Our principal administrative, sales and marketing facilities are located at our leased corporate headquarters in Tampa, Florida. Our corporate headquarters is used in all of our lines of business. As of December 31, 2016, we also leased office space for the administration of our health plans in Arizona, Arkansas, California, Connecticut, Florida, Georgia, Hawaii, Illinois, Kentucky, Louisiana, Missouri, Mississippi, Nebraska, New Jersey, New York, South Carolina, Tennessee, Texas and Washington D.C. These properties are all in good condition and are well maintained. We believe these facilities are suitable and provide the appropriate level of capacity for our current operations. Upon expiration of the terms of the leases, we believe we could renew these leases on acceptable terms, or find suitable space elsewhere.
The following table sets forth our summary financial data. This information should be read in conjunction with our consolidated financial statements and the related notes and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included in this 2016 Form 10-K.
We are a leading managed care company, headquartered in Tampa, Florida, focusing exclusively on government-sponsored managed care services, primarily through Medicaid, Medicare Advantage ("MA") and Medicare Prescription Drug Plans ("PDP") to families, children, seniors and individuals with complex medical needs. As of December 31, 2016, we served approximately 3.9 million members in 50 states and the District of Columbia. We estimate that we are among the largest managed care organizations providing Medicaid managed care services plans, MA plans and PDPs, all as measured by membership. We believe that our broad range of experience and government focus allows us to effectively serve our members, partner with our providers, government clients and communities we serve, and efficiently manage our ongoing operations.
Membership increased 3.5% in 2016 compared with 2015, primarily due to the Medicaid membership acquired from Care1st Health Plan Arizona, Inc. and One Care by Care1st Health Plan of Arizona, Inc. (together, "Care1st Arizona") and Advicare Corp. ("Advicare") during 2016, as well as organic membership growth in New York and Missouri, partially offset by a decline in PDP and MA membership as a result of our 2016 bid strategy.
Premiums increased $346.1 million, or 2.5%, in 2016 compared with 2015, reflecting organic membership growth in our Medicaid Health Plans segment, the Advicare acquisition and net rate increases in our Medicaid Health Plans segment. These increases were partially offset by the effect of lower membership in our Medicare PDPs segment.
Net Income increased $123.5 million, or 104.1%, in 2016 compared with 2015 driven by continued improvement, across all of our segments, in operational execution and pharmacy benefits management.
Our current business strategy is achieved by focusing on integrated care management, local markets and community advocacy, regulatory and provider partnerships and delivering prudent, profitable long-term growth. See Part I, Item 1 - Business for further discussion of our business strategy.
Presented below are key developments and accomplishments relating to progress on our business strategy that occurred or affected results of operations, financial condition and cash flows during 2016, or occurred in 2017 prior to the filing of this 2016 Form 10-K.
On December 31, 2016, we completed the acquisition of Care1st Arizona from Care1st Health Plan, an affiliate of Blue Shield of California, for approximately $163.8 million, inclusive of statutory capital and subject to certain adjustments. Care1st Arizona provides Medicaid and Medicare benefits to approximately 117,000 and 2,000 beneficiaries, respectively, in Maricopa and Pima counties, Arizona’s largest geographic service areas. The transaction was funded with available cash on hand. Given that the transaction was completed on December 31, 2016, Care1st Arizona's 2016 results of operations were not significant to our consolidated statement of comprehensive income for the year ended December 31, 2016.
In December 2016, we entered into a definitive agreement to acquire certain assets, including Medicaid membership and certain provider contracts, from Phoenix Health Plan ("PHP"), a wholly owned managed care subsidiary of Tenet Healthcare. PHP provides health benefits to more than 50,000 Medicaid beneficiaries in Maricopa County, Arizona. The transaction is expected to close by the second quarter of 2017, pending regulatory approvals and the satisfaction of other customary closing conditions. The transaction is expected to be funded with available cash on hand.
In December 2016, we entered into a contract amendment with the Kentucky Department of Medicaid Services that renewed our participation in the Kentucky Medicaid program through June 30, 2017, and included three additional one-year renewal periods upon mutual agreement.
