WellPoint, Inc., Q4 2008 Earnings Call Transcript

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WellPoint, Inc., (WLP) Q4 2008 Earnings Call January 28, 2009 8:30 AM ET

Executives

Angela F. Braly - President and Chief Executive Officer

Wayne S. DeVeydt - Executive Vice President and Chief Financial Officer

Ken R. Goulet - Executive Vice President and President of Commercial Business

Brian A. Sassi - Executive Vice President and President of Consumer Business

Michael Kleinman - Vice President of Investor Relations

Analysts

John Rex - J.P. Morgan

Justin Lake - UBS

Joshua Raskin - Barclays Capital

Matthew Borsch - Goldman Sachs

Scott Fidel - Deutsche Bank

Charles Boorady - Citigroup

Carl McDonald - Oppenheimer

Ana Gupte - Sanford Bernstein Research

Peter Costa - FTN Midwest Securities Corp

Greg Nersessian - Credit Suisse

Operator

Welcome to the WellPoint conference call. (Operator Instructions). As a reminder, this conference is being recorded. I would now like to turn the conference over to the company's management.

Michael Kleinman

Good morning and welcome to WellPoint's fourth quarter earnings conference call. I'm Michael Kleinman, Vice President of Investor Relations. With me this morning are Angela Braly, our President and Chief Executive Officer; Wayne DeVeydt, Executive Vice President and Chief Financial Officer; Ken Goulet, Executive Vice President and President of our Commercial Business; and Brian Sassi, Executive Vice President and President of our Consumer Business.

Angela will begin this morning's call with an overview of our fourth quarter results, actions, and accomplishments. Wayne will then offer a detailed review of our fourth quarter financial performance and current guidance which will be followed by a question and answer session in which Ken and Brian will also participate.

This call will reference a non-GAAP amount. A reconciliation of this non-GAAP amount as the most directly comparable measure calculated in accordance with GAAP is available on the investor information page of our company’s website at www.wellpoint.com.

We will be making some forward-looking statements on this call. Listeners are cautioned that these statements are subject to certain risks and uncertainties, many of which are difficult to predict and generally beyond the control of WellPoint.

These risks and uncertainties can cause actual results to differ materially from current expectations. We advise listeners to review the risk factors discussed in our press release this morning and other periodic filings we make with the SEC. I will now turn the call over to Angela.

Angela F. Braly

Good morning. Today we announced fourth quarter 2008 net income of $331 million or $0.65 per share. This included net realized investment losses of $351 million after tax or $0.69 per share. Net income in the fourth quarter of 2007 was $859 million or $1.51 per share which included net realized investment gain of less than $0.01 per share.

Full year’s 2008 net income was $2.5 billion or $4.76 per share. These results included net realized investment losses of $1.45 per share, a $0.17 per share impairment charge related to State Sponsored intangible assets and $0.90 per share in income tax benefits resulting from the favorable resolution of certain federal and state tax matters. Net income for the full year of 2007 was $3.3 billion or $5.56 per share which included $0.01 per share in net realized investment gain.

We had a solid fourth quarter in core operations where results were in line with our expectations reflecting actions we’ve taken to effectively manage our business through the current economic situation and for the long term. WellPoint remains in a strong financial position with a diverse investment portfolio and strong liquidity.

During the fourth quarter, our subsidiaries paid $2 billion in dividends to the parent company. At the end of 2008, statutory capital levels in our insurance subsidiaries exceeded State requirement by $4.9 billion and Blue Cross Blue Shield association requirement by $1.8 billion.

Corrective action plans we implemented during 2008 have laid the ground work for growth in 2009 and beyond. One of our internal enhancements was the creation of the WellPoint Operations Council chaired by Ken Goulet. The council is comprised of six key executives who manage the areas that most directly drive our operating revenue and profit. This team is accountable for obtaining our operating target and maximizing profitable growth.

With the focus and leadership of this Operations Council and the support of the rest of my executive leadership team, I believe that we will continue to execute on our plans to improve performance and enhance customer and shareholder value.

As a result of a number of initiatives and focus on execution, both the level and aging of our claims inventory continues to improve. Lower inventories improve our customer service, provide greater visibility for actuarial reserving estimates, and enable us to price more accurately. Our inventories are down 43% from their peak level in February 2008 and with an 8% decline in the fourth quarter alone are at the lowest level in over 2 years.

We’ve had a number of very successful product introductions during 2008 including the New York Prism product with more than 180,000 members. Other product roll-outs included 360-Degree Health and the Central State EmployeeElect in California, Colorado, Nevada, and Georgia, and Blue Essential in Georgia.

In 2009, we will continue introducing innovative products and will be rolling out lower cost options in several states, particularly in the east. In the northeast we plan to launch Access Blue which is a broader network HMO offering. Also, as we introduce new products, we’re working to retire inactive product designs to reduce the number of product variations that must be maintained and that add unnecessarily to administrative expense.

Turning now to our topline, operating revenue was $15.4 billion in the fourth quarter of 2008, an increase of 1% from the prior year period. The increase was driven by premium rate increases in all medical lines of business and growth in our Medicare Advantage products. We continue to be very disciplined in our pricing and are implementing actuarially sound rate increases across all our lines of business. These revenue increases are partially offset by the loss of the New York State Prescription Drug Contract and lower commercial and State Sponsored fully-insured memberships.

