eHealth Inc (EHTH) 2007 Q2 法說會逐字稿

Good afternoon, everyone, and welcome to eHealth, Inc.'s conference call to discuss the Company's results for the second quarter of 2007. At this time, all participants have been placed in a listen-only mode. The floor will open for your questions following the presentation.

It is now my pleasure to turn the floor over to Trisha Dill of Ashton Partners, the Company's Investor Relations Consultant. Please go ahead.

Thank you. Good afternoon and thank you all for joining us today, either by phone or by webcast, for discussion about eHealth, Inc.'s 2007 second quarter financial results.

On the call this afternoon we will have Gary Lauer, eHealth's President and Chief Executive Officer, and Stuart Huizinga, eHealth's Chief Financial Officer.

After management completes their remarks, we will open up the lines for questions. As a reminder, today's conference call is being recorded and webcast from the Investor Relations section of the Company's website. A replay of the call will be available from the Investor Relations section of the Company's website following the call.

The Company will make forward-looking statements on this call. All statements other than statements of historical fact are forward-looking statements. Forward-looking statements made in this call will include statements regarding adding additional carrier states during the third quarter, the launch of carriers in the near future, and the importance of their product offerings, the growing focus on collaborating with carrier partners to design and improve their product offerings, improvement with the use of EPI and application processing times, sales yields, member processing costs, and user experience, discussions with a major carrier partner to move forward with instant underwriting and membership, the market opportunity relating to our business HAS platform, the predicted timing of the launch, and the introduction of the business HAS platform through our various partnerships, the benefits, affordability, and attractiveness to certain businesses of the business HAS platform, its projected contribution to membership and revenue, the timing thereof, and its role as part of our overall growth strategy, the timing and benefit of healthcare legislation, opportunities and revenue potential relating to our carrier sponsorship, and licensing businesses, operating margin targets and our ability to reach them within the projected timeframes, the continuation of past seasonality trends and operating margin improvements, the growth rate of customer care and enrollment costs compared to the growth rate in our membership and associated revenue, opportunities for future scale, given the structure and capabilities of our current engineering program, costs relating to compliance with the Sarbanes-Oxley Act and timing thereof, expected net cash tax rate for 2007 and revised 2007 forecasts of revenues, non-GAAP net income, non-GAAP earnings per diluted share, and cash flow from operations.

Forward-looking statements are based on assumptions and assessments made by the Company's management based on factors they believe to be appropriate. Forward-looking statements are subject to risks and uncertainties that could cause actual results, developments in business decisions to differ materially from those contemplated by the statements.

We describe these and other risks and uncertainties in our annual report on form 10-K and quarterly reports on form 10-Q, filed with the Securities and Exchange Commission, which you may access through the Securities and Exchange Commission or from the Investor Relations section of our website.

Forward-looking statements made on this call represent the Company's views as of today. You should not rely on these statements are representing the Company's views in the future. The Company undertakes no duty to update or revise any forward-looking statements made during this call, whether as a result of new information, future events, or otherwise.

We will be presenting certain financial measures on this call that will be considered non-GAAP under SEC regulation G. For reconciliation of each non-GAAP financial measure to the most directly comparable GAAP financial measure, please refer to the information included in our press release and in our SEC filings, which can be found on our corporate website under the heading Investor Relations.

At this point, I will turn the call over to Mr. Lauer.

Thanks, Trisha. The second quarter of 2007 for eHealth was one in which we further demonstrated the growing leverage and power of our Company's financial model and operational efficiencies. Our revenues grew 48% compared to the second quarter of 2006. Operating margins grew to 20% during the past quarter, and we generated over $7 million of operating cash flow during the quarter.

Notably, our total membership also grew by 41% compared to a year ago. I am pleased with the company-wide execution across all elements of our business during the second quarter. Stuart will speak to our financial results in detail, but I want to point out that a highlight of our quarter is that efficiencies continue to improve.

