UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
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(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 2001
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 001-16751
ANTHEM, INC.
(Exact name of registrant as specified in its charter)
Indiana 35-2145715
(State or other (I.R.S. Employer
jurisdiction of Identification No.)
incorporation or
organization)
120 Monument Circle
Indianapolis, Indiana 46204
(Address of principal (Zip Code)
executive offices)
Registrant's telephone number, including area code: (317) 488-6000
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
------------------- -----------------------------------------
Common Stock, Par Value $.01 New York Stock Exchange
6.00% Equity Security Units New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
NONE
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of the voting and non-voting common equity held
by non-affiliates of the Registrant (assuming solely for the purposes of this
calculation that all Directors and executive officers of the Registrant are
"affiliates") as of March 4, 2002 was approximately $5,738,083,395.
As of March 4, 2002, 103,388,914 shares of the registrant's Common Stock
were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the following document have been incorporated by reference into
this Annual Report on Form 10-K:
IDENTITY OF DOCUMENT PART OF FORM 10-K INTO WHICH
DOCUMENT IS INCORPORATED
Definitive Proxy Statement for the Annual PART III
Meeting of Shareholders
to be held May 13, 2002
ANTHEM, INC.
Indianapolis, Indiana
Annual Report to Securities and Exchange Commission
December 31, 2001
TABLE OF CONTENTS
Page
----
PART I.................................................................. 1
ITEM 1. BUSINESS................................................... 1
ITEM 2. PROPERTIES................................................. 25
ITEM 3. LEGAL PROCEEDINGS.......................................... 26
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS........ 30
PART II................................................................. 32
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS........................................ 32
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA....................... 34
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.................................. 35
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. 57
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA................ 59
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE................................... 88
PART III................................................................ 88
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT......... 88
ITEM 11. EXECUTIVE COMPENSATION..................................... 88
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT................................................. 88
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS............. 88
PART IV................................................................. 89
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
FORM 8-K................................................... 89
This Annual Report on Form 10-K, including the Management's Discussion and
Analysis of Financial Condition and Results of Operations, contains
forward-looking statements, within the meaning of the Private Securities
Litigation Reform Act of 1995, that reflect our views about future events and
financial performance. When used in this report, the words "may," "will,"
"should," "anticipate," "estimate," "expect," "plan," "believe," "predict,"
"potential," "intend" and similar expressions are intended to identify
forward-looking statements. Forward-looking statements are subject to known and
unknown risks and uncertainties that could cause actual results to differ
materially from those projected. You are cautioned not to place undue reliance
on these forward-looking statements that speak only as of the date hereof. You
are also urged to carefully review and consider the various disclosures made by
us which attempt to advise interested parties of the factors which affect our
business, including Exhibit 99 "Risk Factors" filed as an exhibit hereto and
incorporated into this Form 10-K by reference, and our reports filed with the
Securities and Exchange Commission from time to time.
Health benefits companies operate in a highly competitive, constantly
changing environment that is significantly influenced by aggressive marketing
and pricing practices of competitors, regulatory oversight and organizations
that have resulted from business combinations. The following is a summary of
factors, the results
i
of which, either individually or in combination, if markedly different from our
planning assumptions, could cause our results to differ materially from those
expressed in any forward-looking statements contained in this report:
. trends in health care costs and utilization rates;
. ability to secure sufficient premium rate increases;
. competitor pricing below market trends of increasing costs;
. increased government regulation of health benefits and managed care;
. significant acquisitions or divestitures by major competitors;
. introduction and utilization of new prescription drugs and technology;
. a downgrade in our financial strength ratings;
. litigation targeted at health benefits companies;
. ability to contract with providers consistent with past practice; and
. general economic downturns.
References in this Annual Report on Form 10-K to the term "Anthem Insurance"
refer to Anthem Insurance Companies, Inc., an Indiana insurance company.
References to the term "Anthem" refer to Anthem Insurance and its direct and
indirect subsidiaries before the demutualization, and to Anthem, Inc., an
Indiana holding company, and its direct and indirect subsidiaries, including
Anthem Insurance, after the demutualization, as the context requires.
References to the terms "we," "our," or "us," refer to Anthem, before and after
the demutualization. The demutualization was consummated on November 2, 2001.
ii
PART I
ITEM 1. BUSINESS.
General Business Description
We are one of the nation's largest health benefits companies, serving
approximately eight million members, or customers, primarily in Indiana,
Kentucky, Ohio, Connecticut, New Hampshire, Maine, Colorado and Nevada. We hold
the leading market position in seven of these eight states and own the
exclusive right to market our products and services using the Blue Cross(R)
Blue Shield(R), or BCBS, names and marks in all eight states under license
agreements with the Blue Cross Blue Shield Association, or BCBSA, an
association of independent BCBS plans. We seek to be a leader in our industry
by offering a broad selection of flexible and competitively priced health
benefits products.
Our product portfolio includes a diversified mix of managed care products,
including health maintenance organizations, or HMOs, preferred provider
organizations, or PPOs, and point of service, or POS plans, as well as
traditional indemnity products. We also offer a broad range of administrative
and managed care services and partially insured products for employer
self-funded plans. These services and products include underwriting, stop loss
insurance, actuarial services, provider network access, medical cost
management, claims processing and other administrative services. In addition,
we offer our customers several specialty products including group life,
disability, prescription management, workers compensation, dental and vision.
Our products allow our customers to choose from a wide array of funding
alternatives. For our insured products, we charge a premium and assume all or a
majority of the health care risk. Under our self-funded and partially insured
products, we charge a fee for services, and the employer or plan sponsor
reimburses us for all or a majority of the health care costs. Our 2001
operating revenue was 91.3% derived from fully insured products, while 8.7% was
derived from administrative services and other revenues.
Our customer base primarily includes large groups (contracts with 51 or more
eligible employees), individuals and small groups (one to 50 employees), each
of which accounted for 40.4%, 18.1% and 17.7% of our 2001 operating revenue,
respectively. Other major customer categories include National accounts,
Medicare recipients, federal employees and other federally funded programs. We
principally market our products through an extensive network of independent
agents and brokers who are compensated on a commission basis for new sales and
retention of existing business.
Our managed care plans and products are designed to encourage providers and
members to make quality, cost-effective health care decisions by utilizing the
full range of our innovative medical management services, quality initiatives
and financial incentives. Our leading market shares enable us to realize the
long-term benefits of investing in preventive and early detection disease
management programs. We further improve our ability to provide cost-effective
health benefits products and services through a disciplined approach to
internal cost containment, prudent management of our risk exposure and
successful integration of acquired businesses. These measures have allowed us
to achieve significant growth in membership (93%), revenue (100%), and net
income (256%) from the beginning of 1997 through 2001.
We intend to continue to expand through a combination of organic growth and
strategic acquisitions in both existing and new markets. Our growth strategy is
designed to enable us to take advantage of the additional economies of scale
provided by increased overall membership. In addition, we believe geographic
diversity reduces our exposure to local or regional economic, regulatory and
competitive pressures and provides us with increased opportunities for
expansion. While the majority of our growth has been the result of strategic
mergers and acquisitions, we have also achieved growth in our existing markets
by providing excellent service, offering competitively priced products and
effectively capturing the brand strength of the Blue Cross and Blue Shield
names and marks.
Anthem, Inc. is an Indiana corporation that was formed in July 2001 as a
wholly owned subsidiary of Anthem Insurance. Anthem, Inc. was formed in
connection with the conversion of Anthem Insurance from a mutual insurance
company into a stock insurance company in a process called demutualization. The
demutualization was effective on November 2, 2001, and at that time Anthem
Insurance was converted into a stock insurance company and became a wholly
owned subsidiary of Anthem, Inc., and Anthem, Inc. became a publicly-held
company. In addition, effective November 2, 2001, all membership interests in
Anthem Insurance were extinguished and Anthem Insurance's eligible statutory
members received shares of Anthem, Inc. common stock or cash, as consideration
for the extinguishment of their membership interests in Anthem Insurance.
Industry Overview
The health benefits industry has experienced significant change in recent
years. The increasing focus on health care costs by employers, the government
and consumers has led to the growth of alternatives to traditional indemnity
health insurance. HMO, PPO and hybrid plans, such as POS plans, incorporating
features of each, are among the various forms of managed care products that
have developed in recent years. Through these types of products, the cost of
health care is contained by negotiating contracts with hospitals, physicians
and other providers to deliver health care at favorable rates. These products
also can feature medical management and other quality and cost containment
measures such as pre-admission review and approval for non-emergency hospital
services, pre-authorization of outpatient surgical procedures, and network
credentialing to determine that network doctors and hospitals have the required
certifications and expertise. In addition, providers may share medical cost
risk or have other incentives to deliver quality medical services in a
cost-effective manner. HMO, PPO and POS enrollees generally are charged
periodic, pre-paid premiums, and pay co-payments or deductibles when they
receive services. PPO and POS plans provide benefits for out-of-network usage,
typically at higher out-of-pocket costs to members. HMO members generally
select one of the network's primary care physicians who then assumes
responsibility for coordinating their health care services. Typically, there is
no out-of-network benefit for HMO members. PPOs and other open access plans
generally provide coverage when members select non-network providers without
coordination through a primary care physician, but at a higher out-of-pocket
cost. Hybrid plans, such as POS plans, typically involve the selection of
primary care physicians similar to HMOs, but allow members to self refer or to
choose non-network providers at higher out-of-pocket costs similar to those of
PPOs.
Recently, economic factors and greater consumer awareness have resulted in
the increasing popularity of products that offer larger, more extensive
networks, more member choice related to coverage and the ability to self refer
within those networks. There is also a growing preference for greater
flexibility to assume larger deductibles and co-payments in exchange for lower
premiums. We believe we are well positioned in each of our regions to respond
to these market preferences. Our PPO products, which contain most or all of the
features noted above, have experienced significant growth over the past few
years.
The Blue Cross Blue Shield Association, or BCBSA, has also undergone
significant change in recent years. Historically, most states had at least one
Blue Cross (hospital coverage) and a separate Blue Shield (physician coverage)
company. Prior to the mid 1980s there were more than 125 separate Blue Cross or
Blue Shield companies. Many of these organizations have merged, reducing the
number of independent licensees to 43 as of December 2001. We expect this trend
to continue, with plans merging or affiliating to address capital needs and
other competitive pressures.
Each of the BCBS plans work cooperatively in a number of ways that create
significant market advantages, especially when competing for very large
multi-state employer groups. As a result of this cooperation, each plan is able
to take advantage of other member plans' substantial provider networks and
discounts when any member from one state works or travels outside of the state
in which the policy is written. We receive a substantial and growing source of
revenue under this "BlueCard" program for providing member services in our
states for individuals who are customers of other BCBS plans.
2
Our Operating Segments
Our reportable segments are strategic business units delineated by
geographic areas within which we offer similar products and services, but
manage with a local focus to address each geographic region's unique market,
regulatory and health care delivery characteristics. The regions are:
. the Midwest, which includes Indiana, Kentucky and Ohio;
. the East, which includes Connecticut, New Hampshire and Maine; and
. the West, which includes Colorado and Nevada.
In addition to our three geographic regions, we have a Specialty segment and
an Other segment. Our Specialty segment includes business units providing:
. group life and disability insurance benefits;
. pharmacy benefit management;
. dental and vision administration services; and
. third party occupational health services.
Various ancillary business units (reported with the Other segment) include:
. AdminaStar Federal, a subsidiary which administers Medicare programs in
Indiana, Illinois, Kentucky and Ohio; and
. Anthem Alliance Health Insurance Company, a subsidiary which primarily
provided health care benefits and administration in nine states for the
Department of Defense's TRICARE program for military families. On May 31,
2001, the TRICARE operations were sold.
The Other segment also includes intersegment revenue, expense eliminations and
corporate expenses not allocated to reportable segments.
Our Strategy
Our strategic objective is to be among the best and biggest in our industry
with the size and scale to deliver the best product value with the best people.
To achieve these goals, we offer a broad selection of flexible and
competitively priced products and seek to establish leading market positions.
We believe that increased scale in each of our regional markets will provide us
competitive advantages, cost efficiencies and greater opportunities to sustain
profitable growth. The key to our ability to deliver this growth is our
commitment to work with providers to optimize the cost and quality of care
while improving the health of our members and improving the quality of our
service.
Promote Quality Care
We believe that our ability to help our members receive quality,
cost-effective health care will be key to our success. We promote the health of
our members through education and through products that cover prevention and
early detection programs that help our members and their providers manage
illness before higher cost intervention is required. To help develop those
programs, we collaborate with the providers in our networks to promote improved
quality of care for our members. The following policies and programs are key to
improving the quality of care that our members receive:
. Selection and continued assessment of provider networks: Our networks
consist of providers who meet and maintain our standards of medical
education, training and professional experience.
. Disease management: We develop disease management programs that educate
members on actions they can take to help monitor and better control their
illnesses and to manage diseases such as diabetes, asthma and congestive
heart failure.
3
. Prevention measures: We work with providers and members to promote
preventive measures such as childhood and adult immunizations, as well as
breast cancer screening.
. Education: We help our members prevent disease and illness or minimize
their impact by promoting lifestyle modification through education. For
example, our nationally recognized smoking cessation program in Maine has
helped to reduce the number of our members in Maine who smoke by 49% over
four years.
. Technology: We also utilize technology to evaluate the medical care
provided to our customers. For example, our Anthem Prescription Management
decision support system helps to identify potentially harmful drug
interactions and helps prevent members from receiving potentially
dangerous combinations of drugs.
Product Value
We work to create products that offer value to our customers. By offering a
wide spectrum of products supported by broad provider networks, we seek to meet
the differing needs of our various customers. The breadth and flexibility of
our benefit plan options, coupled with quality care initiatives, are designed
to appeal to a broad base of employer groups and individuals with differing
product and service preferences. We use innovative product design, such as a
three-tiered prescription program that provides customer selection among
generic, brand and formulary drugs at various out-of-pocket costs. Innovative
product designs help us contain costs and allow our products to be
competitively priced in the market.
Formulary drugs are prescription drugs that have been reviewed and selected
by a committee of practicing doctors and clinical pharmacists for their quality
and cost effectiveness. Use of medications from the formulary, which includes
hundreds of brand name and generic medications, is encouraged through pharmacy
benefit design. A three-tier pharmacy benefit and the use of formulary drugs
allow members access to highly useful prescription medications, while also
helping to control the cost of pharmacy benefits to employers. Members have the
same access to medications but share a greater portion of the cost for brand
name drugs through the co-payment structure. Under a three-tier program, the
customer pays the lowest price for generic drugs, a higher price for formulary
brand name drugs and the highest price for brand name drugs not included in the
formulary.
Operational Excellence
To provide cost-effective products, we continuously strive to improve
operational efficiency. We actively benchmark our performance against other
leading health benefits companies to identify opportunities to drive continuous
performance improvement. Important performance measures we use include
operating margin, administrative expense ratio, administrative expense per
member per month, or PMPM, and return on equity. Current initiatives to drive
operational efficiency include:
. consolidating and eliminating information systems;
. standardizing operations and processes;
. implementing e-business strategies; and
. integrating acquired businesses.
Technology
We continuously review opportunities to improve our interactions with
customers, brokers and providers. By utilizing technologies, we seek to make
the interactions as simple, efficient and productive as possible. We monitor
ourselves using industry standard customer service metrics, which measure,
among other things, call center efficiency, claims paying accuracy and speed of
enrollment. We ease the administrative burden of enrolling new accounts,
processing claims and updating records for our brokers and providers by
automating many of these processes. We also collect information that enables us
to further improve customer service, product design and underwriting decisions.
Growth
We believe that profitable growth, both organic and through acquisitions, is
an important part of our business. Increased scale allows us to increase
customer convenience and improve operating margins, while keeping our products
competitively priced. Expansion into new geographic markets enables us to reduce
4
exposure to economic cycles and regulatory changes and provides options for
business expansion. We plan to generate earnings growth first by increasing
revenues through new enrollment, while maintaining pricing discipline. In
addition, we plan to grow our specialty segment by increasing the penetration
of specialty products to existing health members through cross selling and
expansion into non-Anthem markets. These specialty products include
prescription management, vision, dental, group life and disability insurance.
While enjoying a leading market share in seven of our eight markets, we have
market shares ranging from 18% to 47% and believe there is remaining
opportunity to grow profitably in each market. We also intend to make strategic
acquisitions to augment our internal growth.
Our History
We were formed in 1944 under the name of Mutual Hospital Insurance, Inc.,
commonly known as Blue Cross of Indiana. In 1946, Mutual Medical Insurance
Inc., also known as Blue Shield of Indiana, was incorporated as an Indiana
mutual insurance company. In 1985, these two companies merged under the name
Associated Insurance Companies, Inc. In 1993, Southeastern Mutual Insurance
Company, a Kentucky-domiciled mutual insurance company doing business as Blue
Cross and Blue Shield of Kentucky, was merged into us. In 1995, Community
Mutual Insurance Company, an Ohio-domiciled mutual insurance company doing
business as Community Mutual Blue Cross and Blue Shield, was merged into us. We
changed our name to Anthem Insurance Companies, Inc. in 1996. In 1997, Blue
Cross & Blue Shield of Connecticut, Inc., or BCBS-CT, a Connecticut-domiciled
mutual insurance company, was merged into Anthem Insurance. We completed our
purchases of New Hampshire-Vermont Health Service, which did business as Blue
Cross and Blue Shield of New Hampshire, or BCBS-NH, and Rocky Mountain Hospital
and Medical Service, which did business as Blue Cross and Blue Shield of
Colorado and Blue Cross and Blue Shield of Nevada, or BCBS-CO/NV, during 1999.
In 2000, we completed our purchase of Associated Hospital Service of Maine,
which did business as Blue Cross and Blue Shield of Maine, or BCBS-ME. In
November of 2001, we completed our demutualization, in which Anthem Insurance
converted from a mutual insurance company to a stock insurance company, and
became a wholly owned subsidiary of Anthem, Inc., a holding company formed in
connection with the demutualization.
Mergers and Acquisitions
Much of our recent growth in membership has resulted from strategic mergers
and acquisitions, primarily with other Blue Cross and Blue Shield licensees.
These combinations, coupled with growth in existing markets, have enabled us to
establish multi-regional centers of focus with a significant share of each
region's health benefits market. The following table sets forth our membership
by state as of the dates indicated:
Membership
December 31
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2001 2000 1999 1998 1997
----- ----- ----- ----- -----
(In Thousands)
Midwest
Ohio.......................................... 2,212 2,118 1,987 2,096 1,990
Indiana....................................... 1,543 1,410 1,358 1,175 1,226
Kentucky...................................... 1,099 1,054 1,037 928 1,129
----- ----- ----- ----- -----
Subtotal.................................. 4,854 4,582 4,382 4,199 4,345
East
Connecticut................................... 1,217 1,127 1,031 968 916
New Hampshire................................. 539 479 366 -- --
Maine......................................... 504 487 -- -- --
----- ----- ----- ----- -----
Subtotal.................................. 2,260 2,093 1,397 968 916
West
Colorado...................................... 606 463 395 -- --
Nevada........................................ 163 132 91 -- --
----- ----- ----- ----- -----
Subtotal.................................. 769 595 486 -- --
----- ----- ----- ----- -----
Total................................... 7,883 7,270 6,265 5,167 5,291
===== ===== ===== ===== =====
Percentage increase (decrease) from
previous year end..................... 8% 16% 21% (2)% 29%
5
During the last three years, we have completed the following acquisitions:
. On June 5, 2000, we purchased substantially all of the assets and
liabilities of BCBS-ME. The cash purchase price was $95.4 million
(including direct costs of acquisition).
. On November 16, 1999, we purchased the stock of BCBS-CO/NV. The cash
purchase price was $160.7 million (including direct costs of acquisition).
. On October 27, 1999, we purchased the assets and liabilities of BCBS-NH.
The cash purchase price was $125.4 million (including direct costs of
acquisition).
When integrating new operations, we focus on improving customer service,
underwriting, medical management and administrative operations. We improve
operations by centralizing certain management and support functions, sharing
best practices and consolidating information systems. We also improve
underwriting practices by establishing discipline in our data analysis and
product design.
Pending Acquisition of Blue Cross and Blue Shield of Kansas
General
On May 30, 2001, we signed a definitive agreement with Blue Cross and Blue
Shield of Kansas, Inc., or BCBS-KS, pursuant to which we agreed to acquire
BCBS-KS, which would become a wholly owned subsidiary of ours. On February 11,
2002, the Kansas Insurance Commissioner disapproved the proposed transaction,
which had been previously approved by the BCBS-KS policyholders in January
2002. On February 19, 2002, the board of directors of BCBS-KS voted unanimously
to appeal the Kansas Insurance Commissioner's decision and BCBS-KS will seek to
have the decision overturned in Shawnee County District Court. The Company will
join BCBS-KS in the appeal.
Under the proposed transaction, BCBS-KS would convert from a mutual
insurance company to a stock insurance company through a process known as a
sponsored demutualization. Under the agreement, BCBS-KS policyholders eligible
to receive consideration in its demutualization would be entitled to receive
$190.0 million, a portion of which totaling $48.0 million we would pay in cash
to the escrow described below at the closing of the transaction. The portion of
the $190.0 million not placed in escrow would be distributed directly to
eligible BCBS-KS policyholders. The amount placed in the escrow account would
be held in escrow pending the resolution of a matter involving a subpoena dated
February 28, 2001, received by BCBS-KS from the Office of Inspector General, or
OIG. The subpoena seeks documents related to an investigation of possible
improper claims against Medicare. The amount held in escrow would be used to
pay costs, expenses and liabilities related to the OIG investigation, and to
pay costs and expenses of the escrow, with any remaining amount to be
distributed to eligible BCBS-KS members following final resolution of the
matter. In addition, at or prior to the closing, BCBS-KS would declare a
special distribution payable after the closing to its eligible policyholders in
an amount equal to the excess of BCBS-KS' consolidated closing book value over
$155.0 million.
BCBS-KS
BCBS-KS is the largest health insurer in Kansas. BCBS-KS provides insurance
coverage or self-insured administration services to more than 800,000
individuals in all Kansas counties except Johnson and Wyandotte, two counties
near Kansas City. BCBS-KS also administers Medicare and Medicaid government
programs.
BCBS-KS offers a wide range of health benefit products including traditional
indemnity products and HMO, POS and PPO managed care products. BCBS-KS also
offers claims administration and stop-loss coverage for employer self-funded
plans, as well as underwriting, actuarial services, provider network access,
and medical cost management. Additionally, BCBS-KS offers several specialty
insurance products, including group life, disability, dental and long-term care.
6
For the year ended December 31, 2001, BCBS-KS had preliminary (unaudited)
total revenue of $1,097.1 million and a net loss of $12.6 million and, at
December 31, 2001, assets of $770.3 million and surplus of $312.3 million.
Core Health Benefits Products and Services
We offer a diversified mix of managed care products, including HMO, PPO and
POS plans, as well as traditional indemnity products. Our managed care products
incorporate a broad range of options and financial incentives for both members
and participating providers, including co-payments and provider risk pools. We
also offer a broad range of administrative and managed care services and
partially insured products for employer self-funded plans. These services and
products include underwriting, stop loss insurance, actuarial services, network
access, medical cost management, claims processing and other administrative
services. We charge a premium for insured plans and typically assume all or a
majority of the liability for the cost of health care. For self-funded or
partially-insured products, we charge a fee for services while the employer
assumes all or a majority of the risks. The fee is based upon the customer's
selection from our portfolio of services. We also provide specialty products
including group life, disability, prescription management, dental and vision
care. Our principal health products, offered both on an insured and
employer-funded basis, are described below. Some managed care and medical cost
containment features may be included in each of these products, such as
inpatient pre-certification, benefits for preventive services and reimbursement
at our maximum allowable amount with no additional billing to members.
Preferred Provider Organization, or PPO. PPO products offer the member an
option to select any health care provider, with benefits paid at a higher level
when care is received from a participating network provider. Coverage is
subject to co-payments or deductibles and coinsurance, with member cost sharing
limited by out-of-pocket maximums.
Traditional Indemnity. Indemnity products offer the member an option to
select any health care provider for covered services. Coverage is subject to
deductibles and coinsurance, with member cost sharing limited by out-of-pocket
maximums.
Health Maintenance Organization, or HMO. HMO products include
comprehensive managed care benefits, generally through a participating network
of physicians, hospitals and other providers. A member in one of our HMOs must
typically select a primary care physician, or PCP, from our network. PCPs
generally are family practitioners, internists or pediatricians who provide
necessary preventive and primary medical care, and are generally responsible
for coordinating other necessary health care. Preventive care services are
emphasized in these plans. We offer HMO plans with varying levels of
co-payments, which result in different levels of premium rates.
Point-of-Service, or POS. POS products blend the characteristics of HMO
and indemnity plans. Members can have comprehensive HMO-style benefits through
participating network providers with minimum out-of-pocket expense
(co-payments) and also can go directly, without a referral, to any provider
they choose, subject to, among other things, certain deductibles and
coinsurance. Member cost sharing is limited by out-of-pocket maximums.
BlueCard Plan. BCBS plans across the United States share their local
provider networks in a unique arrangement, where one plan's enrolled members
travel or live in another plan's service area. The local or "host" plan is paid
an administrative fee by the "home" or selling plan in exchange for providing
claims and member services to home plan customers in the host plan's service
area. All claims are reimbursed by the home plan, which may have an insured or
self-funded relationship with the member's employer under any of the product
designs discussed above. BlueCard membership is calculated based on the amount
of BlueCard administrative fees we receive from the BlueCard members' home
plans. Generally, the administrative fees we receive are based on the number
and type of claims processed and a portion of the network discount on those
claims. The
7
administrative fees are then divided by an assumed per member per month, or
PMPM, factor in order to calculate the number of members. The assumed PMPM
factor is based on an estimate of Anthem's experience and BCBSA guidelines.
The following table sets forth our health benefits membership data by
product:
December 31
-----------------
2001 2000 1999
----- ----- -----
(In Thousands)
PPO........................... 3,193 2,733 2,427
Traditional Indemnity......... 1,113 1,155 1,048
HMO........................... 1,211 1,121 964
POS........................... 740 813 723
----- ----- -----
Directly Contracted Membership 6,257 5,822 5,162
BlueCard(R) (Anthem Host)..... 1,626 1,320 974
----- ----- -----
Total without TRICARE...... 7,883 7,142 6,136
TRICARE.................... -- 128 129
----- ----- -----
Total.................. 7,883 7,270 6,265
===== ===== =====
Specialty Products and Services
Prescription Management Services. We provide pharmacy network management,
pharmacy benefits and mail order prescription services through our subsidiary,
Anthem Prescription Management, or APM, our pharmacy benefit manager. APM
administers its programs primarily to customers who are also Anthem health plan
members. Anthem Rx, our retail pharmacy network, provides members access to
more than 50,000 chain and independent pharmacies across the United States, and
Anthem Rx Direct, our mail service pharmacy, provides long-term therapy
medications through convenient home delivery.
Group Life and Disability. We offer an array of competitive group life
insurance and disability benefit products to both large and small group
customers. We have over $24.5 billion of life insurance in force, insuring over
33,000 groups with more than 835,000 employees. Our traditional group insurance
products include term life, accidental death and dismemberment, short-term
disability income and long-term disability income. In addition, we offer
voluntary group life and disability products through employers which
payroll-deduct premiums from their participating employees.
Vision and Dental Care Programs. These programs are primarily for
customers enrolled in our Blue Cross and Blue Shield health plans. Vision and
dental products available include both fully insured and self-insured products.
In addition, we provide dental third-party administration services through
Health Management Systems, Inc., our wholly owned subsidiary.
Other Products and Services
In addition to the above-described products and services, we provide
services as a fiscal intermediary for the Medicare Part A and Part B program in
certain states.
Marketing
We market our managed care and specialty products through three regional
business units. Our health plans are generally marketed under the Blue Cross
and Blue Shield brand, except for certain government programs. We organize our
marketing efforts by customer segment and by region in order to maximize our
ability to meet the specific needs of our customers. Marketing programs are
developed by a cross-functional team including the actuarial, underwriting,
sales, operations and finance departments to evaluate risk and pricing and to
ensure
8
adherence to established underwriting guidelines. We believe our reputation,
financial stability, high quality customer service and exclusive BCBS license
provide us with competitive advantages and allow us to gain share in our
markets. We strive to develop solutions for our customers. Our keys to success
include developing long-term relationships and providing stable pricing of our
products. Most contracts are for one year, although we occasionally enter into
multi-year arrangements.
We maintain the quality of our sales staff and independent brokers through
regularly held training seminars and advisory groups, which familiarize them
with evolving consumer preferences, as well as our products and current
marketing strategies. In addition, we structure sales commissions to provide
incentives to our sales staff and brokers to promote the full value of our
products. Each region is responsible for enrolling, underwriting and servicing
its respective businesses.
Customers
In each region, we balance the need to customize products with the
efficiencies of product standardization. Overall, we seek to establish pricing
and product designs to achieve an appropriate level of profitability for each
of our customer categories. Our customers include several distinguishable
categories:
. Local Large groups, defined as contracts with 51 or more eligible
employees (but excluding "National business," described below), accounted
for 40.4% of our operating revenue and 35.9% of our members as of and for
the year ended December 31, 2001. These groups are generally sold through
brokers or consultants working with industry specialists from our in-house
sales force. Large group cases are usually experience rated or sold on a
self-insured basis. The customer's buying decision is typically based upon
the size and breadth of our networks, the quality of our medical
management services, the administrative cost included in our quoted price,
our financial stability and our ability to effectively service large
complex accounts.
. Small groups, defined as contracts with one to 50 eligible employees,
accounted for 17.7% of our operating revenue and 10.3% of our members as
of and for the year ended December 31, 2001. These groups are sold
exclusively through independent agents and brokers. Small group cases are
sold on a fully insured basis. Underwriting and pricing is done on a
community rated basis, with individual state insurance departments
approving the rates. See "Regulation--Small Group Reform" below. Small
group customers are generally more sensitive to product pricing and, to a
lesser extent, the configuration of the network and the efficiency of
administration. Account turnover is generally higher with small groups.
. Individual policies (under age 65) accounted for 5.3% of our operating
revenue and 3.9% of our members as of and for the year ended December 31,
2001. These policies are generally sold through independent agents and
brokers. In some cases an in-house telemarketing unit is used to generate
leads. This business is usually medically underwritten at the point of
initial issuance. Rates are filed with and approved by state insurance
departments. In several of our markets, there is much less competition for
individual business than group contracts.
. Medicare Supplement business accounted for 6.8% of our operating revenue
and 4.9% of our members as of and for the year ended December 31, 2001.
These standardized policies are sold to Medicare recipients as supplements
to the benefits they receive from the Medicare program. New policyholders
come from independent agents or brokers or through the conversion of
existing group members or individual policyholders when they retire and
reach age 65.
. The Federal Employee Program accounted for 10.4% of our operating revenue
and 5.4% of our members as of and for the year ended December 31, 2001. As
a BCBSA licensee, we participate in a nationwide contract with the Federal
government whereby we cover Federal employees and their dependents in our
eight-state service area. Under a complex formula, we are reimbursed for
our costs plus a fee. We also participate in the overall financial risk
for medical claims on a pooled basis with the other participating BCBS
plans.
9
. Medicare + Choice accounted for 6.0% of our operating revenue and 1.2% of
our members as of and for the year ended December 31, 2001. This program
is the managed care alternative to the federally funded Medicare program.
Most of the premium is paid directly by the Federal government on behalf
of the participant who may also be charged a small premium.
Medicare+Choice is marketed in the same manner as Medicare Supplement
products.
. National business (including BlueCard) accounted for 5.1% of our operating
revenue, but 36.8% of our members as of and for the year ended December
31, 2001, because much of our National business is self-insured. These
groups are generally sold through brokers or consultants working with our
in-house sales force. We have a significant competitive advantage when
competing for very large National accounts due to our ability to access
the national network of BCBS plans and take advantage of their provider
discounts in their local markets.
The following chart shows our membership by customer segment:
Membership
December 31
-----------------
Customer Segment 2001 2000 1999
---------------- ----- ----- -----
(In Thousands)
Local Large group.................... 2,827 2,634 2,249
Small group.......................... 813 775 637
Individual (under age 65)............ 311 260 215
Medicare Supplement (age 65 and over) 390 390 371
Federal Employee Program............. 423 407 362
Medicare + Choice.................... 97 106 96
National............................. 2,903 2,468 2,106
Other (1)............................ 119 230 229
----- ----- -----
Total............................. 7,883 7,270 6,265
===== ===== =====
--------
(1) Includes TRICARE and Medicaid at December 31, 2000, 1999 and 1998. Consists
of Medicaid only at December 31, 2001, since we sold our TRICARE operations
on May 31, 2001.
The Blue Cross Blue Shield License
We have the exclusive right to use the Blue Cross and Blue Shield names and
marks for all of our health benefits products in Indiana, Kentucky, Ohio,
Connecticut, New Hampshire, Maine, Colorado and Nevada. We believe that the
BCBS names and marks are valuable identifiers of our products and services in
the marketplace. The license agreements, which have a perpetual term, contain
certain requirements and restrictions regarding our operations and our use of
the BCBS names and marks. Upon termination of the license agreements, we would
cease to have the right to use the BCBS names and marks in one or more of
Indiana, Kentucky, Ohio, Connecticut, New Hampshire, Maine, Colorado and
Nevada, and the BCBSA could thereafter issue a license to use the BCBS names
and marks in these states to another entity. Events that could cause the
termination of a license agreement with the BCBSA include:
. failure to comply with minimum capital requirements imposed by the BCBSA;
. impending financial insolvency;
. the appointment of a trustee or receiver;
. a change of control or violation of the BCBSA ownership limitations on our
capital stock; and
. the commencement of any action against Anthem Insurance seeking its
dissolution.
10
Pursuant to the rules and license standards of the BCBSA, we guarantee the
contractual and financial obligations to respective customers of our
subsidiaries that hold controlled affiliate licenses from the BCBSA. Those
subsidiaries are Anthem Health Plans of Kentucky, Inc., Anthem Life Insurance
Company, Anthem Health Plans, Inc., Community Insurance Company, Anthem Health
Plans of New Hampshire, Inc., Rocky Mountain Hospital and Medical Service,
Inc., Anthem Health Plans of Maine, Inc., HMO Colorado, Inc., Matthew Thornton
Health Plan, Inc., Maine Partners Health Plan, Inc. and Health Management
Systems, Inc.
In addition, pursuant to the rules and license standards of the BCBSA, we
have agreed to indemnify BCBSA against any claims asserted against it resulting
from the contractual and financial obligations of AdminaStar Federal, our
subsidiary which serves as a fiscal intermediary providing administrative
services for Medicare Part A and B.
