Welcome to the WellPoint Incorporated quarterly results conference call. (Operator Instructions). As a reminder, this conference is being recorded. I would now like to turn the conference over to the Company's management. Please go ahead.

Welcome to WellPoint's third-quarter Earnings Call. I'm Michael Kleinman, Vice President of Investor Relations. With me this morning are Angela Braly, our President and Chief Executive Officer; Wayne DeVeydt, Executive Vice President and Chief Financial Officer; Ken Goulet, Executive Vice President and President of our Commercial Business, and Brian Sassi, Executive Vice President and President of our Consumer Business. Angela will begin this morning's call with an overview of our third-quarter results, actions and accomplishments. Wayne will then offer a detailed review of our third-quarter financial performance and current guidance, which will be followed by a question and answer session in which Ken and Brian will also participate. We will be making some forward-looking statements on this call. Listeners are cautioned that these statements are subject to certain risks and uncertainties, many of which are difficult to predict and generally beyond the control of WellPoint. These risks and uncertainties can cause actual results to differ materially from our current expectations. We advise listeners to review the risk factors discussed in our press release this morning and other periodic filings we make with the SEC. I will now turn the call over to Angela.

Thank you, Michael, and good morning. Today we announced third-quarter 2008 net income of $821 million, or a record $1.60 per share. On a per-share basis, this is an increase of 10% over the third quarter of 2007 and an 11% increase over the second quarter of 2008. Our third-quarter 2008 results included net realized investment losses of $563 million pre-tax or $0.71 per share, consisting primarily of other than temporary impairment charges on equity security investments, an impairment charge related to the fair value of certain intangible assets in our State Sponsored Business which totaled $141 million pre-tax or $0.17 per share, and income tax benefits totaling $461 million or $0.90 per share, resulting from the favorable resolution of certain federal and state tax matters. These three items substantially offset each other and had a minimal net impact on our earnings per share and operating cash flow. Net income in the third quarter of 2007 was $868 million or $1.45 per share, which included $0.01 per share in net realized investment gains. Overall WellPoint delivered a solid third quarter amidst a challenging economic environment. We are seeing the corrective action plans we initiated earlier this year positively impact our business. Our commercial segment is performing well as we continue to grow commercial membership while maintaining strong operating margins that improved 70 basis points sequentially from the second quarter. We're also seeing improvements in our Consumer segment where we achieved the highest level of operating gain in seven quarters. Despite the challenging economic environment and state budgetary issues impacting our State Sponsored business, operating margins in the Consumer segment improved by 40 basis points sequentially. Our Blue operations remains strong and we now expect our 2008 full-year earnings to be in the range of $5.43 to $5.49 per share. This…

Thank you, Angela. I also want to open my comments by noting that our underlying operations are doing quite well. We are making good progress in our performance improvement plans, and this is reflected in our 3Q '08 results. Operating revenue was $15.3 billion in the third quarter of 2008, an increase of 2% from $15 billion in the third quarter of 2007. The increase was driven by premium rate increases across our medical lines of business and growth in our Medicare Advantage products. As Angela noted, these revenue increases were partially offset by the loss of the New York State prescription drug contract and lower Commercial and State Sponsored fully insured membership. Administrative fees were $926 million in the third quarter of '08, an increase of $14 million or 2%, primarily due to increased revenue from medical management programs offered by our Comprehensive Health Solutions Business unit and self-funded membership growth in National Accounts, including BlueCard and Local Group. We continue to attract large self-funded customers through our network breadth, our leading discounts, customer service and increased capabilities in medical management and health improvement programs. Our benefit expense ratio was 82.5% in the third quarter of 2008, an increase of 70 basis points from 81.8% in the third quarter of 2007. The increase resulted primarily from higher medical costs and membership mix changes in Local Group business. This was partially offset by the loss of the New York State prescription drug contract, which had a benefit expense ratio higher than the overall company average. The benefit expense ratio declined by 80 basis points sequentially, as expected, due to seasonality in our Medicare Part D drug benefit design and a decline in Local Group as we are implementing actuarially sound rate increases. The impact of our disciplined pricing is becoming…

Thank you, Wayne. Operator, we can open the call for question and answers.

(Operator Instructions). Your first question comes from the line of John Rex from JPMorgan. Please go ahead.

Thank you. Thanks for providing some color on '09. I just wanted to get a sense. So what do you envision, and when you talk about single digit EPS growth. I guess maybe a little more precision, is that high or low, and really importantly, does that envision share repurchase? I guess, what I'm trying to get at here is, do you believe you can grow operating earnings in '09?

John, we thought you might ask that question and we aren't going to really narrow the range beyond single digit. But I will say, we do expect growth in '09, and the guidance that we'll give on a more detailed basis will include obviously the operating gain growth, as well as share repurchase expectations for 2009. We really wanted to be in a position to do a couple of things. One is, as we get through the fourth quarter, you have really great clarity in terms of what '09 will be, and we want to provide you with that great clarity, particularly in light of all the external circumstances that all of us face in terms of the economy and understanding that as best we can. Then, we also present our annual plan to our Board in December, at which time, we will get final approval and be in a better position, so that when we are on the call for the yearend, we can give you a lot more clarity and we will follow-up with that on Investor Day. But we're feeling good about our opportunities right now, even with the uncertain environment, because we have a great brand. We're really executing well in terms of our operations and our leadership team is really clicking. And so I'm looking forward to being able to give you more guidance on 2009.

But it is fair to assume that your bias is to something in the way of operating earnings growth, not flat or down just in terms of a general direction on operating earnings for '09?

No. We will be able to give you a lot more granularity as we move forward and look forward to that.

