Capital Budgeting

Section 1

Long-term financing policy & capital structure.

Blue Cross Blue Shield of South Carolina a large insurance company that houses and operates several insurance contracts. One of these contracts is called TRICARE. The TRICARE programs are available to family members of active duty military service members and also to military retirees and their dependents. These dependents include:

* Spouses

* Unmarried children under age 21

* Unmarried children under age 23 who are full-time students

* Stepchildren adopted by the sponsor

* The TRICARE program provides health care to more than 8 million beneficiaries.

Those who are eligible must be listed in the Defense Department's worldwide, computerized database, the Defense Enrollment Eligibility Reporting System (DEERS). The Defense Enrollment Eligibility Reporting System (DEERS) is a military database that lists everyone who is eligible for TRICARE benefits People age 65 or older who are eligible for Medicare can receive TRICARE For Life benefits.

The government selects a civilian healthcare organization to serve as Managed Care Contractor for TRICARE. This contractor is Blue Cross and Blue Shield. This contractor supplements all military direct care for TRICARE beneficiaries in the region. Consequently, The contractor, Blue Cross and Blue Shield uses HealthNet Foundation to gather financial support to the TRICARE contract. HealthNet Foundation serves as the prime and facilitates all financial transaction of TRICARE contracts.

Capital Structure

An appropriate capital structure is a critical decision for any business organization. The decision is important not only because of the need to maximize returns to various organizational constituencies, but also because of the impact such a decision has on an organization's ability to deal with its competitive environment. The prevailing argument is that an optimal capital structure exists which balances the risk of bankruptcy with the tax savings of debt. Once established, this capital structure should provide greater returns to stockholders than they would receive from an all-equity firm.

Despite its theoretical appeal, researchers in financial management have not found the optimal capital structure. The best that academics and practitioners have been able to achieve are prescriptions that satisfy short-term goals. For example, in a recent Harvard Business Review article, readers were left with the impression that the use of leverage was one way to improve the performance of an organization. While this can be true in some circumstances, it fails to consider either the complexities of the competitive environment, or the long-term survival needs of the organization.

Health Net Federal Services Inc. (Health Net), a government operations division of Health Net Inc., based in Sacramento, Calif., will provide healthcare services and support to the 2.85 million beneficiaries to TRICARE. Health Net is responsible for maintaining the financial integrity of the financial records of the TRICARE contracts.

Funds are received by the payments to the insurance Carrier by the Department of Defense (DoD). Those funds are then disbursed to the various providers that the beneficiaries use for healthcare treatment. Any Refunds of Overdue payments are handled by the prime and disbursed by the prime.

Cost center and regions divide these allocations of cost. The cost center is budget on the monthly average of the previous quarter's expenses in natural account. A query is used to calculate the final percentage by line of business based on the cost per cost center in relation to the total expenses. This allocation is updated quarterly.

Health Net, Inc. (NYSE:HNT) announced 2004 second quarter net income per diluted share of $.36 compared with $.63 in the second quarter of 2003. Included in these results is the full effect of a $17,402,000 pretax charge, or approximately $.09 per diluted share after tax, for severance and related benefits associated with the workforce reduction

Commenced in the second quarter of 2004.

Health Net reported net income of $41,366,000 in the second quarter of 2004 compared to net income of $74,784,000 in the second quarter of 2003 and $15,012,000 in the first quarter of 2004. The year-over-year decline in net income was primarily the result of higher health care costs. The sequential improvement in net income was primarily the result of lower reported health care costs.

Positive developments for the second quarter of 2004 included:

-- Health Net's Administrative Ratio was 9.4 percent, a 90 basis

point improvement compared to the second quarter of 2003, and

60 basis points lower than the first quarter of 2004, its

lowest level in the last 10 years. General, administrative and

depreciation expenses fell by $16,800,000, or 7.0 percent,

from the first quarter of 2004;

-- A Debt-to-Total Capital ratio of 22.6 percent, below the

company's target of 30 percent and down from 23.9 percent at

the end of the first quarter of 2004;

-- The Government contracts cost ratio improved by 40 basis

points to 95.0 percent, compared with the first quarter of

2004, as the TRICARE program continues to perform well; and

-- Days claims payable increased by 1.4 days sequentially to 46.6

days in the second quarter of 2004. The company noted that it

paid $150 million more in claims in second quarter of 2004

compared with the second quarter of 2003.

Revenues

Health Net's total revenues rose 6.0 percent in the second quarter of 2004 to $2,918,815,000 from $2,752,662,000 in the second quarter of 2003. Health plan services revenue climbed 6.2 percent to $2,398,943,000 in the second

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