Our close ratios have increased, which impact long-term profitability. Operating margins continue to grow, illustrating the leverage in our business model as well as improved cost efficiencies in marketing, customer care, and technology. And we experienced strong growth in our online advertising and direct marketing channels, where we continue to get high returns on investment.

Progress continues in our technology licensing and carrier sponsorship businesses, with substantial revenue growth over a year ago. Importantly, we continue to contract with additional carriers to use our technology platform to sell their products online, and we expect to add additional carrier states during the third quarter.

This business is highly strategic for us in that we are further solidifying our technology as the online standard in the individual health insurance market and industry. Additionally, during the second quarter, we made substantial progress in the development of the HSA platform, a highly strategic endeavor. This is an investment area that may have large benefit for our business in the future, and I will describe this in more detail shortly.

Stuart will discuss our cost of acquisition in some detail today, but I want to continue to emphasize that our marketing programs are working efficiently and our current acquisition costs and expenses are well within a band that allows us high profitability.

Importantly, I want to point out that our sales and marketing expenses, as a percentage of overall revenues, have declined year-over-year, again demonstrating our efficiencies. Based on our business momentum, we will be increasing our revenue, earnings, and operating cash flow guidance for 2007, which Stuart will describe.

During the quarter we made significant additions to our individual and family plan product offerings. We launched 29 new carrier states, including four new Blues plans and three new Humana states. We also expect to launch Blue Cross/Blue Shield of Arizona this quarter. This will be a significant addition to our product offering, as Blue Cross/Blue Shield of Arizona has a dominant market share in the individual market in its state.

In the second quarter, we also expanded our growing short-term and ancillary product lines. For example, we added Blue Cross California Dental products, Blue Cross Nebraska short-term products, and WellPoint's new Lumenos plans, which are consumer-directed health plans that have wellness benefits built into the products.

I would like to point out that we continue to play a proactive role working with our carrier partners to design and improve the health insurance plans that we offer. For example, Golden Rule, the subsidiary of United Healthcare, launched products with several innovative features for the individual market -- such as improved preventive care benefits, first dollar coverage and waiting period enhancements.

This innovation was in part the result of input and data that eHealth provided to Golden Rule. We expect that working with our carrier partners to design and improve their offerings will be a growing area of focus for us going forward.

We also made significant progress integrating our technology with our carrier partners during the quarter. A higher percentage of our customers last quarter chose to transact business using our EPI technology than ever before. Our second quarter electronic process interchange utilization grew to 77%, up 16% over the same quarter last year.

As more customers choose EPI, our application processing times, sales yields, and member processing costs all significantly improve. Most importantly, our consumers benefit from an improved user experience -- an online shopping experience that they cannot get from any other source.

We also have EPI III and other EPI projects underway with several of our largest carrier partners, including Aetna, United, Humana, Coventry, and WellPoint. Additionally, we are in discussions with one of our major carrier partners to move forward with instant electronic underwriting and response to the consumer's health insurance application, and to have the ability to print their ID card and membership materials at the point their application is approved at eHealth.

We made significant progress in our marketing efforts during the second quarter. We continue to invest in building our brand and differentiating eHealth as the clear leader for online health insurance solutions. Anecdotally, our success here can be seen by the media recognition we received this quarter alone from "Forbes," "NewsWeek," "Good Morning, America," "The Los Angeles Times," and CNN, recognizing our services as the premiere online destination to compare and purchase health insurance.

More importantly, our progress is measured by the strong growth in both our direct and online advertising marketing channels. Our individual and family products submitted applications from the direct and online advertising channels combined grew by over 35% over the same quarter a year ago. We also continue to make significant improvements in the efficiency and effectiveness of our paid search marketing programs.

This is a key area where our growing brand equity benefits us substantially, as all of the major search engines have implemented relevancy models that favor category leaders and well-known brands. We are also beginning to capture incremental traffic and membership from the second quarter launch of the eHealth under-35.com website, which markets lower-cost health insurance plans exclusively to healthy young people.