In November 2016, we entered into a definitive agreement with Universal American Corp. ("UAM"), to acquire all of the outstanding stock of UAM in an all cash transaction valued at approximately $800.0 million. As of September 30, 2016, UAM served approximately 69,000 MA members in Texas and approximately 45,000 members in the northeast, primarily New York. In addition, UAM partnered with Accountable Care Organizations in 11 states as of September 30, 2016, six of which were in WellCare MA markets. The transaction is expected to be funded with available cash on hand and to close by the second quarter of 2017, pending regulatory approvals and the satisfaction of other customary closing conditions.
In September 2016, we repaid $100.0 million of the $200.0 million borrowed under our credit facility, and as a result $100.0 million remained outstanding as a component of our long-term debt as of December 31, 2016. In January 2016, we had entered into a new $850.0 million senior unsecured revolving credit facility, replacing and terminating the previous senior unsecured credit facility. Upon closing, through a combination of $200.0 million borrowed as a revolving loan under our credit facility and $100.0 million in cash, we repaid in full the $300.0 million term loan due in September 2016 (the "Term Loan") under the previous credit facility.
In 2016, we entered into a new contract with Georgia Department of Community Health (“Georgia DCH”) and anticipate services under that contract would commence on July 1, 2017, with an initial one-year term and four additional one-year renewal options at Georgia DCH's discretion. The new contract is subject to approval by CMS. As of December 31, 2016, we served approximately 571,000 Medicaid members in Georgia.
In June 2016, we completed the acquisition of certain assets of Advicare, a managed care organization that provides Medicaid benefits in South Carolina. The acquired assets primarily relate to members who were transferred to our Medicaid plan in South Carolina, as well as certain provider agreements.
Effective January 1, 2016, we transitioned our pharmacy benefits management to CVS Health Corporation.
The following table sets forth condensed data from our consolidated statements of operations data, as well as other key data used in our results of operations discussions for the years ended December 31, 2016, 2015 and 2014. The historical results are not necessarily indicative of results to be expected for any future period.
Medicare Health Plans. Membership decreased by 9,000, or 2.5%, compared with December 31, 2015, primarily as a result of our 2016 bid positioning, including planned service area reductions for the 2016 plan year.
Medicaid Health Plans. Membership increased by 78,000, or 3.4%, compared with December 31, 2014, primarily driven by organic growth in the Florida, Kentucky and Missouri programs, partially offset by a decrease in membership in our Georgia Medicaid market due to statewide eligibility recertifications.
Medicare Health Plans. Membership decreased by 63,000, or 15.1%, compared with December 31, 2014. The decrease was due to a reduction in our California and New York Medicare membership due to bid actions and county withdrawals in 2015, as well as our exit from the Arizona, Missouri and Ohio MA markets. The reduction also reflects the divestiture of our Medicare Supplement business, which was completed on July 1, 2015. These decreases are partially offset by organic membership growth in Florida and Texas.
For the year ended December 31, 2016, our net income increased by $123.5 million, or 104.1%, compared with the same period of 2015, primarily attributable to continued improvement, across all of our segments, in operational execution and pharmacy benefits management. Refer to Segment Reporting below for a discussion of current developments, operating results and other key performance measures by reportable segment.
For the year ended December 31, 2015, our net income increased by $54.9 million, or 86.2%, compared with the same period of 2014, primarily attributable to improved performance in all segments, organic growth in our Medicaid membership and improved pharmacy rebates management, partially offset by the increase in unreimbursed ACA industry fee expense for 2015.
Premium revenue for the year ended December 31, 2015 increased approximately $959.3 million, or 7.4%, compared with the same period in 2014, reflecting higher membership in our Medicaid Health Plans segment, primarily from organic growth in Florida, Kentucky, and Illinois and increased ACA industry fee reimbursement from our Medicaid customers. These increases were partially offset by lower membership in our Medicare PDPs segment resulting from the bid positioning taken for the 2015 plan year, as well as the divestiture of our former Medicare Supplement business. The increase in premium revenue in 2015 also reflects a full year of premiums related to the Healthfirst acquisition, which was completed on July 1, 2014.