Okay. Could you just quantify the unrealized losses also -- realized/unrealized losses through October, kind of given what the markets have done?

Yes, I'm going to ask Wayne to address that. Wayne?

Okay.

John, just real quick, I want to clarify this. I think this is a question many people have, and as we disclose in our press release. The gross unrealized investment losses at 9/30, and then I will update in a minute, were about $925 million. But I want to emphasize the fact that well over 70% of that, over $700 million of that, is in fixed maturities. So just as a reminder, fixed maturities while mark-to-market, we do not have to take other than temporary impairment charges on. So for statutory purposes, those are carried at amortized costs, there is no impact. And even for GAAP purposes, because we have the intent and ability to hold the recovery because the average duration on this is just around three and a half years. We do not see that being an exposure for us as a company. So the real exposure, John, we talk about then is the equities; because on the equities, our policy is very conservative, about 12 months and even $1 underwater or 20% in six months. And, as you know, the market is down substantially just since 9/30 as well. So if you were to look at 9/30 on a gross basis, it was about $221 million, and not all of that would have necessarily represented a mark-to-market adjustment through the P&L. So to size it, John, I can't predict the future in terms of where the market will finish between now and the end of the year. Clearly, if the markets recover, we may have no write-down. If the markets stay where they were at 9/30, that number would have been closer to, say, about $150 million. That number obviously is going to grow. The other thing I would like to add, John, is that recognizing that -- of the impairment charge we took this quarter, 40% of that was at the parent. So our statutory subs took no impact for 40%, yet the full tax benefit is in the statutory sub. So on a net-net basis, our equity actually grew for the quarter. And more importantly, it grew enough because of the tax benefit that we believe to offset even future declines in the fourth quarter in the equity impairment.

So what was this through October, unrealized/realized loss?

It depends what day you're looking at, John --

I will take it as current as you have, I guess.

If I looked at last Friday, I'm going to be north of that $162 million, but I will be closer to $250 million. If I look at where we were at two days ago, that number came back down. If I look at where we were at yesterday, it went back up. So you know, John, literally it is varying by day, my friend.

So I just want to make sure I understand it correctly though, in terms of, if I take the 925 and 930, I am only adding 150 to that?

No, John. If you were to take, yes, that is correct. Again, what I would say is, of the 925, 700 million plus of that is in fixed maturities, which is a non-issue. So what you really need to focus on, is the $221 million of gross. I'm saying that balance, even if you were to use last Friday, might have been closer to 250 to 275. So you are adding about $50 million to it. Again, that has recovered since last Friday.

Okay. But that doesn't include kind of in the 70% fixed and fixed maturities when you're giving that number. That's just the equity piece, right?

That's correct, John. But we're not expecting any impairments on the fixed maturities.

Do you just know what it would have been? I know it's not an impairment. Do you know what it would have been on the full, so I can just get a straight comp to the 925?

I don't have that in front of me, John, I apologize. We will have to follow up. I just don't have the full impairment. I have the equity piece.

Okay. Thank you.

Your next question comes from the line of Matthew Borsch from Goldman Sachs. Please go ahead.

Yes. Thank you. So I have heard a number of references from other companies and from you guys to the economy. If you can put it in historical context for us, and what I'm looking back to is the 2001 recession. And from my numbers your predecessor companies, WellPoint Health Networks grew earnings by 23% during that recession year; Anthem grew earnings by 57%. So I mean could you just juxtapose where we are now and how that impacts the outlook versus how the industry conditions have changed over that time period and maybe so we can better understand the swing factors going into next year?

I think that when you look back at those time periods, those were opportunities at that point where there were major consolidations happening in the industry. That benefited the synergies we are seeing and some of the growth expectations as well. While we think there will be opportunities, particularly during tough economic times for new consolidation opportunities, we are not essentially going to count on those on a prospective basis. So I think we have to distinguish it probably from those periods of time. So it's probably not apple-to-apple comparison. That said, we are looking in terms of the potential impact from the economy on issues like in-group growth for existing large group customers. We are looking at the levels of buy-downs that we might expect. And then, of course, we are always looking at trends and cost of care. It's more important for us now than ever to really be effective in reducing costs appropriately and improving quality because that's the value that our customers are looking for, and they are looking for affordable products during this time period. So a lot of activity we have around producing those results and delivering products. I am going to ask Wayne, I have Ken and Brian here as well, and if they want to add to that response, I am not sure.

I would just add real quick Matt. Clearly this is a different economy than I think any of us have experienced in most of our lives compared to any other previous recession. I would also say that the number of small group employers that are offering coverage, especially in the one to nine employee range, has dropped that at really an unbelievable rate over the last several years, especially when compared to previous recession periods. So I think it's clearly affordability, but it's also affordability in an environment where people are making choices, hard choices, about making a house payment, making a car payment or buying their insurance, and they are seeing their life-time savings being wiped out. So there is a lot more happening now than I think a typical recession. And I think as Angela said, there is much more consolidations in 2001, and we had decelerating trend occurring in 2001 up through the last five years until the most recent period where trends have flattened out. So people also benefited from the higher pricing with the decelerating trend.

We want to take a number of questions, and I would like to give Ken and Brian just a minute to talk about how we're responding to those economic challenges in terms of the market activity.

This is Ken. A couple of things. First, as we're looking at the economy going into next year, as Angela noted, there will probably be more benefit buy-downs. There will probably be some clients that will have in-group growth going down, and there will be some that may not be able to afford coverage unless if we expand our product portfolio. We are expanding our product portfolio to include more lower-cost products to be able to offer opportunities to continue coverage or to win coverage from other individuals. Then on just running a company basis, we have a variety of different scenarios planned where our G&A can be, we're looking at different ways to impact G&A so that if the membership does go in different directions, we can respond appropriately and have our action plans in place already.

