Effective as of January 1, 1996, the Company entered into a lease for Blue Cross of California's Woodland Hills, California headquarters facility, which provides for a term expiring in December 2019 with two options to extend the term for up to two additional five-year terms. Rent expense under the lease was approximately $5.3 million during 1999. In 1997, the Company entered into a lease, which expires in December 2019, for a new facility located in Thousand Oaks, California housing certain corporate and specialty services. This facility was completed in January 1999. The Company and its subsidiaries have additional offices in the greater Los Angeles and Ventura County area. As a result of the Company's continuing national expansion efforts, the Company maintains offices in various other locations, including Springfield, Massachusetts; Charlestown, Massachusetts; the greater Chicago, Illinois area; Dearborn, Michigan; and Plano, Texas.
- ---------------------------------- (A) Financial information prior to 1998 has been restated to present the workers' compensation business as a discontinued operation.
(C) Per share data includes nonrecurring costs of $0.13 and $0.52 per basic and diluted share for 1997 and 1995, respectively.
(E) The Company paid a $995.0 million special dividend in conjunction with the Recapitalization which occurred on May 20, 1996. Management currently expects that all of the Company's future income will be used to expand and develop its business.
The Company is one of the nation's largest publicly traded managed health care companies. As of December 31, 1999, WellPoint had approximately 7.3 million medical members and approximately 32 million specialty members. The Company offers a broad spectrum of network-based managed care plans. WellPoint provides these plans to the large and small employer, individual and senior markets. The Company's managed care plans include HMOs, PPOs, POS plans, other hybrid medical plans and traditional indemnity plans. In addition, the Company offers managed care services, including underwriting, actuarial services, network access, medical cost management and claims processing. The Company also provides a broad array of specialty and other products, including pharmacy, dental, utilization management, life insurance, preventive care, disability insurance, behavioral health, COBRA and flexible benefits account administration. The Company markets its products in California under the name Blue Cross of California and outside of California under the name UNICARE. Historically, the Company's primary market for managed care products has been California. The Company holds the exclusive right in California to market its products under the Blue Cross name and mark.
As a result of the GBO and MMHD acquisitions, the Company has significantly expanded its operations outside of California. In order to integrate its acquired businesses and implement the Company's regional expansion strategy, the Company will need to develop satisfactory networks of hospitals, physicians and other health care service providers, develop distribution channels for its products and
successfully convert acquired books of business to the Company's existing information systems, which will require continued investments by the Company.
Beginning in 1997 and continuing throughout 1998 and 1999, the Company developed and implemented a comprehensive plan designed to address the "year 2000" issue for its IT and non-IT systems and applications. This plan included a detailed risk assessment of the Company's various computer systems, business applications and other affected systems, the completion of remediation efforts, on-going internal testing and third-party review of certain of its year 2000 remediation efforts.
During the year ended December 31, 1999, the Company spent approximately $7.1 million for remediation of its IT software systems and applications, approximately $1.0 million for renovation or replacement of its telecommunications equipment. The Company expensed year 2000 remediation costs as incurred and funded these costs through cash flow from operations.
To date, the Company has not experienced any significant disruptions in its operations as a result of year 2000 issues nor is the Company aware of any significant year 2000-related disruptions experienced by any other company with which the Company interacts on a regular basis. The Company will continue to monitor its IT and non-IT systems throughout 2000 with respect to year 2000 compliance issues.
If the Company were to experience any year 2000 issues, either as a result of a failure of its own systems or those of third parties with which it interacts, the Company could be subject to a number of potential consequences including, among others, inability to timely and accurately process health care claims, collect customers' premiums and administrative fees, verify subscriber eligibility, assess utilization trends or compile accurate financial data for use by management. The Company is attempting to limit its exposure to any year 2000 issues by closely monitoring its on-going year 2000 readiness efforts, assessing the year 2000 readiness efforts of various third party with which it interacts and developing contingency plans addressing potential problems that could have a material adverse effect on the Company's results of operations.
- ------------------------------ (a) Membership numbers are approximate and include some estimates based upon the number of contracts at the relevant date and an actuarial estimate of the number of members represented by the contract.
(c) Large Employer Group membership includes 709,598 and 495,357 state-sponsored program members as of December 31, 1999, and 1998, respectively.
(d) Senior membership includes members covered under both Medicare risk and Medicare supplement products.