Each license requires an annual fee to be paid to the Blue Cross Blue Shield
Association. The fee is based upon enrollment and premium. BCBSA is a national
trade association of Blue Cross and Blue Shield licensees, the primary function
of which is to promote and preserve the integrity of the Blue Cross and Blue
Shield names and marks, as well as provide certain coordination among the
member plans. Each BCBSA licensee is an independent legal organization and is
not responsible for obligations of other BCBSA member organizations. We have no
right to market products and services using the Blue Cross and Blue Shield
names and marks outside of our eight core states.
Information Systems
Information systems have played and will continue to play a key role in our
ongoing efforts to continuously improve quality, lower costs and increase
benefit flexibility for our customers. Our analytical technologies are designed
to support increasingly sophisticated methods of managing costs and monitoring
quality of care, and we believe that our information systems are sufficient to
meet current needs and future expansion plans.
We use a combination of custom developed and licensed systems throughout our
regions. An overall systems architecture is maintained to promote consistency
of data and reduce duplicative platforms. This architecture assumes single
separate core systems supporting each of our operating regions with centralized
systems for key company-wide functions such as financial services, human
resources and servicing National accounts. Focus is placed on identifying and
eliminating redundant or obsolete applications with an emphasis on increasing
our capability to operate in an Internet-enabled environment. Regional
administration systems serving unique products and markets feed data to a
combination of regional and corporate decision support systems. These systems
provide sources of information for all of our data reporting and analysis needs.
Our architecture calls for significant standardization of software, hardware
and networking products. Enhancements are undertaken based on a defined
information systems plan. This plan, which is developed collaboratively by our
technical and operating leadership, is revalidated regularly and maps out
business-driven technology requirements for the upcoming three-to-five year
period.
We recognize consumer demand will cause an increasing need for more of our
business to be conducted electronically. Toward that end we have developed
several Internet-enabled initiatives focused on improving interactions with our
customers, members, providers, brokers and associates. We also are improving
communication and data collection through compliance with the provisions of the
Federal Health Insurance Portability and Accountability Act or HIPAA. See
"Regulation--Regulation of Insurance Company and HMO Business Activities" below.
We are also engaged in a series of pilot programs that will result in
web-enabled services such as on-line membership enrollment and on-line price
quoting for brokers. Brokers will receive on-line quoting capabilities for
life, dental and vision related products. For our members, we have on-line
access to health information using carefully chosen content providers for
consumer health information. All of our members currently have on-line access
to physician and hospital network directories for their specific health plan.
11
Collaborations
In addition to internal efforts to leverage technology, we are actively
involved as investors and leaders in several collaborative technology
initiatives. As an example, we are one of seven major national health benefits
companies that are initial investors in MedUnite, Inc., an e-business company.
MedUnite is designing Internet-based technology that will permit real-time
transactions between providers and insurance companies. MedUnite's solutions
will address claims filing, eligibility determination and specialist referrals.
These programs will make these transactions more convenient for members while
improving efficiencies among doctors, hospitals and health insurers.
Additionally, we are a founding member of the Coalition for Affordable Quality
Healthcare. This group, founded by 26 of the nation's largest health benefits
companies and associations, develops programs to improve access to quality
health care coverage and to simplify plan administration.
Pricing and Underwriting
We price our products based on our assessment of underwriting risk and
competitive factors. We continually review our underwriting and pricing
guidelines on a national and regional basis so that our products remain
competitive and consistent with our marketing strategies and profitability
goals.
We have focused our efforts to maintain consistent, competitive and strict
underwriting standards. Our individual and group underwriting targets have been
based on our proprietary accumulated actuarial data. Subject to applicable
legal constraints, we have traditionally employed case specific underwriting
procedures for small group products and traditional group underwriting
procedures with respect to large group products. Also, we employ credit
underwriting procedures with respect to our self-funded products.
In most circumstances, our pricing and underwriting decisions follow a
prospective rating process. A fixed premium rate is determined at the beginning
of the policy period. Unanticipated increases in medical costs may not be able
to be recovered in that current policy year. However, prior experience, in the
aggregate, is considered in determining premium rates for future periods.
For larger groups (over 300 lives) with PPO, POS or traditional benefit
designs, we often employ retrospective rating reviews. In retrospective rating,
a premium rate is determined at the beginning of the policy period. Once the
policy period has ended, the actual experience is reviewed. If the experience
is positive (i.e., actual claim costs and other expenses are less than those
expected), then a refund may be credited to the policy. If the experience is
negative, then the resulting deficit may either be recovered through
contractual provisions or the deficit may be considered in setting future
premium levels for the group. If a customer elects to terminate coverage,
deficits generally are not recovered.
We have contracts with the federal Centers for Medicare and Medicaid
Services, or CMS (formerly the Health Care Financial Administration, or HCFA),
to provide HMO Medicare+Choice coverage to Medicare beneficiaries who choose
health care coverage through one of our HMO programs. Under these annual
contracts, CMS pays us a set rate based on membership that is adjusted for
demographic factors. These rates are subject to annual unilateral revision by
CMS. In addition to premiums received from CMS, most of the Medicare products
offered by us require a supplemental premium to be paid by the member.
See "Regulation--Small Group Reform" below for a discussion of certain
regulatory restrictions on our underwriting and pricing.
Reserves
We establish and report liabilities or reserves on our balance sheet for
unpaid health care costs by estimating the ultimate cost of incurred claims
that have not yet been reported to us by members or providers and reported
claims that we have not yet paid. Since these reserves represent our estimates,
the process requires a degree of
12
judgment. Reserves are established according to Actuarial Standards of Practice
and generally accepted actuarial principles and are based on a number of
factors. These factors include experience derived from historical claims
payments and actuarial assumptions to arrive at loss development factors. Such
assumptions and other factors include healthcare cost trends, the incidence of
incurred claims, the extent to which all claims have been reported and internal
claims processing charges. Due to the variability inherent in these estimates,
reserves are sensitive to changes in medical claims payment patterns and
changes in medical cost trends. A worsening (or improvement) of the medical
cost trend or changes in claims payment patterns from the trends and patterns
assumed in estimating reserves would trigger a change. See Note 9 to our
audited consolidated financial statements for quantitative information on our
reserves, including a progression of reserve balances for each of the last
three years.
Medical Management
Our medical management programs include a broad array of activities that are
intended to maintain cost effectiveness while facilitating improvements in the
quality of care provided to our members. One of the goals of these benefit
features is to assure that the care delivered to our members is supported by
appropriate medical and scientific evidence.
Precertification. A traditional medical management program that we use
involves assessment of the appropriateness of certain hospitalizations and
other medical services. For example, precertification is used to determine
whether a set of hospital and medical services is being appropriately applied
to the member's clinical condition in accordance with our criteria for medical
necessity as that term is defined in the member's benefits contract.
Concurrent review. Another traditional medical management strategy we use
is concurrent review, which is based on nationally recognized criteria
developed for the industry. With concurrent review, the requirements and
intensity of services during a patient's hospital stay are reviewed, often by
an onsite skilled nurse professional in coordination with the hospital's
medical and nursing staff, in order to determine whether those services are
covered under a member's benefits contract.
Disease management. More and more, health plans, including ours, are moving
away from traditional medical management approaches to more sophisticated
models built around disease management and advanced care management. These
programs focus on those members who require the greatest amount of medical
services. We provide important information to our providers and members to help
them optimally manage the care of their specific conditions. For example,
certain therapies and interventions for patients with diabetes help prevent
some of the serious, long-term medical consequences of diabetes and reduce the
risks of kidney, eye and heart disease. Our information systems can provide
feedback to our physicians to enable them to improve the quality of care. For
other prevalent medical conditions such as heart disease or asthma, our ability
to correlate pharmacy data and medical management data allows us to provide
important information to our members and providers which enables them to more
effectively manage these conditions.
Formulary management. APM develops a formulary, a selection of drugs based
on clinical quality and effectiveness, which is used across all of our regions.
A pharmacy and therapeutics committee consisting of 20 physicians, 16 of whom
are academic and community physicians practicing in our markets, make pharmacy
medical decisions about the clinical quality and efficacy of drugs. Our
three-tiered co-pay strategy enables members to have access to all drugs that
are not covered on formulary for an additional co-pay.
Medical policy. A medical policy group comprised of physician leaders from
all Anthem regions, working in close cooperation with national organizations
such as the Centers for Disease Control, the American Cancer Society and
community physician leaders, determines Anthem's national policy for best
approaches to the application of new technologies.
13
Patient outcomes. A significant amount of health care expenditures are used
by a small percent of our members who suffer from complex or chronic illnesses.
We have developed a series of programs aimed at helping our providers better
manage and improve the health of these members. Often, these programs provide
benefits for home care services and other support to reduce the need for
repeated, expensive hospitalizations. Increasingly, we are providing
information to our hospital networks to enable them to improve medical and
surgical care and outcomes to our members. We endorse, encourage and
incentivize hospitals to support national initiatives to improve patient
outcomes and reduce medication errors. We have been recognized as a national
leader in developing hospital quality programs.
External Review Procedures (Patients' Bill of Rights). In light of
increasing public concerns about health plans denying coverage of medical
services, we work with outside experts through a process of external review to
help provide our members with timely medical care. When we receive member
concerns, we have formal appeals procedures that ultimately allow coverage
disputes related to medical necessity decisions under the benefits contract to
be settled by independent expert physicians.
Service management. In HMO and POS networks, primary care physicians serve
as the overall coordinators of members' health care needs by providing an array
of preventive health services and overseeing referrals to specialists for
appropriate medical care. In PPO networks, patients have greater access to
network physicians without a primary care physician serving as the coordinator
of care.
Health Care Quality Initiatives
Increasingly, the health care industry is able to define quality health care
based on preventive health measurements and outcomes of care. A key to our
success has been our ability to work with our network providers to improve the
quality and outcomes of the health care services provided to our members. Our
ability to provide high quality service has been recognized by the National
Committee on Quality Assurance, or NCQA, the largest and most respected
national accreditation program for managed care health plans. All but one of
our HMO plans in the East region hold the highest NCQA rating. Our HMO plan for
Colorado has received a three-year accreditation. In our Midwest region, our
Ohio HMO and POS plans hold the highest NCQA rating. We expect to seek
accreditation for our managed care plans in Indiana and Kentucky in 2002.
A range of quality health care measures have been adopted by the Health Plan
Employer Data and Information Set, or HEDIS, which has been incorporated into
the oversight certification by NCQA. These HEDIS measures range from preventive
services, such as screening mammography and pediatric immunization, to elements
of care, including decreasing the complications of diabetes and improving
treatment for heart patients. While our results on specific measures have
varied over time, we are seeing continuous improvement overall in our HEDIS
measurements, and a number of our state plans are among the best performers in
the nation with respect to certain HEDIS standards.
In addition, we have initiated a broad array of quality programs, including
those built around smoking cessation and transplant management, and an array of
other programs specifically tailored to local markets. Many of these programs
have been developed in conjunction with organizations such as the Arthritis
Foundation and regional diabetes associations.
Provider Arrangements
Our relationships with health care providers, physicians, hospitals and
those professionals that provide ancillary health care services are guided by
regional and national standards for network development, reimbursement and
contract methodologies.
14
In contrast to some health benefits companies, it is generally our
philosophy not to delegate full financial responsibility to our providers in
the form of capitation-based reimbursement. While capitation can be a useful
method to lower costs and reduce underwriting risk, we have observed that, in
general, providers do not positively accept the burden of maintaining the
necessary financial reserves to meet the risks related to capitation contracts.
We attempt to provide fair, market-based hospital reimbursement along
industry standards. We also seek to ensure physicians in our network are paid
in a timely manner at appropriate rates. We use multi-year contracting
strategies, including case or fixed rates, to limit trend exposure and increase
cost predictability. In all regions, we seek to maintain broad provider
networks to ensure member choice while implementing effective management
programs designed to improve the quality of care received by our members.
Depending on the consolidation and integration of physician groups and
hospitals, reimbursement strategies vary substantially across markets. Fee for
service is our predominant reimbursement methodology for physicians. We
generally use a resource-based relative value system fee schedule to determine
fee for service reimbursement. This structure was developed and is maintained
by CMS and is used by the Medicare system and other major payers. This system
is independent of submitted fees and therefore is not as vulnerable to
inflation. In addition, physician incentive contracting is used to reward
physician quality and performance.
Like our physician contracts, our hospital contracts provide for a variety
of reimbursement arrangements depending on the network. Our hospital contracts
recognize the size of the facility and the volume of care performed for our
members. Many hospitals are reimbursed on a fixed allowance per day for covered
services (per diem) or a case rate basis similar to Medicare (Diagnosis Related
Groups). Other hospitals are reimbursed on a discount from approved charge
basis for covered services. Hospital outpatient services are reimbursed based
on fixed case rates, fee schedules or percent of charges. To improve
predictability of expected cost, we frequently use a multi-year contracting
approach which provides stability in our competitive position versus other
health benefit plans in the market.
We believe our market share enables us to negotiate favorable provider
reimbursement rates. In some markets, we have a "modified favored rate"
provision in our hospital and ancillary contracts that guarantees contracted
rates at least as favorable as those given to our competitors with an equal or
smaller volume of business.
Behavioral Health and Other Provider Arrangements
We have a series of contracts with third party behavioral health networks
and care managers who organize and provide for a continuum of behavioral health
services focusing on access to appropriate providers and settings for
behavioral health care. These contracts are generally multi-year capitation
based arrangements. Substance abuse and alcohol dependency treatment programs
are an integral part of these behavioral health programs.
In addition, a number of other ancillary service providers, including
laboratory service providers, home health agency providers and intermediate and
long term care providers, are contracted on a region-by-region basis to provide
access to a wide range of services. These providers are normally paid on either
a fee schedule, fixed-per-day or per case basis.
Competition
The managed care industry is highly competitive, both nationally and in our
regional markets. Competition has intensified in recent years due to more
aggressive marketing and pricing, a proliferation of new products and increased
quality awareness and price sensitivity among customers. Significant
consolidation within the industry has also added to competition. In addition,
with the 1999 enactment of the Gramm-Leach-Bliley Act, banks and other
financial institutions have the ability to affiliate with insurance companies,
which may lead to new competitors in the insurance and health benefits fields.
15
Industry participants compete for customers mainly on the following factors:
. price;
. quality of service;
. access to provider networks;
. flexibility of benefit designs;
. reputation (including NCQA accreditation status);
. brand recognition; and
. financial stability.
We believe our exclusive right to market products under the Blue Cross Blue
Shield brand in our markets provides us with an advantage over our competition.
In addition, our strong market share and existing provider networks in both our
Midwest and East regions enable us to achieve cost-efficiencies and service
levels that allow us to offer a broad range of health benefits to our customers
on a more cost-effective basis than many of our competitors. In our West
region, the marketplace is highly fragmented with no single player having a
dominant market share. There, as in all regions, we strive to distinguish our
products through excellent service, product value and brand recognition.
Competitors in our markets include local and regional managed care plans,
and national health benefits companies. In our Midwest region, our largest
competitors include UnitedHealthcare, Humana Inc., Aetna U.S. Healthcare and
Medical Mutual of Ohio. In our East region, our main competitors are Aetna U.S.
Healthcare, Health Net, Inc., CIGNA HealthCare, ConnectiCare, Inc. and Harvard
Pilgrim Health Care. In our West region, our principal competitors include
Sierra Health Services, Inc., PacifiCare Health Systems, Inc.,
UnitedHealthcare, Kaiser Permanente, Aetna U.S. Healthcare and Hometown Health
Plan, Inc. To build our provider networks, we also compete with other health
benefits plans for contracts with hospitals, physicians and other providers. We
believe that physicians and other providers primarily consider member volume,
reimbursement rates, timeliness of reimbursement and administrative service
capabilities along with the "non-hassle" factor or reduction of non-value added
administrative tasks when deciding whether to contract with a health benefits
plan. At the distribution level, we compete for qualified agents and brokers to
distribute our products. Strong competition exists among insurance companies
and health benefits plans for agents and brokers with demonstrated ability to
secure new business and maintain existing accounts. The basis of competition
for the services of such agents and brokers are:
. commission structure;
. support services;
. reputation and prior relationships; and
. quality of the products.
We believe that we have good relationships with our agents and brokers, and
that our products, support services and commission structure compare favorably
to our competitors in all of our regions.
Financial Strength Ratings
Financial strength ratings are the opinions of the rating agencies regarding
the financial ability of an insurance company to meet its obligations to its
policyholders. Ratings provide both industry participants and insurance
consumers with meaningful information on specific insurance companies and have
become an increasingly important factor in establishing the competitive
position of insurance companies. Rating agencies continually review the
financial performance and condition of insurers and higher ratings generally
indicate
16
financial stability and a strong ability to pay claims. The current financial
strength ratings of Anthem Insurance and its consolidated subsidiaries are as
follows:
Financial
Rating Agency Strength Rating Rating Description
------------- --------------- ------------------
AM Best Company, Inc. A- Second highest of nine ratings categories and second
("Best") ("Excellent") highest within the category based on modifiers (i.e.,
A and A- are "Excellent")
Standard & Poor's Rating A Third highest of nine ratings categories and mid-
Services ("S&P") ("Strong") range within the category based on modifiers (i.e.,
A+, A and A- are "Strong")
Moody's Investor Service, Inc. A2 Third highest of nine ratings categories and mid-
("Moody's") ("Good") range within the category based on modifiers (i.e.,
A1, A2 and A3 are "Good")
Fitch, Inc. ("Fitch") A+ Third highest of eight ratings categories and highest
("Strong") within the category based on modifiers (i.e., A+, A
and A- are "Strong")
These financial strength ratings reflect each rating agency's opinion as to
our financial strength, operating performance and ability to meet our claim
obligations to our policyholders. In December 2001, S&P reaffirmed our A rating
and maintained its outlook as positive. In December 2001, Moody's upgraded our
rating to A2. In April 2001, Fitch reaffirmed our A+ rating, and revised its
outlook to positive. Each of the rating agencies reviews its ratings
periodically and there can be no assurance that current ratings will be
maintained in the future. We believe our strong ratings are an important factor
in marketing our products to our customers, since ratings information is
broadly disseminated and generally used throughout the industry. Our ratings
reflect each rating agency's opinion of our financial strength, operating
performance and ability to meet our obligations to policyholders, and are not
evaluations directed toward the protection of investors in our common stock,
the units or the debentures.
Investments
Our investment objective is to preserve our asset base and to achieve rates
of return, which are consistent with our defined risk parameters, mix of
products, liabilities and surplus. Our portfolio is structured to provide
sufficient liquidity to meet general operating needs, special needs arising
from changes in our financial position and changes in financial markets. As of
December 31, 2001, fixed maturity securities accounted for 95% of total
investments. Our fixed maturity portfolio consists exclusively of U.S.
dollar-denominated assets, invested primarily in U.S. government securities,
corporate bonds, asset-backed bonds and mortgage-related securities. As of
December 31, 2001, our corporate fixed maturity portfolio (approximately 36% of
the total fixed maturity portfolio as of December 31, 2001) had an average
credit rating of approximately double-A. Our investment policy prohibits
investments in derivatives.
Our portfolio is exposed to three primary sources of risk: credit quality
risk, interest rate risk, and market valuation risk for equity holdings. Credit
quality risk is defined as the risk of a credit downgrade to an individual
fixed income security and the potential loss attributable to that downgrade. We
manage this risk through our investment policy, which establishes credit
quality limitations on the overall portfolio as well as dollar limits of our
investment in securities of individual issuers. Interest rate risk is defined
as the potential for economic losses on fixed-rate securities, due to an
adverse change in market interest rates. We manage interest rate risk by
maintaining a duration commensurate with our insurance liabilities and
shareholders' equity. Market valuation risk for the equity holdings is defined
as the potential for economic losses due to an adverse change in equity prices.
We manage these risks by investing in index mutual funds that replicate the
risk and performance of the S&P 500 and S&P 400 indices, resulting in a
diversified equity portfolio.
17
For additional information regarding Investments, refer to Note 5 to our
audited consolidated financial statements included herein.
Employees
As of December 31, 2001, we had approximately 14,800 full-time equivalent
employees primarily located in Cincinnati and Columbus, Ohio; Indianapolis,
Indiana; Louisville, Kentucky; North Haven, Connecticut; Denver, Colorado;
Portland, Maine; and Manchester, New Hampshire. Employees were also located in
various other cities within our regions, as well as in Illinois and New York.
Our employees are an important asset, and we seek to develop them to their full
potential. We believe that our relationships with our employees are good. No
employees are subject to collective bargaining agreements.
Regulation
General
Our operations are subject to comprehensive and detailed state and federal
regulation throughout the United States in the jurisdictions in which we do
business. Supervisory agencies, including state health, insurance and
corporation departments, have broad authority to:
. grant, suspend and revoke licenses to transact business;
. regulate many aspects of our products and services;
. monitor our solvency and reserve adequacy; and
. scrutinize our investment activities on the basis of quality,
diversification and other quantitative criteria.
To carry out these tasks, these regulators periodically examine our
operations and accounts.
Regulation of Insurance Company and HMO Business Activities
The federal government as well as the governments of the states in which we
conduct our operations have adopted laws and regulations that govern our
business activities in various ways. These laws and regulations may restrict
how we conduct our businesses and may result in additional burdens and costs to
us. Areas of governmental regulation include:
. licensure;
. premium rates;
. benefits;
. service areas;
. market conduct;
. utilization review activities;
. prompt payment of claims;
. member rights and responsibilities;
. sales and marketing activities;
. quality assurance procedures;
. plan design and disclosures;
. disclosure of medical information;
. eligibility requirements;
. provider rates of payment;
. surcharges on provider payments;
. provider contract forms;
. underwriting and pricing;
. financial arrangements;
. financial condition (including reserves); and
. corporate governance.
These laws and regulations are subject to amendments and changing
interpretations in each jurisdiction.
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States generally require health insurers and HMOs to obtain a certificate of
authority prior to commencing operations. If we were to establish a health
insurance company or an HMO in any state where we do not presently operate, we
generally would have to obtain such a certificate. The time necessary to obtain
such a certificate varies from state to state. Each health insurer and HMO must
file periodic financial and operating reports with the states in which it does
business. In addition, health insurers and HMOs are subject to state
examination and periodic license renewal.
There has been a recent trend of increased health care regulation at the
federal and state levels. Legislation, regulation and initiatives relating to
this trend include, among other things, the following:
. eliminating or reducing the scope of ERISA pre-emption of state medical
and bad faith claims under state law, thereby exposing health benefits
companies to expanded liability for punitive and other extra-contractual
damages;
. extending malpractice and other liability for medical and other decisions
from providers to health plans;
. imposing liability for negligent denials or delays in coverage;
. requiring
--coverage of experimental procedures and drugs,
--direct access to specialists for patients with chronic conditions,
--direct access to specialists (including OB/GYNs) and chiropractors,
--expanded consumer disclosures and notices and expanded coverage for
emergency services,
--liberalized definitions of medical necessity,
--liberalized internal and external grievance and appeal procedures
(including expedited decision making),
--maternity and other lengths of hospital inpatient stay,
--point of service benefits for HMO plans, and
--payment of claims within specified time frames or payment of interest on
claims that are not paid within those time frames;
. prohibiting
--so-called "gag" and similar clauses in physician agreements,
--incentives based on utilization, and
--limitation of arrangements designed to manage medical costs such as
capitated arrangements with providers or provider financial incentives;
. regulating and restricting the use of utilization management and review;
. regulating and monitoring the composition of provider networks, such as
"any willing provider" and pharmacy laws (which generally provide that
providers and pharmacies cannot be denied participation in a managed care
plan where the providers and pharmacies are willing to abide by the terms
and conditions of that plan);
. imposing
--payment levels for out-of-network care, and
--requirements to apply lifetime limits to mental health benefits with
parity;
. exempting physicians from the antitrust laws that prohibit price fixing,
group boycotts and other horizontal restraints on competition;
. restricting the use of health plan claims information;
. regulating procedures that protect the confidentiality of health and
financial information;
. implementation of a state-run single payer system;
. imposing third-party review of denials of benefits (including denials
based on a lack of medical necessity); and
. restricting or eliminating the use of formularies for prescription drugs.
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The health benefits business also may be adversely impacted by court and
regulatory decisions that expand the interpretations of existing statutes and
regulations. It is uncertain whether we can recoup, through higher premiums or
other measures, the increased costs of mandated benefits or other increased
costs caused by potential legislation or regulation.
Patients' Bill of Rights
On August 8, 2001, the House of Representatives passed a version of the
Patients' Bill of Rights legislation (an amended version of the Ganske-Dingell
bill) which would permit health plans to be sued in state court for certain
coverage determinations. The current administration has indicated a willingness
to pass some form of patient protection legislation which could adversely
affect the health benefits business, and, in fact, the bill adopted by the
House was the result of a compromise reached by President Bush and
Representative Charles Norwood (R-GA). Under the bill a claim would be
permitted for a wrongful coverage denial which is the proximate cause of
personal injury to, or the death of, a patient. Medically reviewable claims
against health insurers would be tried in state court but under federal law.
Patients would be required to exhaust external review before filing suit.
Patients who lose an external review decision would have to overcome a
rebuttable presumption that the insurer made the correct decision. The bill
caps non-economic damages at $1.5 million. Punitive damages would be available
only if insurers do not follow an external review decision and would be capped
at an additional $1.5 million. The bill also limits class action lawsuits (both
future suits and pending suits where a class has not yet been certified)
against health insurers under both ERISA and the Racketeer Influenced and
Corrupt Organizations Act to group health plans established by a single plan
sponsor.
The Senate version of the Patients' Bill of Rights legislation (the
McCain-Edwards bill) was passed on June 29, 2001 and contains broader liability
provisions than the House bill. The Senate bill would permit patients to sue
health plans in state court over medical judgments or in federal court over
contractual issues, and it would not cap damages in state courts. In federal
court, punitive damages would be allowed, up to $5 million, and there would be
no limit on economic and non-economic damages. President Bush has stated that
he will veto any Patients' Bill of Rights legislation that contains liability
provisions similar to the Senate bill. The House and Senate versions of the
bill are expected to be reconciled in the Conference Committee. We cannot
predict the provisions of the Patients' Bill of Rights legislation that may
emerge from the Conference Committee, if any, and whether any Patients' Bill of
Rights legislation would be enacted into law. We also cannot predict what
impact any Patients' Bill of Rights legislation would have on our business,
financial condition and results of operations.
Small Group Reform
All of the principal states in which Anthem does business have enacted
statutes that limit the flexibility of Anthem and other health insurers
relative to their small group underwriting and rating practices. Commonly
referred to as "small group reform" statutes, these laws are generally
consistent with model laws originally adopted by the NAIC.
In 1991, the NAIC adopted the Small Group Health Insurance Availability
Model Act. This model law limits the differentials in rates carriers could
charge between new business and health insurance renewal business, and with
respect to small groups with similar demographic characteristics (commonly
referred to as a "rating law"). It also requires that insurers disclose to
customers the basis on which the insurer establishes new business and renewal
rates, restricts the applicability of pre-existing condition exclusions and
prohibits an insurer from terminating coverage of an employer group because of
the adverse claims experience of that group. The model law requires that all
small group insurers accept for coverage any employer group applying for a
basic and standard plan of benefits (commonly known as a "guarantee issue
law"), and provides for a voluntary reinsurance mechanism to spread the risk of
high risk employees among all small group carriers participating in the
reinsurance mechanism. Representatives of Anthem actively participated in the
committees of the NAIC, which drafted and proposed this model law. NAIC model
laws are not applicable to the industry until adopted by individual states, and
there is significant variation in the degree to which states adopt and/or alter
NAIC model laws. Some, if not all, of these rating and underwriting limitations
are present in small group reform statutes currently adopted in all of the
principal states in which Anthem does business.
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Underwriting Limitations. In the past, insurance companies were free to
select and reject risks based on a number of factors, including the medical
condition of the person seeking to become insured. Small group health insurers
were free to accept some employees and reject other employees for coverage
within one employer group. An insurance company was also free to exclude from
coverage medical conditions existing within a group which the insurance company
believed represented an unacceptable risk level. Also, for the most part,
insurance companies were free to cancel coverage of a group due to the medical
conditions which were present in that group. Additionally, a new employee
seeking medical coverage under an existing group plan could be either accepted
or rejected for coverage, or could have coverage excluded or delayed for
existing medical conditions.
The small group health insurance reform laws limit or abolish a number of
these commonly utilized practices to address a societal need to extend
availability of insurance coverage more broadly to those who were previously
not eligible for coverage. Reform laws have been adopted which at a minimum
generally require that a group either be accepted or rejected for coverage as
one unit. The law in all of the states in which Anthem does business now
prohibits the practice of terminating the coverage of an employer group based
on the medical conditions existing within that group. (Insurers may still
cancel business for a limited number of reasons.) These states also generally
require "portability" of coverage, which means that an insurer cannot exclude
coverage for a pre-existing condition of a new employee of an existing employer
group if that person had previously satisfied a pre-existing condition
limitation period with the prior insurer, and if that person maintained
continuous coverage. Most state small group reform statutes also prohibit
insurers from denying coverage to employer groups based upon industry
classification.
All states in which Anthem does business require the "guarantee issue" of
small group policies, either through specific state law or the states'
requirement to enforce a federal law, the Health Insurance Portability and
Accountability Act of 1996, known as HIPAA. These laws require an insurer to
issue coverage to any group that applies for coverage under any of the small
group policies marketed by the insurer in that state, regardless of the medical
risks presented by that group.
Rating Limitations. Prior to the adoption of state rate reform laws, there
was very limited regulation of the rating practices utilized in the small group
health insurance market. There was virtually no regulation of the amount by
which one group's rate could vary from that of a demographically similar group
with different claims experience, and there was no statutorily placed limit on
the extent and frequency of rate increases that could be applied to any one
employer group.
Over the last nine years, all of the principal states in which Anthem does
business have enacted rating laws. These laws are designed to reduce the
variation in rates charged to insured groups who have favorable and unfavorable
claims experience. They also limit the extent and frequency of rate increases.
They do not, however, establish an appropriate base or "manual" rate level for
an insurer. The most stringent rate reform regulation would be a pure community
rating requirement, pursuant to which all persons in a geographic region would
receive the same rate for the same coverage as any other person, without
consideration of demographic factors such as age, gender, geographic location,
medical risk or occupation. Most existing rating laws also impose a limit on
the extent and frequency of a group's rate increases.
Small Group Statutory Reinsurance Mechanisms
At this time, the Connecticut, New Hampshire and Nevada (HMO only) Anthem
plans are subject to involuntary assessments from state small group reinsurance
mechanisms. These mechanisms are designed to provide risk-spreading mechanisms
for insurers doing business in jurisdictions that mandate that health insurance
be issued on a guarantee issue basis. Guarantee issue requirements increase
underwriting risk for insurers by forcing them to accept higher-risk business
than they would normally accept. This reinsurance mechanism allows the insurer
to cede this high-risk business to the reinsurance facility, thus sharing the
underwriting experience with all insurers in the state. Each of Connecticut and
New Hampshire subject insurance companies doing business in that jurisdiction
to assessments to fund losses from the reinsurance mechanisms. Each of Indiana,
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Ohio and Nevada provide voluntary reinsurance mechanisms in which the
assessment is against only those carriers electing to participate in the
reinsurance mechanism. Anthem has elected not to participate in these voluntary
reinsurance mechanisms. Neither Kentucky nor Maine has a small group
reinsurance mechanism.
Recent Medicare Changes
In 1997, the federal government passed legislation related to Medicare that
changed the method for determining premiums that the government pays to HMOs
for Medicare members. In general, the new method has reduced the premiums
payable to us compared to the old method, although the level and extent of the
reductions varies by geographic market and depends on other factors. The
legislation also requires us to pay a "user fee." The changes began to be
phased in on January 1, 1998 and will continue over five years. The federal
government also announced in 1999 that it planned to begin to phase in risk
adjustments to its premium payments over a five-year period commencing January
1, 2000. While we cannot predict exactly what effect these Medicare reforms
will have on our results of operations, we anticipate that the net impact of
the risk adjustments will be to reduce the premiums payable to us.
HIPAA and Gramm-Leach-Bliley Act
HIPAA and its regulations impose obligations for issuers of health insurance
coverage and health benefit plan sponsors. This law requires guaranteed health
care coverage for small employers having 50 or fewer employees and for
individuals who meet certain eligibility requirements. It also requires
guaranteed renewability of health care coverage for most employers and
individuals. The law limits exclusions based on preexisting conditions for
individuals covered under group policies to the extent the individuals had
prior creditable coverage, and the gap between the prior coverage and the new
coverage cannot exceed certain time frames.
In addition, HIPAA authorized the Secretary of the United States Department
of Health and Human Services, known as HHS, to issue standards for
administrative simplification, as well as privacy and security of medical
records and other individually identifiable patient data. HIPAA requirements
apply to plan sponsors, health plans, health care providers and health care
clearinghouses that transmit, maintain or have maintained health information
electronically (collectively referred to as "Covered Entities"). Regulations
adopted to implement HIPAA also require that business associates acting for or
on behalf of these Covered Entities be contractually obligated to meet HIPAA
standards.
Although HIPAA was intended ultimately to reduce administrative expenses and
burdens faced within the health care industry, we believe the law will
initially bring about significant and, in some cases, costly changes. HHS has
released two rules to date mandating the use of new standards with respect to
certain health care transactions, including health information. The first rule
requires the use of uniform standards for common health care transactions,
including health care claims information, plan eligibility, referral
certification and authorization, claims status, plan enrollment and
disenrollment, payment and remittance advice, plan premium payments and
coordination of benefits, and it establishes standards for the use of
electronic signatures. The new transaction standards became effective in
October 2000. Originally, almost all Covered Entities were required to comply
with these standards by October 16, 2002. However, legislation was enacted in
December 2001 giving Covered Entities the option of extending their compliance
date to October 16, 2003, provided that a filing is made with HHS prior to
October 16, 2002. We intend to take advantage of the extension.
Second, HHS has developed new standards relating to the privacy of
individually identifiable health information. In general, these regulations
restrict the use and disclosure of medical records and other individually
identifiable health information held or disclosed by health plans and other
affected entities in any form, whether communicated electronically, on paper or
orally, subject only to limited exceptions. In addition, the regulations
provide patients with significant new rights to understand and control how
their health information is used. These regulations do not preempt more
stringent state laws and regulations that may apply to us. The privacy
standards became effective on April 14, 2001. We must comply with these privacy
standards by April 14, 2003. One more
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regulation integral to administration and privacy under HIPAA has yet to be
finalized. It will address security requirements to be met regarding
accessibility of personal health information. We believe the cost of complying
with these new standards could be material.