And this is Brian. To supplement what Ken just said, we are very focused in the individual market on delivering individuals a wide variety of products at different price points, particularly focused on lower-cost options. For example, this year in California, we introduced SmartSense, which has been very successful from a sales standpoint. It's a lower end PPO option with multiple deductible options. We rolled that out in Georgia in Q3 and just this week in Colorado. We will be also looking to introduce new lower-cost options across our footprint.

Okay. And Matt, let me add one more fact, too, when you look back into the 2001-2002 timeframe, there were two very major competitors who really stumbled at that point and were really shrinking their membership, had really worked on that, and I think we benefited by that. But the symbol for that is our brand is very strong, and we will benefit by the strength of our brand and our focus on execution in a tough economic environment. So with that, can we go to the next question?

Your next question comes from the line of Josh Raskin from Barclays. Please go ahead.

Hi, thanks. Good morning. I guess just a question about growth versus sort of margin. It sounds like a lot of the initiatives, Angela you spoke about and included in the press release talked about growth whether that was retention programs, higher broker incentives and new product. And I'm just curious how do you juxtapose that with what are sort of down margins this year? And should we think about sort of this 8% operating margin run rate as the appropriate margin that you would expect over the long term, say, three to five years?

I think what we're focused on is growth and margins in a sense that we do think we have product and capabilities to bring to the marketplace that can grow in terms of top-line growth. In terms of margin, we do think it's appropriate to be focused on disciplined pricing. In terms of our expectations around the operating margin, we will be more specific at Investor Day in terms of our expectations for 2009.

I guess not so much '09, but as you think about three to five years out, do you think 8% operating margins are sort of adequate, or do you think you would get back to previous levels?

I think Wayne was going to speak to this point just a minute ago.

Again, Josh, what is the right margin three to five years out? Obviously, we will have to see how the economy continues to progress in the markets. When I look at the commercial book, you look at the same period a quarter ago, and we're talking double-digit margins. This year while we're sitting at 9% plus margin, that is with significant reserve strengthening and re-establishing our balance sheet, and our pricing holding firm. So I don't know that margins have to shrink over the next three to five years. But again, that will be dependent on a number of factors, including consolidation in this industry and the general economic conditions. What I do think you have to look to margin compression over time is going to be in programs such as State Sponsored. I think more and more states are feeling the crunch of budgetary constraints, and I think California was a good example of that, even with, while they rescinded most of the 10% cut, they did not rescind all of it. I think also when you look at Medicare, all of us would agree that many companies in this industry have benefited from good margins in the Medicare business. Obviously who knows where the elections will go and what we will draw from there. So in certain lines from a consolidated basis, I think you can see things that would put some margin pressure, but I think on the commercial, time will tell.

That's helpful. Then I think you mentioned in your prepared remarks that cost trends were mitigating recently. So I was curious what areas have you seen that mitigation? I didn't notice in the components. How do you juxtapose that with we're still expecting an uptick in '09?

Yes, Josh, while we're still expecting an uptick, I would say that it's slightly mitigated from the level we thought it would be at this point. So we're still expecting trends to move upward. We're seeing some things that are giving us some positive signs. Again, our admissions per thousand are slightly down again this quarter. So remember, we saw those starting to pick up in the second quarter, and it is the first time we saw them pick up in a while. But they are actually down slightly in the third quarter. So it is ever so slightly. We use the word slightly intentionally, but nonetheless we're not seeing what I would say continuous upward movement beyond what we had thought. I would say at this point, it seems to be mitigating slightly below where we would thought it would be at.

Well, and to that point, part of our performance improvement was to get the kind of clarity we feel we have now around the trends, around the elements, the drivers of cost of care. And we feel comfortable that we have had better clarity now than we have had, and so are giving you the slight uptick as a reflection of that.

Okay. So you would have said at least 50 bps last quarter, you had agreed with that number. So is it fair to say it is coming in maybe less than 50, but the pricing was still geared towards the higher than 50 bps for '09?

Yes, I think in the last quarter we said 50 was a reasonable approximation. I would say it still is.

Okay. Thanks.

Thank you.

Your next question comes from the line of Justin Lake from UBS. Please go ahead.

Thanks. Just a follow-up on the cost trend side. You are talking about cost trend maybe mitigating a little bit, and yet the days claims payable were up. I'm just curious if you can walk us through any kind of metrics on the reserve side, specifically maybe IBNR and IBNR per member?

We are consistent and conservative in terms of overall reserves. I will ask Wayne to talk about the cost trend in terms of where the DCP is in particular.

Yeah. Hi, Josh. We have seen in the year positive intra-year development on our reserves. But I would also tell you as we continue to drive our inventories down, we want to ensure that there is sustainability with that. So we continue, as Angela said, to be conservative and consistent in our methodology. Our DCP is up, quite honestly, because we have maintained a strong balance sheet because our average claim costs per day are down slightly in the quarter. So at this point, I would just say we feel very comfortable with the strength of our reserves and our balance sheet. We do not expect to have to re-establish a shortfall like we did in the previous year.

That's helpful. And then just on the pricing side, I think in the second quarter you outlined for us a strategy of going literally market-by-market, county-by-county and looking at your competitive positioning to try to figure out how much of that 90 basis points shortfall you can get back. I'm just curious I know it's too early to talk about where the market is from a competitive standpoint, whether employers are going to push back or what other players are doing. But, when you look at your competitive standpoint right now from a strategic standpoint, how do you feel like that review came out? Do you feel like you're looking to get back 50 basis points of that or 20 or 70?

