Business context and reporting period
This is WellPoint, Inc.’s unaudited Form 10-Q for the quarter and nine months ended September 30, 2011. The filing identifies the registrant as WellPoint, Inc.; it does not use the Elevance Health name. WellPoint reported 34.4 million medical members and more than 66.1 million individuals served through its subsidiaries. Its reportable segments were Commercial, Consumer and Other.
On August 22, 2011, WellPoint completed its acquisition of CareMore Health Group, a senior-focused Medicare Advantage care provider. Preliminary goodwill recorded was $583.3 million, allocated to Consumer.
Financial performance and position
Amounts are in millions, except per-share data and ratios.
| Metric | Three months ended September 30, 2011 | Prior-year quarter | Nine months ended September 30, 2011 | Prior-year period |
|---|---|---|---|---|
| Operating revenue | $15,155.1 | $14,308.5 | $44,689.7 | $43,350.2 |
| Total revenue | $15,398.0 | $14,572.3 | $45,393.0 | $44,076.5 |
| Net income | $683.2 | $739.1 | $2,311.4 | $2,338.3 |
| Diluted EPS | $1.90 | $1.84 | $6.24 | $5.52 |
| Benefit expense ratio | 85.1% | 83.8% | 84.3% | 82.8% |
| SG&A expense ratio | 14.0% | 14.4% | 13.9% | 14.7% |
| Net income as a percentage of total revenue | 4.4% | 5.1% | 5.1% | 5.3% |
For the nine-month period, operating cash flow was $3,316.5, investing cash flow was negative $1,323.2, and financing cash flow was negative $1,275.2. Cash and cash equivalents were $2,508.4 at September 30, versus $1,788.8 at December 31, 2010. Cash, cash equivalents and investments, including long-term investments, totaled $21,468.9. The company reported $2,368.4 of cash and investments at the parent company available for general corporate use.
Reported debt-to-capital was 29.7%, compared with 27.3% at December 31, 2010; management’s targeted range was 25%–35%. The company issued $1.1 billion of senior notes in August and had $994.8 million outstanding under its commercial paper program. No amounts were outstanding under its $2.0 billion revolving credit facility.
Changes versus comparable periods
- Third-quarter operating revenue rose 5.9%, but net income fell 7.6%. Nine-month operating revenue rose 3.1%, while net income declined 1.2%.
- Diluted EPS increased despite lower net income, primarily because share repurchases reduced average diluted shares by 10.4% for the quarter and 12.5% for the nine months.
- Higher medical costs and less favorable prior-year reserve development contributed to higher benefit expense ratios. Third-quarter 2010 included an estimated $110 million of higher-than-anticipated favorable prior-year reserve development; the corresponding nine-month 2010 amount was $210 million.
- Consumer segment operating gain fell 29.4% for the nine months, chiefly reflecting higher Senior medical costs and adverse selection in certain Medicare Advantage products. Commercial operating gain increased 4.0%; Other segment operating gain increased to $58.1 million from $10.8 million.
- Nine-month operating cash flow increased substantially from 2010, when cash flow included a $1.208 billion IRS tax payment related to the 2009 PBM business sale. The 2011 period also benefited from $596.5 million of premiums received early for government contracts associated with fourth-quarter 2011.
Outlook, commentary and risks
- Management estimated 2011 Local Group fully-insured cost-of-care trend at 7.0%, plus or minus 50 basis points. It cited unit costs, including hospital costs, as the principal driver, and discussed utilization management, contracting and care-coordination initiatives to mitigate cost pressure.
- Management said it had refined Medicare Advantage products and service areas for 2012 following higher-than-expected 2011 medical costs. The filing does not provide a clear consolidated earnings or revenue forecast.
- Management stated that operating cash flows, cash and investments, and available financing were expected to be sufficient for operations, commitments, capital acquisitions and strategic transactions. Subsidiary distributions are subject to regulatory restrictions; a material debt-rating downgrade could affect borrowing capacity and cost.
- The company cautioned that investment-market conditions could lead to further material impairment losses. Other-than-temporary impairment losses recognized in income were $22.9 million in the quarter and $33.7 million for the nine months.
- Legal proceedings include demutualization/IPO-related litigation and out-of-network reimbursement cases. For proceedings where losses were probable or reasonably possible and estimable, the company reported an aggregate possible-loss range of $0 to approximately $500 million in excess of established reserves; it could not estimate losses for many matters. Plaintiffs in the Ormond case alleged substantial damages, including punitive damages, but those allegations are not the company’s estimate of exposure.
- Other contingencies include possible assessments if Penn Treaty is liquidated; WellPoint said its net exposure could not then be estimated and might be material. The filing also identifies regulatory, health-care-reform, Medicare/Medicaid, provider-cost, litigation, acquisition, investment-market and medical-service liability risks.
Important facts for investors to verify
- Whether the elevated benefit expense ratio and Medicare Advantage medical-cost pressures persisted, and how management’s 2012 product changes affected Consumer profitability.
- How much of 2011 operating cash flow reflected timing effects, particularly early government-contract premiums, rather than recurring operating performance.
- CareMore’s final purchase-price allocation, contribution to results, and integration and regulatory risks.
- Developments in significant litigation and the Penn Treaty proceeding, including any changes to reasonably possible losses or reserves.
- Debt, capital-return plans and subsidiary capital requirements; the company authorized substantial future share repurchases, while repurchases and dividends remained discretionary.
The filing notes that GAAP benefit expense ratios do not necessarily match medical loss ratios calculated under HHS guidance for rebate purposes.