Medical benefits expense for the year ended December 31, 2015 increased $523.3 million, or 4.6%, compared with the same period in 2014, primarily due to the increased organic Medicaid membership. The increase was partially offset by favorable prior year reserve development of $78.1 million recognized in 2015, compared with unfavorable prior year reserve development of $48.1 million recognized in 2014, as well as lower membership in our Medicare Health Plans and Medicare PDPs segments resulting from our 2015 bid positioning. The increase in medical benefits expense for 2015 also reflected a full year of expense related to our Healthfirst NJ acquisition completed in 2014.
Our SG&A expense for the year ended December 31, 2016 remained consistent compared with the same period in 2015. Our Adjusted SG&A expense for year ended December 31, 2016 increased approximately $34.8 million, or 3.3%, compared with the same period in 2015. The increase is primarily due to normal operating and ramp-up costs associated with current and future growth in Medicaid membership and higher short-term and long-term management incentive compensation due to improved Company performance, partially offset by lower members in our Medicare Health Plans and Medicare PDP segments and continued improvements in operational efficiency.
Our SG&A ratio for the year ended December 31, 2016 decreased 20 basis points compared with the same period in 2015, primarily driven by continued improvements in operating efficiency and lower investigation and PBM transitory costs, partially offset by the higher short-term and long-term management incentive compensation due to improved Company performance. Our Adjusted SG&A ratio for the year ended December 31, 2016 was consistent with the same period in 2015.
Our SG&A expense and Adjusted SG&A expense increased approximately $114.1 million, or 11.2%, and $89.3 million, or 9.1%, respectively, compared with the same period in 2014, primarily due to normal operating costs associated with the 2015 growth in Medicaid membership, continued investments in our healthcare value-added programs and the effect of lower compensation expense in 2014 resulting from lower management incentive compensation. The increases were partially offset by lower membership in our Medicare PDPs segment and continued improvements in operating efficiency. Our SG&A ratio and Adjusted SG&A ratio for the year ended December 31, 2015 increased compared with the same period in 2014, primarily reflecting lower compensation expense in 2014 related to lower management incentive compensation, partially offset by continued improvements in operating efficiency in 2015.
For the year ended December 31, 2015, the ACA industry fee increased approximately $89.6 million compared with the same period in 2014. The higher expense is due to the increased total fee levied on the industry, from $8 billion in 2014 to $11.3 billion in 2015, and the increase in our share of total industry premiums for 2014.
Interest expense for the year ended December 31, 2015 increased approximately $14.8 million compared with the same period in 2014, primarily driven by the higher average debt levels during 2015, resulting from the issuance of the Term Loan in September 2014 and the additional Senior Notes issuance noted above.
During the year ended December 31, 2014, we recognized approximately $24.1 million in impairment and other charges. This primarily relates to the partial impairment of certain intangible assets recorded in conjunction with the 2012 acquisition of Easy Choice as well as the full impairment of intangible assets associated with the purchase of certain assets from a small health plan in 2012. Lastly, the charges also included the resolution of certain matters related to the purchase price of our 2013 acquisitions. We were no longer able to recognize such charges as adjustments to acquired assets since we were beyond the measurement period established in the accounting rules for business combinations.
Income tax expense for the year ended December 31, 2015 increased $103.4 million, or 90.6%, compared with the same period in 2014 primarily resulting from higher income before income taxes. The effective tax rate was consistent as compared with the prior year.
Other expenses, net includes selling, general and administrative expenses, Medicaid premium taxes, depreciation and amortization, interest and impairment and other charges. Other expenses, net for 2015 also includes the gain on the Sterling divestiture.
Our Medicaid Health Plans segment includes plans for beneficiaries of Temporary Assistance for Needy Families ("TANF"), Supplemental Security Income ("SSI"), Aged Blind and Disabled ("ABD") and other state-based programs that are not part of the Medicaid program, such as Children's Health Insurance Program ("CHIP") and Managed Long-Term Care ("MLTC") programs, including long-term services and supports. As of December 31, 2016, we operated Medicaid health plans in Arizona, Florida, Georgia, Hawaii, Illinois, Kentucky, Missouri, New Jersey, New York and South Carolina. As previously noted, the acquisition of our Arizona Medicaid plan (Care1st Arizona) was completed on December 31, 2016, and therefore Care1st Arizona's 2016 results of operations were not significant to our consolidated statement of comprehensive income for the year ended December 31, 2016. We began serving Nebraska Medicaid beneficiaries effective January 1, 2017.