Justin, I am going to let Ken, who has led the efforts around these deep dives on market-by-market to respond to that. Ken?

Justin, we completed our deep dives in the best majority of our Blue states, and it was good, more detailed information than we have had in the past and our positioning in terms of product pricing and our offerings in all areas down to the county and small NSA levels. I can't give you a specific number because it really does vary across the board of what we're using in terms of being able to recover what was under pricing last year. I would say that we have fully recovered, of course, medical costs moving forward. We're able to get some additional trends, meaning our MLR improved year-over-year in many and, in fact, most of our small case markets. We are not going to get anything back in sell-through because you have to, when you are managing the business. You are also managing your customers trend expectation is versus trend across the board, and if you try to get it all back in one area, you are going to force cases to bid, which is not the best position to be in. So we're able to find where we are competitively. We're gathering it back, but I am not able to give you a specific in terms of what percentage of the 90 bps.

Okay. Can I just ask one numbers question before I jump off? You mentioned that the membership losses have been on the non-Blue side on the commercial book and at UniCare. Can you just tell us how many UniCare members you have, as of the third quarter, and break that out by risk and non-risk, and then compare that to a year ago or maybe at the beginning of the year? Thanks.

Wayne, do you have that number?

That's what I'm looking at, to make sure I have it here. I'm sorry, Justin, just give me a second, please.

Sure.

I want to say the membership is about 1.4 million members, Justin, and about 800,000 of that is ASO with about 600,000 of that being fully insured.

And where was that at the beginning of the year?

Well, it is down almost 236,000 from the beginning of the year.

That's helpful. Thanks a lot, guys.

Thank you.

What I would say in that one regard to, Justin, is we had some significant strengthening of pricing, especially in Texas and Illinois, and we recognized and planned that our membership would go down. We felt that in the individual and small group we were not priced right, and we wanted to position our pricing appropriately. So we understood our membership would go down; however, it is down 236 year-to-date.

Great. Thanks. I wanted to make sure I was not over thinking that. Appreciate it.

Your next question comes from the line of Doug Simpson from Merrill Lynch. Please go ahead.

I was wondering if you could just talk about changes in the players market-to-market? Specifically are you seeing any new entrants disproportionally targeting some of your higher margin markets? I'm just trying to understand if you have a situation where you are earning $25 to $30 PMPM and someone comes in and says they are willing to write it for $20 to $25, how do you deal with that competitively? What do you do with products, and how do you deal with that in negotiations with customers?

Ken, do you want to take that?

There is always a balance, of course, of pricing where we are in recognizing the competitive market. What I would first say is we're fortunate that we don't compete against not-for-profits in most of our areas except for in one state. And then in a few other areas, I think we mentioned in the last call Virginia, and then in Northeast, we do have some smaller not-for-profits that we run into. It is a case-by-case position on the larger cases. We do not want to give up a margin price when there is a competitive position. But we're pricing to expand margin in all of our businesses across the area. So we do make case-by-case decisions if it is appropriate, and we feel comfortable with the level of stability of the pricing that we have seen in a certain case. So by that, I mean a larger case. Whereas on a smaller case, we're pricing against our pool, and we are going to get our full margins going forward.

Okay. I want to make sure we understand your comments about customer pushback that you're seeing between large group, small group and individual. Can you just give us a sense which of those markets have you seen the greatest change in price sensitivity over the last 12 months? And just any sort of historical perspective on that would be helpful.

I'm going to have Ken and Brian talk a little bit about what is happening. Of course, we're sensitive to the opportunity to continue to pursue our strategies without telling the marketplace all of the issues that we're facing. But I'm going to ask Ken and Brian to speak to that.

This is Brian. I will address individual and senior first. Individual, we continue to see a very competitive but rational market. We are addressing the challenges of that by holding our pricing firm but developing a wider variety of products for individuals to choose. In the individual market, one size does not fit all. So we want to offer products across a variety of price and affordability spectrums, and the same really holds true in the senior market. We continue to attack both the individual and senior market at a very granular level, taking a look at pricing of each of our competitors in each of our geographies.

Doug, I don't see a specific focus on a large group or small group as to where the push is any more significant than the past. But because of the economy, and it really has been just because health care is a big portion of spend, there is always a pretty good focus on it. But our job and the way that we drive the better earnings for our company and the growth is we need to price points at our spreads, so that if the client is receiving a certain rate increase, they can choose different price points and different products and services from that level. So it really is no different than has been. Historically we're doing a better job I think of providing those price points with different products at different price points to meet their needs.

Okay. Thank you.

Your next question comes from the line of Charles Boorady from Citi. Please go ahead.

In terms of bringing down a high end of the range of guidance, if I understand you right, this assumes no additional investment losses. I'm wondering what would the additional reduction be to your EPS guidance if you assume the markets don't recover from where they are here?

It does not include potential unrealized losses. We wanted to just create more clarity. As you know, we did not provide quarterly guidance this year. We thought that by narrowing the guidance we're giving you more clarity in terms of the fourth quarter and then obviously be in a position in terms of '09 to give you the best clarity for '09.

My question was on the investment loss specifically that it sounds like bringing it down was not related to your expectation for potential additional investment losses. So I'm just wondering if you just assume the debt and equity markets don't recover from where they are now, what would the impact be to your EPS guidance?

