UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE PERIOD ENDED MARCH 31, 2001
COMMISSION FILE NUMBER 1-14177
COBALT CORPORATION
(Exact name of registrant as specified in its charter)
WISCONSIN 39-1931212
(State of incorporation) (I.R.S. Employer
Identification No.)
401 WEST MICHIGAN STREET, MILWAUKEE, WISCONSIN 53203-2896
(Address of principal executive offices) (Zip Code)
(414) 226-6900
(Registrant's telephone number, including area code)
Indicate by check mark whether registrant (1) has filed all documents and
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 X No
---- ----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date:
Common stock outstanding as of April 30, 2001 was 40,412,393.
COBALT CORPORATION
INDEX TO
QUARTERLY REPORT ON FORM 10-Q
For the Period Ended March 31, 2001
PART I
Financial Statements and Supplementary Data.................................................................. 3
Management's Discussion and Analysis of Financial Condition and Results of Operations........................ 14
Quantitative and Qualitative Disclosures about Market Risk................................................... 19
PART II
Other Information............................................................................................ 20
Signature Page............................................................................................... 22
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
COBALT CORPORATION
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
2001 2000
----------------------------------
(UNAUDITED) (NOTE A)
(IN THOUSANDS)
ASSETS
Current assets:
Cash and cash equivalents $ 37,696 $ 1,305
Investments--available-for-sale, at fair value 162,758 44,373
Due from affiliates 4,920 12,896
Premium receivables 49,877 3,325
Due from clinics and providers 15,879 7,063
Other receivables 60,485 28,127
Prepaid expenses and other current assets 29,738 18,385
----------------------------------
Total current assets 361,353 115,474
Investments--held-to-maturity, at amortized cost 9,949 -
Investments in affiliates 98,878 105,609
Property and equipment, net 36,745 25,139
Goodwill 100,063 8,020
Note receivable from affiliate - 70,000
Prepaid pension 46,998 36,471
Deferred income taxes 17,514 19,067
Other noncurrent assets 32,487 14,425
----------------------------------
Total noncurrent assets 342,634 278,731
----------------------------------
Total assets $ 703,987 $ 394,205
==================================
See Notes to Interim Consolidated Financial Statements.
3
COBALT CORPORATION
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
2001 2000
---------------------------------
(UNAUDITED) (NOTE A)
(IN THOUSANDS)
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Medical and other benefits payable $ 227,957 $ 104,415
Advance premiums 90,758 40,745
Due to affiliates 128 910
Payables and accrued expenses 45,800 29,597
Short-term debt 10,081 -
Other current liabilities 10,696 5,162
---------------------------------
Total current liabilities 385,420 180,829
Noncurrent Liabilities:
Other benefits payable 39,361 -
Deferred income taxes 20,699 20,699
Postretirement benefits other than pension 17,504 12,722
Other noncurrent liabilities 12,287 11,012
---------------------------------
Total liabilities 475,271 225,262
Shareholders' equity:
Common stock (no par value, no stated value,
48,362,298 issued, 7,949,904 held in treasury
and 40,412,393 outstanding at March 31, 2001) 248,536 -
Retained earnings (deficit) (19,597) 170,907
Accumulated other comprehensive loss (223) (1,964)
---------------------------------
Total shareholders' equity 228,716 168,943
---------------------------------
Total liabilities and shareholders' equity $ 703,987 $ 394,205
=================================
See Notes to Interim Consolidated Financial Statements.
4
COBALT CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three months ended
March 31,
2001 2000
---------------------------------
(IN THOUSANDS, EXCEPT SHARE DATA)
Revenues:
Health services revenue:
Premium revenue $ 150,022 $ 122,844
Government contract fees 26,903 15,168
Other revenue 7,702 5,844
Investment results 2,064 2,411
---------- ----------
Total revenues 186,691 146,267
Expenses:
Medical and other benefits 128,440 113,290
Selling, general and administrative 54,935 40,070
Interest - 63
Amortization of goodwill 181 113
---------- ----------
Total expenses 183,556 153,536
---------- ----------
Operating income (loss) 3,135 (7,269)
Equity in net loss of affiliate, net of tax (1,851) (639)
---------- ----------
Net income (loss) $ 1,284 $ (7,908)
========== ==========
Basic earnings (loss) per common share $ 0.04 $ (0.25)
========== ==========
Diluted earnings (loss) per common share $ 0.04 $ (0.25)
========== ==========
See Notes to Interim Consolidated Financial Statements.