Our medical enrollment totaled 35 million members at December 31, 2008, an increase of 240,000 members or 1% over December 31, 2007. The increase was driven by our national business which added over 500,000 members during 2008. National account customers continued to appreciate the unique value of our large network, deep discounts, and outstanding service. Membership in our senior business grew by 54,000, and enrollment in the Federal Employee Program increased by 13,000. This membership growth in 2008 was partially offset by a loss of just over 200,000 State Sponsored members primarily in Ohio where we were unable to obtain actuarially sound rates.

We believe that State Sponsored programs provide significant benefits for both state government and recipients by providing program beneficiaries with access to better coordinated medical care at a lower cost, but in doing so, we must be able to receive actuarially sound rates.

With the economic downturn our nation is experiencing, we do expect to see more opportunities in State Sponsored programs as governments match available resources with rising eligibility.

We also saw attrition of 94,000 individual members and 31,000 local group members. The attrition in the individual and local groups primarily resulted from our non-Blue branded UniCare product in which membership declined by 279,000 during the year due significantly to price increases. Enrollment in the company’s Blue branded individual and local group products increased by 154,000 members during 2008.

During the fourth quarter of 2008, medical enrollment declined by 288,000 members or 1%. Most of this decline occurred in the commercial business and is a reflection of the economic downturn. Our group customer retention rate remained very strong at over 90%. In the fourth quarter, in-group enrollment decline totaled 148,000 as employers reduced work forces. The decline in membership was most pronounced in the national business and was experienced across a wide variety of industries.

As the largest provider of medical insurance in the country, our business is spread among a large number of diverse industries and does not have significant concentration in any one industry.

Enrollment in the consumer business segment declined by 80,000 in the fourth quarter of 2008, primarily related to self-funded Connecticut Medicaid members beginning a transition to other carriers.

Overall, the competitive situation remains generally rational, while from time to time we see one off cases that do not appear to be economically sound. We are making continual changes in our business approach to further capitalize on our strong value proposition. We continue to face a competitive situation in California, and during the past several years, we saw membership losses from our California focal renewal process, and we are ending focal renewals in 2009.

Historically, the focal increases provided us the ability to rate our entire California small group block at one point in time. However, the focal renewal has become a market disadvantage as our competitors plan their sales in marketing activities around it. Eliminating the focal renewals also improves the relationship we have with our brokers and agents, as in the focal cycle approximately 45,000 groups renew at once, stretching the resources of our producers. Impacted groups will receive their next rate increase on their anniversary date, not on May 1, 2009.

More about our membership expectations will be provided at the Investor Day, but our diverse membership base helps reduce volatility in varying economic conditions.

For 2009 we expect that the economic conditions will continue to deteriorate and unemployment will continue to increase. We expect unemployment to peak at over 10% in some of our Blue states. This is expected to negatively impact commercial membership in 2009.

National enrollment for January 1, 2009, exceeded our expectations. Even though we expect higher unemployment related to attrition during 2009, we now project over 300,000 net adds in national by year end.

State Sponsored and senior membership are expected to decline in 2009 due to the previously announced actions we’ve undertaken to improve financial results. We will withdraw from the Connecticut and Nevada State Sponsored business, and we’ve discontinued offering the enhanced plan Medicare Advantage plans.

Effective centers for Medicare and Medicaid services or CMS marketing enrollment suspension have a small impact on 2009 membership, and I want to briefly discuss this situation.

Over the past 6 months, we’ve been working with CMS to resolve issues identified as a result of our internal compliance audits and findings from a recent CMS audit. Our work included detailed action plans and time lines which were submitted to, reviewed, and accepted by CMS to remediate the findings. In addition, we engaged in independent third party to provide CMS with ongoing assessment regarding our compliance, processes, and procedures.

We have completed a majority of the remediation steps in a timely fashion, meeting substantially all of our agreed-upon goals to date. While our IT resources are an important part of the compliance program, these issues were not related to a migration of a legacy system, and we who have been meeting with CMS on a regular basis regarding our remediation process, we were surprised by their recent actions. We’re working closely with CMS and marketing an enrollment of the company’s Medicare Advantage, and Medicare Part D products have been suspended until remediation efforts have been substantially completed.

When we determined that there were issues involving some members’ ability to access their pharmacy benefit effective January 1, 2009, we self-reported the issues and promptly put a process in place to help ensure that the benefits were available to cover members’ medications.

We take member access to benefits and member health very seriously. As a result of our actions, members are getting the medications covered by their benefits as expected, and to make sure of this, we are in the process of reaching out to members who had claims denied and those who subsequently received their drugs. We have made significant progress in addressing these issues including implementing a robust compliance monitoring program.

Our plan is to continue to work with CMS to make improvements as soon as possible, and we will continue to put the resources of our company behind this effort to help ensure that we meet the needs of our Medicare Advantage and Part D members.

The CMS action does not affect members currently enrolled in our Medicare supplement products and does not impact our commercial business. We are working diligently to get the marketing enrollment suspension listed as expeditiously as possible.

Turning now to the economic environment, current conditions and valuations have us looking at our entire operations, how we can be more productive, and how we can maximize the value of our assets. In a move to optimize expenses, earlier this month we announced the difficult decision to adjust the size of our work force by eliminating approximately 1500 positions. This includes the elimination of more than 900 open positions and laying off approximately 600 associates. The reductions were needed to streamline our administrative cost structure heading into 2009.