Charles, this is Wayne. Again, not knowing where the markets will finish, but if you look at it 9/30, you applied our very strict policy of anything under water by a $1 for 12 months or 20% after six, because we've had more than a 20% drop in the recent period, you would be looking at pre-tax based on 9/30 of about $160 million pre-tax. So that could be the impact. Again, the flipside is last Friday that number grew. As of this past Tuesday, that number went back down, I mean it's all over the board. So it's very difficult to predict what the broader markets will do, whether they will stay whether they are at today or whether they will grow. But that's why we wanted to really spike out that from our perspective corroborations are solid. So what will happen is based on the broader markets and how we treat it from an accounting perspective.

Got it. So we would just reduce your guidance by $160 million pre-tax if we assumed that that's where the markets ended the year?

Yes, if you assume that that's where the market would end, if 9/30 held through, through the end of the year, that would be a reasonable proxy.

Got it. And then the newswires had quoted Angela, I don't know if they were accurate or not on appetite for acquisitions. And I'm wondering what size health plan do you feel ready operationally to acquire and integrate at this point?

Well, the newswires are always accurate when they report. I did have a conversation, and I'm happy to continue to talk about, there will be opportunities for acquisitions I think in these environments in particular, and we find ourselves always in an interesting place with a unique opportunity to consider Blue acquisitions at times. Historically if we look to the past, there were opportunities that arose out of difficult economic circumstances because there are tremendous benefits to us having scale and having the Blue brands and having the ability to make investments around technology and innovation for our customers. So we look forward to having those opportunities. While we don't speak to any particular transaction or really, frankly, the size of the transactions, because they tend to be, as you know, Charles, very opportunistic. So we would look at the opportunities that arose and pursue them. In terms of non-Blue transactions, I think we always prioritize transactions that would be in our markets. So we had some successful ones over the last couple of years where we essentially did endorsement deals, one here in Indiana and looked at other places. Those tend to be fortunate events for us when those opportunities arise. As you know, we have looked at some capabilities. We want to look carefully at those and work on those capabilities that we think would be best owned by WellPoint. Our strategy is not to have to own all capabilities. We can vendor those. We can own some. We can build some. What we're bringing in those capabilities is the best portfolio of what meets our customers' needs. So we look forward to those opportunities that might arise, and we're going to consider them carefully as those opportunities come up.

And you and the board feel operationally ready, Angela, to make another big acquisition?

Charles, I think we're feeling operationally ready. I hope that you see in terms of the performance improvement plan, what we believe is our better visibility into claims. We have reevaluated our IT migration plan. We have organized a disciplined management process within the company to produce better execution. I'm confident that we could acquire and integrate a sizeable company.

Your next question comes from the line of Scott Fidel from Deutsche Bank. Please go ahead.

Thanks. Just sticking on the Blues for a moment, I'm just interested, as you've been talking with your Blues brethren whether, you are seeing any interest in any of the nonprofits trying to give another go here, trying to convert to for profit status just as we think about some of the significant budget issues that the states are going to be facing. So I'm wondering whether you think the Horizon conversion application here is more of a one-off, or do you think this could be followed up if there is other interest out there among other Blues?

Yes, we are always reluctant to speak to any specific Blue plan and their plans for conversion. I do have great confidence, though, in the relationships within the Blue system. I think there's a renewed interest at Blue plans to make sure we are effectively executing around the BlueCard program, delivering the most value there. We're doing some great things together like centers of Blue Distinction around quality, hospitals that provide the most effective care. There are lots of great discussions. Our companies, AIM and Resolution Health, have a number of Blue customers. So we do think there are new opportunities for Blue plans to work together collaboratively. We do think that Blue plans across the country consider what their strategic opportunities might be, whether it is through sharing capabilities and remaining independent or considering opportunities to combine.

I just had a follow-up question around out-of-network hospital costs. I know in the first half you had cited seeing some pressure there. I'm just interested in sort of an update on the third quarter, whether you have seen any change in that? Just more conceptually, whether as we think about the economy continuing to deteriorate, do you think that we're going to start as the members more interested in looking at in-network options as a way to reduce their expenses compared to out-of-network?

I'm going to have Brian and Ken speak to it. In terms of the product choices that we're making available and whether the draw towards products with maybe more specific networks are really seeing as being very attractive.

I will start off, Scott, and then Brian I think can chime in. First, in terms of out-of-network hospital costs or out-of-network costs in general, it still remains a very, very small part of our overall cost because we have such a broad network overall. We have actually introduced some cost control in those areas. Blue products have some discounts in place for non-networked hospitals for prompt pay to those hospitals, and we have expanded that through some additional relationships where we will even on an out-of-network basis through prompt pay agreements received discounts from out-of-network providers. So that gets passed through to our customers and to ourselves. I would say in response to your question, is there more of a focus on network-based? In our product areas, I think it's fair to say that our clients are looking and continue to look for good cost alternatives. One of those things that we then look at is their entire networks or other approaches that would best meet their needs. So our product development slate is looking at different product alternatives regarding alternative networks or tighter networks. That has to go through the whole process of vetting it with consumers, vetting it with employers, but it is one area that we're looking at to see a tighter network, which was not acceptable a decade ago, becomes more acceptable given the tighter cost climate right now.

As Ken noted, a small percentage of our costs are related to out-of-network expenses. I think as costs and price transparency becomes greater, consumers are going to be more focused on their out-of-pocket expenses and probably more focused on staying in network. Certainly in certain segments of our business like in the senior market, there is going to be a migration towards more network-based products, particularly as private fee-for-service fades out. I think WellPoint is in an excellent position to take advantage of that since building networks is one of our core competencies.

