AMERIGROUP CORP – 10-K – Management’s Discussion and Analysis of Financial Condition and Results of Operations

Edgar Online, Inc.

Overview

  We are a multi-state managed healthcare company focused on serving people who receive healthcare benefits through publicly funded healthcare programs, including Medicaid, Children's Health Insurance Program ("CHIP"), Medicaid expansion programs and Medicare Advantage. We operate in one business segment with a single line of business. We were founded in December 1994 with the objective of becoming the leading managed care organization in the U.S. focused on serving people who receive these types of benefits. We believe that we are better qualified and positioned than many of our competitors to meet the unique needs of our members and the government agencies with whom we contract because of our focus solely on recipients of publicly funded healthcare, medical management programs and community-based education and outreach programs. We design our programs to address the particular needs of our members, for whom we facilitate access to healthcare benefits pursuant to agreements with applicable state and federal government agencies. We combine medical, social and behavioral health services to help our members obtain quality healthcare in an efficient manner. Our success in establishing and maintaining strong relationships with government agencies, providers and members has enabled us to retain existing contracts, obtain new contracts and establish and maintain a leading market position in many of the markets we serve. We continue to believe that managed healthcare remains the only proven mechanism that improves health outcomes for our members while helping our government customers manage the fiscal viability of their healthcare programs. We are dedicated to offering real solutions that improve healthcare access and quality for our members, while proactively working to reduce the overall cost of care to taxpayers.  

Summary Highlights for the Year Ended December 31, 2011

• Membership increase of 93,000 members, or 4.8%, to 2,024,000 members as of

December 31, 2011 compared to 1,931,000 members as of December 31, 2010;          •   Total revenues of $6.3 billion, an 8.8% increase over the year ended          December 31, 2010;          •   Health benefits ratio ("HBR") of 83.7% of premium revenues for the year

ended December 31, 2011 compared to 81.6% for the year ended December 31,

          2010;          •   Selling, general and administrative expense ("SG&A") ratio of 8.1% of

total revenues for the year ended December 31, 2011 compared to 7.8% for

         the year ended December 31, 2010;          •   Cash provided by operations of $208.0 million for the year ended          December 31, 2011;    

• Unregulated cash and investments of $724.8 million as of December 31, 2011;

• On February 1, 2011 we began providing managed healthcare services to

STAR+PLUS members under an expansion contract in the six-county service

          area surrounding Fort Worth, Texas;          •   On July 25, 2011, the Louisiana Department of Health and Hospitals

announced that we were one of five managed care organizations selected

through a competitive procurement to offer healthcare coverage to Medicaid

         recipients in Louisiana through our Louisiana health plan where we began          serving, in the first of three regions covered under our contract,          approximately 45,000 members on February 1, 2012;    

• On August 1, 2011, the Texas Health and Human Services Commission ("HHSC")

announced that we won our bid to expand our business in Texas through a

state-wide competitive bidding process. Pending final contract

negotiations, we anticipate beginning operations for the new business in

         early 2012;    

• On October 25, 2011, we signed an agreement to purchase substantially all

of the operating assets and contract rights of Health Plus, a prepaid

          health services plan ("PHSP") in New York, for $85.0 million;          •   On November 16, 2011, we issued $400.0 million in aggregate principal

         amount of 7.5% Senior Notes due on November 15, 2019. We completed a          follow-on issuance of $75.0 million of aggregate principal amount of 7.5%          Senior Notes at a premium of 103.75% on January 18, 2012; and                                            51 

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• On January 18, 2012, the Washington State Health Care Authority announced

that we were one of five managed care organizations selected through a

competitive procurement to offer healthcare coverage to Temporary

Assistance for Needy Families ("TANF"), CHIP and seniors and people with

disabilities who are not eligible for Medicare through our Washington

health plan. Additionally, we will participate in the state's Basic Health

program.

   Our results for the year ended December 31, 2011 compared to the prior year reflect the impact of modest membership growth. Additionally the increase in premium revenue reflects a contract award through competitive procurement to expand healthcare coverage to seniors and people with disabilities in the six-county service area surrounding Fort Worth, Texas, which began on February 1, 2011, as well as the impact of premium rate changes from the prior year, in connection with annual contract renewals. The increase in premium revenue for the year ended December 31, 2011 also reflects the impact of a full period of a benefit expansion to provide long-term care ("LTC") services to eligible members in Tennessee, which began in March 2010 as well as expansion of benefits in our New Jersey market, beginning on July 1, 2011, which includes the expansion of managed care to additional aged, blind and disabled ("ABD") populations and the carve-in of pharmacy benefits for ABD members. Health benefits expense for the year ended December 31, 2011 reflects moderate increases in cost trends compared to the unusually low levels in the prior year. Additionally, the current period reflects lower favorable development related to prior periods than that in the prior year.  

Healthcare Reform

  On March 23, 2010, the Patient Protection and Affordable Care Act was signed into law and on March 30, 2010, the Health Care and Education Reconciliation Act of 2010 was signed into law (collectively, the "Affordable Care Act"). The Affordable Care Act provides for comprehensive changes to the U.S. healthcare system, which will be phased in at various stages over the next several years. Among other things, the Affordable Care Act is intended to provide health insurance to approximately 32 million uninsured individuals of whom approximately 16 to 20 million are expected to obtain health insurance through the expansion of the Medicaid program beginning in 2014. Funding for the expanded coverage will initially come largely from the federal government.  To date, the Affordable Care Act has not had a material effect on our financial position, results of operations or cash flows; however, we continue to evaluate the provisions of the Affordable Care Act and believe that the Affordable Care Act will provide us with significant opportunities for membership growth in our existing markets and, potentially, in new markets in the future. There can be no assurance that we will realize this growth, or that this growth will be profitable. There have been several federal lawsuits challenging the constitutionality of the Affordable Care Act, and various federal appeals courts have reached inconsistent decisions on constitutionality. The parties in those suits have sought review by the U.S. Supreme Court which has agreed to hear arguments in March of 2012, although there is no guarantee that it will rule on the Affordable Care Act's constitutionality or that it will uphold or strike down the Affordable Care Act. Congress has also proposed a number of legislative initiatives including possible repeal of the Affordable Care Act. There can be no assurance that the Affordable Care Act will take effect as originally enacted or at all, or that the Affordable Care Act, as currently enacted or as amended in the future, will not adversely affect our business and financial results.  There are numerous steps required to implement the Affordable Care Act, including promulgating a substantial number of new regulations that may affect our business significantly. A number of federal regulations have been proposed for public comment by a handful of federal agencies, but these proposals have raised additional issues and uncertainties that will need to be addressed in additional regulations yet to be proposed or in the final version of the proposed regulations eventually adopted. Further, there has been resistance to expansion at the state level, largely due to the budgetary pressures faced by the states. Because of the unsettled nature of these reforms and numerous steps required to implement them, we cannot predict what additional requirements will be implemented at the federal or state level, or the effect that any future legislation or regulations or the pending litigation challenging the Affordable Care Act, will have on our business or our growth opportunities.                                           52

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  There is also considerable uncertainty regarding the impact of the Affordable Care Act and the other reforms on the health insurance market as a whole. In addition, we cannot predict our competitors' reactions to the changes. Congress has also proposed a number of legislative initiatives, including possible repeal of the Affordable Care Act. Although we believe the Affordable Care Act will provide us with significant opportunity for growth, the enacted reforms, as well as future regulations, legislative changes and judicial decisions may in fact have a material adverse effect on our financial position, results of operations or cash flows. If we fail to effectively implement our operational and strategic initiatives with respect to the implementation of healthcare reform, or do not do so as effectively as our competitors, our business may also be materially adversely affected.  The Affordable Care Act also imposes a significant new non-deductible federal premium-based assessment and other assessments on health insurers. If this federal premium-based assessment is imposed as enacted, and if the cost of the federal premium-based assessment is not factored into the calculation of our premium rates, or if we are unable to otherwise adjust our business to address this new assessment, our financial position, results of operations or cash flows may be materially adversely affected.  In addition, other legislative changes have been proposed and adopted since the Affordable Care Act was enacted. Most recently, on August 2, 2011, the President signed into law the Budget Control Act of 2011. Under that Act, automatic reductions were triggered on December 23, 2011. These automatic cuts were made to several government programs and, with respect to Medicare, included aggregate reductions to Medicare payments to providers of up to 2.0% per fiscal year, starting in 2013. These reductions could still be avoided through Congressional action before 2013. There are no assurances that future federal or state legislative or administrative changes relating to healthcare reform will not adversely affect our business.  

