Health Net 2002 Annual Report Download - page 49

HEALTH NET, INC. | 47
the amount of statutory capital or related capital contribu-
tions required to meet risk-based capital and other
minimum capital requirements.
Legislation has been or may be enacted in certain
states in which the Company’s subsidiaries operate
imposing substantially increased minimum capital and/or
statutory deposit requirements for HMOs in such states.
Such statutory deposits may only be drawn upon under
limited circumstances relating to the protection of
policyholders.
As a result of the above requirements and other regu-
latory requirements, certain subsidiaries are subject to
restrictions on their ability to make dividend payments,
loans or other transfers of cash to the Company. Such
restrictions, unless amended or waived, limit the use of any
cash generated by these subsidiaries to pay obligations of
the Company. The maximum amount of dividends which
can be paid by the insurance company subsidiaries to the
Company without prior approval of the insurance depart-
ments is subject to restrictions relating to statutory surplus,
statutory income and unassigned surplus. Management
believes that as of December 31, 2002, all of the
Company’s health plans and insurance subsidiaries met
their respective regulatory requirements.
HEALTH INSURANCE PORTABILITY AND ACCOUNTABILITY ACT OF
1996 (HIPAA)
The purposes of HIPAA are to (i) limit pre-existing condi-
tion exclusions applicable to individuals changing jobs or
moving to individual coverage, (ii) guarantee the avail-
ability of health insurance for employees in the small
group market, (iii) prevent the exclusion of individuals
from coverage under group plans based on health status,
and (iv) establish national standards for the electronic
exchange of health information. In December 2000, the
Department of Health and Human Services (DHHS)
promulgated regulations under HIPAA related to the
privacy and security of electronically transmitted protected
health information (PHI). The new regulations require
health plans, clearinghouses and providers to (a) comply
with various requirements and restrictions related to the
use, storage and disclosure of PHI, (b) adopt rigorous
internal procedures to protect PHI, (c) create policies
related to the privacy of PHI and (d) enter into specific
written agreements with business associates to whom PHI
is disclosed. The regulations also establish significant crim-
inal penalties and civil sanctions for non-compliance.
Health Net has completed the majority of work required
to be compliant with the HIPAA Privacy Regulations prior
to the effective date of April 2003. Further, Health Net is
on target to be in compliance with the Transactions and
Codesets requirements prior to the effective date of
October 2003. The Security regulations have been recently
made final and will not be enforced until approximately
April 2005, and Health Net has created a Security plan to
ensure appropriate compliance prior to the effective date.
Quantitative and Qualitative Disclosures
About Market Risk
The Company is exposed to interest rate and market risk
primarily due to its investing and borrowing activities.
Market risk generally represents the risk of loss that may
result from the potential change in the value of a financial
instrument as a result of fluctuations in interest rates and
in equity prices. Interest rate risk is a consequence of main-
taining fixed income investments and variable rate liabili-
ties. The Company is exposed to interest rate risks arising
from changes in the level or volatility of interest rates,
prepayment speeds and/or the shape and slope of the yield
curve. In addition, the Company is exposed to the risk of
loss related to changes in credit spreads. Credit spread risk
arises from the potential that changes in an issuer’s credit
rating or credit perception may affect the value of financial
instruments.
The Company has several bond portfolios to fund
reserves. The Company attempts to manage the interest
rate risks related to its investment portfolios by actively
managing the asset/liability duration of its investment port-
folios. The overall goal for the investment portfolios is to
provide a source of liquidity and support the ongoing
operations of the Company’s business units. The
Company’s philosophy is to actively manage assets to
maximize total return over a multiple-year time horizon,
subject to appropriate levels of risk. Each business unit has
additional requirements with respect to liquidity, current
income and contribution to surplus. The Company
manages these risks by setting risk tolerances, targeting
asset-class allocations, diversifying among assets and asset
characteristics, and using performance measurement
and reporting.
The Company uses a value-at-risk (VAR) model,
which follows a variance/covariance methodology, to
assess the market risk for its investment portfolio. VAR is
a method of assessing investment risk that uses standard
statistical techniques to measure the worst expected loss in
the portfolio over an assumed portfolio disposition period
under normal market conditions. The determination is
made at a given statistical confidence level.