UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

Commission File Number: 001-32739

HealthSpring, Inc.

(Exact Name of Registrant as Specified in Its Charter)

Delaware		20-1821898
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)
9009 Carothers Parkway
Suite 501
Franklin, Tennessee		37067
(Address of Principal Executive Offices)		(Zip Code)

(615) 291-7000
(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant (1) has filed all 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 þ No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer þ		Accelerated Filer o		Non-Accelerated Filer o		Smaller Reporting Company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

		Outstanding at October 27, 2009
Common Stock, Par Value $0.01 Per Share		57,583,405 Shares

 

 

TABLE OF CONTENTS

		Page
PART I — FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets at September 30, 2009 and December 31, 2008			1
Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2009 and 2008			2
Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2009 and 2008			3
Notes to Condensed Consolidated Financial Statements			4
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			18
Item 3. Quantitative and Qualitative Disclosures About Market Risk			31
Item 4. Controls and Procedures			32
PART II — OTHER INFORMATION
Item 1. Legal Proceedings			33
Item 1A. Risk Factors			33
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			33
Item 3. Defaults Upon Senior Securities			33
Item 4. Submission of Matters to a Vote of Security Holders			33
Item 5. Other Information			33
Item 6. Exhibits			33
Exhibit 10.1
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2

Part I — FINANCIAL INFORMATION

Item 1:		Financial Statements

HEALTHSPRING, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

		September 30,				December 31,
		2009				2008
Assets
Current assets:
Cash and cash equivalents		$	389,766			$	282,240
Accounts receivable, net			71,546				74,398
Investment securities available for sale			6,066				3,259
Investment securities held to maturity			16,040				24,750
Funds due for the benefit of members			4,085				40,212
Deferred income taxes			3,458				4,198
Prepaid expenses and other			8,794				6,560
Total current assets			499,755				435,617
Investment securities available for sale			18,480				30,463
Investment securities held to maturity			41,924				20,086
Property and equipment, net			29,177				26,842
Goodwill			589,760				590,016
Intangible assets, net			207,739				221,227
Restricted investments			16,260				11,648
Risk corridor receivable from CMS			8,967				—
Other			7,176				8,878
Total assets		$	1,419,238			$	1,344,777
Liabilities and Stockholders’ Equity
Current liabilities:
Medical claims liability		$	200,372			$	190,144
Accounts payable, accrued expenses and other current liabilities			28,305				35,050
Risk corridor payable to CMS			3,089				1,419
Current portion of long-term debt			35,729				32,277
Total current liabilities			267,495				258,890
Deferred income taxes			80,433				89,615
Long-term debt, less current portion			208,425				235,736
Other long-term liabilities			9,027				9,658
Total liabilities			565,380				593,899
Stockholders’ equity:
Common stock, $0.01 par value, 180,000,000 shares authorized, 58,113,246 shares issued and 54,916,737 outstanding at September 30, 2009, 57,811,927 shares issued and 54,619,488 outstanding at December 31, 2008			581				578
Additional paid in capital			511,933				504,367
Retained earnings			389,986				295,170
Accumulated other comprehensive loss, net of tax			(1,288	)			(1,955	)
Treasury stock, at cost, 3,196,509 shares at September 30, 2009 and 3,192,439 shares at December 31, 2008			(47,354	)			(47,282	)
Total stockholders’ equity			853,858				750,878
Total liabilities and stockholders’ equity		$	1,419,238			$	1,344,777

See accompanying notes to condensed consolidated financial statements.

HEALTHSPRING, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Revenue:
Premium revenue		$	649,795			$	515,892			$	1,955,842			$	1,611,450
Management and other fees			9,108				8,207				29,065				24,056
Investment income			877				3,800				3,532				11,975
Total revenue			659,780				527,899				1,988,439				1,647,481
Operating expenses:
Medical expense			519,478				411,703				1,607,481				1,292,042
Selling, general and administrative			65,851				58,634				200,408				177,512
Depreciation and amortization			7,782				7,047				22,948				21,280
Interest expense			3,762				4,520				12,014				14,513
Total operating expenses			596,873				481,904				1,842,851				1,505,347
Income before income taxes			62,907				45,995				145,588				142,134
Income tax expense			(20,593	)			(16,635	)			(50,772	)			(51,494	)
Net income		$	42,314			$	29,360			$	94,816			$	90,640
Net income per common share:
Basic		$	0.78			$	0.53			$	1.74			$	1.61
Diluted		$	0.77			$	0.53			$	1.73			$	1.61
Weighted average common shares outstanding:
Basic			54,518,162				55,693,943				54,502,081				56,137,029
Diluted			54,700,390				55,811,236				54,653,367				56,243,533

See accompanying notes to condensed consolidated financial statements.

HEALTHSPRING, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

		Nine Months Ended
		September 30,
		2009				2008
Cash flows from operating activities:
Net income		$	94,816			$	90,640
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			22,948				21,280
Stock-based compensation			7,513				6,722
Amortization of deferred financing cost			1,785				1,840
Equity in earnings of unconsolidated affiliate			(281	)			(357	)
Deferred tax (benefit) expense			(8,794	)			680
Increase (decrease) in cash due to:
Accounts receivable			3,446				3,997
Prepaid expenses and other current assets			(2,231	)			(1,284	)
Medical claims liability			10,228				29,570
Accounts payable, accrued expenses, and other current liabilities			(6,766	)			9,029
Risk corridor payable to/receivable from CMS			(7,298	)			(8,794	)
Other			94				(772	)
Net cash provided by operating activities			115,460				152,551
Cash flows from investing activities:
Purchases of property and equipment			(11,519	)			(8,386	)
Purchases of investment securities			(39,766	)			(41,181	)
Maturities of investment securities			36,107				51,296
Deposit made for acquisition			—				(7,200	)
Additional consideration paid on acquisition			(910	)			—
Proceeds received on disposition			297				—
Purchases of restricted investments			(16,015	)			(6,410	)
Maturities of restricted investments			11,403				5,857
Distributions from affiliates			196				309
Net cash (used in) investing activities			(20,207	)			(5,715	)
Cash flows from financing activities:
Funds received for the benefit of the members			494,591				378,950
Funds withdrawn for the benefit of members			(458,465	)			(374,557	)
Payments on long-term debt			(23,859	)			(20,994	)
Proceeds from stock options exercised			6				1,210
Purchase of treasury stock			—				(28,347	)
Net cash provided by (used in) financing activities			12,273				(43,738	)
Net increase in cash and cash equivalents			107,526				103,098
Cash and cash equivalents at beginning of period			282,240				324,090
Cash and cash equivalents at end of period		$	389,766			$	427,188
Supplemental disclosures:
Cash paid for interest		$	10,454			$	12,803
Cash paid for taxes		$	62,992			$	48,017

See accompanying notes to condensed consolidated financial statements

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(1) Organization and Basis of Presentation

HealthSpring, Inc., a Delaware corporation (the “Company”), was organized in October 2004 and began operations in March 2005 in connection with a recapitalization transaction accounted for as a purchase. The Company is one of the country’s largest coordinated care plans whose primary focus is on Medicare, the federal government sponsored health insurance program for United States citizens aged 65 and older, qualifying disabled persons, and persons suffering from end-stage renal disease. Through its health maintenance organization (“HMO”) and regulated insurance subsidiaries, the Company operates Medicare Advantage health plans in the states of Alabama, Florida, Illinois, Mississippi, Tennessee, and Texas and offers Medicare Part D prescription drug plans on a national basis. The Company also provides management services to health plans and physician partnerships.