5
COBALT CORPORATION
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY AND
COMPREHENSIVE INCOME (LOSS)
(UNAUDITED)
Retained Accumulated Other Total
Common Shares Common Earnings Comprehensive Shareholders'
Outstanding Stock (Deficit) Income (Loss) Equity
------------------------------------------------------------------------------
(IN THOUSANDS, EXCEPT SHARE DATA)
Balance at December 31, 2000 - $ - $ 170,907 $(1,964) $ 168,943
Capitalization of Wisconsin United
for Health Foundation, Inc. 31,313,390 192,577 (192,577) - -
Issuance of common stock - acquisition 9,099,003 55,959 - - 55,959
Adjustments as a result of purchase accounting - 82 - 82
Change in ownership of affiliates - 707 - 707
Comprehensive income:
Net income - 1,284 - 1,284
Change in unrealized loss on investments 1,741 1,741
---------
Comprehensive income - - - 3,025
------------------------------------------------------------------------------
Balance at March 31, 2001 40,412,393 $ 248,536 $ (19,597) $ (223) $ 228,716
==============================================================================
See Notes to Interim Consolidated Financial Statements.
6
COBALT CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Three months ended
March 31,
2001 2000
------------------------
(IN THOUSANDS)
Operating activities:
Net income (loss) $ 1,284 $ (7,908)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Equity in loss of affiliates 1,851 639
Depreciation and amortization 2,331 2,067
Realized investment losses 1 49
Changes in operating accounts, net of acquisitions:
Premium receivables (106) 165
Other receivables (11,427) (22)
Due from clinics and providers 1,689 (375)
Medical and other benefits payable (3,698) 6,486
Advance premiums (1,096) 3,739
Due to affiliates, net (9,321) 2,810
Other, net (490) (3,958)
------------------------
Net cash provided by (used in) operating activities (18,982) 3,692
Investing activities:
Acquisition of subsidiaries - UWS 50,026 -
Purchases of available-for-sale investments (20,220) (833)
Proceeds from sale of available-for-sale investments 27,907 1,329
Additions to property and equipment (2,340) (1,038)
------------------------
Net cash provided by (used in) investing activities 55,373 (542)
Financing activities:
Proceeds from line of credit, net - (3,950)
Repayment of debt - (10)
------------------------
Net cash used in financing activities - (3,960)
Cash and cash equivalents:
Increase (decrease) during period 36,391 (810)
Balance at beginning of year 1,305 (5,054)
------------------------
Balance at end of period $ 37,696 $ (5,864)
========================
See Notes to Interim Consolidated Financial Statements.
7
COBALT CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 2001
Note A. Basis of Presentation
The accompanying unaudited interim consolidated financial statements have
been prepared in accordance with accounting principles generally accepted for
interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by accounting principles generally
accepted in the United States for complete financial statements. In the
opinion of management, all adjustments (consisting of only normal recurring
adjustments) considered necessary for a fair presentation have been included.
Operating results for the three months ended March 31, 2001 are not
necessarily indicative of the results that may be expected for the year
ending December 31, 2001. These interim consolidated financial statements
should be read in conjunction with the audited consolidated financial
statements for the year ended December 31, 2000 and footnotes thereto
included in the Cobalt Corporation ("Cobalt") Form 8-K, as filed with the
Securities and Exchange Commission ("SEC").
On March 23, 2001, Blue Cross & Blue Shield United of Wisconsin ("BCBSUW")
converted to a stock corporation and became a wholly owned subsidiary of
United Wisconsin Services, Inc. ("UWS"), otherwise known as the combination.
UWS was renamed Cobalt Corporation, and in exchange for ownership of BCBSUW,
Cobalt gave 31,313,390 shares of newly issued common stock to the Wisconsin
United for Health Foundation, Inc. (the "Foundation"). The combination is
further described in Item 4 of this Form 10-Q.
The combination is treated as a purchase by BCBSUW of the 9,099,003 shares of
UWS that it did not already own at the market price of $6.15 per share as of
the closing date. Under generally accepted accounting principles ("GAAP"),
the difference between the market price and the adjusted book value per share
of UWS was recorded as goodwill under the purchase method of accounting. The
7,949,904 shares of Cobalt common stock owned by BCBSUW are treated as
treasury stock for the purposes of calculating earnings per share ("EPS").
Goodwill is being amortized over a period of 15 years.
Cobalt's balance sheet as of March 31, 2001 reflects the purchase accounting
adjustments for the combination transaction, which was finalized March 23,
2001. The balance sheet as of December 31, 2000 reflects only BCBSUW. The
combination is treated as a reverse purchase whereby BCBSUW becomes the
reporting entity. Accordingly, the historical consolidated statements of
operations for Cobalt include the operations of BCBSUW and its wholly owned
subsidiary, United Government Services LLC ("UGS"). The pro forma statements
of operations for Cobalt presented in Note C. include the operations of the
former UWS and BCBSUW with elimination of intercompany transactions, the
recording of purchase accounting adjustments and the amortization of goodwill
calculated as if the transaction was completed at the beginning of the
reporting period.
