate component of shareholders’ equity unless the decline in value is deemed to
Long-term investments consist primarily of restricted assets, investments on deposit with regulatory agencies and certain equity and other investments. The Company classifies investments used to satisfy contractual, regulatory or other requirements as long-term investments, without regard to contractual maturity dates. Investments in certain restricted assets included in rabbi trusts are accounted for as trading securities and reported at fair value. Long-term investments used for other contractual obligations and investments on deposit with regulatory agencies are considered available-for-sale and reported at fair value. The Company’s investments in limited partnerships and other non-consolidated investments are generally accounted for using the equity method.
Premium and Self-Funded Receivables: Premium and self-funded receivables include the uncollected amounts from insured and self-funded groups, and are reported net of an allowance for doubtful accounts of $78.1 and $18.0 at December 31, 2004 and 2003, respectively. The allowance for doubtful accounts is based on historical collection trends and management’s judgment regarding the ability to collect specific accounts.
Other Receivables: Other receivables include amounts for interest earned on investments, proceeds due from brokers on investment trades, government programs, pharmacy sales, reinsurance, claim recoveries and other miscellaneous amounts due to the Company. These receivables have been reduced by an allowance for uncollectible amounts of $84.6 and $25.1 at December 31, 2004 and 2003, respectively.
Goodwill and Other Intangible Assets: The Company follows FAS 141, Business Combinations, and FAS 142, Goodwill and Other Intangible Assets. FAS 141 requires business combinations to be accounted for using the purchase method of accounting and it also specifies the types of acquired intangible assets that are required to be recognized and reported separately from goodwill. Under FAS 142, goodwill and other intangible assets with indefinite lives are not amortized but are tested for impairment at least annually. Goodwill represents the excess of cost of acquisition over the fair value of net assets acquired. Other intangible assets represent the values assigned to subscriber bases, provider and hospital networks, Blue Cross and Blue Shield trademarks, licenses, non-compete and other agreements.
Retirement Benefits: Pension benefits are recorded in accordance with FAS 87, Employers’ Accounting for Pensions. Prepaid pension benefits represent prepaid benefit costs related to defined benefit pension plans and are reported with other noncurrent assets. Liabilities for pension benefits are reported with other noncurrent liabilities.
Hedging Activity: The Company uses derivative financial instruments, specifically interest rate swap agreements, to hedge exposures in interest rate risk. The counterparties to these contractual arrangements are major financial institutions with which the Company also has other financial relationships. These counterparties expose the Company to credit loss in the event of non performance. However, the Company does not anticipate nonperformance by the counterparties. FAS 133, Accounting for Derivative Instruments and Hedging Activities (“FAS 133”), as amended, requires that derivatives be recorded on the balance sheet as either assets or liabilities at fair value and establishes hedge accounting treatment for hedges of changes in the fair value of assets, liabilities or firm commitments (fair value hedges), and hedges of variable cash flows of recognized assets or liabilities, or of forecasted transactions (cash flow hedges). Changes in the fair value of derivatives that do not meet hedge criteria are included in income at the time of change in value. For fair value hedges, any gains or losses are recognized in income in the period that a change in value occurs. In addition, changes in the fair value of the hedged item are simultaneously recognized in income. For cash flow hedges, the effective portion of a derivatives gain or loss is recorded in other comprehensive income and subsequently recognized in earnings in the same period or periods the hedge forecasted transaction affects earnings. The Company does not use derivative instruments for speculative purposes.
Federal Income Taxes: The Company files a consolidated income tax return. Deferred income tax assets and liabilities are recognized for the differences between the financial and income tax reporting bases of assets and liabilities based on enacted tax rates and laws. The deferred income tax expense or benefit generally represents the net change in deferred income tax assets and liabilities during the year. The current income tax expense represents the tax consequences of revenues and expenses currently taxable or deductible on various income tax returns for the year reported.
On December 16, 2004, FAS 123 (revised 2004), Share-Based Payment (“FAS 123R”), was issued. FAS 123R is a revision of FAS 123, supersedes APB 25 and amends FAS 95, Statement of Cash Flows. Generally, the approach in FAS 123R is similar to the approach described in FAS 123. However, FAS 123R requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values and pro forma disclosure is no longer an alternative. Additionally, excess tax benefits, as defined in FAS 123R, will be recognized as an addition to additional paid-in-capital and will be reclassified from operating cash flows to financing cash flows in the consolidated statement of cash flows. The
Earnings Per Share: Earnings per share amounts, on a basic and diluted basis, have been calculated based upon the weighted-average common shares outstanding for the period.