Other recent federal legislation includes the Gramm-Leach-Bliley Act, which
generally required insurers to provide affected customers with notice regarding
how their personal health and financial information is used and the opportunity
to "opt out" of certain disclosures before the insurer shares non-public
personal information with a non-affiliated third party. These requirements were
to be implemented on a state-by-state basis by July 1, 2001. The
Gramm-Leach-Bliley Act also gives banks and other financial institutions the
ability to affiliate with insurance companies, which may lead to new
competitors in the insurance and health benefits fields.
Investment and Retirement Products and Services
We are subject to regulation by various government agencies where we conduct
business, including the insurance departments of Indiana, Kentucky, Ohio,
Connecticut, New Hampshire, Maine, Colorado and Nevada. Among other matters,
these agencies may regulate premium rates, trade practices, agent licensing,
policy forms, underwriting and claims practices, the maximum interest rates
that can be charged on life insurance policy loans, and the minimum rates that
must be provided for accumulation of surrender value.
ERISA
The provision of services to certain employee health benefit plans is
subject to the Employee Retirement Income Security Act of 1974 ("ERISA"), a
complex set of laws and regulations subject to interpretation and enforcement
by the Internal Revenue Service and the Department of Labor ("DOL"). ERISA
regulates certain aspects of the relationships between us and employers who
maintain employee benefit plans subject to ERISA. Some of our administrative
services and other activities may also be subject to regulation under ERISA. In
addition, some states require licensure or registration of companies providing
third party claims administration services for benefit plans. We provide a
variety of products and services to employee benefit plans that are covered by
ERISA.
In December 1993, in a case involving an employee benefit plan and an
insurance company, the United States Supreme Court ruled that assets in the
insurance company's general account that were attributable to a portion of a
group pension contract issued to the plan that was not a "guaranteed benefit
policy" were "plan assets" for purposes of ERISA and that the insurance company
had fiduciary responsibility with respect to those assets. In reaching its
decision, the Supreme Court declined to follow a 1975 DOL interpretive bulletin
that had suggested that insurance company general account assets were not plan
assets.
The Small Business Job Protection Act (the "Act") was signed into law in
1996. The Act created a framework for resolving potential issues raised by the
Supreme Court decision. The Act provides that, absent criminal conduct,
insurers generally will not have liability with respect to general account
assets held under contracts that are not guaranteed benefit policies based on
claims that those assets are plan assets. The relief afforded extends to
conduct that occurs before the date that is 18 months after the DOL issues
final regulations required by the Act, except as provided in the anti-avoidance
portion of the regulations. The regulations, which were issued on January 5,
2000, address ERISA's application to the general account assets of insurers
attributable to contracts issued on or before December 31, 1998 that are not
guaranteed benefit policies. The conference report relating to the Act states
that policies issued after December 31, 1998 that are not guaranteed benefit
policies will be subject to ERISA's fiduciary obligations. We are not currently
able to predict how these matters may ultimately affect our businesses.
HMO and Insurance Holding Company Laws
Since the demutualization, we have been regulated as an insurance holding
company and have been subject to the insurance holding company acts of the
states in which our subsidiaries are domiciled. These acts contain
23
certain reporting requirements as well as restrictions on transactions between
an insurer or HMO and its affiliates. These holding company laws and
regulations generally require insurance companies and HMOs within an insurance
holding company system to register with the insurance department of each state
where they are domiciled and to file with those states' insurance departments
certain reports describing capital structure, ownership, financial condition,
certain intercompany transactions and general business operations. In addition,
various notice and reporting requirements generally apply to transactions
between insurance companies and HMOs and their affiliates within an insurance
holding company system, depending on the size and nature of the transactions.
Some insurance holding company laws and regulations require prior regulatory
approval or, in certain circumstances, prior notice of certain material
intercompany transfers of assets as well as certain transactions between
insurance companies, HMOs, their parent holding companies and affiliates.
Additionally, the holding company acts for the states of domicile of Anthem
and its subsidiaries restrict the ability of any person to obtain control of an
insurance company or HMO without prior regulatory approval. Under those
statutes, without such approval (or an exemption), no person may acquire any
voting security of an insurance holding company which controls an insurance
company or HMO, or merge with such a holding company, if as a result of such
transaction such person would "control" the insurance holding company.
"Control" is generally defined as the direct or indirect power to direct or
cause the direction of the management and policies of a person and is presumed
to exist if a person directly or indirectly owns or controls 10% or more of the
voting securities of another person.
Guaranty Fund Assessments
Under insolvency or guaranty association laws in most states, insurance
companies can be assessed for amounts paid by guaranty funds for policyholder
losses incurred when an insurance company becomes insolvent. Most state
insolvency or guaranty association laws currently provide for assessments based
upon the amount of premiums received on insurance underwritten within such
state (with a minimum amount payable even if no premium is received).
Substantially all of our premiums are currently derived from insurance
underwritten in Indiana, Kentucky, Ohio, Connecticut, New Hampshire, Maine,
Colorado and Nevada.
Under many of these guaranty association laws, assessments against insurance
companies that issue policies of accident or sickness insurance, such as
Anthem, are made retrospectively and are based (up to prescribed limits) upon
the ratio of (i) the insurance company's premiums received in the applicable
state over the previous three calendar years on accident and sickness insurance
to (ii) the aggregate amount of premiums received by all assessed member
insurance companies over such three calendar years on accident and sickness
insurance. The guaranty fund assessments made under these acts are administered
by the state's Guaranty Association, which has its own board of directors
selected by member insurers with the approval of the State Insurance
Department. In general, an assessment may be abated or deferred by the Guaranty
Association if, in the opinion of the board, payment would endanger the ability
of the member to fulfill its contractual obligations. The other member
insurers, however, may be assessed for the amount of such abatement or
deferral. Any such assessment paid by a member insurance company may be offset
against its premium tax liability to the state in question over a multiple year
period (generally five to 10 years) following the year in which the assessment
was paid. The amount and timing of any future assessments, however, cannot be
reasonably estimated and are beyond our control.
While the amount of any assessments applicable to life and health guaranty
funds cannot be predicted with certainty, we believe that future guaranty
association assessments for insurer insolvencies will not have a material
adverse effect on our liquidity and capital resources.
Risk-Based Capital Requirements
The states of domicile of our subsidiaries have statutory risk-based
capital, or RBC, requirements for health and other insurance companies based on
the RBC Model Act. These RBC requirements are intended to assess the capital
adequacy of life and health insurers, taking into account the risk
characteristics of an insurer's
24
investments and products. The RBC Model Act sets forth the formula for
calculating the RBC requirements which are designed to take into account asset
risks, insurance risks, interest rate risks and other relevant risks with
respect to an individual insurance company's business. In general, under these
laws, an insurance company must submit a report of its RBC level to the
Insurance Department or Insurance Commissioner, as appropriate, of its state of
domicile as of the end of the previous calendar year.
The RBC Model Act provides for four different levels of regulatory attention
depending on the ratio of a company's total adjusted capital (defined as the
total of its statutory capital, surplus and asset valuation reserve) to its
risk-based capital. The "Company Action Level" is triggered if a company's
total adjusted capital is less than 200 percent but greater than or equal to
150 percent of its risk-based capital. At the "Company Action Level", a company
must submit a comprehensive plan to the regulatory authority which discusses
proposed corrective actions to improve its capital position. A company whose
total adjusted capital is between 250 percent and 200 percent of its risk-based
capital is subject to a trend test. The trend test calculates the greater of
any decrease in the margin (i.e., the amount in dollars by which a company's
adjusted capital exceeds its risk-based capital) between the current year and
the prior year and between the current year and the average of the past three
years, and assumes that the decrease could occur again in the coming year. If a
similar decrease in margin in the coming year would result in a risk-based
capital ratio of less than 190 percent, then "Company Action Level" regulatory
action would be triggered. The "Regulatory Action Level" is triggered if a
company's total adjusted capital is less than 150 percent but greater than or
equal to 100 percent of its risk-based capital. At the "Regulatory Action
Level", the regulatory authority will perform a special examination of the
company and issue an order specifying corrective actions that must be followed.
The "Authorized Control Level" is triggered if a company's total adjusted
capital is less than 100 percent but greater than or equal to 70 percent of its
risk-based capital, at which level the regulatory authority may take any action
it deems necessary, including placing the company under regulatory control. The
"Mandatory Control Level" is triggered if a company's total adjusted capital is
less than 70 percent of its risk-based capital, at which level the regulatory
authority is mandated to place the company under its control.
The law requires increasing degrees of regulatory oversight and intervention
as an insurance company's RBC declines. The level of regulatory oversight
ranges from requiring the insurance company to inform and obtain approval from
the domiciliary Insurance Commissioner of a comprehensive financial plan for
increasing its RBC to mandatory regulatory intervention requiring an insurance
company to be placed under regulatory control in a rehabilitation or
liquidation proceeding. As of December 31, 2001, the RBC levels of Anthem and
our insurance subsidiaries exceeded all RBC thresholds.
NAIC IRIS Ratios
In the 1970's, the NAIC developed a set of financial relationships or
"tests" called the Insurance Regulatory Information System, or IRIS, that were
designed for early identification of companies that may require special
attention by insurance regulatory authorities. Insurance companies submit
statutory financial data on an annual basis to the NAIC, which in turn analyzes
the data using ratios covering eleven categories of data with defined "usual
ranges" for each category. An insurance company may fall out of the usual range
for one or more ratios because of specific transactions or events that are, in
and of themselves, immaterial. Generally, an insurance company will become
subject to regulatory scrutiny if its IRIS results fall outside of the usual
ranges on four or more of the ratios. If a company is outside the ranges on
four or more of the ratios, a written explanation is prepared and sent to
regulators. Neither Anthem nor its subsidiaries is currently subject to
regulatory scrutiny based on IRIS ratios.
ITEM 2. PROPERTIES.
Our principal executive offices are located at 120 Monument Circle,
Indianapolis, Indiana. In addition to this property, our principal operating
facilities are located in Denver, Colorado; North Haven, Connecticut;
Indianapolis, Indiana; Mason/Cincinnati, Ohio; Worthington/Columbus, Ohio;
Manchester, New Hampshire;
25
Louisville, Kentucky and South Portland, Maine. In total, we own approximately
14 facilities and lease approximately 45 facilities. These locations total 4.8
million square feet, of which Anthem occupies 4.3 million square feet, and are
located in 13 states. We believe that our properties are adequate and suitable
for our business as presently conducted.
ITEM 3. LEGAL PROCEEDINGS.
Litigation
A number of managed care organizations have been sued in class action
lawsuits asserting various causes of action under federal and state law. These
lawsuits typically allege that the defendant managed care organizations employ
policies and procedures for providing health care benefits that are
inconsistent with the terms of the coverage documents and other information
provided to their members, and because of these misrepresentations and
practices, a class of members has been injured in that they received benefits
of lesser value than the benefits represented to and paid for by such members.
Two such proceedings which allege various violations of the Employee Retirement
Income Security Act of 1974 ("ERISA") have been filed in Connecticut against
Anthem and/or our Connecticut subsidiary. One proceeding, The State of
Connecticut v. Anthem Blue Cross and Blue Shield of Connecticut, Anthem Health
Plans, Inc., et al., No. 3:00 CV 1716 (AWT), filed on September 7, 2000 in the
United States District Court, District of Connecticut, was brought by the
Connecticut Attorney General on behalf of a purported class of HMO and Point of
Service members in Connecticut. No monetary damages are sought, although the
suit does seek injunctive relief from the court to preclude us from allegedly
utilizing arbitrary coverage guidelines, making late payments to providers or
members, denying coverage for medically necessary prescription drugs and
misrepresenting or failing to disclose essential information to enrollees. The
complaint contends that these alleged policies and practices are a violation of
ERISA. A second proceeding, William Strand v. Anthem Blue Cross and Blue Shield
of Connecticut, Anthem Health Plans, Inc., et al., No. 3:00 CV 2037 (SRU),
filed on October 20, 2000 in the United States District Court, District of
Connecticut, was brought on behalf of a purported class of HMO and Point of
Service members in Connecticut and elsewhere, and seeks injunctive relief to
preclude us from allegedly making coverage decisions relating to medical
necessity without complying with the express terms of the policy documents, and
unspecified monetary damages (both compensatory and punitive).
In addition, our Connecticut subsidiary is a defendant in three class action
lawsuits brought on behalf of professional providers in Connecticut. Edward
Collins, M.D., et al. v. Anthem Health Plans, Inc., No. CV-99 0156198 S, was
filed on December 14, 1999, in the Superior Court Judicial District of
Waterbury, Connecticut. Stephen R. Levinson, M.D., Karen Laugel, M.D. and J.
Kevin Lynch, M.D. v. Anthem Health Plans, Inc. d/b/a Anthem Blue Cross and Blue
Shield of Connecticut, No. 3:01 CV 426 (JBA), was filed on February 14, 2001 in
the Superior Court Judicial District of New Haven, Connecticut. Connecticut
State Medical Society v. Anthem Health Plans, Inc., No. 3:01 CV 428 (JBA) was
filed on February 14, 2001 in the Superior Court Judicial District of New
Haven, Connecticut. The suits allege that the Connecticut subsidiary has
breached its contracts by, among other things, allegedly failing to pay for
services in accordance with the terms of the contracts. The suits also allege
violations of the Connecticut Unfair Trade Practices Act, breach of the implied
duty of good faith and fair dealing, negligent misrepresentation and unjust
enrichment. The Collins and Levinson suits seek injunctive relief. Collins
seeks an accounting under the terms of the provider agreements and injunctive
relief prohibiting us from continuing the unfair actions alleged in the
complaint and violating its agreements. Levinson seeks permanent injunctive
relief prohibiting us from, among other things, utilizing methods to reduce
reimbursement of claims, paying claims in an untimely fashion and providing
inadequate communication with regards to denials and appeals. Both of the suits
seek unspecified monetary damages (both compensatory and punitive). The third
suit, brought by the Connecticut State Medical Society, seeks the same
injunctive relief as the Levinson case, but no monetary damages.
On July 19, 2001, the court in the Collins suit certified a class as to
three of the plaintiff's fifteen allegations. The class is defined as those
physicians who practice in Connecticut or group practices which are
26
located in Connecticut that were parties to either a Participating Physician
Agreement or a Participating Physicians Group Agreement with Anthem and/or its
Connecticut subsidiary during the period from 1993 to the present, excluding
risk-sharing arrangements and certain other contracts. The claims which were
certified as class claims are: Anthem's alleged failure to provide plaintiffs
and other similarly situated physicians with consistent medical
utilization/quality management and administration of covered services by paying
financial incentive and performance bonuses to providers and Anthem staff
members involved in making utilization management decisions; an alleged failure
to maintain accurate books and records whereby improper payments to the
plaintiffs were made based on claim codes submitted; and an alleged failure to
provide senior personnel to work with plaintiffs and other similarly situated
physicians. We have appealed the class certification decision.
We intend to vigorously defend these proceedings. Anthem denies all the
allegations set forth in the complaints and has asserted defenses, including
improper standing to sue, failure to state a claim and failure to exhaust
administrative remedies. All of the proceedings are in the early stages of
litigation, and their ultimate outcomes cannot presently be determined.
On October 10, 2001, the Connecticut State Dental Association along with
five dental providers filed suit against our Connecticut subsidiary.
Connecticut State Dental Association, Dr. Martin Rutt, Dr. Michael Egan, Dr.
Sheldon Natkin, Dr. Suzanna Nemeth, and Dr. Bruce Tandy v. Anthem Health Plans,
Inc. d/b/a Anthem Blue Cross and Blue Shield of Connecticut was filed in the
Superior Court Judicial District of Hartford, Connecticut. On November 9, 2001,
this suit was, with the consent of the parties, voluntarily withdrawn without
prejudice, but it may be re-filed in the future. The suit alleged that our
Connecticut subsidiary violated the Connecticut Unfair Trade Practices Act by
allegedly unilaterally altering fee schedules without notice or a basis to do
so, instituting unfair and deceptive cost containment measures and refusing to
enroll new providers unless they agreed to participate in all available
networks. The plaintiffs sought declaratory relief that the practices alleged
in the complaint constituted deceptive and unfair trade practices. A permanent
injunction was also sought prohibiting us from, among other things, failing and
refusing to inform network providers of the methodology supporting our fee
schedules and substituting our medical judgment for that of dental providers.
The suit requested costs and attorney fees, but no other specified monetary
damages. Anthem denied the allegations set forth in this complaint and
vigorously defended this suit.
Following our purchase of BCBS-ME, the Attorney General of Maine and
Consumers for Affordable Health Care filed administrative appeals challenging
the Superintendent of Insurance's (the "Superintendent") decision approving the
conversion of BCBS-ME to a stock insurer, which was a required step before the
acquisition. Both the Attorney General and the consumers group filed a petition
for administrative review seeking, among other things, a determination that the
decision of the Superintendent in regard to the application of BCBS-ME to
convert to a stock insurer was in violation of statute or unsupported by
substantial evidence on the record. Consumers for Affordable Health Care, et
al. v. Superintendent of Insurance, et al., Nos. AP-00-37, AP-00-42
(Consolidated). On December 21, 2001, the court issued an opinion affirming the
decision of the Superintendent approving the conversion of BCBS-ME and the
subsequent acquisition by Anthem. The Consumers for Affordable Health Care have
appealed this decision to the Maine Supreme Judicial Court. The Attorney
General did not appeal the decision, and the appeals time has passed. While the
Consumers appeal is still pending, we do not believe that the appeal will have
a material adverse effect on our consolidated financial position or results of
operations.
On March 11, 1998, Anthem and its Ohio subsidiary, Community Insurance
Company ("CIC") were named as defendants in a lawsuit, Robert Lee Dardinger,
Executor of the Estate of Esther Louise Dardinger v. Anthem Blue Cross and Blue
Shield, et al., filed in the Licking County Court of Common Pleas in Newark,
Ohio. The plaintiff sought compensatory damages and unspecified punitive
damages in connection with claims alleging wrongful death, bad faith and
negligence arising out of our denial of certain claims for medical treatment
for Ms. Dardinger. On September 24, 1999, the jury returned a verdict for the
plaintiff, awarding $1,350 for compensatory damages, $2.5 million for bad faith
in claims handling and appeals processing, $49.0 million for
27
punitive damages and unspecified attorneys' fees in an amount to be determined
by the court. The court later granted attorneys' fees of $0.8 million. Both
companies filed an appeal of the verdict on November 19, 1999. On May 22, 2001,
the Ohio Court of Appeals (Fifth District) affirmed the jury award of $1,350
for breach of contract against CIC, affirmed the award of $2.5 million
compensatory damages for bad faith in claims handling and appeals processing
against CIC, but dismissed the claims and judgments against Anthem. The court
also reversed the award of $49.0 million in punitive damages against both
Anthem and CIC, and remanded the question of punitive damages against CIC to
the trial court for a new trial. Anthem and CIC, as well as the plaintiff,
appealed certain aspects of the decision of the Ohio Court of Appeals. On
October 10, 2001, the Supreme Court of Ohio agreed to hear the plaintiff's
appeal, including the question of punitive damages, and denied the
cross-appeals of Anthem and CIC. In December 2001, CIC paid the award of $2.5
million compensatory damages for bad faith and the award of $1,350 for breach
of contract, plus accrued interest. The ultimate outcome of the matters that
are the subject of the pending appeal cannot be determined at this time.
On October 25, 1995, Anthem Insurance and two Indiana affiliates were named
as defendants in a lawsuit titled Dr. William Lewis, et al. v. Associated
Medical Networks, Ltd., et al., that was filed in the Superior Court of Lake
County, Indiana. The plaintiffs are three related health care providers. The
health care providers assert that we failed to honor contractual assignments of
health insurance benefits and violated equitable liens held by the health care
providers by not paying directly to them the health insurance benefits for
medical treatment rendered to patients who had insurance with us. We paid our
customers' claims for the health care providers' services by sending payments
to our customers as called for by their insurance policies, and the health care
providers assert that the patients failed to use the insurance benefits to pay
for the health care providers' services. The plaintiffs filed the case as a
class action on behalf of similarly situated health care providers and seek
compensatory damages in unspecified amounts for the insurance benefits not paid
to the class members, plus prejudgment interest. The case was transferred to
the Superior Court of Marion County, Indiana, where it is now pending. On
December 3, 2001, the Court entered summary judgment for us on the health care
providers' equitable lien claims. The Court also entered summary judgment for
us on the health care providers' contractual assignments claims to the extent
that the health care providers do not hold effective assignments of insurance
benefits from patients. On the same date, the Court certified the case as a
class action. As limited by the summary judgment order, the class consists of
health care providers in Indiana who (1) were not in one of our networks, (2)
did not receive direct payment from us for services rendered to a patient
covered by one of our insurance policies that is not subject to ERISA, (3) were
not paid by the patient (or were otherwise damaged by our payment to our
customer instead of to the health care provider), and (4) had an effective
assignment of insurance benefits from the patient. We have filed a motion
seeking an interlocutory appeal of the class certification order in the Indiana
Court of Appeals. In any event, we intend to continue to vigorously defend the
case and believe that any liability that may result from the case will not have
a material adverse effect on our consolidated financial position or results of
operations.
In addition to the lawsuits described above, we are involved in other
pending and threatened litigation of the character incidental to our business
or arising out of our insurance and investment operations, and are from time to
time involved as a party in various governmental and administrative
proceedings. We believe that any liability that may result from any one of
these actions is unlikely to have a material adverse effect on our financial
position or results of operations.
Other Contingencies
Anthem, like a number of other Blue Cross and Blue Shield companies, serves
as a fiscal intermediary providing administrative services for Medicare Parts A
and B. The fiscal intermediaries for these programs receive reimbursement for
certain costs and expenditures, which are subject to adjustment upon audit by
CMS. The laws and regulations governing fiscal intermediaries for the Medicare
program are complex, subject to interpretation and can expose an intermediary
to penalties for non-compliance. Fiscal intermediaries may be subject to
criminal fines, civil penalties or other sanctions as a result of such audits
or reviews. In the last five years, at least eight Medicare fiscal
intermediaries have made payments to settle issues raised by such audits and
28
reviews. These payments have ranged from $0.7 million to $51.6 million, plus a
payment by one company of $144.0 million. While we believe we are currently in
compliance in all material respects with the regulations governing fiscal
intermediaries, there are ongoing reviews by the federal government of Anthem's
activities under certain of its Medicare fiscal intermediary contracts.
On December 8, 1999, Anthem Health Plans, Inc., or AHP, one of our
subsidiaries, reached a settlement agreement with the Office of Inspector
General, or OIG, Health and Human Services, in the amount of $41.9 million, to
resolve an investigation into misconduct in the Medicare fiscal intermediary
operations of BCBS-CT, AHP's predecessor. The period investigated was before
Anthem's merger with BCBS-CT. The resolution of this case involved no criminal
penalties against Anthem as successor-in-interest nor any suspension or
exclusion from federal programs. This expense was included in administrative
expense in our statement of consolidated income for the year ended December 31,
1999.
AdminaStar Federal, Inc., one of our subsidiaries, has received several
subpoenas from the OIG and the U.S. Department of Justice, seeking documents
and information concerning its responsibilities as a Medicare Part B contractor
in its Kentucky office, and requesting certain financial records from
AdminaStar Federal, Inc. and from us related to our Medicare fiscal
intermediary Part A and Part B operations. We have made certain disclosures to
the government relating to our Medicare Part B operations in Kentucky. We were
advised by the government that, in conjunction with its ongoing review of these
matters, the government has also been reviewing separate allegations made by
individuals against AdminaStar, which are included within the same timeframe
and involve issues arising from the same nucleus of operative facts as the
government's ongoing review. We are not in a position to predict either the
ultimate outcome of these reviews or the extent of any potential exposure
should claims be made against us. However, we believe any fines or penalties
that may arise from these reviews would not have a material adverse effect on
our consolidated financial condition.
As a BCBSA licensee, we participate in a nationwide contract with the
federal Office of Personnel Management to provide coverage to federal employees
and their dependents in our core eight-state area. The program is called the
Federal Employee Program, or FEP. On July 11, 2001, we received a subpoena from
the OIG, Office of Personnel Management, seeking certain financial documents
and information, including information concerning intercompany transactions,
related to our operations in Ohio, Indiana and Kentucky under the FEP contract.
The government has advised us that, in conjunction with its ongoing review, the
government is also reviewing a separate allegation made by an individual
against our FEP operations, which is included within the same timeframe and
involves issues arising from the same nucleus of operative facts as the
government's ongoing review. We are currently cooperating with the OIG and the
U.S. Department of Justice on these matters. We are not in a position to
predict either the ultimate outcome of these reviews or the extent of any
potential exposure should claims be made against us. There can be no assurance
that the ultimate outcome of these reviews will not have a material adverse
effect on our consolidated results of operations or financial condition.
We guaranteed certain financial contingencies of our subsidiary, Anthem
Alliance Health Insurance Company ("Anthem Alliance"), under a contract between
Anthem Alliance and the United States Department of Defense. Under that
contract, Anthem Alliance managed and administered the TRICARE Managed Care
Support Program for military families from May 1, 1998 through May 31, 2001.
The contract required Anthem Alliance, as the prime contractor, to assume
certain risks in the event, and to the extent, the actual cost of delivering
health care services exceeded the health care cost proposal submitted by Anthem
Alliance (the "Health Care Risk"). The contract has a five-year term, but was
transferred to a third party, effective May 31, 2001. We guaranteed Anthem
Alliance's assumption of the Health Care Risk, which is capped by the contract
at $20.0 million annually and $75.0 million cumulatively over the contract
period. Through December 31, 2000, Anthem Alliance had subcontracts with two
other BCBS companies not affiliated with us by which the subcontractors agreed
to provide certain services under the contract and to assume approximately 50%
of the Health Care Risk. Effective January 1, 2001, one of those subcontracts
terminated by mutual agreement of the parties, which increased Anthem
Alliance's portion of the Health Care Risk to 90%. Effective May 1, 2001, the
other subcontract was
29
amended to eliminate the Health Care Risk sharing provision, which resulted in
Anthem Alliance assuming 100% of the Health Care Risk for the period from May
1, 2001 to May 31, 2001. There was no call on the guarantee for the period from
May 1, 1998 to April 30, 1999 (which period is now "closed"), and we do not
anticipate a call on the guarantee for the periods beginning May 1, 1999
through May 31, 2001 (which periods remain "open" for possible review by the
Department of Defense).
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company did not submit any matters to a vote of security holders during
the fourth quarter of 2001.
Executive Officers of the Company
Name Age Position
---- --- --------
Larry C. Glasscock...... 53 President and Chief Executive Officer and
Director
David R. Frick.......... 57 Executive Vice President and Chief Legal and
Administrative Officer
Samuel R. Nussbaum, M.D. 53 Executive Vice President and Chief Medical
Officer
Michael L. Smith........ 53 Executive Vice President and Chief Financial
and Accounting Officer
Marjorie W. Dorr........ 39 President, Anthem East
Keith R. Faller......... 54 President, Anthem Midwest
Michael D. Houk......... 57 President, National Accounts
Caroline S. Matthews.... 42 Chief Operating Officer, Anthem Blue Cross
and Blue Shield in Colorado and Nevada
John M. Murphy.......... 50 President, Specialty Business Division of
Anthem
Jane E. Niederberger.... 42 Senior Vice President and Chief Information
Officer
The following is biographical information for our executive officers:
Larry C. Glasscock has served as President and Chief Executive Officer and a
director of Anthem, Inc. since July 2001 and as President and Chief Executive
Officer and a director of Anthem Insurance since October 1999. He joined Anthem
Insurance in April 1998 as Senior Executive Vice President and Chief Operating
Officer. He was named President and Chief Operating Officer in April 1999 and
succeeded L. Ben Lytle as Chief Executive Officer upon Mr. Lytle's retirement
in October 1999. Prior to joining Anthem Insurance, Mr. Glasscock served as
Chief Operating Officer of CareFirst, Inc. from January 1998 to April 1998. Mr.
Glasscock was President and Chief Executive Officer of Group Hospitalization
and Medical Services, Inc., which did business as Blue Cross Blue Shield of the
National Capital Area, from 1993 to January 1998 and oversaw its affiliation
with Blue Cross Blue Shield of Maryland. Prior to moving to the health
insurance industry, he served as President and Chief Operating Officer and a
director of First American Bank, N.A. (Washington, DC) from 1991 until 1993
when the bank was sold. During 1991, Mr. Glasscock was President and Chief
Executive Officer of Essex Holdings, Inc. (an Ohio-based capital investment
firm). He also held various executive positions during his twenty-year tenure
with Ameritrust Corporation, a Cleveland, Ohio bank holding company. Mr.
Glasscock is a director of Zimmer Holdings, Inc. (orthopaedic industry).
David R. Frick has served as Executive Vice President and Chief Legal and
Administrative Officer of Anthem, Inc. since July 2001. He joined Anthem
Insurance in 1995 as Executive Vice President and Chief Legal and
Administrative Officer. Prior to joining Anthem Insurance, he served as a
member of its board of directors.
30
Mr. Frick was a partner at the law firm of Baker & Daniels from 1982 to 1995,
and he was managing partner from 1987 to 1992. He was Deputy Mayor of the City
of Indianapolis from 1977 to 1982. He is a director of Artistic Media Partners,
Inc. (radio stations) and The National Bank of Indianapolis Corporation (bank
holding company).
Samuel R. Nussbaum, M.D. joined Anthem Insurance in January 2001 as
Executive Vice President and Chief Medical Officer. From 1996 to 2000, Dr.
Nussbaum served both as Executive Vice President for Medical Affairs and System
Integration at BJC Health System of St. Louis and as Chairman and Chief
Executive Officer of Health Partners of the Midwest. Prior to that, Dr.
Nussbaum was President and Chief Executive Officer of Physician Partners of New
England, Senior Vice President for Health Care Delivery at Blue Cross Blue
Shield of Massachusetts and a professor at Harvard Medical School.
Michael L. Smith has served as Executive Vice President and Chief Financial
and Accounting Officer of Anthem, Inc. since July 2001. He has been Executive
Vice President and Chief Financial Officer of Anthem Insurance since 1999. From
1996 to 1998, Mr. Smith served as Chief Operating Officer and Chief Financial
Officer of American Health Network, Inc., a former Anthem subsidiary. He was
Chairman, President and Chief Executive Officer of Mayflower Group, Inc.
(transport company) from 1989 to 1995. He is a director of First Indiana
Corporation (bank holding company) and Finishmaster, Inc. (auto paint
distribution).
Marjorie W. Dorr became President of Anthem East in July 2000. She has held
numerous executive positions since joining Anthem Insurance in 1991, including
Vice President of Corporate Finance; Chief Financial Officer of Anthem Casualty
Insurance Group; President of Anthem Prescription Management, LLC; and Chief
Operating Officer of Anthem Health Plans, Inc. in Connecticut.
Keith R. Faller has been President of Anthem Midwest since 1997. He has held
numerous executive positions since joining Anthem Insurance in 1970, including
Senior Vice President for Customer Administration; President of Acordia of the
South; Executive Vice President, Health Operations; Chief Executive Officer,
Anthem Life Insurance Companies, Inc.; and President and Chief Executive
Officer, Acordia Small Business Benefits, Inc.
Michael D. Houk has been President of National Accounts for Anthem Insurance
since December 2001. He has held various executive positions since joining
Anthem Insurance in 1979, including Vice President of Sales and President and
Chief Executive Officer of Acordia of Central Indiana.
Caroline S. Matthews became Chief Operating Officer of Anthem Blue Cross and
Blue Shield in Colorado and Nevada in 2000. She has held various executive
positions since joining Anthem Insurance in 1988, including Vice President of
Corporate Finance; Vice President of Planning and Administration for
Information Technology; and Chief Operating Officer and Chief Financial Officer
of Acordia of the South.
John M. Murphy became President, Specialty Business Division of Anthem
Insurance in 2000. He has held various executive positions since joining Anthem
Insurance in 1988, including Vice President of Operations of Anthem Insurance;
President and Chief Executive Officer of Anthem Life Insurance Company; and
President and Chief Executive Officer of Acordia Senior Benefits, Inc.
Jane E. Niederberger joined Anthem Insurance in 1997 and has been Senior
Vice President and Chief Information Officer since 1999. From 1983 to 1996, she
held various executive positions with Harvard Pilgrim Health Care.
The above information includes business experience during the past five
years for each of the Company's executive officers. Executive officers of the
Company serve at the discretion of the Board of Directors. There is no family
relationship between any of the Directors or executive officers of the Company.
Pursuant to General Instruction G(3) of Form 10-K, the foregoing information
regarding executive officers is included as an unnumbered Item in Part I of
this Annual Report in lieu of being included in the Company's Proxy Statement
for its 2002 Annual Meeting of Shareholders.
31
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS.
Market Prices
The Company's Common Stock, par value $0.01 per share, began trading on the
New York Stock Exchange ("NYSE") under the symbol "ATH" on October 30, 2001.
The following table presents high and low sales prices for the Common Stock on
the NYSE for the periods indicated.
High Low
-------- --------
2001:
First Quarter..... N/A (1) N/A (1)
Second Quarter.... N/A (1) N/A (1)
Third Quarter..... N/A (1) N/A (1)
Fourth Quarter (2) $ 51.90 $ 40.35
--------
(1) N/A--Not applicable.
(2) Commencing October 30, 2001.
As of March 4, 2002, the closing price of the Common Stock was $55.50. On
March 4, 2002 there were 199,949 shareholders of record of the Common Stock.
Dividends
No cash dividends have been paid on our common stock and our board of
directors does not presently intend to declare any such dividends. The
declaration and payment of future dividends will be at the discretion of our
board of directors and must comply with applicable law. Future dividend
payments will depend upon our financial condition, results of operations,
future liquidity needs, potential acquisitions, regulatory and capital
requirements and other factors deemed relevant by our board of directors. In
addition, we are a holding company whose primary asset is 100% of the capital
stock of Anthem Insurance. Our ability to pay dividends to our shareholders
primarily depends upon the receipt of dividends from Anthem Insurance and its
receipt of dividends from our other regulated insurance subsidiaries.
In addition, the indenture governing the terms of our 5.95% debentures
issued as part of our 6.00% Equity Security Units prohibits, with certain
limited exceptions, the payment of dividends on our common stock during a
deferral of interest payments on the debentures or an event of default under
the indenture. We also have the option to defer contract fee payments on the
purchase contracts that are also a part of our Units. If we elect to defer
contract fee payments, we cannot, with certain limited exceptions, pay
dividends on our common stock during a deferral period.
