The Company has completed several recent significant transactions which affect the year-to-year comparability of its consolidated financial position and results of operations. On May 27, 1994, the Company sold Diversified Pharmaceutical Services, Inc. (Diversified), then a wholly owned subsidiary, to SmithKline Beecham Corporation for $2.3 billion in cash. In connection with this transaction, the Company recognized an extraordinary gain after transaction costs and income tax effects of $1.38 billion. The results of Diversified subsequent to the sale are not included in the consolidated financial results of the Company.
In connection with its acquisition of MetraHealth, the Company developed a comprehensive plan to integrate the business activities of the combined companies. The plan encompasses, among other matters, the disposition, discontinuance and restructuring of certain businesses and product lines, and the recognition of certain asset impairments. In the fourth quarter of 1995, the Company recorded $153.8 million in restructuring charges associated with the plan.
/1/ Amounts include post-acquisition operating results of GenCare Health Systems, Inc. acquired on January 3, 1995, Group Sales and Services of Puerto Rico, Inc. acquired on February 28, 1995, and The MetraHealth Companies, Inc. acquired on October 2, 1995. Excludes fourth quarter 1995 restructuring charges of $153.8 million ($96.9 million after tax) associated with the MetraHealth acquisition.
/2/ Amounts exclude post-disposition results of Diversified Pharmaceutical Services, Inc., a subsidiary of the Company sold in May 1994, and the associated extraordinary gain of $1.38 billion. Amounts also exclude merger costs of $35.9 million ($22.3 million after tax) associated with the May 1994 acquisitions of Complete Health Services, Inc. and Ramsay-HMO, Inc. The results of Complete Health and Ramsay are included in all periods presented in accordance with pooling-of-interests accounting.
The Company again achieved record operating results in 1995. Net operating earnings (excluding restructuring charges in 1995 and merger costs and gains on the sale of subsidiaries in 1994 and 1993) were $382.9 million in 1995, $310.4 million in 1994 and $212.0 million in 1993. Total revenues of $5.67 billion in 1995 were also a record, up from $3.77 billion in 1994 and $3.12 billion in 1993.
The Company's year-over-year enrollment growth (excluding the effects of the 1995 acquisitions) slightly exceeded the corresponding growth in premium revenues due to changes in customer mix. Much of the new commercial enrollment growth has been in the small group product which is generally characterized as having lower benefits (and therefore lower premiums) than the Company's other commercial products.
As a result of its acquisition of MetraHealth, the Company had approximately 983,000 enrollees at December 31, 1995, in fully insured non-network-based indemnity products, primarily from small group employers. These products do not have similar health care cost containment measures as the Company's network- based products and, accordingly, are priced differently. In response to increased medical costs associated with these products in early 1995, the Company instituted rate increases ranging from 15% to 25% during the second half of 1995. As a result, the Company expects enrollment in the non-network-based products to decrease during 1996. To the extent practicable, the Company will attempt to convert these enrollees to its network-based managed care products. While the 1995 rate increases were based on the Company's estimate of health care cost trends within the non-network-based products, there can be no assurance that these rate increases will be consistent with future health care cost experience.
The combination of the Company's pricing strategy and its medical management efforts are reflected in its medical expense ratio (the percent of premium revenues expensed as medical costs). The medical expense ratio improved from 80.4% in 1993 to 78.3% in 1994, and then increased slightly to 78.6% through the first nine months of 1995. This increase in the medical expense ratio is largely a reflection of declines in Medicaid premium rates in certain markets and the Company's strategic decision to selectively increase Medicaid provider reimbursements. For the full year 1995, the medical expense ratio increased to 79.7%, due primarily to the Company's acquisition of MetraHealth in October. The former MetraHealth products have a higher medical expense ratio as compared to the Company's previous products.
The Company's primary business, offering health care coverage and health care management services, is heavily regulated at both the federal and state level. Changes in applicable laws and regulations are continually being considered. While the Company is unable to predict what regulatory changes may occur or the impact on the Company of any particular change, the Company's operations and financial results could be negatively affected by regulatory revisions. Certain proposed changes in Medicare and Medicaid programs may increase the opportunities for the Company to enroll persons under products developed for the Medicare and Medicaid eligible populations, but proposed changes also may limit the reimbursement available to the Company and increase competition in those programs, which could adversely affect the Company's financial results. The continued consideration and enactment of "anti-managed care" laws and regulations, such as "any willing provider" laws and limits on utilization management, by federal and state bodies may make it more difficult for the Company to control medical costs and may adversely affect financial results.