The estimated fair values of WHN assets acquired and liabilities assumed at the date of the merger are summarized as follows:
Georgia Department of Insurance (“Georgia DOI”) which contained various commitments by the Company. Expenses for merger related undertakings of $61.5 were recorded in 2004 for certain obligations under our agreements with the California DOI and the Georgia DOI. Specifically, WellPoint committed to donations of $35.0 to community clinics in California and $15.0 for a program to be conducted through California community colleges to support the training of new nurses in California. Further, Blue Cross and Blue Shield of Georgia, Inc. and Blue Cross and Blue Shield Healthcare Plan of Georgia, Inc., committed to spend $11.5 for the establishment and administration of a telemedicine network to benefit health care in rural Georgia.
The unaudited pro forma information includes the results of operations for WHN for the periods prior to the merger, adjusted for interest expense on long-term debt and reduced investment income related to the cash and investment securities used to fund the acquisition, additional amortization and depreciation associated with the purchase and the related income tax effects. The unaudited pro forma financial information is presented for informational purposes only and may not be indicative of the results of operations had WHN been owned by WellPoint for the full years ended December 31, 2004 and 2003, nor is it necessarily indicative of future results of operations. The following summary of unaudited pro forma financial information presents revenues, net income and per share data of WellPoint as if the WHN merger had occurred on January 1, 2003.
On July 31, 2002, the Company completed its purchase of 100% of the outstanding stock of Trigon Healthcare, Inc. (“Trigon”). Trigon was Virginia’s largest health care company and was the Blue Cross and Blue Shield licensee in Virginia, excluding the immediate suburbs of Washington, D.C.
During 2002, in addition to Trigon, the Company completed two other acquisitions and made an additional contingent purchase price payment on a 1999 acquisition with an aggregate purchase price of $22.1. Goodwill recognized in these transactions amounted to $14.1 of which $9.4 was deductible for tax purposes. Goodwill
A summary of the change in the carrying amount of goodwill by reportable segment (see Note 20) for 2004 and 2003 is as follows:
Goodwill acquired in 2004 included $7,579.6 related to the merger with WHN and $6.1 of additional goodwill related to a contingent earnout for a subsidiary in our Health Care segment. Goodwill adjustments of $17.9 relate to the exercise of stock options issued as part of the Trigon acquisition.
Goodwill adjustments for 2003 of $37.8 for the Health Care segment include a $16.4 tax benefit associated with the exercise of stock options issued as part of the Trigon acquisition and $21.4 for purchase accounting adjustments.
use of estimates related to the fair value of the business with which the goodwill and other intangible assets with indefinite lives are allocated. There were no impairment losses recorded during 2004, 2003 and 2002.
Proceeds from sales of fixed maturity and equity securities during 2004, 2003 and 2002 were $7,227.3, $4,115.0 and $4,535.9, respectively. Gross gains of $95.4, $60.4 and $72.7 and gross losses of $51.4, $18.2 and $39.2 were realized on those sales in 2004, 2003 and 2002, respectively.
A summary of available-for-sale investments with unrealized losses as of December 31, 2004 and 2003 along with the related fair value, aggregated by the length of time that investments have been in a continuous unrealized loss position, is as follows:
During 2004, the Company entered into securities lending programs that were historically transacted by WHN. Securities on loan under the Company’s securities lending programs are included in the cash and investment captions shown on the accompanying consolidated balance sheets. Under these programs, brokers and dealers who borrow securities are required to deliver substantially the same security to the Company upon completion of the transaction. The balance of securities on loan as of December 31, 2004 was $658.5. Income earned on security lending transactions for the year ended December 31, 2004 was $0.1.
The senior unsecured notes of 6.375% due 2006 and 6.375% due 2012 were obligations of WHN prior to the merger. This indebtedness was assumed by Anthem Holding Corp., a direct wholly-owned subsidiary of WellPoint. As required by FAS 141, this debt was recorded at fair value as of the merger date.
Cash and cash equivalents: The carrying amount approximates fair value, based on the short-term maturities of these instruments.
Investments, available for sale, at fair value: The carrying amount approximates fair value, based on quoted market prices for the same or similar instruments.
The effect of reinsurance on benefit expense for the years ended December 31 is as follows:
In accordance with the Stock Plan, options to purchase shares of common stock at an amount equal to the fair market value of the stock at the date of grant were granted to eligible employees and non-employee directors during 2004, 2003 and 2002. Options vest and expire over terms as set by the Compensation Committee at the time of grant. These options generally vest at the end of two or three years and expire 10 years from the grant date.
Information about stock options outstanding and exercisable as of December 31, 2004 is summarized as follows:
During the year ended December 31, 2003, pursuant to the Stock Plan, the Company granted 21,713 shares of restricted stock and stock, including 16,849 restricted shares to Anthem Southeast employees under former Trigon long-term incentive agreements and 4,864 shares to non-employee directors. The shares were issued at the fair value of the stock on the grant date. The 16,849 restricted shares vest over periods defined by the former Trigon long-term incentive agreements.