Sales of Unregistered Securities
Effective November 2, 2001, the Company issued to certain eligible statutory
members of Anthem Insurance 48,095,675 shares of the Company's Common Stock in
connection with the demutualization of Anthem Insurance. The number of shares
issued will ultimately vary slightly when all distribution matters are
finalized. This transaction was exempt from the registration requirements of
the Securities Act of 1933, as amended, pursuant to Section 3(a)(10) thereof
based on the Indiana Insurance Commissioner's approval of the plan of
conversion.
Use of Proceeds
On October 29, 2001, the Securities and Exchange Commission declared
effective (i) the Registration Statement on Form S-1 (Registration No.
333-67714) of the Company with respect to the Company's Common Stock; and (ii)
the Registration Statement on Form S-1 (Registration No. 333-70566) of the
Company with respect to the Company's 6.00% Equity Security Units (the
"Units"). In addition, on October 29, 2001, the Company filed a Registration
Statement on Form S-1 pursuant to Rule 462(b) of the Securities Act of 1933
(Registration No. 333-72438) to increase the amount of the Common Stock
offering, which Registration Statement was effective upon filing.
32
The offering of the Common Stock closed on November 2, 2001 and resulted in
gross proceeds of $1,987.2 million (including $259.2 million of gross proceeds
attributable to the shares of Common Stock sold pursuant to exercise of the
underwriters' over-allotment option), of which $91.4 million was applied to the
underwriting discount. The proceeds to the Company equaled $1,895.8 million. Of
such amount, $28.9 million was contributed to Anthem Insurance and $5.4 million
has been used to pay additional expenses of the Common Stock offering and the
demutualization. Of the resulting net proceeds to the Company from the Common
Stock offering, $1,843.8 million has been used to fund payments to eligible
statutory members of Anthem Insurance who received cash instead of shares of
Common Stock in the demutualization of Anthem Insurance (including payments to
eligible statutory members pursuant to the "top up provision" of the plan of
conversion), and the remaining net proceeds of $17.7 million retained by the
Company will be available for general corporate purposes. In February 2002,
$3.9 million of the $17.7 million remaining net proceeds was used for interest
payments on the Units.
The offering of the Units closed on November 2, 2001 and resulted in gross
proceeds of $230.0 million (including $30.0 million of gross proceeds
attributable to the Units sold pursuant to exercise of the underwriters'
over-allotment option), $8.6 million of which was applied to the underwriting
discount and $1.6 million for other expenses related to the Units offering. The
net proceeds to the Company equaled $219.8 million which was used to fund
payments to eligible statutory members of Anthem Insurance who received cash
instead of shares of Common Stock in the demutualization of Anthem Insurance.
33
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA.
The table below provides selected consolidated financial data of the
Company. The information has been derived from the Company's consolidated
financial statements for each of the years in the five year period ended
December 31, 2001, which have been audited by Ernst & Young LLP. This selected
consolidated financial data should be read in conjunction with the audited
consolidated financial statements and notes and "Management's Discussion and
Analysis of Financial Condition and Results of Operations" included herein.
As of and for the Year Ended December 31
---------------------------------------------------
2001 2000(1) 1999(1)(2) 1998 1997
--------- --------- ---------- -------- --------
($ in Millions, Except Per Share Data)
Income Statement Data
Total operating revenue....................................... $10,120.3 $ 8,543.5 $6,080.6 $5,389.7 $5,110.0
Total revenues................................................ 10,444.7 8,771.0 6,270.1 5,682.4 5,332.2
Income from continuing operations............................. 342.2 226.0 50.9 178.4 79.1
Net income (loss)............................................. 342.2 226.0 44.9 172.4 (159.0)
Pro Forma Per Share Data(3)
Basic income from continuing operations....................... $ 3.31 $ 2.19 $ 0.49 $ 1.73 $ 0.77
Diluted income from continuing operations..................... 3.30 2.18 0.49 1.72 0.76
Other Data-(unaudited)(4)
Operating revenue and premium equivalents(5).................. $14,057.4 $11,800.1 $8,691.6 $7,987.4 $7,269.3
Operating gain (loss)......................................... 319.5 184.1 28.5 35.4 (82.2)
Benefit expense ratio......................................... 84.5% 84.7% 84.6% 83.0% 83.7%
Administrative expense ratio:
Calculated using operating revenue......................... 19.6% 21.2% 24.2% 26.3% 26.6%
Calculated using operating revenue and premium equivalents. 14.1% 15.3% 16.9% 17.8% 18.7%
Operating margin.............................................. 3.2% 2.2% 0.5% 0.7% (1.6)%
Members (000s)(6).............................................
Midwest.................................................... 4,854 4,454 4,253 4,046 4,345
East....................................................... 2,260 2,093 1,397 968 916
West....................................................... 769 595 486 - -
Total...................................................... 7,883 7,142 6,136 5,014 5,261
Balance Sheet Data
Total assets.................................................. $ 6,276.6 $ 5,708.5 $4,816.2 $4,359.2 $4,131.9
Long term debt................................................ 818.0 597.5 522.0 301.9 305.7
Total shareholders' equity(7)................................. 2,060.0 1,919.8 1,660.9 1,702.5 1,524.7
--------
(1) The net assets and results of operations for BCBS-NH, BCBS-CO/NV and
BCBS-ME are included from their respective acquisition dates.
(2) The 1999 operating gain includes a non-recurring charge of $41.9 million
related to the settlement agreement with the Office of Inspector General
("OIG"). Net Income for 1999 includes contributions totaling $114.1 million
($71.8 million, net of tax) to non-profit foundations in the states of
Kentucky, Ohio and Connecticut to settle charitable asset claims.
(3) There were no shares or dilutive securities outstanding prior to November
2, 2001 (date of demutualization and initial public offering.) For
comparative pro forma earnings per share presentation, the weighted average
shares outstanding and the effect of dilutive securities for the period
from November 2, 2001 to December 31, 2001 was used to calculate pro forma
earnings per share for all periods presented.
(4) Operating gain consists of operating revenue less benefit and
administrative expenses. The benefit expense ratio represents benefit
expense as a percentage of premium revenue. The administrative expense
ratio represents administrative expense as a percentage of operating
revenue and has also been presented as a percentage of operating revenue
and premium equivalents. Operating margin represents operating gain (loss)
as a percentage of operating revenue.
(5) Operating revenue and premium equivalents is a measure of the volume of
business serviced by the Company that is commonly used in the health
benefits industry to allow for a comparison of operating efficiency among
companies. It is calculated by adding to premiums, administrative fees and
other revenue the amount of claims attributable to non-Medicare,
self-funded health business where the Company provides a complete array of
customer service, claims administration and billing and enrollment
services. The self-funded claims included for the years ended December 31,
2001, 2000, 1999, 1998 and 1997 were $3,937.1, $3,256.6, $2,611.0, $2,597.7
and $2,159.3, respectively.
(6) Excludes TRICARE members of 128,000, 129,000 and 153,000 at December 31,
2000, 1999, and 1998, respectively.
(7) Represents policyholders' surplus prior to 2001.
34
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
INTRODUCTION
We are one of the nation's largest health benefits companies and an
independent licensee of the Blue Cross Blue Shield Association, or BCBSA. We
offer Blue Cross Blue Shield branded products to nearly eight million members
throughout Indiana, Kentucky, Ohio, Connecticut, New Hampshire, Maine, Colorado
and Nevada.
Our reportable segments are strategic business units delineated by
geographic areas within which we offer similar products and services. We manage
our business units with a local focus to address each geographic region's
unique market, regulatory and healthcare delivery characteristics. Our segments
are: Midwest, which includes Indiana, Kentucky and Ohio; East, which includes
Connecticut, New Hampshire and Maine; and West, which includes Colorado and
Nevada.
In addition to our three geographic segments, we operate a Specialty segment
that includes business units providing group life and disability insurance
benefits, pharmacy benefit management, dental and vision administration
services and third party occupational health services. Our Other segment is
comprised of AdminaStar Federal, Anthem Alliance Health Insurance Company, or
Anthem Alliance, intersegment revenue and expense eliminations and corporate
expenses not allocated to reportable segments. AdminaStar Federal is a
subsidiary that administers Medicare programs in Indiana, Illinois, Kentucky
and Ohio. Anthem Alliance is a subsidiary that primarily provided health care
benefits and administration in nine states for the Department of Defense's
TRICARE Program for military families until we sold our TRICARE operations on
May 31, 2001.
We offer traditional indemnity products and a diversified mix of managed
care products, including health maintenance organizations or HMOs, preferred
provider organizations or PPOs, and point of service or POS plans. We also
provide a broad array of managed care services and partially insured products
to self-funded employers, including underwriting, stop loss insurance,
actuarial services, provider network access, medical cost management, claims
processing and other administrative services. Our operating revenue consists of
premiums, benefit plan administrative fees and other revenue. The premiums come
from fully insured contracts where we indemnify our policyholders against loss.
The administrative fees come from self-funded contracts where our contract
holders are wholly or partially self-insured and from the administration of
Medicare programs. Other revenue is principally generated by our pharmacy
benefit management company in the form of co-pays and deductibles associated
with the sale of mail order drugs.
Our benefit expense consists mostly of four cost of care components:
outpatient and inpatient care costs, physician costs and pharmacy benefit
costs. All four components are affected both by unit costs and utilization
rates. Unit costs, for example, are the cost of outpatient medical procedures,
inpatient hospital stays, physician fees for office visits and prescription
drug prices. Utilization rates represent the volume of consumption of health
services and vary with the age and health of our members and broader social and
lifestyle factors in the population as a whole.
Our results in 1999, 2000 and 2001 were significantly impacted by the
acquisitions of Blue Cross and Blue Shield of New Hampshire, or BCBS-NH, which
we completed on October 27, 1999, Blue Cross and Blue Shield of Colorado and
Nevada, or BCBS-CO/NV, which we completed on November 16, 1999, and Blue Cross
and Blue Shield of Maine, or BCBS-ME, which we completed on June 5, 2000. We
accounted for these acquisitions as purchases and we included the net assets
and results of operations in our consolidated financial statements from the
respective dates of purchase. The following represents the contribution to our
total revenues, operating gain, assets and membership in the year of and
subsequent to each acquisition for the years ended December 31, 2001, 2000 and
1999.
35
As of and for the Year Ended December 31
-------------------------------------------------------------------
2001 2000
--------------------------------- ---------------------------------
Total Operating (000s) Total Operating (000s)
Revenues Gain Assets Members Revenues Gain Assets Members
-------- --------- ------ ------- -------- --------- ------ -------
($ in Millions)
BCBS-ME $948.1 $12.6 $307.6 504 $489.4 $8.7 $339.5 487
====== ===== ====== === ====== ==== ====== ===
As of and for the Year Ended December 31
---------------------------------------------------------------------
2000 1999
----------------------------------- ---------------------------------
Total Operating (000s) Total Operating (000s)
Revenues Gain Assets Members Revenues Loss Assets Members
-------- --------- -------- ------- -------- --------- ------ -------
($ in Millions)
BCBS-NH... $ 591.0 $11.6 $ 316.8 479 $ 77.9 $(0.3) $250.6 366
BCBS-CO/NV 678.6 6.5 545.8 595 76.9 (3.4) 521.5 486
BCBS-ME... 489.4 8.7 339.5 487 -- -- -- --
-------- ----- -------- ----- ------ ----- ------ ---
Total..... $1,759.0 $26.8 $1,202.1 1,561 $154.8 $(3.7) $772.1 852
======== ===== ======== ===== ====== ===== ====== ===
Operating gain consists of operating revenue less benefit expense and
administrative expense.
We sold our TRICARE operations on May 31, 2001. The results of our TRICARE
operations are reported in our Other segment (for Anthem Alliance), and in our
Midwest business segment, which assumed a portion of the TRICARE risk from May
1, 1998, to December 31, 2000. The operating results for our TRICARE operations
for 2001, 2000 and 1999 were as follows and include both the Anthem Alliance
and Midwest business segment results:
2001 2000 1999
------ ------ ------
($ in Millions)
Operating Revenue $263.2 $353.9 $292.4
====== ====== ======
Operating Gain... $ 4.2 $ 3.9 $ 5.1
====== ====== ======
On May 30, 2001, we signed a definitive agreement with Blue Cross and Blue
Shield of Kansas, or BCBS-KS, pursuant to which BCBS-KS would become a wholly
owned subsidiary. Under the proposed transaction, BCBS-KS would demutualize and
convert to a stock insurance company. The agreement calls for us to pay $190.0
million in exchange for all of the shares of BCBS-KS. On February 11, 2002, the
Kansas Insurance Commissioner disapproved the proposed transaction, which had
been previously approved by the BCBS-KS policyholders in January 2002. On
February 19, 2002, the board of directors of BCBS-KS voted unanimously to
appeal the Kansas Insurance Commissioner's decision and BCBS-KS will seek to
have the decision overturned in Shawnee County District Court. We will join
BCBS-KS in the appeal.
You should read this discussion in conjunction with our audited consolidated
financial statements and accompanying notes presented on pages 59 through 87.
36
MEMBERSHIP--YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED
DECEMBER 31, 2000
We categorize our membership into eight different customer types: Local
Large Group, Small Group, Individual, National, Medicare + Choice, Federal
Employee Program, Medicaid and TRICARE.
. Local Large Group consists of those customers with 51 or more eligible
employees, which are not considered National accounts.
. Small Group consists of those customers with one to 50 employees.
. Individual members include those in our under age 65 business and our
Medicare Supplement (age 65 and over) business.
. Our National accounts customers are employer groups, which have
multi-state locations and require partnering with other Blue Cross and
Blue Shield plans for administration and/or access to non-Anthem provider
networks. Included within the National business are our BlueCard customers
who represent enrollees of health plans marketed by other Blue Cross and
Blue Shield Plans, or the home plans, who receive health care services in
our Blue Cross and Blue Shield licensed markets.
. Medicare + Choice members have enrolled in coverages that are managed care
alternatives for the Medicare program.
. The Federal Employee Program, or FEP, provides health insurance coverage
to United States government employees and their dependents. Our FEP
members work in Anthem markets and are covered by this program.
. Medicaid membership represents eligible members with state sponsored
managed care alternatives in the Medicaid program which we manage for the
states of Connecticut and New Hampshire.
. Our TRICARE program provided managed care services to active and retired
military personnel and their dependents. We sold our TRICARE business on
May 31, 2001, and thus we had no TRICARE members as of December 31, 2001.
At December 31, 2000, our TRICARE membership totaled 128,000, was fully
insured and included in the Midwest segment.
Our BlueCard membership is calculated based on the amount of BlueCard
administrative fees we receive from the BlueCard members' home plans.
Generally, the administrative fees we receive are based on the number and type
of claims processed and a portion of the network discount on those claims. The
administrative fees are then divided by an assumed per member per month, or
PMPM, factor to calculate the number of members. The assumed PMPM factor is
based on an estimate of our experience and BCBSA guidelines.
In addition to categorizing our membership by customer type, we categorize
membership by funding arrangement according to the level of risk we assume in
the product contract. Our two funding arrangement categories are fully insured
and self-funded. Self-funded products are offered to customers, generally
larger employers, with the ability and desire to retain some or all of the risk
associated with their employees' health care costs.
The renewal patterns of our membership are somewhat cyclical throughout the
year. Typically, approximately 37% of our group fully insured business renews
during the first quarter and approximately 30% renews during the third quarter.
The remainder of our membership renewals are evenly distributed over the other
two quarters.
37
The following table presents our membership count by segment, customer type
and funding arrangement as of December 31, 2001 and 2000. The membership data
presented are unaudited and in certain instances include our estimates of the
number of members represented by each contract at the end of the period,
rounded to the nearest thousand.
Membership
December 31
-----------
2001 2000 Change % Change
----- ----- ------ --------
(In Thousands)
Segment
Midwest.................. 4,854 4,582 272 6%
East..................... 2,260 2,093 167 8
West..................... 769 595 174 29
----- ----- ---- -----
Total................ 7,883 7,270 613 8%
===== ===== ==== =====
Customer Type
Local Large Group........ 2,827 2,634 193 7%
Small Group.............. 813 775 38 5
Individual............... 701 650 51 8
National accounts (1).... 2,903 2,468 435 18
Medicare + Choice........ 97 106 (9) (8)
Federal Employee Program. 423 407 16 4
Medicaid................. 119 102 17 17
----- ----- ---- -----
Total without TRICARE.... 7,883 7,142 741 10
TRICARE.................. -- 128 (128) (100)
----- ----- ---- -----
Total................ 7,883 7,270 613 8%
===== ===== ==== =====
Funding Arrangement
Self-funded.............. 4,052 3,481 571 16%
Fully insured............ 3,831 3,789 42 1
----- ----- ---- -----
Total................ 7,883 7,270 613 8%
===== ===== ==== =====
--------
(1) Includes BlueCard members of 1,626 as of December 31, 2001, and 1,320 as of
December 31, 2000.
During the year ended December 31, 2001, total membership increased 613,000,
or 8%, primarily due to growth in National business and Local Large Group,
including a significant increase in BlueCard membership as a result of strong
sales activity and favorable retention. Excluding TRICARE, membership increased
741,000, or 10%. Local Large Group membership increased 193,000, or 7%, with
growth in all regions attributable to the success of our PPO products, as more
employer groups desire the broad, open access to our networks provided by these
products. The 38,000, or 5%, growth in Small Group business reflects our
initiatives to increase Small Group membership through revised commission
structures, enhanced product offerings, brand promotion and enhanced
relationships with brokers.
Medicare + Choice membership decreased as we withdrew from the Medicare +
Choice program in Connecticut effective January 1, 2001, due to losses in this
line of business in that market. At December 31, 2000, our Medicare + Choice
membership in Connecticut totaled 18,000. With such small membership, we
concluded that attaining profitability in this program would be difficult.
Offsetting this decrease was growth in our Medicare + Choice membership in
certain counties in Ohio, where many competitors have left the market, leaving
us as one of the few remaining companies offering this product. We decided to
remain in these counties in Ohio because we believe we have a critical mass of
membership and can continue to achieve improved results. We withdrew, effective
on January 1, 2002, from the Medicare + Choice market in Colorado due to low
membership in this market. Our Medicare + Choice membership in Colorado was
6,000 at December 31, 2001.
38
Individual membership increased primarily due to new business resulting from
higher sales of Individual (under age 65) products, particularly in our Midwest
segment.
Self-funded membership increased primarily due to our 23% increase in
BlueCard membership. Fully insured membership, excluding TRICARE, grew by
170,000 members, or 5%, from December 31, 2000, due to growth in both Local
Large and Small Group businesses.
Our Midwest and West membership grew primarily from increases in BlueCard
activity, Local Large Group and National accounts. Our East membership growth
is attributed to increased sales of Local Large Group and growth in BlueCard.
Local Large Group sales in our East segment increased primarily due to the
withdrawal of two of our largest competitors from the New Hampshire and Maine
markets.
RESULTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 2001 COMPARED TO THE YEAR
ENDED DECEMBER 31, 2000
The following table presents our consolidated results of operations for the
years ended December 31, 2001 and 2000:
Change
---------------------
2001 2000 $ %
- --------- --------- -------- -----------
($ in Millions)
Operating revenue and premium equivalents (1)..... $14,057.4 $11,800.1 $2,257.3 19%
========= ========= ======== ===========
Premiums.......................................... $ 9,244.8 $ 7,737.3 $1,507.5 19%
Administrative fees............................... 817.3 755.6 61.7 8
Other revenue..................................... 58.2 50.6 7.6 15
--------- --------- -------- -----------
Total operating revenue.................... 10,120.3 8,543.5 1,576.8 18
Benefit expense................................... 7,814.7 6,551.0 1,263.7 19
Administrative expense............................ 1,986.1 1,808.4 177.7 10
--------- --------- -------- -----------
Total operating expense.................... 9,800.8 8,359.4 1,441.4 17
--------- --------- -------- -----------
Operating gain.................................... 319.5 184.1 135.4 74
Net investment income............................. 238.6 201.6 37.0 18
Net realized gains on investments................. 60.8 25.9 34.9 NM(2)
Gain on sale of subsidiary operations (TRICARE)... 25.0 -- 25.0 NM(2)
Interest expense.................................. 60.2 54.7 5.5 10
Amortization of intangibles....................... 31.5 27.1 4.4 16
Demutualization expenses.......................... 27.6 -- 27.6 NM(2)
--------- --------- -------- -----------
Income before taxes and minority interest......... 524.6 329.8 194.8 59
Income taxes...................................... 183.4 102.2 81.2 79
Minority interest (credit)........................ (1.0) 1.6 (2.6) NM(2)
--------- --------- -------- -----------
Net income........................................ $ 342.2 $ 226.0 $ 116.2 51%
========= ========= ======== ===========
Benefit expense ratio (3)......................... 84.5% 84.7% (20) bp(4)
Administrative expense ratio: (5).................
Calculated using operating revenue (6)......... 19.6% 21.2% (160) bp(4)
Calculated using operating revenue and premium
equivalents (7).............................. 14.1% 15.3% (120) bp(4)
Operating margin (8).............................. 100 bp
3.2% 2.2% (4)
--------
The following definitions are also applicable to all other tables and schedules
in this discussion:
(1) Operating revenue and premium equivalents is a measure of the volume of
business commonly used in the health insurance industry to allow for a
comparison of operating efficiency among companies. It is obtained by
adding to premiums, administrative fees and other revenue the amount of
claims attributable to non-Medicare, self-funded health business where we
provide a complete array of customer service, claims administration and
billing and enrollment services. The self-funded claims included for the
year ended December 31, 2001 were $3,937.1 million and for the year ended
December 31, 2000 were $3,256.6 million.
39
(2) NM = Not meaningful.
(3) Benefit expense ratio = Benefit expense / Premiums.
(4) bp = basis point; one hundred basis points = 1%.
(5) While we include two calculations of administrative expense ratio, we
believe that administrative expense ratio including premium equivalents is
a better measure of efficiency as it eliminates changes in the ratio caused
by changes in our mix of insured and self-funded business. All discussions
and explanations related to administrative expense ratio will be related to
administrative expense ratio including premium equivalents.
(6) Administrative expense / Operating revenue.
(7) Administrative expense / Operating revenue and premium equivalents.
(8) Operating margin = Operating gain / Total operating revenue.
Premiums increased $1,507.5 million, or 19%, to $9,244.8 million in 2001 in
part due to our acquisition of BCBS-ME in June 2000 and the additional risk we
recaptured as of January 1, 2001, associated with the TRICARE business. Our
subsidiary Anthem Alliance had retained 35% of the risk on its TRICARE contract
as of January 1, 2000, and we increased the retention as of January 1, 2001, to
90% of the total risk for the contract. We sold the TRICARE business on May 31,
2001. Excluding our acquisition of BCBS-ME and the sale of our TRICARE
business, premiums increased $1,089.5 million, or 15%, due to premium rate
increases and higher membership in all of our business segments. Our Midwest
premiums increased due to higher membership and premium rate increases in our
group accounts (both Local Large Group and Small Group) and higher membership
in Medicare + Choice. Our East and West premiums increased primarily due to
premium rate increases and higher membership in group business.
Administrative fees increased $61.7 million, or 8%, from $755.6 million in
2000 to $817.3 million in 2001, with $30.2 million of this increase from our
acquisition of BCBS-ME. Excluding our acquisition of BCBS-ME and the sale of
our TRICARE business, administrative fees increased $112.2 million, or 20%,
primarily from membership growth in National account self-funded business.
Excluding our acquisition of BCBS-ME and the sale of our TRICARE business,
other revenue, which is comprised principally of co-pays and deductibles
associated with Anthem Prescription Management's, or APM's, sale of mail order
drugs, increased $12.1 million, or 27%. APM is our pharmacy benefit manager and
provides its services to other Anthem affiliates. Mail order revenues increased
primarily due to additional volume resulting from the introduction of APM as
the pharmacy benefit manager at BCBS-NH in late 2000 and BCBS-CO/NV and BCBS-ME
in 2001.
Benefit expense increased $1,263.7 million, or 19%, in 2001 due to our
acquisition of BCBS-ME and the additional risk assumed by Anthem Alliance for
TRICARE business on January 1, 2001. Excluding our acquisition of BCBS-ME and
the sale of our TRICARE business, benefit expense increased $888.6 million, or
15%, due to higher average membership and increasing cost of care. Cost of care
trends were driven primarily by higher utilization of outpatient services and
higher prescription drug costs. Our benefit expense ratio decreased 20 basis
points from 84.7% in 2000 to 84.5% in 2001 primarily due to disciplined
pricing, implementation of disease management plans and improvement in provider
contracting. Excluding our acquisition of BCBS-ME and the sale of our TRICARE
business, our benefit expense ratio decreased 40 basis points from 84.3% in
2000 to 83.9% in 2001 for the same reasons.
Total cost of care for 2001 increased approximately 13% from 2000. Excluding
changes in our mix of business between regions, total cost of care for 2001
increased approximately 12%. Outpatient and professional services cost
increases have varied among regions and products. For the year ended December
31, 2001, cost increases have generally averaged from 14% to 15% for outpatient
services and from 11% to 12% for professional services. These increases
resulted from both increased utilization and higher unit costs. Increased
outpatient utilization reflects an industry-wide trend toward a broader range
of medical procedures being performed without overnight hospital stays, as well
as an increasing customer awareness of and demand for diagnostic procedures
such as magnetic resonance imagings, or MRIs. In addition, improved medical
technology has allowed more complicated medical procedures to be performed on
an outpatient basis rather than on an inpatient (hospitalized) basis,
increasing both outpatient utilization rates and unit costs.
Prescription drug cost increases for the year varied among regions and by
product, but have generally averaged from 16% to 17% in 2001 over 2000. The
cost increases resulted from the introduction of new, higher
40
cost drugs and higher overall utilization as a result of increases in
direct-to-consumer advertising by pharmaceutical companies. In response to
increasing prescription drug costs, we have implemented three-tiered drug
programs and expanded the use of formularies for our members. Three-tiered drug
programs reflect benefit designs that have three co-payment levels which depend
on the drug selected. Generic drugs have the lowest co-payment, brand name
drugs included in the drug formulary have a higher co-payment, and brand name
drugs omitted from the drug formulary have the highest co-payment. Drug
formularies are a list of prescription drugs that have been reviewed and
selected for their quality and efficacy by a committee of practicing physicians
and clinical pharmacists. Through our pharmacy benefit design, we encourage use
of these listed brand name and generic drugs to ensure members receive quality
and cost-effective medication.
Growth in inpatient costs was nearly 10% during 2001, up from low-single
digits in previous years. This increase was due to re-negotiation of provider
contracts and higher overall utilization, particularly for cardiac services
admissions. Hospitals have taken a more aggressive stance in their contracting
with health insurance companies as a result of reduced hospital reimbursements
from Medicare and pressure to recover the costs of additional investments in
new medical technology and facilities.
Administrative expense increased $177.7 million, or 10%, in 2001, which
includes the impacts of our acquisition of BCBS-ME and the sale of our TRICARE
business. Excluding our acquisition of BCBS-ME and the sale of our TRICARE
business, administrative expense increased $194.0 million, or 12%, primarily
due to higher commissions and premium taxes, which vary with premium, higher
salary and benefit costs, additional costs associated with higher membership
and investments in technology. Our administrative expense ratio, calculated
using operating revenue and premium equivalents, decreased 120 basis points
primarily due to operating revenue increasing faster than administrative
expense.
Net investment income increased $37.0 million, or 18%, primarily due to our
higher investment portfolio balances. The higher portfolio balances included
net cash generated from operations, as well as cash generated from improved
balance sheet management, such as quicker collection of receivables and
liquidation of non-strategic assets. Excluding the investment income earned by
BCBS-ME and TRICARE, net investment income increased $31.7 million, or 16%. As
returns on fixed maturity portfolios are dependent on market interest rates and
changes in interest rates are unpredictable, there is no certainty that past
investment performance will be repeated in the future.
Net realized capital gains increased from $25.9 million in 2000 to $60.8
million in 2001. Included in net realized capital gains in 2001 was $65.2
million of gains resulting from restructuring our equity portfolio into fixed
maturity securities and equity index funds in the early to mid third quarter of
2001. This offset $28.9 million of losses on equity securities that we
recognized as other than temporary impairment during the second quarter of
2001. Net realized capital gains from sale of equities decreased $4.8 million,
or 11%, to $38.7 million in 2001 from $43.5 million in 2000. Net realized
capital gains from sale of fixed income securities were $20.7 million in 2001,
while we experienced net realized capital losses of $17.6 million in 2000. Net
gains or losses on investments are influenced by market conditions when an
investment is sold, and will vary from year to year.
Gain on sale of subsidiary operations of $25.0 million relates to the sale
of our TRICARE business on May 31, 2001.
Interest expense increased $5.5 million, or 10%, primarily reflecting the
issuance of our 6.00% Equity Security Units, or Units, on November 2, 2001 and
the commitment fee associated with our new $800.0 million line of credit.
Amortization of intangibles increased $4.4 million, or 16%, from 2000 to
2001, primarily due to amortization expense associated with our acquisition of
BCBS-ME. As we adopted SFAS 142 on January 1, 2002, this standard did not have
any effect on these results. See Note 1 to our audited consolidated financial
statements for additional information.
Demutualization expenses, which are non-recurring, totaled $27.6 million in
2001.
41
Income tax expense increased $81.2 million, or 79%, primarily due to higher
income before taxes. Our effective income tax rate in 2001 was 35.0% and was
31.0% in 2000. Our rate was lower than the statutory effective tax rate in 2000
primarily as a result of changes in our deferred tax valuation allowance. Our
effective tax rate increased in 2001 primarily due to the non-deductibility of
demutualization expenses and a portion of goodwill amortization for income tax
purposes.
Net income increased $116.2 million, or 51%, primarily due to the
improvement in our operating results, net realized capital gains, gain on sale
of subsidiary operations and higher investment income. Excluding the gain on
the sale of our TRICARE business ($16.3 million after tax), net realized gains
on investments and demutualization expenses, net income increased $105.0
million, or 51%.
Midwest
Our Midwest segment is comprised of health benefit and related business for
members in Indiana, Kentucky and Ohio. The following table presents our Midwest
segment's summarized results of operations for the years ended December 31,
2001 and 2000:
2001 2000 % Change
-------- --------------- --------
($ in Millions)
Operating Revenue... $5,093.0 $4,460.5 14%
Operating Gain...... $ 161.5 $ 87.8 84%
Operating Margin.... 3.2% 2.0% 120 bp
Membership (in 000s) 4,854 4,454(1) 9%
--------
(1) Excludes 128,000 TRICARE members.
Operating revenue increased $632.5 million, or 14%, in 2001 due primarily to
premium rate increases and the effect of higher average membership in our Local
Large Group, Small Group and Medicare + Choice businesses.
Operating gain increased $73.7 million, or 84%, resulting in an operating
margin of 3.2% at December 31, 2001, a 120 basis point improvement from the
year ended December 31, 2000. This improvement was primarily due to revenue
growth and effective expense control. Administrative expense increased at a
slower rate than premiums as we gained operating efficiencies and leveraged our
fixed costs over higher membership.
Our Midwest segment assumed a portion of the risk for Anthem Alliance's
TRICARE contract until December 31, 2000. Effective January 1, 2001, Anthem
Alliance reassumed this risk. For the year ended December 31, 2000, our Midwest
segment received $122.1 million of premium income, no administrative fees or
other income, incurred $113.8 million of benefit expense and $7.4 million of
administrative expense, resulting in a $0.9 million operating gain on the
TRICARE contract. We also had 128,000 TRICARE members included in our Midwest
segment's membership at December 31, 2000, and no members at December 31, 2001.
Excluding TRICARE, membership increased 400,000, or 9%, to 4.9 million
members, primarily due to sales in National business, higher BlueCard activity
and favorable retention of business.
East
Our East segment is comprised of health benefit and related business for
members in Connecticut, New Hampshire and Maine. The following table presents
our East segment's summarized results of operations for the years ended
December 31, 2001 and 2000. BCBS-ME is included from its acquisition date of
June 5, 2000.
2001 2000 % Change
-------- -------- --------
($ in Millions)
Operating Revenue... $3,667.3 $2,921.9 26%
Operating Gain...... $ 128.8 $ 103.8 24%
Operating Margin.... 3.5% 3.6% (10) bp
Membership (in 000s) 2,260 2,093 8%
42
Operating revenue increased $745.4 million, or 26%. Excluding our
acquisition of BCBS-ME in June 2000 and the effect of our exit from the
Medicare + Choice business in Connecticut on January 1, 2001, operating revenue
increased $449.0 million, or 20%, in 2001 due to premium rate increases in
group business and higher average membership. Increases in group membership
accounted for most of our increase and were primarily in our Local Large Group
business.
Operating gain increased $25.0 million, or 24%, primarily due to improved
underwriting results in Small Group and Local Large Group businesses, exiting
the Medicare + Choice market in Connecticut, and higher overall membership.
Operating margin decreased 10 basis points primarily due to the relatively
lower margins on our Maine business.
Membership increased 167,000, or 8%, primarily in Local Large Group and
BlueCard businesses.
On January 17, 2002, a subsidiary of Anthem Insurance, Anthem Health Plans
of Maine, Inc., signed a stock purchase agreement to purchase the remaining 50%
ownership interest in Maine Partners Health Plan, Inc. for an aggregate
purchase price of $10.6 million. Subject to the terms and conditions of the
agreement, the transaction is expected to close in the first quarter of 2002.
West
Our West segment is comprised of health benefit and related business for
members in Colorado and Nevada. The following table presents our West segment's
summarized results of operations for the years ended December 31, 2001 and 2000:
2001 2000 % Change
------ ------ --------
($ in Millions)
Operating Revenue... $774.4 $622.4 24%
Operating Gain...... $ 20.1 $ 2.5 704%
Operating Margin.... 2.6% 0.4% 220 bp
Membership (in 000s) 769 595 29%
Operating revenue increased $152.0 million, or 24%, primarily due to higher
premium rates designed to bring our pricing in line with cost of care and
higher membership in National and both Local Large Group and Small Group
businesses.
Operating gain increased $17.6 million, to $20.1 million in 2001, primarily
due to improved underwriting performance as a result of premium rate increases
exceeding cost of care increases and higher average membership, particularly in
our Local Large Group business. This improvement in our operating gain resulted
in a 220 basis point increase in operating margin to 2.6% in 2001.
Membership increased 174,000, or 29%, to 769,000, due to increased BlueCard
activity and higher sales in Local Large Group and Small Group businesses. We
exited the Medicare + Choice market in Colorado effective January 1, 2002. At
December 31, 2001, our Medicare + Choice membership in Colorado was
approximately 6,000. We expect no material effect on operating results from
exiting this market.
