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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
(Mark One)
ÈANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2005
‘TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 1-12718
HEALTH NET, INC.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 95-4288333
(State or Other Jurisdiction
of Incorporation or Organization)
(I.R.S. Employer Identification No.)
21650 Oxnard Street, Woodland Hills, CA 91367
(Address of Principal Executive Offices) (Zip Code)
Registrant’s Telephone Number, Including Area Code: (818) 676-6000
Securities Registered Pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
Common Stock, $.001 par value New York Stock Exchange, Inc.
Rights to Purchase Series A Junior Participating Preferred
Stock
New York Stock Exchange, Inc.
Securities Registered Pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant is a well-known seasoned issuer, as defined in Rule 405 of the
Securities Act. Yes ÈNo ‘
Indicate by check mark whether the registrant is not required to file reports pursuant to Section 13 or
Section 15(d) of the Act. Yes ‘No È
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d)
of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes ÈNo ‘
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained
herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. È
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated
filer. See definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act (check one).
Large accelerated filer ÈAccelerated filer ‘Non-accelerated filer ‘
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ‘No È
The aggregate market value of the voting stock held by non-affiliates of the registrant at June 30, 2005 was
$4,299,241,602 (which represents 112,663,564 shares of Common Stock held by such non-affiliates multiplied by
$38.16, the closing sales price of such stock on the New York Stock Exchange on June 30, 2005).
The number of shares outstanding of the registrant’s Common Stock as of February 8, 2006 was 114,900,724
(excluding 23,182,862 shares held as treasury stock).
Documents Incorporated By Reference
Part III of this Form 10-K incorporates by reference certain information from the registrant’s definitive proxy
statement for the 2006 Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission
within 120 days after the close of the year ended December 31, 2005.

Table of contents

  • Page 1
    ... File Number: 1-12718 HEALTH NET, INC. (Exact Name of Registrant as Specified in Its Charter) Delaware (State or Other Jurisdiction of Incorporation or Organization) 95-4288333 (I.R.S. Employer Identification No.) 21650 Oxnard Street, Woodland Hills, CA (Address of Principal Executive Offices...

  • Page 2
    ... and Related Transactions ...Item 14-Principal Accountant Fees and Services ...PART IV. Item 15-Exhibits and Financial Statement Schedules ...SIGNATURES ...Index to Consolidated Financial Statements ...Report of Independent Registered Public Accounting Firm ...Supplemental Schedules ...i 1 1 1 9 11...

  • Page 3
    ...this Annual Report on Form 10-K. Health Plan Services Segment Our Health Plan Services segment includes the operations of our commercial, Medicare and Medicaid health plans in Arizona, California, Connecticut, New Jersey, New York and Oregon, the operations of our health and life insurance companies...

  • Page 4
    ... to the network physician of their choice; and a managed indemnity plan which is provided for employees who reside outside of their HMO service areas. Over the past several years, we have consolidated our health plan operations in Arizona, California, Connecticut, Oregon, New Jersey and New York. We...

  • Page 5
    ...financial products and services, including individual life and disability income insurance, employee benefits, retirement services and investments. We believe our Connecticut operations make us the third largest managed care provider in Connecticut in terms of membership and size of provider network...

  • Page 6
    ... any Medicaid members in New York as of December 31, 2005 or 2004. Medicare Products We offer our Medicare products directly to individuals and through employer groups. To enroll in one of our Medicare plans, covered persons must be eligible for Medicare. We provide or arrange health care services...

  • Page 7
    ... Medicaid or the Healthy Families program. Administrative Services Only Business We provide ASO products to large employer groups in California, Connecticut, New Jersey and New York. Under these arrangements, we provide claims processing, customer service, medical management, provider network access...

  • Page 8
    ... and life insurance products are provided throughout most of our service areas. Other Specialty Services and Products We offer pharmacy benefits, behavioral health, dental and vision products and services (through strategic relationships with third parties), as well as managed care products related...

  • Page 9
    ...our revenues relate to federal, state and local government health care coverage programs such as TRICARE and our Medicaid and Medicare programs (which are included as part of our Health Plan Services segment). Under government-funded health programs, the government payor typically determines premium...

  • Page 10
    ...the North Region contract based on paid claims with an annual reconciliation of the risk sharing provision. We are not responsible for providing pharmaceutical benefits, claims processing for TRICARE and Medicare dual eligibles and certain marketing and education services. For additional information...

  • Page 11
    ... network of qualified physicians, hospitals and other health care providers in each of the states in which we offer managed care products and services. Physician Relationships The following table sets forth the number of primary care and specialist physicians contracted either directly with our HMOs...

  • Page 12
    ... agreements or negotiated fee schedules with specialists. Outside of California, most of our HMOs reimburse physicians according to a discounted fee-for-service schedule, although several have capitation arrangements with certain providers and provider groups in their market areas. Our Connecticut...