The Black-Scholes option-pricing model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company’s stock option grants have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, existing models do not necessarily provide a reliable single measure of the fair value of its stock option grants.
For purposes of pro forma disclosures, compensation expense is increased for the estimated fair value of the options amortized over the options’ vesting periods and for the difference between the market price of the stock and discounted purchase price of the shares on the purchase date for the employee stock purchases. The Company’s pro forma information is as follows:
The denominator for basic and diluted earnings per share for 2004, 2003 and 2002 is as follows:
A reconciliation of income tax expense recorded in the consolidated statements of income and amounts computed at the statutory federal income tax rate is as follows:
As a result of legislation enacted in Indiana on March 16, 2004, the Company recorded deferred tax assets and liabilities, with a corresponding net tax benefit in the income statement of $44.8, or $0.29 per basic share and $0.28 per diluted share, for the year ended December 31, 2004. The legislation eliminated the creation of tax credits resulting from the payment of future assessments to the Indiana Comprehensive Health Insurance Association (“ICHIA”), Indiana’s high-risk health insurance pool. Under the new legislation, ICHIA tax credits are limited to any unused ICHIA assessment paid prior to December 31, 2004. A valuation allowance of $5.6 was established for the portion of the deferred tax asset, which the Company believes will likely not be utilized. There is no carryforward limitation on the tax credits and the net operating loss carryforwards do not begin to expire until 2018.
At December 31, 2004, the Company had unused federal tax net operating loss carryforwards of approximately $98.4 to offset future taxable income. The loss carryforwards expire in the years 2005 through 2020. During 2004, 2003 and 2002 federal income taxes paid totaled $646.3, $303.3 and $151.2, respectively.
Lease expense under operating leases for 2004, 2003 and 2002 was $62.8, $51.3 and $47.3, respectively.
A subsidiary of the Company is a fifty percent limited partner in a partnership that owns a property occupied by the Company’s subsidiary. Under an operating lease with the limited partnership, the Company incurred lease expense of $2.0, $2.0 and $0.8 during 2004, 2003 and 2002, respectively.
The Restated Employees’ Retirement Plan of Blue Cross of California covers employees of a collective bargaining unit. The WellPoint Health Networks Inc. Pension Accumulation Plan (the “WellPoint Pension Plan”), which was established on January 1, 1987, covers all eligible employees of WHN prior to its merger with Anthem (employees covered under a collective bargaining agreement participate if the terms of the collective bargaining agreement permits) meeting certain age and service requirements. Effective January 1, 2004, non-bargained employees covered by the WellPoint Pension Plan who are age 50 and over, with combined age and service totaling 65 or higher as of December 31, 2003, will continue to earn future contributions based on compensation. While other non-bargained employees covered by the plan will continue to accrue interest on their pension account, generally no additional contributions based on the employee’s earnings will be made. Employees of WHN prior to its merger with Anthem hired after December 31, 2003 are not eligible to participate in the WellPoint Pension Plan. Employees of Anthem do not participate in this plan.
provides retirement benefits to covered employees (including certain employees covered by a collective bargaining agreement) based primarily on compensation and years of service. Effective January 1, 2004, non-bargained employees covered by the UGS Pension Plan who are age 50 and over, with combined age and service totaling 65 or higher as of December 31, 2003, will continue to earn future contributions based on compensation. While other non-bargained employees covered by the plan will continue to accrue interest on their pension account, generally no additional contributions based on the employee’s earnings will be made. Employees of UGS hired after December 31, 2003 are not eligible to participate in the UGS Pension Plan.
All of the plans’ assets consist primarily of common stocks, fixed maturity securities, investment funds and short-term investments. The funding policies for all plans are to contribute amounts at least sufficient to meet the minimum funding requirements set forth in the Employee Retirement Income Security Act of 1974, as amended (“ERISA”) and in accordance with income tax regulations, plus such additional amounts as are necessary to provide assets sufficient to meet the benefits to be paid to plan participants.
The following tables disclose consolidated “pension benefits” which include defined benefit pension plans described above, and consolidated “other benefits” which include other postretirement benefits described above. Weighted average calculations were computed using assumptions at the relevant measurement date.
The accumulated benefit obligation for the defined benefit pension plans was $1,365.9 and $863.3 at December 31, 2004 and 2003, respectively.
As of December 31, 2004, certain pension plans of the Company had accumulated benefit obligations in excess of plan assets. Such plans had a combined projected benefit obligation, accumulated benefit obligation and fair value of plan assets of $438.7, $431.1 and $395.4, respectively, at December 31, 2004.