In addition to changes in applicable laws and rules, the Company is potentially subject to governmental investigations and enforcement actions. These include possible government actions relating to the federal Employee Retirement Income Security Act (ERISA), which regulates health coverage plans offered by employers, and the Company's dealings with self-funded employer health plans, the Federal Employees Health Benefit Plan (FEHBP), federal and state fraud and abuse laws, and laws relating to utilization management and the delivery of health care. Any such government action could result in assessment of damages, civil or criminal fines or penalties, or other sanctions, including exclusion from participation in government programs. Although the Company is currently involved in various government audits, such as under the FEHBP or relating to services for ERISA plans, the Company believes that it is in compliance in all material respects with the various federal and state regulations applicable to its current operations and does not believe the results of such audits will have a material adverse effect on the Company's financial positon or results of operations.
As described more fully in Note 3 to the consolidated financial statements, the Company has agreed to acquire in separate transactions PHP, Inc. (PHP) and HealthWise of America, Inc. (HealthWise). These transactions will be effected through the exchange of shares of the Company's common stock for all the outstanding shares of PHP and HealthWise and, with the exception of transaction costs, will not require the use of cash.
The Company currently believes its available cash resources will be sufficient to meet its current operating requirements and internal development and integration initiatives. There currently are no other material definitive commitments for future use of the Company's available cash resources; however, management continually evaluates opportunities to expand its operations, which includes internal development of new products and programs and may include additional acquisitions.
United HealthCare Corporation (the Company) is a national leader in offering health care management services. The Company serves over 40 million covered lives through a broad continuum of health care coverage products and services in all 50 states and Puerto Rico. The Company utilizes a number of core capabilities, including medical information management, health benefit administration, risk assessment and pricing, health benefit design, provider contracting and risk sharing and health care delivery management. The Company provides both comprehensive managed care services, such as health maintenance organizations, insurance and self-funded health care coverage products, and unbundled health care management and cost containment products such as behavioral health services, utilization review services, specialized provider networks and employee assistance programs. On October 2, 1995, the Company completed its acquisition of the MetraHealth Companies, Inc. (MetraHealth), a managed health care coverage company and health insurer (see Note 3). As a result of the MetraHealth acquisition, the Company increased the national scope of its health care coverage business and now has relationships with many of the country's largest companies. The acquisition of MetraHealth enhanced the Company's ability to offer a full range of health care coverage products to all types of customers.
The consolidated financial statements have been prepared in accordance with generally accepted accounting principles and include the accounts of the Company and its subsidiaries. All significant intercompany accounts and transactions have been eliminated.
Premium revenues are recognized in the period in which enrolled members are entitled to receive health care services. Premiums received prior to such period are recorded as unearned premiums. Management services and fee revenues are recognized in the period the related services are performed.
Cash and cash equivalents are highly liquid investments with an original maturity of three months or less. The fair value of cash and cash equivalents approximates carrying value because of the short maturity of the instruments. Investments with a maturity of less than one year are classified as short-term.
Following the criteria set forth in SFAS No. 115, the Company classifies investments held by trustees or agencies pursuant to state regulatory requirements as held to maturity based on the Company's ability and intent to hold these investments to maturity. Such investments are presented at amortized cost. All other investments are classified as available for sale and are reported at fair value based on quoted market prices, with unrealized gains and losses excluded from earnings and reported as a separate component of shareholders' equity, net of income tax effects. For purposes of calculating realized gains and losses on the sale of investments available for sale, the amortized cost of each investment sold is used. The Company has no investments it classifies as trading securities.
In connection with its 1995 acquisition of MetraHealth, the Company is administering certain aspects of the health care operations of MetraHealth's predecessor companies related to business expected to be conveyed to the Company during 1996 pursuant to agreements effected in conjunction with the initial formation of MetraHealth. Upon conveyance to the Company, the associated assets will be invested in marketable securities in accordance with the Company's investment policy.
Other policy liabilities principally relate to experience-rated indemnity products written by MetraHealth or its predecessor companies and are primarily comprised of retrospective rate credit reserves and customer balances.