Medicaid total premiums increased $425.0 million, or 4.7%, for the year ended December 31, 2016 compared with the same period in 2015. Excluding Medicaid premium taxes and Medicaid ACA industry fee reimbursements, Medicaid premium revenue for the year ended December 31, 2016 increased $384.0 million, or 4.4%, compared with the same period in 2015. The increases were primarily driven by organic membership growth, net rate increases for the Florida MMA program, and the acquisition of Advicare, effective June 1, 2016.
Medical benefits expense for the year ended December 31, 2016 increased by approximately $321.7 million, or 4.1%, compared with the same period in 2015, primarily driven by the organic membership growth, the acquisition of Advicare and other factors including net medical trend and mix of membership.
We contract with CMS under the Medicare program to provide a comprehensive array of Part C and Part D benefits to Medicare eligible persons through our MA plans. Our MA plans are comprised of coordinated care plans ("CCPs"), which are administered through HMOs and generally require members to seek health care services and select a primary care physician from a network of health care providers. In addition, we offer Medicare Part D coverage, which provides prescription drug benefits, as a component of most of our MA plans.
Execution on healthcare value-added initiatives led by our clinical services group;
The following table sets forth the summarized results of operations and other relevant performance measures for our Medicare Health Plans segment for the years ended December 31, 2016, 2015 and 2014:
Medicare Health Plans premium revenue in 2016 decreased marginally by $22.2 million, or 0.6%, compared with the same period in 2015, primarily due to the Sterling divestiture partially offset by our Medicare Advantage 2016 bid positioning.
Medicare Health Plans medical benefits expense for the year ended December 31, 2016 decreased $123.2 million, or 3.6%, compared with the same period in 2015, primarily due to the lower membership and the Sterling divestiture. The Medicare Health Plans MBR decreased by 260 basis points compared with 2015, resulting from our 2016 bid strategy and continued clinical and operational improvement.
The guidance below does not reflect the pending acquisitions of UAM and PHP.
The Medicaid Health Plans MBR (GAAP) is expected to be in the range of 88.60% to 89.60% for 2017, compared with 86.2% for 2016. The Medicaid Health Plans Adjusted MBR is expected to be in the range of 89.50% to 90.50%, consistent with 89.5% reported in 2016.
selling, general and administrative costs directly incurred or paid through a management services agreement to one of our non-regulated administrative and management services subsidiaries;
federal tax payments to the parent company under an intercompany tax sharing agreement; and
receipts of prospective subsidy payments and related final settlements from CMS to reimburse us for certain Part D benefits paid for members on behalf of CMS;
We refer collectively to the cash, cash equivalents and investment balances maintained by our regulated subsidiaries as "regulated cash and investments." Our regulated subsidiaries generally receive premiums in advance of payments of claims for medical and other health care services; however, regulated cash and cash equivalents can fluctuate significantly in a particular period depending on the timing of receipts for premiums from our government partners. Our unrestricted regulated cash, cash equivalents and investments was $3.2 billion at December 31, 2016, compared with $1.9 billion at December 31, 2015, due primarily to the Medicare Part D 2015 plan year settlement received in November 2016 (discussed further in Medicare Part D Funding and Settlements below), earnings from improved operations and $59.4 million of capital contributions received from our non-regulated subsidiaries. These increases were partially offset by $241.0 million in dividends distributed to our non-regulated subsidiaries and the $228.4 million ACA industry fee payment remitted to the IRS in September 2016.