  • Page 13
    ... also a number of small, regional-based health plans that compete with Health Net in California, mainly in the small business group market segment. In addition, two of the major national managed care companies, Aetna, Inc. and CIGNA Corp., are active in California. Their respective commercial full...

  • Page 14
    ...our internal sales staff. We then provide information directly to employees once the employer has selected our health coverage. Finally, we engage members and employers in marketing for member and group retention. For our small group business, members are enrolled by their employer based on the plan...

  • Page 15
    ... market capabilities ahead of the claim components of Health Net One. The new medical management system was implemented in the Northeast and Arizona health plans for case management functionality in 2005. As a result, the conversion of the California and Oregon provider and pricing, customer service...

  • Page 16
    ...additional benefits. The remaining 25% will be retained by CMS. The MMA also authorized regional PPOs to serve 26 regions, and incorporated other features designed to provide a private market option on a broader scale across the United States. In 2005, we restructured our Medicare program management...

  • Page 17
    ... federal law to preempt state law in the regulation and governance of certain benefit plans and employer groups, including the availability of legal remedies under state law. Miscellaneous. Our Medicare contracts are subject to regulation by CMS. CMS has the right to audit HMOs and PPOs operating...

  • Page 18
    the scope of benefits required to be made available to members, procedures for review of quality assurance, enrollment requirements, procedures for resolving grievances, adequacy and accessibility of the network of health care providers, timely and accurate payment of provider claims, initial and ...

  • Page 19
    ... of administrative services for employers, providers and members; negotiation of agreements with physician groups, hospitals, pharmacies and other health care providers; handling of claims for payment of hospital and other services; and provision of data processing services. Our employees are...

  • Page 20
    ...to stockholders of record at the close of business on July 31, 1996 (the "Record Date"). Our Board of Directors also authorized the issuance of one Right for each share of common stock issued after the Record Date and prior to the earliest of the "Distribution Date," the redemption of the Rights and...

  • Page 21
    ... health care costs has been the cost of hospital-based products and services. Factors underlying the increase in hospital costs include, but are not limited to, the underfunding of public programs, such as Medicaid and Medicare, growing rates of uninsured individuals, new technology, state initiated...

  • Page 22
    ... members. Other factors affecting our pharmaceutical costs include, but are not limited to, the price of drugs, utilization of new and existing drugs and changes in discounts. The inability to forecast and manage our health care costs could have a material adverse effect on our business, financial...

  • Page 23
    ... do business and may restrict our revenue and/or enrollment growth, and/or increase our health care and administrative costs, and/or increase our exposure to liability with respect to members, providers or others. In particular, our HMO and insurance subsidiaries are subject to regulations relating...

  • Page 24
    ... MMA's prescription drug benefit program to reimburse the states for costs expended to ensure that "dual eligibles," or Medicare beneficiaries who are also eligible for Medicaid, receive prescriptions in a timely manner; restrict a health plan's ability to limit coverage to medically necessary care...

  • Page 25
    ... we participate could have an adverse effect on our business, financial condition or results of operations. Approximately 42% of our revenues relate to federal, state and local government health care coverage programs, such as Medicare, Medicaid and TRICARE. Under government-funded health programs...

  • Page 26
    ... in areas other than California, but to a lesser extent. Under a capitation fee arrangement, we pay a provider group a fixed amount per member on a regular basis and the provider group accepts the risk of the frequency and cost of member utilization of professional services. Provider groups that...

  • Page 27
    ... non-renewal of coverage, claims by employer groups for return of premiums and claims by providers, including claims for withheld or otherwise insufficient compensation or reimbursement, claims related to self-funded business, and claims related to reinsurance matters. Such actions can also include...

  • Page 28
    ... include HMOs, PPOs, self-funded employers, insurance companies, hospitals, health care facilities and other health care providers. We believe that increased funding provided by the MMA will increase the number of competitors in senior health services and could affect our Medicare Advantage program...

  • Page 29
    ... in our Northeast and Arizona health plans. Our HSA programs represented a very small percentage of our total revenue in 2005, primarily as a consequence of limited demand for such products in these two markets. Among our commercial customers in California, we do not currently see meaningful demand...

  • Page 30
    ..., pricing our services, monitoring utilization and other cost factors, processing provider claims, billing our customers on a timely basis and identifying accounts for collection. Our customers and providers also depend upon our information systems for membership verification, claims status and...

  • Page 31
    ... in cost increases due to necessary systems changes, the development of new administrative processes and the effects of potential noncompliance by our business associates. Negative publicity regarding the managed health care industry could adversely affect our ability to market and sell our products...

  • Page 32
    ... the Company or any of our agents or brokers in connection with the marketing and sales of our products and services, current investigations by the New York Attorney General and other regulators as well as regulatory changes initiated in several states in response to allegedly inappropriate payment...