Retrospective rate credit reserves represent premiums received in excess of claims and expenses charged under eligible contracts. Reserves established for closed policy years are based on actual experience while reserves for open years are based on estimates of premiums, claims and expenses incurred.
Intangible and other assets consist principally of costs incurred in connection with the development of computer software applications to support the management services provided by the Company. These costs are amortized using the straight- line method over their estimated useful lives or five years, whichever is shorter.
On February 1, 1996, the Company signed a definitive agreement to acquire HealthWise of America, Inc. (HealthWise), a health care management company based in Nashville, Tennessee, currently serving 144,000 members in several states. Terms of the agreement call for the Company to issue approximately 4.3 million shares of common stock in exchange for all the outstanding shares of HealthWise. Completion of the merger, which is subject to regulatory and other approvals, is expected in the second quarter of 1996. At such time, the transaction will be accounted for as a pooling of interests.
On November 28, 1995, the Company signed a definitive agreement to acquire PHP, Inc. (PHP), a health plan based in Greensboro, North Carolina, currently serving 117,000 members. Terms of the agreement call for the Company to issue approximately 2.4 million shares of common stock in exchange for all the outstanding shares of PHP. Completion of the merger, which is subject to regulatory and other approvals, is expected in the first quarter of 1996. At such time, the transaction will be accounted for as a purchase.
The total purchase price of the acquisition was $1.09 billion in cash and $500.0 million of convertible preferred stock, for a total consideration at closing of $1.59 billion. In addition, the former owners of MetraHealth are eligible to receive up to an additional $350.0 million if MetraHealth achieves certain 1995 operating results, as defined. Any consideration payable for this 1995 earnout in excess of the initial $1.59 billion may, at the Company's sole discretion, be in the form of cash, convertible debt, convertible preferred stock, or straight debt. Moreover, if the Company's post-acquisition combined net earnings for 1996 and 1997 reaches certain specified levels, certain of MetraHealth's former owners will be eligible to receive up to an additional $175.0 million in cash for each of those years. Any additional consideration paid pursuant to these arrangements will be reflected as additional goodwill.
Had the MetraHealth and GenCare acquisitions occurred on January 1, 1994, combined unaudited pro forma results for the years ended December 31, 1995 and 1994, would have been: revenues -- $8.71 and $8.21 billion; net earnings before restructuring charges and extraordinary gain -- $449.6 and $399.9 million and net earnings per common share before restructuring charges and extraordinary gain -- $2.53 and $2.28.
On May 31, 1994, the Company's acquisition of Complete Health Services, Inc. (Complete Health) was completed. Complete Health, based in Birmingham, Alabama, owned or operated health plans in Alabama, Louisiana, Tennessee, Arkansas, Georgia, Mississippi and Florida which served 272,000 members at the time of acquisition. In connection with the transaction, the Company issued 5,038,000 shares of common stock in exchange for all the outstanding common and preferred shares of Complete Health.
Also on May 31, 1994, the Company's acquisition of Ramsay-HMO, Inc. (Ramsay) was completed. Ramsay, based in Coral Gables, Florida, owned and operated a predominantly staff model health plan serving 177,000 members in South and Central Florida at the time of acquisition. In connection with the transaction, the Company issued 11,176,000 shares of common stock in exchange for all the outstanding common shares of Ramsay.
On August 31, 1993, the Company acquired HMO America, Inc. (HMOA), the parent company of a health plan in Chicago, Illinois, which served 290,000 members at the time of acquisition. In connection with the transaction, the Company issued 13,128,000 shares of common stock in exchange for all the outstanding common and preferred shares of HMOA and incurred nonrecurring, non-operating merger costs of $14.9 million. The acquisition was accounted for as a pooling of interests and, accordingly, the Company's consolidated financial statements and notes thereto include the results of HMOA for all periods presented.
Effective January 29, 1993, the Company acquired all of the issued and outstanding common stock of Western Ohio Health Care Corporation, a health plan in Dayton, Ohio, which served 182,600 members at the time of acquisition. The total purchase price of the acquisition was $100.1 million in cash. The acquisition was accounted for using the purchase method of accounting and resulted in cost in excess of net assets acquired of $76.3 million.
