Health Net 2009 Annual Report Download - page 25

current manner of operation or increase our exposure to liability, could have a material adverse effect on our
business, cash flows, results of operations, financial condition and ability to compete in our industry.
Our profitability will depend, in part, on our ability to accurately predict and control health care costs.
A substantial majority of the revenue we receive is used to pay the costs of health care services and supplies
delivered to our members. The total amount of health care costs we incur is affected by the number and type of
individual services provided and the cost of each service. Our future profitability will depend, in part, on our
ability to accurately predict health care costs and to manage future health care utilization and costs through
underwriting criteria, utilization management, product design and negotiation of favorable professional and
hospital contracts. Periodic renegotiations of hospital and other provider contracts, coupled with continued
consolidation of physician, hospital and other provider groups, may result in increased health care costs or limit
our ability to negotiate favorable rates. Changes in utilization rates; demographic characteristics; the regulatory
environment, including proposed restrictions on our ability to implement changes in premium rates; health care
practices; inflation; new technologies; clusters of high-cost cases; continued consolidation of physician, hospital
and other provider groups and numerous other factors affecting health care costs may adversely affect our ability
to predict and control health care costs as well as our financial condition, results of operations and cash flows. In
addition, a large scale public health epidemic could affect our ability to control health care costs. See “—Large-
scale public health epidemics and/or terrorist activity could cause us to incur unexpected health care and other
costs and could materially and adversely affect our business, financial condition and results of operations.”
For several years, one of the fastest increasing categories of our 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 and the constant pressure that places on
rates from commercial health plans, growing rates of uninsured individuals, new technology, state initiated
mandates, alleged abuse of hospital chargemasters, an aging population and, under certain circumstances,
relatively low levels of hospital competition caused by market concentration. Another significant category of our
health care costs is costs of pharmaceutical products and services. 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.
As a measure of the impact of medical costs on our financial results, relatively small differences between
predicted and actual medical costs as a percentage of premium revenues can result in significant changes in our
financial results. For example, if medical costs increased by 1% without a proportional change in related
revenues for our health plan products, our annual net earnings for 2009 would have been reduced by
approximately $107 million. The inability to forecast and manage our health care costs could have a material
adverse effect on our business, financial condition or results of operations.
We face competitive pressure to contain premium prices.
In addition to the challenge of controlling health care costs, we face competitive pressure to contain
premium prices. While health plans compete on the basis of many factors, including service and the quality and
depth of provider networks, price will continue to be a significant basis of competition. Our premium revenue is
set in advance of the actual delivery of services, and, in certain circumstances, before contracting with providers.
While we attempt to take into account our estimate of expected health care costs over the premium period in
setting the premiums we charge or bid, factors such as competition, new or changed regulations and other
circumstances may limit our ability to fully base premiums on estimated costs. In addition, many factors may,
and often do, cause actual health care costs to exceed those costs estimated and reflected in premiums or bids.
These factors may include increased utilization of services, increased cost of individual services, catastrophes,
epidemics, unanticipated seasonality, new mandated benefits or other regulatory changes, and insured population
characteristics. In addition, several states are considering legislative proposals to require prior regulatory
approval of premium rate increases. Our financial condition or results of operations could be adversely affected
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