The challenging economic climate in the United States is causing many customers to reduce work force size and to take more cost effective solutions and services from that health plan. We have modeled multiple scenarios that a weaker overall economy can have in our business and our membership, and have determined that operating at a lower level of administrative cost will allow us to be more competitive.

We continue to meet our members’ needs while appropriately controlling operating expenses. Customer service to all members remains a high priority for WellPoint, and we do not impact any existing compliance staff involved in the CMS compliance process. We remain committed to providing our members with a high quality customer service they expect and developing innovative solutions to address the rising cost of health care.

Another way we can become more productive is through our information technology strategy. Due to our history as a consolidator of health plans, we still have a number of planned processing systems across our company, and our goal is to reduce this number to three core systems over time.

Certain system migrations in 2006 and 2007 could have been executed better, and impacted our 2008 financial performance. In recognition, we’ve refreshed our IT strategy, implemented a number of improved processes and procedures, and upgraded reporting across our company to ensure better results as we move down a path of standardization. Our Operations Council collaborates on our planning and closely monitors system migrations.

Our enhancements included improvements to the electronic adjudication of clients, another process improvement that have produced a lower claims inventory and other improvements to customer service that we’ve experienced.

Our priorities for 2009 include enhancement and readiness of target programs for future migrations and the build-out and deployment of the enterprise business capability. This month, we successfully completed a virtually flawless migration of 1 million legacy WellChoice members from an outside vendor to our next Rx PBM.

We also continue our efforts to address medical cost inflation while providing better quality innovative programs like our industry leading Blue Distinction Centers for cardiac care where we’ve demonstrated higher quality care at lower cost. Blue Distinction Centers for cardiac care have shown lower readmission rates and lower costs for cardiac bypass surgery and outpatient angioplasty. We believe that plan to deliver this kind of cost saving and quality improvement provides exceptional value to our health care system and will be a long-term winner.

We are managing this company for long-term success. In 2008, our earnings per share adjusted for realized investment losses the intangible asset write-down and tax benefit was $5.48. From this adjusted earnings per share, we expect low single digit EPS growth in 2009 which excludes realized investment gains or losses. We’ll provide more information at our Investor Day next month.

We continue to build on the momentum from our 2008 performance improvement plans making the necessary changes to further enhance our claims processing and customer service functions and streamlining operations. We proactively manage our business and make adjustments based on market conditions while striving to provide the best value through innovative products and services.

We’ll continue to make the necessary adjustments to meet our customer commitments and financial objectives for 2009 and beyond.

I’ll now turn over the call to Wayne DeVeydt for a detailed discussion of our fourth quarter 2008 financials.

Wayne S. DeVeydt

Good morning. Our underlying operations are doing well, and this is reflected in our fourth quarter 2008 results.

Premiums were $14.3 billion in the fourth quarter of 2008, an increase of $25 million over the fourth quarter of 2007, primarily due to premium rate increases for all medical lines of business, growth in our Medicare Advantage business, and increased reimbursement in the FEP program.

These increases were partially offset by the loss of the New York State Prescription Drug contract, our exit from the Ohio Medicaid Program, lower premium volume due to membership declines in non-Blue and UniCare business, and conversion of the Connecticut Medicaid Program to self-funded status.

Large group benefit buy-downs for 2008 were in line with historical levels and early renewals in 2009 showed the same pattern as many larger benefit designs were locked in prior to further economic declines in 2008. Employers will likely seek even better value from the benefit plans going forward, and we believe this plays to our advantage because of our unique value proposition.

Administrative fees increased by $61 million or 7% to $975 million in the fourth quarter of 2008 when compared to the fourth quarter of 2007 primarily due to self-funded membership both at national including Blue Card and local group. The benefit expense ratio was 83.4% in the fourth quarter of 2008, an increase of 50 basis points from 82.9% in the prior year quarter. The increase was driven by higher medical costs and membership exchanges in the local group business including a timing of medical claims recognition.

As previously disclosed, we strengthened reserves in the first quarter of 2008 when fourth quarter 2007 claim cost about at a higher level than was anticipated at December 31, 2007. We also incurred a higher benefit expense ratio in our Medicare Advantage business during 2008 due principally to benefit plan designed that attracted less healthy participants. We discontinued these benefit plan designed effective January 1, 2009. These increases in the benefit expense ratio were partially offset by the loss of the New York State Prescription Drug contract which had a benefit expense ratio higher than the overall company average and an improvement in the state sponsored benefit expense ratio primarily due to our withdrawal from the Ohio Medicaid programs.

The benefit expense ratio increased by 90 basis points from the third quarter of 2008 reflecting the seasonality of local group and individual product design as more members with bill deductibles can reach out-of-pocket maximums towards the end of the calendar year. The sequentially higher benefit expense ratio for local group and individual business was partially offset by a decline in the ratio for the California State sponsored programs.

Overall, we’re achieving our target of price increases as evidenced by the average benefit expense ratio groups we retain being lower than that for groups we lost.

For the year ended December 31, 2008, underlying local group fully insured medical cost trends finished at less than 8%. Unit cost increases continued to be the primary driver of medical cost trends. We continue to price our business so that expected premium yield exceeds total cost trend, where total cost trend includes medical cost and selling, general, and administrative expense.