8
Note B. Net Income (Loss) Per Share
Basic EPS are computed by dividing net income (loss) by the weighted average
number of common shares outstanding. Diluted EPS are computed by dividing net
income by the weighted average number of common shares outstanding, adjusted
for the effect of dilutive securities for stock options. When Cobalt reports
a net loss, potentially dilutive securities are not included in the
calculation of EPS because their inclusion would have an antidilutive effect.
The weighted average number of common shares outstanding used in the
calculation of basic and diluted EPS are 32,223,290 and 32,401,194,
respectively for the three months ended March 31, 2001.
Options to purchase 2,645,013 common shares during the three months ended
March 31, 2001 were not included in the computation of diluted EPS since the
options' exercise prices were greater than the average market price of the
outstanding common shares.
Note C. Pro forma Financial Information (Unaudited)
PRO FORMA COBALT STATEMENT OF OPERATIONS
THREE MONTHS ENDED
MARCH 31,
2001 2000
-----------------------------------
(IN THOUSANDS, EXCEPT SHARE DATA)
Revenues:
Health services revenue:
Premium $368,221 $313,436
Government contract fees 26,903 15,168
Other 18,114 15,013
Investment results 3,514 3,264
-----------------------------------
Total revenues 416,752 346,881
Expenses:
Medical and other benefits 320,636 287,104
Selling, general, administrative and other 89,711 70,441
Profit (loss) sharing on joint venture - (86)
Interest 183 267
Amortization of goodwill 1,726 1,482
-----------------------------------
Total expenses 412,256 359,208
-----------------------------------
Operating income (loss) 4,496 (12,327)
Equity in net income (loss) of affiliates, net of tax (2,285) 548
-----------------------------------
Pre-tax income (loss) 2,211 (11,779)
Income tax expense 477 178
-----------------------------------
Net income (loss) $ 1,734 $(11,957)
===================================
Earnings (loss) per share:
Basic and Diluted $0.04 $(0.30)
Weighted average shares outstanding:
Basic 40,412,393 40,412,393
Diluted 40,585,385 40,412,393
9
PRO FORMA MEMBERSHIP ANALYSIS:
Members at end of period: MARCH 31,
2001 2000
------------------------------
MEDICAL (BY PRODUCT TYPE):
HMO 221,680 200,975
PPO 136,702 127,363
Point of Service 86,897 89,210
Medicaid 4,219 45,782
Medicare Risk 11,742 12,818
Other/Individual 92,111 84,892
------------------------------
Total insured members 553,351 561,040
Self-funded 179,274 251,962
------------------------------
Total medical members 732,625 813,002
==============================
SPECIALTY PRODUCTS AND SERVICES:
UWG Life/AD&D 159,924 165,591
Dental 340,705 341,201
Behavioral Health & Medical Management 1,452,072 1,515,841
Disability and other 116,121 121,879
Workers' Compensation policies in force: 735 492
Significant changes between the pro forma statements of operations pertaining
to the historical UWS operations are as follows:
Premium revenue increases in 2001 are attributable to the re-pricing of the
HMO products. As a result of this pricing, the loss ratio for the HMO segment
improved from 93.6% for the three months ended March 31, 2000 to 90.7% for
the three months ended March 31, 2001.
The increase in HMO membership is primarily due to the acquisition of the
insurance business of Family Health Plan during the fourth quarter of 2000,
offset by January cancellations. The reduction in Medicaid membership
resulted from UWS exiting substantially all of its Medicaid business. The
largest termination was its contract with the State of Wisconsin for
CompcareBlue HMO's participation in the state's Medicaid program, effective
April 1, 2000. Currently, there are only two counties in Wisconsin in which
UWS continues to participate in the Medicaid program.
The assumption of the State of Wisconsin life insurance business, which was
reported in the specialty risk segment, was cancelled in November of 2000.
This business accounted for approximately $5.2 million in premiums for the
three months ended March 31, 2000, with a loss ratio of 93.9%. The
cancellation of this business had a favorable impact on the overall loss
ratio for the specialty risk business, which improved to 74.1% for the three
months ended March 31, 2001 from 77.8% for the comparable period in 2000.
The expense ratios in general, improved for all segments as a result of
increased premium rates and continued cost saving measures being implemented.
Included in the pro forma other operations is $3.8 million in transaction
expenses related to the combination of BCBSUW and UWS, of which $2.6 million
was recorded by BCBSUW and $1.2 million recorded by UWS.