Unregulated cash, cash equivalents and investments was $915.3 million at December 31, 2016, an increase of $99.2 million from $816.1 million at December 31, 2015. This increase reflects normal operating cash flows including lower Medicare Part D funding to certain regulated subsidiaries, as described below, as well as dividends received from certain regulated subsidiaries during 2016. These increases were partially offset by $200 million net cash payments to repay borrowings under our revolving credit facilities during 2016, cash paid for the Care1st Arizona and Advicare acquisitions in 2016, and capital contributions paid to certain regulated subsidiaries.
We receive certain Part D prospective subsidy payments from CMS for our MA and PDP members as a fixed monthly per member amount, based on the estimated costs of providing prescription drug benefits over the plan year, as reflected in our bids. A discussion of the subsidy components under Part D is included in Note 2- Significant Accounting Policies to the Consolidated Financial Statements included in this 2016 Form 10-K. The benefits include the catastrophic reinsurance, premium and cost sharing for low income Part D members ("LICS"), for which CMS will fully reimburse these subsidies as part of its annual settlement process that occurs in the fourth quarter of the subsequent year.
Net cash provided by operating activities for the year ended December 31, 2015 was reduced by the $35.4 million final payment remitted to the Civil Division in March 2015. See further discussion in Government Investigation and Litigation below.
Net cash used in investing activities for 2015 was $124.2 million compared with $75.6 million for the same period in 2014, resulting primarily from net cash used in acquisitions and acquisition-related settlements of $17.2 million in 2015, related to the final balance sheet settlement of the Windsor acquisition, compared with $48.0 million of net cash acquired from acquisitions in 2014. The increase is also a result of higher additions to capitalized software during 2015 resulting from investments in our information technology infrastructure. The increases are partially offset by proceeds from the sales of investments in 2015 compared with net purchases of investments in 2014.
In June 2015, we completed the offering and sale of $300.0 million aggregate principal amount of our Senior Notes pursuant to a reopening of our existing series of such notes. The offering was completed at an issue price of 104.50%, plus accrued interest, and resulted in a debt premium of $13.5 million, which is being amortized over the remaining term of the Senior Notes. Interest is payable on May 15 and November 15 of each year and is computed on the basis of a 360-day year comprised of twelve 30-day months. As of December 31, 2016, our outstanding Senior Notes totaled $909.6 million, including $9.6 million of unamortized debt premium, inclusive of our Senior Notes described above as well as $600.0 million issued in November 2013.
The Senior Notes were issued under an indenture, dated as of November 14, 2013, (the "Base Indenture"), as supplemented by the First Supplemental Indenture, dated as of November 14, 2013, (the "First Supplemental Indenture" and, together with the Base Indenture, the "Indenture") each between us and The Bank of New York Mellon Trust Company, N.A., as trustee. The Indenture under which the Senior Notes were issued contains covenants that, among other things, limit our ability and the ability of our subsidiaries to:
In January 2016, we entered into a senior unsecured revolving credit facility (the “2016 Credit Agreement”), which provides for a senior unsecured revolving loan facility (the "2016 Revolving Credit Facility"), with an initial aggregate principal amount at any time outstanding not to exceed $850.0 million. The 2016 Credit Agreement provides for the 2016 Revolving Credit Facility of up to $850.0 million (the loans thereunder, the “Revolving Credit Loans”), of which up to $150.0 million is available for letters of credit. The 2016 Credit Agreement also provides that we may, at our option, increase the aggregate amount of the 2016 Revolving Credit Facility and/or obtain incremental term loans in an amount up to $200.0 million without the consent of any lenders not participating in such increase, subject to certain customary conditions and lenders committing to provide the increase in funding. Unutilized commitments under the 2016 Credit Agreement are subject to a fee of 0.25% to 0.35% depending upon our ratio of total net debt to cash flow.