Business Strategy

  We have a disciplined approach to evaluating the operating performance of our existing markets to determine whether to exit or continue operating in each market. As a result, in the past we have and may in the future decide to exit certain markets if they do not meet our long-term business goals. We also periodically evaluate acquisition opportunities to determine if they align with our business strategy such as the planned acquisition of Health Plus in 2012. We continue to believe acquisitions can be an important part of our long-term growth strategy.  Market Updates  Georgia  InJune 2011, we received notification from the Georgia Department of Community Health ("GA DCH") that GA DCH was exercising its option to renew, effective July 1, 2011, our TANF and CHIP contract. On December 29, 2011, we received the executed amended and restated contract incorporating all prior amendments and revising certain terms and conditions including, among other things, the addition of two one-year option terms to the contract, exercisable by GA DCH, which potentially extends the total term of the contract until June 30, 2014. The amended and restated contract also provides us the option to expand statewide provided we are able to demonstrate compliance with the contract requirements in all service regions. We can give no assurance that our entry, if any, into additional service areas in Georgia will be favorable to our financial position, results of operations or cash flows in future periods. Additionally, on December 29, 2011, we received an amendment to the amended and restated contract that revised premium rates retroactive to July 1, 2011. Upon receipt of the final amendment, the revised premium rates were recognized for the period from July 1, 2011 forward, in accordance with U.S. generally accepted accounting principles ("GAAP"). The contract, as renewed, will terminate on June 30, 2012 if an option to renew the contract for an additional one-year term is not exercised by GA DCH. Additionally, the state has indicated its intent to begin reprocurement of the contract through a competitive bidding process in 2012.                                           53 

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Louisiana

  On July 25, 2011, the Louisiana Department of Health and Hospitals ("DHH") announced that we were one of five managed care organizations selected through a competitive procurement to offer healthcare coverage to Medicaid recipients in Louisiana. The state indicated that the managed care organizations will enroll collectively approximately 865,000 members statewide, including children and families served by Medicaid's TANF as well as people with disabilities. Of the five managed care organizations selected, we are one of three providers that began offering services on a full-risk basis on February 1, 2012 to approximately 45,000 members in the first of three regions to be covered under our contract. Two managed care organizations that bid in the procurement but were not selected have protested the award of the contract to us and the other successful bidders and have instituted legal proceedings regarding the contract awards. While we believe that the award of the contract to us was proper, we are unable to predict the outcome of the state court challenges that have been filed and can give no assurances that our award will be upheld or that the impact to our operations in Louisiana will not be significant if it is not upheld.  

Medicare Advantage

  During the third quarter of 2011, we received approval from the Centers for Medicare & Medicaid Services ("CMS") to begin operating a Medicare Advantage plan for dual eligible beneficiaries in Chatham and Fulton counties in the state of Georgia, in addition to the renewal of each of our Medicare Advantage contracts in the states of Florida, Maryland, New Jersey, New Mexico, New York, Tennessee and Texas. Each of these contracts are annually renewing with effective dates of January 1, 2012.  In June 2010, we received approval from CMS to add Fort Worth to our Medicare Advantage service area in Texas, and to add Rutherford County to our Medicare Advantage service area in Tennessee. In addition, CMS approved expansion of our Medicare Advantage plans to cover traditional Medicare beneficiaries in addition to the existing special needs beneficiaries already covered in Texas, Tennessee and New Mexico. These approvals allowed us to begin serving Medicare members in the expanded areas effective January 1, 2011.  

We can give no assurance that our entry into these new service areas will be favorable to our financial position, results of operations or cash flows in future periods.

New Jersey

  On July 1, 2011, we renewed our managed care contract with the state of New Jersey Department of Human Services Division of Medical Assistance and Health Services ("NJ DMAHS") under which we provide managed care services to eligible members of the state's New Jersey Medicaid/NJ FamilyCare program. The renewed contract revised the premium rates and expanded certain healthcare services provided to eligible members. These new healthcare services include personal care assistant services, medical day care (adult and pediatric), outpatient rehabilitation (physical therapy, occupational therapy, and speech pathology services), dual eligible pharmacy benefits and ABD expansion. The managed care contract renewal also includes participation by our New Jersey health plan in a three-year medical home demonstration project with NJ DMAHS. This project requires the provision of services to participating enrollees under the Medical Home Model Guidelines. Additionally, on March 1, 2010, we completed the previously announced acquisition of the Medicaid contract rights and rights under certain provider agreements of University Health Plans, Inc. ("UHP") for $13.4 million.  New York  On October 25, 2011, we signed an agreement to purchase substantially all of the operating assets and contract rights of Health Plus, a PHSP in New York, for $85.0 million. Health Plus currently serves approximately 320,000 members in New York State'sMedicaid, Family Health Plus and Child Health Plus                                           54

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  programs, as well as the federal Medicare Advantage program. We intend to fund the purchase price through available cash. In connection with this acquisition, we will also be required to fund certain minimum statutory capital levels commensurate with the anticipated increase in membership of our New York health plan. The transaction is subject to regulatory approvals and other closing conditions and is expected to close in the first half of 2012, although there can be no assurance as to the timing of consummation of this transaction or that this transaction will be consummated at all.  Effective October 1, 2011, covered benefits under our contracts in New York were expanded to include pharmacy coverage and LTC/dual eligible members are expected to begin to transition to mandatory managed care beginning in 2012 representing a significant change in the operations of our New York health plan.  

Tennessee

  On January 18, 2012, we received an executed amendment to the Contractor Risk Agreement with the state of Tennessee TennCare Bureau</org>. The amendment included a decrease of approximately 4.7% to the premium rates at which we provide Medicaid managed care services to eligible Medicaid members for the contract period July 1, 2011 through June 30, 2012. Additionally, the Tennessee contract employs an adjustment model to reflect the estimated risk profile of the participating managed care organizations' membership, or a "risk adjustment factor". This risk adjustment factor is determined annually subsequent to the determination of the premium rates established for the contract year. The risk adjustment factor resulted in a further reduction of 1.7% effective July 1, 2011. The revised premium rates, including the risk adjustment factor, have been recognized for the period from July 1, 2011 forward, in accordance with GAAP. We can provide no assurance that the decrease in premium rates will not have a material adverse effect on our financial position, results of operations or cash flows in future periods.  Texas  On October 6, 2011, we received an executed amendment to the HHSC Agreement for Health Services to the STAR, STAR+PLUS, CHIP and CHIP Perinatal programs for the contract period that began September 1, 2011. The amendment revised premium rates resulting in a net decrease of approximately 5.4% effective September 1, 2011. The revised premium rates have been recognized since September 1, 2011, the effective date of the contract, in accordance with GAAP. We can provide no assurance that the impact of the decrease in premium rates will not have a material adverse effect on our financial position, results of operations or cash flows in future periods.  On August 1, 2011, HHSC announced that we were awarded a contract to continue to provide Medicaid managed care services to our existing service areas of Austin, Dallas/Fort Worth, Houston (including the September 1, 2011 expansion into the Beaumont service area) and San Antonio. We will no longer participate in the Corpus Christi area, for which we served approximately 10,000 members as of December 31, 2011 In addition to the existing service areas, on March 1, 2012, we will begin providing Medicaid managed care services in three new service areas: Lubbock, El Paso and in the 164 counties defined by HHSC as the rural service areas. Additionally, we will begin providing prescription drug benefits for all of our Texas members and inpatient hospital services for the STAR+PLUS program. Our new contracts with the state of Texas cover the period from March 1, 2012 through August 31, 2015.  In February 2011, we began serving ABD members in the six-county service area surrounding Fort Worth, Texas through an expansion contract awarded by HHSC. As of December 31, 2011, we served approximately 27,000 members under this contract. Previously, we served approximately 14,000 ABD members in the Dallas and Fort Worth areas under an administrative services only ("ASO") contract that terminated on January 31, 2011.                                           55

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Washington

  On January 18, 2012, the Washington State Health Care Authority ("HCA") announced that we were one of five managed care organizations selected through a competitive procurement to participate in the Healthy Options program and offer healthcare coverage to TANF, CHIP and Supplemental Security Income ("SSI") eligibles who are not eligible for Medicare. The state indicated that the managed care organizations will enroll collectively approximately 700,000 members and HCA intends to add 100,000 Medicaid beneficiaries who are eligible for SSI but not Medicare. Additionally, we will participate in the state's Basic Health program, which currently provides subsidized health coverage for approximately 41,000 low-income adults. We anticipate finalizing the contract with HCA in early 2012 and beginning operations in the second half of 2012.  

Contingencies

Georgia Letter of Credit

  Effective July 1, 2011, we renewed a collateralized irrevocable standby letter of credit, initially issued on July 1, 2009 in an aggregate principal amount of approximately $17.4 million, to meet certain obligations under our Medicaid contract in the state of Georgia through our Georgia health plan. The letter of credit is collateralized through cash and investments held by our Georgia health plan.  Legal Proceedings  We have been involved in specific litigation in the current year, the details of which are disclosed in Part I, Item 3. Legal Proceedings. Additionally, we are involved in various legal proceedings in the normal course of business. Based upon our evaluation of the information currently available, we believe that the ultimate resolution of any such proceedings will not have a material adverse effect, either individually or in the aggregate, on our financial position, results of operations or cash flows.  