  • Page 33
    ...on the government's actions and the responsiveness of public health agencies and insurance companies, future acts of terrorism and bio-terrorism could lead to, among other things, increased use of health care services, disruption of information and payment systems, increased health care costs due to...

  • Page 34
    ...McCoy v. Health Net, Inc. et al., and Wachtel v. Guardian Life Insurance Co. These two lawsuits are styled as class actions and were filed in the United States District Court for the District of New Jersey on behalf of a class of subscribers in a number of our large and small employer group plans in...

  • Page 35
    ...administration of our Northeast health plans (including claims payment practices). We have opposed the appointment of a monitor. Notwithstanding our pending Third Circuit appeal of the District Court's class certification order, a trial date was set for September 19, 2005. On July 29, 2005, we filed...

  • Page 36
    ... for medical services to members, have delayed payments to providers, imposed unfair contracting terms on providers, and negotiated capitation payments inadequate to cover the costs of the health care services provided and assert claims under the Racketeer Influenced and Corrupt Organizations Act...

  • Page 37
    ... financial condition and liquidity. Lawsuits Relating to Sale of Businesses AmCareco Litigation We are a defendant in two related litigation matters pending in state courts in Louisiana and Texas, both of which relate to claims asserted by three receivers overseeing the liquidation of health plans...

  • Page 38
    .... We filed motions for suspensive appeal and posted security within the delays allowed by law. On November 21, 2005, the Court proceeded with the bifurcated trial on AmCare-LA and AmCare-OK's claims for punitive damages, other non-compensatory damages and attorneys' fees. The Court signed a judgment...

  • Page 39
    ... after announcing the settlement, Capital Z Financial Services Fund II, L.P., and certain of its affiliates (collectively, Cap Z) sued us (Cap Z Action) in New York state court asserting claims arising out of the same BIG transaction that is the subject of the settlement agreement with the SNTL...

  • Page 40
    ...and accuracy of our claim payments for services rendered by out-of-network providers. We are engaged in on-going discussions with the DMHC and the New Jersey Department of Banking and Insurance to address these issues. See "Item 1A. Risk Factors-Federal and state audits, review and investigations of...

  • Page 41
    ..., at this time, management believes that the ultimate outcome of all of these other legal proceedings that are pending, after consideration of applicable reserves and potentially available insurance coverage benefits, should not have a material adverse effect on our financial condition and liquidity...

  • Page 42
    ... regulatory net worth requirements and additional state regulations which may restrict the declaration of dividends by HMOs, insurance companies and licensed managed health care plans. The payment of any dividend is at the discretion of our Board of Directors and depends upon our earnings, financial...

  • Page 43
    ...giving effect to realized exercise proceeds and tax benefits from the exercise of employee stock options, our total authority under our stock repurchase program is estimated at $687 million. Share repurchases are made under our stock repurchase program from time to time through open market purchases...

  • Page 44
    ... credit facility and capital leases ...Senior notes payable ...Total stockholders' equity ...OPERATING DATA: Pretax margin ...Health plan services medical care ratio (MCR) ...Government contracts cost ratio ...Administrative ratio ...Selling costs ratio ...Health plan services premiums per member...

  • Page 45
    ... (HMOs), preferred provider organizations (PPOs) and point-of-service (POS) and government contracts subsidiaries provide health benefits to approximately 6.3 million individuals in 27 states and the District of Columbia through group, individual, Medicare, Medicaid, TRICARE and Veterans Affairs 43

  • Page 46
    ... Part D prescription drug benefit to seniors in five states where we do not have Medicare Advantage membership: Massachusetts, New Jersey, Rhode Island, Vermont and Washington. We participate as a Special Needs plan provider in Arizona, California, Connecticut and New York. Special Needs plans are...

  • Page 47
    ... the operations of our health plans, which offer commercial, Medicare and Medicaid products in Arizona, California, Connecticut, New Jersey, New York and Oregon, the operations of our health and life insurance companies and our behavioral health and pharmaceutical services subsidiaries. We have...

  • Page 48
    ...: health care and administrative services. The health care component includes revenue recorded for health care costs for the provision of services to our members, including paid claims and estimated IBNR expenses for which we are at risk, and underwriting fees earned for providing the health care...

  • Page 49
    ... operations: Loss on settlement from disposition, net of tax ...Net income ...Pretax margin ...Health plan services medical care ratio (MCR) ...Government contracts cost ratio ...Administrative ratio (a) ...Selling costs ratio (b) ...Health plan services PMPM (c) ...Health plan services costs PMPM...

  • Page 50
    ... to the May 2005 settlement agreement to resolve the lead physician provider track action in the multidistrict class action lawsuit, and $15.9 million of estimated legal defense costs to appeal a Louisiana state court jury verdict related to the 1999 sale of three health plan subsidiaries. See "Item...

  • Page 51
    ...we expect commercial health plan membership to decline between 3% and 4% in the first quarter of 2006. In addition, the task of stabilizing New Jersey and California small group membership continues to be challenging, but the prospect of increasing membership enrollment in other markets and areas of...