The accompanying condensed consolidated financial statements are unaudited and should be read in conjunction with the consolidated financial statements and notes thereto of HealthSpring, Inc. as of and for the year ended December 31, 2008, included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2008 as filed with the Securities and Exchange Commission (the “SEC”) on February 25, 2009 (the “2008 Form 10-K”).

The accompanying unaudited condensed consolidated financial statements reflect the Company’s financial position as of September 30, 2009, the Company’s results of operations for the three and nine months ended September 30, 2009 and 2008 and cash flows for the nine months ended September 30, 2009 and 2008. Certain 2008 amounts have been reclassified to conform to the 2009 presentation.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Accordingly, certain information and footnote disclosures normally included in complete financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to the rules and regulations applicable to interim financial statements. In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all adjustments (including normally recurring accruals) necessary to present fairly the Company’s financial position at September 30, 2009, its results of operations for the three and nine months ended September 30, 2009 and 2008, and its cash flows for the nine months ended September 30, 2009 and 2008.

The results of operations for the 2009 interim period are not necessarily indicative of the operating results that may be expected for the year ending December 31, 2009. Subsequent events have been evaluated through October 29, 2009, the date of the issuance of the Company’s condensed consolidated financial statements.

The preparation of the condensed consolidated financial statements requires management of the Company to make a number of estimates and assumptions relating to the reported amount of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the period. The most significant item subject to estimates and assumptions is the actuarial calculation for obligations related to medical claims. Other significant items subject to estimates and assumptions include the Company’s estimated risk adjustment payments receivable from The Centers for Medicare & Medicaid Services (“CMS”), the valuation of goodwill and intangible assets, the useful life of definite-lived assets, the valuation of debt securities carried at fair value, and certain amounts recorded related to the Part D program. Actual results could differ significantly from those estimates. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Changes in estimates resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods.

The Company’s HMO and regulated insurance subsidiaries are restricted from making distributions without appropriate regulatory notifications and approvals or to the extent such distributions would put them out of compliance with statutory net worth requirements or requirements under the Company’s credit facilities. At September 30, 2009, $413.3 million of the Company’s $488.5 million of cash, cash equivalents, investment securities, and restricted investments were held by the Company’s HMO and regulated insurance subsidiaries and subject to these dividend restrictions.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(2) Recently Adopted Accounting Pronouncements

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standard (“SFAS”) No. 157, “Fair Value Measurements,” as codified in the FASB’s Accounting Standards Codification (“ASC”) topic 820 (“ASC 820”). ASC 820 establishes a common definition for fair value to be applied to GAAP requiring use of fair value, establishes a framework for measuring fair value, and expands disclosure about such fair value measurements. ASC 820 is effective for financial assets and financial liabilities for fiscal years beginning after November 15, 2007. FSP 157-2 “Partial Deferral of the Effective Date of Statement 157,” as codified in FASB ASC subtopic 820-10, deferred the effective date of ASC 820 for all nonfinancial assets and nonfinancial liabilities to fiscal years beginning after November 15, 2008. The implementation of ASC 820 for financial assets and financial liabilities, effective January 1, 2008, did not have a material impact on the Company’s financial statements and results of operations. The adoption ASC 820 for nonfinancial assets and nonfinancial liabilities, effective January 1, 2009, did not have a material impact on the Company’s financial statements.

In December 2007, the FASB issued SFAS No. 141 (Revised 2007), “Business Combinations,” as codified in FASB ASC topic 805 (“ASC 805”). ASC 805 significantly changes the accounting for business combinations. Under ASC 805, an acquiring entity is required to recognize all the assets acquired and liabilities assumed in a transaction at the acquisition-date fair value with limited exceptions. ASC 805 also includes a substantial number of new disclosure requirements. ASC 805 applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008, which is the year beginning January 1, 2009 for the Company. The adoption of this ASC did not have a material effect on the Company’s financial statements. The provisions of ASC 805 will impact the Company if it is party to a business combination that is consummated after January 1, 2009.

In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements — an amendment of ARB No. 51,” as codified in FASB ASC topic 810 (“ASC 810”). ASC 810 improves the relevance, comparability, and transparency of the financial information that a reporting entity provides in its consolidated financial statements by establishing accounting and reporting standards that require all entities to report noncontrolling (minority) interests in subsidiaries as equity in the consolidated financial statements. Additionally, ASC 810 requires that entities provide sufficient disclosures that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. ASC 810 affects those entities that have an outstanding noncontrolling interest in one or more subsidiaries or that deconsolidate a subsidiary. ASC 810 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. The Company adopted ASC 810 effective January 1, 2009. The adoption of this ASC did not impact the Company’s financial statements.

In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities,” as codified in FASB ASC topic 815 (“ASC 815”). ASC 815 requires enhanced disclosures about an entity’s derivative and hedging activities and was effective for the Company as of the first quarter of fiscal 2009. The adoption of this ASC as of January 1, 2009 required additional disclosures related to renewal or extension assumptions, but did not have a material impact on the Company’s financial statements.

In April 2008, the FASB issued FSP No. FAS 142-3, “Determination of the Useful Life of Intangible Assets,” as codified in FASB ASC subtopic 350-30 (“ASC 350-30”), which amends the list of factors an entity should consider in developing renewal or extension assumptions used in determining the useful life of recognized intangible assets under SFAS No. 142, “Goodwill and Other Intangible Assets,” as codified in FASB ASC topic 350. The new guidance applies to (1) intangible assets that are acquired individually or with a group of other assets and (2) intangible assets acquired in both business combinations and asset acquisitions. Under ASC 350-30, companies estimating the useful life of a recognized intangible asset must consider their historical experience in renewing or extending similar arrangements or, in the absence of historical experience, must consider assumptions that market participants would use about renewal or extension. For the Company, ASC 350-30 requires certain additional disclosures beginning January 1, 2009 and application to useful life estimates prospectively for intangible assets acquired after December 31, 2008. The adoption of this ASC did not have a material impact on the Company’s financial statements.

