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WellPoint, Health Systems Reportedly in Merger Talks : Health care: The deal would create a company with nearly $5 billion in annual revenue and more than 4 million members.

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TIMES STAFF WRITER

WellPoint Health Networks is in talks to acquire the parent of rival California health maintenance organization Health Net in a deal that would create the nation’s largest publicly held managed-care company, according to knowledgeable industry sources.

If the deal is completed, it will create a health care juggernaut with annual revenue of nearly $5 billion and more than 4 million members, most in California. Its membership would rank only behind that of Oakland-based Kaiser Permanente, a privately held HMO with 6.6 million members nationwide.

The deal would also mark a giant step in the consolidation of the health care industry, which has witnessed a wave of mergers among companies striving to drive down costs and increase efficiency.

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WellPoint and Health Systems International, headquartered across the street from each other in Woodland Hills, have been the subjects of merger rumors for months. Wall Street analysts have speculated that the intense competition and cost cutting in the California marketplace would force both companies to acquire another HMO or be swallowed up themselves.

Last month, there were news reports that WellPoint, a for-profit company that is 80%-owned by nonprofit Blue Cross of California, was being wooed by the New York buyout firm Kohlberg, Kravis Roberts and possibly by FHP International, a rival California-based HMO, or by Foundation Health Corp. WellPoint was formed in 1992 when Blue Cross spun off most of its managed-care operations into a for-profit subsidiary.

In December, it was disclosed that Health Systems had received proposals from Foundation Health and FHP. FHP reportedly offered $34 a share, or about $1.69 billion, while Foundation bid $31.15 a share, or $1.55 billion.

Health Systems officials publicly rebuffed both HMOs’ bids, asserting that the company was not for sale. But Health Systems set up a special committee of directors to review those and other proposals.

Sources said Health Systems’ special committee now favors the WellPoint deal over other combinations it has reviewed. But the sources cautioned that several problems remain that could squelch the transaction and that the two companies have not agreed on financial terms. A deal could be completed by the end of this month, sources said.

Officials of Health Systems and WellPoint declined to comment.

Health Systems stock closed at $26 a share, down 12.5 cents. WellPoint was unchanged at $31.625.

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One potential stumbling block could come from state regulators. The California Department of Corporations is reviewing a controversial proposal by Blue Cross to establish a new $2-billion public health charity as a result of its spinoff of WellPoint. State law requires that nonprofits that convert to for-profit status compensate the state by an amount equal to the company’s value at the time of the conversion.

The San Francisco office of Consumers Union, a consumer watchdog organization, has accused Blue Cross of trying to shortchange the public and has suggested that the insurer fund the new charity by selling its 80% stake in WellPoint on the open market. Corporations Commissioner Gary Mendoza has also pressured Blue Cross to increase the value of its proposed charity. Mendoza hired a New York investment bank to seek out bids for the Blue Cross stake, a move some analysts believe put WellPoint “into play” on Wall Stret.

Analysts said a WellPoint acquisition of Health Systems would appear to do little to satisfy regulators’ concerns.

“The bottom-line issue is that WellPoint is in this situation because they made the state mad,” said one Wall Street analyst who asked not to be named. “It’s a wonderful merger, but it doesn’t solve the issue of paying off the state.”

Mary O’Connell, health care analyst at Louis Nicoud Associates in San Francisco, said a WellPoint-Health Systems merger would create a more efficient company with enormous leverage to negotiate health contracts with major California employers. She called Health Systems “one of the cheapest stocks” among HMOs and estimated that a buyer could justify paying $45 a share based on Health Systems’ 1994 earnings.

Another issue could be the respective roles of Health Systems’ top managers, Roger F. Greaves and Malik M. Hasan, its co-chairmen.

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If a deal were struck, it would reunite two organizations that went through an acrimonious split and nasty legal battles more than a decade ago.

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