  • Page 52
    ... consolidated financial statements. The 2004 adverse reserve developments are directly related to management's decision in 2004 to accelerate claims payment practices and disengage from the claims review practices, both designed to improve relations with providers. As a result of deliberate actions...

  • Page 53
    ... our health plan membership information by program and by state. Commercial (including ASO members) 2005 2004 2003 Medicare Risk Medicaid 2005 2004 2003 2005 2004 2003 (Membership in thousands) Health Plan Total 2005 2004 2003 Arizona ...California ...Connecticut ...New Jersey ...New York ...Oregon...

  • Page 54
    ... enrollment in our Oregon health plan increased from 392 to 8,594 members during 2004, primarily as a result of our Oregon health plan's participation in a Medicare PPO demonstration project. We participate in state Medicaid programs in California, Connecticut and New Jersey. California membership...

  • Page 55
    ...in our Arizona, California, Connecticut and New York plans totaling $17.2 million, which were recognized in the three months ended September 30, 2005 (see "-Health Plan Services Costs" for detail regarding the increase in capitation expense related to the 2003 and 2004 Medicare rate adjustment). The...

  • Page 56
    ... in 2005. See "-Health Plan Services Premiums" for detail regarding the increase in premium revenue related to the 2003 and 2004 Medicare rate adjustment. These increases were partially offset by provider settlements of $14.6 million recorded in the fourth quarter of 2004. Medicaid health care costs...

  • Page 57
    ... hospital costs from higher bed day utilization, higher pharmacy cost trend for HMO products and provider settlements of $14.6 million relating to claims processing and payment issues that had been or were being resolved in the fourth quarter of 2004. The increase in the Medicare Risk health care...

  • Page 58
    ... we completed the transition from our old TRICARE contracts to our new TRICARE contract for the North Region. Under our TRICARE contract for the North Region, we provide health care services to approximately 3.0 million and 2.9 million eligible beneficiaries in the Military Health System (MHS) as of...

  • Page 59
    ... 3.0 million eligible beneficiaries that we service under the TRICARE contract for the North Region, we administer 15 contracts with the U.S. Department of Veterans Affairs to manage community based outpatient clinics in 11 states covering approximately 37,000 enrollees. Government Contracts Segment...

  • Page 60
    ... - $16.4 Class Action Settlement. On May 3, 2005, we announced that we signed a settlement agreement with the representatives of approximately 900,000 physicians and state and other medical societies settling the lead physician provider track action in the multidistrict class action lawsuit. During...

  • Page 61
    ... as part of the transition from our old TRICARE contracts to the TRICARE contract for the North Region. See Note 14 to our consolidated financial statements for further information on severance and related benefit costs, asset impairments and lease termination costs. 2003 Charges We recognized...

  • Page 62
    ...our amounts receivable from our TRICARE contract for the North Region. Health care receivables related to TRICARE are best estimates of payments that are ultimately collectible or payable. The timing of collection of such receivables is impacted by government audit and negotiation and can extend for...

  • Page 63
    ... from amounts receivable/payable under government contracts of $175.3 million, primarily due to the transition to the new TRICARE contract for the North Region, and Delayed receipt of an expected Medicare payment of $66 million for our California and New York health plans. Investing Activities Our...

  • Page 64
    ... were used to increase the capital level of our California health plan. Payments under the Lease Agreement are $2.8 million per quarter, plus interest, payable in arrears. See Note 12 to the consolidated financial statements for additional information regarding the Sale-Leaseback Transaction. Year...

  • Page 65
    ...giving effect to realized exercise proceeds and tax benefits from the exercise of employee stock options, our total authority under our stock repurchase program is estimated at $687 million. Share repurchases are made under our stock repurchase program from time to time through open market purchases...

  • Page 66
    ... under our senior credit facility may be used for general corporate purposes, including acquisitions, and to service our working capital needs. We must repay all borrowings, if any, under our senior credit facility by June 30, 2009, unless the maturity date under the senior credit facility is...

  • Page 67
    ... litigation and provider settlement payments, any increase in medical claims reserves and any premiums relating to the repayment or refinancing of our Senior Notes to the extent such charges cause a corresponding reduction in Consolidated Net Worth (as defined in the senior credit facility). Such...

  • Page 68
    ..., the federal government and other contracts that we have entered into for the purpose of providing health care services. We have excluded those contracts that allow for cancellation without significant penalty, obligations that are contingent upon achieving certain goals and contracts for goods and...

  • Page 69
    ... consolidated financial statements which are included elsewhere in this Annual Report on Form 10-K. Health Plan Services Health plan services premiums include HMO, POS and PPO premiums from employer groups and individuals and from Medicare recipients who have purchased supplemental benefit coverage...