An important factor in determining the Company’s pension expense is the assumption for expected long-term rate of return on plan assets. The Company uses a total portfolio return analysis in the development of its assumption. Factors such as past market performance, the long-term relationship between fixed maturity and equity securities, interest rates, inflation and asset allocations are considered in the assumption. The assumption includes an estimate of the additional return expected from active management of the investment portfolio. Peer data and historical returns are also reviewed for appropriateness of the selected assumption. The expected long-
Beginning in 2005, the Compensation Committee elected to include long-term compensation as an integral part of overall compensation. There will be no specific long-term cash incentive plan. Long-term awards for certain senior executives will be determined based on overall performance and will be paid under the Company’s existing 2001 Stock Incentive Plan, further described in Note 12.
Moreno issued a new scheduling order extending the expert discovery deadline to February 7, 2005 and setting trial for September 6, 2005. On February 11, 2005, the District Court issued an order bifurcating the trial, holding that liability would be determined first, and damages would be tried after liability, if necessary.
On May 22, 2003, in a case titled Kenneth Thomas, M.D., et al., v. Blue Cross Blue Shield Association, et al., several medical providers filed suit in federal district court in Miami, Florida against the Blue Cross Blue Shield Association and Blue Cross and Blue Shield plans across the country, including the Company. The suit alleges that the BCBS Association and the BCBS Plans violated RICO and challenges many of the same practices as other suits in the MDL Cases. This case has been assigned to Judge Moreno in Miami. Plaintiffs filed a motion for class certification and the defendants have filed motions to dismiss and motions to compel arbitration. All motions are currently pending before Judge Moreno.
On February 23, 2004, in a case titled Richard Freiberg, et al., v. United Healthcare, Inc., et al., an acupuncturist and an association promoting acupuncture filed suit in federal court in Miami, Florida against ten managed care corporations, including the Company. The complaint purports to be a class action filed on behalf of all non-physician health care providers, and alleges that the companies involved violated RICO, and challenges many of the same practices as other suits in the MDL Cases. This case has been transferred to the MDL docket and assigned to Judge Moreno. This case has been stayed as a tag-along case to the MDL Cases.
On March 11, 1998, Anthem Insurance Companies, Inc., a wholly owned subsidiary of the Company, and its Ohio subsidiary, Community Insurance Company (“CIC”) were named as defendants in a lawsuit, Robert Lee
Dardinger, Executor of the Estate of Esther Louise Dardinger v. Anthem Blue Cross and Blue Shield, et al., filed in Newark, Ohio. The plaintiff sought compensatory damages and unspecified punitive damages in connection with claims alleging wrongful death, bad faith and negligence arising out of CIC’s denial of certain claims for medical treatment for Ms. Dardinger. In December 2001, CIC paid $2.5 in compensatory damages for bad faith and $1,350 (actual dollars) for breach of contract, plus accrued interest. In March 2003, Anthem Insurance and CIC paid punitive damages of $30.0 plus interest. Following the March 2003 payment and Satisfaction of Judgment, the Company released pretax reserves of $24.5 to income, which resulted in an after tax benefit of $0.11 per diluted share for the year ended December 31, 2003.
In addition to the lawsuits described above, the Company is also involved in other pending and threatened litigation of the character incidental to the business transacted, arising out of its insurance and investment operations, and is from time to time involved as a party in various governmental investigations, audits, reviews and administrative proceedings. These investigations, audits and reviews include routine and special
Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash equivalents, investment securities, premium receivables and instruments held through hedging activities. All investment securities are managed by professional investment managers within policies authorized by the Board of Directors. Such policies limit the amounts that may be invested in any one issuer and prescribe certain investee company criteria. Concentrations of credit risk with respect to premium receivables are limited due to the large number of employer groups that constitute the Company’s customer base in the geographic regions in which it conducts business. As of December 31, 2004, there were no significant concentrations of financial instruments in a single investee, industry or geographic location.
Through its participation in various federal government programs, the Company generated approximately 17%, 19% and 18% of its total consolidated revenues from agencies of the U.S. government for the years ended December 31, 2004, 2003 and 2002, respectively.
WHN formed The WellPoint Foundation (the “WHN Foundation”), a non-profit organization exempt from federal taxation under Section 501(c)(3) of the Internal Revenue Code, to improve the health and well-being of individuals in the communities served by WHN. Officers of the WHN Foundation were also officers of WHN. Effective with the merger, the officers of the WHN Foundation (other than Leonard D. Schaeffer) resigned and were replaced with officers of the Company. For the period from December 1, 2004 to December 31, 2004, the Company made no contributions to the WHN Foundation. The Company has no current legal obligations for future commitments to the WHN Foundation.