(f) Medical membership includes management services members which are primarily included within the Large Employer Group segment.
(a) Effective January 1, 1999, WellPoint revised its methodology of counting pharmacy members. As a result of this revision, pharmacy members for whom WellPoint provides claims processing services are now counted separately from pharmacy members for whom WellPoint provides clinical management services. As of December 31, 1999, WellPoint provided both claims processing services and clinical management services to approximately 4.4 million members.
COMPARISON OF RESULTS FOR THE YEAR ENDED DECEMBER 31, 1999 TO THE YEAR ENDED DECEMBER 31, 1998
Premium revenue increased 16.2%, or $962.1 million, to $6,896.9 million for the year ended December 31, 1999 from $5,934.8 million for the year ended December 31, 1998. The overall increase was due to an increase in insured member months of 9.5% in the Large Employer Group and the Individual and Small Employer Group business segments, and the implementation of price increases throughout the Company's business segments. The Company expects that it will experience some level of further membership dilution of its acquired MMHO and GBO members during the first half of 2000 as it continues to increase prices and pursues its strategy of motivating members to select managed care products.
Investment income was $159.2 million for the year ended December 31, 1999 compared to $109.6 million for the year ended December 31, 1998, an increase of $49.6 million. The increase was primarily due to an increase in net interest and dividend income of $51.3 million to $196.5 million for the year ended December 31, 1999 in comparison to $145.2 million for the year ended December 31, 1998. This increase was primarily due to interest income of $23.8 million related to the Company's refund from the IRS (See "--Liquidity and Capital Resources") and higher average investment balances in 1999 versus 1998. Interest and dividend income for the year ended December 31, 1999 also included a $1.3 million charge related to the partial termination of the Company's interest rate swap agreements (See "--Liquidity and Capital Resources"). The increase was also attributable to the recognition of an "other than temporary" decline in value in accordance with SFAS No. 115 of $48.7 million in 1998 relating to the Company's equity holdings in FPA Medical Management Inc. ("FPA"). Net realized losses on investment securities totaled $33.8 million for the year ended December 31, 1999 in comparison to a gain of $16.7 million for the year ended December 31, 1998, excluding the FPA loss.
Interest expense was $20.2 million for the year ended December 31, 1999 compared to $26.9 million for the year ended December 31, 1998. The decrease in interest expense is related to the higher average debt balance in 1999 compared to 1998, which was more than offset by a decrease in the effective interest rate due to the issuance of the Company's Zero Coupon Convertible Subordinated Debentures (the "Debentures"). The weighted average interest rate for all debt for the year ended December 31, 1999, including the fees associated with the Company's borrowings and interest rate swaps, was 7.04%.
Effective January 1, 1999, the Company changed its method of accounting for start-up costs related to the Company's provider network and distribution channel development. The cumulative effect of this
During the fourth quarter of 1999, the Board of Directors authorized the repurchase of some or all of the Debentures, which were issued in July 1999 to fund the purchase of 2 million WellPoint common shares from the California HealthCare Foundation. The Company's income from continuing operations, excluding the cumulative effect of accounting change and the extraordinary gain for the year ended December 31, 1999 was $297.2 million, compared to $319.5 million for the year ended December 31, 1998. The decrease is primarily the result of the impact of the private letter ruling received from the IRS in 1998. Earnings per share from continuing operations, excluding the cumulative effect of accounting change and the extraordinary gain, totaled $4.50 and $4.63 for the year ended December 31, 1999 and 1998, respectively.
Earnings per share for the year ended December 31, 1999 is based upon weighted average shares outstanding of 66.1 million, excluding potential common stock, and 68.1 million shares, assuming full dilution. Earnings per share for the year ended December 31, 1998 is based on 69.1 million shares excluding potential common stock, and 70.3 million shares, assuming full dilution. The decrease in weighted average shares outstanding primarily relates to the effect of the repurchase of approximately 4.3 million shares during the year ended December 31, 1999. In addition, for weighted average shares outstanding assuming full dilution, the decline was partially offset by the impact of the assumed conversion of the Debentures.
Premium revenue increased 17.1%, or $865.9 million, to $5,934.8 million for the year ended December 31, 1998 from $5,068.9 million for the year ended December 31, 1997. The overall increase was primarily due to an increase in insured member months of 12.1%, in the Large Employer Group and Individual and Small Employer Group business segments, in addition to the implementation of price increases in both segments. The additional two months of premium revenue in 1998 related to the GBO accounted for $80.1 million or 9.3% of the overall increase, or 17.1% of the increase in the Large Employer Group business segment.