10
Note D. Related Party
As disclosed in Note A., on March 23, 2001 BCBSUW converted to a stock
corporation and became a wholly owned subsidiary of UWS. UWS was renamed
Cobalt Corporation, and in exchange for ownership of BCBSUW, Cobalt gave
31,313,390 shares of newly issued common stock to the Foundation.
Note E. Investment in Affiliates
Condensed Statements of Operations
THREE MONTHS ENDED
MARCH 31,
2001 2000
---------------------------------
(IN THOUSANDS)
Premium revenue $222,470 $247,905
Medical and other benefits 166,580 188,563
Underwriting gain 55,890 59,342
Net income (loss) (5,140) 1,344
As of March 31, 2001 and 2000, Cobalt owned 44.8% and 40.9%, respectively of
American Medical Security Group, Inc. (NYSE:AMZ).
Note F. Comprehensive Income (Loss)
A reconciliation from net income (loss) reported in the Consolidated
Statements of Operations to comprehensive income (loss) is stated below:
THREE MONTHS ENDED
MARCH 31,
2001 2000
---------------- ----------------
(IN THOUSANDS)
Net income (loss) per Consolidated Statements of Operations $1,284 $(7,908)
Change in unrealized loss on investments, net of taxes 1,741 349
---------------------------------
Comprehensive income (loss) $3,025 $(7,559)
=================================
Comprehensive income (loss) is defined as all changes in equity during the
period except those resulting from shareholder equity contributions and
distributions.
11
Note G. Segment Reporting
The Company has five reportable business segments: insured medical
products, specialty risk products, specialty service products, self-funded
products and government services. Insured medical products include: BCBSUW
full coverage, copayment, preferred provider organization, Medicare
supplement and interim coverage and UWS Health Maintenance Organization
("HMO") and point of service products sold primarily in Wisconsin. The
specialty risk products include dental, life, disability and workers'
compensation products. The specialty service products include managed care
consulting, electronic claim submission services, pharmaceutical management,
managed behavioral health services, case management and receivables
management services. The specialty service products segment includes activity
from UWS subsidiaries; and therefore, on a historical basis this segment does
not have any activity in it for the first quarter of 2001 and 2000,
respectively. The specialty products and services are sold throughout the
United States. The self-funded products consist of administrative services
and access to Cobalt's extensive provider networks for uninsured contracts.
Government services include processing services for Medicare providers
throughout the United States and for Medicaid in the State of Wisconsin.
"Other Operations" include activities not directly related to the
business segments, unallocated corporate items (i.e. equity in net income
(loss) of affiliates, amortization of goodwill and unallocated overhead
expenses) and intercompany eliminations. The Company evaluates segment
performance based on profit or loss from operations before income taxes. The
accounting policies of the reportable segments are the same as those
described in the December 31, 2000 audited financial statements in the
summary of significant accounting policies.
Financial data by segment is as follows:
THREE MONTHS ENDED
MARCH 31,
2001 2000
----------------------------------
(IN THOUSANDS)
Health services revenue:
Insured medical $ 143,318 $ 115,966
Specialty risk products 7,484 7,484
Government services 26,903 15,168
Self-funded products 7,702 5,844
Other operations (780) (606)
------------------------------------
Total consolidated $184,627 $ 143,856
====================================
Investment results:
Insured medical $ 1,898 $ 2,021
Specialty risk products 99 130
Government services 143 158
Self-funded products 15 102
Other operations (91) -
-------------------------------------
Total consolidated $ 2,064 $ 2,411
=====================================
Pre-tax income (loss):
Insured medical $ 6,895 $ (2,839)
Specialty risk products 93 (201)
Government services 341 215
Self-funded products (1,540) (3,781)
Other operations (4,505) (1,302)
-------------------------------------
Total consolidated $ 1,284 $ (7,908)
=====================================
12
MARCH 31, DECEMBER 31,
2001 2000
--------------------------------------
(IN THOUSANDS)
Total assets:
Insured medical $ 539,341 $ 240,787
Specialty risk products 64,113 14,100
Specialty service products 24,493 -
Government services 21,807 22,061
Self-funded products 12,497 11,648
Other operations 41,736 105,609
--------------------------------------
Total consolidated $ 703,987 $ 394,205
======================================
Total assets (excluding government services assets and investment in
affiliates) are allocated by segment based on the percentage of pro forma
revenue for the three months ended March 31, 2001 and historical revenue for
the year ended December 31, 2000. Investment in unconsolidated affiliates is
classified in other operations.