We entered into an agreement with Sloan's Lake HMO in Colorado for the
conversion of Sloan's Lake HMO business effective January 1, 2001. The terms of
the agreement include payment to Sloan's Lake for each member selecting our
product at the group's renewal date and continuing as our member for a minimum
of nine months. Through December 31, 2001, we added approximately 35,000
members from Sloan's Lake.
43
Specialty
Our Specialty segment includes our group life and disability, pharmacy
benefit management, dental and vision administration services, and third party
occupational health services. The following table presents our Specialty
segment's summarized results of operations for the years ended December 31,
2001 and 2000:
2001 2000 % Change
------ ------ --------
($ in Millions)
Operating Revenue $396.1 $332.3 19%
Operating Gain... $ 32.9 $ 24.9 32%
Operating Margin. 8.3% 7.5% 80 bp
Operating revenue increased $63.8 million, or 19%, primarily due to higher
revenue at APM. APM's operating revenue grew primarily due to increased mail
order prescription volume and the implementation of APM's pharmacy benefit
programs beginning in 2001 by BCBS-CO/NV and BCBS-ME, and in late 2000 by
BCBS-NH. Mail service membership increased 28%, while retail service membership
decreased 13%. Mail service prescription volume increased 38% and retail
prescription volume increased 31%. This growth more than offset the effect of
the termination of a special funding arrangement with a large life group on
December 31, 2000. Life and disability premiums decreased $28.8 million, or
23%, primarily due to this termination. This group accounted for $35.9 million
of life and disability premiums for 2000 and contributed very low margins to
our Specialty segment's profitability.
Operating gain increased $8.0 million, or 32%, primarily due to increased
mail order prescription volume at APM. Improved APM results, coupled with the
termination of the large life group, resulted in an 80 basis point increase in
our operating margin to 8.3%.
Other
Our Other segment includes various ancillary business units such as
AdminaStar Federal, a subsidiary that administers Medicare Parts A and B
programs in Indiana, Illinois, Kentucky and Ohio, and Anthem Alliance, a
subsidiary that provided the health care benefits and administration in nine
states for active and retired military employees and their dependents under the
Department of Defense's TRICARE program for military families until our TRICARE
business was sold on May 31, 2001. Our Other segment also includes intersegment
revenue and expense eliminations and corporate expenses not allocated to
operating segments. The following table presents the summarized results of
operations for our Other segment for the years ended December 31, 2001 and 2000:
2001 2000 % Change
------ ------ --------
($ in Millions)
Operating Revenue $189.5 $206.4 (8)%
Operating Loss... $(23.8) $(34.9) 32%
Operating revenue decreased $16.9 million, or 8%, to $189.5 million in 2001.
Excluding intersegment operating revenue eliminations of $214.0 million in 2001
and $151.7 million in 2000, operating revenue increased $42.6 million, or 12%,
primarily due to an increase in premiums resulting from the additional risk
assumed as of January 1, 2001, by our TRICARE operations before its sale on May
31, 2001.
Certain corporate expenses are not allocated to our business segments. These
unallocated expenses accounted for $33.0 million in 2001 and $39.9 million in
2000, and primarily included such items as unallocated incentive compensation
associated with better than expected performance. Excluding unallocated
corporate expenses, operating gain was $9.2 million in 2001 versus $5.0 million
in 2000.
44
MEMBERSHIP--YEAR ENDED DECEMBER 31, 2000 COMPARED TO YEAR ENDED
DECEMBER 31, 1999
Our membership data presented below are unaudited and in certain instances
include our estimates of the number of members at the end of the period rounded
to the nearest thousand.
The following table presents membership data by segment, customer type and
funding arrangement as of December 31, 2000 and 1999, comparing both total and
same-store membership. The membership data presented are unaudited and in
certain instances include our estimates of the number of members represented by
each contract at the end of the period, rounded to the nearest thousand. We
define same-store membership as our membership at a given year-end in a segment
or for a particular customer or funding type, after excluding the impact of
members obtained through acquisitions or combinations during such year. As
such, we believe that same-store membership data best captures the rate of
organic growth of our operations year over year.
Membership
Same Total Same Store
Total BCBS-ME Store Total --------- -----------
2000 Acquisition 2000 1999 Change % Change %
----- ----------- ----- ----- ------ -- ------ ----
(In Thousands)
Segment
Midwest.................. 4,582 -- 4,582 4,382 200 5% 200 5%
East..................... 2,093 487 1,606 1,397 696 50 209 15
West..................... 595 -- 595 486 109 22 109 22
----- --- ----- ----- ----- -- --- ----
Total................ 7,270 487 6,783 6,265 1,005 16% 518 8%
===== === ===== ===== ===== == === ====
Customer Type
Local Large Group........ 2,634 278 2,356 2,249 385 17% 107 5%
Small Group.............. 775 62 713 637 138 22 76 12
Individual............... 650 84 566 586 64 11 (20) (3)
National accounts (1).... 2,468 32 2,436 2,106 362 17 330 16
Medicare + Choice........ 106 -- 106 96 10 10 10 10
Federal Employee Program. 407 31 376 362 45 12 14 4
Medicaid................. 102 -- 102 100 2 2 2 2
----- --- ----- ----- ----- -- --- ----
Total without TRICARE.... 7,142 487 6,655 6,136 1,006 16 519 8
TRICARE.................. 128 -- 128 129 (1) (1) (1) (1)
----- --- ----- ----- ----- -- --- ----
Total................ 7,270 487 6,783 6,265 1,005 16% 518 8%
===== === ===== ===== ===== == === ====
Funding Type
Fully insured............ 3,789 360 3,429 3,354 435 13% 75 2%
Self-funded.............. 3,481 127 3,354 2,911 570 20 443 15
----- --- ----- ----- ----- -- --- ----
Total................ 7,270 487 6,783 6,265 1,005 16% 518 8%
===== === ===== ===== ===== == === ====
--------
(1) Includes BlueCard members of 1,320 as of December 31, 2000, and 974 as of
December 31, 1999.
Same-store membership increased 518,000, or 8%, from 1999 to 2000, primarily
due to growth in National business, including a significant increase in
enrollment in BlueCard programs. The 76,000, or 12%, growth in Small Group
business in 2000 reflects our initiatives to increase Small Group membership,
including revised commission structures, product offerings, brand promotion and
enhanced relationships with our brokers.
Medicare + Choice membership increased mostly due to growth in Ohio, where
many competitors have left the market and we are one of the few remaining
companies offering this product. We decided to remain in selected markets for
Medicare + Choice in Ohio because we believe that with a critical mass of
membership in those markets we can achieve satisfactory results. We withdrew
from the Medicare + Choice program in Connecticut effective January 1, 2001,
due to losses in this line of business. At December 31, 2000, membership in the
Medicare + Choice program in Connecticut was 18,000.
45
Individual membership dropped primarily due to a reduction in Medicare
Supplement business in our Midwest region. This block of business, which has
traditionally generated high profit margins, is shrinking due to terminations
of grandfathered policies, primarily mortality related, exceeding new sales.
Effective on January 1, 1992, the Center for Medicare and Medicaid Services, or
CMS, then known as the Health Care Financing Administration, or HCFA, required
that new sales of Medicare Supplement coverages be sold in the form of one of
10 standardized policies, while persons with existing Medicare Supplement
coverages could retain their existing Medicare Supplement products, which
generally had higher profit margins than the new products. Since that time, our
Medicare Supplement membership has, through terminations of grandfathered
policies and sales of new policies, reached the point where at December 31,
2000, approximately 50% of our Medicare Supplement membership in the Midwest
was in the old plans and 50% in the new plans. During 2001, we introduced a
line of competitive Medicare Supplement policies in the Midwest to improve the
growth of this business and we modified the premium rate structures to improve
the attractiveness of these products in the marketplace.
Self-funded membership increased in 2000 primarily due to the increase in
BlueCard membership, while fully insured membership grew primarily as a result
of the growth in our Small Group membership sales.
Our Midwest membership grew in 2000 primarily from the growth in BlueCard
membership discussed above, Local Large Group and National accounts sales. Our
East membership grew primarily due to increased sales of Small Group and growth
in BlueCard. Small Group sales in our East segment increased primarily due to
the withdrawal of two of our largest competitors from the New Hampshire market.
Our West membership growth was primarily due to higher BlueCard membership.
46
RESULTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 2000 COMPARED TO THE YEAR
ENDED DECEMBER 31, 1999
The following table presents our consolidated results of operations for the
years ended December 31, 2000 and 1999:
Change
------------------
2000 1999 $ %
--------- -------- -------- --------
($ in Millions)
Operating revenue and premium equivalents (1)................. $11,800.1 $8,691.6 $3,108.5 36%
========= ======== ======== ========
Premiums...................................................... $ 7,737.3 $5,418.5 $2,318.8 43%
Administrative fees........................................... 755.6 611.1 144.5 24
Other revenue................................................. 50.6 51.0 (0.4) (1)
--------- -------- -------- --------
Total operating revenue.................................... 8,543.5 6,080.6 2,462.9 41
Benefit expense............................................... 6,551.0 4,582.7 1,968.3 43
Administrative expense........................................ 1,808.4 1,469.4 339.0 23
--------- -------- -------- --------
Total operating expense.................................... 8,359.4 6,052.1 2,307.3 38
--------- -------- -------- --------
Operating gain................................................ 184.1 28.5 155.6 NM
Net investment income......................................... 201.6 152.0 49.6 33
Net realized gains on investments............................. 25.9 37.5 (11.6) (31)
Interest expense.............................................. 54.7 30.4 24.3 80
Amortization of intangibles................................... 27.1 12.7 14.4 113
Endowment of non-profit foundations........................... -- 114.1 (114.1) (100)
--------- -------- -------- --------
Income from continuing operations before taxes and minority
interest 329.8 60.8 269.0 NM
Income taxes.................................................. 102.2 10.2 92.0 NM
Minority interest (credit).................................... 1.6 (0.3) 1.9 NM
--------- -------- -------- --------
Income from continuing operations............................. 226.0 50.9 175.1 NM
Discontinued operations, net of income taxes
Loss on disposal of discontinued operations................ -- (6.0) 6.0 NM
--------- -------- -------- --------
Net income.................................................... $ 226.0 $ 44.9 $ 181.1 NM
========= ======== ======== ========
Benefit expense ratio......................................... 84.7% 84.6% 10 bp
Administrative expense ratio:
Calculated using operating revenue......................... 21.2% 24.2% (300) bp
Calculated using operating revenue and premium equivalents 15.3% 16.9% (160) bp
Operating margin.............................................. 2.2% 0.5% 170 bp
--------
(1) Self-funded claims included for the year ended December 31, 2000, were
$3,256.6 million and for the year ended December 31,1999, were $2,611.0
million.
47
Premiums increased by $2,318.8 million, or 43%, to $7,737.3 million in 2000
primarily due to our acquisitions of BCBS-NH and BCBS-CO/NV in the fourth
quarter of 1999 and BCBS-ME in June 2000. Excluding these acquisitions,
premiums increased by $870.5 million, or 16%, primarily due to premium rate
increases and higher membership in our Midwest and East segments. Our Midwest
premiums increased $473.8 million, or 13%, while our East premiums increased
$353.4 million, or 25%. Midwest premiums increased primarily due to higher
membership and premium rate increases in our group accounts (both Local Large
Group and Small Group) and higher membership in Medicare + Choice. East
premiums increased primarily due to premium rate increases and higher
membership in group business, as well as the conversion of the State of
Connecticut account to fully insured from self-funded status in mid-1999.
Administrative fees increased $144.5 million, or 24%, from $611.1 million in
1999 to $755.6 million in 2000, with $135.3 million of this increase resulting
from our acquisitions of BCBS-NH, BCBS-CO/NV and BCBS-ME. In July 1999, we sold
two non-strategic businesses which had combined 1999 revenues of $12.8 million.
Excluding these acquisitions and divestitures, administrative fees increased
$20.6 million, or 3%, primarily from membership growth in National account
business. Excluding these acquisitions and divestitures, other revenue
increased $6.0 million, or 14%, primarily due to Anthem Alliance assuming
additional administrative functions under the TRICARE program.
Benefit expense increased $1,968.3 million, or 43%, in 2000, primarily due
to acquisitions. Excluding our acquisitions, benefit expense increased $729.9
million, or 16%, due to increasing cost of care and the effect of higher
average membership throughout the year. Cost of care trends were driven
primarily by higher utilization of outpatient services and higher prescription
drug costs. Our benefit expense ratio increased 10 basis points from 84.6% in
1999 to 84.7% in 2000 due to our acquisition of BCBS-ME in 2000, which had a
higher benefit expense ratio than our other operations. Excluding acquisitions,
our benefit expense ratio remained constant at 84.6% in 2000 and 1999.
Outpatient cost increases in our segments ranged from 15% to 20% in 2000
over 1999. These increases have resulted from both increased utilization and
higher unit costs. Increased outpatient utilization reflects an industry-wide
trend toward a broader range of medical procedures being performed without
overnight hospital stays, as well as an increasing customer awareness of and
demand for diagnostic procedures such as MRIs. In addition, improved medical
technology has allowed more complicated medical procedures to be performed on
an outpatient basis rather than on an inpatient (hospitalized) basis,
increasing both outpatient utilization rates and unit costs.
Prescription drug cost increases have varied among regions and by product,
but generally ranged from 12% to 20% in 2000 over 1999, primarily due to
introduction of new, higher cost drugs as well as higher overall utilization as
a result of increases in direct-to-consumer advertising by pharmaceutical
companies. In response to increasing prescription drug costs, we implemented a
three-tiered drug program and expanded the use of formularies for our members.
Administrative expense increased $339.0 million, or 23%, in 2000, primarily
due to our acquisitions of BCBS-NH, BCBS-CO/NV and BCBS-ME. Administrative
expense in 1999 included $41.9 million resulting from our settlement with the
Office of Inspector General, or OIG, Health and Human Services to resolve an
investigation into alleged misconduct in the Medicare fiscal intermediary
operations in Connecticut during periods preceding Blue Cross and Blue Shield
of Connecticut's, or BCBS-CT's, merger with Anthem. Excluding acquisitions and
the effect of the OIG settlement, administrative expense increased $75.6
million, or 5%, primarily due to higher commissions and premium taxes, which
vary with premium and higher incentive compensation costs. Additionally, in
December 2000, we made a $20.0 million contribution to Anthem Foundation, Inc.,
which is a charitable and educational not-for-profit corporation. Excluding
these costs, administrative expense would have been down slightly in 2000 due
to productivity improvements resulting from our ongoing efforts to identify and
implement more efficient processes in our customer service and claims
operations.
48
Our administrative expense ratio decreased 160 basis points primarily due to
operating revenues increasing faster than administrative expense. Excluding
acquisitions and the effect of the OIG settlement, our administrative expense
ratio would have decreased 120 basis points.
Net investment income increased $49.6 million, or 33%, primarily due to
higher rates of investment returns earned on our fixed income portfolio and
higher portfolio balances. The higher portfolio balances included net cash
resulting from acquisitions, net proceeds of $295.9 million from our surplus
note issuance in January 2000, as well as cash generated from operations and
from improved balance sheet management, such as quicker collection of
receivables and sales of non-core assets. Excluding acquisitions, net
investment income increased $24.9 million, or 17%.
Net realized capital gains decreased $11.6 million, or 31%, in 2000.
Included in net realized capital gains in 1999 are capital losses of $20.5
million related to our sale of several non-core businesses. Excluding the
effect of the capital losses on dispositions, net realized capital gains
decreased $32.1 million, or 55%, primarily due to lower turnover in our
portfolio resulting in fewer capital gains. Net realized capital gains from
sale of equities decreased 37% to $43.5 million in 2000 from $69.3 million in
1999. Net realized capital losses from sale of fixed income securities
increased 56% to a $17.6 million loss in 2000 from a $11.3 million loss in
1999. Net gains or losses on investments are influenced by market conditions
when we sell an investment, and will vary from year to year as sales of
investments are determined by our cash flow needs, as well as our portfolio
allocation decisions.
Interest expense increased $24.3 million, or 80%, primarily reflecting
increased net borrowings following our private placement of $300.0 million
principal amount of surplus notes in January 2000. The proceeds of those
surplus notes were used to retire short-term borrowings which had been incurred
to finance our purchases of BCBS-NH and BCBS-CO/NV in late 1999 and to bolster
liquidity as a part of our Year 2000 readiness effort.
Amortization of intangibles increased $14.4 million, or 113%, primarily due
to amortization of goodwill associated with our acquisitions of BCBS-NH,
BCBS-CO/NV and BCBS-ME.
The payment to non-profit foundations of $114.1 million in 1999 represented
our settlement of charitable asset claims brought by the Attorneys General of
the states of Ohio, Kentucky and Connecticut.
Income before taxes and minority interest increased $269.0 million as a
result of improvement in our operating results in all business segments,
partially offset by the non-recurring endowment of non-profit foundations
during 1999.
Income tax expense increased $92.0 million due to higher income before
taxes. Our effective income tax rate in 2000 was 31.0% and in 1999 was 16.7%.
These rates were lower than the statutory effective tax rate in both periods
primarily as a result of changes in our deferred tax valuation allowance.
Excluding the after-tax effect of payments to non-profit foundations in
1999, net income increased $109.3 million, or 94%, primarily due to our
improvement in operating results, acquisitions and higher investment income.
Midwest
Our Midwest segment is comprised of health benefit and related business for
members in Indiana, Kentucky and Ohio. The following table presents our Midwest
segment's summarized results of operations for the years ended December 31,
2000 and 1999:
2000 1999 % Change
-------- -------- --------
($ in Millions)
Operating Revenue... $4,460.5 $3,975.5 12%
Operating Gain...... $ 87.8 $ 36.4 141%
Operating Margin.... 2.0% 0.9% 110 bp
Membership (in 000s) 4,582 4,382 5%
49
Operating revenue increased $485.0 million, or 12%, in 2000 primarily due to
premium rate increases in group (both Local Large Group and Small Group) and
Medicare + Choice businesses, and the effect of higher average membership
throughout the year. Medicare + Choice premium rates increased due to both the
aging of our insured Medicare + Choice population in 2000 and a 3% rate
increase from CMS at the beginning of 2000. We receive higher premiums from CMS
as our Medicare + Choice population ages. Medicare + Choice membership
increased 28% due to reduced competition in the Ohio marketplace as a result of
competitors discontinuing their participation in the Medicare + Choice product.
Operating gain increased $51.4 million, or 141%, resulting in an operating
margin of 2.0%, a 110 basis point improvement from the year ended December 31,
1999. Operating gain increased primarily due to our growth in premiums and
improved underwriting results.
Membership increased 5% to 4.6 million members, primarily due to growth in
our National, BlueCard and Local Large Group businesses.
East
Our East segment is comprised of health benefit and related business for
members in Connecticut, New Hampshire and Maine. The following table presents
our East segment's summarized results of operations for the years ended
December 31, 2000 and 1999. BCBS-NH is included from its October 27, 1999,
acquisition date and BCBS-ME is included from its acquisition date of June 5,
2000.
2000 1999 % Change
-------- -------- --------
($ in Millions)
Operating Revenue.... $2,921.9 $1,598.9 83%
Operating Gain (Loss) $ 103.8 $ (0.9) NM
Operating Margin..... 3.6% (0.1)% 370 bp
Membership (in 000s). 2,093 1,397 50%
Operating revenue increased $1,323.0 million, or 83%, primarily due to an
increase in premiums, resulting from our acquisitions of BCBS-NH in October
1999 and BCBS-ME in June 2000 and the conversion of the State of Connecticut
account from self-funded to fully insured status in July 1999. Due to the State
of Connecticut's conversion, 2000 included a full year of premiums versus six
months of premiums (July through December) in 1999. For the first six months of
1999, we recorded administrative fee income for the State of Connecticut
account. Excluding the effect of acquisitions and the conversion of the State
of Connecticut account, premiums increased $155.7 million, or 12%, in 2000 due
to premium rate increases in our group business and higher average membership.
Operating gain increased $104.7 million and our operating margin increased
370 basis points as the effect of disciplined pricing, expense control and
membership growth all contributed to the improvement in operating earnings.
Additionally, administrative expense in 1999 included $41.9 million resulting
from our settlement with the OIG, Health and Human Services to resolve an
investigation into alleged misconduct in the Medicare fiscal intermediary
operations in Connecticut during periods preceding BCBS-CT's merger with Anthem.
Membership increased 50% to 2.1 million in 2000 primarily due to our
acquisition of BCBS-ME and growth in both our Local Large Group and Small Group
and our National businesses. Excluding our acquisition of BCBS-ME, membership
grew 15%.
50
West
Our West segment is comprised of health benefit and related business for
members in Colorado and Nevada, and it was established following our
acquisition of BCBS-CO/NV on November 16, 1999. Results of this segment have
been included in our consolidated results from that date forward. Accordingly,
our 1999 results include approximately one and one-half months of activity,
while our 2000 results include 12 months of activity. The following table
presents our West segment's summarized results of operations for the years
ended December 31, 2000 and 1999:
2000 1999 % Change
------ ----- --------
($ in Millions)
Operating Revenue.... $622.4 $72.7 NM
Operating Gain (Loss) $ 2.5 $(3.5) NM
Operating Margin..... 0.4% (4.8)% 520 bp
Membership (in 000s). 595 486 22%
Operating results in our West segment improved in 2000, primarily due to
reduced administrative expense as a result of integration savings and cost
reduction programs as well as higher membership. These cost reduction programs
included reduced staffing levels and improved productivity in customer service
and claims operations.
Our membership increased 22% due to higher sales and better retention of
business, which was the result of improved customer service and a more
comprehensive product portfolio.
Specialty
Our Specialty segment includes our group life and disability, pharmacy
benefit management, dental and vision administration services and third party
occupational health services operations. The following table presents our
Specialty segment's summarized results of operations for the years ended
December 31, 2000 and 1999:
2000 1999 % Change
------ ------ --------
($ in Millions)
Operating Revenue $332.3 $249.1 33%
Operating Gain... $ 24.9 $ 16.2 54%
Operating Margin. 7.5% 6.5% 100 bp
Operating revenue increased $83.2 million, or 33%, primarily due to an
increase in life and disability premiums resulting from our acquisition of
Rocky Mountain Life, or RML, an affiliate of BCBS-CO/NV, higher life sales in
our Midwest region and increased administrative fees due to our acquisitions of
Occupational Healthcare Management Services, Inc., a worker's compensation
third party administration company, and Health Management Systems, Inc., a
dental benefits third party administration company, both subsidiaries of
BCBS-CO/NV. Additionally, other revenue increased primarily from APM. In 2000,
APM began to provide pharmacy benefit management services to both BCBS-NH and
Anthem Alliance. APM's revenues also increased due to higher mail and retail
prescription volumes in line with increased membership and utilization. Mail
service membership increased 26% while retail service membership increased 80%.
Mail service prescription volume increased 15% and retail prescription volume
increased 39%.
Operating gain increased $8.7 million, or 54%, while operating margin
increased 100 basis points to 7.5% in 2000, primarily due to improved
underwriting results from our life and disability products and from increased
APM volume, following its introduction as the pharmacy benefit manager for
recently acquired membership.
Other
Our Other segment includes various ancillary business units such as
AdminaStar Federal, a subsidiary that administers Medicare Parts A and B
programs in Indiana, Illinois, Kentucky and Ohio, and Anthem Alliance, a
subsidiary that provided the health care benefits and administration in nine
states for active and retired military employees and their dependents under the
Department of Defense's TRICARE program for military families. We sold the
TRICARE business on May 31, 2001. Our Other segment also includes intersegment
revenue and
51
expense eliminations and corporate expenses not allocated to operating
segments. The following table presents the summarized results of operations for
our Other segment for the years ended December 31, 2000 and 1999:
2000 1999 % Change
------ ------ --------
($ in Millions)
Operating Revenue $206.4 $184.4 12%
Operating Loss... $(34.9) $(19.7) NM
Operating revenue increased $22.0 million, or 12%, from 1999. Excluding
intersegment operating revenue eliminations of $151.7 million in 2000 and
$111.2 million in 1999, operating revenue increased $62.5 million, or 21%,
primarily due to higher premiums at Anthem Alliance. These amounts were
received in connection with our global settlement related to a series of bid
price adjustments, requests for equitable adjustments and change orders filed
during the past two years with the Department of Defense under our TRICARE
program.
Certain corporate expenses are not allocated to our business segments. These
unallocated expenses accounted for $39.9 million in 2000 and $26.7 million in
1999, and primarily included such items as unallocated incentive compensation
and other corporate expenses. Excluding unallocated corporate expenses,
operating gain was $5.0 million in 2000, $2.0 million, or 29%, less than in
1999. Most of the decrease was due to higher non-reimbursable administrative
expense at AdminaStar Federal.
INCOME TAXES
Statement of Financial Accounting Standards No. 109, "Accounting for Income
Taxes," requires, among other things, the separate recognition, measured at
currently enacted tax rates, of deferred tax assets and deferred tax
liabilities for the tax effect of temporary differences between financial
reporting and tax reporting. A valuation allowance must be established for
deferred tax assets if it is "more likely than not" that all or a portion may
be unrealized. See Note 13 to our audited consolidated financial statements for
additional information.
We believe a net deferred tax liability of $63.6 million properly reflects
our net future tax obligation as of December 31, 2001. This net deferred tax
liability is comprised of a gross tax asset of $467.1 million, less a valuation
allowance of $250.4 million and a deferred tax liability of $280.3 million. We
believe that our valuation allowance is sufficient and at each quarterly
financial reporting date, we evaluate each of our gross deferred tax assets
based on each of the five key elements that follow:
. the types of temporary differences making up our gross deferred tax asset;
. the anticipated reversal periods of those temporary differences;
. the amount of taxes paid in prior periods and available for a carry-back
claim;
. the forecasted near term future taxable income; and
. any significant other issues impacting the likely realization of the
benefit of the temporary differences.
As an entity taxed under Internal Revenue Code Section 833, at December 31,
2001, we have tax temporary differences of approximately $199.7 million for net
operating loss carry-forwards and alternative minimum tax and other credits.
Due to uncertainty of the realization of these deferred tax assets, we have
provided a valuation allowance included above of $188.3 million for these
amounts. This amount is part of the total valuation allowance of $250.4 million
at December 31, 2001.
Further, because of challenges including industry-wide issues regarding both
the timing and the amount of deductions, we have recorded reserves for probable
exposure. To the extent we prevail in matters we have accrued for or are
required to pay more than reserved, our future effective tax rate in any given
period could be materially impacted. In addition, the Internal Revenue Service
is currently examining two of our five open tax years.
52
LIABILITY FOR UNPAID LIFE, ACCIDENT AND HEALTH CLAIMS
The most significant accounting estimate in our consolidated financial
statements is our liability for unpaid life, accident and health claims. We
establish liabilities for pending claims and claims incurred but not reported.
We determine the amount of this liability for each of our business segments by
following a detailed process that entails using both historical claim payment
patterns as well as emerging medical cost trends to project claim liabilities.
We also look back to assess how our prior year's estimates developed and to the
extent appropriate, incorporate those findings in our current year projections.
Since the average life of a claim is just a few months, current medical cost
trends and utilization patterns are very important in establishing this
liability.
In addition, the liability for unpaid life, accident and health claims
includes reserves for premium deficiency losses which we recognize when it is
probable that expected claims and loss adjustment expenses will exceed future
premiums on existing health and other insurance contracts without consideration
of investment income. For purposes of premium deficiency losses, contracts are
deemed to be either short or long duration and are grouped in a manner
consistent with our method of acquiring, servicing and measuring the
profitability of such contracts.
GOODWILL AND OTHER INTANGIBLE ASSETS--FAS 141 AND FAS 142
Statement of Financial Accounting Standards No. 141, "Business
Combinations," and Statement of Accounting Standards No. 142, "Goodwill and
Other Intangible Assets," were issued in July 2001. FAS 141 requires business
combinations completed after June 30, 2001, to be accounted for using the
purchase method of accounting. It also specifies the types of acquired
intangible assets that are required to be recognized and reported separately
from goodwill. Under FAS 142, goodwill and other intangible assets (with
indefinite lives) will not be amortized but will be tested for impairment at
least annually. We adopted FAS 142 on January 1, 2002, and we do not expect to
record an impairment charge upon adoption. See Note 1 to our audited
consolidated financial statements for additional information.
LIQUIDITY AND CAPITAL RESOURCES
Our cash receipts consist primarily of premiums and administrative fees,
investment income and proceeds from the sale or maturity of our investment
securities. Cash disbursements result mainly from policyholder benefit
payments, administrative expenses and taxes. We also use cash for purchases of
investment securities, capital expenditures and acquisitions. Cash outflows can
fluctuate because of uncertainties regarding the amount and timing of
settlement of our liabilities for benefit claims and the timing of payments of
operating expenses. Our investment strategy is to make prudent investments,
consistent with insurance statutes and other regulatory requirements, with the
principle of preserving our asset base. Cash inflows could be adversely
impacted by general business conditions including health care costs increasing
more than premium rates, our ability to maintain favorable provider agreements,
reduction in enrollment, changes in federal and state regulation, litigation
risks and competition. We believe that cash flow from operations, together with
the investment portfolio, will continue to provide sufficient liquidity to meet
general operations needs, special needs arising from changes in financial
position and changes in financial markets. We also have lines of credit
totaling $935.0 million and a $300.0 million commercial paper program to
provide additional liquidity. We have made no borrowings under these
facilities. Total borrowings under these facilities cannot exceed $935.0
million because borrowing under either facility reduces availability under the
other facility.
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
Net cash flow provided by operating activities was $654.6 million for the
year ended December 31, 2001, and $684.5 million for the year ended December
31, 2000, a decrease of $29.9 million, or 4%. In both 2001 and 2000, net cash
flow provided by operating activities was impacted by better balance sheet
management resulting from the conversion of certain operating assets, such as
receivables and investments in non-strategic assets, to cash. As the continuing
focus on balance sheet management in order to maximize invested assets began in
early 2000, our cash flow provided by operating activities in 2000 is unusually
high.
53
Net cash used in investing activities was $498.1 million for the year ended
December 31, 2001, and $761.1 million for the year ended December 31, 2000, a
decrease of $263.0 million, or 35%. This decrease was due primarily to our
having directed our investment managers to maintain greater liquidity at
December 31, 2001, than at December 31, 2000. In part this liquidity will be
necessary to fund the purchase of BCBS-KS, pending the outcome of the appeal of
the Kansas Insurance Commissioner's decision (see Note 21 to our audited
consolidated financial statements). In 2001 we received cash for the sale of
our TRICARE operations, while in 2000 we used additional cash to purchase
BCBS-ME.
Net cash provided by financing activities was $46.6 million for the year
ended December 31, 2001, and $75.5 million for the year ended December 31,
2000, a decrease of $28.9 million, or 38%. Our 2000 financing activities
consisted of $295.9 million net proceeds received from the issuance of $300.0
million of surplus notes on a discounted basis less $220.4 million repayment of
bank debt.
On November 2, 2001, Anthem Insurance Companies, Inc., or Anthem Insurance,
converted from a mutual insurance company to a stock insurance company in a
process called demutualization. On the date of the demutualization, all
membership interests in Anthem Insurance were extinguished and the eligible
statutory members of Anthem Insurance were entitled to receive consideration in
the form of Anthem Inc.'s, or Anthem's, common stock or cash, as provided in
the demutualization.
The demutualization required an initial public offering of common stock and
provided for other capital raising transactions on the effective date of the
demutualization. On November 2, 2001, Anthem completed an initial public
offering of 55.2 million shares of common stock at an initial public offering
price of $36.00 per share. The shares issued in the initial public offering are
in addition to 48.1 million shares of common stock which were distributed to
eligible statutory members in the demutualization. This number may ultimately
vary when all distribution issues are finalized.
Concurrent with our initial public offering of common stock, we issued 4.6
million 6.00% Equity Security Units. Each Unit contains a purchase contract
under which the holder agrees to purchase, for $50.00, shares of common stock
of Anthem on November 15, 2004, and a 5.95% subordinated debenture. The number
of shares to be purchased will be determined based on the average trading price
of Anthem common stock at the time of settlement. In addition, we will make
quarterly contract fee payments on the purchase contracts at the annual rate of
0.05% of the stated amount of $50.00 per purchase contract, subject to our
rights to defer these payments.
After an underwriting discount and other offering expenses, net proceeds
from our common stock offering were approximately $1,890.4 million (excluding
demutualization expenses of $27.6 million). After underwriting discount and
expenses, net proceeds from our Units offering were approximately $219.8
million. In December 2001, proceeds from our common stock and Units offerings
in the amount of $2,063.6 million were used to fund payments to eligible
statutory members of Anthem Insurance who received cash instead of common stock
in our demutualization.
Year Ended December 31, 2000 Compared to Year Ended December 31, 1999
Net cash flow provided by operating activities was $684.5 million in 2000
and $219.8 million in 1999, an increase of $464.7 million, or 211%. Significant
growth occurred in the amount of net income, increased depreciation and
amortization expense related to acquisitions, amortization of a new claims and
administration system in our Midwest region and better balance sheet management
resulting from our conversion of certain operating assets, such as receivables
and investments in non-strategic assets, to cash. These activities contributed
$256.4 million of additional operating cash in 2000. The year 1999 included the
following non-recurring disbursements of $156.0 million: payments for the
settlement of charitable asset claims in the states of Ohio, Kentucky and
Connecticut and the settlement with the OIG, Health and Human Services, with
respect to BCBS-CT.
54
Net cash used in investing activities was $761.1 million in 2000 and $356.8
million in 1999, an increase of $404.3 million, or 113%, primarily from our
increased operating cash flow in 2000. Additionally, the net cash we paid to
acquire BCBS-ME and other purchase price adjustments paid with respect to prior
acquisitions in 2000 resulted in a decrease of approximately $161.7 million in
cash used for investing activities, as compared to 1999 when we purchased
BCBS-NH and BCBS-CO/NV.
Net cash provided by financing activities was $75.5 million in 2000 and
$220.1 million in 1999, a decrease of $144.6 million or 66%. The cash provided
in 2000 was the net proceeds received from our issuance of $295.9 million of
surplus notes on a discounted basis less $220.4 million repayment of bank debt.
Future Liquidity
Additional future liquidity needs may include acquisitions, operating
expenses, common stock repurchases and capital contributions to our
subsidiaries and will include interest and contract fee payments on our Units.
We anticipate that we will purchase BCBS-KS with cash flow from current
operations, pending the outcome of the appeal of the Kansas Insurance
Commissioner's decision (see Note 21 to our audited consolidated financial
statements). We plan to utilize all or any combination of the following to fund
our liquidity needs: cash flow from operations, our investment portfolio, new
borrowings under our credit facilities, and future equity and debt offerings.
Our source of liquidity would be determined at the time of need, based on
market conditions at that time. For additional information on our future debt
and lease commitments, see Notes 6 and 15 to our audited consolidated financial
statements.