The loss ratio attributable to managed care and related products for the year ended December 31, 1998 decreased slightly to 80.5% compared to 80.6% for the year ended December 31, 1997. Excluding the GBO for the period prior to its acquisition for the year ended December 31, 1998, the loss ratio would have been 80.0%. The decline is primarily due to membership attrition related to underperforming MMHD and GBO acquired accounts, combined with the growth in the Company's Medi-Cal business that experienced a lower loss ratio, primarily in the Company's Large Employer Group business segment.
The selling expense ratio for the year ended December 31, 1998 decreased to 4.4% from 4.6% for the year ended December 31, 1997, largely due to the acquisition of the GBO primarily in the Company's Large Employer Group business segment, which has a lower selling expense ratio than the Company's existing business due to the use of an internal sales force. Excluding the GBO for the period prior to its acquisition for the year ended December 31, 1998, the selling expense ratio would have been 4.5%. The Large Employer Group business segment's growth in Medi-Cal and large employer group medical products had a further impact on lowering the selling expense ratio as a result of the lower selling costs associated with these products in comparison to the Company's other products.
The general and administrative expense ratio decreased slightly to 15.3% for 1998 compared to 15.4% for 1997. The GBO has historically experienced a higher administrative expense ratio than the Company's traditional California-based businesses due to the GBO's higher percentage of management services business. The administrative expense ratio, excluding the GBO for the period prior to its acquisition for the year ended December 31, 1998, was 15.0%. This decline in comparison to the previous year is primarily due to savings from the consolidation of various regional offices outside of California and the integration of information system centers related to acquired businesses with the Company's information systems, in addition to economies of scale associated with membership and premium revenue growth in relation to fixed corporate general and administrative expenses.
The Company's income from continuing operations before extraordinary gain and cumulative effect of accounting change for the year ended December 31, 1998 was $319.5 million, compared to $229.4 million for the year ended December 31, 1997. Earnings per share from continuing operations before extraordinary gain and cumulative effect of accounting change totaled $4.63 and $3.33 for the years ended December 31, 1998 and 1997, respectively. Earnings per share from continuing operations before extraordinary gain and cumulative effect of accounting change assuming full dilution totaled $4.55 and $3.30 for the years ended December 31, 1998 and 1997, respectively. Earnings per share from continuing operations before extraordinary gain and cumulative effect of accounting change for the year ended December 31, 1997 included non-recurring costs of $0.13 per share (See Note 17 to the Consolidated Financial Statements).
The Company's consolidated assets increased by $367.4 million, or 8.7%, from $4,225.8 million as of December 31, 1998 to $4,593.2 million as of December 31, 1999. The increase in total assets was primarily due to growth in cash and investments as a result of operating cash flow. Cash and investments totaled $3.3 billion as of December 31, 1999, or 70.9% of total assets. Income taxes recoverable declined approximately $179.9 million, resulting in a net payable of $84.0 million at December 31, 1999. The primary reason for the decrease was the receipt in the third quarter of 1999 of the IRS refund (See "--Liquidity and Capital Resources").
Overall claims liabilities increased $170.6 million, or 12.9%, from $1,320.6 million at December 31, 1998 to $1,491.2 million at December 31, 1999. This increase was primarily due to an increase in insured membership from December 31, 1998 to December 31, 1999 of approximately 9.0% in the Company's Large Employer Group and Individual and Small Employer Group businesses, in addition to the timing of certain pharmacy claim payments.
Stockholders' equity totaled $1,312.7 million as of December 31, 1999, a slight decrease of $2.5 million from $1,315.2 million as of December 31, 1998. The decline related primarily to stock repurchases made during the year totaling $291.7 million, funded principally from the proceeds from the Company's issuance of the Debentures and from income from operations, and a $25.9 million increase in net unrealized losses on investment securities, net of tax, partially offset by net income of $278.5 million for the year ended December 31, 1999 and $33.8 million of stock issuances under the Company's stock option and purchase plans.