Please note that we’ve changed our cost of care trend reporting from including local group and individual fully insured business. So, only local group fully insured business. Over the course of 2008, we experienced business mix changes within our individual product line that are distorting underlying trends. For example, in California, our highest volume individual state, sales of low premium products have caused an improved in morbidity and a drop in claims that are artificially depressing trends in our individual business. Consequently, we believe that local group fully insured business provides better visibility into underlying trends and better reflects how we’re pricing business in the marketplace.

Inpatient hospital trend is in the very low double digit range and is all related to increases in cost per admission as both admissions per thousand members and days of care per thousand members have declined slightly. Negotiated rate increases with hospitals and elevated average case acuity are driving higher unit costs. Recontracting and clinical management efforts are methods we use to mitigate the inpatient trend increases. Key efforts in managing unit cost trends include our enterprise-wide enhanced 360 degree healthcare management program as well as a more focused review of neonatal intensive care cases, spinal surgery cases, and enhanced clinical management of chronic kidney disease and end-stage renal disease cases.

Cost trends for outpatient services are in the upper single digit range and are almost all related to unit costs. Outpatient costs are a collection of different types of expenses such as outpatient facility, labs, x-rays, emergency room, and occupational and physical therapy. The cost increases are primarily driven by higher per visit costs. Price increases within certain provider contracts as well as more procedures being performed during each emergency room visit continued to apply upward pressure on per visit cost. We’re continuing to develop plan designs in emergency room management programs to encourage appropriate utilization of outpatient services, and we’re seeing a positive impact of expanding radiology management services through our American Imaging Management or AIM subsidiary.

Physician services trend is in the mid single digit range and is about 45% unit cost driven and 55% utilization driven. Increases in the physician care category are partially driven by fee schedule changes. We continue to collaborate with physicians to improve quality of care through pay-for-performance programs.

Pharmacy trend is in the mid single digit range and is 60% unit cost related and 40% utilization driven. The increased use of specialty drugs is a primary driver of the higher unit cost trend. Specialty drugs, also known as biotech drugs, are generally a higher cost and are being utilized more frequently. Our new Precision Rx Specialty Solutions Pharmacy managed over 1000 different drugs for 14 diseases including hemophilia, multiple sclerosis, rheumatoid arthritis, psoriasis, hepatitis C, and cancer. We’ve built a technologically advanced specialty pharmacy staff with certified pharmacy technicians, registered nurses, and clinical pharmacists to better manage both the quality and cost of care for our members. We’re addressing pharmacy cost trends by increasing our generic usage rates, benefit plan design changes, and improved pharmaceutical contracting.

Our selling, general, and administrative or SG&A expense ratio was 15.1% in the fourth quarter of 2008, an increase of 130 basis points from 13.8% in the fourth quarter of 2007. The increase is predominantly related to higher salaries, fringe, and related expenses. The 2007 incentive compensation that had been accrued earlier in the year is partially reversed in the fourth quarter of 2007. Expenses in 2008 also included higher outside services for customer service and technology initiatives and accrued severance related to the recently announced workforce reduction. Our SG&A expense ratio for the full year 2008 was 14.6%, 10 basis points higher than the 14.5% in 2007. This increase also reflected higher salary and benefits, higher outside services, and expenses related to the workforce reduction. Even though this ratio was negatively impacted by the loss of $1.3 billion in New York State Prescription Drug contract revenue in 2008, the expense increases were partially offset by spreading cost over a larger revenue base in 2008 and lower incentive compensation.

Net investment income decreased $57 million or 23% to $187 million in the fourth quarter of 2008 from the fourth quarter of 2007, primarily due to lower yields on short-term investments during 2008 and reduced investment balances. During the fourth quarter of 2008 we realized pre-tax investment losses of $543 million consisting of $257 million of other than temporary impairments for equity securities, $189 million of other than temporary impairments of fixed maturity securities, and realized losses of $97 million from sales of securities. At December 31, 2008, we had fixed maturity and equity securities that were in net unrealized loss position of $567 million and $209 million respectively.

We continue to review our investment portfolio under our impairment review policy. Given the current market conditions and the significant judgments involved, there is a continuing risk that further decline in impaired values may occur and additional material other than temporary impairments may be recorded in future periods.

Turning now to our claims reserves; medical claims payable was $6.2 billion at the end of the fourth quarter, an increase of almost $400 million or 7% from year end 2007, while fully insured membership declined by 3%. As of December 31, 2008, days in claims payable was $47.7 days, at 2.7 days higher than 45 days as of December 31, 2007, and a decrease of 1.4 days from September 30, 2008. The sequential decrease in DCP was driven primarily by medical benefit seasonality in the commercial business which experiences higher benefit expense during the fourth quarter and a reduction in claim inventories that are now at 2-year lows. We have included in our press release a reconciliation and roll forward of our medical claims payable reserves. We report prior year redundancies in order to demonstrate the adequacy and consistency of prior year reserves.

In 2008, we again had significant positive prior year reserve development of $263 million. This level of positive reserve development is lower than the $333 million we experience during 2007 primarily due to the medical cost trend visibility issues we experienced near the end of 2007 following certain system migrations. We continue to establish reserves in a consistent and conservative manner and believe that our December 31, 2008, reserves are conservatively and appropriately stated.