  • Page 70
    ... liabilities including capitation payable, shared risk settlements, provider disputes, provider incentives and other reserves for our two reporting segments, Health Plan Services and Government Contracts. As of December 31, 2005, Health Plan Services reserves for claims comprised approximately 74...

  • Page 71
    ... the marketing agreement related to expenses. Our HMOs in other states also contract with hospitals, physicians and other providers of health care, pursuant to discounted fee-for-service arrangements, hospital per diems, and case rates under which providers bill the HMOs for each individual service...

  • Page 72
    The TRICARE North Region contract is made up of two major revenue components, health care and administrative services. Health care services revenue includes health care costs, including paid claims and estimated IBNR expenses, for care provided for which we are at risk and underwriting fees earned ...

  • Page 73
    ...our Health Plan Services reportable segment. We test for impairment on a more frequent basis in cases where events and changes in circumstances would indicate that we might not recover the carrying value of goodwill. Our measurement of fair value is based on utilization of both the income and market...

  • Page 74
    ... to reverse. We establish a valuation allowance in accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 109, "Accounting for Income Taxes." We continually review the adequacy of the valuation allowance and recognize the benefits from our deferred tax assets only...

  • Page 75
    ... 399.625 basis points. See Note 6 to our consolidated financial statements for additional information regarding the Swap Contracts. The interest rate on borrowings under our senior credit facility, of which there were none as of December 31, 2005, is subject to change because of the varying interest...

  • Page 76
    ..., summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and our Chief Financial Officer, as appropriate, to allow timely decisions regarding required...

  • Page 77
    ... financial officer, conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on its evaluation, management...

  • Page 78
    ... the Board of Directors and Stockholders of Health Net, Inc. Woodland Hills, California We have audited management's assessment, included in the accompanying Management's Report on Internal Control Over Financial Reporting, that Health Net, Inc. and subsidiaries (the "Company") maintained effective...

  • Page 79
    ended December 31, 2005 of the Company and our report dated February 9, 2006 expressed an unqualified opinion on those financial statements and financial statement schedules. /s/ DELOITTE & TOUCHE LLP Los Angeles, California February 9, 2006 Item 9B. Other Information. None. 77

  • Page 80
    ... Members of the Board of Directors and Nominees," "Executive Officers" and "Section 16(a) Beneficial Ownership Reporting Compliance." Such information is incorporated herein by reference and made a part hereof. We have adopted a Code of Business Conduct and Ethics that applies to our employees...

  • Page 81
    ... Annual Report on Form 10-K or are incorporated herein by reference: 2.1 Agreement and Plan of Merger, dated October 1, 1996, by and among Health Systems International, Inc., FH Acquisition Corp. and Foundation Health Corporation (filed as Exhibit 2.5 to the Company's Registration Statement on Form...

  • Page 82
    ... and Release of Claims between Health Net, Inc. and Marvin P. Rich dated as of July 12, 2005 (filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 2005 (File No. 1-12718) and incorporated herein by reference). Employment Letter Agreement dated as of...

  • Page 83
    ... Restricted Stock Agreement utilized by Health Net, Inc. (filed as Exhibit 10.21 to the Company's Annual Report on Form 10-K for the year ended December 31, 2004 (File No. 1-12718) and incorporated herein by reference). Form of Nonqualified Stock Option Agreement utilized for non-employee directors...

  • Page 84
    ... Stock Option Agreement utilized for non-employee directors under the Health Net, Inc. Amended and Restated 1998 Stock Option Plan, as amended and restated on December 21, 2005, a copy of which is filed herewith. Health Net, Inc. Deferred Compensation Plan, as amended and restated effective...

  • Page 85
    ... Company's Current Report on Form 8-K filed with the Commission on May 13, 2005 (File No. 1-12718) and incorporated herein by reference). Health Systems International, Inc. Second Amended and Restated Non-Employee Director Stock Option Plan (filed as Exhibit 10.31 to Registration Statement on Form...

  • Page 86
    ... Executive Retiree Medical Plan (as amended and restated effective April 25, 1995) (filed as Exhibit 10.101 to Foundation Health Corporation's Annual Report on Form 10-K for the year ended June 30, 1995 (File No. 1-10540) and incorporated herein by reference). Five-Year Credit Agreement dated...

  • Page 87
    ...7, 2003 by and among Health Net Life Insurance Company and SafeHealth Life Insurance Company (filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 2003 (File No. 1-12718) and incorporated herein by reference). Network Access Agreement dated as of April...

  • Page 88
    ...Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. HEALTH NET, INC. By: /S/ ANTHONY S. PISZEL Anthony S. Piszel Executive Vice President and Chief Financial Officer Pursuant to the requirements of the Securities Exchange...

  • Page 89
    ... schedules are filed as part of this Annual Report on Form 10-K: Consolidated Financial Statements Report of Independent Registered Public Accounting Firm ...Consolidated Statements of Operations for each of the three years in the period ended December 31, 2005 ...Consolidated Balance Sheets...