Investment Portfolio
Our investment portfolio is carried at fair value. As a result, we evaluate
our investment securities on a quarterly basis, using both quantitative and
qualitative factors, to determine whether a decline in value is other than
temporary. If any declines are determined to be other than temporary, we charge
the losses to income. At December 31, 2001, we had gross unrealized gains of
$90.4 million and gross unrealized losses of $18.4 million, none of which were
deemed to be other than temporary.
Dividends from Subsidiaries
The ability of our licensed insurance company subsidiaries to pay dividends
to their parent companies is limited by regulations in their respective states
of domicile. Generally, dividends in any 12-month period are limited to the
greater or lesser (depending on state statute) of the prior year's statutory
net income or 10% of statutory surplus. Dividends in excess of this amount are
classified as extraordinary and require prior approval of the respective
departments of insurance. Further, an insurance company may not pay a dividend
unless, after such payment, its surplus is reasonable in relation to its
outstanding liabilities and adequate to meet its financial needs, as determined
by the department of insurance.
In connection with our acquisitions of BCBS-ME and BCBS-NH, further
limitations were imposed on their ability to pay dividends. Until June 2005,
BCBS-ME may not declare any dividend without the prior approval of the
Department of Insurance of Maine. BCBS-NH could not pay any dividends for as
long as it continued to use certain favorable statutory accounting practices
permitted by the New Hampshire Department of Insurance before our acquisition.
Such practices permitted by the New Hampshire Department of Insurance had no
effect on our consolidated financial statements. The application of these
permitted statutory accounting practices have been discontinued subsequent to
December 31, 2001. The maximum dividend payable to Anthem Insurance from its
licensed insurance company subsidiaries without prior approval in 2001 was
approximately $163.0 million. The dividends paid by such regulated subsidiaries
in 2001 to Anthem Insurance were $368.1 million, which includes some
extraordinary dividends. The amount of dividends planned to be paid by Anthem
Insurance to Anthem in 2002 is $400.0 million. Pending approval of the Indiana
Department of Insurance, this 2002 dividend is expected to be paid by the end
of the first quarter of 2002, and will be classified as an ordinary dividend.
55
Credit Facilities and Commercial Paper
On November 5, 2001, Anthem and Anthem Insurance entered into two new
unsecured revolving credit facilities totaling $800.0 million. Anthem is
jointly and severally liable for all borrowings under the facilities. Anthem
also will be permitted to be a borrower under the facilities, if the Indiana
Insurance Commissioner approves Anthem Insurance's joint liability for Anthem's
obligations under the facilities. Borrowings under these facilities bear
interest at rates, as defined in the agreements, which generally provide for
three different interest rate alternatives. One facility, which provides for
borrowings of up to $400.0 million, expires as of November 5, 2006. The other
facility, which provides for borrowings of up to $400.0 million, expires as of
November 4, 2002. Any amount outstanding under this facility as of November 4,
2002 (other than amounts which bear interest rates determined by a competitive
bid process) may be converted into a one-year term loan at the option of Anthem
and Anthem Insurance. Each credit agreement requires Anthem to maintain certain
financial ratios and contains minimal restrictive covenants. Availability under
these facilities is reduced by the amount of any commercial paper outstanding.
Upon execution of these facilities, Anthem Insurance terminated its prior
$300.0 million unsecured revolving facility. No amounts were outstanding under
the current or prior facilities as of December 31, 2001 or 2000 or during the
years then ended. During February, 2002, Anthem and Anthem Insurance entered
into two new agreements allowing aggregate additional borrowings of $135.0
million.
In addition to the revolving credit facilities described above, Anthem
Insurance currently has a $300.0 million commercial paper program available for
general corporate purposes. Commercial paper notes are short term senior
unsecured notes, with a maturity not to exceed 270 days from date of issuance.
When issued, the notes bear interest at current market rates. Availability
under the commercial paper program is reduced by the amount of any borrowings
outstanding under our revolving credit agreements. There were no commercial
paper notes outstanding at December 31, 2001 or 2000.
Stock Repurchase Program
Our Board of Directors approved a common stock repurchase program under
which our management has been authorized to purchase up to $400.0 million worth
of shares from time to time, subject to business and market conditions. Shares
may be repurchased in the open market and in negotiated transactions for a
period of twelve months beginning February 6, 2002. During 2002, shares
outstanding may be affected by share repurchases.
Risk-Based Capital
Our subsidiaries' states of domicile have statutory risk-based capital, or
RBC, requirements for health and other insurance companies based on the RBC
Model Act. These RBC requirements are intended to assess the capital adequacy
of life and health insurers, taking into account the risk characteristics of an
insurer's investments and products. The RBC Model Act sets forth the formula
for calculating the RBC requirements which are designed to take into account
asset risks, insurance risks, interest rate risks and other relevant risks with
respect to an individual insurance company's business. In general, under these
laws, an insurance company must submit a report of its RBC level to the state
insurance department or insurance commissioner, as appropriate, as of the end
of the previous calendar year.
Risk-based capital standards will be used by regulators to set in motion
appropriate regulatory actions relating to insurers that show indications of
weak or deteriorating conditions. It also provides an additional standard for
minimum capital requirements that companies should meet to avoid being placed
in rehabilitation or liquidation.
Anthem's risk based capital as of December 31, 2001, continues to be
substantially in excess of all mandatory RBC thresholds.
56
This management's discussion and analysis contains certain forward-looking
information. Words such as "expect(s)", "feel(s)", "believe(s)", "will", "may",
"anticipate(s)", "estimate(s)", "should", "intend(s)" and similar expressions
are intended to identify forward-looking statements. Such statements are
subject to known and unknown risks and uncertainties that could cause actual
results to differ materially from those projected. These risks and
uncertainties may include: trends in healthcare costs and utilization rates;
our ability to secure sufficient premium rate increases; competitor pricing
below market trends of increasing costs; increased government regulation of
health benefits and managed care; significant acquisitions or divestitures by
major competitors; introduction and utilization of new prescription drugs and
technology; a downgrade in our financial strength ratings; litigation targeted
at health benefits companies; our ability to contract with providers consistent
with past practice; and general economic downturns. Readers are cautioned not
to place undue reliance on these forward-looking statements that speak only as
of the date hereof. We undertake no obligation to republish revised
forward-looking statements to reflect events or circumstances after the date
hereof or to reflect the occurrence of unanticipated events.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
As a result of our investing and borrowing activities, we are exposed to
financial market risks, including those resulting from changes in interest
rates and changes in equity market valuations. Potential impacts discussed
below are based upon sensitivity analyses performed on Anthem's financial
positions as of December 31, 2001. Actual results could vary significantly from
these estimates. Our primary objective is the preservation of the asset base
and the maximization of total return given an acceptable level of risk.
Our portfolio is exposed to three primary sources of risk: interest rate
risk, credit risk, and market valuation risk for equity holdings.
The primary risks associated with our fixed maturity securities are credit
quality risk and interest rate risk. Credit quality risk is defined as the risk
of a credit downgrade to an individual fixed income security and the potential
loss attributable to that downgrade. We manage this risk through our investment
policy, which establishes credit quality limitations on the overall portfolio
as well as dollar limits of our investment in securities of any individual
issuer. Since we are advised immediately of circumstances surrounding credit
rating downgrades, we are able to promptly avoid or minimize exposure to losses
by selling the subject security. The result is a well-diversified portfolio of
fixed income securities, with an average credit rating of approximately
double-A. Interest rate risk is defined as the potential for economic losses on
fixed-rate securities, due to a change in market interest rates. Our fixed
maturity portfolio consists exclusively of U.S. dollar-denominated assets,
invested primarily in U.S. government securities, corporate bonds, asset-backed
bonds and mortgage-related securities, all of which represent an exposure to
changes in the level of market interest rates. We manage interest rate risk by
maintaining a duration commensurate with our insurance liabilities and
shareholder's equity. Additionally, we have the capability of holding any
security to maturity, which would allow us to realize full par value. Our
investment policy prohibits use of derivatives to manage interest rate risk.
Our portfolio consists of corporate securities (approximately 36% of the
total fixed income portfolio at December 31, 2001) which are subject to
credit/default risk. In a declining economic environment, corporate yields will
usually increase prompted by concern over the ability of corporations to make
interest payments, thus causing a decrease in the price of corporate
securities, and the decline in value of the corporate fixed income portfolio.
This risk is managed externally by our money managers--through fundamental
credit analysis, diversification of issuers and industries, and an average
credit rating of the corporate fixed income portfolio of approximately double-A.
Our equity portfolio is exposed to the volatility inherent in the stock
market, driven by concerns over economic conditions, earnings and sales growth,
inflation and consumer confidence. These systematic risks cannot be managed
through diversification alone. However, more routine risks, such as
stock/industry specific risks, are managed by investing in index mutual funds
that replicate the risk and performance of the S&P 500 and S&P 400 indices,
resulting in a diversified equity portfolio.
57
All of our current investments are classified as available-for-sale. As of
December 31, 2001, approximately 95% of these were fixed maturity securities.
Market risk is addressed by actively managing the duration, allocation and
diversification of our investment portfolio. We have evaluated the impact on
the fixed income portfolio's fair value considering an immediate 100 basis
point change in interest rates. A 100 basis point increase in interest rates
would result in an approximate $194.6 million decrease in fair value, whereas a
100 basis point decrease in interest rates would result in an approximate
$190.7 million increase in fair value. As of December 31, 2001, no portion of
our fixed income portfolio was invested in non-US dollar denominated
investments.
We also maintain a diverse portfolio of large capitalization equity
securities. An immediate 10% decrease in each equity investment's value,
arising from market movement, would result in a fair value decrease of $18.9
million. Alternatively, an immediate 10% increase in each equity investment's
value, attributable to the same factor, would result in a fair value increase
of $18.9 million. No portion of our equity portfolio was invested in non-US
dollar denominated investments as of December 31, 2001. As of December 31,
2001, we held no derivative financial or commodity-based instruments.
58
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
ANTHEM, INC.
CONSOLIDATED FINANCIAL STATEMENTS
Years ended December 31, 2001, 2000 and 1999
Contents
Report of Independent Auditors................. 60
Audited Consolidated Financial Statements:
Consolidated Balance Sheets.................... 61
Consolidated Statements of Income.............. 62
Consolidated Statements of Shareholders' Equity 63
Consolidated Statements of Cash Flows.......... 64
Notes to Consolidated Financial Statements..... 65
59
REPORT OF INDEPENDENT AUDITORS
Shareholders and Board of Directors
Anthem, Inc.
We have audited the accompanying consolidated balance sheets of Anthem, Inc.
as of December 31, 2001 and 2000, and the related consolidated statements of
income, shareholders' equity and cash flows for each of the three years in the
period ended December 31, 2001. 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 conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audits to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Anthem, Inc.
at December 31, 2001 and 2000, and the consolidated results of its operations
and its cash flows for each of the three years in the period ended December 31,
2001, in conformity with accounting principles generally accepted in the United
States.
/S/ ERNST & YOUNG LLP
Indianapolis, Indiana
January 28, 2002
except for Note 21, as to which
the date is February 19, 2002
60
ANTHEM, INC.
CONSOLIDATED BALANCE SHEETS
December 31
(In Millions, Except Share Data) -----------------
2001 2000
-------- --------
Assets
Current assets:
Investments available-for-sale, at fair value:
Fixed maturity securities................................................... $3,882.7 $3,048.2
Equity securities........................................................... 189.1 463.1
-------- --------
4,071.8 3,511.3
Cash and cash equivalents..................................................... 406.4 203.3
Premium and self funded receivables........................................... 544.7 510.5
Reinsurance receivables....................................................... 76.7 105.1
Other receivables............................................................. 169.1 241.0
Income tax receivables........................................................ 0.4 11.0
Other current assets.......................................................... 30.8 42.1
-------- --------
Total current assets............................................................. 5,299.9 4,624.3
Other noncurrent investments..................................................... 10.8 18.0
Restricted cash and investments.................................................. 39.6 89.6
Property and equipment........................................................... 402.3 428.8
Goodwill and other intangible assets............................................. 467.4 498.9
Other noncurrent assets.......................................................... 56.6 48.9
-------- --------
Total assets..................................................................... $6,276.6 $5,708.5
======== ========
Liabilities and shareholders' equity
Liabilities
Current liabilities:
Policy liabilities:
Unpaid life, accident and health claims..................................... $1,411.3 $1,411.1
Future policy benefits...................................................... 247.9 240.4
Other policyholder liabilities.............................................. 57.3 72.0
-------- --------
Total policy liabilities...................................................... 1,716.5 1,723.5
Unearned income............................................................... 320.6 260.2
Accounts payable and accrued expenses......................................... 331.0 303.7
Bank overdrafts............................................................... 310.7 250.5
Income taxes payable.......................................................... 52.4 22.6
Other current liabilities..................................................... 231.4 237.5
-------- --------
Total current liabilities........................................................ 2,962.6 2,798.0
Long term debt, less current portion............................................. 818.0 597.5
Retirement benefits.............................................................. 96.1 175.1
Other noncurrent liabilities..................................................... 339.9 218.1
-------- --------
Total liabilities................................................................ 4,216.6 3,788.7
Shareholders' equity
Preferred stock, without par value, shares authorized--100,000,000; shares
issued and outstanding--none.................................................... -- --
Common stock, par value $0.01, shares authorized--900,000,000; shares issued
and outstanding: 2001, 103,295,675; 2000, none.................................. 1.1 --
Additional paid in capital....................................................... 1,960.8 --
Retained earnings................................................................ 55.7 1,848.6
Accumulated other comprehensive income........................................... 42.4 71.2
-------- --------
Total shareholders' equity....................................................... 2,060.0 1,919.8
-------- --------
Total liabilities and shareholders' equity....................................... $6,276.6 $5,708.5
======== ========
See accompanying notes.
61
ANTHEM, INC.
CONSOLIDATED STATEMENTS OF INCOME
Year ended December 31
(In Millions, Except Per Share Data) ----------------------------
2001 2000 1999
--------- -------- --------
Revenues
Premiums.................................................................... $ 9,244.8 $7,737.3 $5,418.5
Administrative fees......................................................... 817.3 755.6 611.1
Other revenue............................................................... 58.2 50.6 51.0
--------- -------- --------
Total operating revenue.................................................. 10,120.3 8,543.5 6,080.6
Net investment income....................................................... 238.6 201.6 152.0
Net realized gains on investments........................................... 60.8 25.9 37.5
Gain on sale of subsidiary operations....................................... 25.0 -- --
--------- -------- --------
10,444.7 8,771.0 6,270.1
--------- -------- --------
Expenses
Benefit expense............................................................. 7,814.7 6,551.0 4,582.7
Administrative expense...................................................... 1,986.1 1,808.4 1,469.4
Interest expense............................................................ 60.2 54.7 30.4
Amortization of goodwill and other intangible assets........................ 31.5 27.1 12.7
Endowment of non-profit foundations......................................... -- -- 114.1
Demutualization expenses.................................................... 27.6 -- --
--------- -------- --------
9,920.1 8,441.2 6,209.3
--------- -------- --------
Income from continuing operations before income taxes and minority
interest.................................................................. 524.6 329.8 60.8
Income taxes................................................................ 183.4 102.2 10.2
Minority interest (credit).................................................. (1.0) 1.6 (0.3)
--------- -------- --------
Income from continuing operations........................................... 342.2 226.0 50.9
Discontinued operations, net of income taxes
Loss on disposal of discontinued operations................................. -- -- (6.0)
--------- -------- --------
Net income.................................................................. $ 342.2 $ 226.0 $ 44.9
========= ======== ========
Pro forma basic earnings per share:
Income from continuing operations........................................ $ 3.31 $ 2.19 $ 0.49
Discontinued operations.................................................. -- -- (0.06)
--------- -------- --------
Net income............................................................... $ 3.31 $ 2.19 $ 0.43
========= ======== ========
Pro forma diluted earnings per share:
Income from continuing operations........................................ $ 3.30 $ 2.18 $ 0.49
Discontinued operations.................................................. -- -- (0.06)
--------- -------- --------
Net income............................................................... $ 3.30 $ 2.18 $ 0.43
========= ======== ========
Net income for the period from November 2, 2001 (date of demutualization
and initial public offering) to December 31, 2001......................... $ 55.7
=========
Basic and diluted net income per share for the period from November 2,
2001 (date of demutualization and initial public offering) to December 31,
2001...................................................................... $ 0.54
=========
See accompanying notes.
62
ANTHEM, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Common Stock Accumulated
------------------ Additional Other Total
Number of Par Paid in Retained Comprehensive Shareholders'
Shares Value Capital Earnings Income Equity (1)
(In Millions, Except Share Data) ----------- ------ ---------- --------- ------------- -------------
Balance at December 31, 1998....... -- $ -- $ -- $ 1,577.7 $124.8 $ 1,702.5
Net income......................... -- -- -- 44.9 -- 44.9
Change in net unrealized gains
(losses) on investments.......... -- -- -- -- (88.5) (88.5)
Change in additional minimum
pension liability................ -- -- -- -- 2.0 2.0
---------
Comprehensive loss................. (41.6)
----------- ------ -------- --------- ------ ---------
Balance at December 31, 1999....... -- -- -- 1,622.6 38.3 1,660.9
Net income......................... -- -- -- 226.0 -- 226.0
Change in net unrealized gains on
investments...................... -- -- -- -- 36.8 36.8
Change in additional minimum
pension liability................ -- -- -- -- (3.9) (3.9)
---------
Comprehensive income............... 258.9
----------- ------ -------- --------- ------ ---------
Balance at December 31, 2000....... -- -- -- 1,848.6 71.2 1,919.8
Net income before the date of
demutualization and initial
public offering.................. -- -- -- 286.5 -- 286.5
Net income after the date of
demutualization and initial
public offering.................. -- -- -- 55.7 -- 55.7
Change in net unrealized gains
(losses) on investments.......... -- -- -- -- (29.3) (29.3)
Change in additional minimum
pension liability................ -- -- -- -- 0.5 0.5
---------
Comprehensive income............... 313.4
Initial public offering of common
stock............................ 55,200,000 0.6 1,889.8 -- -- 1,890.4
Common stock issued in the
demutualization.................. 48,095,675 0.5 71.0 (71.5) -- --
Cash payments to eligible statutory
members in lieu of stock......... -- -- -- (2,063.6) -- (2,063.6)
----------- ------ -------- --------- ------ ---------
Balance at December 31, 2001....... 103,295,675 $ 1.1 $1,960.8 $ 55.7 $ 42.4 $ 2,060.0
=========== ====== ======== ========= ====== =========
--------
(1)--Prior year amounts represent "Policyholders' surplus" prior to
demutualization.
See accompanying notes.
63
ANTHEM, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended December 31
-------------------------------
2001 2000 1999
(In Millions) --------- --------- ---------
Operating activities
Net income................................................................. $ 342.2 $ 226.0 $ 44.9
Adjustments to reconcile net income to net cash provided by operating
activities:
Net realized gains on investments....................................... (60.8) (25.9) (37.5)
Gain on sale of subsidiary operations................................... (25.0) -- --
Depreciation, amortization and accretion................................ 120.5 102.1 61.8
Deferred income taxes................................................... 71.4 36.6 23.0
Loss from discontinued operations....................................... -- -- 6.0
Loss on sale of assets.................................................. 3.1 0.5 0.2
Changes in operating assets and liabilities, net of effect of purchases
and divestitures:
Restricted cash and investments..................................... 8.1 10.0 (2.1)
Receivables......................................................... (28.0) (70.7) 6.0
Other assets........................................................ (16.7) 25.3 80.7
Policy liabilities.................................................. 155.7 124.1 105.6
Unearned income..................................................... 66.7 22.3 15.9
Accounts payable and accrued expenses............................... 27.8 69.9 (7.5)
Other liabilities................................................... (43.7) 119.0 (40.1)
Income taxes........................................................ 38.4 47.5 (20.4)
--------- --------- ---------
Net cash provided by continuing operations................................. 659.7 686.7 236.5
Net cash used in discontinued operations................................... (5.1) (2.2) (16.7)
--------- --------- ---------
Cash provided by operating activities...................................... 654.6 684.5 219.8
Investing activities
Purchases of investments................................................... (3,957.3) (3,544.8) (2,331.1)
Sales or maturities of investments......................................... 3,484.6 2,925.2 2,308.3
Purchases of subsidiaries, net of cash acquired............................ (4.1) (85.1) (246.8)
Sales of subsidiaries, net of cash sold.................................... 45.0 5.4 2.3
Proceeds from sale of property and equipment............................... 4.1 11.5 7.2
Purchases of property and equipment........................................ (70.4) (73.3) (96.7)
--------- --------- ---------
Cash used in investing activities.......................................... (498.1) (761.1) (356.8)
Financing activities
Proceeds from long term borrowings......................................... -- 295.9 220.1
Payments on long term borrowings........................................... -- (220.4) --
Net proceeds from common stock issued in the initial public offering....... 1,890.4 -- --
Net proceeds from issuance of Equity Security Units........................ 219.8 -- --
Payments to eligible statutory members in the demutualization.............. (2,063.6) -- --
--------- --------- ---------
Cash provided by financing activities...................................... 46.6 75.5 220.1
--------- --------- ---------
Change in cash and cash equivalents........................................ 203.1 (1.1) 83.1
Cash and cash equivalents at beginning of year............................. 203.3 204.4 121.3
--------- --------- ---------
Cash and cash equivalents at end of year................................... $ 406.4 $ 203.3 $ 204.4
========= ========= =========
See accompanying notes.
64
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2001
(Dollars in Millions, Except Share Data)
1. Basis of Presentation and Significant Accounting Policies
Basis of Presentation: On November 2, 2001, Anthem Insurance Companies,
Inc. ("Anthem Insurance") converted from a mutual insurance company to a stock
insurance company after completion of required approvals and conditions, as set
forth in the Plan of Conversion (the "Conversion"). The demutualization was
accounted for as a reorganization using the historical carrying values of the
assets and liabilities of Anthem Insurance. Accordingly, immediately following
the demutualization and the initial public offering, Anthem Insurance's
policyholders' surplus was reclassified to par value of common stock and
additional paid in capital. Concurrent with the demutualization, Anthem
Insurance became a wholly-owned subsidiary of Anthem, Inc. ("Anthem").
The accompanying consolidated financial statements of Anthem and its
subsidiaries (collectively, the "Company") have been prepared in conformity
with accounting principles generally accepted in the United States. All
significant intercompany accounts and transactions have been eliminated in
consolidation. Anthem Insurance or its subsidiary insurance companies are
licensed in all states and are Blue Cross Blue Shield Association licensees in
Indiana, Kentucky, Ohio, Connecticut, Maine, New Hampshire, Colorado and
Nevada. Products include health and group life insurance, managed health care,
and government health program administration.
Minority interest represents other shareholders' interests in subsidiaries,
which are majority-owned.
Use of Estimates: Preparation of the consolidated financial statements
requires management to make estimates and assumptions that affect the amounts
reported in the consolidated financial statements and accompanying notes.
Actual results could differ from those estimates.
Investments: All fixed maturity and equity securities are classified as
"available-for-sale" securities and are reported at fair value. The Company has
determined that all investments in its portfolio are available to support
current operations and, accordingly, has classified such investment securities
as current assets. The unrealized gains or losses on these securities are
included in accumulated other comprehensive income as a separate component of
shareholders' equity unless the decline in value is deemed to be other than
temporary, in which case the loss is charged to income.
Realized gains or losses, determined by specific identification of
investments sold, are included in income.
Cash Equivalents: All highly liquid investments with maturities of three
months or less when purchased are classified as cash equivalents.
Premium and Self Funded Receivables: Premium and self funded receivables
include the uncollected amounts from insured and self funded groups, less an
allowance for doubtful accounts of $32.6 and $35.1 at December 31, 2001 and
2000, respectively.
Reinsurance Receivables: Reinsurance receivables represent amounts
recoverable on claims paid or incurred, and amounts paid to the reinsurer for
premiums collected but not yet earned, and are estimated in a manner consistent
with the liabilities associated with the reinsured policies. There was no
allowance for uncollectible reinsurance receivables at December 31, 2001 or
2000.
65
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
1. Basis of Presentation and Significant Accounting Policies (continued)
Other Receivables: Other receivables include amounts for interest earned on
investments, proceeds due from brokers on investment trades, government
programs, pharmacy sales and other miscellaneous amounts due to the Company.
These receivables have been reduced by an allowance for uncollectible amounts
of $23.2 and $32.3 at December 31, 2001 and 2000, respectively.
Restricted Cash and Investments: Restricted cash and investments represent
fiduciary amounts held under an insurance contract and other agreements.
Property and Equipment: Property and equipment is recorded at cost.
Depreciation is computed principally by the straight-line method over the
estimated useful lives of the assets.
Goodwill and Other Intangible Assets: Goodwill represents the excess of
cost of acquisition over the fair value of net assets acquired. Other
intangible assets represent the values assigned to licenses, non-compete and
other agreements. Goodwill and other intangible assets are amortized using the
straight-line method over periods ranging from two to 20 years. Accumulated
amortization of goodwill and other intangible assets at December 31, 2001 and
2000 was $90.8 and $58.4, respectively. The carrying value of goodwill and
other intangible assets is reviewed annually to determine if the facts and
circumstances indicate that they may be impaired. The carrying value of these
assets is reduced to its fair value if this review, which includes comparison
of asset carrying amounts to expected cash flows, indicates that such amounts
will not be recoverable.
In July 2001, the Financial Accounting Standards Board issued FAS 141,
Business Combinations, and FAS 142, Goodwill and Other Intangible Assets. FAS
141 requires business combinations completed after June 30, 2001 to be
accounted for using the purchase method of accounting. It also specifies the
types of acquired intangible assets that are required to be recognized and
reported separately from goodwill. Under FAS 142, goodwill and certain other
intangible assets (with indefinite lives) will not be amortized but will be
tested for impairment at least annually. The Company plans to adopt FAS 142 on
January 1, 2002 and does not expect any impairment of goodwill upon adoption.
If the Company had adopted FAS 142 on January 1, 2001, income before income
taxes and minority interest and net income for the year ended December 31,
2001, would have increased by $17.5 and $15.2, respectively.
Policy Liabilities: Liabilities for unpaid claims include estimated
provisions for both reported and unreported claims incurred on an undiscounted
basis. The liabilities are adjusted regularly based on historical experience
and include estimates of trends in claim severity and frequency and other
factors, which could vary as the claims are ultimately settled. Although it is
not possible to measure the degree of variability inherent in such estimates,
management believes these liabilities are adequate.
The life future policy benefit liabilities represent primarily group term
benefits determined using standard industry mortality tables with interest
rates ranging from 3.0% to 5.5%.
Premium deficiency losses are recognized when it is probable that expected
claims and loss adjustment expenses will exceed future premiums on existing
health and other insurance contracts without consideration of investment
income. For purposes of premium deficiency losses, contracts are deemed to be
either short or long duration and are grouped in a manner consistent with the
Company's method of acquiring, servicing and measuring the profitability of
such contracts.
Retirement Benefits: Retirement benefits represent outstanding obligations
for retiree health, life and dental benefitsand any unfunded liability related
to defined benefit pension plans.
Comprehensive Income: Comprehensive income includes net income, the change
in unrealized gains (losses) on investments and the change in the additional
minimum pension liability.
66
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
1. Basis of Presentation and Significant Accounting Policies (continued)
Revenue Recognition: Gross premiums for fully insured contracts are
prorated over the term of the contracts, with the unearned premium representing
the unexpired term of policies. For insurance contracts with retrospective
rated premiums, the estimated ultimate premium is recognized as revenue over
the period of the contract. Actual experience is reviewed once the policy
period is completed and adjustments are recorded when determined. Premium rates
for certain lines of business are subject to approval by the Department of
Insurance of each respective state.
Administrative fees include revenue from certain group contracts that
provide for the group to be at risk for all, or with supplemental insurance
arrangements, a portion of their claims experience. The Company charges
self-funded groups an administrative fee which is based on the number of
members in a group or the group's claim experience. Under the Company's
self-funded arrangements, amounts due are recognized based on incurred claims
paid plus administrative and other fees. In addition, administrative fees
include amounts received for the administration of Medicare or certain other
government programs. Administrative fees are recognized in accordance with the
terms of the contractual relationship between the Company and the customer.
Such fees are based on a percentage of the claim amounts processed or a
combination of a fixed fee per claim plus a percentage of the claim amounts
processed. All benefit payments under these programs are excluded from benefit
expense.
Other revenue principally includes amounts from the sales of prescription
drugs and revenues are recognized as prescription drug orders are delivered or
shipped.
Federal Income Taxes: Anthem files a consolidated return with its
subsidiaries that qualify as defined by the Internal Revenue Code.
Stock-Based Compensation: The Company has a plan that provides for the
award of stock options to employees. Stock options are granted for a fixed
number of shares with an exercise price at least equal to the fair value of the
shares at the date of grant. The Company accounts for stock options using
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees, and, accordingly, recognizes no compensation expense related to
stock options.
Earnings Per Share: Earnings per share amounts, on a basic and diluted
basis, have been calculated based upon the weighted average common shares
outstanding or deemed to be outstanding for the period after the date of the
demutualization and initial public offering.
Basic earnings per share excludes dilution and is computed by dividing
income available to common shareholders by the weighted average number of
common shares outstanding for the period. Diluted earnings per share includes
the dilutive effect of all stock options and purchase contracts included in
Equity Security Units, using the treasury stock method. Under the treasury
stock method, exercise of stock options and purchase contracts is assumed with
the proceeds used to purchase common stock at the average market price for the
period. The difference between the number of shares assumed issued and number
of shares assumed purchased represents the dilutive shares.
Reclassifications: Certain prior year balances have been reclassified to
conform to the current year presentation.
2. Demutualization, Initial Public Offering and Equity Security Unit Offering
On November 2, 2001, the date the Conversion became effective, all
membership interests in Anthem Insurance were extinguished and the eligible
statutory members of Anthem Insurance became entitled to receive consideration
in the form of Anthem's common stock or cash, as provided in the
Conversion.
67
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
2. Demutualization, Initial Public Offering and Equity Security Unit Offering
(continued)
The Conversion required an initial public offering of common stock and
provided for other capital raising transactions on the effective date of the
Conversion. On the Conversion effective date, Anthem completed an initial
public offering of 55,200,000 shares of common stock at an initial public
offering price of $36.00 per share. The shares issued in the initial public
offering are in addition to 48,095,675 shares of common stock (which will
ultimately vary slightly when all distribution issues are finalized)
distributed to eligible statutory members in the demutualization.
Concurrent with the initial public offering of common stock noted above,
Anthem issued 4,600,000 of 6.00% Equity Security Units ("Units"). Each Unit
contains a purchase contract under which the holder agrees to purchase, for
fifty dollars, shares of common stock of Anthem on November 15, 2004, and a
5.95% subordinated debenture (see Note 6). The number of shares to be purchased
will be determined based on the average trading price of Anthem common stock at
the time of settlement. In addition, Anthem will pay quarterly contract fee
payments on the purchase contracts at the annual rate of 0.05% of the stated
amount of $50.00 per purchase contract, subject to Anthem's rights to defer
these payments.
After underwriting discount and other offering and demutualization expenses,
net proceeds from the common stock offering were approximately $1,862.8. After
underwriting discount and expenses, net proceeds from the Units offering were
approximately $219.8. In December 2001, proceeds from the common stock and
Units offerings in the amount of $2,063.6 were used to fund payments to
eligible statutory members of Anthem Insurance who received cash instead of
common stock in the demutualization.
3. Acquisitions, Divestitures and Discontinued Operations
Acquisitions:
Pending
On January 17, 2002, a subsidiary of Anthem Insurance, Anthem Health Plans
of Maine, Inc., signed a stock purchase agreement to purchase the remaining 50%
ownership interest in Maine Partners Health Plan, Inc. for an aggregate
purchase price of $10.6. Subject to terms and conditions of the agreement, the
transaction is expected to close in the first quarter of 2002.
2000
On June 5, 2000, the Company completed its purchase of substantially all of
the assets and liabilities of Associated Hospital Service of Maine, formerly
d/b/a Blue Cross and Blue Shield of Maine ("BCBS-ME"), in accordance with the
Asset Purchase Agreement dated July 13, 1999. The purchase price was $95.4
(including direct costs of acquisition) and resulted in $90.5 of goodwill and
other intangible assets which are being amortized over periods ranging from ten
to 20 years. In 2001, goodwill was reduced by $2.1 for purchase price
allocation adjustments based on final valuation studies. This acquisition was
accounted for as a purchase and the net assets and results of operations have
been included in the Company's consolidated financial statements from the
purchase date. The pro forma effects of the BCBS-ME acquisition would not be
material to the Company's consolidated results of operations for periods
preceding the purchase date.
1999
On October 27, 1999, the Company completed its purchase of the assets and
liabilities of New Hampshire-Vermont Health Services, formerly d/b/a Blue Cross
Blue Shield of New Hampshire ("BCBS-NH"), in accordance with the Asset Purchase
Agreement entered into on February 19, 1999. The purchase price was $125.4
(including direct costs of acquisition), which resulted in $107.9 of goodwill
and other intangible assets, which are being amortized over periods ranging
from two to 20 years.
68
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
3. Acquisitions, Divestitures and Discontinued Operations (continued)
On November 16, 1999, the Company completed its purchase of the stock of
Rocky Mountain Hospital and Medical Service, formerly d/b/a Blue Cross and Blue
Shield of Colorado and Blue Cross and Blue Shield of Nevada ("BCBS-CO/NV"). The
purchase price was $160.7 (including direct costs of acquisition) and resulted
in $152.1 of goodwill and other intangible assets which are being amortized
over periods ranging from five to 20 years.
These acquisitions were accounted for as purchases and the net assets and
results of operations have been included in the Company's consolidated
financial statements from the respective purchase dates.
Unaudited pro forma results of operations assuming the 1999 acquisitions
occurred on January 1, 1999, would have resulted in total revenues of $7,186.4,
income from continuing operations of $11.5 and net income of $5.5 for 1999.
Divestitures:
2001
On May 31, 2001, Anthem Insurance and its subsidiary Anthem Alliance Health
Insurance Company ("Alliance"), sold the TRICARE operations of Alliance to a
subsidiary of Humana, Inc. for $45.0. The transaction, which closed on May 31,
2001, resulted in a gain on sale of subsidiary operations of $25.0, net of
selling expenses.
1999
During 1999, the Company disposed of several small business operations,
which were no longer deemed strategically aligned with the Company's core
business. The Company recognized a loss of $14.2 (net of income tax benefit of
$6.1) on these disposals. The pro forma effects of these divestitures are
insignificant to the consolidated results of operations.