THREE MONTHS ENDED
MARCH 31,
2001 2000
-----------------------------------
(IN THOUSANDS)
Health services revenue from transactions
with other operating segments:
Insured medical $(780) $(606)
Note H. Statutory Financial Information
The Codification of Statutory Accounting Principles ("Codification")
promulgated by the National Association of Insurance Commissioners and
adopted by the Office of the Commissioner of Insurance for the State of
Wisconsin took effect on January 1, 2001. Codification impacts the
calculation of statutory surplus for Cobalt's insurance subsidiaries. The
impact varies by subsidiary with the most significant changes in surplus
resulting from the treatment of deferred tax assets and health care and
pharmacy rebate receivables. The March 31, 2001 statutory financial
statements fully reflect the implementation of Codification. Cobalt has taken
certain actions including the reallocation of capital to mitigate the impact
of Codification of its subsidiaries.
Note I. Reclassifications
Certain reclassifications have been made to the consolidated financial
statements for 2000 to conform with the 2001 presentation.
13
COBALT CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
The registrant, formerly known as UWS (a Wisconsin corporation), was
renamed Cobalt Corporation upon completion of the combination of BCBSUW and
UWS on March 23, 2001. BCBSUW was organized in 1939 and provides health and
dental insurance coverage and related services to both the private and public
sectors. BCBSUW offers full coverage, co-payment, preferred provider
organization, Medicare supplement and interim coverage options to groups and
individuals. BCBSUW is the only health insurer in the state operating
full-service regional sales and customer service centers. Through BCBSUW's
wholly owned subsidiary UGS, BCBSUW is a government contractor and processes
Medicare claims for providers in all 50 states and is currently the largest
Part A Medicare processor in the nation. Cobalt is also a leading provider of
managed health care services and employee benefit products through the
historical UWS subsidiaries, which also provide HMO products, dental, life,
disability and workers' compensation products, managed care consulting,
electronic claim submission services, pharmaceutical management, managed
behavioral health services, case management and receivables management
services. The activity from the UWS subsidiaries is not included in the
discussion below, since the combination is accounted for under GAAP as a
purchase by BCBSUW of the 53.4% of UWS it did not already own, which results
in BCBSUW being considered the registrant for SEC accounting purposes.
The following Management's Discussion and Analysis should be read in
conjunction with the audited consolidated financial statements for the year
ended December 31, 2000 and footnotes thereto included in the Cobalt Form
8-K, as filed with the SEC.
In the discussion below, the number of "members" is equivalent to
the number of persons covered by contracts in force.
SUMMARY OF MEMBERSHIP AND RATIOS
MARCH 31,
2001(1) 2000
------------------------------
Membership at end of period:
Insured medical 246,675 233,054
Specialty risk products 142,531 148,086
Self-funded products 173,295 245,481
------------------------------
Total membership 562,501 626,621
==============================
Membership (as a percentage of the total):
Insured medical 43.9% 37.2%
Specialty risk products 25.3% 23.6%
Self-funded products 30.8% 39.2%
------------------------------
Total membership 100.0% 100.0%
==============================
(1) Excludes UWS membership, which is referred to in note C.
14
SUMMARY OF OPERATING RESULTS AND RATIOS
THREE MONTHS ENDED
MARCH 31,
2001 2000
-------------------------------
(IN THOUSANDS)
Revenue:
Insured medical $143,318 $115,966
Specialty risk products 7,484 7,484
Government services 26,903 15,168
Self-funded products 7,702 5,844
Intercompany eliminations (780) (606)
-------------------------------
Total health services revenue 184,627 143,856
Investment results 2,064 2,411
-------------------------------
Total revenue $186,691 $146,267
===============================
Health services revenue (as a percentage of the total):
Insured medical 77.6% 80.6%
Specialty risk products 4.0 5.2
Government services 14.6 10.5
Self-funded products 4.2 4.1
Intercompany eliminations (0.4) (0.4)
-------------------------------
Total 100.0% 100.0%
===============================
Operating ratios:
Insured medical loss ratio(1) 86.0% 93.2%
Specialty risk products loss ratio(1) 78.8% 78.3%
Selling, general, and administrative expense:
Insured medical SGA ratio(2) 10.3% 10.9%
Specialty risk products SGA ratio(2) 21.2% 26.0%
Self-funded admin. fees per member per month $14.81 $7.94
Self-funded SGA per member per month $17.81 $13.20
- ----------------------------------------
(1) Insured medical and other benefits as a percentage of
premium revenue.
(2) Insured selling, general and administrative expenses as a
percentage of premium revenue.
Cobalt's revenues are derived primarily from premiums, while medical
benefits constitute the majority of expenses. Profitability is directly
affected by many factors including, among others, premium rate adequacy,
estimates of medical benefits, health care utilization, effective
administration of benefit payments, operating efficiency, investment returns
and federal and state laws and regulations.
RESULTS OF OPERATIONS
Total Revenues
- --------------
Total revenues for the three months ended March 31, 2001 increased
27.6% to $186.7 million from $146.3 million for the three months ended March
31, 2000. This increase was due primarily to increased membership in the
insured product line, premium rate increases on medical insurance business
and new government fee based contracts.