The Company has a $1.0 billion unsecured revolving credit facility. Borrowings under the credit facility bear interest at rates determined by reference to the bank's base rate or to the London Interbank Offered Rate ("LIBOR") plus a margin determined by reference to the Company's leverage ratio (as defined in the credit agreement) or the then-current rating of the Company's unsecured long-term debt by specified rating agencies. Borrowings under the credit facility are made on a committed basis or pursuant to an auction-bid process. The credit facility expires as of May 15, 2002, although it may be extended for an additional one-year period under certain circumstances. The credit agreement requires the Company to maintain certain financial ratios and contains restrictive covenants, including restrictions on the occurrence of additional indebtedness and the granting of certain liens, limitations on acquisitions and investments and limitations on changes in control. The total amount outstanding under the credit facility was $200.0 million and $280.0 million as of December 31, 1999 and 1998, respectively. The weighted average interest rate for the year ended December 31, 1999, including the facility and other fees and the effect of the interest rate swap agreements discussed in the following paragraph, was 7.04%.
As a part of a hedging strategy to limit its exposure to interest rate increases, in 1996 the Company entered into three interest rate swap agreements. During 1999, the Company's 6.45%, $100.0 million fixed interest rate swap agreement matured. In addition, on September 22 and October 1, 1999, the Company entered into partial termination agreements to reduce the notional amount of the Company's 7.05%, $150.0 million swap agreement to $50.0 million. All of the remaining terms and conditions of the swap agreement remained unchanged, with the exception of the fixed interest rate which was 7.06% as of December 31, 1999. The swap agreements are contracts to exchange variable-rate interest payments (weighted average rate for 1999 of 5.4%) for fixed-rate interest payments (weighted average rate for 1999 of 6.3%) without the exchange of the underlying notional amounts. The agreements mature at various dates through 2006. In 1999, the Company entered into an additional interest rate swap agreement with a notional amount of $100.0 million to exchange three month LIBOR (the index associated with the aforementioned swap) for one month LIBOR (the index associated with the Company's revolving credit facility) in order to hedge against rising interest rates at the end of the year. This agreement matured February 28, 2000.
The Company has entered into foreign currency forward exchange contracts for each of the fixed maturity securities on hand as of December 31, 1999 denominated in foreign currencies in order to hedge asset positions with respect to currency fluctuations related to these securities. The unrealized gains and losses from such forward exchange contracts are reflected in other comprehensive income. In addition, the Company has entered into forward exchange contracts to hedge the foreign currency risk between the trade date and the settlement date. Gains and losses from these contracts are recognized in income.
In July 1999, the Company received proceeds of approximately $200.8 million from the issuance of the Debentures. Of this amount, $162.0 million was used to repurchase 2,000,000 shares of the Company's Common Stock from the California HealthCare Foundation, and the remaining proceeds are available for general corporate purposes. The Debentures accrue interest at a yield to maturity of 2.0% per year, compounded semi-annually. The Debentures will result in an increase in accrued interest expense of approximately $3.1 million during the one-year period immediately following their issuance, with such annual accrued interest expense increasing until maturity. The Debentures may be converted into Common Stock, at the option of the debentureholder, at a rate of 6.797 shares per $1,000 principal amount at maturity. The Company may redeem the Debentures for cash at any time after July 2, 2002. The applicable redemption price will be the original issue price plus original issue discount accrued to the date of redemption. The Debentureholders can cause the Company to repurchase the Debentures on July 2, 2002, July 2, 2009 and July 2, 2014 at a price equal to the original issue price plus original issue discount accrued to the date of repurchase.
On October 6, 1999, the Board of Directors authorized the repurchase from time to time of some or all of the Company's Debentures for cash. As of December 31, 1999, the Company had repurchased $81.0 million aggregate principal amount of the Debentures for a total purchase price of $49.8 million.
The Company intends to monitor its other cash needs before making additional repurchases of its Debentures or its Common Stock under its current authorizations.
In July 1996, the Company filed a registration statement relating to the issuance of $1.0 billion of senior or subordinated unsecured indebtedness. As of December 31, 1999, no indebtedness had been issued pursuant to this registration statement.
In June 1998, the FASB issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS No. 133"). SFAS No. 133 establishes the accounting and reporting standards for derivative instruments and for hedging activities. Upon adoption of SFAS No. 133, all derivatives must be recognized on the balance sheet at their then fair value. Any stand-alone deferred gains and losses remaining on the balance sheet under previous hedge accounting rules must be removed from the balance sheet and all hedging relationships must be designated anew and documented pursuant to the new accounting rules. The new standard will be effective in the first quarter of 2001. The Company is presently assessing the effect of SFAS No. 133 on the financial statements of the Company.