In April 2009, the FASB issued FSP FAS No. 107-1 and APB 28-1, “Interim Disclosures about Fair Value of Financial Instruments,” as codified in FASB ASC section 825-10-65 (“ASC 825-10-65”), ASC 825-10-65 requires disclosures about fair value of financial instruments for interim reporting periods as well as in annual financial statements. The adoption of ASC 825-10-65 as of the quarter ending June 30, 2009 required additional disclosures, but did not have a material impact on the Company’s financial statements.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

In April 2009, the FASB issued FSP No. 157-4, “Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly,” as codified in FASB ASC section 820-10-65 (“ASC 820-10-65”). ASC 820-10-65 provides additional guidance to highlight and expand on the factors that should be considered in estimating fair value when there has been a significant decrease in market activity for a financial asset. ASC 820-10-65 also requires new disclosures relating to fair value measurement inputs and valuation techniques (including changes in inputs and valuation techniques). The adoption of ASC 820-10-65 as of the quarter ending June 30, 2009 did not impact the Company’s financial statements.

In April 2009, the FASB issued FSP No. FAS 115-2 and FAS 124-2, “Recognition and Presentation of Other-Than-Temporary Impairments,” as codified in FASB ASC section 320-10-65 (“ASC 320-10-65”). ASC 320-10-65 amends current other-than-temporary impairment guidance in GAAP for debt securities to make the guidance more operational and to improve the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. ASC 320-10-65 does not amend existing recognition and measurement guidance related to other-than-temporary impairments of equity securities. ASC 320-10-65 applies to fixed maturity securities only and requires separate display of losses related to credit deterioration and losses related to other market factors. The adoption of ASC 320-10-65 as of June 30, 2009 did not impact the Company’s financial statements.

In May 2009, the FASB issued SFAS No. 165, “Subsequent Events,” as codified in FASB ASC section 855-10-05 (“ASC 855-10-05”). ASC 855-10-05 establishes general standards for accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued (“subsequent events”). More specifically, ASC 855-10-05 sets forth the period after the balance sheet date during which management of a reporting entity should evaluate events or transactions that may occur for potential recognition in the financial statements, identifies the circumstances under which an entity should recognize events or transactions occurring after the balance sheet date in its financial statements and the disclosures that should be made about events or transactions that occur after the balance sheet date. See Note 1, “Organization and Basis of Presentation” for the related disclosures. The adoption of ASC 855-10-05 in the second quarter of 2009 did not impact the Company’s financial statements.

In June 2009, the FASB issued SFAS No. 168, “The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principles, a replacement of FASB Statement No. 162,” and establishes only two levels of U.S. GAAP, authoritative and nonauthoritative. The FASB Accounting Standards Codification (the “Codification”) became the source of authoritative, nongovernmental GAAP, except for rules and interpretive releases of the SEC, which are sources of authoritative GAAP for SEC registrants. All other non-grandfathered, non-SEC accounting literature not included in the Codification became nonauthoritative. This standard is effective for financial statements for interim or annual reporting periods ending after September 15, 2009. The Company began to use the new guidelines and numbering system prescribed by the Codification when referring to GAAP in the quarter ended September 30, 2009. As the Codification was not intended to change or alter existing GAAP, it did not have an impact on the Company’s financial statements.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(3) Accounts Receivable

Accounts receivable at September 30, 2009 and December 31, 2008 consisted of the following (in thousands):

		September 30,				December 31,
		2009				2008
Medicare premium receivables		$	27,299			$	31,535
Rebates			33,524				25,603
Due from providers			11,976				17,409
Other			3,011				1,871
		$	75,810			$	76,418
Allowance for doubtful accounts			(4,264	)			(2,020	)
Total		$	71,546			$	74,398

Medicare premium receivables at September 30, 2009 include $24.3 million for receivables from CMS related to the accrual of retroactive risk adjustment payments for the Final CMS Settlement (as defined below) for the 2009 plan year which will not be paid until the second half of 2010.

The Company’s Medicare premium revenue is subject to adjustment based on the health risk of its members. This process for adjusting premiums is referred to as the CMS risk adjustment payment methodology. Under the risk adjustment payment methodology, coordinated care plans must capture, collect, and report diagnosis code information to CMS. After reviewing the respective submissions, CMS establishes the payments to Medicare plans generally at the beginning of the calendar year, and then adjusts premiums on two separate occasions on a retroactive basis.

The first retroactive risk premium adjustment for a given fiscal year generally occurs during the third quarter of such fiscal year. This initial settlement (the “Initial CMS Settlement”) represents the updating of risk scores for the current year based on updated diagnoses from the prior year. CMS then issues a final retroactive risk premium adjustment settlement for that fiscal year in the following year (the “Final CMS Settlement”).

All such estimated amounts are periodically updated as additional diagnosis code information is reported to CMS and are adjusted to actual amounts when the ultimate settlements are known to the Company.

During the first half of 2009, the company updated its estimated Final CMS Settlement payment amounts for 2008 as a result of additional diagnosis code information and ultimately upon receiving notification in July 2009 from CMS of Final CMS Settlements for 2008. The change in estimate related to the 2008 plan year resulted in an additional $-0- and $6.5 million of premium revenue for the three and nine months ended September 30, 2009. The impact of the change in estimate during 2009 relating to the 2008 plan year on net income, after the expense for risk sharing with providers and income tax expense, for the nine months ended September 30, 2009, was $2.1 million. Similarly, the impact of the change in estimate related to the 2007 plan year resulted in an additional $29.3 million of premium revenue for the nine months ended September 30, 2008. The resulting impact of such changes on net income, after the expense for risk sharing with providers and income tax expense, for the nine months ended September 30, 2008, was $13.4 million.