Discussion of Critical Accounting Policies

  In the ordinary course of business, we make a number of estimates and assumptions relating to the reporting of results of operations and financial condition in the preparation of our audited Consolidated Financial Statements in conformity with GAAP. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results could differ from those estimates and the differences could be significant. We believe that the following discussion addresses our critical accounting policies, which are those that are most important to the portrayal of our financial condition and results of operations and require management's most difficult, subjective and complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.  Revenue Recognition  We generate revenues primarily from premiums and ASO fees we receive from the states in which we operate to arrange for healthcare services for our TANF, CHIP, ABD and FamilyCare members. We also receive premiums from CMS for our Medicare Advantage members. We recognize premium and ASO fee revenue during the period in which we are obligated to provide services to our members. A fixed amount per member per month ("PMPM") is paid to us to arrange for healthcare services for our members pursuant to our contracts in each of our markets. These premium payments are based upon eligibility lists produced by the government agencies with whom we contract. Errors in this eligibility determination on which we rely can result in positive and negative revenue adjustments to the extent this information is adjusted by the government agency. Adjustments to eligibility data received from these government agencies result from retroactive application of enrollment, disenrollment or classification changes of members between rate categories that were not known by us in previous months due to timing of the receipt of data or errors in processing by the government agencies. These changes, while common, are not generally large. Retroactive adjustments to revenue for corrections in eligibility data are recorded in the period in which the information becomes known. We estimate the amount of outstanding retroactivity each period and adjust premium revenue accordingly, if appropriate.                                           56 

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  In all of the states in which we operate, with the exceptions of Florida, New Mexico, Tennessee and Virginia, we are eligible to receive supplemental payments to offset the health benefits expense associated with the birth of a baby. Each state contract is specific as to what is required before payments are collectible. Upon delivery of a baby, each state is notified in accordance with contract terms. Revenue is recognized in the period that the delivery occurs and the related services are provided to our member based on our authorization system for those services. Changes in authorization and claims data used to estimate supplemental revenues can occur as a result of changes in eligibility noted above or corrections of errors in the underlying data. Adjustments to revenue for corrections to authorization and claims data are recorded in the period in which the corrections become known.  Historically, the impact of adjustments from retroactivity, changes in authorizations and changes in claims data used to estimate supplemental revenues has represented less than 1.0% of annual revenue. This results in a negligible impact on annual earnings as changes in revenue are typically accompanied by corresponding changes in the related health benefits expense; however, these changes can and have been significant to quarterly operating results particularly where changes in retroactivity and health benefits expense are not recognized in the same period as a result of differences in the recognition criteria. We believe this historical experience represents what is reasonably likely to occur in future periods.  Additionally, delays in annual premium rate changes require that we defer the recognition of any increases to the period in which the premium rates become final. The time lag between the effective date of the premium rate increase and the final contract can and has been delayed one quarter or more. The value of the impact can be significant in the period in which it is recognized dependent on the magnitude of the premium rate change, the membership to which it applies and the length of the delay between the effective date and the final contract date. Premium rate decreases are recognized in the period the change in premium rate becomes effective and the change in the rate is known, which may be prior to the period when the related contract amendment becomes final.  Lastly, certain states limit our profits through imposed medical loss ratio thresholds or profit limits as a percentage of revenue. These limits are generally calculated by contract year with a look back period but can also be based on calendar year financial results. We calculate amounts owed during interim periods based on experience to date plus estimated claims payable as determined through our estimation of health benefits expense and claims payable as discussed below. To the extent these estimates are revised in subsequent periods, so too is any estimate of our liabilities under these arrangements. Revisions to these estimates are recognized in the period underlying medical experience or financial performance becomes known. These estimates are recognized as a reduction in revenues in accordance with GAAP whereby these "rebates" are considered return of revenue under an experience rebate contract.  

Estimating Health Benefits Expense and Claims Payable

  Medical claims payable, representing 37.8% of our total consolidated liabilities as of December 31, 2011, consist of actual claims reported but not paid and estimates of healthcare services incurred but not reported ("IBNR"). Included in this liability and the corresponding health benefits expense for IBNR claims are the estimated costs of processing such claims. Health benefits expense has two main components: direct medical expenses and medically-related administrative costs. Direct medical expenses include amounts paid to hospitals, physicians and providers of ancillary services, such as laboratories and pharmacies. Medically-related administrative costs include items such as case and disease management, utilization review services, quality assurance and on-call nurses.  We have used a consistent methodology for estimating our medical expenses and medical claims payable since inception, and have refined our assumptions to take into account our maturing claims, product and market experience. Our reserving practice is to consistently recognize the actuarial best point estimate within a level of confidence required by actuarial standards. Actuarial standards of practice generally require a level of confidence such that the liabilities established for IBNR have a greater probability of being adequate versus being                                           57 

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  insufficient, or such that the liabilities established for IBNR are sufficient to cover obligations under an assumption of moderately adverse conditions. Adverse conditions are situations in which the actual claims are expected to be higher than the otherwise estimated value of such claims at the time of the estimate. Therefore, in many situations, the claim amounts ultimately settled will be less than the estimate that satisfies the actuarial standards of practice.  In developing our medical claims payable estimates, we apply different estimation methods depending on the month for which incurred claims are being estimated. For mature incurred months (generally the months prior to the most recent three months), we calculate completion factors using an analysis of claim adjudication patterns over the most recent 12-month period. A completion factor is an actuarial estimate, based upon historical experience, of the percentage of incurred claims during a given period that have been adjudicated as of the date of estimation. We apply the completion factors to actual claims adjudicated-to-date in order to estimate the expected amount of ultimate incurred claims for those months. Actuarial estimates of claim liabilities are determined by subtracting the actual paid claims from the estimate of ultimate incurred claims.  We do not believe that completion factors are fully credible for estimating claims incurred for the most recent two-to-three months which constitute the majority of the amount of the medical claims payable. Accordingly, we estimate health benefits expense incurred by applying observed medical cost trend factors to medical costs incurred in a more complete time period. Medical cost trend factors are developed through a comprehensive analysis of claims incurred in prior months for which more complete claim data is available. Assumptions for known changes in hospital authorization data, provider contracting changes, changes in benefit levels, age and gender mix of members, and seasonality are also incorporated into the most recent incurred estimates. The incurred estimates resulting from the analysis of completion factors, medical cost trend factors and other known changes are weighted together using actuarial judgment.  Many aspects of the managed care business are not predictable with consistency. These aspects include the incidences of illness or disease state (such as cardiac heart failure cases, cases of upper respiratory illness, the length and severity of the flu season, new flu strains, diabetes, the number of full-term versus premature births and the number of neonatal intensive care babies). Therefore, we must rely upon our historical experience, as continually monitored, to reflect the ever-changing mix, needs and growth of our members in our assumptions. Among the factors considered by management are changes in the level of benefits provided to members, seasonal variations in utilization, identified industry trends and changes in provider reimbursement arrangements, including changes in the percentage of reimbursements made on a capitated, as opposed to a fee-for-service, basis. These considerations are aggregated in the medical cost trend. Other external factors that may impact medical cost trends include factors such as government-mandated benefits or other regulatory changes; catastrophes, epidemics and pandemics, such as the H1N1 virus in 2009; or increases, decreases or turnover in our membership. Other internal factors such as system conversions and claims processing interruptions may impact our ability to accurately establish estimates of historical completion factors or medical cost trends. Management is required to use considerable judgment in the selection of health benefits expense trends and other actuarial model inputs.                                           58 

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  Completion factors and medical cost trends are the most significant factors we use in developing our medical claims payable estimates. The following tables illustrate the sensitivity of these factors and the estimated potential impact on our medical claims payable estimates for those periods as of December 31, 2011:     Completion Factor     Increase (Decrease)   Medical Claims Trend   Increase (Decrease) (Decrease) Increase     in Medical Claims    Increase (Decrease)     in Medical Claims      in Factor             Payable (1)            in Factor             Payable (2)                           (In millions)                                (In millions)       (0.75)%                 $84.1                 10.0%                  $17.9       (0.50)%                 $56.1                  5.0%                  $9.1       (0.25)%                 $28.0                  2.5%                  $4.6        0.25%                 ($28.0)                (2.5)%                ($4.6)        0.50%                 ($56.1)                (5.0)%                ($9.1)        0.75%                 ($84.1)               (10.0)%                ($17.9)    

(1) Reflects estimated potential changes in health benefits expense and medical

claims payable caused by changes in completion factors used in developing

medical claims payable estimates for older periods, generally periods prior

to the most recent three months.

(2) Reflects estimated potential changes in health benefits expense and medical

claims payable caused by changes in medical costs trend data used in

developing medical claims payable estimates for the most recent three months.

The analyses above include those outcomes that are considered reasonably likely based on our historical experience in estimating our medical claims payable.