This differentiated user experience allows us to increase our page search share-of-page. New features in Yahoo's Panama platform, such as geo-targeting and ad testing capabilities have further allowed us to improve our paid search results. As with our last two quarters' results, we are continuing to see a healthy balance between our online advertising and marketing partner channels.

Each of these pay channels contributed approximately 30% of our total individual and family product production during the quarter. Also significant is that the average cost of member acquisition for these two channels are running at similar levels. We feel that this cost equilibrium is very positive as we seek to evaluate and scale each marketing program based on its own ROI, and we are not favoring programs within one marketing channel over another channel.

Looking ahead, we are optimistic about the large opportunity for our business HSA platform, which we plan to launch in a phased-out rollout starting in the third quarter. With this online platform, eHealth will be offering an exclusive and innovative health insurance solution for the millions of U.S. businesses that today cannot afford to provide for traditional health insurance benefits to their employees.

An eHealth business HSA will allow businesses to contribute an employer-defined amount to their employees' healthcare expenses. After a simple online enrollment process by the employer, the eHealth platform creates an online HSA plan and expense management portal dedicated to the business. This portal enables the employee's purchase of an HSA-eligible health insurance plan and the employee's opening, funding, and management of an HSA account -- all online.

We believe our business HSA platform will be especially attractive to businesses that have never offered group health insurance to their employees, businesses that no longer can afford group health insurance, and businesses with large numbers of part-time and contractor employees without health insurance benefits.

Each of these represents a very large market opportunity for us, both in terms of membership and commission revenue. For example, according to the U.S. Census Bureau data published in 2006, there were more than 27 million uninsured working Americans in 2005. We believe that the eHealth business HSA platform will offer an affordable solution for millions of U.S. employers to contribute toward the healthcare expenses of these currently disenfranchised, uninsured working Americans.

We plan to launch our business HSA platform in the third quarter in a limited number of states, and open it to a subset of our Internet traffic. We currently plan to launch the platform on a broader basis in the beginning of 2008, and begin to introduce the program through various association, banking, and other financial service partnerships.

While we do not expect the program to begin to contribute significantly to our membership or revenue during 2007, we do expect the eHealth business HSA platform to be an important part of our overall growth strategy.

In the public policy area, there is continual discussion about ideas and approaches for addressing the plight of the 45 million Americans who are uninsured. We, and I, are involved in much of this dialogue. I don't expect to see any significant steps taken at the federal level until at least 2009, when we have a new White House administration and Congress.

There is some activity in some states -- California being the largest. We believe that any state changes which mandate the purchase of health insurance would benefit us. And it's important to note that there have been no significant policy changes since our last earnings update.

So at this point I'd like to turn the call to Stuart, who will take you through our financial results in detail. Stuart?

Thanks, Gary. Good afternoon, everyone. I'm pleased to announce outstanding financial results across the board for the second quarter of 2007. These results demonstrate our continued company-wide execution in penetrating our market and the improving efficiency of our operations as we scale.

Starting at the top line, our revenue for the second quarter was $21.1 million -- the 48% increase over the second quarter a year ago mainly due to continued strong growth in our membership base. Our total estimated membership at the end of Q2 2007 grew by 41% over our estimated membership at the end of Q2 a year ago.

Our new member additions continue to be strong as well, with 114,600 new approved members in the second quarter. Additionally, our product retention continues to be consistent with our historical range and exceeds two years.

As Gary described, we continue to see year-over-year growth in our carrier sponsorship and technology licensing revenue. Revenue from these sources grew by 254% from $360,000 in the second quarter of 2006 to $1.3 million in the second quarter of 2007. While we don't expect our year-over-year growth rates in this category to continue at this pace, given tougher comparisons to prior periods going forward, as Gary described we have many exciting opportunities in front of us and continue to be enthusiastic about the future revenue potential of these emerging areas.