Discontinued Operations:
1999
During 1999, the Company recognized additional losses of $6.0, net of income
tax benefit of $6.2, resulting from sales agreement contingency adjustments
relating to the discontinued operations sold in prior years.
4. Endowment of Non-Profit Foundations
During 1999, Anthem Insurance reached agreements in the states of Kentucky,
Ohio and Connecticut to resolve any questions as to whether Anthem Insurance or
the predecessor/successor entities were in possession of property that was
impressed with a charitable trust.
In 1999, contributions of $45.0, $28.0 and $41.1, were made for the benefit
of charitable foundations in Kentucky, Ohio, and Connecticut, respectively,
from Anthem Insurance's subsidiaries, Anthem Health Plans of Kentucky, Inc.,
Community Insurance Company and Anthem Health Plans, Inc., respectively.
69
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
5. Investments
The following is a summary of available-for-sale investments:
Cost or Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains (Losses) Value
--------- ---------- ---------- --------
December 31, 2001
Fixed maturity securities:
United States Government securities.............. $ 684.7 $ 18.2 $ (4.7) $ 698.2
Obligations of states and political subdivisions. 3.7 0.1 -- 3.8
Corporate securities............................. 1,381.4 35.2 (10.3) 1,406.3
Mortgage-backed securities....................... 1,744.3 33.5 (3.4) 1,774.4
-------- ------ ------ --------
Total fixed maturity securities..................... 3,814.1 87.0 (18.4) 3,882.7
Equity securities................................... 185.7 3.4 -- 189.1
-------- ------ ------ --------
$3,999.8 $ 90.4 $(18.4) $4,071.8
======== ====== ====== ========
December 31, 2000
Fixed maturity securities:
United States Government securities.............. $ 723.4 $ 25.6 $ (2.5) $ 746.5
Obligations of states and political subdivisions. 0.8 -- -- 0.8
Corporate securities............................. 1,041.4 19.4 (20.1) 1,040.7
Mortgage-backed securities....................... 1,250.3 21.1 (13.0) 1,258.4
Preferred stocks................................. 1.9 -- (0.1) 1.8
-------- ------ ------ --------
Total fixed maturity securities..................... 3,017.8 66.1 (35.7) 3,048.2
Equity securities................................... 376.2 133.0 (46.1) 463.1
-------- ------ ------ --------
$3,394.0 $199.1 $(81.8) $3,511.3
======== ====== ====== ========
The amortized cost and fair value of fixed maturity securities at December
31, 2001, by contractual maturity, are shown below. Expected maturities may be
less than contractual maturities because the issuers of the securities may have
the right to prepay obligations without prepayment penalties.
Amortized Fair
Cost Value
--------- --------
Due in one year or less............... $ 51.6 $ 52.6
Due after one year through five years. 589.7 606.6
Due after five years through ten years 833.3 845.5
Due after ten years................... 595.2 603.6
-------- --------
2,069.8 2,108.3
Mortgage-backed securities............ 1,744.3 1,774.4
-------- --------
$3,814.1 $3,882.7
======== ========
70
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
5. Investments (continued)
The major categories of net investment income are as follows:
2001 2000 1999
------ ------ ------
Fixed maturity securities....... $220.5 $178.8 $137.0
Equity securities............... 6.4 6.1 6.3
Cash, cash equivalents and other 15.7 21.5 12.8
------ ------ ------
Investment revenue.............. 242.6 206.4 156.1
Investment expense.............. (4.0) (4.8) (4.1)
------ ------ ------
Net investment income........... $238.6 $201.6 $152.0
====== ====== ======
Proceeds from sales of fixed maturity and equity securities during 2001,
2000 and 1999 were $3,488.8, $2,911.8 and $2,336.8, respectively. Gross gains
of $164.3, $71.3 and $86.8 and gross losses of $103.5, $45.4 and $49.3 were
realized in 2001, 2000 and 1999, respectively, on those sales.
6. Long Term Debt and Commitments
Debt consists of the following at December 31:
2001 2000
------ ------
Surplus notes at 9.125% due 2010.............. $295.9 $295.5
Surplus notes at 9.00% due 2027............... 197.3 197.2
Senior guaranteed notes at 6.75% due 2003..... 99.7 99.5
Debentures included in Units at 5.95% due 2006 220.2 --
Other......................................... 5.2 5.5
------ ------
Long term debt................................ 818.3 597.7
Current portion of long term debt............. (0.3) (0.2)
------ ------
Long term debt, less current portion.......... $818.0 $597.5
====== ======
Surplus notes are unsecured obligations of Anthem Insurance and are
subordinate in right of payment to all of Anthem Insurance's existing and
future indebtedness. Any payment of interest or principal on the surplus notes
may be made only with the prior approval of the Indiana Department of Insurance
("DOI"), and only out of capital and surplus funds of Anthem Insurance that the
DOI determines to be available for the payment under Indiana insurance laws.
For statutory accounting purposes, the surplus notes are considered a part of
capital and surplus of Anthem Insurance.
Senior guaranteed notes are unsecured and unsubordinated obligations of
Anthem Insurance and will rank equally in right of payment with all other
existing and future senior indebtedness of Anthem Insurance.
On November 2, 2001, Anthem issued 4,600,000 of 6.00% Equity Security Units
(see Note 2). Each Unit contains a 5.95% subordinated debenture. The debentures
are unsecured and are subordinated in right of payment to all of Anthem's
existing and future senior indebtedness. The debentures will mature on November
15, 2006. Each debenture will initially bear interest at the rate of 5.95% per
year, payable quarterly, commencing February 15, 2002, subject to Anthem's
rights to defer these payments.
71
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
6. Long Term Debt and Commitments (continued)
On November 5, 2001, Anthem and Anthem Insurance entered into two new
unsecured revolving credit facilities totaling $800.0. Anthem is jointly and
severally liable for all borrowings under the facilities. Anthem also will be
permitted to be a borrower under the facilities, if the Indiana Insurance
Commissioner approves Anthem Insurance's joint liability for Anthem's
obligations under the facilities. Upon execution of these facilities, Anthem
Insurance terminated its prior $300.0 unsecured revolving facility. Borrowings
under these facilities will bear interest at rates, as defined in the
agreements, which generally provide for three different interest rate
alternatives. One facility, which provides for borrowings of up to $400.0,
expires on November 5, 2006. The second facility, which provides for borrowings
of up to $400.0, expires on November 4, 2002. Certain amounts outstanding under
this facility at November 4, 2002, as defined in the agreement, may be
converted into a one-year term loan at the option of Anthem and Anthem
Insurance. Each credit agreement requires Anthem to maintain certain financial
ratios and contains minimal restrictive covenants. Availability under these
facilities is reduced by the amount of any commercial paper outstanding. No
amounts were outstanding under the current or prior facilities at December 31,
2001 or 2000 or during the years then ended.
In addition to the revolving credit facilities described above, Anthem
Insurance currently has a $300.0 commercial paper program available for general
corporate purposes. Commercial paper notes are short term senior unsecured
notes, with a maturity not to exceed 270 days from date of issuance. When
issued, the notes bear interest at current market rates. Availability under the
commercial paper program is reduced by the amount of any borrowings outstanding
under the Company's revolving credit facilities. There were no commercial paper
notes outstanding at December 31, 2001 or 2000 or during the years then ended.
Subsequent to December 31, 2001, Anthem and Anthem Insurance entered into
two new agreements allowing aggregate indebtedness of $135.0. Anthem will
guarantee all obligations of Anthem Insurance under the facilities. Anthem also
will be permitted to be a borrower under the facilities, if the Indiana
Insurance Commissioner approves Anthem Insurance's guarantee of Anthem's
obligations under the facilities.
Interest paid during 2001, 2000 and 1999 was $57.4, $49.9 and $28.2,
respectively.
Future maturities of debt are as follows: 2002, $0.3; 2003, $100.1; 2004,
$1.3; 2005, $0.5; 2006, $220.8 and thereafter $495.3.
7. Fair Value of Financial Instruments
Considerable judgment is required to develop estimates of fair value for
financial instruments. Accordingly, the estimates shown are not necessarily
indicative of the amounts that would be realized in a one time, current market
exchange of all of the financial instruments.
The carrying values and estimated fair values of certain financial
instruments are as follows at December 31:
2001 2000
----------------- -----------------
Carrying Fair Carrying Fair
Value Value Value Value
-------- -------- -------- --------
Fixed maturity securities $3,882.7 $3,882.7 $3,048.2 $3,048.2
Equity securities........ 189.1 189.1 463.1 463.1
Restricted investments... 38.7 38.7 42.7 42.7
Debt:
Equity Security Units. 220.2 294.4 -- --
Other................. 598.1 681.9 597.7 562.2
72
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
7. Fair Value of Financial Instruments (continued)
The carrying value of all other financial instruments approximates fair
value because of the relatively short period of time between the origination of
the instruments and their expected realization. Fair values for securities,
restricted investments and Equity Security Units are based on quoted market
prices, where available. For securities not actively traded, fair values are
estimated using values obtained from independent pricing services. The fair
value of other debt is estimated using discounted cash flow analyses, based on
the Company's current incremental borrowing rates for similar types of
borrowing arrangements.
8. Property and Equipment
Property and equipment includes the following at December 31:
2001 2000
------ ------
Land and improvements................................... $ 21.8 $ 21.0
Building and components................................. 251.2 251.3
Data processing equipment, furniture and other equipment 432.7 407.6
Leasehold improvements.................................. 36.4 37.2
------ ------
742.1 717.1
Less accumulated depreciation and amortization.......... 339.8 288.3
------ ------
$402.3 $428.8
====== ======
Property and equipment includes non-cancelable capital leases of $7.3 and
$7.4 at December 31, 2001 and 2000, respectively. Total accumulated
amortization on these leases at December 31, 2001 and 2000 was $3.9 and $3.7,
respectively. The related lease amortization expense is included in
depreciation and amortization expense. Depreciation and leasehold improvement
amortization expense for 2001, 2000 and 1999 was $89.6, $75.3 and $47.1,
respectively.
9. Unpaid Life, Accident and Health Claims
The following table provides a reconciliation of the beginning and ending
balances for unpaid life, accident and health claims:
2001 2000 1999
-------- -------- --------
Balances at January 1, net of reinsurance.................... $1,382.1 $1,052.6 $ 735.6
Business purchases (divestitures)............................ (139.1) 113.9 190.4
Incurred related to:
Current year.............................................. 7,894.1 6,593.6 4,608.9
Prior years............................................... (96.4) (60.1) (30.9)
-------- -------- --------
Total incurred............................................... 7,797.7 6,533.5 4,578.0
-------- -------- --------
Paid related to:
Current year.............................................. 6,521.5 5,361.9 3,769.8
Prior years............................................... 1,115.5 956.0 681.6
-------- -------- --------
Total paid................................................... 7,637.0 6,317.9 4,451.4
-------- -------- --------
Balances at December 31, net of reinsurance.................. 1,403.7 1,382.1 1,052.6
Reinsurance recoverables at December 31...................... 7.6 29.0 109.2
-------- -------- --------
Reserve gross of reinsurance recoverables on unpaid claims at
December 31................................................ $1,411.3 $1,411.1 $1,161.8
======== ======== ========
73
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Amounts incurred related to prior years vary from previously estimated
liabilities as the claims are ultimately settled. Negative amounts reported for
incurred related to prior years resulted from claims being settled for amounts
less than originally estimated.
10. Reinsurance
The Company reinsures certain of its risks with other companies and assumes
risk from other companies and such reinsurance is accounted for as a transfer
of risk. The Company is contingently liable for amounts recoverable from the
reinsurer in the event that it does not meet its contractual obligations.
The Company evaluates the financial condition of its reinsurers and monitors
concentrations of credit risk arising from similar geographic regions,
activities, or economic characteristics of the reinsurers to minimize its
exposure to significant losses from reinsurer insolvencies.
The details of net premiums written and earned are as follows for the years
ended December 31:
2001 2000 1999
------------------ ------------------ ------------------
Written Earned Written Earned Written Earned
-------- -------- -------- -------- -------- --------
Consolidated:
Direct.............. $9,325.7 $9,285.9 $7,993.0 $7,961.5 $5,674.8 $5,693.7
Assumed............. 1.6 1.7 0.7 1.9 23.9 26.9
Ceded............... (42.5) (42.8) (229.2) (226.1) (305.6) (302.1)
-------- -------- -------- -------- -------- --------
Net premiums........ $9,284.8 $9,244.8 $7,764.5 $7,737.3 $5,393.1 $5,418.5
======== ======== ======== ======== ======== ========
Reportable segments:
Midwest............. $4,814.2 $4,774.2 $4,240.4 $4,203.1 $3,708.6 $3,729.3
East................ 3,462.5 3,462.5 2,753.0 2,768.9 1,490.3 1,495.4
West................ 716.1 716.1 571.1 569.6 64.5 64.2
Specialty........... 94.9 94.9 123.7 123.7 96.3 96.3
Other............... 197.1 197.1 76.3 72.0 33.4 33.3
-------- -------- -------- -------- -------- --------
Net premiums........ $9,284.8 $9,244.8 $7,764.5 $7,737.3 $5,393.1 $5,418.5
======== ======== ======== ======== ======== ========
The effect of reinsurance on benefit expense is as follows for the years
ended December 31:
2001 2000 1999
----- ------ ------
Assumed--increase in benefit expense $ 6.2 $ 8.6 $ 27.4
Ceded--decrease in benefit expense.. 38.0 233.0 299.8
The effect of reinsurance on certain assets and liabilities is as follows at
December 31:
2001 2000
----- -----
Policy liabilities assumed. $29.2 $28.6
Unearned premiums assumed.. 0.7 0.2
Premiums payable ceded..... 7.8 8.5
Premiums receivable assumed 0.3 0.3
74
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
11. Employee Stock Purchase and Stock and Long Term Incentive Plans
The Company has reserved 3,000,000 shares of common stock for the Employee
Stock Purchase Plan ("Stock Purchase Plan"). The Stock Purchase Plan is
expected to be implemented by mid 2002 and any employee that meets the
eligibility requirements, as defined, may participate. No employee will be
permitted to purchase more than twenty five thousand dollars of stock in any
calendar year.
The Company's 2001 Stock Incentive Plan (the "Stock Plan") provides for the
granting of stock options, restricted stock awards, performance stock awards,
performance awards and stock appreciation rights to eligible employees and
non-employee directors. The Company has registered 7,000,000 shares of its
common stock for issuance under the Stock Plan, including 2,000,000 shares
solely for issuance under grants of stock options to substantially all
employees and for issuance under similar grants to new employees. Awards are
granted by the Compensation Committee of the Board of Directors. Options vest
and expire over terms as set by the Committee at the time of grant. In
accordance with the Plan, options to purchase 100 shares of common stock at the
initial public offering price of $36.00 per share were granted to eligible
employees. These options generally vest at the end of two years and expire 10
years from the grant date.
A summary of the activity in the Stock Plan for the period from January 1,
2001 to December 31, 2001 is as follows:
Number of Weighted Average
Options Exercise Price
--------- ----------------
Balance at January 1, 2001.............. -- $ --
Granted................................. 1,479,000 36.00
Forfeited............................... 20,368 36.00
--------- ------
Balance at December 31, 2001............ 1,458,632 $36.00
========= ======
Options exercisable at December 31, 2001 36 $36.00
========= ======
The weighted average remaining contractual life of the options is 9.83
years. As of December 31, 2001, 5,541,368 shares were available for future
grants.
The pro forma information regarding net income and earnings per share as
required by FAS 123 has been determined as if the Company had accounted for its
stock-based compensation under the fair value method of the Statement. The fair
value for the stock options was estimated at the date of grant using a
Black-Scholes option-valuation model with the following weighted average
assumptions for 2001:
Risk-free interest rate...................... 4.96%
Volatility factor............................ 42.00%
Dividend yield............................... --
Weighted average expected life............... 4 years
The Black-Scholes option-valuation model was developed for use in estimating
the fair value of traded options which have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's stock option grants have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its stock option grants.
75
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
11. Employee Stock Purchase and Stock and Long Term Incentive Plans (continued)
For purposes of pro forma disclosures, compensation expense is increased for
the estimated fair value of the options amortized over the options' vesting
periods. The Company's pro forma information for 2001 is as follows:
As Reported Pro Forma
----------- ---------
Net income................................................................ $342.2 $341.1
Net income for the period from November 2, 2001 (date of demutualization
and initial public offering) to December 31, 2001....................... 55.7 54.6
Earnings per share--basic and diluted net income after demutualization and
initial public offering................................................. 0.54 0.53
Weighted average fair value of each option granted during the year........ -- 14.12
Certain executives are participants in a Long Term Incentive Plan ("LTIP").
The LTIP operates during successive three-year periods. At the beginning of
each three-year period, the Compensation Committee establishes performance
goals, which include specific strategic objectives such as growth in net
income, operating margin and comparison of performance against peer companies.
Each participant's target award is established as a percentage ranging from 30%
to 150% of annual base salary for each year of the three-year period. The LTIP
expense for 2001, 2000 and 1999 totaled $49.9, $50.9 and $14.9, respectively.
12. Earnings Per Share
The following sets forth the denominator for basic and diluted earnings per
share for the period from November 2, 2001 (date of demutualization and initial
public offering) through December 31, 2001:
Denominator for basic earnings per share--weighted average shares........ 103,295,675
Effect of dilutive securities--employee stock options.................... 313,397
Effect of dilutive securities--incremental shares from conversion of Unit
purchase contracts..................................................... 212,766
-----------
Denominator for diluted earnings per share............................... 103,821,838
===========
Weighted average shares used for basic earnings per share assumes that
shares distributed to eligible statutory members as consideration in the
demutualization were issued on the effective date of the Plan. Since the
average market price of Anthem's common stock exceeds the grant price of stock
options, such options are dilutive to Anthem's earnings per share. The purchase
contracts included in the Units are dilutive to Anthem's earnings per share,
because the average market price of Anthem's common stock exceeds a stated
threshold price of $43.92 per share.
There were no shares or dilutive securities outstanding prior to the
demutualization and initial public offering. For comparative pro forma earnings
per share presentation, the weighted average shares outstanding and the effect
of dilutive securities for the period from November 2, 2001 to December 31,
2001 as shown above was used to calculate pro forma earnings per share for all
periods presented.
76
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
13. Income Taxes
The components of deferred income taxes at December 31 are as follows:
2001 2000
------- -------
Deferred tax assets:
Pension and postretirement benefits................... $ 60.5 $ 84.7
Accrued expenses...................................... 98.3 85.2
Alternative minimum tax and other credits............. 133.5 83.7
Insurance reserves.................................... 47.8 33.0
Net operating loss carryforwards...................... 66.2 174.5
Bad debt reserves..................................... 19.8 35.1
Other................................................. 41.0 31.5
------- -------
Total deferred tax assets......................... 467.1 527.7
Valuation allowance............................... (250.4) (338.7)
------- -------
Total deferred tax assets, net of valuation allowance. 216.7 189.0
Deferred tax liabilities:
Unrealized gains on securities........................ 25.4 41.4
Goodwill and other intangible assets.................. 70.0 55.1
Other................................................. 184.9 72.4
------- -------
Total deferred tax liabilities........................ 280.3 168.9
------- -------
Net deferred tax asset (liability)....................... $ (63.6) $ 20.1
======= =======
The resolution of an Internal Revenue Service examination during 2000
resulted in certain subsidiaries having an increase in alternative minimum tax
credits and net operating loss carryforwards. Due to the uncertainty of the
realization of these deferred tax assets, the Company increased its valuation
allowance accordingly. During 2001, portions of these net operating loss
carryforwards were utilized and the valuation allowance was reduced
accordingly. The net change in the valuation allowance for 2001, 2000 and 1999
totaled $(88.3), $190.5 and $(14.4), respectively.
Deferred tax assets and liabilities reported with other current assets or
liabilities and other noncurrent assets or liabilities on the accompanying
consolidated balance sheets at December 31 are as follows:
2001 2000
------ -----
Deferred tax asset (liability)--current... $ (8.3) $10.5
Deferred tax asset (liability)--noncurrent (55.3) 9.6
------ -----
Net deferred tax asset (liability)........ $(63.6) $20.1
====== =====
Significant components of the provision for income taxes consist of the
following:
2001 2000 1999
------ ------ -----
Current tax expense (benefit):
Federal......................... $101.1 $ 53.9 $(2.6)
State and local................. 7.7 3.9 (7.0)
------ ------ -----
Total current tax expense (benefit) 108.8 57.8 (9.6)
Deferred tax expense............... 74.6 44.4 19.8
------ ------ -----
Total income tax expense........... $183.4 $102.2 $10.2
====== ====== =====
77
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
13. Income Taxes (continued)
Current federal income taxes consisted of amounts due for alternative
minimum tax and tax obligations of subsidiaries not included in the
consolidated return of Anthem. During 2001, 2000 and 1999 federal income taxes
paid totaled $74.1, $26.3 and $0.0, respectively.
A reconciliation between actual income tax expense and the amount computed
at the statutory rate is as follows:
2001 2000 1999
------------ ------------ -------------
Amount % Amount % Amount %
------ ---- ------ ---- ------ -----
Amount at statutory rate............................. $183.6 35.0 $115.4 35.0 $ 21.3 35.0
State and local income taxes (benefit) net of federal
tax benefit........................................ 3.5 0.7 2.6 0.8 (4.8) (7.9)
Amortization of goodwill............................. 5.9 1.1 5.6 1.7 3.1 5.1
Dividends received deduction......................... (1.4) (0.2) (1.2) (0.4) (1.3) (2.1)
Deferred tax valuation allowance change,
net of net operating loss carryforwards
and other tax credits............................... (20.3) (3.9) (20.0) (6.0) (14.4) (23.7)
Other, net........................................... 12.1 2.3 (0.2) (0.1) 6.3 10.4
------ ---- ------ ---- ------ -----
$183.4 35.0 $102.2 31.0 $ 10.2 16.8
====== ==== ====== ==== ====== =====
At December 31, 2001, the Company had unused federal tax net operating loss
carryforwards of approximately $189.1 to offset future taxable income. The loss
carryforwards expire in the years 2002 through 2019.
14. Accumulated Other Comprehensive Income
The following is a reconciliation of the components of accumulated other
comprehensive income at December 31:
2001 2000
------ ------
Gross unrealized gains on investments........... $ 90.4 $199.1
Gross unrealized losses on investments.......... (18.4) (81.8)
------ ------
Total pretax net unrealized gains on investments 72.0 117.3
Deferred tax liability.......................... (25.4) (41.4)
------ ------
Net unrealized gains on investments............. 46.6 75.9
------ ------
Additional minimum pension liability............ (6.5) (7.2)
Deferred tax asset.............................. 2.3 2.5
------ ------
Net additional minimum pension liability........ (4.2) (4.7)
------ ------
Accumulated other comprehensive income.......... $ 42.4 $ 71.2
====== ======
A reconciliation of the change in unrealized and realized gains (losses) on
investments included in accumulated other comprehensive income follows:
2001 2000 1999
------ ------ ------
Change in pretax net unrealized gains on investments................................. $ 15.5 $ 83.1 $(99.2)
Less change in deferred taxes........................................................ (5.3) (28.4) 36.9
Less net realized gains on investments, net of income taxes (2001, $21.3; 2000, $8.0;
1999, $11.3), included in net income............................................... (39.5) (17.9) (26.2)
------ ------ ------
Change in net unrealized gains (losses) on investments............................... $(29.3) $ 36.8 $(88.5)
====== ====== ======
78
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
15. Leases
The Company leases office space and certain computer equipment using
noncancelable operating leases. Related lease expense for 2001, 2000 and 1999
was $45.2, $64.0, and $60.9, respectively.
At December 31, 2001, future lease payments for operating leases with
initial or remaining noncancelable terms of one year or more consisted of the
following: 2002, $35.7; 2003, $32.0; 2004, $27.0; 2005, $24.4; 2006, $21.9; and
thereafter $145.8.
16. Retirement Benefits
Anthem Insurance and its subsidiary, Anthem Health Plans of New Hampshire,
Inc. (which acquired the business of BCBS-NH), sponsor defined benefit pension
plans. These plans generally cover all full-time employees who have completed
one year of continuous service and attained the age of twenty-one.
The Company's plan, which beginning January 1, 2001, includes all affiliates
except for Anthem Health Plans of New Hampshire, Inc., is a cash balance
arrangement where participants have an account balance and will earn a pay
credit equal to three to six percent of compensation, depending on years of
service. In addition to the pay credit, participant accounts earn interest at a
rate based on the 10-year Treasury notes.
Anthem Health Plans of New Hampshire, Inc. sponsors a plan that is also a
cash balance arrangement where participants have an account balance and will
earn a pay credit equal to five percent of compensation. The participant
accounts earn interest at a rate based on the lesser of the 1-year Treasury
note or 7%.
Through December 31, 2000, a subsidiary of Rocky Mountain Hospital and
Medical Service, Inc. ("RMHMS") (formerly known as BCBS-CO/NV) sponsored a
pension equity plan where the participants earn retirement credit percentages
based on their age and service when the credit was earned. A lump sum benefit
is calculated for each participant based on this formula. Effective December
31, 2000, the RMHMS plan was frozen and its participants became participants of
the Company's plan on January 1, 2001. Effective April 30, 2001, the RMHMS plan
was merged into the Company's plan.
Through December 31, 2000, Anthem Health Plans of Maine, Inc. (which
acquired the business of BCBS-ME) sponsored a final average pay defined benefit
plan with contributions made at a rate intended to fund the cost of benefits
earned. The plan's benefits are based on years of service and the participant's
highest five year average compensation during the last ten years of employment.
Effective December 31, 2000, the Anthem Health Plans of Maine, Inc. plan was
merged into the Company's plan and its participants became participants of the
Company's plan on January 1, 2001.
All of the plans' assets consist primarily of common and preferred stocks,
bonds, notes, government securities, investment funds and short-term
investments. The funding policies for all plans are to contribute amounts at
least sufficient to meet the minimum funding requirements set forth in the
Employee Retirement Income Security Act plus such additional amounts as are
necessary to provide assets sufficient to meet the benefits to be paid to plan
members.
The effect of acquisitions on the consolidated benefit obligation and plan
assets is reflected through the business combination lines of the tables below.
In addition to the Company's defined benefit and defined contribution plans,
the Company offers most employees certain life, health, vision and dental
benefits upon retirement. There are several plans, which differ in amounts of
coverage, deductibles, retiree contributions, years of service and retirement
age. The Company funds certain benefit costs through contributions to a
Voluntary Employees' Beneficiary Association ("VEBA") trust and others are
accrued, with the retiree paying a portion of the costs. Postretirement plan
assets held in the VEBA trust consist primarily of bonds and equity securities.
79
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
16. Retirement Benefits (continued)
The reconciliations of the benefit obligation based on a measurement date of
September 30 are as follows:
Pension Benefits Other Benefits
--------------- --------------
2001 2000 2001 2000
------ ------ ------ ------
Benefit obligation at beginning of year $567.6 $471.8 $111.6 $117.1
Service cost........................... 29.3 27.3 1.5 1.3
Interest cost.......................... 40.9 36.6 8.7 8.4
Plan amendments........................ (6.8) (1.2) 1.5 (5.2)
Actuarial (gain) loss.................. (5.5) 35.4 31.7 (11.0)
Benefits paid.......................... (42.6) (53.1) (10.7) (8.0)
Business combinations.................. -- 50.8 -- 9.0
------ ------ ------ ------
Benefit obligation at end of year...... $582.9 $567.6 $144.3 $111.6
====== ====== ====== ======
The changes in plan assets are as follows:
Pension Benefits Other Benefits
--------------- -------------
2001 2000 2001 2000
------- ------ ----- -----
Fair value of plan assets at beginning of year $ 650.6 $557.5 $28.4 $23.2
Actual return on plan assets.................. (115.7) 75.3 (3.6) 3.1
Employer contributions........................ 3.0 30.0 2.0 1.2
Benefits paid................................. (42.6) (53.1) (3.1) (3.7)
Business combinations......................... -- 40.9 -- 4.6
------- ------ ----- -----
Fair value of plan assets at end of year...... $ 495.3 $650.6 $23.7 $28.4
======= ====== ===== =====
The reconciliations of the funded status to the net benefit cost accrued are
as follows:
Pension Benefits Other Benefits
--------------- ----------------
2001 2000 2001 2000
------ ------ ------- -------
Funded status................................ $(87.6) $ 83.0 $(120.6) $ (83.2)
Unrecognized net loss (gain)................. 103.2 (61.5) (5.1) (44.1)
Unrecognized prior service cost.............. (25.3) (22.8) (33.6) (41.9)
Unrecognized transition asset................ -- (1.0) -- --
Additional minimum liability................. (6.5) (7.2) -- --
------ ------ ------- -------
Accrued benefit cost at September 30......... (16.2) (9.5) (159.3) (169.2)
Payments made after the measurement date..... 76.7 1.0 2.7 2.6
------ ------ ------- -------
Prepaid (accrued) benefit cost at December 31 $ 60.5 $ (8.5) $(156.6) $(166.6)
====== ====== ======= =======
80
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
16. Retirement Benefits (continued)
The weighted average assumptions used in calculating the accrued liabilities
for all plans are as follows:
Pension Benefits Other Benefits
---------------- ----------------
2001 2000 1999 2001 2000 1999
---- ---- ---- ---- ---- ----
Discount rate......................... 7.25% 7.50% 7.50% 7.25% 7.50% 7.50%
Rate of compensation increase......... 4.50% 4.50% 4.50% 4.50% 4.50% 4.50%
Expected rate of return on plan assets 9.00% 9.00% 9.00% 6.50% 6.27% 6.50%
The assumed health care cost trend rate used in measuring the other benefit
obligations is generally 6% in 2000 and 7% in 1999, and is assumed to decrease
1% per year to 5% through September 30, 2001. Beginning October 1, 2001, the
assumed health care trend rate is 10% decreasing 1% per year to 5% in 2007.
The health care cost trend rate assumption can have a significant effect on
the amounts reported. A one-percentage-point change in assumed health care cost
trend rates would have the following effects:
1-Percentage 1-Percentage
Point Point
Increase Decrease
------------ ------------
Effect on total of service and interest cost components.... $0.4 $(0.4)
Effect on the accumulated postretirement benefit obligation 7.9 (6.5)
Below are the components of net periodic benefit cost:
Pension Benefits Other Benefits
---------------------- -------------------
2001 2000 1999 2001 2000 1999
------ ------ ------ ----- ----- -----
Service cost.......................................... $ 29.3 $ 27.3 $ 26.6 $ 1.5 $ 1.3 $ 2.1
Interest cost......................................... 40.9 36.6 31.4 8.7 8.4 6.2
Expected return on assets............................. (55.1) (49.9) (39.6) (1.8) (1.4) (1.2)
Recognized actuarial (gain) loss...................... 0.3 2.8 1.2 (1.7) (1.7) (2.4)
Amortization of prior service cost.................... (3.9) (3.3) (3.3) (6.8) (6.5) (5.4)
Amortization of transition asset...................... (1.0) (1.7) (2.0) -- -- --
------ ------ ------ ----- ----- -----
Net periodic benefit cost (credit) before curtailments 10.5 11.8 14.3 (0.1) 0.1 (0.7)
Net settlement/curtailment credit..................... -- -- (7.9) -- -- --
------ ------ ------ ----- ----- -----
Net periodic benefit cost (credit).................... $ 10.5 $ 11.8 $ 6.4 $(0.1) $ 0.1 $(0.7)
====== ====== ====== ===== ===== =====
The net settlement/curtailment credit in 1999 result from the divestitures
of several non-core businesses as previously discussed in Note 3.
The Company has several qualified defined contribution plans covering
substantially all employees. Eligible employees may only participate in one
plan. Voluntary employee contributions are matched at the rate of 50%, up to a
maximum depending upon the plan, subject to certain limitations. Contributions
made by the Company totaled $11.2, $10.3 and $8.7 during 2001, 2000 and 1999,
respectively.
81
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
17. Contingencies
Litigation:
A number of managed care organizations have been sued in class action
lawsuits asserting various causes of action under federal and state law. These
lawsuits typically allege that the defendant managed care organizations employ
policies and procedures for providing health care benefits that are
inconsistent with the terms of the coverage documents and other information
provided to their members, and because of these misrepresentations and
practices, a class of members has been injured in that they received benefits
of lesser value than the benefits represented to and paid for by such members.
Two such proceedings which allege various violations of the Employee Retirement
Income Security Act of 1974 ("ERISA") have been filed in Connecticut against
the Company or its Connecticut subsidiary. One proceeding was brought by the
Connecticut Attorney General on behalf of a purported class of HMO and Point of
Service members in Connecticut. No monetary damages are sought, although the
suit does seek injunctive relief from the court to preclude the Company from
allegedly utilizing arbitrary coverage guidelines, making late payments to
providers or members, denying coverage for medically necessary prescription
drugs and misrepresenting or failing to disclose essential information to
enrollees. The complaint contends that these alleged policies and practices are
a violation of ERISA. A second proceeding, brought on behalf of a purported
class of HMO and Point of Service members in Connecticut and elsewhere, seeks
injunctive relief to preclude the Company from allegedly making coverage
decisions relating to medical necessity without complying with the express
terms of the policy documents, and unspecified monetary damages (both
compensatory and punitive).
In addition, the Company's Connecticut subsidiary is a defendant in three
class action lawsuits brought on behalf of professional providers in
Connecticut. The suits allege that the Connecticut subsidiary has breached its
contracts by, among other things, failing to pay for services in accordance
with the terms of the contracts. The suits also allege violations of the
Connecticut Unfair Trade Practices Act, breach of the implied duty of good
faith and fair dealing, negligent misrepresentation and unjust enrichment. Two
of the suits seek injunctive relief and monetary damages (both compensatory and
punitive). The third suit, brought by the Connecticut State Medical Society,
seeks injunctive relief only.
The Company intends to vigorously defend these proceedings. All of the
proceedings are in the early stages of litigation, and their ultimate outcomes
cannot presently be determined.
Following the purchase of Blue Cross and Blue Shield of Maine ("BCBS-ME"),
appeals were filed by two parties that intervened in the administrative
proceedings before Maine's Superintendent of Insurance (the "Superintendent"),
challenging the Superintendent's decision approving the conversion of BCBS-ME
to a stock insurer, which was a required step before the acquisition. In one
appeal, Maine's Attorney General requested the Court to modify the
Superintendent's decision, by requiring BCBS-ME to submit an update to the
statutorily mandated appraisal of its fair market value and to deposit into the
charitable foundation the difference between the net proceeds that have been
transferred to the foundation and the final value of BCBS-ME, if greater. In
the other appeal, a consumers' group also challenged that portion of the
Superintendent's decision regarding the value of BCBS-ME. On December 21, 2001,
the Court issued an opinion affirming the decision of the Superintendent of
Insurance approving the conversion of BCBS-ME and the subsequent acquisition by
Anthem Insurance. The Consumers for Affordable Health Care have appealed this
decision to the Maine Supreme Judicial Court. The Attorney General did not
appeal the decision, and the appeals time has passed. While the Consumer appeal
is still pending, the Company does not believe that the appeal will have a
material adverse effect on its consolidated financial position or results of
operations.