  Changes in estimates of medical claims payable are primarily the result of obtaining more complete claims information that directly correlates with the claims and provider reimbursement trends. Volatility in members' needs for medical services, provider claim submissions and our payment processes often results in identifiable patterns emerging several months after the causes of deviations from assumed trends. Since our estimates are based upon PMPM claims experience, changes cannot typically be explained by any single factor, but are the result of a number of interrelated variables, all influencing the resulting experienced medical cost trend. Deviations, whether positive or negative, between actual experience and estimates used to establish the liability are recorded in the period known.  We continually monitor and adjust the medical claims payable and health benefits expense based on subsequent paid claims activity. If it is determined that our assumptions regarding medical cost trends and utilization are significantly different than actual results, our results of operations, financial position and liquidity could be impacted in future periods. Adjustments of prior year estimates may result in additional health benefits expense or a reduction of health benefits expense in the period an adjustment is made. Further, due to the considerable variability of healthcare costs, adjustments to medical claims payable occur each quarter and are sometimes significant as compared to the net income recorded in that quarter. Prior period development is recognized immediately upon the actuaries' judgment that a portion of the prior period liability is no longer needed or that an additional liability should have been accrued.                                           59 

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The following table presents the components of the change in medical claims payable for the three years ended December 31 (in thousands):

                                                     2011                 2010                 2009 Medical claims payable, beginning of the year                                          $   510,675          $   529,036          $   536,107 Health benefits expense incurred during the year: Related to current year                         5,365,247            4,828,321            4,492,590 Related to prior years                            (92,988 )           (106,215 )            (85,317 )  Total incurred                                  5,272,259            4,722,106            4,407,273 Health benefits payments during the year: Related to current year                         4,823,667            4,359,216            4,007,789 Related to prior years                            385,819              381,251              406,555  Total payments                                  5,209,486            4,740,467            4,414,344 

Medical claims payable, end of the year $ 573,448$ 510,675$ 529,036

  Current year medical claims paid as a percent of current year health benefits expense incurred                                     89.9 %               90.3 %               89.2 %  Health benefits expense incurred related to prior years as a percent of prior year medical claims payable as of December 31                                         (18.2 )%             (20.1 )%             (15.9 )%  Health benefits expense incurred related to prior years as a percent of the prior year's health benefits expense related to current year                                      (1.9 )%              (2.4 )%              (2.3 )%    Health benefits expense incurred during the year was reduced for amounts related to prior years by approximately $93.0 million, $106.2 million and $85.3 million in the years ended December 31, 2011, 2010 and 2009, respectively. As noted above, the actuarial standards of practice generally require that the liabilities established for IBNR be sufficient to cover obligations under an assumption of moderately adverse conditions. A portion of the reduction in health benefits expense incurred during the year related to prior years was attributable to releasing most of the provision for moderately adverse conditions for prior years. The amounts released were approximately $28.7 million, $32.2 million and $34.4 million for the years ended December 31, 2011, 2010 and 2009, respectively.  The remaining reduction in health benefits expense incurred during the year, related to prior years, of approximately $64.2 million, $74.0 million and $50.9 million for the years ended December 31, 2011, 2010 and 2009, respectively, primarily resulted from obtaining more complete claims information for claims incurred for dates of service in the prior years. We refer to these amounts as net reserve development. We experienced lower medical trend than originally estimated in addition to claims processing initiatives that yielded increased claim payment recoveries and coordination of benefits in 2011, 2010 and 2009 related to prior year dates of services for all periods. These factors also caused our actuarial estimates to include faster completion factors than were originally established. The lower medical trend, increased claim payment recoveries and faster completion factors each contributed to the net favorable reserve development in each respective period.  Establishing the liabilities for IBNR associated with health benefits expense incurred during a year related to that current year, at a level sufficient to cover obligations under an assumption of moderately adverse conditions, will cause incurred health benefits expense for that current year to be higher than if IBNR was established without sufficiency for moderately adverse conditions. In the above table, the health benefits expense incurred during the year related to the current year includes an assumption to cover moderately adverse conditions.                                           60 

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  Also included in medical claims payable are estimates for provider settlements due to clarification of contract terms, out-of-network reimbursement and claims payment differences, as well as amounts due to contracted providers under risk-sharing arrangements. These estimates are established through analysis of claims payment data, contractual provisions and state or federal regulations, as applicable. Differences in interpretation of appropriate payment levels and the methods under which these liabilities are resolved may cause these estimates to be subject to revision in future periods.  

Premium Deficiency Reserves

  In addition to incurred but not paid claims, the liability for medical claims payable includes reserves for premium deficiencies, if appropriate. We review each state Medicaid and federal Medicare contract under which we operate on a quarterly basis for any apparent premium deficiency. In doing so, we evaluate current medical cost trends, expected premium rate changes and termination clauses to determine our exposure to future losses, if any. Premium deficiencies are recognized when it is probable that expected claims and administrative expenses will exceed future premiums and investment income on existing medical insurance contracts. For purposes of premium deficiencies, contracts are grouped in a manner consistent with our method of acquiring, servicing and measuring the profitability of such contracts. We did not have any premium deficiency reserves at December 31, 2011.  Income Taxes  We account for income taxes in accordance with current accounting guidance as prescribed under GAAP. On a quarterly basis, we estimate our required tax liability based on enacted tax rates, estimates of book-to-tax differences in income, and projections of income that will be earned in each taxing jurisdiction. Deferred tax assets and liabilities representing the tax effect of temporary differences between financial reporting net income and taxable income are measured at the tax rates enacted at the time the deferred tax asset or liability is recorded.  After tax returns for the applicable year are filed, the estimated tax liability is adjusted to the actual liability per the filed state and federal tax returns. Historically, we have not experienced significant differences between our estimates of tax liability and our actual tax liability.  Similar to other companies, we sometimes face challenges from tax authorities regarding the amount of taxes due. Positions taken on our tax returns are evaluated and benefits are recognized only if it is more likely than not that our position will be sustained on audit. Based on our evaluation of tax positions, we believe that we have appropriately accounted for potential tax exposures.  In addition, we are periodically audited by state and federal taxing authorities and these audits can result in proposed assessments. We believe that our tax positions comply with applicable tax law and, as such, will vigorously defend these positions on audit. We believe that we have adequately provided for any reasonably foreseeable outcome related to these matters. Although the ultimate resolution of these audits may require additional tax payments, we do not anticipate any material impact to earnings.  

Investments

  As of December 31, 2011, we had investments with a carrying value of $1.6 billion, primarily held in marketable debt securities. Our investments are classified as available-for-sale and are recorded at fair value. We exclude gross unrealized gains and losses on available-for-sale investments from earnings and report unrealized gains or losses, net of income tax effects, as a separate component in stockholders' equity. We continually monitor the difference between the cost and fair value of our investments. As of December 31, 2011, our investments had gross unrealized gains of $22.0 million and gross unrealized losses of $3.4 million. We evaluate investments in debt and equity securities for impairment considering the length of time and extent to which fair value has been below cost basis, the financial condition and near-term prospects of the issuer as well as specific                                           61

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  events or circumstances that may influence the operations of the issuer, general market conditions and our intent to sell, or whether it is more likely than not that we will be required to sell the investment before recovery of a security's amortized cost basis. For debt securities, if we intend to either sell or determine that we will more likely than not be required to sell a debt security before recovery of the entire amortized cost basis or maturity of the debt security, we recognize the entire impairment in earnings. If we do not intend to sell the debt security and we determine that we will not more likely than not be required to sell the debt security but we do not expect to recover the entire amortized cost basis, the impairment is bifurcated into the amount attributed to the credit loss, which is recognized in earnings, and all other causes, which are recognized in accumulated other comprehensive income. New information and the passage of time can change these judgments.  We manage our investment portfolio to limit our exposure to any one issuer or market sector, and largely limit our investments to U.S. government and agency securities; state and municipal securities; and corporate debt obligations, substantially all of investment grade quality. As of December 31, 2011, our investments included $11.6 million of securities with an auction reset feature ("auction rate securities") issued by student loan corporations established by various state governments. Since early 2008, auctions for these auction rate securities have failed, significantly decreasing our ability to liquidate these securities prior to maturity. As we cannot predict the timing of future successful auctions, if any, our auction rate securities are classified as available-for-sale and are carried at fair value within long-term investments. The weighted average life of our auction rate security portfolio, based on the final maturity, is approximately 24 years. We currently believe that the $1.0 million net unrealized loss position that remains at December 31, 2011 on our auction rate securities portfolio is primarily due to liquidity concerns and not the creditworthiness of the underlying issuers. We currently have the intent and ability to hold our auction rate securities to maturity, if required, or if and when market stability is restored with respect to these investments. During 2011, certain investments in auction rate securities were called at par for net proceeds of $6.5 million. Additionally, we elected to tender an additional $3.6 million in auction rate securities at 95.5% of par resulting in a $0.2 million realized loss recognized in earnings.  