In Q2, we had very positive trends in our operating expenses. When compared to Q2 of last year, our operating expenses increased only 33% compared to our 48% revenue growth over the same period. More significantly, our operating expenses in the second quarter were virtually the same as our expenses in the first quarter of 2007.

Our operating margins improved from 11% in the second quarter of 2006 to 20% in the second quarter of 2007. This was also a substantial increase from the 14% operating margins we achieved just one quarter ago. On a non-GAAP basis, excluding the effect of stock-based compensation, our margins increased even more year-over-year -- from 11% in Q2 of last year to (inaudible) this year.

Our operating margin for the quarter begins to demonstrate the scale that is intrinsic to our model. To give you an idea of our target for operating margins, we set a target when we went public last year for our operating margins, excluding stock-based compensation, to be at 25% to 30% two to three years from our initial public offering. With these results, we are clearly well on our way to reaching those targets, possibly ahead of our original timeframe.

When assessing our operating margins in future periods, it's important to keep in mind the seasonality we experience in our business, particularly in our marketing and advertising expenses. As a reminder, these expenses are primarily driven by submitted application volumes and are expensed up-front, as incurred, while our revenue is recognized later over the life of a member.

Our submitted application volumes, and correspondingly our marketing and advertising expenses, have generally increased in our third quarter compared to our second quarter and then decreased in our fourth quarter compared to our third quarter.

Because of the seasonality, you shouldn't expect future operating margin improvements to happen in a straight-line fashion each quarter. We are achieving scale right now in most areas of our business, as evidenced by a year-over-year decline in our aggregate expenses as a percentage of revenue. Starting with our largest area of expenditure, our marketing and advertising expenses as a percentage of revenue declined from 36% of revenue in Q2 of last year to 32% of revenue in Q2 of this year.

We view this metric as the best indicator over time, from an external standpoint, of the effectiveness and efficiency of our member acquisition programs and also a significant indicator of the scale that is inherent in our model due to the high incremental margins on the new members that we add.

One way to think about these incremental margins is to take the number of months of revenue that it takes to recover the cost of acquiring new members and compare that to the average life that a member holds the product. On average, it takes less than five months to recover the costs of acquiring a new member. Given the more than two-year average life that a member holds a product, this obviously leaves us with a substantial amount of profit margin.

Incidentally, our cost of acquisition includes not only the variable costs associated with member acquisition -- our paid search and partner payment costs -- but also the fixed costs of our marketing efforts like payroll and benefits for our marketing, business development, PR, and carrier relations department; overhead allocations for those departments like rent and depreciation and even things like stock-based compensation.

A major factor in our favorable acquisition costs for Q2 is that we continue to source a significant percentage of our business -- 40% of all submitted IFP applications -- from our direct channel, where costs of acquisition are very low. We attribute this to an increase in brand awareness through our public relations programs, word-of-mouth, returning members, as well as continued high performance in our natural search efforts.

During Q2 we continued to experience scale in other expense categories outside of marketing and advertising, as well. For example, customer care and enrollment costs as a percentage of revenue declined from 19% of revenue in the second quarter a year ago to 14% this quarter. While technology and content costs as a percentage of revenue also declined from 17% of revenue to 14% for the comparable period.

As we've indicated in the past, the majority of members that apply through us are able to submit their applications entirely online without calling our customer care center. Additionally, ongoing customer service costs after the approval of a member are minimal. Therefore, over time we expect our customer care and enrollment costs to continue to grow at a rate that is much lower than the growth in our membership and associated revenue.

In the technology and content area, despite the investments that we made in new features for our current website and new programs, such as our soon-to-be-launched HSA platform, we see significant opportunities for future scale, given the structure and capabilities of our current engineering program. Additionally, our eHealth China operation provides us great flexibility and technology expense leverage.