Yes, Scott, when you think about our value propositions, it is that we have had the broadest network. We have had 80% of the doctors, 95% of the hospitals. Within those networks, though, we have opportunities because we are so deep in our market to make a meaningful difference in terms of the products and the way that we offer the networks to our members. So we think that is going to be to our advantage as well going forward.

Okay. Thank you.

Thank you.

Your next question comes from the line of Tom Carroll from Stifel Nicolaus. Please go ahead.

Just quickly on a couple of things here. On the Medicare private fee-for-service business, what service lines are driving the higher than expected costs here? And Angela, did you say you have 64,000 private fee-for-service members?

I'm going to let Brian speak to this. He runs our senior business since this January and is doing a great job of really focusing on that for 2009. So Brian, in terms of overall membership for senior, we have about 213,000 Medicare private fee-for-service members, including 64,000 that are in these enhanced products where we have seen adverse selection, and we're not going to carry those through to 2009. So Brian, do you want to address that?

Okay. The 64,000 members in our enhanced plans, those are the plans that we have seen some of the deteriorating experience. It is primarily around Part B drugs, as well as increased inpatient and outpatient costs. But again, during the 2009 bid process, we did not re file those plans, so we do expect a good portion of that membership to either transition back to traditional Medicare or to potentially one of our other private fee-for-service or network-based plans.

Great. I had missed that point. One second short question, what would you suggest is driving the potential uptick in cost trends in 2009? Can you maybe point to something that we can start thinking about?

In terms of 2009, in terms of what we think is driving it, inpatient costs have been in the high single digits. While we have seen admissions utilization relatively flat, most of that is related to unit cost increases. We have some very specific contracting initiatives and management programs in the NICU area around spinal surgery cases, chronic kidney disease and end-stage renal to really focus on really the intensity that we're seeing in terms of inpatient. Outpatient we're seeing come in at upper single digits, up a little bit from mid to upper last quarter and mostly unit cost driven. We do have radiology management programs that we think were having an impact on that. We also are working on that from a transparency perspective, too. We have Anthem CareCompare, which is our transparency tool showing our members on episode treatment grouping, what the cost of a procedure would be to our members and giving some levels of quality data. We are expanding that. We are in 10 states, and we're expanding that further. We think between the management programs that we have, as well as some of the transparency tools that we have, that we can address those trends.

Right. And if I could sneak one last one in here, Wayne, for you. On the tax benefit that you talked about today, what is your discretion on when to show us that or when not to show us that?

Well, I don't think there is very much discretion. I think the accounting rules are very clear on that. Keep in mind, Tom, that this was a disputed tax that goes all the way back to 1987. So obviously you can imagine we have been in dispute over this for an extended period of time. It was actually during this quarter that we got assigned a settlement agreement from the IRS, and it was only within the quarter that we were able to eventually release those reserves because of that. So there is no discretion from my perspective.

Yes. Very good. Thank you.

Your next question comes from the line of Greg Nersessian from Credit Suisse. Please go ahead.

Three quick questions for you. First, your guidance for '08 implies a step-down in the fourth quarter. I guess it has been historically the pattern. Could you just speak to the drivers of that? Second, on your Medicare, it sounds like you're looking to take advantage of the elimination of deeming. Is it fair to say your strategy is going to be exclusively organic, or would you consider doing some M&A to accelerate that process on the M&A book? Finally, on Medicaid, do you feel like the markets where you will remain in 2009 have sort of stabilized? Is there a potential for further exits on any of your Medicaid markets? I guess on that front, this Medicare write-down, should we interpret that as a signal of a change in your thought process with respect to that program?

Greg, let me divide your questions up. In terms of guidance for 2008, we did try to show some back at our Investor Day conference for 2008 the seasonality. The seasonality is coming in as we expected. So I will let Wayne speak to that a little bit more. In terms of both Medicare and Medicaid, Brian Sassi runs those businesses, and he can speak to both your question about deeming in terms of where we expect growth there, as well as in the Medicaid business. When you look at them, the Medicare or the Medicaid impairment charge that we took, we look at that every year at this time. We also have an external validation in terms of valuation. So it was the appropriate timing for us to look at, whether or not our expectations in terms of the margins and the growth for that business were appropriate in terms of the impairment issue. So that is something we do on kind of a regular scheduled basis. But with that, I will ask Wayne to answer the first part of that question and then Brian to cover the other two.

Well, again, I think, Angela, you addressed a lot of this, Greg. But, as we said, if you actually go back to the original IR day, while we have not achieved that original guidance, we will see that we showed a significant seasonality switch from what you have seen historically and actually showed that there was actually a step-down in the fourth quarter. So again, I would just reiterate what Angela said, that this is not out of line with what our expectations were and not out of line with what we were trying to communicate back in December, including showing a slide that showed that seasonality of the quarterly earnings per share progressions. I think if you look at that, you will see that even with the step-down in guidance from our original guidance, I think you'll find that that pattern is holding very true at this point. Again, it is driven primarily by Part D donor holds being eliminated, and that starts running through more on the commercial MCR creep that happened in the fourth quarter. I think if you look at that, you'll find that is pretty consistent. In terms of the M&A, I will simply say that one of the biggest opportunities we see within the Medicare right now, though, is really the network-based program in our Blue states. There is going to be a lot of organic building within our existing networks, within our existing Blue states versus going out right now and necessarily trying to acquire that skill set. But nonetheless, we're always open to thoughts, but we never like to talk about those specific M&A deals.

Okay. Brian, do you want to take those questions?