Rebates for drug costs represent estimated rebates owed to the Company from prescription drug companies. The Company has entered into contracts with certain drug manufacturers which provide for rebates to the Company based on the utilization of specific prescription drugs by the Company’s members. Due from providers primarily includes management fees receivable as well as amounts owed to the Company for the refund of certain medical expenses paid by the Company under risk sharing agreements. Accounts receivable relating to unpaid health plan enrollee premiums are recorded during the period the Company is obligated to provide services to enrollees and do not bear interest. The Company does not have any off-balance sheet credit exposure related to its health plan enrollees.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(4) Investment Securities

There were no investment securities classified as trading as of September 30, 2009 or December 31, 2008. Investment securities available for sale classified as current assets were as follows (in thousands):

September 30, 2009

December 31, 2008

Gross

Gross

Gross

Gross

Unrealized

Unrealized

Unrealized

Unrealized

Amortized

Holding

Holding

Estimated

Amortized

Holding

Holding

Estimated

Cost

Gains

Losses

Fair Value

Cost

Gains

Losses

Fair Value

Municipal bonds

$

5,962

104

—

6,066

$

3,195

64

—

3,259

Investment securities available for sale classified as non-current assets were as follows (in thousands):

		September 30, 2009																December 31, 2008
						Gross				Gross												Gross				Gross
						Unrealized				Unrealized												Unrealized				Unrealized
		Amortized				Holding				Holding				Estimated				Amortized				Holding				Holding				Estimated
		Cost				Gains				Losses				Fair Value				Cost				Gains				Losses				Fair Value
Municipal bonds		$	18,172				308				—				18,480			$	24,874				262				(206	)			24,930
Corporate debt securities			—				—				—				—				5,533				—				—				5,533
		$	18,172				308				—				18,480			$	30,407				262				(206	)			30,463

Investment securities held to maturity classified as current assets were as follows (in thousands):

		September 30, 2009																December 31, 2008
						Gross				Gross												Gross				Gross
						Unrealized				Unrealized												Unrealized				Unrealized
		Amortized				Holding				Holding				Estimated				Amortized				Holding				Holding				Estimated
		Cost				Gains				Losses				Fair Value				Cost				Gains				Losses				Fair Value
U.S. Treasury securities		$	1,815				2				—				1,817			$	3,649				22				—				3,671
Municipal bonds			2,024				21				—				2,045				1,738				7				—				1,745
Government agencies			5,111				21				—				5,132				10,761				134				—				10,895
Corporate debt securities			7,090				71				—				7,161				8,602				15				(26	)			8,591
		$	16,040				115				—				16,155			$	24,750				178				(26	)			24,902

Investment securities held to maturity classified as non-current assets were as follows (in thousands):

		September 30, 2009																December 31, 2008
						Gross				Gross												Gross				Gross
						Unrealized				Unrealized												Unrealized				Unrealized
		Amortized				Holding				Holding				Estimated				Amortized				Holding				Holding				Estimated
		Cost				Gains				Losses				Fair Value				Cost				Gains				Losses				Fair Value
Municipal bonds		$	22,988				454				(48	)			23,394			$	7,500				97				(71	)			7,526
Government agencies			4,628				35				—				4,663				3,081				243				—				3,324
Corporate debt securities			14,308				350				—				14,658				9,505				85				(70	)			9,520
		$	41,924				839				(48	)			42,715			$	20,086				425				(141	)			20,370

There were no realized gains or losses on maturities of investment securities for the three and nine months ended September 30, 2009 and 2008.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Maturities of investments were as follows at September 30, 2009 (in thousands):

		Available for sale								Held to maturity
		Amortized				Estimated				Amortized				Estimated
		Cost				Fair Value				Cost				Fair Value
Due within one year		$	5,962				6,066			$	16,040				16,155
Due after one year through five years			8,327				8,599				36,761				37,350
Due after five years through ten years			1,475				1,505				5,163				5,365
Due after ten years			8,370				8,376				—				—
		$	24,134				24,546			$	57,964				58,870

Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at September 30, 2009, were as follows (in thousands):

Less Than

More Than

12 Months

12 Months

Total

Unrealized

Fair

Unrealized

Fair

Unrealized

Fair

Losses

Value

Losses

Value

Losses

Value

Municipal bonds

$

20

2,921

28

803

48

3,724

The Company reviews fixed maturities and equity securities with a decline in fair value from cost for impairment based on criteria that include duration and severity of decline; financial viability and outlook of the issuer; and changes in the regulatory, economic and market environment of the issuer’s industry or geographic region.

Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2008, were as follows (in thousands):

		Less Than								More Than
		12 Months								12 Months								Total
		Unrealized				Fair				Unrealized				Fair				Unrealized				Fair
		Losses				Value				Losses				Value				Losses				Value
Municipal bonds		$	277				5,894				—				—				277				5,894
Corporate debt securities			95				10,959				1				299				96				11,258
Total		$	372				16,853				1				299				373				17,152

Municipal Bonds and Government Agencies: The unrealized losses on investments in municipal bonds were caused by an increase in investment yields as a result of a widening of credit spreads. The contractual terms of these investments do not permit the issuer to settle the securities at a price less than the amortized cost of the investment. For periods prior to April 1, 2009, the Company determined that it had the ability and intent to hold these investments until maturity, thus these investments are not considered other-than-temporarily impaired. For periods beginning on or after April 1, 2009, the Company determined that it did not intend to sell these investments and that it was not more-likely-than-not to be required to sell these investments prior to their recovery, thus these investments are not considered other-than-temporarily impaired.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Corporate Debt Securities: The unrealized losses on corporate debt securities were caused by an increase in investment yields as a result of a widening of credit spreads. The contractual terms of the bonds do not allow the issuer to settle the securities at a price less than the face value of the bonds. For periods prior to April 1, 2009, the Company determined that it had the ability and intent to hold these investments until maturity, thus these investments are not considered other-than-temporarily impaired. For periods beginning on or after April 1, 2009, the Company determined that it did not intend to sell these investments and that it was not more-likely-than-not to be required to sell these investments prior to their recovery, thus these investments are not considered other-than-temporarily impaired.

(5) Fair Value Measurements

The Company’s 2009 third quarter condensed consolidated balance sheet includes the following financial instruments: cash and cash equivalents, accounts receivable, investment securities, restricted investments, accounts payable, medical claims liabilities, interest rate swap agreements, funds due (held) from CMS for the benefit of members, and long-term debt. The carrying amounts of accounts receivable, funds due (held) from CMS for the benefit of members, accounts payable, and medical claims liabilities approximate their fair value because of the relatively short period of time between the origination of these instruments and their expected realization. The fair value of the Company’s long-term debt (including the current portion) was $225.8 million at September 30, 2009 and consisted solely of non-tradable bank debt.

Cash and cash equivalents consist of such items as certificates of deposit, commercial paper, and money market funds. The original cost of these assets approximates fair value due to their short-term maturity. The fair value of the Company’s interest rate swap agreements are derived from a discounted cash flow analysis based on the terms of the contract and the interest rate curve. In addition, the Company incorporates credit valuation adjustments to appropriately reflect both its own non-performance or credit risk and the counterparties’ non-performance or credit risk in the fair value measurements. Credit risk under these swap arrangements is believed to be remote as the counterparties to the Company’s interest rate swap agreements are major financial institutions and the Company does not anticipate non-performance by the counterparties. The Company has designated its interest rate swaps as cash flow hedges which are recorded in the Company’s consolidated balance sheet at fair value. The fair value of the Company’s interest rate swaps at September 30, 2009 reflected a liability of approximately $2.5 million and is included in other long term liabilities in the accompanying consolidated balance sheet. The fair values of available for sale securities is determined by pricing models developed using market data provided by a third party vendor.