82
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
17. Contingencies (continued)
On March 11, 1998, Anthem Insurance and its Ohio subsidiary, Community
Insurance Company ("CIC") were named as defendants in a lawsuit, Robert Lee
Dardinger, Executor of the Estate of Esther Louise Dardinger v. Anthem Blue
Cross and Blue Shield, et al., filed in the Licking County Court of Common
Pleas in Newark, Ohio. The plaintiff sought compensatory damages and
unspecified punitive damages in connection with claims alleging wrongful death,
bad faith and negligence arising out of the Company's denial of certain claims
for medical treatment for Ms. Dardinger. On September 24, 1999, the jury
returned a verdict for the plaintiff, awarding $1,350 (actual dollars) for
compensatory damages, $2.5 for bad faith in claims handling and appeals
processing, $49.0 for punitive damages and unspecified attorneys' fees in an
amount to be determined by the court. The court later granted attorneys' fees
of $0.8. An appeal of the verdict was filed by the defendants on November 19,
1999. On May 22, 2001, the Ohio Court of Appeals (Fifth District) affirmed the
jury award of $1,350 (actual dollars) for breach of contract against CIC,
affirmed the award of $2.5 compensatory damages for bad faith in claims
handling and appeals processing against CIC, but dismissed the claims and
judgments against Anthem Insurance. The court also reversed the award of $49.0
in punitive damages against both Anthem Insurance and CIC, and remanded the
question of punitive damages against CIC to the trial court for a new trial.
Anthem Insurance and CIC, as well as the plaintiff, appealed certain aspects of
the decision of the Ohio Court of Appeals. On October 10, 2001, the Supreme
Court of Ohio agreed to hear the plaintiff's appeal, including the question of
punitive damages, and denied the cross-appeals of Anthem Insurance and CIC. In
December 2001, CIC paid the award of $2.5 compensatory damages for bad faith
and $1,350 (actual dollars) for breach of contract, plus accrued interest. The
ultimate outcome of the matters that are the subject of the pending appeal
cannot be determined at this time.
In addition to the lawsuits described above, the Company is also involved in
other pending and threatened litigation of the character incidental to the
business transacted, arising out of its insurance and investment operations,
and is from time to time involved as a party in various governmental and
administrative proceedings. The Company believes that any liability that may
result from any one of these actions is unlikely to have a material adverse
effect on its consolidated results of operations or financial condition.
Other Contingencies:
The Company, like a number of other Blue Cross and Blue Shield companies,
serves as a fiscal intermediary for Medicare Parts A and B. The fiscal
intermediaries for these programs receive reimbursement for certain costs and
expenditures, which is subject to adjustment upon audit by the federal Centers
for Medicare and Medicaid Services, formerly the Health Care Financing
Administration. The laws and regulations governing fiscal intermediaries for
the Medicare program are complex, subject to interpretation and can expose an
intermediary to penalties for non-compliance. Fiscal intermediaries may be
subject to criminal fines, civil penalties or other sanctions as a result of
such audits or reviews. In the last five years, at least eight Medicare fiscal
intermediaries have made payments to settle issues raised by such audits and
reviews. These payments have ranged from $0.7 to $51.6, plus a payment by one
company of $144.0. While the Company believes it is currently in compliance in
all material respects with the regulations governing fiscal intermediaries,
there are ongoing reviews by the federal government of the Company's activities
under certain of its Medicare fiscal intermediary contracts.
On December 8, 1999, Anthem Health Plans, Inc. ("AHP"), a subsidiary of
Anthem Insurance, reached a settlement agreement with the Office of Inspector
General ("OIG"), Department of Health and Human Services, in the amount of
$41.9, to resolve an investigation into misconduct in the Medicare fiscal
intermediary operations of Blue Cross & Blue Shield of Connecticut ("BCBS-CT"),
AHP's predecessor. The period investigated was before Anthem Insurance merged
with BCBS-CT. The resolution of this case involved no criminal penalties
against the Company nor any suspension or exclusion from federal programs. This
expense was included in administrative expense in the statement of consolidated
income for the year ended December 31, 1999.
83
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
17. Contingencies (continued)
AdminaStar Federal, Inc. ("AdminaStar"), a subsidiary of Anthem Insurance,
has received several subpoenas from the OIG and the U.S. Department of Justice,
one seeking documents and information concerning its responsibilities as a
Medicare Part B contractor in its Kentucky office, and the others requesting
certain financial records and information of AdminaStar and Anthem Insurance
related to the Company's Medicare fiscal intermediary (Part A) and carrier
(Part B) operations. The Company has made certain disclosures to the government
relating to its Medicare Part B operations in Kentucky. The Company was advised
by the government that, in conjunction with its ongoing review of these
matters, the government has also been reviewing separate allegations made by
individuals against AdminaStar, which are included within the same timeframe
and involve issues arising from the same nucleus of operative facts as the
government's ongoing review. The Company is not in a position to predict either
the ultimate outcome of these reviews or the extent of any potential exposure
should claims be made against the Company. However, the Company believes any
fines or penalties that may arise from these reviews would not have a material
adverse effect on the consolidated financial condition of the Company.
As a Blue Cross Blue Shield Association licensee, the Company participates
in the Federal Employee Program ("FEP"), a nationwide contract with the Federal
Office of Personnel Management to provide coverage to federal employees and
their dependents. On July 11, 2001, the Company received a subpoena from the
OIG, Office of Personnel Management, seeking certain financial documents and
information, including information concerning intercompany transactions,
related to operations in Ohio, Indiana and Kentucky under the FEP contract. The
government has advised the Company that, in conjunction with its ongoing
review, the government is also reviewing a separate allegation made by an
individual against the Company's FEP operations, which is included within the
same timeframe and involves issues arising from the same nucleus of operative
facts as the government's ongoing review. The Company is currently cooperating
with the OIG and the U.S. Department of Justice on these matters. The Company
is not in a position to predict either the ultimate outcome of these reviews or
the extent of any potential exposure should claims be made against the Company.
There can be no assurance that the ultimate outcome of these reviews will not
have a material adverse effect on the Company's consolidated results of
operations or financial condition.
Anthem Insurance guaranteed certain financial contingencies of its
subsidiary, Anthem Alliance Health Insurance Company ("Alliance"), under a
contract between Alliance and the United States Department of Defense. Under
that contract, Alliance managed and administered the TRICARE Managed Care
Support Program for military families from May 1, 1998 through May 31, 2001.
There was no call on the guarantee for the period from May 1, 1998 to April 30,
1999 (which period is now "closed"), and the Company does not anticipate a call
on the guarantee for the periods beginning May 1, 1999 through May 31, 2001
(which periods remain "open" for possible review by the Department of Defense).
Vulnerability from Concentrations:
Financial instruments that potentially subject the Company to concentrations
of credit risk consist primarily of investment securities and premiums
receivable. All investment securities are managed by professional investment
managers within policies authorized by the board of directors. Such policies
limit the amounts that may be invested in any one issuer and prescribe certain
investee company criteria. Concentrations of credit risk with respect to
premiums receivable are limited due to the large number of employer groups that
constitute the Company's customer base in the geographic regions in which we
conduct business. As of December 31, 2001, there were no significant
concentrations of financial instruments in a single investee, industry or
geographic location.
84
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
18. Segment Information
The Company's principal reportable segments are strategic business units
primarily delineated by geographic areas that essentially offer similar
insurance products and services. They are managed separately because each
geographic region has unique market, regulatory and healthcare delivery
characteristics. The geographic regions are: the Midwest region, which operates
primarily in Indiana, Kentucky and Ohio; the East region, which operates
primarily in Connecticut, New Hampshire and Maine; and the West region, which
operates in Colorado and Nevada. BCBS-NH was added to the East region effective
with its October 27, 1999 acquisition, while the West region was established
following the acquisition of BCBS-CO/NV on November 16, 1999. BCBS-ME is
included in the East segment since its acquisition date of June 5, 2000.
In addition to its three principal reportable geographic segments, the
Company operates a Specialty segment, which includes business units providing
group life and disability insurance benefits, pharmacy benefit management,
dental and vision administration services and third party occupational health
services. Various ancillary business units (reported with the Other segment)
consist primarily of AdminaStar Federal which administers Medicare programs in
Indiana, Illinois, Kentucky and Ohio and Anthem Alliance, which provided health
care benefits and administration in nine states for the Department of Defense's
TRICARE Program for military families. The TRICARE operations were sold on May
31, 2001. The Other segment also includes intersegment revenue and expense
eliminations and corporate expenses not allocated to reportable segments.
Through its participation in the Federal Employee Program, Medicare,
Medicare at Risk, and TRICARE Program, the Company generated approximately 20%,
22% and 23% of its total consolidated revenues from agencies of the U.S.
government for the years ended December 31, 2001, 2000 and 1999, respectively.
The Company defines operating revenues to include premium income,
administrative fees and other revenues. Operating revenues are derived from
premiums and fees received primarily from the sale and administration of health
benefit products. Operating expenses are comprised of benefit and
administrative expenses. The Company calculates operating gain or loss as
operating revenue less operating expenses.
The accounting policies of the segments are the same as those described in
the summary of significant accounting policies except that certain shared
administrative expenses for each segment are recognized on a pro rata allocated
basis, which in aggregate approximates the consolidated expense. Any difference
between the allocated expenses and actual consolidated expense is included in
other expenses not allocated to reportable segments. Intersegment sales and
expenses are recorded at cost, and eliminated in the consolidated financial
statements. The Company evaluates performance of the reportable segments based
on operating gain or loss as defined above. The Company evaluates investment
income, interest expense, amortization expense and income taxes, and asset and
liability details on a consolidated basis as these items are managed in a
corporate shared service environment and are not the responsibility of segment
operating management.
The following tables present financial data by reportable segment for each
of the years ended December 31, 2001, 2000 and 1999:
Reportable Segments
---------------------------------------------------------
Other and
Midwest East West Specialty Eliminations Total
-------- -------- ------ --------- ------------ ---------
2001
Operating revenue from external
customers.................... $5,093.0 $3,667.3 $774.4 $182.1 $ 403.5 $10,120.3
Intersegment revenues.......... -- -- -- 214.0 (214.0) --
Operating gain (loss).......... 161.5 128.8 20.1 32.9 (23.8) 319.5
Depreciation and amortization.. 1.0 2.4 2.8 2.6 80.8 89.6
85
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
18. Segment Information (continued)
Reportable Segments
--------------------------------------------------------
Other and
Midwest East West Specialty Eliminations Total
-------- -------- ------ --------- ------------ --------
2000
Operating revenue from external
customers.................... $4,452.3 $2,921.9 $622.4 $188.8 $ 358.1 $8,543.5
Intersegment revenues.......... 8.2 -- -- 143.5 (151.7) --
Operating gain (loss).......... 87.8 103.8 2.5 24.9 (34.9) 184.1
Depreciation and amortization.. 16.9 17.1 8.7 2.1 30.5 75.3
Reportable Segments
---------------------------------------------------------
Other and
Midwest East West Specialty Eliminations Total
-------- -------- ----- --------- ------------ --------
1999
Operating revenue from external
customers.................... $3,968.0 $1,598.9 $72.7 $145.4 $ 295.6 $6,080.6
Intersegment revenues.......... 7.5 -- -- 103.7 (111.2) --
Operating gain (loss).......... 36.4 (0.9) (3.5) 16.2 (19.7) 28.5
Depreciation and amortization.. 16.6 8.5 0.5 1.4 20.1 47.1
Asset and equity details by reportable segment have not been disclosed, as
they are not reported internally by the Company.
A reconciliation of reportable segment operating revenues to the amounts of
total revenues included in the consolidated statements of income for 2001, 2000
and 1999 is as follows:
2001 2000 1999
--------- -------- --------
Reportable segments operating revenues $10,120.3 $8,543.5 $6,080.6
Net investment income................. 238.6 201.6 152.0
Net realized gains on investments..... 60.8 25.9 37.5
Gain on sale of subsidiary operations. 25.0 - -
--------- -------- --------
Total revenues........................ $10,444.7 $8,771.0 $6,270.1
========= ======== ========
A reconciliation of reportable segment operating gain to income from
continuing operations before income taxes and minority interest included in the
consolidated statements of income for 2001, 2000 and 1999 is as follows:
2001 2000 1999
------ ------ -------
Reportable segments operating gain................................ $319.5 $184.1 $ 28.5
Net investment income............................................. 238.6 201.6 152.0
Net realized gains on investments................................. 60.8 25.9 37.5
Gain on sale of subsidiary operations............................. 25.0 - -
Interest expense.................................................. (60.2) (54.7) (30.4)
Amortization of goodwill and other intangible assets.............. (31.5) (27.1) (12.7)
Endowment of non-profit foundations............................... - - (114.1)
Demutualization expenses.......................................... (27.6) - -
------ ------ -------
Income from continuing operations before income taxes and minority
interest........................................................ $524.6 $329.8 $ 60.8
====== ====== =======
86
ANTHEM, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
19. Statutory Information
Statutory-basis capital and surplus of Anthem Insurance amounted to $2,338.7
and $1,907.5 at December 31, 2001 and 2000, respectively. Statutory-basis net
income of Anthem Insurance was $406.9, $91.7 and $201.7 for 2001, 2000 and
1999, respectively. Statutory-basis capital and surplus of Anthem Insurance is
subject to regulatory restrictions with respect to amounts available for
dividends to Anthem.
In 1998, the National Association of Insurance Commissioners adopted
codified statutory accounting principles ("Codification") which became
effective January 1, 2001. Codification resulted in changes to certain
accounting practices that Anthem Insurance and its insurance subsidiaries use
to prepare statutory-basis financial statements. The impact of these changes
was not significant.
20. Selected Quarterly Financial Data (Unaudited)
Selected quarterly financial data is as follows:
For the Quarter Ended
------------------------------------------
March 31 June 30 September 30 December 31
-------- -------- ------------ -----------
2001 Data
Total revenues....................................... $2,560.5 $2,558.3 $2,663.7 $2,662.2
Operating gain....................................... 59.9 73.4 79.1 107.1
Net income........................................... 70.6 72.4 111.5 87.7
Pro forma basic earnings per share................... 0.68 0.70 1.08 0.85
Pro forma diluted earnings per share................. 0.68 0.70 1.07 0.85
Basic and diluted net income per share for the period
from November 2, 2001 (date of demutualization
and initial public offering) to December 31, 2001.. -- -- -- 0.54
2000 Data
Total revenues....................................... $1,962.1 $2,104.1 $2,320.0 $2,384.8
Operating gain....................................... 32.4 34.2 53.3 64.2
Net income........................................... 40.4 49.9 63.5 72.2
Pro forma basic earnings per share................... 0.39 0.48 0.62 0.70
Pro forma diluted earnings per share................. 0.39 0.48 0.61 0.70
There were no shares or dilutive securities outstanding prior to the
demutualization and initial public offering. For comparative pro forma earnings
per share presentation, the weighted average shares outstanding and the effect
of dilutive securities for the period from November 2, 2001 to December 31,
2001 was used to calculate pro forma earnings per share for all periods
presented.
21. Subsequent Events
Anthem's Board of Directors approved a common stock repurchase program under
which management has been authorized to purchase up to $400.0 worth of shares,
subject to business and market conditions. Shares may be repurchased in the
open market and in negotiated transactions for a period of twelve months
beginning February 6, 2002.
On May 30, 2001, Anthem Insurance and Blue Cross and Blue Shield of Kansas
("BCBS-KS") signed a definitive agreement pursuant to which BCBS-KS would
become a wholly-owned subsidiary of Anthem Insurance. Under the proposed
transaction, BCBS-KS would demutualize and convert to a stock insurance
company. The agreement calls for Anthem Insurance to pay $190.0 in exchange for
all of the shares of BCBS-KS. On February 11, 2002, the Kansas Insurance
Commissioner disapproved the proposed transaction, which had been previously
approved by the BCBS-KS policyholders in January 2002. On February 19, 2002,
the board of directors of BCBS-KS voted unanimously to appeal the Kansas
Insurance Commissioner's decision and BCBS-KS will seek to have the decision
overturned in Shawnee County District Court. The Company will join BCBS-KS in
the appeal.
87
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
There have been no changes in or disagreements with the Company's
independent certified public accountants on accounting or financial disclosures.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this Item concerning the Directors and nominees
for Director of the Company and concerning disclosure of delinquent filers
under Section 16(a) of the Exchange Act is incorporated herein by reference
from the Company's definitive Proxy Statement for its 2002 Annual Meeting of
Shareholders, which will be filed with the Commission pursuant to Regulation
14A within 120 days after the end of the Company's last fiscal year.
Information concerning the executive officers of the Company is included under
the caption "Executive Officers of the Company" at the end of Part I of this
Annual Report. Such information is incorporated herein by reference, in
accordance with General Instruction G(3) to Form 10-K and Instruction 3 to Item
401(b) of Regulation S-K.
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this Item concerning remuneration of the
Company's officers and Directors and information concerning material
transactions involving such officers and Directors is incorporated herein by
reference from the Company's definitive Proxy Statement for its 2002 Annual
Meeting of Shareholders which will be filed with the Commission pursuant to
Regulation 14A within 120 days after the end of the Company's last fiscal year.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this Item concerning the stock ownership of
management and five percent beneficial owners is incorporated herein by
reference from the Company's definitive Proxy Statement for its 2002 Annual
Meeting of Shareholders which will be filed with the Commission pursuant to
Regulation 14A within 120 days after the end of the Company's last fiscal year.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this Item concerning certain relationships and
related transactions is incorporated herein by reference from the Company's
definitive Proxy Statement for its 2002 Annual Meeting of Shareholders which
will be filed with the Commission pursuant to Regulation 14A within 120 days
after the end of the Company's last fiscal year.
88
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) 1. Financial Statements:
The following consolidated financial statements of the Company and
its subsidiaries are set forth in Part II, Item 8.
Report of Independent Auditors
Consolidated Balance Sheets as of December 31, 2001 and 2000
Consolidated Statements of Income for the years ended December
31, 2001, 2000 and 1999
Consolidated Statements of Shareholders' Equity for the years
ended December 31, 2001, 2000 and 1999
Consolidated Statements of Cash Flows for the years ended
December 31, 2001, 2000 and 1999
Notes to Consolidated Financial Statements
2. Financial Statement Schedule
The following financial statement schedule of the Company is
included in Item 14(d):
Schedule II--Condensed Financial Information of Registrant (Parent
Company Only).
All other schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are
not required under the related instructions, are inapplicable, or the
required information is included in the consolidated financial
statements, and therefore have been omitted.
3. Exhibits:
A list of exhibits required to be filed as part of this report is
set forth in the Index to Exhibits, which immediately precedes such
exhibits, and is incorporated herein by reference.
(b) Reports on Form 8-K
The following Current Reports on Form 8-K were filed or furnished
during the fourth quarter of 2001:
1. Form 8-K filed November 14, 2001 attaching a press release
dated November 14, 2001, announcing financial results for the third
quarter 2001.
2. Form 8-K furnished, not filed, December 17, 2001 reporting
meetings at which it was expected that earnings expectations
previously reported would be confirmed.
89
(d) Financial Statement Schedule
Schedule II--Condensed Financial Information of Registrant
Anthem, Inc.
(Parent Company Only)
Balance Sheet
December 31, 2001
------------------
(In Millions,
Except Share Data)
Assets
Current assets:
Cash and cash equivalents.................................................... $ 24.6
Interest receivable.......................................................... 0.8
--------
Total current assets............................................................ 25.4
Investment in subsidiary........................................................ 2,259.0
--------
Total assets.................................................................... $2,284.4
========
Liabilities and shareholders' equity
Liabilities
Current liabilities:
Accounts payable and accrued expenses........................................ $ 2.3
Income taxes payable......................................................... 1.9
--------
Total current liabilities....................................................... 4.2
Debentures included in Equity Security Units.................................... 220.2
--------
Total liabilities............................................................... 224.4
Shareholders' equity
Common stock, par value $0.01, shares authorized--900,000,000; shares issued and
outstanding: 103,295,675...................................................... 1.1
Additional paid in capital...................................................... 1,960.8
Retained earnings............................................................... 55.7
Accumulated other comprehensive income.......................................... 42.4
--------
Total shareholders' equity...................................................... 2,060.0
--------
Total liabilities and shareholders' equity...................................... $2,284.4
========
See accompanying notes.
90
Schedule II--Condensed Financial Information of Registrant--(continued)
Anthem, Inc.
(Parent Company Only)
Statement of Income
For the Period from
November 2, 2001
(Date of Demutualization
and Initial Public Offering)
to December 31, 2001
----------------------------
(In Millions)
Revenues
Net investment income....................................... $ 7.7
Expenses
Interest expense............................................ 2.6
-----
Income before income taxes.................................. 5.1
Income taxes................................................ 1.9
-----
Income before equity in undistributed earnings of subsidiary 3.2
Equity in undistributed earnings of subsidiary.............. 52.5
-----
Net income.................................................. $55.7
=====
See accompanying notes.
91
Schedule II--Condensed Financial Information of Registrant--(continued)
Anthem, Inc.
(Parent Company Only)
Statement of Cash Flow
For the Period from
November 2, 2001
(Date of Demutualization
and Initial Public Offering)
to December 31, 2001
----------------------------
(In Millions)
Operating activities
Net income....................................................................... $ 55.7
Adjustments to reconcile net income to net cash provided by operating activities:
Undistributed earnings of subsidiary.......................................... (52.5)
Amortization of debt issuance costs........................................... 0.3
Changes in operating assets and liabilities:
Interest receivable....................................................... (0.8)
Accounts payable and accrued expenses..................................... 2.3
Income taxes.............................................................. 1.9
---------
Cash provided by operating activities............................................ 6.9
Investing activities
Capital contribution to subsidiary............................................... (28.9)
---------
Cash used in investing activities................................................ (28.9)
Financing activities
Net proceeds from common stock issued in the initial public offering............. 1,890.4
Net proceeds from issuance of Equity Security Units.............................. 219.8
Payments to eligible statutory members in the demutualization.................... (2,063.6)
---------
Cash provided by financing activities............................................ 46.6
---------
Change in cash and cash equivalents.............................................. 24.6
Cash and cash equivalents at beginning of period................................. --
---------
Cash and cash equivalents at end of period....................................... $ 24.6
=========
See accompanying notes.
92
Schedule II--Condensed Financial Information of Registrant--(continued)
Anthem, Inc.
(Parent Company Only)
Notes to Condensed Financial Statements
December 31, 2001
(Dollars in Millions)
1. Basis of Presentation and Significant Accounting Policy
On November 2, 2001, Anthem Insurance Companies, Inc. ("Anthem Insurance")
converted from a mutual insurance company to a stock insurance company. The
demutualization was accounted for as a reorganization using the historical
carrying values of the assets and liabilities of Anthem Insurance. Accordingly,
immediately following the demutualization and the initial public offering,
Anthem Insurance's policyholders' surplus was reclassified to par value of
common stock and additional paid in capital. Concurrent with the
demutualization, Anthem Insurance became a wholly-owned subsidiary of Anthem,
Inc. ("Anthem").
In the parent company financial statements, Anthem's investment in
subsidiary is stated at cost plus equity in undistributed earnings of the
subsidiary since the effective date of the demutualization on November 2, 2001.
Anthem's share of net income of its unconsolidated subsidiary is included in
income using the equity method of accounting.
Parent company only financial statements should be read in conjunction with
Anthem's audited consolidated financial statements and the accompanying notes
thereto included in Part II, Item 8 of this Form 10-K.
2. Investment in Subsidiary
Following the demutualization and initial public offering, Anthem made a
capital contribution to Anthem Insurance in the amount of $28.9.
3. Long Term Debt
On November 2, 2001, Anthem issued 4,600,000 of 6.00% Equity Security Units.
Each Unit contains a 5.95% subordinated debenture. The debentures are unsecured
and are subordinated in right of payment to all of Anthem's existing and future
senior indebtedness. The debentures will mature on November 15, 2006. Each
debenture will initially bear interest at the rate of 5.95% per year, payable
quarterly, commencing February 15, 2002, subject to Anthem's rights to defer
these payments.
On November 5, 2001, Anthem and Anthem Insurance entered into two new
unsecured revolving credit facilities totaling $800.0. Anthem is jointly and
severally liable for all borrowings under the facilities. Anthem also will be
permitted to be a borrower under the facilities, if the Indiana Insurance
Commissioner approves Anthem Insurance's joint liability for Anthem's
obligations under the facilities. Each credit agreement requires Anthem to
maintain certain financial ratios and contains minimal restrictive covenants.
Availability under these facilities is reduced by the amount of any commercial
paper outstanding under Anthem Insurance's commercial paper program. No amounts
were outstanding under these facilities at December 31, 2001 or during the year
then ended.
Subsequent to December 31, 2001, Anthem and Anthem Insurance entered into
two new agreements allowing aggregate indebtedness of $135.0. Anthem will
guarantee all obligations of Anthem Insurance under the facilities. Anthem also
will be permitted to be a borrower under the facilities, if the Indiana
Insurance Commissioner approves Anthem Insurance's guarantee of Anthem's
obligations under the facilities.
93
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
ANTHEM, INC.
By: /s/ LARRY C. GLASSCOCK
-----------------------------
Larry C. Glasscock
President and Chief Executive
Officer
Dated: March 25, 2002
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Name Title Date
---- ----- ----
/s/ LARRY C. GLASSCOCK President, Chief Executive March 25, 2002
----------------------------- Officer and Director
Larry C. Glasscock (Principal Executive
Officer)
/S/ MICHAEL L. SMITH Executive Vice President and March 25, 2002
----------------------------- Chief Financial and
Michael L. Smith Accounting Officer
(Principal Financial and
Principal Accounting
Officer)
/S/ L. BEN LYTLE Director March 25, 2002
-----------------------------
L. Ben Lytle
/S/ SUSAN B. BAYH Director March 25, 2002
-----------------------------
Susan B. Bayh
/S/ WILLIAM B. HART Director March 25, 2002
-----------------------------
William B. Hart
/S/ ALLAN B. HUBBARD Director March 25, 2002
-----------------------------
Allan B. Hubbard
/S/ VICTOR S. LISS Director March 25, 2002
-----------------------------
Victor S. Liss
/S/ WILLIAM G. MAYS Director March 25, 2002
-----------------------------
William G. Mays
/S/ JAMES W. MCDOWELL, JR. Director March 25, 2002
-----------------------------
James W. McDowell, Jr.
/S/ B. LARAE ORULLIAN Director March 25, 2002
-----------------------------
B. LaRae Orullian
/S/ DONALD W. RIEGLE, JR. Director March 25, 2002
-----------------------------
Senator Donald W. Riegle, Jr.
94
Signature Title Date
--------- ----- ----
/s/ WILLIAM J. RYAN Director March 25, 2002
------------------------------
William J. Ryan
/s/ GEORGE A. SCHAEFER, JR. Director March 25, 2002
------------------------------
George A. Schaefer, Jr.
/s/ DENNIS J. SULLIVAN, JR. Director March 25, 2002
------------------------------
Dennis J. Sullivan, Jr.
95
INDEX TO EXHIBITS
Exhibit
Number Document
------ --------
2.1 Plan of Conversion (1)
2.2 Alliance Agreement, dated as of May 30, 2001, between Blue Cross and Blue Shield of Kansas, Inc.
and Anthem Insurance Companies, Inc. (exhibits thereto will be furnished supplementally to the
Securities and Exchange Commission upon request) (1)
3.1 Restated Articles of Incorporation of the Registrant (1)
3.2 By-Laws of the Registrant (1)
4.1 Form of certificate for the common stock, $0.01 par value per share, of the Registrant (1)
4.2 Upon the request of the Securities and Exchange Commission, the Registrant will furnish copies of
all instruments defining the rights of holders of long-term debt of the Registrant
4.3 Indenture, dated as of November 2, 2001, by and between Anthem, Inc. and The Bank of New York,
as trustee (2)
4.4 First Supplemental Indenture, dated as of November 2, 2001, between Anthem, Inc. and The Bank of
New York, as trustee (2)
4.5 Purchase Contract Agreement, dated as of November 2, 2001, between Anthem, Inc. and The Bank
of New York, as purchase contract agent (2)
4.6 Pledge Agreement, dated as of November 2, 2001, among Anthem, Inc., The Chase Manhattan Bank,
as collateral agent, as custodial agent and as securities intermediary, and The Bank of New York, as
purchase contract agent (2)
4.7 Form of Debenture (Included in Exhibit 4.4) (2)
4.8 Form of Normal Unit (Included in Exhibit 4.5) (2)
4.9 Form of Stripped Unit (Included in Exhibit 4.5) (2)
4.10 Form of Remarketing Agreement (3)
4.11 Five-Year Credit Agreement dated as of November 5, 2001, among Anthem Insurance Companies,
Inc., Anthem, Inc., the Lenders party thereto, The Chase Manhattan Bank, as Administrative Agent,
Bank of America, N.A., as Syndication Agent, and Fleet National Bank, as Documentation Agent (2)
4.12 364-Day Credit Agreement dated as of November 5, 2001, among Anthem Insurance Companies,
Inc., Anthem, Inc., the Lenders party thereto, the Chase Manhattan Bank, as Administrative Agent,
Bank of America, N.A., as Syndication Agent, and Fleet National Bank, as Documentation Agent (2)
10.1* Anthem 2001 Stock Incentive Plan (1)
10.2* Anthem Employee Stock Purchase Plan (1)
10.3* Employment Agreement by and between Anthem Insurance Companies, Inc. and Larry C.
Glasscock, dated as of October 22, 1999 (1)
10.4* Employment Agreement by and between Anthem Insurance Companies, Inc. and David R. Frick,
dated as of January 1, 2000 (1)
10.5* (i) Employment Agreement by and between Anthem Insurance Companies, Inc. and Samuel R.
Nussbaum, M.D., dated as of January 2, 2001 (1)
(ii) Amendment One to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Samuel R. Nussbaum, M.D., effective as of January 1, 2002
96
Exhibit
Number Document
------ --------
10.6* Employment Agreement by and between Anthem Insurance Companies, Inc. and Michael L. Smith,
dated as of January 1, 2000 (1)
10.7* (i) Employment Agreement by and between Anthem Insurance Companies, Inc. and Marjorie W.
Dorr, dated as of January 1, 1999 (1)
(ii) Amendment One to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Marjorie W. Dorr, effective as of January 1, 2000 (1)
(iii) Amendment Two to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Marjorie W. Dorr, effective as of July 29, 2000 (1)
(iv) Amendment Three to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Marjorie W. Dorr, effective as of January 1, 2001 (1)
(v) Amendment Four to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Marjorie W. Dorr, effective as of January 1, 2002
10.8* (i) Employment Agreement by and between Anthem Insurance Companies, Inc. and Keith R.
Faller, dated as of January 1, 1999 (1)
(ii) Amendment One to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Keith R. Faller, effective as of January 1, 2000 (1)
(iii) Amendment Two to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Keith R. Faller, effective as of January 1, 2001 (1)
(iv) Amendment Three to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Keith R. Faller, effective as of January 1, 2002
10.9* (i) Employment Agreement by and between Anthem Insurance Companies, Inc. and Michael D.
Houk, dated as of August 12, 2000 (1)
(ii) Amendment One to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Michael D. Houk, effective as of January 1, 2002
10.10* (i) Employment Agreement by and between Anthem Insurance Companies, Inc. and Caroline S.
Matthews, dated as of April 1, 1999 (1)
(ii) Amendment One to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Caroline S. Matthews, effective as of January 1, 2000 (1)
(iii) Amendment Two to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Caroline S. Matthews, effective as of January 1, 2001 (1)
(iv) Amendment Three to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Caroline S. Matthews, effective as of January 1, 2002
10.11* (i) Employment Agreement by and between Anthem Insurance Companies, Inc. and John M.
Murphy, dated as of September 6, 2000 (1)
(ii) Amendment One to Employment Agreement by and between Anthem Insurance Companies,
Inc. and John M. Murphy, effective as of January 1, 2002
10.12* (i) Employment Agreement by and between Anthem Insurance Companies, Inc. and Jane
Niederberger, dated as of February 22, 1999 (1)
(ii) Amendment One to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Jane Niederberger, effective as of January 1, 2000 (1)
(iii) Amendment Two to Employment Agreement by and between Anthem Insurance Companies,
Inc. and Jane Niederberger, effective as of January 1, 2002
97
Exhibit
Number Document
------ --------
10.13* Letter from Anthem Insurance Companies, Inc. to L. Ben Lytle regarding retirement benefits (1)
10.14* (i) Anthem Deferred Compensation Plan (1)
(ii) First Amendment to Anthem Deferred Compensation Plan (1)
(iii) Second Amendment to Anthem Deferred Compensation Plan (1)
10.15* Anthem Board of Directors Deferred Compensation Plan (1)
10.16* (i) Anthem Supplemental Executive Retirement Plan (1)
(ii) First Amendment to Anthem Supplemental Executive Retirement Plan (1)
(iii) Second Amendment to Anthem Supplemental Executive Retirement Plan (1)
10.17* Anthem 1998 Long-Term Incentive Plan (1)
10.18* Anthem 2001-2003 Long-Term Incentive Plan (1)
10.19* Anthem Annual Incentive Plan (1)
10.20* Anthem Directed Executive Compensation Plan (1)
10.21* Anthem Split Dollar Life Insurance Program (1)
10.22 Blue Cross License Agreement by and between Blue Cross and Blue Shield Association and the
Registrant, dated November 2, 2001.
10.23 Blue Shield License Agreement by and between Blue Cross and Blue Shield Association and the
Registrant, dated November 2, 2001.
21 Subsidiaries of the Registrant
23 Consent of Independent Auditors
99 Risk Factors
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* Indicates management contracts or compensatory plans or arrangements.
(1) The copy of this exhibit filed as the same exhibit number to the Company's
Registration Statement on Form S-1 (Registration No. 333-67714) as filed
with the Commission is incorporated herein by reference.
(2) The copy of this exhibit filed as the same exhibit number to the Company's
Quarterly Report on Form 10-Q for the quarter ended September 30, 2001 is
incorporated herein by reference.
(3) The copy of this exhibit filed as the same exhibit number to the Company's
Registration Statement on Form S-1 (Registration No. 333-70566) as filed
with the Commission is incorporated herein by reference.
98