One area where costs as a percentage of revenue have increased over the prior year is in the general and administrative area. Similar to Q1, this is primarily the result of increased costs of operating as a public Company. As I mentioned in our prior earnings call, this is the first year for which our independent auditors will be required to issue a report related to our internal controls under the provisions of Sarbanes-Oxley.

As a result, some of the cost increases here relate to our preparation for this requirement. These costs increased during Q2 over Q1, as we have begun to perform the required testing of our controls. These costs are expected to continue throughout the remainder of this year. Beginning next year, after completing our first full year as a public Company and our initial stocks implementation, we expect to begin to show scale in this category, as well.

Pre-tax income increased from $1.6 million in the second quarter of 2006 to $5.5 million in the second quarter of 2007 -- a 232% increase. Net income increased from $1.6 million in the second quarter of last year to $3.2 million in the second quarter of 2007. It is important to note here that net income did not increase as much as pre-tax income did in percentage terms because of a significant difference in our tax rate compared to last year, despite the fact that we expect to actually pay cash taxes at a lower rate this year than last.

We are recognizing tax expenses this year at a 41% rate, even though we expect to pay cash taxes of less than 3% for the year. The 41% tax rate we are recognizing this year compares to a 3% rate for tax expense last year.

Non-GAAP net income, excluding the effects of stock-based compensation, increased from $1.7 million in the second quarter last year to $3.5 million in the second quarter of 2007. All of these increases, especially the increase in pre-tax income, again point out the impact of the significant growth in our revenue and the scale that we are achieving with the efficiency of our operations.

Given the margin improvements that I previously described, we generated significant cash flow in the second quarter, registering our ninth consecutive quarter of positive operating cash flow. Our cash flow from operations more than doubled from $3.2 million in the second quarter of 2006 to $7.2 million in the second quarter of 2007.

Capital expenditures for the second quarter of 2007 were again very modest at $528,000. Primarily driven by our positive operating cash flow, our cash and marketable securities balances increased to $102.8 million at June 30th, 2007.

Finally, I would like to give an update on our expectations for 2007, where we are raising our expectations in all categories based on our business momentum. Before I do that, I want to remind you that these comments are based on current indications for our business, which may change at any time. We undertake no obligations to update these comments.

We are currently forecasting revenues for 2007 to be in the range of approximately $85 million to approximately $87 million, up from our previous range of $81 million to $84 million dollars. We expect non-GAAP net income, excluding stock-based compensation, to be in the range of approximately $12 million to approximately $13.5 million, up from our previous range of $10.5 million to $12 million.

We expect non-GAAP earnings per diluted share, excluding stock-based compensation expense, to be in the range of approximately $0.47 and approximately $0.52 for the year, up from our previous range of $0.40 to $0.45 per share.

Finally, we expect cash flow from operations to be in the range of approximately $21 million to approximately $23 million for 2007, up from our previous range of $19 million to $21 million. It is important to note that we've always been thoughtful and conservative in our planning and projections.

And with that, I'll open the call for questions. Operator?

Yes, sir. Ladies and gentlemen, if you'd like to as a question please press star, one on your touchtone telephone. (Operator instructions.)

And your first question comes from the line of Mr. Justin Post of Merrill Lynch. Please proceed, sir.

Thank you for taking my question. I guess the first thing, Gary, when we look at your guidance, I think it's nice to see the raise but it does show kind of some deceleration in the back half of the year. What's kind of driving that, and are you just focusing a little bit more on profitability now versus growth earlier in the year?

Justin, yes. I think several things. First of all, we're really bullish about the rest of this year and what we see going into the next year or two, as well. I certainly don't see or think of it as a deceleration at all. We've had a really good first two quarters here and we expect the third and fourth quarter to be, as well.

Obviously, the base that we're operating off of continues to grow, and to be able to grow at the kinds of rate we've grown in the past on that kind of a base gets to be a bit more challenging. But we feel very, very enthused about the growth rates that we believe we're going to experience through the next two quarters, and as I say as we get set for 2008 as well.