Okay. With respect to growth in Medicare Advantage, we do anticipate a conversion from our private fee-for-service to our network-based products, so a lot of that would be organic growth. As well as this, we have really built-up the infrastructure to capitalize on WellPoint agent opportunity. As our over 65 members within our commercial and other consumer books of business turn 65, we're very focused on converting those to senior lines of business. But, as Wayne said, the door remains open for potential acquisition opportunities as they present themselves. With respect to SSB, our Medicaid business, we have taken a very close look at that business this year, the business model. We put some new leadership in place. Other than the announced exits that we previously talked about in Nevada leaving at the end of, we're leaving the Nevada market at the end of January and leaving Connecticut, which is on an ASO basis, by the end of the year, we're not anticipating any additional state exits for the coming year. With that said, with 30 states being in budget deficits, we continue to monitor the performance of this business unit very closely and will make the appropriate business calls at that time.

Thank you.

Thank you, Greg.

(Operator Instructions). Next, we will go to the line of Carl McDonald from Oppenheimer. Please go ahead.

Thank you. Wayne, in the past you have given us some broad puts and takes as you think about '09 versus '08 in terms of costs that were incurred this year really related to '07, the benefit of getting out of some unprofitable Medicaid and at the end of this year Medicare markets, the onset of higher incentive comps. So, could you update us just sort of broadly on how you are thinking about those now?

Yes, Carl, I think a lot of those will stay the same. If you were to look at some of the tailwinds, one was we said, if we got reserves right, we wouldn't need to re-strengthen reserves that you would expect somewhere in the $200 million plus range for a tailwind. What I would say is we're feeling very comfortable with our reserves. So I think that's one at this point in time, I'm feeling very good about, I think Angela is feeling very good about it, and that's one I think we would all expect to materialize as long as we continue to maintain the conservative and consistent approach that we have. Two is, we talked about the fact that in the senior market that we thought there would be approximately $100 million tailwind there. Clearly by eliminating the products as Brian had mentioned that were causing us some of our most difficult results, again we made the decision to exit them completely versus trying to modify benefits. I think that tailwind is something we feel very comfortable with at this point in time as well. Of course, we said that in the commercial and individual arenas that we ought to be able to try to price up for some of this and see if we could recover some of last year's, this year's pricing shortfall, coupled with just pricing for trend and getting the leverage of the G&A off that as well. That was the number that we talked about historically being in the $200 million range. That's a number that I don't feel uncomfortable with, but I think, as Angela said, it's one of the reasons we are also postponing guidance and wanting to really give better clarity between how this year finishes out, where the fully…

Thank you for that. Then the second question is just on UniCare profitability this year. If we look at the overall operating earnings being down low double digits for the consolidated book, how does the UniCare profitability compare to that?

We do not specifically spike that out in terms of overall. And as Ken said, there were some specific initiatives within UniCare to make sure that the pricing was right there. It is a challenging environment for UniCare and does not necessarily have all of the same advantages that we have in our Blue states. So we're looking strategically at targeting the opportunities that exist for UniCare and being very focused on how we do that.

Do you think at the end, the UniCare needs to be a much smaller business than it is today?

No, I think that Ken and his team are looking at the way that UniCare can operate in the most strategic and effective way. So Ken, do you want to take that?

I would just say, as we go forward, we're looking at a lot of different strategies and assessing everything, but UniCare will be a different business than it is today. Our licenses are valuable. We can use UniCare in a lot of different ways for everything from doing on a green license. A question came up earlier about tighter networks, using a tighter network around some of our UniCare products and selling it in that way, or if we look towards Internet business in the future, we can use UniCare. Now I'm just using that as two of many examples of things we're looking at. But it is fair to say it will be a different business as we go forward.

Great. Thank you.

Your next question comes from the line of [Anna Gupta] from Sanford Bernstein. Please go ahead.

Thanks. Good morning. I had a couple of questions. One is on the senior market and specifically related to the pipeline for Medicare Advantage. Are you seeing in your National Accounts business that employers, are you seeing traction on group retiree conversions, and is that being accelerated by the economy? Are they showing concern around the recent cuts and potential future cuts to private fee?

Brian, would you take that one?

Yes, I will take that. Since the passage of the most recent Medicare law, what we have seen is actually less interest in moving towards a private fee-for-service based employer group retiree strategy. We see that as a temporary situation. And beginning in 2010 and 2011, as more network- based products get into the market, I think there will be renewed interest in that. We think that we're very well positioned again to capitalize on our National and our Commercial segment and offer employer group retiree plans, as well as the Blue Medicare Advantage, kind of BlueCard network gets up and running, we will be very well positioned to handle national business.

And should we be thinking about that for '09, or is this more long-term in terms of larger groups moving to?

I think '09 we're seeing less interest given the changes in the Medicare because of an employer moved to a private fee-for-service based employer group retiree product, they would have to move in 2010, 2011 to another network-based product. So our outlook is that many employers are questioning the movement in '09 and probably going to be deferring that to later years.

Okay. Thanks. So one more question. Can you comment on the outlook for states regulating and putting in the lower caps and context of what happened recently in California with (inaudible)?

Yes, I'm going to speak to that, [Anna]. We want to have a dialogue about responsible reform, and one of the concerns we had around minimum medical loss ratios is it really creates the wrong policy incentive in terms of the focus needs to be on the cost and quality of health care and delivering the right results there. From a policy perspective, we thought there were better ways to address that. So we do have a focus on responsible health care reform. We think we need to have access. We think it's delivered through public/private partnerships. We need to have coverage for all children in America. We do think there are public programs that need to expand and be effective and strong, particularly in economic situations, particularly those programs that address the most needy. We do think there are opportunities where there could be subsidization, easy for me to say, where we could subsidize premiums for some of the working poor where we have tough issues. And we do think we need, though, to have a strong private market that as we are today delivers affordable products with a wide choice of products for our customers. So when we look at options like minimum medical loss ratio issues, we think while well intentioned, we think that there are more effective ways to address the underlying issue in health care, which is the cost and quality are not where they need to be.

