Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended June 30, 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 28.8 million members. The reporting period reflects the full integration of the November 30, 2004 merger with WellPoint Health Networks Inc. (WHN) and the June 9, 2005 acquisition of Lumenos, Inc. for approximately $185 million. A two-for-one stock split was effected in May 2005, and all per-share data has been adjusted accordingly.
Key Financial Metrics
| Metric (Six Months Ended June 30, 2005) | Value (in Millions) |
|---|---|
| Total Revenues | $22,399.1 |
| Net Income | $1,171.1 |
| Diluted Earnings Per Share | $1.88 |
| Net Cash Provided by Operating Activities | $1,364.6 |
| Total Assets | $41,691.3 |
| Total Liabilities | $21,139.6 |
| Shareholders' Equity | $20,551.7 |
| Long-Term Debt | $4,009.8 |
| Debt-to-Total Capital Ratio | 18.4% |
Benefit Expense Ratio: 81.2% (Six months 2005) vs. 81.9% (Six months 2004).
Selling, General & Administrative (SG&A) Expense Ratio: 16.1% (Six months 2005) vs. 17.3% (Six months 2004).
Material Changes vs. Prior Period
- Revenue Growth: Total revenues increased 144% to $22.4 billion compared to the prior year. On a comparable basis (adjusting for the WHN merger), operating revenue increased 8% to $22.1 billion, driven by premium rate increases and membership growth in Large Group and Individual/Small Group segments.
- Profitability: Net income increased 120% to $1.17 billion. However, net income as a percentage of total revenue decreased 60 basis points to 5.2%, primarily due to a $103 million pre-tax expense related to a multi-district litigation settlement and a decrease in net realized investment gains.
- Investment Income: Net investment income rose 107% to $298.5 million, largely due to the larger asset base acquired in the WHN merger.
- Membership: Total medical membership grew 6% on a comparable basis to 28.8 million. Self-funded membership increased 9%, while fully-insured membership increased 2%.
Guidance, Outlook, Risks, and Unusual Items
- Unusual Items: The company incurred a $103 million pre-tax expense ($0.10 per diluted share after tax) in Q2 2005 to settle multi-district class-action lawsuits involving over 700,000 physicians. The total settlement agreement is up to $198 million, including legal fees and contributions to a foundation.
- Cost of Care: Management expects the aggregate cost of care trend to be less than 9% for the full year 2005. Outpatient trends are moderating, while inpatient trends are driven by unit costs. Pharmacy cost trends continue to decline due to increased generic usage.
- Outlook: The company anticipates that the adoption of FAS 123R (Share-Based Payment) in 2006 will reduce earnings by approximately 3% to 5%.
- Risks: Significant risks include the outcome of ongoing litigation (including the pending court approval of the physician settlement), the accuracy of medical claims liability estimates (which represent 20% of total liabilities), and the ability to secure premium rate increases that match or exceed medical cost trends.
- Liquidity: The company maintains a strong liquidity position with $17.3 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
- Settlement Finality: Verify the final court approval of the $198 million multi-district litigation settlement scheduled for December 2, 2005, and confirm no additional tag-along cases emerge.
- Claims Reserve Adequacy: Monitor the "prior year redundancy" metric (3.8% for the six months ended June 30, 2005) to assess the accuracy of medical claims liability estimates and potential future earnings volatility.
- Merger Synergies: Track the realization of cost synergies and operating efficiencies from the WHN merger, particularly in the context of the 8% comparable revenue growth.
- Stock Repurchase Program: Confirm the remaining authorization of $367.1 million under the stock repurchase program and future buyback activity.
- Regulatory Compliance: Review ongoing federal and state audits regarding Medicare fiscal intermediary contracts and potential penalties.