Turning now to pension accounting. We use the smoothing method in calculating pension expense for changes in our pension plan assets. We expect about a $0.02 per share impact on 2009 earnings from the 2008 market value losses on assets underlying our pension plans. As of September 30, 2008, our qualified plans were overfunded when compared to pension benefit obligations calculated over the December 31, 2008, measurement dates. At year end 2008, our qualified pension plans were 90% funded primarily due to declines in the fair value of our retirement plan assets, and we do not expect to make any material contributions during 2009.

Operating cash flow for the three months ended December 31, 2008, was $497 million, a 1.5 times net income, and for 2008 full year, totaled $2.5 billion or 1 time net income. Operating cash flow for 2008 was slightly lower than our expectations, primarily due to provider receivables being higher than planned at year end. We expect to recoup these advances in 2009. Self-funded receivables were also higher at year end and some of our customers held onto their cash. We’re closely monitoring our accounts receivables and promptly take appropriate action as needed. We expect to generate a significant amount of operating cash flow again in 2009.

As of December 31, 2008, we had $684 million in cash and investments held at the parent company and available for general corporate use. Approximately $2 billion in dividends were received by the parent company from our subsidiaries in the fourth quarter of 2008. In the quarter approximately $800 million was used for share repurchase, interest payments, and pay-down of commercial paper. Approximately $400 million was paid to the subsidiaries as a result of the third quarter 2008 favorable tax settlement. We expect to be able to return this to the parent company in future dividends. In the fourth quarter, the parent company paid approximately $800 million on behalf of our subsidiaries, about half of which are subsidiaries reimbursed to the parent company in early 2009.

As of December 31, 2008, we have approximately $900 million outstanding under our commercial paper program, down from $1.3 billion outstanding at September 30, 2008. We had actually paid down the commercial paper program by a larger amount earlier in the fourth quarter; however, in December the commercial paper market improved such that we were able to gain lighter maturities over a longer period at acceptable rates. At December 31, 2008, there are no amounts outstanding under the $2.4 billion senior credit facility.

Over the next two years we have approximately $1 billion of debt maturity scheduled or likely to come due. This includes a bond that can be put to us in the second half of 2009. We believe that we will be able to refinance these maturities at acceptable interest rates. Our debt-to-capitalization ratio as of December 31, 2008, is 29.2%, below our targeted range of low to mid 30s. We continue to believe that maintaining the strength of our brand and our corporate liquidity is paramount. We have responded to the broader credit markets in what we believe to be an appropriate fashion.

During 2008, we repurchased 56.4 million shares or over 10% of our shares outstanding at year end 2007 for approximately $3.3 billion. We have $1 billion remaining on our share repurchase authorization, and continue to monitor financial markets as we evaluate future share repurchase activity subject to market conditions. As Angela noted, we currently expect low single digit earnings per share growth in 2009 from a 2008 adjusted earnings per share base of $5.48. We believe that we’ve taken a prudent approach to our forecast of 2009 by considering the impact of rising unemployment on our business. We will provide additional details about our 2009 outlook at our investor day scheduled for February 24, 2009.

I’ll now turn the conference call back over to Angela to lead the question and answer session.

Angela F. Braly

Operator, please open the queue for questions.

Question-and-Answer Session

Operator

We will now begin the question and answer session. (Operator Instructions). Our first question comes from the line of John Rex from J.P. Morgan.

John Rex - J.P. Morgan

I just want to focus on your commentary you said being consistent about for ’09 pricing that would anticipate something above all in trend; can you give us a rough estimate of what you’re talking about when you say above all in trend, are we talking about 10 basis points, are we talking about 150 basis points; just a magnitude that you’re anticipating now in that positive spread?

Wayne S. DeVeydt

We talked about it on our third quarter call that we obviously thought we were seeing rising trend although in terms of our pricing for ’09, but at the same time we thought we were beginning to see some deceleration of that. Clearly for the current year, we now believe we’re slightly less than 8% on trend. I still think it’ll be 8% plus or minus 50 for next year, but I would say right now that we’re not ready to declare that the trend has slowed down or we’ve maintained our higher pricing levels. That being said, we did do a market by market analysis where we thought it was appropriate to maintain those slightly higher levels, but John, as you know in a tough economy like we have right now and a very competitive environment, we’re not talking anything near of 100 basis points or more. It’s slightly above trend.

John Rex - J.P. Morgan

Would this be fair to assume, at least as a target rate, that you’re targeting at 50 basis point positive spread?

Wayne S. DeVeydt

In total we know we’re trying to ultimately finalize for the year so that I can tell you whether we’re over by 50 or 10 or 20. Again, I would say that we’re priced slightly above trend, we feel comfortable with that, and early indication would be positive relative to that, but until we see how the economy reacts, and the fact is with the economic downturn, you could get some adverse selection and so we have baked some of that in as well. Again, we’ll see what ultimately happens and we’ll provide more updates in the first quarter call.

Operator

Your next question comes from the line of Justin Lake from UBS.

Justin Lake - UBS

My question is around the membership guidance for ’09; I know you are not talking to specific numbers, but you did mention that you expect a deteriorating economy and therefore double-digit unemployment in certain states; I just want to get a little more specificity around that. Can you give us an idea of where you think you’re weighted average unemployment rate is coming out of 2008, and which are single-digit EPS growth guidance embedded for unemployment on a weighted average basis for 2009.

Angela F. Braly

You’re right to look at it on a weighted average basis. We look primarily at our Blue states where our membership resides, and as we look for ’09 we’re assuming around 10% for overall unemployment on a weighted average basis.