Certain statements contained herein, such as statements concerning potential or future loss ratios, expected membership attrition as the Company continues to integrate its recently acquired operations, the pending transaction with Cerulean and other statements regarding matters that are not historical facts, are forward-looking statements (as such term is defined in the Securities Exchange Act of 1934). Such statements involve a number of risks and uncertainties that may cause actual results to differ from those projected. Factors that can cause actual results to differ materially include, but are not limited to, those
discussed below and those discussed from time to time in the Company's various filings with the Securities and Exchange Commission.
As part of the Company's business strategy, over the past four years the Company has acquired substantial operations in new geographic markets. As discussed above, the Company has entered into a merger agreement with Cerulean, pursuant to which Cerulean will become a wholly owned subsidiary of the Company. These businesses, which include substantial indemnity-based insurance operations, have experienced varying profitability or losses in recent periods. Since the relevant dates of acquisition of MMHD and GBO, the Company has continued to work extensively on the integration of these businesses; however, there can be no assurances regarding the ultimate success of the Company's integration efforts or regarding the ability of the Company to maintain or improve the results of operations of the businesses of completed or pending transactions as the Company pursues its strategy of motivating the acquired members to select managed care products. In order to implement this business strategy, the Company has incurred and will, among other things, need to continue to incur considerable expenditures for provider networks, distribution channels and information systems in addition to the costs associated with the integration of these acquisitions. The integration of these complex businesses may result in, among other things, temporary increases in claims inventory or other service-related issues that may negatively affect the Company's relationship with its customers and contribute to increased attrition of such customers. The Company's results of operations could be adversely affected in the event that the Company experiences such problems or is otherwise unable to implement fully its expansion strategy.
The Company's operations are subject to substantial regulation by Federal, state and local agencies in all jurisdictions in which the Company operates. Many of these agencies have increased their scrutiny of managed health care companies in recent periods. The Company also provides insurance products to Medi-Cal beneficiaries in various California counties under contracts with the California Department of Health Services (or delegated local agencies) and provides administrative services to the Health Care Finance Administration ("HCFA") in various capacities. There can be no assurance that acting as a government contractor in these circumstances will not increase the risk of heightened scrutiny by such
As a result of the Company's recent acquisitions, the Company operates on a select geographic basis nationally and offers a spectrum of health care and specialty products through various risk sharing arrangements. The Company's health care products include a variety of managed care offerings as well as traditional fee-for-service coverage. With respect to product type, fee-for-service products are generally less profitable than managed care products. A critical component of the Company's expansion strategy is to transition over time the traditional insurance members of the Company's acquired businesses to more managed care products.
With respect to the risk-sharing nature of products, managed care products that involve greater potential risk to the Company generally tend to be more profitable than management services products and those managed care products where the Company is able to shift risks to employer groups. Individuals and small employer groups are more likely to purchase the Company's higher-risk managed care products because such purchasers are generally unable or unwilling to bear greater liability for health care expenditures. Typically, government-sponsored programs involve the Company's higher-risk managed care products. Over the past few years, the Company has experienced greater margin erosion in its higher-risk managed care products than in its lower-risk managed care and management services products. This margin erosion is attributable to product mix change, product design, competitive pressure and greater regulatory restrictions applicable to the small employer group market. In response to pressure on margins
Substantially all of the Company's investment assets are in interest-yielding debt securities of varying maturities or equity securities. The value of fixed income securities is highly sensitive to fluctuations in short- and long-term interest rates, with the value decreasing as such rates increase or increasing as such rates decrease. In addition, the value of equity securities can fluctuate significantly with changes in market conditions. Changes in the value of the Company's investment assets, as a result of interest rate fluctuations, can affect the Company's stockholders' equity which could impact leverage ratios, credit ratings or compliance with covenants of its revolving credit facility. There can be no assurances that interest rate fluctuations will not have a material adverse effect on the financial condition of the Company.
The location in this Form 10-K of the Company's Consolidated Financial Statements is set forth in the "Index" on Page.
(B) The second quarter of 1998 includes a charge of $48.7 million, before tax, $29.0 million, after tax, or $.26 per basic and diluted share related to the write off of the Company's investment in FPA Holdings, Inc.