  • Page 90
    ...PUBLIC ACCOUNTING FIRM To the Board of Directors and Stockholders of Health Net, Inc. Woodland Hills, California We have audited the accompanying consolidated balance sheets of Health Net, Inc. and subsidiaries (the "Company") as of December 31, 2005 and 2004, and the related consolidated statements...

  • Page 91
    HEALTH NET, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (Amounts in thousands, except per share data) 2005 Year Ended December 31, 2004 2003 Revenues Health plan services premiums ...Government contracts ...Net investment income ...Other income ...Total revenues ...Expenses Health plan services ......

  • Page 92
    ...: Reserves for claims and other settlements ...Health care and other costs payable under government contracts ...IBNR health care costs payable under TRICARE North contract ...Unearned premiums ...Accounts payable and other liabilities ...Total current liabilities ...Senior notes payable ...Other...

  • Page 93
    ...... Total comprehensive income ... Exercise of stock options including related tax benefit ...Repurchases of common stock ...Issuance of restricted stock ...Amortization of restricted stock grants ...Lapse of restrictions of restricted stock grants ...Employee stock purchase plan ... F-5 Balance as...

  • Page 94
    ...to reconcile net income to net cash provided by (used in) operating activities: Amortization and depreciation ...33,694 44,288 58,677 Asset impairments ...- 5,916 16,409 Net (gain) on sales of businesses and properties ...- (1,170) (18,901) Tax benefit on stock options and restricted stock ...21,253...

  • Page 95
    ..., New York and Oregon, the operations of our health and life insurance companies and our behavioral health and pharmaceutical services subsidiaries. Our Government Contracts reportable segment includes government-sponsored managed care plans through the TRICARE program and other health care-related...

  • Page 96
    ... premiums. The TRICARE contract for the North Region is made up of two major revenue components, health care services and administrative services. Health care services revenue includes health care costs, including paid claims and estimated incurred but not reported (IBNR) expenses, for care provided...

  • Page 97
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) Our HMOs, primarily in California, generally contract with various medical groups to provide professional care to certain of their members on a capitated, or fixed per member per month fee basis. Capitation contracts generally ...

  • Page 98
    ...million and $2.1 million during the years ended December 31, 2005, 2004 and 2003, respectively. Under the company's stock option plans, employees may elect for the Company to withhold shares to satisfy minimum statutory federal, state and local tax withholding obligations arising from the vesting of...

  • Page 99
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) Fair Value of Financial Instruments The estimated fair value amounts of cash equivalents, investments available for sale, trade accounts and notes receivable and notes payable have been determined by us using available market ...

  • Page 100
    ... a number of information systems in our Health Plan business to a single information system. This project, known as Health Net One, also includes consolidation initiatives for other functional areas, such as claims handling, customer service and product development. Property and equipment and costs...

  • Page 101
    ... companies. The acquisition methodology involves analyzing the transaction involving similar companies that have been bought and sold in the public marketplace. We performed our annual impairment test on our goodwill and other intangible assets as of June 30, 2005 for our Health Plans reporting...

  • Page 102
    ...Insurance Programs ... $3.0 2.6 2.6 1.8 1.6 The Company is insured for our general and legal liability risks. The amounts in excess of the insured levels are reserved for based on claims filed and an estimate for significant claims incurred but not reported. Concentrations of Credit Risk Financial...

  • Page 103
    ...average market price of the common stock for each respective period. These options expire through December 2015 (see Note 7). We are authorized to repurchase our common stock under our stock repurchase program authorized by our Board of Directors (see Note 8). As a result of the ratings action taken...

  • Page 104
    .... The reserve is included in accounts payable and other liabilities in our consolidated balance sheets. Recently Issued Accounting Pronouncements On December 16, 2004, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 123 (revised 2004), "Share-Based Payment," (SFAS No. 123...

  • Page 105
    ... by a number of California authorities, such as the Department of Managed Health Care and the Department of Health Services. We expect the transaction to close in the first half of 2006. Gem Holding Corporation and Gem Insurance Company Effective February 28, 2005, we completed the sale of our...

  • Page 106
    ...reinsurance agreement to transfer the full responsibility for the stand alone dental and vision policies of Health Net Life Insurance Company to SafeHealth Life Insurance Company (SafeHealth Life). As a result of the sales, we no longer underwrite or administer stand alone dental and vision products...

  • Page 107
    ... commercial market in the Commonwealth of Pennsylvania. Coverage for our members enrolled in the Federal Employee Health Benefit Plan was discontinued on January 11, 2004; however, we have maintained our network of providers in Pennsylvania to service our New Jersey members. As of December 31, 2005...

  • Page 108
    ... on the sale of our employer services division related to non-compete and network access agreements. The deferred revenue is earned over the terms of the agreements (four to seven years). Employer services group subsidiary revenue through the date of the sale was reported as part of other income on...