Justin Lake - UBS

And where is that now?

Angela F. Braly

It’s not quite there; it’s not there at this point, that’s the forecast that we have. We’re seeing and watching the development on a real time basis in terms of unemployment levels. There have been a lot of recent announcements about some of our key states. So, it varies by state on a weighted average basis. It’s lower than that now, significantly lower than that, but we’re using an assumption of about 10% on a weighted average basis for ’09.

Justin Lake - UBS

But it’s significantly lower than now. So, you’ve got a fairly…

Angela F. Braly

Yes. It’s closer to what you’re hearing on the national average. We’re not quite at the index level exactly because we have some states that have unemployment at slightly higher levels than you see otherwise. So, I would say it’s pretty close to the averages that you’re hearing on a national basis, maybe slightly higher than that.

Operator

Your next question comes from the line of Joshua Raskin from Barclays Capital.

Joshua Raskin - Barclays Capital

My question relates to the juxtaposition of your cost trend expectations versus your guidance and it sounds like three months ago you were talking about mid single digit guidance for ’09 EPS off of a slightly higher number and now you’re at the low end of that range talking about low single digit growth, and yet it sounds like cost trends actually moderated a little bit; the two questions are, what’s driving that moderation in cost trends and then what is offsetting that positive impact in the ’09 guidance that makes you a little bit more wary?

Wayne S. DeVeydt

A couple of things; one is we’re not going to bake in any moderation in trend yet into ’09 until we see more development. So, one is while we did finish the year slightly below 8%, we’re not baking that into the low single digit guidance that we provided. I do want to highlight a few things though. As you know, clearly interest rates have declined in terms of investment income with fed cuts that occurred in the fourth quarter; that clearly also impacts that from a below-the-line perspective. We are assuming, as Angela said, double-digit unemployment levels on a weighted average basis, and while a number of states aren’t there yet, if you look at some of the larger states, take California in particular, it’s already over 9% today. Obviously, you know that’s a significant state for us. So, I think we’re baking in what we think is a prudent and reasonable level of outcomes that could occur with the downward economy, but whether or not there is upside, that’ll be very dependant when upon the economy falls off.

Joshua Raskin - Barclays Capital

And just a followup on the med cost trends; what’s driving that lower?

Wayne S. DeVeydt

From our perspective, we did see the per utilization being slightly down broken into days per thousand, units per thousand; so that came in a little bit better than we expected at this point. I am not sure if anything is really an outlier from what many of you have seen already. I think we did see lower activity both in October and November. We did see a slight true up of that in December, but I would say that things did appear to slow down a bit.

Operator

Your next question comes from the line of Matthew Borsch from Goldman Sachs.

Matthew Borsch - Goldman Sachs

My question is if you could talk a little bit about the dynamics you’re seeing in terms of in-group attrition. Obviously probably I would assume the bulk of that is from workforce reductions at your employer clients, but what are you seeing if you can track in this in terms of take-up rates or changes in take-up rates if you have any inside on that. In other words, maybe some people declining to take up employer-offered covered given the economic pressures?

Angela F. Braly

Ken Goulet is here with us this morning, so Ken can you address that please?

Ken R. Goulet

We’ve been tracking this pretty closely, and throughout 2008 and now going into 2009, since October 1, 2008, through what we find through the wires and talking with our clients, there were 116 significant layoffs, 52 included our clients, and we monitor the membership losses for each of those. There were a number of specific cases in retail and others that did impact us on a membership basis, and that is built into our plan. So we’re tracking it on the larger cases. On the small groups, we are seeing some changes, and the deteriorating economy will have an impact itself into our plan for next year, but there is a trend in some areas of lower employer contributions for dependence, and therefore, there is some attrition in our small group areas where there are enforced losses due both to the economy of layoffs but also due to smaller contributions and some looking for individual and other alternatives.

Matthew Borsch - Goldman Sachs

So would it be fair to say you are seeing it with the small employer segment, but not as much for the large?

Ken R. Goulet

The large is bigger hits and we see it. The small, not as much, although we are tracking it closely.

Operator

Your next question comes from the line of Scott Fidel from Deutsche Bank.

Scott Fidel - Deutsche Bank

Can just size the severance charges that you took in the fourth quarter? Was it $24 million that you had previously indicated, and then talk about some of the annualized run rate savings that you expect to generate in the future from those actions?

Wayne S. DeVeydt

The severance charge number that we reported is in fact the number that it finished at. It’s about a nickel impact on EPS, when you look at it from that perspective. We obviously expected some positive run rate benefits on our SG&A. I would tell you that they are in excess of $100 million related to those severance charges.

Scott Fidel - Deutsche Bank

If I could just ask a followup just around the decline in the medical claims inventory, can you talk about which particular markets or product segments you’re really seeing the decline in inventories or is that pretty much across the board in terms of commercial Medicare and Medicaid?

Ken R. Goulet

It really is pretty much across the board. We’ve been driving lower claim inventories in both state-sponsored senior and commercial business, and as Wayne mentioned in the opening comments, we are at a 2-year low right now and reduced 8% in the fourth quarter. It really is across the border. We wanted to drive inventories down for a variety of reasons to get better exposure to provide continually better service, but it’s across all lines of business.

Angela F. Braly

This is a concentrated effort for this year, and it really has produced great results in terms of overall declines in claims inventories. It’s given our actuaries visibility that we’re seeing earlier in the year as well as, as Ken said, improving the service to our customers.