Had the Diversified sale occurred on January 1, 1993, combined unaudited pro forma results for the years ended December31, 1994 and 1993, excluding the extraordinary gain on such sale, would have been: revenues -- $3.74 billion and $3.08 billion; net earnings -- $275.5 million and $192.5 million; net earnings per common share -- $1.57 and $1.12. These pro forma results include the estimated effects on the Company's operations of the management services agreement between the Company and SmithKline but do not take into consideration any reinvestment of the net proceeds from the sale. These pro forma results also include non-operating merger costs related to the Complete Health and Ramsay acquisitions.
On July 30, 1993, the Company completed the sale of its 26,800 member United HealthCare of Iowa, Inc. subsidiary, for which it received $19.8 million. As a result of the transaction, a one time, non-operating gain of $15.0 million was recognized in 1993.
In connection with its acquisition of MetraHealth, the Company developed a comprehensive plan to integrate the business activities of the combined companies (the Plan). The Plan encompasses, among other matters, the disposition, discontinuance and restructuring of certain businesses and product lines, and the recognition of certain asset impairments. In the fourth quarter of 1995, the Company recorded $153.8 million in restructuring charges associated with the Plan.
The restructuring charges include $102.3 million for activities under the Plan which are expected to be completed through 1996 and $51.5 million for asset impairment. The restructuring charges do not cover certain aspects of the Plan, including new information systems, anticipated operating losses from businesses to be discontinued, employee relocation and training. These costs will be recognized in future periods as incurred.
The charges included $24.0 million for severance and outplacement costs which are based on the projected impact of the Plan on employment levels. The Company expects approximately 800 positions to be eliminated over the next 12 months under the restructuring efforts. During the fourth quarter of 1995, 96 positions were eliminated which resulted in severance and outplacement payments of $2.4 million.
Also included in the restructuring charges is a $58.1 million provision representing costs associated with the termination of certain contracts and the elimination of certain products, networks and systems related to changes in strategies resulting from the MetraHealth acquisition. Expenditures related to these activities of $8.7 million were incurred during the fourth quarter of 1995.
The restructuring charges also included a $20.2 million provision for property and lease discontinuances at certain office locations, resulting primarily from various exit strategies and payment of portions of non-cancelable lease obligations. During the fourth quarter of 1995, the Company paid $1.5 million related to the closing of three office locations.
The restructuring charges reflect management's best estimates of the costs to be incurred in executing the Plan. These estimates will continue to be refined until the Plan is complete.
As of December 31, 1995 and 1994, the amortized cost, gross unrealized holding gains and losses, and fair value of the Company's cash and investments were as follows (in thousands):
As of December 31, 1995, the contractual maturities of the Company's cash and investments were as follows (in thousands):
Mortgage backed securities which do not have a single maturity date have been presented in the above tables based on their estimated maturity dates.
The Company has 10,000,000 shares of $0.001 par value preferred stock authorized for issuance. In conjunction with its acquisition of MetraHealth, the Company designated a series of 500,000 shares as 5.75% Series A Convertible Preferred Stock ("Preferred Stock"). This Preferred Stock was issued to certain former shareholders of MetraHealth as a portion of the total consideration of the MetraHealth acquisition (see Note 3).
Preferred Stock dividends are fully cumulative and are payable quarterly at the rate of 5.75% per annum from available funds. The dividends related to 1995 were paid in January 1996.
On February 13, 1996, the Company's Board of Directors approved an annual dividend for 1996 of $0.03 per share to holders of the Company's common stock. This dividend will be paid on April 15, 1996, to shareholders of record at the close of business on April 3, 1996.
The Company has stock and incentive plans (Stock Plans) for the benefit of all eligible employees of the Company and its subsidiaries. As of December 31, 1995, the Stock Plans allow for the future granting of up to 1,032,000 shares as incentive or non-qualified stock options, stock appreciation rights, restricted stock awards and performance awards to employees of the Company.
In 1995 the Company adopted the Non-Employee Director Stock Option Plan (the 1995 Plan) to benefit individuals on the Company's Board of Directors who are not employees of the Company. Up to 350,000 shares of the Company's common stock may be issued under the terms of the 1995 Plan. As of December 31, 1995, up to 245,000 non-qualified stock options were available for future grants under the 1995 Plan.
The Company has an unleveraged Employee Stock Ownership Plan (ESOP) for the benefit of all eligible employees of the Company and its subsidiaries. Company contributions to the ESOP are made at the discretion of the Board of Directors. Contributions of $1.25 million, $2.0 million and $1.0 million in the years ended December 31, 1995, 1994 and 1993, respectively, have been made to the ESOP.