The following are the levels of the hierarchy as defined by SFAS No. 157, as codified in FASB ASC topic 820, and a brief description of the type of valuation information (“inputs”) that qualifies a financial asset for each level:

Level Input		Input Definition
Level I		Inputs are unadjusted quoted prices for identical assets or liabilities in active markets at the measurement date.
Level II		Inputs other than quoted prices included in Level I that are observable for the asset or liability through corroboration with market data at the measurement date.
Level III		Unobservable inputs that reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date.

When quoted prices in active markets for identical assets are available, the Company uses these quoted market prices to determine the fair value of financial assets and classifies these assets as Level I. In other cases where a quoted market price for identical assets in an active market is either not available or not observable, the Company obtains the fair value from a third party vendor that uses pricing models, such as matrix pricing, to determine fair value. These financial assets would then be classified as Level II. In the event quoted market prices were not available, the Company would determine fair value using broker quotes or an internal analysis of each investment’s financial statements and cash flow projections. In these instances, financial assets would be classified based upon the lowest level of input that is significant to the valuation. Thus, financial assets might be classified in Level III even though there could be some significant inputs that may be readily available.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

The following table summarizes fair value measurements by level at September 30, 2009 for assets and liabilities measured at fair value on a recurring basis (in thousands):

		Level I				Level II				Level III				Total
Assets
Cash and cash equivalents		$	389,766			$	—			$	—			$	389,766
Investment securities, available for sale:
municipal bonds		$	—			$	24,546			$	—			$	24,546
Liabilities
Derivative — interest rate swaps		$	—			$	2,530			$	—			$	2,530

(6) Medical Liabilities

The Company’s medical liabilities at September 30, 2009 and December 31, 2008 consisted of the following (in thousands):

		September 30,				December 31,
		2009				2008
Medicare medical liabilities		$	146,270			$	126,762
Pharmacy liabilities			54,102				63,382
Total		$	200,372			$	190,144

(7) Medicare Part D

Total Part D related net assets (excluding medical claims payable) of $38,793 at December 31, 2008 all relate to the 2008 CMS plan year. The Company’s Part D related assets and liabilities (excluding medical claims payable) at September 30, 2009 were as follows (in thousands):

		Related to the				Related to the
		2008 plan year				2009 plan year				Total
Current assets (liabilities):
Funds due (held) for the benefit of members		$	38,972			$	(34,887	)		$	4,085
Risk corridor payable to CMS		$	(3,089	)		$	—			$	(3,089	)
Non-current assets:
Risk corridor receivable from CMS		$	—			$	8,967			$	8,967

Balances associated with risk corridor amounts are expected to be settled in the second half of the year following the year to which they relate. In October 2009, the Company received notification from CMS that net settlement amounts due to the Company from CMS totaled $36.6 million. Current year Part D amounts are routinely updated in subsequent periods as a result of retroactivity.

(8) Derivatives

In October 2008, the Company entered into two interest rate swap agreements relating to the floating interest rate component of the term loan agreement under its $400.0 million, five year credit facility (collectively, the “Credit Agreement”). The total notional amount covered by the agreements is $100.0 million of the currently $244.2 million outstanding under the term loan agreement. Under the swap agreements, the Company is required to pay a fixed interest rate of 2.96% and is entitled to receive LIBOR every month until October 31, 2010. The actual interest rate payable under the Credit Agreement in each case contains an applicable margin, which is not affected by the swap agreements. The interest rate swap agreements are classified as cash flow hedges, as defined by SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as codified in FASB ASC topic 815. See Note 5 for a discussion of fair value accounting related to the swap agreements.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

The Company entered into the two interest rate swap derivatives to convert floating-rate debt to fixed-rate debt. The Company’s interest rate swap agreements involve agreements to pay a fixed rate and receive a floating rate, at specified intervals, calculated on an agreed-upon notional amount. The Company’s objective in entering into these financial instruments is to mitigate its exposure to significant unplanned fluctuations in earnings caused by volatility in interest rates. The Company does not use any of these instruments for trading or speculative purposes.

Derivative instruments used by the Company involve, to varying degrees, elements of credit risk, in the event a counterparty should default, and market risk, as the instruments are subject to interest rate fluctuations.

All derivatives are recognized on the balance sheet at their fair value. To date, the two derivatives entered into by the Company qualify for and are designated as cash flow hedges. To the extent that the cash flow hedges are effective, changes in their fair value are recorded in other comprehensive income (loss) until earnings are affected by the variability of cash flows of the hedged transaction (e.g. until periodic settlements of a variable asset or liability are recorded in earnings). Any hedge ineffectiveness (which represents the amount by which the changes in the fair value of the derivatives differ from changes in the fair value of the hedged instrument) is recorded in current-period earnings. Also, on a quarterly basis, the Company measures hedge effectiveness by completing a regression analysis comparing the present value of the cumulative change in the expected future interest to be received on the variable leg of its swap against the present value of the cumulative change in the expected future interest payments on its variable rate debt.

A summary of the aggregate notional amounts, balance sheet location and estimated fair values of derivative financial instruments at September 30, 2009 is as follows (in thousands):

Notional

Estimated Fair Value

Hedging instruments

Amount

Balance Sheet Location

Asset

(Liability)

Interest rate swaps

$

100,000

Other noncurrent liabilities

—

(2,530

)

A summary of the effect of cash flow hedges on the Company’s financial statements is as follows (in thousands):

Effective Portion

Ineffective Portion

Hedge Gain

Income Statement

(Loss)

Pretax Hedge

Location of Gain

Reclassified

Gain (Loss)

(Loss) Reclassified

from

Income

Recognized in

from Accumulated

Accumulated

Statement

Other

Other

Other

Location of

Hedge Gain

Comprehensive

Comprehensive

Comprehensive

Gain (Loss)

(Loss)

Type of Cash Flow Hedge

Income

Income

Income

Recognized

Recognized

For the three months ended September 30, 2009:

Interest rate swaps

$

137

Interest Expense

$

—

None

$

—

For the nine months ended September 30, 2009:

Interest rate swaps

$

725

Interest Expense

$

—

None

$

—

(9) Stock-Based Compensation

Stock Options

The Company granted options to purchase 150,000 and 590,528 shares of common stock pursuant to the 2006 Equity Incentive Plan during the three and nine months ended September 30, 2009, respectively. Options for the purchase of 4,103,132 shares of common stock were outstanding under this plan at September 30, 2009. The outstanding options vest and become exercisable based on time, generally over a four-year period, and expire ten years from their grant dates. Upon exercise, options are settled with authorized but unissued Company common stock or treasury shares.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

The fair value for all options granted during the three and nine months ended September 30, 2009 and 2008 was determined on the date of grant and was estimated using the Black-Scholes option-pricing model with the following assumptions:

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Expected dividend yield			0.0	%			0.0	%			0.0	%			0.0	%
Expected volatility			58.0	%			39.5	%			43.6-58.0	%			36.2-39.5	%
Expected term		5 years				5 years				5 years				5 years
Risk-free interest rates			2.84	%			3.23	%			1.88-2.84	%			2.93-3.23	%

The weighted average fair values of stock options granted during the nine months ended September 30, 2009 and 2008 were $6.32 and $7.28, respectively. The cash proceeds to the Company from stock options exercised during the three and nine months ended September 30, 2009 were immaterial.

