Health Net 2005 Annual Report Download - page 96

HEALTH NET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
premiums are based on a predetermined prepaid fee, Medicaid revenues based on multi-year contracts to provide
care to Medicaid recipients, and revenue under Medicare risk contracts to provide care to enrolled Medicare
recipients, and revenues from behavioral health services. Revenue is recognized in the month in which the related
enrollees are entitled to health care services. Premiums collected in advance are recorded as unearned 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 for which we are at risk and
underwriting fees earned for providing the health care and assuming underwriting risk in the delivery of care.
Administrative services revenue encompasses all other services provided to both the government customer and to
beneficiaries, including services such as medical management, claims processing, enrollment, customer services
and other services unique to the managed care support contracts with the government. Revenues associated with
the transition from our old TRICARE contracts to the TRICARE contract for the North Region are recognized
over the entire term of the TRICARE contract for the North Region.
Health care costs and associated revenues are recognized as the costs are incurred and the associated
revenue is earned. Revenue related to administrative services is recognized as the services are provided and the
associated revenue is earned.
Other government contracts revenues are recognized in the month in which the eligible beneficiaries are
entitled to health care services or in the month in which the administrative services are performed or the period
that coverage for services is provided. Revenue under the expired former Region 11, Region 6 and Regions 9, 10
and 12 contracts was subject to price adjustments attributable to inflation and other factors. The effects of these
adjustments were recognized on a monthly basis, with the final determination of these amounts occurring in
2005.
Amounts receivable under government contracts are comprised primarily of price adjustments and change
orders for services not originally specified in the contracts. Change orders arise because the government often
directs us to implement changes to our contracts before the scope and/or value is defined or negotiated. We start
to incur costs immediately, before we have proposed a price to the government. In these situations, we make no
attempt to estimate and record revenue. Our policy is to collect and defer the costs incurred. Once we have
submitted a cost proposal to the government, we will record the costs and the appropriate value for revenue,
using our best estimate of what will ultimately be negotiated.
Health Care Services and Government Contract Expenses
The cost of health care services is recognized in the period in which services are provided and includes an
estimate of the cost of services which have been incurred but not yet reported. Such costs include payments to
primary care physicians, specialists, hospitals, outpatient care facilities and the costs associated with managing
the extent of such care. We estimate the amount of the provision for service costs incurred but not reported using
standard actuarial methodologies based upon historical data including the period between the date services are
rendered and the date claims are received and paid, denied claim activity, expected medical cost inflation,
seasonality patterns and changes in membership. The estimates for service costs incurred but not reported are
made on an accrual basis and adjusted in future periods as required. Any adjustments to the prior period
estimates are included in the current period. Such estimates are subject to the impact of changes in the regulatory
environment and economic conditions. Given the inherent variability of such estimates, the actual liability could
differ significantly from the amounts provided. While the ultimate amount of claims and losses paid are
dependent on future developments, management is of the opinion that the recorded reserves are adequate to cover
such costs. These estimated liabilities are reduced by estimated amounts recoverable from third parties for
subrogation.
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