  • Page 109
    ...available-for-sale investments were as follows: 2005 Gross Gross Unrealized Unrealized Holding Holding Gains Losses (Dollars in millions) Amortized Cost Carrying Value Mortgage-backed securities ...U.S. government and agencies ...Obligations of states and other political subdivisions ...Corporate...

  • Page 110
    ... table shows the number of our individual securities that have been in a continuous loss position at December 31, 2005. Less than 12 Months 12 Months or More Total Mortgage-backed ...U.S. government and agencies ...Obligation of states and other political subdivisions ...Corporate debt ... 41 45...

  • Page 111
    ... governing the Senior Notes) plus 40 basis points plus, in each case, accrued interest to the date of redemption. Senior Credit Facility We have a $700 million senior credit facility under a five-year revolving credit agreement with Bank of America, N.A., as Administrative Agent, Swing Line...

  • Page 112
    ... litigation and provider settlement payments, any increase in medical claims reserves and any premiums relating to the repayment or refinancing of our Senior Notes to the extent such charges cause a corresponding reduction in Consolidated Net Worth (as defined in the senior credit facility). Such...

  • Page 113
    ...of our full-time employees were eligible to participate. The stockholders have approved our various stock option plans except for the 1998 Stock Option Plan which was adopted by our Board of Directors. In May 2005, the stockholders approved the Health Net, Inc. 2005 Long-Term Incentive Plan which is...

  • Page 114
    ... stockholders of record at the close of business on July 31, 1996 (the Record Date). Our Board of Directors also authorized the issuance of one Right for each share of common stock issued after the Record Date and prior to the earliest of the "Distribution Date," the redemption of the Rights and the...

  • Page 115
    ...giving effect to realized exercise proceeds and tax benefits from the exercise of employee stock options, our total authority under our stock repurchase program is estimated at $687 million. Share repurchases are made under our stock repurchase program from time to time through open market purchases...

  • Page 116
    ... defined benefit health care and life insurance plans that provide postretirement medical and life insurance benefits to directors, key executives, employees and dependents who meet certain eligibility requirements. The Health Net health care plan is non-contributory for employees retired prior to...

  • Page 117
    ... participants. Under these plans, we pay a percentage of the costs of medical, dental and vision benefits during retirement. The plans include certain cost-sharing features such as deductibles, co-insurance and maximum annual benefit amounts which vary based principally on years of credited service...

  • Page 118
    ... of net periodic benefit cost recognized in our consolidated income statements as general and administrative expense for years ended December 31: Pension Benefits 2005 2004 Other Benefits 2003 2005 2004 2003 (Dollars in millions) Service Cost ...Interest Cost ...Amortization of prior service cost...

  • Page 119
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) Assumed health care cost trend rates have a significant effect on the amounts reported for the health care plans. A one-percentage-point change in assumed health care cost trend rates would have the following effects for the ...

  • Page 120
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) A reconciliation of the statutory federal income tax rate and the effective income tax rate on income is as follows for the years ended December 31: 2005 2004 2003 Statutory federal income tax rate ...State and local taxes, net...

  • Page 121
    ...McCoy v. Health Net, Inc. et al., and Wachtel v. Guardian Life Insurance Co. These two lawsuits are styled as class actions and were filed in the United States District Court for the District of New Jersey on behalf of a class of subscribers in a number of our large and small employer group plans in...

  • Page 122
    ... a decision on the appeal. On January 13, 2005, counsel for the plaintiffs in the McCoy/Wachtel actions filed a separate class action against Health Net, Inc., Health Net of the Northeast, Inc., Health Net of New York, Inc., Health Net Life Insurance Co., and Health Net of California, Inc. captioned...

  • Page 123
    ... for medical services to members, have delayed payments to providers, imposed unfair contracting terms on providers, and negotiated capitation payments inadequate to cover the costs of the health care services provided and assert claims under the Racketeer Influenced and Corrupt Organizations Act...

  • Page 124
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) action. The settlement agreement requires us to pay $40 million to general settlement funds and $20 million for plaintiffs' legal fees. The deadline for class members to submit claim forms in order to receive a portion of the ...

  • Page 125
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) years after the sale of the three health plans, the plans were placed under applicable state oversight and ultimately placed into receivership later that year. The receivers for each of the plans later filed suit against certain...

  • Page 126
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) which those plaintiffs, in light of the Court's December 20 judgment dismissing their claim for punitive damages, "elected" to receive treble damages pursuant to the Texas Insurance Code and the Texas Civil Practices and ...

  • Page 127
    ... after announcing the settlement, Capital Z Financial Services Fund II, L.P., and certain of its affiliates (collectively, Cap Z) sued us (Cap Z Action) in New York state court asserting claims arising out of the same BIG transaction that is the subject of the settlement agreement with the SNTL...