Total compensation expense related to unvested options not yet recognized was $11.2 million at September 30, 2009. The Company expects to recognize this compensation expense over a weighted average period of 2.2 years.

Restricted Stock

During the three and nine months ended September 30, 2009, the Company granted 12,500 and 185,075 shares, respectively, of restricted stock to employees pursuant to the 2006 Equity Incentive Plan, the restrictions of which generally lapse over a four-year period. Additionally, in the first quarter of 2009, 67,809 shares were purchased by certain executives pursuant to the Management Stock Purchase Program (the “MSPP”). The restrictions on shares purchased under the MSPP generally lapse on the second anniversary of the grant date.

During the three and nine months ended September 30, 2009, the Company awarded -0- and 60,516 shares, respectively, of restricted stock to non-employee directors pursuant to the 2006 Equity Incentive Plan, all of which were outstanding at September 30, 2009. The restrictions relating to the restricted stock awarded in the current period lapse one year from the grant date. In the event a director resigns or is removed prior to the lapsing of the restriction, or if the director fails to attend 75% of the board and applicable committee meetings during the one-year period, shares would be forfeited unless resignation or failure to attend is caused by death or disability.

Total compensation expense related to unvested restricted stock awards not yet recognized, including awards made in previous periods, was $3.8 million at September 30, 2009. The Company expects to recognize this compensation expense over a weighted average period of approximately 2.7 years. Unvested restricted stock at September 30, 2009 totaled 417,438 shares.

Stock-based Compensation

Stock-based compensation is included in selling, general and administrative expense. Stock-based compensation for the three and nine months ended September 30, 2009 and 2008 consisted of the following (in thousands):

										Total
		Compensation Expense Related To:								Compensation
		Restricted Stock				Stock Options				Expense
Three months ended September 30, 2009		$	426			$	1,929			$	2,355
Three months ended September 30, 2008			391				1,844				2,235
Nine months ended September 30, 2009			1,441				6,072				7,513
Nine months ended September 30, 2008			1,096				5,626				6,722

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(10) Net Income Per Common Share

The following table presents the calculation of the Company’s net income per common share — basic and diluted (in thousands, except share data):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Numerator:
Net income		$	42,314			$	29,360			$	94,816			$	90,640
Denominator:
Weighted average common shares outstanding — basic			54,518,162				55,693,943				54,502,081				56,137,029
Dilutive effect of stock options			77,250				94,599				75,857				91,838
Dilutive effect of unvested restricted shares			104,978				22,694				75,429				14,666
Weighted average common shares outstanding — diluted			54,700,390				55,811,236				54,653,367				56,243,533
Net income per common share:
Basic		$	0.78			$	0.53			$	1.74			$	1.61
Diluted		$	0.77			$	0.53			$	1.73			$	1.61

Diluted earnings per share (“EPS”) reflects the potential dilution that could occur from outstanding equity plan awards, including unexercised stock options and unvested restricted shares. The dilutive effect is computed using the treasury stock method, which assumes all share-based awards are exercised and the hypothetical proceeds from exercise are used by the Company to purchase common stock at the average market price during the period. The incremental shares (difference between shares assumed to be issued versus purchased), to the extent they would have been dilutive, are included in the denominator of the diluted EPS calculation. Options with respect to 4.2 million shares and 3.7 million shares were antidilutive and therefore excluded from the computation of diluted earnings per share for the three and nine months ended September 30, 2009 and 2008, respectively. Approximately 2.7 million shares of common stock held in escrow are excluded from the computation of basic and diluted earnings per share until such time that all conditions for their release from escrow have been satisfied. See Note 15 — Subsequent Event, for further discussion of escrowed shares.

In June 2007, the Company’s Board of Directors authorized a stock repurchase program to buy back up to $50.0 million of the Company’s common stock over the subsequent 12 months. In May 2008, the Company’s Board of Directors extended this program to June 30, 2009. On June 30, 2009 the repurchase program expired in accordance with its terms. Over the life of the repurchase program, the Company repurchased approximately 2.8 million shares of its common stock for approximately $47.3 million, at an average cost of $16.65 per share.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(11) Intangible Assets

A breakdown of the identifiable intangible assets and their assigned value and accumulated amortization at September 30, 2009 is as follows (in thousands):

		Gross Carrying				Accumulated
		Amount				Amortization				Net
Trade name		$	24,497			$	—			$	24,497
Noncompete agreements			800				733				67
Provider network			137,098				19,642				117,456
Medicare member network			93,620				29,016				64,604
Management contract right			1,555				440				1,115
		$	257,570			$	49,831			$	207,739

Amortization expense on identifiable intangible assets for the three months ended September 30, 2009 and 2008 was approximately $4.5 million and $4.7 million, respectively. Amortization expense on identifiable intangible assets for the nine months ended September 30, 2009 and 2008 was approximately $13.8 million and $14.5 million, respectively.

(12) Comprehensive Income

The following table presents details supporting the determination of comprehensive income for the three and nine months ended September 30, 2009 and 2008 (in thousands):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
Net income		$	42,314			$	29,360			$	94,816			$	90,640
Net unrealized gain on available for sale investment securities, net of tax			51				4				189				109
Net gain on interest rate swaps, net of tax			84				—				478				—
Comprehensive income, net of tax		$	42,449			$	29,364			$	95,483			$	90,749

(13) Segment Information

The Company reports its business in four segments: Medicare Advantage, stand-alone Prescription Drug Plan, Commercial, and Corporate. Medicare Advantage (“MA-PD”) consists of Medicare-eligible beneficiaries receiving healthcare benefits, including prescription drugs, through a coordinated care plan qualifying under Part C and Part D of the Medicare Program. Stand-alone Prescription Drug Plan (“PDP”) consists of Medicare-eligible beneficiaries receiving prescription drug benefits on a stand-alone basis in accordance with Medicare Part D. Commercial consists of the Company’s commercial health plan business. The Commercial segment was insignificant as of September 30, 2009 and 2008. The Corporate segment consists primarily of corporate expenses not allocated to the other reportable segments. The Company identifies its segments in accordance with the aggregation provisions of SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information,” as codified in FASB ASC topic 280 which aggregates products with similar economic characteristics. These characteristics include the nature of customer groups as well as pricing and benefits. These segment groupings are also consistent with information used by the Company’s chief executive officer in making operating decisions.