Revolving Credit Loans designated by us at the time of borrowing as “ABR Loans” that are outstanding under the 2016 Credit Agreement bear interest at a rate per annum equal to (i) the greatest of (a) the Prime Rate (as defined in the 2016 Credit Agreement) in effect on such day; (b) the Federal Reserve Bank of New York Rate (as defined in the 2016 Credit Agreement) in effect on such day plus 1/2 of 1%; and (c) the Adjusted LIBO Rate (as defined in the 2016 Credit Agreement) for a one month interest period on such day plus 1%; plus (ii) the Applicable Rate. Revolving Credit Loans designated by us at the time of borrowing as “Eurodollar Loans” that are outstanding under the 2016 Credit Agreement bear interest at a rate per annum equal to the Adjusted LIBO Rate (as defined in the 2016 Credit Agreement) for the interest period in effect for such borrowing plus the Applicable Rate. The “Applicable Rate” means a percentage ranging from 0.50% to 1.00% per annum for ABR Loans and a percentage ranging from 1.50% to 2.00% per annum for Eurodollar Loans, depending upon our ratio of total debt to cash flow, as calculated in accordance with the 2016 Credit Agreement.
Each of our HMO and insurance subsidiaries must maintain a minimum amount of statutory capital determined by statute or regulation. The minimum statutory capital requirements differ by state and are generally based on a percentage of annualized premium revenue, a percentage of annualized health care costs, a percentage of certain liabilities, a statutory minimum, risk-based capital ("RBC") requirements or other financial ratios. The RBC requirements are based on guidelines established by the National Association of Insurance Commissioners ("NAIC") and have been adopted by most states. The statutory framework for our regulated subsidiaries' minimum capital requirements could change over time. For instance, RBC requirements may be adopted by more of the states in which we operate. In addition, regulators could require our subsidiaries to maintain minimum levels of statutory net worth in excess of the amount required under the applicable state laws if the regulators determine that maintaining such additional statutory net worth is in the best interest of our members and other constituencies. Failure to maintain these requirements would trigger regulatory action by the state. To the extent our HMO and insurance subsidiaries must comply with these regulations, they may not have the financial flexibility to transfer funds to us. Based upon current statutes and regulations, the minimum capital and surplus requirement, or net assets, for these subsidiaries that may not be transferable to us in the form of loans, advances, or cash dividends was approximately $871.8 million at December 31, 2016, and $807.9 million at December 31, 2015. The combined statutory capital and surplus of our HMO and insurance subsidiaries was $1.7 billion and $1.4 billion at December 31, 2016 and 2015, respectively, which was in compliance with and in excess of the minimum capital requirements as of those dates.
The following table sets forth information regarding our contractual obligations as of December 31, 2016.
Represents projected interest on the $900.0 million principal amount of Senior Notes and $100.0 million Credit Facility outstanding as of December 31, 2016.
In the ordinary course of business, we make a number of estimates and assumptions relating to the reporting of our results of operations and financial condition in conformity with GAAP. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results could differ significantly from those estimates under different assumptions and conditions. We believe that our accounting estimates relating to premium revenue
recognition and premiums receivable, medical benefits expense and medical benefits payable, and goodwill and intangible assets, are those that are most important to the portrayal of our financial condition and results and require management's most difficult, subjective and complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.
CMS provides risk-adjusted payments for MA Plans and PDPs based on the demographics and health severity of enrollees. The risk-adjusted premiums we receive are based on claims and encounter data that we submit to CMS within prescribed deadlines. We develop our estimates for risk-adjusted premiums utilizing historical experience, or other data, and predictive models as sufficient member risk score data becomes available over the course of each CMS plan year. We recognize periodic changes to risk-adjusted premiums as revenue when the amounts are determinable and collection is reasonably assured, which is possible as additional diagnosis code information is reported to CMS, when the ultimate adjustment settlements are received from CMS or we receive notification of such settlement amounts. CMS adjusts premiums on two separate occasions on a retrospective basis. The first retrospective adjustment for a given plan year generally occurs during the third quarter of that year. This initial settlement represents the update of risk scores for the current plan year based on the severity of claims incurred in the prior plan year. CMS then issues a final retrospective risk adjusted premium settlement for that plan year in the following year. We develop our estimates for risk-adjusted premiums utilizing historical experience and predictive models as sufficient member risk score data becomes available over the course of each CMS plan year. We populate our models with available risk score data on our members and base risk premium adjustments on risk score data from the previous year. We are not privy to risk score data for members new to our plans in the current plan year; therefore, we include assumptions regarding these members' risk scores. We periodically revise our estimates of risk-adjusted premiums as additional diagnosis code information is reported to CMS and adjust our estimates to actual amounts when the ultimate adjustment settlements are either received from CMS or we receive notification from CMS of such settlement amounts. As a result of the variability of factors that determine our estimates for risk-adjusted premiums, the actual amount of the CMS retroactive payment could be materially more or less than our estimates and could have a material effect on our results of operations, financial position and cash flows. We record any changes in estimates in current operations as adjustments to premium revenue. Historically, we have not experienced significant differences between our estimates and amounts ultimately received. The data provided to CMS to determine members' risk scores is subject to audit by CMS even after the annual settlements occur. An audit may result in the refund of premiums to CMS. While our experience to date has not resulted in a material refund, future refunds could materially reduce premium revenue in the year in which CMS determines a refund is required and could be material to our results of operations, financial position and cash flows.