Goodwill and Intangible Assets

  The valuation of goodwill and intangible assets at acquisition requires assumptions regarding estimated discounted cash flows and market analyses. These assumptions contain uncertainties because they require management to use judgment in selecting the assumptions and applying the market analyses to the individual acquisitions. Additionally, impairment evaluations require management to use judgment to determine if impairment of goodwill and intangible assets is apparent. We have applied a consistent methodology in both the original valuation and subsequent impairment evaluations for all goodwill and intangible assets. We do not anticipate any changes to that methodology, nor has any impairment loss resulted from our analyses for the years ended December 31, 2011, 2010 and 2009, respectively. Based on our analysis, we have concluded that a significant margin of fair value in excess of the carrying value of goodwill and other intangibles exists as of December 31, 2011. If the assumptions used to evaluate the value of goodwill and intangible assets change in the future, an impairment loss may be recorded and it could be material to our results of operations in the period in which the impairment loss occurs.                                           62

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Results of Operations

  The following table sets forth selected operating ratios for the years ended December 31, 2011, 2010 and 2009. All ratios, with the exception of the HBR, are shown as a percentage of total revenues.                                                           Years Ended December 31,                                                     2011         2010         2009     Premium revenue                                   99.7 %       99.6 %       99.4 %     Investment income and other                        0.3          0.4          0.6      Total revenues                                   100.0 %      100.0 %      100.0 %      Health benefits expenses (1)                      83.7 %       81.6 %       85.4 %     Selling, general and administrative expenses       8.1 %        7.8 %        7.6 %     Income before income taxes                         4.9 %        7.5 %        3.9 %     Net income                                         3.1 %        4.7 %        2.9 %    

(1) HBR is shown as a percentage of premium revenue because there is a direct

relationship between the premium received and the health benefits provided.

   Summarized comparative financial information for the years ended December 31, 2011, 2010 and 2009 are as follows (dollars in millions, except per share data; totals in the table below may not equal the sum of individual line items as all line items have been rounded to the nearest decimal):                                                 Years Ended December 31,                     Years Ended December 31,                                                                    % Change                                     % Change                                         2011          2010        2011-2010          2010          2009        2010-2009 Revenues: Premium                               $ 6,301.4     $ 5,783.5            9.0 %     $ 5,783.5     $ 5,159.0           12.1 % Investment income and other                17.0          22.8          (25.7 )%         22.8          29.1          (21.5 )%  Total revenues                          6,318.4       5,806.3            8.8 %       5,806.3       5,188.1           11.9 % Expenses: Health benefits                         5,272.3       4,722.1           11.7 %       4,722.1       4,407.3            7.1 %

Selling, general and administrative 514.8 452.1 13.9 % 452.1 394.1

           14.7 % Premium tax                               163.6         143.9           13.7 %         143.9         134.3            7.2 % Depreciation and amortization              37.4          35.0            6.6 %          35.0          34.7            0.9 % Interest                                   20.6          16.0           28.3 %          16.0          16.3           (1.6 )%  Total expenses                          6,008.5       5,369.1           11.9 %       5,369.1       4,986.7            7.7 %  Income before income taxes                309.8         437.2          (29.1 )%        437.2         201.4          117.0 % Income tax expense                        114.2         163.8          (30.3 )%        163.8          52.1          214.2 %  Net income                            $   195.6     $   273.4          (28.4 )%    $   273.4     $   149.3           83.1 % 

Diluted net income per common share $ 3.82$ 5.40 (29.3 )% $ 5.40$ 2.85

           89.5 %    Revenues  Premium Revenue  Premium revenue increased 9.0% and 12.1% in the years ended December 31, 2011 and 2010, respectively, compared to the prior year. The increase in both periods was due in part to increases in full-risk membership across the majority of our existing products and markets. Additionally, both periods reflect increased premium revenue from premium rate increases and yield increases resulting from changes in membership mix and benefits across many of our markets.                                           63

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  For the year ended December 31, 2011 compared to the year ended December 31, 2010, the increase in premium revenue as a result of increases in membership was most significantly impacted through growth in our Texas health plans as a result of our expansion into the Fort Worth STAR+PLUS program on February 1, 2011 and our expansion into the Beaumont service area on September 1, 2011. The increase in premium revenue was further attributable to a full year of participation in the Tennessee TennCare CHOICES program compared to ten months of participation in 2010 as well as expansion of benefits in our New Jersey market beginning July 1, 2011 which includes the expansion of managed care to additional ABD populations and the carve-in of pharmacy benefits for ABD members.  For the year ended December 31, 2010 compared to the year ended December 31, 2009, the increase in premium revenue was further attributable to our entry into the Tennessee TennCare CHOICES program and our acquisition of the Medicaid contract rights from University Health Plans, Inc. ("UHP") in the state of New Jersey, both occurring in March 2010. The increase in premium revenue for the year ended December 31, 2010 compared to the year ended December 31, 2009 was offset in part by our decision to exit the ABD program in the Southwest region of Ohio as well as the state's election to remove pharmacy coverage from the benefit package, both effective February 2010. Pharmacy coverage was subsequently reinstated in Ohio beginning September 1, 2011.  The following table sets forth the approximate number of members we served in each state as of December 31, 2011, 2010 and 2009. Because we receive two premiums for members that are in both the Medicare Advantage and Medicaid products, these members have been counted twice in the states where we operate Medicare Advantage plans.                                                 December 31,                  Market          2011            2010            2009                  Texas(1)         632,000         559,000         505,000                  Florida          257,000         263,000         236,000                  Georgia          256,000         266,000         249,000                  Maryland         209,000         202,000         194,000                  Tennessee        204,000         203,000         195,000                  New Jersey       156,000         134,000         118,000                  New York         110,000         109,000         114,000                  Nevada            81,000          79,000          62,000                  Ohio              55,000          55,000          60,000                  Virginia          41,000          40,000          35,000                  New Mexico        23,000          21,000          20,000                   Total          2,024,000       1,931,000       1,788,000     

(1) Membership includes approximately 14,000 and 13,000 members under an ASO

contract as of December 31, 2010 and 2009, respectively. This contract

terminated January 31, 2011.

   Total membership as of December 31, 2011 increased by 93,000 members, or 4.8%, compared to that as of December 31, 2010. Total membership as of December 31, 2010 increased by 143,000 members, or 8.0%, compared to that as of December 31, 2009.  The increase in 2011 is primarily due to significant membership growth in the state of Texas due in part to our expansion into the Fort Worth STAR+PLUS program on February 1, 2011 and our expansion into the Beaumont service area on September 1, 2011. The increase in membership in 2011 is further attributable to expansion of managed care to additional ABD populations in our New Jersey market beginning July 1, 2011. The increase in membership in 2010 was primarily a result of membership growth in the majority of our products and markets driven by a surge in Medicaid eligibility, which we believe was driven by continued high unemployment                                           64 

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  and general adverse economic conditions. Membership as of December 31, 2010 also increased as a result of our March 2010 acquisition of the Medicaid contract rights from UHP to provide services to additional members in the state of New Jersey.  For the year ended December 31, 2011, our Texas contract represented approximately 22% of premium revenues and our Tennessee, Georgia and Maryland contracts represented approximately 14%, 12%, and 11% of premium revenues, respectively. Our state contracts have terms that are generally one-to-two years in length, some of which contain optional renewal periods at the discretion of the individual states. Some contracts also contain a termination clause with notification periods ranging from 30 to 180 days. At the termination of these contracts, re-negotiation of terms or the requirement to enter into a re-bidding or reprocurement process is required to execute a new contract. If these contracts were not renewed on favorable terms to us, our financial position, results of operations or cash flows could be materially adversely affected.  

Investment Income and Other

  Our investment portfolio generated approximately $16.5 million, $17.2 million and $22.4 million in pre-tax income for the years ended December 31, 2011, 2010 and 2009, respectively. The decrease in each period is primarily a result of decreasing rates of return on fixed income securities due to current market interest rates. Our effective yield could remain at or below our current rate of return as of December 31, 2011 for the foreseeable future, which would result in similar or reduced returns on our investment portfolio in future periods. The performance of our investment portfolio is predominately interest rate driven and, consequently, changes in interest rates affect our returns on, and the fair value of, our portfolio which can materially affect our financial position, results of operations or cash flows in future periods.  Other revenue for the year ended December 31, 2011 decreased $5.2 million to $0.4 million compared to $5.6 million for the year ended December 31, 2010. Other revenue for the year ended December 31, 2010, decreased $1.1 million from $6.7 million for the year ended December 31, 2009. Included in other revenue for the year ended December 31, 2010 is a $4.0 million gain on the sale of certain trademarks. Included in other revenue for the year ended December 31, 2009 is a $5.8 million gain on the sale of the South Carolina contract rights.  

