ELV

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended March 31, 2005, for WellPoint, Inc. (formerly Anthem, Inc.). The company is the largest publicly traded commercial health benefits company in the U.S. by membership, serving over 28.5 million members. The reporting period includes the full impact of the November 30, 2004, merger with WellPoint Health Networks Inc. (WHN). The company operates in three segments: Health Care, Specialty, and Other.

Key Financial Metrics

Note: Per share data reflects a two-for-one stock split approved on April 25, 2005.

Material Changes vs. Prior Period

• Revenue Growth: Total operating revenue increased 145% year-over-year. On a comparable basis (combining pre-merger Anthem and WHN results), revenue grew 9% to $10,079.1 million, driven by premium rate increases and membership growth in Large Group and Individual/Small Group segments.
• Profitability: Net income rose 107% to $611.7 million. However, diluted EPS decreased 6% to $0.98 due to the increased share count from the merger and stock split. On a comparable basis, net income would have been $590.8 million.
• Expense Trends: Benefit expense increased 146% (10% on a comparable basis). The benefit expense ratio improved by 70 basis points to 81.3%. Selling, general, and administrative (SG&A) expenses increased 126% (flat on a comparable basis), with the SG&A ratio improving by 130 basis points to 15.8%.
• Investment Income: Net investment income increased 89% to $138.7 million, primarily due to the larger asset base from the WHN merger. Net realized gains turned into a loss of $1.0 million in 2005 compared to a $33.0 million gain in 2004.

Guidance, Outlook, and Risks

• Cost of Care: The aggregate cost of care trend was under 9% for the rolling 12 months ended March 31, 2005. Primary drivers include outpatient services and pharmacy costs, though pharmacy trends are moderating.
• Membership Growth: Total medical membership increased 5% on a comparable basis to 28.5 million. Significant growth occurred in BlueCard (14%), Large Group (4%), and Individual/Small Group (6%) segments.
• Acquisitions: On May 3, 2005, WellPoint announced a definitive agreement to acquire Lumenos, Inc., a leader in consumer-directed health programs, for approximately $185.0 million in cash.
• Legal Contingencies: The company faces significant litigation, including the "MDL Cases" (multidistrict litigation involving RICO claims by providers) and state-level antitrust suits. Management intends to defend vigorously but notes potential material adverse effects if liabilities are established.
• Accounting Changes: The company is implementing FAS 123R (Share-Based Payment), effective January 1, 2006, which is expected to reduce earnings by 3% to 5% in 2006.
• Liquidity: The company maintains a strong liquidity position with $16.5 billion in cash, cash equivalents, and investments. It has a $2.0 billion commercial paper program and $2.5 billion in revolving credit facilities.

Investor Verification Checklist

• Merger Integration: Verify the realization of expected synergies and operating efficiencies from the WHN merger, as integration costs and disruptions could impact future margins.
• Medical Claims Reserves: Review the sensitivity of the $4.35 billion medical claims payable liability; a 1% change in estimates could impact net income by approximately $28.3 million.
• Investment Portfolio: Monitor the $14.3 billion investment portfolio for potential other-than-temporary impairments given market volatility.
• Regulatory Environment: Assess the impact of ongoing federal and state audits regarding Medicare fiscal intermediary contracts and potential penalties.
• Stock-Based Compensation: Track the impact of the upcoming FAS 123R adoption on 2006 earnings, as current pro forma disclosures indicate a reduction in net income.