15
Health Services Revenue
-----------------------
INSURED MEDICAL REVENUE. Insured medical premium for the three
months ended March 31, 2001 increased 23.5% to $143.3 million from $116.0
million for the three months ended March 31, 2000. The increase is due to
increases in average premium revenue per member and increases in the average
number of medical members. Average insured medical premium per member for the
three months ended March 31, 2001 increased 16.8% from the same period in
2000. The number of insured medical members as of March 31, 2001 increased
5.8% to 246,675 from 233,054 as of March 31, 2000.
SPECIALTY RISK PRODUCTS. Insured dental premium for the three months
ended March 31, 2001 and for the three months ended March 31, 2000 remained
constant at $7.5 million. This reflects a 3.8% increase in average premium
revenue per member for the three months ended March 31, 2001, offset by a
3.8% decrease in the average number of dental members compared to the three
months ended March 31, 2000. The number of insured dental members as of March
31, 2001 decreased to 142,531 from 148,086 as of March 31, 2000.
GOVERNMENT SERVICES. Government services revenue for the three
months ended March 31, 2001 increased 77.0% to $26.9 million from $15.2
million for the three months ended March 31, 2000. The increase from 2000 to
2001 is attributable to significant growth in the volume of Medicare claims
processed, due to being awarded additional government contracts. Effective
December 1, 2000, UGS became the Medicare Part A Intermediary for the states
of California, Nevada and Hawaii, and the territories of Guam, Mariana
Islands and American Somoa. In addition, also effective December 1, 2000, UGS
became the Regional Home Health Intermediary for the states of California,
Nevada, Arizona, Hawaii, Oregon, Idaho, Washington, and Alaska, and the
territory of Guam.
SELF-FUNDED PRODUCTS. Self-funded administrative fees for the three
months ended March 31, 2001 increased 32.8% to $7.7 million from $5.8 million
for the three months ended March 31, 2000. The average self-funded
administrative fee per member per month for the three months ended March 31,
2001 increased 86.5% to $14.81 from $7.94 for the three months ended March
31, 2000. The number of self-funded members as of March 31, 2001 decreased
29.4% to 173,295 from 245,481 as of March 31, 2000. The increase in fee per
member in 2001 and decrease in total members for 2001 is due to aggressive
pricing on targeted group contracts and subsequent loss of unprofitable
business.
Investment Results
------------------
Net investment results includes investment income and realized gains
(losses) on the sale of investments. Net investment results for the three
months ended March 31, 2001 decreased 12.5% to $2.1 million from $2.4 million
for the three months ended March 31, 2000. Average annual investment yields,
excluding net realized gains, investment income from affiliates and other
interest income were 6.37% for the three months ended March 31, 2001,
compared to 6.92% for the three months ended March 31, 2000.
Average invested assets, excluding UWS and the investment in AMS,
for the three months ended March 31, 2001 decreased 32.6% to $37.2 million,
compared to $55.2 million for the three months ended March 31, 2000. The
improvement during the three months ended March 31, 2001 is a result of cash
requirements necessary to fund 2000 operating losses. As of March 31, 2001,
Cobalt's invested assets increased by an additional $136.1 million due to the
acquisition of UWS.
Investment gains (losses) are realized in the normal investment
process in response to market opportunities. Realized losses were
insignificant for both the three months ended March 31, 2001 and for the
three months ended March 31, 2000.
16
Expense Ratios
- --------------
LOSS RATIO. The insured medical loss ratio for the three months
ended March 31, 2001 was 86.0%, compared with 93.2% for the three months
ended March 31, 2000. The decrease in the medical loss ratio is primarily the
result of pricing increases instituted in response to higher than anticipated
medical utilization and cost trends. This improvement also reflects the
additional increases in the level of government reimbursements, the
implementation of pricing increases and other cost control measures on the
Medicare Risk business.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSE RATIO. The selling,
general and administrative ("SGA") expense ratio includes commissions,
administrative expenses, premium taxes and other assessments and claim
interest expense. The insured medical SGA expense ratio for the three months
ended March 31, 2001 was 10.3%, compared with 10.9% for the three months
ended March 31, 2000. The improved SGA expense ratio in 2001 is the result of
expense control measures instituted, combined with a higher premium base in
2001 due to pricing increases. Similar improvement was experienced in the
specialty risk products SGA ratio, which improved to 21.2% for the three
months ended March 31, 2001 from 26.0% for the three months ended March 31,
2000. Additional expense reduction measures are currently targeted in this
area.