Health Benefits Expense

  Expenses relating to health benefits for the year ended December 31, 2011 increased 11.7% compared to the year ended December 31, 2010. Our HBR increased to 83.7% for the year ended December 31, 2011 compared to 81.6% for the prior year. Health benefits expense for the year ended December 31, 2011 reflects moderate increases in cost trends and expansion into new markets and products with higher medical costs relative to premium revenues, such as the ABD expansion in Fort Worth, Texas and New Jersey. Additionally current periods reflect lower favorable reserve development related to prior periods than that of recent years and the impact of rate decreases in our Tennessee and Texas markets. The combined impact of these factors resulted in an increase in our HBR for the year ended December 31, 2011.  Expenses relating to health benefits for the year ended December 31, 2010 increased 7.1% compared to the year ended December 31, 2009. Our HBR for the year ended December 31, 2010 was 81.6% compared to 85.4% for the year ended December 31, 2009. The decrease in HBR for the year ended December 31, 2010 resulted primarily from moderating cost trends for current and prior periods, the latter of which generated revisions of estimates related to prior periods. In addition, we believe a less severe 2010 winter flu season and lower utilization of health services due to severe winter weather in some of our markets favorably impacted the ratio. HBR was also favorably impacted by the net effect of premium rate changes in connection with annual contract renewals.                                           65

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Selling, General and Administrative Expenses

  SG&A increased 13.9% for the year ended December 31, 2011 compared to the year ended December 31, 2010. The increase in SG&A is primarily a result of increased salary and benefits expenses as a result of moderate workforce, wage and benefits increases. The increase was further attributable to increases in advertising and marketing relating to our rebranding activities and purchased services related to corporate projects and business development activities. These increases were partially offset by decreases in variable compensation accruals.  SG&A for the year ended December 31, 2010 increased 14.7% compared to the year ended December 31, 2009. The increase in SG&A is primarily a result of increased salary and benefits expenses due to increased variable compensation accruals as a result of our operating performance for 2010 as well as moderate wage, benefits and workforce increases over the prior year.  Our SG&A to total revenues ratio was 8.1%, 7.8% and 7.6% for the years ended December 31, 2011, 2010 and 2009, respectively. The increase in SG&A expenses for the years ended December 31, 2011 and 2010 of 13.9% and 14.7%, respectively, were largely matched by leverage gained through increased premium revenues.  

Premium Tax Expense

  Premium taxes increased 13.7% for the year ended December 31, 2011 compared to the year ended December 31, 2010. The increase in premium tax expense in 2011 compared to 2010 is due in part to growth in revenue in the majority of our markets where premium tax is levied, including growth from our Texas market expansions into the Fort Worth STAR+PLUS program in February 2011 and the Beaumont service area in September 2011 as well as premium revenue growth in the state of Tennessee relating to our entry into the TennCare CHOICES Program in March 2010. Additionally, premium tax increased due to the reinstatement of premium taxes in the state of Georgia in July 2010.  Premium taxes increased 7.2% for the year ended December 31, 2010 compared to 2009 due to increased premium revenues in the state of Tennessee primarily as a result of our entry into the TennCare CHOICES program in March 2010 and a premium tax rate increase in Tennessee effective July 2009. Additionally, premium revenue growth in the majority of other markets where premium tax is levied contributed to the increase. These factors were partially offset by the termination of premium tax in the state of Georgia in October 2009 which was subsequently reinstated at a lower rate in July 2010.  

Interest Expense

  Interest expense was $20.6 million, $16.0 million and $16.3 million for the years ended December 31, 2011, 2010 and 2009, respectively. The increase in interest expense in 2011 compared to 2010 is primarily attributable to interest associated with the $400.0 million aggregate principal amount of 7.5% Senior Notes issued on November 16, 2011 and due November 15, 2019 (see Liquidity and Capital Resources - Financing Activities - Senior Notes, below, for further discussion).  

Provision for Income Taxes

  Income tax expense was $114.2 million, $163.8 million and $52.1 million for the years ended December 31, 2011, 2010 and 2009, respectively. The effective rates for the years ended December 31, 2011, 2010 and 2009 were 36.9%, 37.5% and 25.9%, respectively. The decrease in the effective tax rate for the year ended December 31, 2011 compared to the year ended December 31, 2010 was primarily attributable to a decrease in the blended state income tax rate and favorable resolution of a state income tax audit. The effective tax rate for the year ended December 31, 2009 was significantly decreased due to a pre-filing agreement reached with the IRS in 2009 regarding the tax treatment of the 2008 qui tam litigation settlement payment resulting in an                                           66

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  additional tax benefit of $22.4 million in 2009. Excluding the impact of the pre-filing agreement, the effective tax rate for the year ended December 31, 2010 compared to the year ended December 31, 2009 increased as a result of increases in non-deductible expenses as well as an increase in the blended state income tax rate.  Net Income  Net income for 2011 was $195.6 million, or $3.82 per diluted share, compared to net income of $273.4 million, or $5.40 per diluted share in 2010 and net income of $149.3 million, or $2.85 per diluted share in 2009. The decrease in net income for the year ended December 31, 2011 compared to the year ended December 31, 2010 was primarily a result of moderate increases in medical cost trends and lower favorable reserve development in current periods compared to prior periods resulting in an increase in health benefits expense that exceeded the growth in premium revenues. The increase in net income for the year ended December 31, 2010 compared to the year ended December 31, 2009 was primarily a result of moderating cost trends for current and prior periods, the latter of which generated revisions of estimates related to prior periods. The increase was also a result of premium growth, primarily driven by membership growth; expansion into the TennCare CHOICES program in the state of Tennessee in March 2010; premium rate and mix changes; and our acquisition of the Medicaid contract rights from UHP in the state of New Jersey in March 2010; each without an equal increase in health benefits expense.  

Liquidity and Capital Resources

  We manage our cash, investments and capital structure so we are able to meet the short- and long-term obligations of our business while maintaining financial flexibility and liquidity. We forecast, analyze and monitor our cash flows to enable prudent investment management and financing within the confines of our financial strategy.  Our primary sources of liquidity are cash and cash equivalents, short- and long-term investments, and cash flows from operations. As of December 31, 2011, we had cash and cash equivalents of $546.8 million, short- and long-term investments of $1.5 billion and restricted investments on deposit for licensure of $128.1 million. Cash, cash equivalents, and investments which are unregulated totaled $724.8 million at December 31, 2011.  

Financing Activities

Senior Notes

  On November 16, 2011, we issued $400.0 million in aggregate principal amount of unsecured 7.5% Senior Notes due November 15, 2019 (the "7.5% Senior Notes"). Interest on the 7.5% Senior Notes is payable semi-annually on May 15 and November 15 of each year, commencing May 15, 2012. The 7.5% Senior Notes rank equally in right of payment with all of our existing and future indebtedness that is not expressly subordinated thereto, senior in right of payment to any future indebtedness that is expressly subordinated in right of payment thereto and effectively junior to our existing and future secured indebtedness to the extent of the value of the collateral securing such indebtedness. In addition, the 7.5% Senior Notes will be structurally subordinated to all indebtedness and other liabilities of our subsidiaries, unless our subsidiaries become guarantors of the 7.5% Senior Notes.  In the event of an equity offering at any time prior to November 15, 2014, we may redeem up to 35.0% of the aggregate principal amount of the 7.5% Senior Notes with the net cash proceeds of that equity offering and at a redemption price equal to 107.5% of the principal amount of the 7.5% Senior Notes redeemed, plus accrued and unpaid interest. Additionally, at any time prior to November 15, 2015, we may redeem all or a part of the 7.5% Senior Notes at par plus accrued and unpaid interest plus a "make-whole" premium as determined pursuant to the indenture governing the 7.5% Senior Notes dated November 16, 2011. On or after November 15, 2015, we may redeem all or a part of the 7.5% Senior Notes at the redemption prices set forth in the indenture and expressed as percentages of the principal amount, plus accrued and unpaid interest.                                           67

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  On January 18, 2012, we issued an additional $75.0 million in aggregate principal amount of our 7.5% Senior Notes. The additional notes constitute a further issuance of, and are fungible with the $400.0 million aggregate principal amount of 7.5% Senior Notes that we issued on November 16, 2011 and form a single series of debt securities with the initial notes. The additional $75.0 million in principal was issued at a premium of 103.75%. Following the issuance of the additional notes, the aggregate principal amount of our 7.5% Senior Notes outstanding was $475.0 million.  We intend to use a portion of the net proceeds from the initial offering to repay at or prior to maturity the outstanding aggregate principal amount of our 2.0% Convertible Senior Notes, discussed below. The remaining net proceeds will be used for general corporate purposes, including acquisitions and/or business development opportunities which may include the funding of statutory capital commensurate with growth and funding of our recently announced acquisition of the operating assets and contract rights of Health Plus.  The 7.5% Senior Notes contain certain covenants restricting our ability, among other things, to incur additional indebtedness, pay dividends or make other distributions or payments, repay junior indebtedness, sell assets, make investments, engage in transactions with affiliates, create certain liens and engage in certain types of mergers or acquisitions. These covenants are subject to certain exceptions, including exceptions that allow us to incur debt or make restricted payments if certain ratios are met. As of December 31, 2011, we believe we are in compliance with all covenants under the 7.5% Senior Notes.  