Okay, and on the member growth, it looks like the kind of the new IFP member growth slowed down a little bit quarter-over-quarter -- 42% last quarter, 28% this quarter. Is that a little bit due to seasonality? Is seasonality increasing on a year-over-year basis, and you think you can have a sequential lift like you did last year for the new IFP members.

Well, right now I'd like to be careful about forecasting any kind of lift. I think there is a bit of seasonality in what you're seeing there, clearly. We certainly believe that our application demand coming off this quarter we just finished was good -- in fact, very good -- and we also feel that the overall membership growth was good, as well.

Perhaps more importantly, we're converting at very, very good rates and the kind of revenue yield we're generating from these members is quite strong as well, as you're seeing in our results.

Okay. And as we look at the income statement, nice (inaudible) coverage across several lines in the quarter -- customer service and enrollment and technology and content especially -- how much further does that have to go? I mean, can you continue to see leverage on those lines or do you think about investing in those two areas going forward?

Well, I think we'll continue to see leverage. I'm not so sure it's going to be at the rate you saw in this past quarter. As we continue to develop and evolve our technology, as we frankly become even more effective and efficient and economical on the Internet, all of those things improve. When there are less number of consumers that need to pick up the phone and call us, those expenses go down.

When we've got more BEPI technology being used by consumers, those expenses go down. This is really the promise of being an Internet Company. So I think over time you should expect to see even more efficiency and economies coming from those areas.

Okay, and then the HSA platform -- do you have some reference clients you're going to be ramping up in the third quarter? You talked about that starting up, or is it just building the platform and maybe you'll have some real large corporations to announce maybe next year?

Well, there's several things going on here, Justin. Firstly, we are going to roll this out, I think as we said in a limited fashion in this quarter, into several select states and with several select partners and others as well.

As we get further down the line, we'll be expanding that. Obviously, as you know, we've got some very significant marketing partners, and you know many of the names. And all I can tell you is that many of those are very intrigued and interested in the HSA platform because of what it provides for their customers, their clients, their members, their constituents, what have you. And you'll see more and more of that (inaudible) down the pipe as well.

Are you working with any, like, major corporations? I won't name any, but just to do an exclusive arrangement with them for their employees, or is it going to be more your partners selling the platform?

Well, I think over time you should expect to see a combination of both. Part of the strategy in building the performance partner program was to have a distribution channel for the HSA platform, and that's become very apparent to us over the last 12 months, and we think that's going to serve us nicely.

I think you should also expect over time that we'll be working directly with very, very large companies as well, as they look to use this HSA platform as a way to solve some of the very important health benefit challenges that they have today.

Thanks. I'll get back in the queue.

And your next question comes from the line of Ms. Christine Arnold of Morgan Stanley. Please proceed.

Good evening, and thanks for taking my questions. Could you talk a little bit about the licensing potential that seems to be growing pretty rapidly? I think you're guiding that we won't see the same level of growth, but you must still have lots of discussions with the carriers, and I know that they're trying to sell on their own sites, as well. Where do you see that going, in terms of kind of growth over the next year?

Christine, it's Gary. Well, we're very enthused about this. We think it's going to continue to grow at a nice pace -- probably not quite the kind of rates that you've seen because of the small base we're coming off of.

That's not our -- our focus here, quite frankly, isn't the revenue growth. It's going to be really good revenue for us and the margins are going to be very, very high. Our focus here is really a strategic one, because what this enables us to do is to further expand the footprint that we have in the marketplace and in the industry. There aren't many online companies today that have their suppliers also using their technology to sell their products directly.

And when you have the opportunity to do that, we think it's a unique one and it's one that we want to seize, and what we're finding every day is that more and more of the carriers are recognizing our technology as by far and away the best of breed that's in the marketplace, and looking to utilize it and use it. And I think over the next several quarters, you're going to hear a lot more news from us about very recognizable carriers and others who continue to implement this technology to sell their products online.