Thanks, Angela. Appreciate it.

Thank you, [Anna].

Your next question comes from the line of Brian Wright from Banc of America. Please go ahead.

Thanks. Good morning. On the sequential decline in other non-current liabilities in the quarter, did that run through operating cash flow this quarter?

Wayne, do you want to take this one?

Yes, Brian, I would have to go back to the specific details, but essentially we use an indirect method cash flow approach. So essentially any changes in the balance sheet are going to run through operating cash flow to the extent that they are operationally related. So the short answer is yes. I just don't have all the pieces in front of me.

So that $400 million could largely be the reduction in the cash flow outlook for the year then?

Yes. But most of the cash flow reduction in guidance is really related to two items. It is just north of $200 million of advances to some providers that we expect to recoup in the early part of next year. And the other part is that we have one very large state customer that is drawing down their premium rate stabilization reserve this year.

Okay. And then would it be fair to assume that you are using the current share authorization in your '09 outlook utilizing that?

Well, again, we will provide more specific guidance on '09 once we get board approval on the plan. But we would expect obviously to get some of that share repurchase done between now and the end of the year. But, at the same time, I want you to know we're being cautious in light of the current market conditions. So obviously whatever we get done this year does impact next year at the same time. Even if we don't get it done this year, if we get it done early next year, it has virtually the same impact on the year.

Okay. And one last quick one. What was the effective tax rate in the quarter, excluding the tax settlement?

I don't have that in front of me. I want to say it was, excuse me one second. For the year-to-date, sorry, Brian, I am just trying to make sure I get you, about 35.75%, 36%.

Right. Thank you.

Thank you.

Operator, unfortunately we're not going to be able to take everyone's call in the queue, but if we could have one last question.

Okay. Your final question today comes from the line of Peter Costa from FTN Midwest. Please go ahead.

Couple of questions actually. First, the higher MLR guidance at the bottom and the lower EPS guidance at the top end of the ranges, what product specifically caused you to change your views there? Was that all of the State Sponsored business or were there other products that contributed to your changing view?

Peter, you're right that the State Sponsored Business we're looking at very carefully in terms of the impact on MLR. Wayne, do we have anything to add?

Yes. I mean most of the increase on the low end is around State Sponsored. As you know, they came out in California obviously with the 10% not being rescinded in full. And more importantly, even when that happened, it's not until March 1 of next year. So while we had baked in some of that because it extends into next year, you are forced to pull some of that forward under a PDR calculation, which we have done. So, first of all, that is driving the low-end. That is timing, as you know, because the PDR will unwind itself throughout part of next year, early next year. So that's the big driver there. In terms of the top end of the range, at this point from our perspective there's obviously a number of factors. We are maintaining a very strong, conservative balance sheet, and we plan to continue to do that between now and obviously the end of the year. Our reserves are very strong at this point. But I wouldn't say it is driven by any underlying cooperation that puts us at a concern or risk. Trend isn't coming down, and we really thought on the higher end, we saw flat to mitigating trends coming downward, and that is not the case.

Okay. And then on the system conversion problems that you had where you paid out advances to some of the hospitals and providers, did you also have any problems with customer service on those system conversions with your customers?

Let me talk about that, Peter, because in terms of that conversion, that was really in the Midwest, and we are now at pre-migration claims inventory levels. And so, I think we have produced the right results in terms of the remediation efforts there. This is a self-funded part of the system. And we are now working through the reconciliation with the providers. Often they leave their ARs open while we go through the reconciliation processes. And as we complete the reconciliations, we will see the return of those advances in terms of cash flow and how we have done that. In terms of impacting the member, most of the issues that we face and the reconciliations that we're working on are with our providers and our provider service. And we want them to be good partners and us to be good partners to them. So we are very focused on re-mediating those issues. And for the most part, our members were not directly impacted by that.

You don't expect any membership rollback the next year from that?

No, we don't. We don't see that happening in terms of membership overall as a result of that specific activity.

Okay. Just to follow-up on the first question, on the State Sponsored Business, you talked about not leaving any other states, are you leaving any counties in California?

Brian, do you want to speak to California in particular?

Yes, with respect to California, we do not anticipate leaving any Medicaid counties. We will be exiting some of the healthy families counties for next year, although we continue to have the largest footprint in California of any Medicaid provider. And we will do so even after exiting a couple of counties within California for healthy families.

How much membership is that?

It's give or take about 60,000.

Okay, Peter. Well, thank you for that last question or questions, and I'm sorry that we aren't able to get to everyone's questions today. We got to as many as we possibly could. But let me close here. Let me reiterate that our core operations remain strong as we continue to execute on our performance improvement plan. We are striving to create the best health care value for our customers. We are excelling at day-to-day execution, and we continue to expand by capitalizing on our unique value proposition and distinctive competitive advantages. By doing this, we intend to provide an appropriate return for our shareholders and drive sustainable long-term results. I want to thank you all for participating in this call this morning. And operator, will you please provide the call replay information? Thank you.

Thank you. Ladies and gentlemen, this conference will be available for replay after 11:00 AM Eastern Time today through November 5th. You may access the AT&T Teleconference Replay System at any time by dialing 1-800-475-6701 and entering the access code 908944. International participants dial 320-365-3844. Those numbers once again are 1-800-475-6701 or 320-365-3844, with the access code 908944. That does conclude your conference for today. Thank you for your participation and for using AT&T Executive Teleconference.