The accounting policies of each segment are the same and are described in Note 1 to the 2008 Form 10-K. The results of each segment are measured and evaluated by earnings before interest expense, depreciation and amortization expense, and income taxes (“EBITDA”). The Company does not allocate certain corporate overhead amounts (classified as selling, general and administrative expenses) or interest expense to the segments. The Company evaluates interest expense, income taxes, and asset and liability details on a consolidated basis as these items are managed in a corporate shared service environment and are not the responsibility of segment operating management.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

Revenue includes premium revenue, management and other fee income, and investment income.

Asset and equity details by reportable segment have not been disclosed, as the Company does not internally report such information.

Financial data by reportable segment for the three and nine months ended September 30 is as follows (in thousands):

		MA-PD				PDP				Commercial				Corporate				Total
Three months ended September 30, 2009
Revenue		$	589,966			$	69,044			$	754			$	16			$	659,780
EBITDA			71,983				10,644				(269	)			(7,907	)			74,451
Depreciation and amortization expense			6,330				20				—				1,432				7,782
Three months ended September 30, 2008
Revenue		$	466,916			$	59,917			$	960			$	106			$	527,899
EBITDA			57,477				6,429				670				(7,014	)			57,562
Depreciation and amortization expense			6,060				2				—				985				7,047
Nine months ended September 30, 2009
Revenue		$	1,736,970			$	249,158			$	2,269			$	42			$	1,988,439
EBITDA			183,866				18,557				(277	)			(21,596	)			180,550
Depreciation and amortization expense			19,052				60				—				3,836				22,948
Nine months ended September 30, 2008
Revenue		$	1,430,899			$	211,923			$	4,346			$	313			$	1,647,481
EBITDA			190,758				7,974				66				(20,871	)			177,927
Depreciation and amortization expense			18,261				5				—				3,014				21,280

As of January 1, 2009, the Company revised its methodology for allocating the selling, general, and administrative expenses, but only within its prescription drug operations, which resulted in its allocating a greater share of such expenses to its MA-PD segment. As such, the MA-PD and PDP segment EBITDA amounts for the 2008 period include reclassification adjustments between segments such that the periods presented are comparable.

A reconciliation of reportable segment EBITDA to net income included in the consolidated statements of income for the three and nine months ended September 30 is as follows (in thousands):

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
		2009				2008				2009				2008
EBITDA		$	74,451			$	57,562			$	180,550			$	177,927
Income tax expense			(20,593	)			(16,635	)			(50,772	)			(51,494	)
Interest expense			(3,762	)			(4,520	)			(12,014	)			(14,513	)
Depreciation and amortization			(7,782	)			(7,047	)			(22,948	)			(21,280	)
Net Income		$	42,314			$	29,360			$	94,816			$	90,640

The Company uses segment EBITDA as an analytical indicator for purposes of assessing segment performance, as is common in the healthcare industry. Segment EBITDA should not be considered as a measure of financial performance under generally accepted accounting principles and segment EBITDA, as presented, may not be comparable to other companies.

HEALTHSPRING, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

(14) Related Parties

Renaissance Physician Organization (“RPO”) is a Texas non-profit corporation the members of which are GulfQuest L.P., one of the Company’s wholly-owned HMO management subsidiaries, and 14 affiliated independent physician associations, comprised of over 1,000 physicians providing medical services primarily in and around counties surrounding and including the Houston, Texas metropolitan area. Texas HealthSpring, LLC, the Company’s Texas HMO, has contracted with RPO to provide professional medical and covered medical services and procedures to its members. Pursuant to that agreement, RPO shares risk relating to the provision of such services, both upside and downside, with the Company on a 50%/50% allocation. Another agreement the Company has with RPO delegates responsibility to GulfQuest L.P. for medical management, claims processing, provider relations, credentialing, finance, and reporting services for RPO’s Medicare and commercial members. Pursuant to that agreement, GulfQuest L.P. receives a management fee, calculated as a percentage of Medicare premiums, plus a dollar amount per member per month for RPO’s commercial members. In addition, RPO pays GulfQuest, L.P. 25% of the profits from RPO’s operations.

FASB Interpretation No. 46 (Revised December 2003), “Consolidation of Variable Interest Entities — an interpretation of ARB No. 51,” as codified in FASB ASC topic 810 (“ASC 810”) requires an entity to consolidate a variable interest entity (“VIE”) if that entity holds a variable interest that will absorb a majority of the VIE’s expected losses, receive a majority of the VIE’s expected residual returns, or both. The entity required to consolidate a VIE is known as the primary beneficiary. The Company has evaluated its interests in RPO and concluded that it is not the primary beneficiary of RPO, and as such is not required to consolidate RPO. The Company does not carry any investment in RPO on its balance sheet but does record management and other fees as well as medical expenses (under the contractual provisions discussed above) in its results from operations. Under ASC 810, VIEs are reassessed for consolidation when reconsideration events occur. Reconsideration events include changes to the VIEs’ governing documents that reallocate the expected losses/returns of the VIE between the primary beneficiary and other variable interest holders or sales and purchases of variable interests in the VIE.

(15) Subsequent Event

In October 2007, the Company acquired LMC Health Plans for $355.0 million in cash and 2,666,667 shares of the Company’s common stock, which share consideration was deposited in escrow and would be released to the former stockholders of LMC Health Plans if Leon Medical Centers, Inc. completed the construction of two additional medical centers in accordance with the timetable set forth in the stock purchase agreement. As of September 30, 2009, the contingent consideration represented by the 2,666,667 shares placed in escrow were not included in the purchase price and were excluded from outstanding and issued shares on the Company’s consolidated balance sheet.

In late October 2009, the second new medical center was completed, thereby satisfying the contingency for the release of the escrowed shares. As such, these shares will be included in the computation of basic and diluted earnings per share in the fourth quarter of 2009 and as issued and outstanding on the Company’s balance sheet as of the end of October 2009. The Company will also record additional purchase price in the fourth quarter of 2009 associated with the release of such shares.

Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion and analysis in conjunction with our condensed consolidated financial statements and related notes included elsewhere in this report and our audited consolidated financial statements and the notes thereto for the year ended December 31, 2008, appearing in our Annual Report on Form 10-K that was filed with the Securities and Exchange Commission (“SEC”) on February 25, 2009 (the “2008 Form 10-K”). Statements contained in this Quarterly Report on Form 10-Q that are not historical fact are forward-looking statements that the company intends to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. Statements that are predictive in nature, that depend on or refer to future events or conditions, or that include words such as “anticipates,” “believes,” “could,” “estimates,” “expects,” “intends,” “may,” “plans,” “potential,” “predicts,” “projects,” “should,” “will,” “would,” and similar expressions are forward-looking statements.

The company cautions that forward-looking statements involve known and unknown risks, uncertainties, and other factors that may cause our actual results, performance, or achievements to be materially different from any future results, performance, or achievements expressed or implied by the forward-looking statements. Forward-looking statements reflect our current views with respect to future events and are based on assumptions and subject to risks and uncertainties. Given these uncertainties, you should not place undue reliance on these forward-looking statements.

In evaluating any forward-looking statement, you should specifically consider the information set forth under the captions “Special Note Regarding Forward-Looking Statements” and “Item 1A. Risk Factors” in the 2008 Form 10-K and the information set forth under “Cautionary Statement Regarding Forward-Looking Statements” in our earnings and other press releases, as well as other cautionary statements contained in our 2009 periodic filings and elsewhere in this report, including the matters discussed in “Critical Accounting Policies and Estimates” and “Item 1A. Risk Factors.” We undertake no obligation beyond that required by law to update publicly any forward-looking statements for any reason, even if new information becomes available or other events occur in the future. You should read this report and the documents that we reference in this report and have filed as exhibits to this report completely and with the understanding that our actual future results may be materially different from what we expect.

Overview

General

HealthSpring, Inc. (the “company” or “HealthSpring”) is one of the country’s largest coordinated care plans whose primary focus is Medicare, the federal government-sponsored health insurance program for U.S. citizens aged 65 and older, qualifying disabled persons, and persons suffering from end-stage renal disease.

We operate Medicare Advantage plans in Alabama, Florida, Illinois, Mississippi, Tennessee, and Texas and offer Medicare Part D prescription drug plans on a national basis. We sometimes refer to our Medicare Advantage plans, including plans providing prescription drug benefits, or “MA-PD,” collectively as “Medicare Advantage” plans and our stand-alone prescription drug plan as our “PDP.” For purposes of additional analysis, the company provides membership and certain financial information, including premium revenue and medical expense, for our Medicare Advantage (including MA-PD) and PDP plans.

Medicare premiums, including premiums paid to our PDP, account for substantially all of our revenue. As a consequence, our profitability is dependent on government funding levels for Medicare programs. The President and both houses of Congress are currently engaged in active debate concerning the reformation of the structure and funding for the U.S. healthcare system, including the Medicare program. Although the bills currently being considered have not become law, various proposals contain items that, if adopted as law, we expect would have a material adverse impact on Medicare Advantage plans, generally, and our plans, specifically. Such proposals include, without limitation, provisions reducing Medicare funding, provisions requiring “competitive bidding” against a reduced plan benefit design, legally-imposed minimum medical loss ratios, premium excise taxes, and further limitations on Medicare Advantage marketing and enrollment periods. Given the inherent uncertainty in the legislative process, we are not currently able to predict what provisions will become law, if any, or the potential impact on the profitability or viability of any of our Medicare Advantage plans, or the potential impact of legislative changes on our Medicare Advantage plan members and their benefits.

We disclose our results by reportable segment in accordance with Statement of Financial Accounting Standard (“SFAS”) No. 131, “Disclosures about Segments of an Enterprise and Related Information,” as codified in the Financial Accounting Standards Board’s Accounting Standards Codification (“FASB ASC”) topic 280. We report our business in four segments: Medicare Advantage; PDP; Commercial; and Corporate. The following discussion of our results of operations includes a discussion of revenue and certain expenses by reportable segment. See “—Segment Information” below for additional information related thereto.

In late October 2009, Leon Medical Centers (“LMC”) completed the second new medical center in Miami-Dade County, Florida, thereby satisfying the contingency for the release of 2,666,667 shares (the “Leon Shares”) of company common stock to the former shareholders of Leon Medical Centers Health Plans, Inc., which was acquired by the company in October 2007. The Leon Shares were placed in escrow at the time of the acquisition pending completion of the two new centers by LMC, which brings the total number of LMC medical centers under exclusive arrangements with the company to seven. The Leon Shares will be included in the computation of basic and diluted earnings per share in the fourth quarter of 2009 and as issued and outstanding on the company’s balance sheet at year end 2009. The company will also record additional purchase price in the fourth quarter of 2009 associated with the release of such shares.

Results of Operations

The consolidated results of operations include the accounts of HealthSpring and its subsidiaries. The following tables set forth the consolidated statements of income data expressed in dollars (in thousands) and as a percentage of total revenue for each period indicated:

		Three Months Ended September 30,
		2009								2008
Revenue:
Premium revenue		$	649,795				98.5	%		$	515,892				97.7	%
Management and other fees			9,108				1.4				8,207				1.6
Investment income			877				0.1				3,800				0.7
Total revenue			659,780				100.0				527,899				100.0
Operating expenses:
Medical expense			519,478				78.7				411,703				78.0
Selling, general and administrative			65,851				10.0				58,634				11.1
Depreciation and amortization			7,782				1.2				7,047				1.3
Interest expense			3,762				0.6				4,520				0.9
Total operating expenses			596,873				90.5				481,904				91.3
Income before income taxes			62,907				9.5				45,995				8.7
Income tax expense			(20,593	)			(3.1	)			(16,635	)			(3.1	)
Net income		$	42,314				6.4	%		$	29,360				5.6	%

		Nine Months Ended September 30,
		2009								2008
Revenue:
Premium revenue		$	1,955,842				98.3	%		$	1,611,450				97.8	%
Management and other fees			29,065				1.5				24,056				1.5
Investment income			3,532				0.2				11,975				0.7
Total revenue			1,988,439				100.0				1,647,481				100.0
Operating expenses:
Medical expense			1,607,481				80.8				1,292,042				78.4
Selling, general and administrative			200,408				10.1				177,512				10.8
Depreciation and amortization			22,948				1.2				21,280				1.3
Interest expense			12,014				0.6				14,513				0.9
Total operating expenses			1,842,851				92.7				1,505,347				91.4
Income before income taxes			145,588				7.3				142,134				8.6
Income tax expense			(50,772	)			(2.5	)			(51,494	)			(3.1	)
Net income		$	94,816				4.8	%		$	90,640				5.5	%