And let me add to that also as part of the strategy, I've always felt that our goal should be that every single health insurance product that's sold online be sold through eHealth. And I'd like to think we can achieve that, but the kind of more pragmatic side of me says that that's not always going to be the case.

For whatever set of reasons, there are some consumers who are going to prefer to go directly to a carrier, and so that's fine, we support that, we like the carriers selling their products online. This is a way for us to monetize that part of the transaction, as well.

And frankly the other thing that appeals to us, and I've talked about this publicly in the past, is that agents and brokers today for the most part are transacting all of this business with paper. Over time, we'd like to find a way to help them by using our technology as well, so that when they come to your kitchen table at night after dinner with their portable PC, they just open it up and using the eHealth technology is able to quote and sell you a product, rather than reams and reams of paper.

That's the strategy, that's really the promise of all of this, and that's why we're so enthused about it and where we see it going.

And then on the instant underwriting you said that you're going to begin working on that. When might we see the first launch of a product in kind of multiple markets with instant underwriting, and what are the barriers here? Are the carriers concerned about checking health status or -- and when might you overcome those barriers?

Well as you know, we launched EPI III with a couple of important carriers last quarter, and it's very early yet so we're not disclosing results but we like what we're seeing. But once again, the vision here has always been, and the promise has been to be able to come online and go through the entire application transaction, the purchase application, all in the same session.

We ought to think about point, click, and buy, as you can do with other products. Why shouldn't you be able to do that with health insurance? And we think when we get to that point, that becomes a very formidable competitive advantage for us and the carrier partners who are working with us.

And the plan with EPI III has been to evolve and develop to that point, and we're doing that. But frankly, we decided to see if we can't leapfrog all of this -- and why shouldn't we, because we have the technology, a prowess and knowledge to do it, and work with some carriers to simply take us to that promised land in a much quicker way and much sooner. And that's what I'm referring to, and I would hope that you'll see from us sometime soon -- I don't want to define soon right now, but sometime soon, an announcement with an important carrier that we are actually in the point, click, and buy business.

Come online, choose a product, go through the application process online, transfer your signature electronically, transfer the payment electronically, be underwritten electronically, and at that moment be approved, print your member card, and right after that session go to the pharmacy to pick up your prescription, go to the physician to work your co-pay, or whatever.

That's where we want to get to, and we're actually more enthused and more aggressive about getting to that sooner rather than later.

So does that mean we should not expect kind of EPI III as the interim anymore, we should expect to go with those carriers that are in EPI III straight to the promised land?

Well, I think you should watch and follow EPI III because we think that's important and we'll continue to develop that, but we want to get to the promised land fast and now we think we've got some partners who really understand the impact that this can have and the benefit that they can have, and they're willing to go there and go there a lot sooner. And again, we're going to take that opportunity. We're going to do what we can to do that.

Now, to get back to the other part of your question, Christine, this is not a technology challenge. The technology exists. I'd like to think that we're rich in technology in our Company; we can do this. It's really more of a carrier issue in terms of the comfort level of the carrier. This is a big change for the carrier. There are carriers who, for maybe lots of good reasons, don't want to give up the underwriting pen.

We're not asking for that. All we want is to be able, through either working very closely with a carrier or through a set of rules that are binary, take the applying consumer through the process. And as we continue to talk about this and evangelize it, I think more and more carriers are beginning to understand the true benefit of being able to do this.

And is the 15% to 20% estimate reasonable of the portion of people who would apply and get this instant approval?

15% to 20% being approved from those who apply?

Right. Of the instant -- you know what I mean? Like --

Yes, I know exactly -- yes. I think what you're asking is of all those who apply through instant underwriting, would 15% to 20% be approved right there and can get their membership card.

Right.

It's too early to know that that would be the case. I would like to think it could be much, much higher than that, but I don't know that it is right now, and I wouldn't want to be putting numbers around that -- we would just be guessing.

Okay, thank you.

Thank you.