Operator

Your next question comes from the line of Charles Boorady from Citigroup.

Charles Boorady - Citigroup

My question is just around the PVM and whether you’ve been more open lately to considering alternatives for it, and then I also wanted to ask about med loss ratios by product, which I know you don’t disclose, but in the past you’ve given us directionally the year over year change in the loss ratio for commercial versus Medicare, and I was wondering if you can do that for us today.

Angela F. Braly

We believe that we have an obligation to look at all of our assets and try to make sure we’re really creating the most value for our customers and our shareholders, and so we’ll do that with everything including the PVM, but let me say, we’re a real believer that one of our key roles is integration as you know, which means that we have a relationship with a member and we can create value by making sure there’s a coordinated view of their medical care whether it’s their pharmacy benefit or their medical benefit or their wellness benefit and how we can impact that overall. So we continue to view our responsibility to look at those assets and importantly deliver the best value to our customers, so in terms of being more specific around our segments, I am going to ask Wayne to respond.

Wayne S. DeVeydt

As you mentioned, obviously we don’t provide that detail by major segment, but obviously we know year over year ’08 to ’07 our loss ratio was up overall all product segments. Obviously we would expect going into ’09 that in many of those segments you will see that come back down, and again we’ll provide more details in late February at our IR day.

Charles Boorady - Citigroup

Can you comment at all directionally the improvements or deteriorations in commercial Medicare and also on prior period developments, maybe how they’ve trended by product?

Wayne S. DeVeydt

I would say that throughout 2008 starting after the first quarter, we’ve had a positive prior period development in each quarter for the last three quarters. We have continued to maintain that reserve strengthening though across all segments and all products, so again if you were to look at our 12/3/2008 reserve levels, even with the positive development in each period, we believe we’ve maintained a very strong balance sheet with over $400 million of year over year increased reserves despite inventories being paid down by 43% and despite fully insured being down for the year significantly.

Operator

Your next question comes from the line of Carl McDonald from Oppenheimer.

Carl McDonald - Oppenheimer

I wanted to know if you had assumed any impact from the potential COBRA subsidy that’s been talked about in the fiscal stimulus package in the outlook, and then either way, if you could just comment on if it does pass, what you think the impact will be both from an enrolment and from a med loss ratio perspective on that COBRA membership?

Angela F. Braly

Carl, we haven’t baked in any expectations around that COBRA subsidy, but we do think it would have a positive impact both on membership and potentially slightly around adverse selection. The typical take up rate for COBRA is very low. It’s typically about 10%, potentially of the group member, and so with the subsidy, we think that would drive the membership up as well as improving the selection.

Carl McDonald - Oppenheimer

Any sense of the magnitude on either the take up rate or the difference in the loss ratio?

Angela F. Braly

Not specifically, but I will let Brian Sassi, who is with us here today, talk a little bit about some of our efforts that he and Ken have around as unemployment grows and some of the group members lose their group coverage or through COBRA, the options that we have that are available for them.

Brian A. Sassi

Ken and I are working very closely to develop kind of tight connections as large group employers downsize to offer not only COBRA on the commercial side but individual products to ensure that employers know that we have good individual product offerings in their state as well as individual for those who qualify is a much better value proposition for members as they exit group coverage so we can be very focused as the economy continues to turn.

Operator

Your next question comes from the line of Ana Gupte from Sanford Bernstein Research.

Ana Gupte - Sanford Bernstein Research

My question is about what’s going on in the non-profit Blue world, and I was wondering in context to some of those, the capital constraints they may be facing, equity write-downs, and the like; are you seeing any opportunity to gain membership in your BlueCard program as they cannot make their bids or meet client service requirements, and then as Independence and Highmark and other consolidation initiatives are again coming, again some regulatory constraints.

Angela F. Braly

I’m going to talk about the non-Blue. Non-profit Blue is just generally, we have a really positive relationship and have business relationships providing a variety of services. A number of Blue plans for example have our AIM radiology management product. We are trying to work with them in new and different ways and achieve opportunities for us to scale our operations with our Blue partners as well. We don’t talk about any specific issues or any specific states, but we continue to believe that WellPoint is a very attractive consolidation partner for other Blue plans because we do the scale we can make the investments and technology, and we continue to share that. I’m going to ask Ken to talk about his expectations around the BlueCard program and how we are working with other Blue plans there.

Ken R. Goulet

Ana, if I understood the question right, does it present opportunities specifically for, I think, our home business. First, BlueCard continues to be a good program, grows across the board, and we have a number initiatives between all Blues that are helping the employer needs. We have over the last couple of years felt a number of capabilities upset, we feel are leading the industry in a number of areas including service transparency, clinical programs, and others, and as a result, we do have some clients ask for us to take the lead in overall administrative services, particularly in the venture capital world where they have business across many states and choose who could be a lead. So, we have seen some growth in those areas as our capabilities have grown, more desire for our services, but BlueCard in general remains strong, and we partner very closely with the other Blue.

Ana Gupte - Sanford Bernstein Research

Can you comment on your M&A outlook for other Blues and then your plans for UniCare.

Angela F. Braly

The M&A, as we’ve stated, hasn’t really changed at all. We continue to believe we’re a great partner to consolidate other Blues, and we never talk about any rumors or speculations, but we continue to describe for folks how we think that works for customers across the country. In terms of UniCare strategies, specifically Ken, and his responsibilities include UniCare, and there have been efforts where we’ve looked at the strategy this year for UniCare, and I’ll let Ken speak about that.