The average self-funded SGA expense per member per month increased 34.9% for
the three months ended March 31, 2001 to $17.81 from $13.20 for the three
months ended March 31, 2000. The decrease in the self-funded membership for
the three months ended March 31, 2001 caused the SGA expense per member per
month to increase. Additional expense reduction measures are currently
targeted in this area.
OPERATING EXPENSE RATIO. The operating expense ratio for Government
services for the three months ended March 31, 2001 improved to 99.3% from
99.6% for the three months ended March 31, 2000. This improvement is due to
revenue growth due to additional business acquired.
Other Expenses
- --------------
Blue Cross has a bank line of credit, in which UWS participates,
that permits aggregate borrowings up to $20 million. Interest expense,
related to the bank line of credit, was $0.1 million for the three months
ended March 31, 2000.
In 1999, Blue Cross purchased 1.4 million additional shares of UWS
stock. The excess of cost over the fair value of net assets acquired has been
recorded as goodwill and is being amortized on a straight-line basis over a
period of 15 years. In addition, goodwill was recorded on additional
insurance business acquired in 2000 and is being amortized over a five year
period. Amortization expense was $0.2 million and $0.1 million for the three
months ended March 31, 2001 and 2000, respectively. As a result of purchase
accounting, $75.1 million of goodwill was recorded in 2001 for Cobalt. This
goodwill will be amortized over a period of 15 years starting in April of
2001.
Net Income (Loss)
- -----------------
Consolidated net results improved for the three months ended March
31, 2001 to a gain of $1.3 million compared to a loss of $7.9 million for the
three months ended March 31, 2000. The $1.3 million gain for the three months
ended March 31, 2001 was the combination of a $3.1 million operating gain
offset by $1.8 million equity in the net loss of affiliates, net of tax. The
$3.1 million operating gain reflects improvement in the insured loss and SGA
ratios and continued growth in government contract business. In addition,
$2.6 million in transaction expenses related to the combination were recorded
in the three months ended March 31, 2001.
Because of operating loss carryforwards, Blue Cross did not have
current income tax expense or benefit for the three months ended March 31,
2001.
17
LIQUIDITY AND CAPITAL RESOURCES
Cobalt's sources of cash flow consist primarily of health services
revenues and investment income. The primary use of cash includes medical and
other benefit payments, as well as operating expense payments. Positive cash
flows are invested pending future payments of medical and other benefits and
other operating expenses. Cobalt's investment policies are designed to
maximize yield, preserve principal and provide liquidity to meet anticipated
payment obligations.
Cobalt's cash flow improved for the three months ended March 31,
2001 compared to the three months ended March 31, 2000 primarily due to the
acquisition of UWS, which added $50.0 million to Cobalt's cash and cash
equivalents balance.
As a Primary Licensee of the BlueCross BlueShield Association
("Association"), Cobalt is required to maintain a prescribed liquidity ratio
of certain liquid assets to average monthly expenses, as defined, in
accordance with licensure requirements of the BCA. BCBSUW and Compcare Health
Services Insurance Corporation are both considered larger controlled
affiliate licensees by the Association and must also adhere to these
requirements
Cobalt's investment portfolio consists primarily of investment-grade
bonds and government securities and has a limited exposure to equity
securities. At March 31, 2001, $163.8 million or 94.9% of Cobalt's total
investment portfolio was invested in bonds compared with $41.8 million or
67.2% at March 31, 2000. The bond portfolio had an average quality rating by
Moody's Investor Service of "Aa2" and "Aa3" at March 31, 2001 and March 31,
2000, respectively. At March 31, 2001, $162.8 million or 94.2% of Cobalt's
total investment portfolio was classified as available-for-sale compared with
$61.5 million or 98.9% as of March 31, 2000. The market value of the total
investment portfolio, which includes stocks and bonds, was greater than
amortized cost by $0.3 million and less than amortized cost by $0.4 million
at March 31, 2001 and at March 31, 2000, respectively. Unrealized holding
gains and losses on bonds classified as available-for-sale are included as a
component of surplus, net of applicable deferred taxes. Cobalt has no
investments in mortgage loans, no non-publicly traded securities (except for
investments related to its affiliates), real estate held for investment or
financial derivatives (except for principal-only strips of U.S. Government
securities).
Cobalt has an outstanding line of credit in the amount of $15.0
million as of March 31, 2001 available to Health Professionals of Wisconsin,
Inc. The balance was $4.6 million and $6.0 million as of March 31, 2001 and
March 31, 2000, respectively. Interest on the line of credit is calculated
using prime rate.
Cobalt is required to maintain certain levels of statutory capital
and surplus under the NAIC Risk Based Capital ("RBC") requirements. Wisconsin
insurers are also subject to compulsory and security surplus requirements
based upon the amount and type of premiums written. In addition to statutory
capital requirements, Cobalt is required to maintain certain levels as
determined by the Association.