Convertible Senior Notes

  As of December 31, 2011, we had $259.9 million outstanding in aggregate principal amount of 2.0% Convertible Senior Notes due May 15, 2012. The 2.0% Convertible Senior Notes are senior unsecured obligations of the Company and rank equal in right of payment with all of our existing and future senior debt and senior to all of our subordinated debt. The 2.0% Convertible Senior Notes bear interest at a rate of 2.0% per year, payable semiannually in arrears in cash on May 15 and November 15 of each year and mature on May 15, 2012, unless earlier repurchased or converted.  Upon conversion of the 2.0% Convertible Senior Notes, we will pay cash up to the principal amount of the 2.0% Convertible Senior Notes converted. With respect to any conversion value in excess of the principal amount, we have the option to settle the excess with cash, shares of our common stock, or a combination thereof based on a daily conversion value, as defined in the indenture. The initial conversion rate for the 2.0% Convertible Senior Notes is 23.5114 shares of common stock per one thousand dollars of principal amount of 2.0% Convertible Senior Notes, which represents a 32.5% conversion premium based on the closing price of $32.10 per share of our common stock on March 22, 2007 and is equivalent to a conversion price of approximately $42.53 per share of common stock. Consequently, under the provisions of the 2.0% Convertible Senior Notes, if the market price of our common stock exceeds $42.53 we will be obligated to settle, in cash and/or shares of our common stock at our option, an amount equal to approximately $6.1 million for each dollar in share price that the market price of our common stock exceeds $42.53, or the conversion value in excess of the principal amount of the 2.0% Convertible Senior Notes. In periods prior to conversion, the 2.0% Convertible Senior Notes would also have a dilutive impact to earnings if the average market price of our common stock exceeds $42.53 for the period reported. At conversion, the dilutive impact would result if the conversion value in excess of the principal amount of the 2.0% Convertible Senior Notes, if any, is settled in shares of our common stock. The conversion rate is subject to adjustment in some events but will not be adjusted for accrued interest. In addition, if a "fundamental change" occurs prior to the maturity date, we will in some cases increase the conversion rate for a holder of 2.0% Convertible Senior Notes that elects to convert their 2.0% Convertible Senior Notes in connection with such fundamental change. As of December 31, 2011, the 2.0% Convertible Senior Notes had a dilutive impact to earnings per share as the average market price of our common stock of $56.67 for the year ended December 31, 2011 exceeded the conversion price of $42.53.                                           68

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  Concurrent with the issuance of the 2.0% Convertible Senior Notes, we purchased convertible note hedges, subject to customary anti-dilution adjustments, covering 6,112,964 shares of our common stock. The convertible note hedges are expected to offset the potential dilution upon conversion of the 2.0% Convertible Senior Notes in the event that the market value per share of our common stock, as measured under the convertible note hedges, at the time of exercise is greater than the strike price of the convertible note hedges. Consequently, under the provisions of the convertible note hedges, we are entitled to receive, at our option, cash and/or shares of our common stock in an amount equal to the conversion value in excess of the principal amount of the 2.0% Convertible Senior Notes from the counterparty to the convertible note hedges.  Also concurrent with the issuance of the 2.0% Convertible Senior Notes, we sold warrants to acquire, subject to customary anti-dilution adjustments, 6,112,964 shares of our common stock at an exercise price of $53.77 per share. If the average market price of our common stock during a defined period ending on or about the settlement date exceeds the exercise price of the warrants, the warrants will be settled in shares of our common stock. Consequently, under the provisions of the warrant instruments, if the market price of our common stock exceeds $53.77 at exercise we will be obligated to settle in shares of our common stock an amount equal to approximately $6.1 million for each dollar that the market price of our common stock exceeds $53.77 resulting in a dilutive impact to our earnings. As of December 31, 2011, the warrant instruments had a dilutive impact to earnings per share for the year ended December 31, 2011 as the average market price of our common stock for the year ended December 31, 2011 of $56.67 exceeded the $53.77 exercise price of the warrants.  During the year ended December 31, 2011, certain bondholders converted $120,000 in aggregate principal amount of the 2.0% Convertible Senior Notes with a conversion value in excess of the principal amount by $82,000. We paid the consideration for the conversion of the 2.0% Convertible Senior Notes using cash on hand and the conversion value in excess of the principal amount converted was recouped through cash received from the counterparty pursuant to the convertible note hedge instruments.  As of December 31, 2011, our common stock was last traded at a price of $59.08 per share. Based on this value, if the 2.0% Convertible Senior Notes had been converted or matured at December 31, 2011, we would be obligated to pay the principal of the 2.0% Convertible Senior Notes plus an amount in cash or shares equal to $101.1 million. An amount equal to $101.1 million would be owed to us in cash or in shares of our common stock through the provisions of the convertible note hedges resulting in a net cash outflow equal to the principal amount of the 2.0% Convertible Senior Notes. At this per share value, we would be required to deliver approximately $32.5 million in shares of our common stock under the warrant instruments or approximately 549,000 shares of our common stock at that price per share.  

The convertible note hedges and warrants are separate transactions which do not affect holders' rights under the 2.0% Convertible Senior Notes.

Universal Automatic Shelf Registration

  On December 12, 2011, we filed a universal automatic shelf registration statement with the Securities and Exchange Commission which enables us to sell, in one or more public offerings, common stock, preferred stock, debt securities and other securities at prices and on terms to be determined at the time of the applicable offering. The shelf registration provides us with the flexibility to publicly offer and sell securities at times we believe market conditions make such an offering attractive. Because we are a well-known seasoned issuer, the shelf registration statement was effective upon filing. On January 18, 2012, we issued $75.0 million in aggregate principal amount of our 7.5% Senior Notes under this new shelf registration.  

Share Repurchase Program

Under the authorization of our Board of Directors, we maintain an ongoing share repurchase program. On August 4, 2011, the Board of Directors authorized a $250.0 million increase to the share repurchase program,

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  bringing the total authorization to $650.0 million. The $650.0 million authorization is for repurchases made from and after August 5, 2009. Pursuant to this share repurchase program, we repurchased 3,339,468, 3,748,669 and 2,713,567 shares of our common stock and placed them into treasury during the years ended December 31, 2011, 2010 and 2009, respectively, at an aggregate cost of $175.7 million, $138.5 million and $69.8 million, respectively. As of December 31, 2011, we had remaining authorization to purchase up to an additional $298.6 million of shares of the Company's common stock under the share repurchase program.  

Credit Agreement

  We previously maintained a Credit Agreement that provided both a secured term loan and a senior secured revolving credit facility. On July 31, 2009, we paid the remaining balance of the secured term loan. Effective August 21, 2009, we terminated the Credit Agreement and related Pledge and Security Agreement. We had no outstanding borrowings under the Credit Agreement as of the effective date of termination.  Cash and Investments  Cash provided by operations was $208.0 million for the year ended December 31, 2011 compared to $401.9 million for the year ended December 31, 2010. The decrease in cash provided by operations primarily resulted from a decrease in cash flows generated from working capital changes of $140.9 million and a decrease in net income adjusted for non-cash items of $50.0 million, primarily as a result of an increase in health benefits expense that exceeded the growth in premium revenues. The decrease in cash provided by working capital changes was due, in part, to fluctuations in unearned revenues of $107.1 million as a result of variability in the timing of receipts of premium from government agencies. Additionally, the decrease in cash provided by working capital changes was due to a decrease in cash provided through changes in premium receivables of $45.0 million primarily as a result of the timing of receipts from government agencies for retroactive rate changes. The decrease in cash provided by working capital changes was further attributable to a net decrease in cash provided through changes in accounts payable, accrued expenses, contractual refunds payable and other current liabilities of $52.3 million primarily due to fluctuations in variable compensation and experience rebate accruals. The decrease in cash provided by working capital changes was partially offset by an increase in claims payable primarily associated with growth in the business.  Cash used in investing activities was $707.2 million for the year ended December 31, 2011 compared to $80.7 million for the year ended December 31, 2010. The increase in cash used in investing activities is due primarily to an increase in the net purchases of investments of $615.6 million, primarily due to investment of the net proceeds received from the issuance of $400.0 million in aggregate principal amount of 7.5% Senior Notes on November 16, 2011, a portion of which is intended to be used to repay at or prior to maturity the outstanding aggregate principal amount of our 2.0% Convertible Senior Notes. We currently anticipate total capital expenditures for 2012 to be between approximately $65.0 million and $75.0 million related primarily to technological infrastructure development and investment in our health plan and corporate support facilities.  Our investment policies are designed to preserve capital, provide liquidity and maximize total return on invested assets. As of December 31, 2011, our investment portfolio consisted primarily of fixed-income securities with a weighted average maturity of approximately twenty-six months. We utilize investment vehicles such as auction rate securities, certificates of deposit, commercial paper, corporate bonds, debt securities of government sponsored entities, equity index funds, money market funds, municipal bonds and U.S. Treasury securities. The states in which we operate prescribe the types of instruments in which our subsidiaries may invest their funds. As of December 31, 2011, we had total cash and investments of approximately $2.2 billion.                                           70

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The following table shows the types and percentages of our holdings within our investment portfolio, as well as the average Standard and Poor's ("S&P") ratings, if applicable, for our investment portfolio at December 31, 2011:

                                                              Portfolio          Average S&P                                                           Percentage            Rating Auction rate securities                                           0.5 %           AAA Cash, bank deposits and commercial paper                          9.4 %           AAA Certificates of deposit                                          10.2 %           AAA Corporate bonds                                                  25.9 %            A Debt securities of government sponsored entities and U.S. Treasury securities                                         14.5 %           AA+ Equity index funds                                                1.9 %            * Money market funds                                               19.2 %           AAA Municipal bonds                                                  18.4 %           AA+                                                                  100.0 %           AA      * Not applicable.   Cash provided by financing activities was $282.1 million for the year ended December 31, 2011 compared to cash used in financing activities of $63.3 million for the year ended December 31, 2010. The change in cash flows from financing activities primarily related to net proceeds received from the issuance of our 7.5% Senior Notes as well as an increase in proceeds and the related tax benefit from employee stock option exercises and stock purchases of $41.7 million. The increase in cash provided by financing activities was partially offset by changes in bank overdrafts of $51.6 million due to timing of check cycles and an increase in repurchases of our common stock of $37.2 million pursuant to our ongoing share repurchase program.  We believe that existing cash and investment balances and cash flow from operations will be sufficient to support continuing operations, capital expenditures and our growth strategy for at least the next 12 months. As a result of the issuance of our 7.5% Senior Notes, our debt-to-total capital ratio increased to 33.8% at December 31, 2011 from 17.4% at December 31, 2010. Giving effect to the follow on offering of $75.0 million in aggregate principal amount of our 7.5% Senior Notes on January 18, 2012, our resulting debt-to-capital ratio would have been 36.3%. We utilize the debt-to-total capital ratio as a measure, among others, of our leverage and financial flexibility. Our access to additional financing will depend on a variety of factors such as market conditions, the general availability of credit, the overall availability of credit to our industry, our credit ratings and credit capacity, as well as the possibility that lenders could develop a negative perception of our long- or short-term financial prospects. Similarly, our access to funds may be impaired if regulatory authorities or rating agencies take negative actions against us. If a combination of these factors were to occur, our internal sources of liquidity may prove to be insufficient, and in such case, we may not be able to successfully obtain additional financing on favorable terms.  On October 25, 2011, we signed an agreement to purchase substantially all of the operating assets and contract rights of Health Plus, a PHSP in New York, for $85.0 million. In addition to this expected use of available cash and investments, if consummated, the acquisition of Health Plus will require funding of additional statutory capital commensurate with the anticipated increase in the membership of our New York health plan in 2012.  Lastly, the government agencies with whom we contract can and have from time-to-time delayed the timing of payment of the premium revenue we are entitled to receive under our respective contracts by one month or more. This delay can be a result of cash management strategies on the part of the government agencies or other reasoning beyond our control. Despite any delays in premium payments, our contracts require that we pay claims for medical services within certain time frames which would require that we remit payments to providers for                                           71 

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  services in advance of receipts from the government agencies if such receipts are delayed. In general, we believe we will be able to collect any delayed premiums; however, if these delays occur in a significant market for an extended period of time or in more than one market that in the aggregate are significant to our consolidated business, our liquidity could be materially adversely affected. For example, we anticipate a delay in the timing of premium payments to our Georgia health plan from GA DCH during the first quarter of 2012, or longer, that may impact a significant portion of the premium payments owed to us for the affected period. If this anticipated delay continues for an extended period, our liquidity could be materially adversely affected.  

Regulatory Capital and Dividend Restrictions

  Our operations are conducted through our wholly-owned subsidiaries, which include Health Maintenance Organizations ("HMOs"), one health insuring corporation ("HIC"), one accident and health insurance company ("A&H") and one prepaid health services plan ("PHSP"). HMOs, HICs, A&Hs and PHSPs are subject to state regulations that, among other things, require the maintenance of minimum levels of statutory capital, as defined by each state, and regulate the timing, payment and amount of dividends and other distributions that may be paid to their stockholders. Additionally, certain state regulatory agencies may require individual regulated entities to maintain statutory capital levels higher than the minimum capital and surplus levels under state regulations. As of December 31, 2011, we believe our subsidiaries are in compliance with all minimum statutory capital requirements. The parent company may be required to fund minimum net worth shortfalls or choose to increase capital at its subsidiary health plans during 2012 using unregulated cash, cash equivalents, investments or a combination thereof, particularly in light of expected growth in our Texas market and planned operations commencement in Louisiana and Washington. We believe, as a result, that we will continue to be in compliance with these requirements at least through the end of 2012. Additionally, in connection with our acquisition of the operating assets and contract rights of Health Plus, if consummated, we will also be required to fund certain minimum statutory capital levels commensurate with the anticipated increase in the membership of our New York health plan in 2012.  The National Association of Insurance Commissioners ("NAIC") has defined risk-based capital ("RBC") standards for HMOs, insurers and other entities bearing risk for healthcare coverage that are designed to measure capitalization levels by comparing each company's adjusted surplus to its required surplus ("RBC ratio"). The RBC ratio is designed to reflect the risk profile of HMOs and insurers by establishing the minimum amount of capital appropriate for an HMO or insurer to support its overall business operations in consideration of its size, structure and risk profile. Within certain ratio ranges, regulators have increasing authority to take action as the RBC ratio decreases. There are four levels of regulatory action based on the HMO or insurer's financial condition, ranging from (a) requiring insurers to submit a comprehensive RBC plan to the state insurance commissioner containing proposals for corrective action, to (b) requiring the state insurance commissioner to place the insurer under regulatory control (e.g., rehabilitation or liquidation) pursuant to the state insurer receivership statute. Eight of the eleven states in which we operated in at December 31, 2011 have adopted RBC as the measure of required surplus. At December 31, 2011, our consolidated RBC ratio for these states is estimated to be over 440% which compares to the required level of 200%, the level at which regulatory action would be initiated. In the remaining states, we have at least 120% of the state required surplus level.  Additionally, the 7.5% Senior Notes contain certain covenants restricting our ability, among other things, to pay dividends or make other distributions or payments subject to certain exceptions, including exceptions that allow us to incur debt or make restricted payments if certain ratios are met.                                           72

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Contractual Obligations

  The following table summarizes our material contractual obligations, including both on- and off-balance sheet arrangements, and our commitments at December 31, 2011 (in thousands):    Contractual Obligations            Total         2012          2013         2014         2015         2016        Thereafter Long-term obligations, including interest               $ 902,479     $ 292,479     $ 30,000     $ 

30,000 $ 30,000$ 30,000$ 490,000 Operating lease obligations 88,229 16,501 13,092 10,963 9,983 9,336

           28,354  

Total contractual obligations $ 990,708$ 308,980$ 43,092$ 40,963$ 39,983$ 39,336$ 518,354

    Long-term Obligations. Long-term obligations at December 31, 2011 include amounts due under our 2.0% Convertible Senior Notes which were issued on March 28, 2007 and mature on May 15, 2012 and amounts due under our 7.5% Senior Notes which were issued on November 16, 2011 and mature on November 15, 2019. We intend to use available cash to repay at or prior to maturity our 2.0% Convertible Senior Notes.  On January 18, 2012, we issued an additional $75.0 million in aggregate principal amount of 7.5% Senior Notes due November 15, 2019. The additional $75.0 million in principal was issued at a premium of 103.75%. Following the issuance of the additional notes, the aggregate principal amount of our 7.5% Senior Notes outstanding was $475.0 million, resulting in an increase in contractual obligations for 2012 through 2016 of $5.6 million per year for interest owed on the additional issuance and in increase in contractual obligations of $91.9 million for years subsequent to 2016 through maturity.  Operating Lease Obligations. Our operating lease obligations at December 31, 2011 are primarily for payments under non-cancelable office space and office equipment leases.  

Off-Balance Sheet Arrangements

  We have no investments, loans or any other known contractual arrangements with special-purpose entities, variable interest entities or financial partnerships. Effective July 1, 2011, we renewed a collateralized irrevocable standby letter of credit, initially issued on July 1, 2009 in an aggregate principal amount of approximately $17.4 million, to meet certain obligations under our Medicaid contract in the state of Georgia through our Georgia health plan. The letter of credit is collateralized through cash and investments held by our Georgia health plan. Additionally, certain provisions of our 2.0% Convertible Senior Notes, convertible note hedges and warrant instruments are off-balance sheet arrangements, the details of which are described in Note 9 to our audited Consolidated Financial Statements included in Item 8. of this Annual Report on Form 10-K.  Commitments  On October 25, 2011, we signed an agreement to purchase substantially all of the operating assets and contract rights of Health Plus, a PHSP in New York, for $85.0 million. Health Plus currently serves approximately 320,000 members in New York State'sMedicaid, Family Health Plus and Child Health Plus programs, as well as the federal Medicare Advantage program. We intend to fund the purchase price through available cash. The transaction is subject to regulatory approvals and other closing conditions and is expected to close in the first half of 2012; although, there can be no assurance as to the timing of consummation of this transaction or if this transaction will be consummated at all.  

As of December 31, 2011, we had no other material commitments.

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Inflation

  Although healthcare cost inflation has stabilized in recent years, the national healthcare cost inflation rate still significantly exceeds the general inflation rate. We use various strategies to reduce the negative effects of healthcare cost inflation. Specifically, our health plans try to control medical and hospital costs through contracts with independent providers of healthcare services. Through these contracted care providers, our health plans emphasize preventive healthcare and appropriate use of specialty and hospital services. 

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