  • Page 128
    ...-loss claims and our strategy relating to provider disputes. Given that our provider network is a key strategic asset, management decided in the fourth quarter of 2004 to enter into negotiations in an attempt to settle a large number of provider disputes in our California and Northeast health plans...

  • Page 129
    ... investigation in New Jersey that relates to the timeliness and accuracy of our claim payments for services rendered by out-of-network providers. We are engaged in on-going discussions with the DMHC and the New Jersey Department of Banking and Insurance to address these issues. These proceedings...

  • Page 130
    ... of providing health care services. Certain of these contracts are cancelable with substantial penalties. In connection with our participation in the new Medicare Prescription Drug Program (Medicare Part D), we entered into a new four-year agreement with an external third-party service provider for...

  • Page 131
    ... executive officer of the Company is a director of an industry-related association, of which the Company is a member and we paid dues of $1.0 million, $1.0 million and $1.1 million in 2005, 2004 and 2003, respectively. The same executive officer was a director of an internet health services company...

  • Page 132
    ... filed Notices of Appeal of the District Court's order granting its approval of the Class Action Settlement Agreement. Consequently, the effective date of the settlement, as well as the date by which we are obligated to make these payments, will be delayed pending the appeal. On December 30, 2005...

  • Page 133
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) Severance and related benefit costs incurred in connection with the involuntary workforce reduction are as follows: Reportable Segments Total Health Plan Government Reportable Corporate Services Contracts Segments and Other (...

  • Page 134
    ..., New York and Oregon, the operations of our health and life insurance companies and our behavioral health and pharmaceutical services subsidiaries. Our Government Contracts reportable segment includes government-sponsored managed care plans through the TRICARE program and other health care-related...

  • Page 135
    ....7 $ 514.5 Our health plan services premium revenue by line of business is as follows: Year Ended December 31, 2005 2004 2003 (Dollars in millions) Commercial premium revenue ...Medicare Risk premium revenue ...Medicaid premium revenue ...Total Health Plan Services premiums ...F-47 $6,844.0 1,574...

  • Page 136
    ...Net gain on sale of businesses and properties ...Income from continuing operations before income taxes ... $459.6 $ 99.2 $514.5 (83.3) (32.9) (16.4) - 1.1 18.9 $376.3 $ 67.4 $517.0 Note 16-Reserves for Claims and Other Settlements and Health Care and Other Costs Payable Under Government Contracts...

  • Page 137
    ... not indicate that health care services were lower than previously estimated. (e) Includes $35 million and $142 million as of December 31, 2005 and 2004, respectively, for reserves related to provider settlements associated with claims processing and payment issues initially recognized during the...

  • Page 138
    HEALTH NET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS-(Continued) The following table shows the Company's government contracts total incurred claims and administrative and other costs for the years ended December 31: 2005 Government Contracts 2004 2003 (Dollars in millions) Costs incurred ...

  • Page 139
    ... SCHEDULE I CONDENSED FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY ONLY) HEALTH NET, INC. CONDENSED STATEMENTS OF OPERATIONS (Amounts in thousands) Year Ended December 31, 2005 2004 2003 REVENUES: Net investment income ...Other income ...Administrative service agreements ...Total revenues...

  • Page 140
    SUPPLEMENTAL SCHEDULE I CONDENSED FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY ONLY) HEALTH NET, INC. CONDENSED BALANCE SHEETS (Amounts in thousands) December 31, 2005 December 31, 2004 ASSETS Current Assets: Cash and cash equivalents ...Investments-available for sale ...Other assets ......

  • Page 141
    ... SCHEDULE I CONDENSED FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY ONLY) HEALTH NET, INC. CONDENSED STATEMENTS OF CASH FLOWS (Amounts in thousands) Year Ended December 31, 2005 2004 2003 NET CASH FLOWS PROVIDED BY (USED IN) OPERATING ACTIVITIES ...CASH FLOWS FROM INVESTING ACTIVITIES: Sales...

  • Page 142
    SUPPLEMENTAL SCHEDULE I CONDENSED FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY ONLY) HEALTH NET, INC. NOTE TO CONDENSED FINANCIAL STATEMENTS Note 1-Basis of Presentation Health Net, Inc.'s (HNT) investment in subsidiaries is stated at cost plus equity in undistributed earnings (losses) of ...

  • Page 143
    SUPPLEMENTAL SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS AND RESERVES HEALTH NET, INC. (Amounts in thousands) Balance at Beginning of Period Charged to Costs and Expenses Credited to Other Accounts (1) Balance at End of Period Deductions (2) 2005: Allowance for doubtful accounts: Premiums ...

  • Page 144
    ... Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, Jay M. Gellert, certify that: 1. 2. I have reviewed this annual report on Form 10-K of Health Net, Inc.; Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state...

  • Page 145
    ....2 Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 I, Anthony S. Piszel, certify that: 1. 2. I have reviewed this annual report on Form 10-K of Health Net, Inc.; Based on my knowledge, this report does not contain any untrue statement of a material...