Ken R. Goulet

We mentioned in the opening comments that UniCare did not grow last year and we actually had a reduction in insured coverage of about 279,000 members. Much of that was a very focused effort to turn the financials positive for UniCare, and we took some very aggressive pricing actions recognizing the impact we would have on membership, but wanted to make sure that both small groups and large group was priced right. As we go into 2009, there still be some membership reduction early, and that’s built into our plan as we finish up some pricing actions, but we’ve built a strategy that we’ll share in much more detail at investor relation’s day, but it’s focused on specific provider partnerships and smaller networks that we using in certain areas as well as some very select target geographies that we feel we have an opportunity to grow and maximize in, so we’ll share that, but the strategy is for UniCare to be kind of a niche player in certain markets where we can grow market share and then to make sure that we price right across the board in all of our markets.

Operator

Your next question comes from the line of Peter Costa from FTN Midwest Securities Corp.

Peter Costa - FTN Midwest Securities Corp

Can you explain a little bit more about the change away from focal renewals and what those can do to pricing? What portion of the business does that apply to, what’s going to be the new seasonal pattern for the timing of price hikes, and does that imply to those first price hikes that happen since May happen in January of this year and then going through to December, the ones we priced in December will be at the same price for a year and a half or so? Is that the way to read that?

Ken R. Goulet

First I would state again the rational for it. We recognized several years ago that while we had significant competitive advantages in California, and we are doing some things to help us administratively to batch all renewals into one month that our competitors were able to target us and recognize what our renewals would be after the focal renewal, which was on May 1st, so starting in 2004, we started to do new business off the focal cycle and new business at that point would renew on its calendar dates. About 50% of the business is on a focal renewal, 50% is not right now, ballpark numbers. What we’ll be doing is going from the May where we normally would be having May renewals that will be extended up to the calendar date of the renewal that instead of doing one small group block, it would be spread throughout the year, and that is impacting about 45,000 groups. It will extend. It has been built into our plan, and we built it specifically into the California plan, both the financial impacts and the way we are working around it, but we feel coming out of this new renewal approach will be identical to what we are in our states, and we will no longer be at a competitive disadvantage, and in fact, we will be able to use this to our advantage going forward.

Wayne S. DeVeydt

Pete, it’s about a 1% impact on 2009, but I think we believe the upside is significant to 2010.

Peter Costa – FTN Midwest Securities Corp

Your inpatient trend is at the double digit level. Nobody is really getting double digit price increases two years in a row in this economy. Why are your hospitals able to get that from you at this point in time and what are you doing about that going forward?

Angela F. Braly

What we are seeing is some elevated average case acuity, and I think that’s a big driver for us as well as just the increase in contracting, but we are very focused on the re-contracting efforts, making sure that we can mitigate the trend as well as the management program because it’s not just in the contract that you execute, but also in how you work through healthcare management, and so with our 360 degree healthcare management programs, we are very focused on that. We’ve looked specifically at neonatal issues, spinal surgery cases. We are trying to mange the chronic kidney disease and end-stage renal disease cases to really have an impact on that inpatient as well as outpatient, but primarily in the inpatient area.

Operator

Your next question comes from the line of Greg Nersessian from Credit Suisse.

Greg Nersessian - Credit Suisse

My question was on the consumer business. I was wondering if you could quantify for us the impact on the MLR and that business from the market segments that you are walking away from, the Medicare product that you discontinued as well as some of the state sponsored business in Nevada and Ohio. How will that impact the operating margins in that business next year?

Brian A. Sassi

We don’t release the MLRs by segment, but I can say directionally the exits from both Nevada and Ohio are having a positive impact on our MLR, Ohio being obviously the bigger driver primarily because it had close to 170,000 members. Nevada to a much lesser extent, we only had about 50,000 members there, but overall generally positive impact going into ’09.

Greg Nersessian - Credit Suisse

When I look at your operating margins in that business in ’07, you are slightly over 5% this year, about 3.5. So when you think about 2009, do you use the 2007 level as your targeted range for that business?

Wayne S. DeVeydt

I think that’s a reasonable and fair proxy. You will see margin improve. They are improving not only because we are exiting what we would believe to be unprofitable states, but at the same time keep in mind that a lot of reserve strengthening was done this year, and so in theory we won’t have to have that happen again next year, so you won’t see margin improvements, and I think you’ll see something little closer to ’07 levels.

Angela F. Braly

I want to thank you for your questions. We’re going to wrap it up here. In closing, I want you to know that we remain very confident in our future. We believe that there are both challenges and opportunities in the current economy, and we are taking the actions necessary to lead our company in addressing the challenges and capitalizing on the opportunities. Our core operations remain strong. We are executing on our plans to provide a firm base for 2009 and beyond. We continue to focus on excelling at day-to-day operations and strive to meet or exceed our service commitments and financial expectation. I thank you for participating in our call this morning. Operator, please provide the call replay information.

Operator

Ladies and gentlemen, this conference will be available for replay after 11 am Eastern time today through February 11. You may access the AT&T teleconference replay system at anytime by dialing 1800-475-6701 and entering the access code 977146. International participants, dial 320-365-3844 with the access code 977146. That does conclude your conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.

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