The Company's Employee Stock Purchase Plan (ESPP) enables employees of the Company to subscribe for shares of common stock on semiannual offering dates at a purchase price which is the lesser of 85% of the fair market value of the shares on the first day or the last day of the semiannual period. Employee contributions to the ESPP were $7.0 million, $5.8 million and $3.3 million for 1995, 1994 and 1993. Pursuant to the ESPP, 216,000, 145,000 and 67,000 shares were issued to employees during 1995, 1994 and 1993. As of December 31, 1995, 39,000 shares are available for future issuances. The Company's Board of Directors has approved the reservation of 4 million additional shares to be issued under the ESPP, subject to shareholder approval at the Company's annual meeting in May 1996.
Deferred income tax assets, net of the valuation allowance, are included in other current assets and deferred income tax liabilities are included in other long-term obligations in the accompanying consolidated balance sheets. The change in net deferred income taxes is primarily the result of the deferred income tax benefit for the year ended December 31, 1995, the income tax effects of net unrealized holding gains on investments available for sale and net deferred income taxes assumed with the Company's 1995 acquisitions.
Income taxes paid were $189.7 million, $935.0 million ($801.7 million attributable to the sale of Diversified), and $90.8 million in 1995, 1994 and 1993.
The Company is involved in legal actions which arise in the ordinary course of its business. Although the outcomes of any such legal actions cannot be predicted, in the opinion of management, the resolution of any currently pending or threatened actions will not have a material adverse effect upon the consolidated financial position or results of operations of the Company.
Financial instruments which potentially subject the Company to concentrations of credit risk consist primarily of investments in marketable securities and commercial premiums receivable. The Company's investments in marketable securities are managed by professional investment managers within guidelines established by the board of directors which, as a matter of policy, limit the amounts which may be invested in any one issuer. Concentrations of credit risk with respect to commercial premiums receivable are limited due to the large number of employer groups comprising the Company's customer base. As of December 31, 1995, the Company had no significant concentrations of credit risk.
/1/ Excluding merger costs of $35.9 million ($22.3 million after income taxes, or $0.13 per common share) incurred in connection with the Company's May 1994 acquisitions of Complete Health Services, Inc. and Ramsay-HMO, Inc., 1994 net earnings per share before extraordinary gain would have been $74.9 million, or $0.43 per common share.
/2/ Excluding fourth quarter restructuring charges of $153.8 million ($96.9 million after tax, or $0.54 per common share) associated with The MetraHealth Companies, Inc. acquisition, net earnings for the three month period ending December 31, 1995 would have been $109.9 million, or $0.57 per common share.
We have audited the accompanying consolidated balance sheets of United HealthCare Corporation (a Minnesota Corporation) and Subsidiaries as of December 31, 1995 and 1994, and the related consolidated statements of operations, shareholders' equity and cash flows for each of the three years in the period ended December 31, 1995. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We did not audit the 1993 financial statements of Complete Health Services, Inc. or Ramsay-HMO, Inc., companies acquired during 1994, in transactions accounted for as poolings of interests, as discussed in Note 3. Such statements are included in the consolidated financial statements of United HealthCare Corporation and reflect total revenues of 18.9 percent in 1993, of the related consolidated total. The aforementioned financial statements were audited by other auditors whose reports have been furnished to us and our opinion, insofar as it relates to amounts included for those entities, is based soley upon the reports of the other auditors.
In our opinion, based on our audits and the reports of other auditors, the financial statements referred to above present fairly, in all material respects, the financial position of United HealthCare Corporation and Subsidiaries as of December 31, 1995 and 1994, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1995, in conformity with generally accepted accounting principles.
To meet its responsibility, management depends on its accounting systems and related internal accounting controls. These systems are designed to provide reasonable assurance, at an appropriate cost, that financial records are reliable for use in preparing financial statements and that assets are safeguarded. Qualified personnel throughout the organization maintain and monitor these internal accounting controls on an ongoing basis. Internal auditors review the accounting practices, systems of internal control, and compliance therewith.
The Audit Committee of the Board of Directors, composed entirely of directors who are not employees of the Company, meets periodically and privately with the Company's independent public accountants and its internal auditors, as well as management, to review accounting, auditing, internal control, financial reporting and other matters.