In addition to internally generated funds and periodic borrowings on
its bank line of credit, Cobalt believes that additional financing to
facilitate long-term growth could be obtained through offerings, debt
offerings, or bank borrowings, as market conditions may permit or dictate.
During the third quarter of 2000, Cobalt entered into an agreement
to purchase a 25% interest in a Wisconsin-based health plan for $12.5
million. The purchase was subject to a right-of-first-refusal under an
agreement with existing shareholders of the health plan. This agreement has
since expired and Cobalt is no longer under any obligation to purchase.
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QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Because of Cobalt's investment policies, the primary market risks
associated with Cobalt's portfolio are interest rate risk, credit risk and
the risk related to fluctuations in equity prices. With respect to interest
rate risk, a reasonably near-term rise in interest rates could negatively
affect the fair value of Cobalt's bond portfolio. However, because Cobalt
considers it unlikely that Cobalt would need or choose to substantially
liquidate its portfolio, Cobalt believes that such an increase in interest
rates would not have a material impact on future earnings or cash flows. In
addition, Cobalt 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 overall goal of the investment portfolio is to support the
ongoing operations of Cobalt. Cobalt's philosophy is to manage assets to
maximize total return over a multiple-year time horizon, subject to
appropriate levels of risk. Cobalt manages these risks by establishing gain
and loss tolerances, targeting asset-class allocations, diversifying among
asset classes and segments within various asset classes, and using
performance measurement and reporting.
Cobalt uses a sensitivity model to assess the interest rate risk of
its fixed income investments. The model includes all fixed income securities
held as of March 31, 2001 and incorporates assumptions regarding the impact
of changing interest rates on expected cash flows for certain financial
assets with prepayment features, such as callable bonds and mortgage-backed
securities. The reduction in the fair value of Cobalt's modeled financial
assets (aggregate of BCBSUW and UWS portfolios) resulting from a hypothetical
instantaneous 100 basis point increase in the U.S. Treasury yield curve is
estimated at $6.6 million as of March 31, 2001.
19
PART II. OTHER INFORMATION
COBALT CORPORATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
A special meeting of shareholders was held February 23, 2001. At that
meeting, shareholders voted to approve an exchange agreement to
combine United Wisconsin Services, Inc. ("the Company") with Blue
Cross & Blue Shield United of Wisconsin.
15,307,995 votes were cast for approval of the exchange agreement,
73,990 votes were cast against or withheld approval of the exchange
agreement, 7,424 votes abstained and there were 1,659,499 broker
non-votes.
Pursuant to the exchange agreement (the transactions contemplated by
which were completed March 23, 2001):
1. BCBSUW was converted from a non-stock service insurance
corporation to a stock insurance corporation, and all of the
issued and outstanding shares of capital stock of BCBSUW were
issued to Wisconsin BC Holdings LLC, a Wisconsin limited
liability company then wholly owned by Wisconsin United for
Health Foundation, Inc.;
2. BC Holdings exchanged all of the issued and outstanding shares
of capital stock of BCBSUW for 31,313,390 shares of newly
issued, no par value, common stock of the Company and $500,000
in cash;
3. BCBSUW became a wholly owned subsidiary of the Company;
4. BC Holdings was dissolved and the 31,313,390 shares of the
Company common stock were distributed to the Foundation;
5. The Company's Articles of Incorporation and Bylaws were
amended and restated to reflect changes necessary to
effectuate the combination; and
6. The Company changed its name to "Cobalt Corporation".
ITEM 5. OTHER INFORMATION
None
20
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
None
(b) Reports on Form 8-K
The Company filed a current report on Form 8-K on April 9,
2001, reporting a change of control of the registrant and
acquisition of assets as a result of the combination.
The following financial statements were filed with the Form
8-K:
a. Financial Statements of Blue Cross & Blue Shield United of
Wisconsin
(i) Financial Statements of Blue Cross & Blue Shield United
of Wisconsin
o Schedule IV - Reinsurance
o Schedule V - Valuation and Qualifying Accounts
(ii) Selected Financial Data for Blue Cross & Blue Shield
United of Wisconsin
(iii) Management's Discussion and Analysis of Financial
Condition and results of Operations for Blue Cross &
Blue Shield United of Wisconsin
b. Pro Forma Financial Information
(i) Unaudited Pro Forma Balance Sheet
(ii) Unaudited Pro Forma Statement of Operations
21
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
May 15, 2001 COBALT CORPORATION
By: /s/ Gail L. Hanson
-------------------------------------
Gail L. Hanson
Senior Vice President, Treasurer and
Chief Financial Officer
22