The cost of medical benefits is recognized in the period in which services are provided and includes an estimate of the cost of medical benefits incurred but not reported ("IBNR"). Medical benefits expense includes direct medical expenses and certain medically-related administrative costs. Direct medical expenses include amounts paid or payable to hospitals, physicians, pharmacy benefit managers and providers of ancillary services. Recorded direct medical expenses are reduced by the amount of pharmacy rebates earned, which are estimated based on historical utilization of specific pharmaceuticals, current utilization and contract terms. Pharmacy rebates earned but not yet received from pharmaceutical manufacturers are included in pharmacy rebates receivable in the accompanying consolidated balance sheets. Direct medical expenses may also include reserves for estimated referral claims related to health care providers under contract with us who are financially troubled or insolvent and who may not be able to honor their obligations for the costs of medical services provided by other providers. In these instances, we may be required to honor these obligations for legal or business reasons. Based on our current assessment of providers under contract with us, such losses have not been and are not expected to be significant. Also, included in direct medical expense are estimates for provider settlements due to clarification of contract terms, out-of-network reimbursement, claims payment differences and amounts due to contracted providers under risk-sharing arrangements.
The factors and assumptions that are used to develop our estimate of medical benefits expense and medical benefits payable inherently are subject to greater variability when there is more limited experience or information available to us. The ultimate claims payment amounts, patterns and trends for new products and geographic areas cannot be precisely predicted at their onset since we, the providers and the members do not have experience in these products or geographic areas. Standard accepted actuarial methodologies, discussed above, would allow for this inherent variability. This can result in larger differences between the originally estimated medical benefits payable and the actual claims amounts paid. Conversely, during periods where our products and geographies are more stable and mature, we have more reliable claims payment patterns and
trend experience. With more reliable data, we should be able to more closely estimate the ultimate claims payment amounts; therefore, we may experience smaller differences between our original estimate of medical benefits payable and the actual claim amounts paid.
Many aspects of the managed care business are not predictable. Medical cost trends potentially are more volatile than other segments of the economy. Therefore, we must continually monitor our historical experience in determining our trend assumptions to reflect the ever-changing mix, needs and size of our membership. External factors such as government-mandated benefits or other regulatory changes, catastrophes and epidemics may affect medical cost trends. Other internal factors such as system conversions and claims processing changes may affect our ability to accurately predict estimates of historical completion factors or medical cost trends. We believe that the amount of medical benefits payable as of December 31, 2016 is adequate to cover our ultimate liability for unpaid claims as of that date; however, actual payments may differ from established estimates. If the completion factors we used in estimating our IBNR for the year ended December 31, 2016 were decreased by 1%, our medical benefits expense would increase by approximately $141.7 million. If the completion factors were increased by 1%, our medical benefits expense would decrease by approximately $138.5 million.
We consider the base actuarial model liability and the provision for moderately adverse conditions as part of our overall assessment of our IBNR estimate to properly reflect the complexity of our business, the number of states in which we operate and the need to account for different health care benefit packages among those states.
During 2014, we recognized impairments totaling approximately $19.7 million relating to the partial impairment of certain intangible assets recorded in conjunction with the 2012 acquisition of Easy Choice Health Plan, Inc. and the full impairment of intangible assets associated with the purchase of certain assets from a small health plan in 2012.