And your next question comes from the line of Mr. Bill Morrison of JMP Securities. Please proceed, sir.

Thanks. Good afternoon.

Hey, Bill.

A couple questions. One, I was wondering if you could drill down a little bit further on the licensing business and help us understand exactly what technology you are and are not licensing to carriers and other so-called lead generation competitors. It's my understanding that what you're licensing is actually a component of your total technology platform -- in other words, you're licensing the quoting engine and the health plan comparison technology, but that you're not licensing today to anyone -- not that you wouldn't in the future but that today, you're not licensing to anyone in your back end technology that integrates with the 5,000 plans. Can you just clarify that and help us understand a little bit more about what technology, exactly, you're licensing to these partners?

Well, Bill, the technology we're licensing is everything that the carrier partner needs to be able to market and sell their product online. And it's got maybe a few components of our back office, but the back office today isn't needed to do that. What they really need is the front end -- really the tip of the iceberg -- to be able to do this very efficiently, very quickly, and frankly quite economically, and that's what we've been licensing to them.

Now, if carriers want to utilize some of our back office technology -- all of which I should note we have developed on our own, in-house -- we'd certainly be open to that. It just hasn't been necessary to do that today, and really not needed.

Gary, just to clarify, I'm not talking about in the carrier market, I'm talking about with folks like Revolution Health, and increasingly we're seeing on the search results on Google and Yahoo an increasing number of so-called competitors that when you drill down through the process they're actually using your front end.

But my understanding is that to complete the process you still have to use a physical broker with most of those competitors, because you're not today licensing your back office to them. Is that --

Yes, I think that, for the most part, is accurate, Bill, in terms of the way we've structured these partnerships and these deals. If somebody needed and wanted to use the back end, we'd certainly be open to that. It's probably more a question of economics than anything else.

Okay, thanks.

And there'll be nothing proprietary with the technology.

Right, okay. And then Stuart, I had a question -- I thought you did a good job describing why your member acquisition costs, as it's kind of put together on your press release and given to analysts, is not really an apples-to-apples comparison. In other words, you've got a lot of costs in the sales and marketing line in your income statement that aren't driving customer acquisition, and it sounds like there's marketing costs in that number on the numerator that aren't driving IFP members and the denominator.

So my question is is there a reason that you're still giving out that number or should we really be looking at another number -- either sales and marketing over total members or just sales and marketing as a percent of revenue -- as the best indicator of leverage on the marketing organization?

Well, you're right -- there's absolutely limitations to the number that we put out, and we've looked at other metrics that we could give out that would also give directional, broad indications, just like the one that we do publish.

But they all have their own little limitations to them, so the one that we've really focused on is really the purest way of looking at our cost of acquisition, it's really looking at the marketing advertising expenses as a percentage of revenue over tie. And really, just watching that metric over time is really a pure view -- in my view -- of how to look at costs of acquisition.

Everybody has their own different ways of looking at the numerator -- fully burdened, with all kinds of other things like stock comp and payroll, etc. Others want to see it with just the variable costs. I'm a little reluctant to go to the -- put the variable costs into a metric for you, because it doesn't come from our P&L, and we'd have to think about that.

But anyway, any other direction we would go wouldn't be as pure as looking at the costs as a percentage of revenue, and that's why our focus is there.

Okay, great. And then one last question for Gary, I just want to clarify -- earlier in your comments you said I think 77% of was it customers or submitted apps that came through EPI?

77% of submitted apps, Bill.

Okay, and then just maybe to drill down on the issue Christine was talking about -- is there any way you could give us a sense of the timing we could expect to where -- when will EPI III get to let's say north of 50% of submitted apps? Do you think -- you said it's sooner rather than later, but I'm curious just from a long-term view, is that a five-year timeframe, a 10-year timeframe? Or could you give us some help on just the sense of timing on EPI III?

Well, I'll give you a little bit of a flavor for that. Five years seems to me like an eternity. A year or two to me seems very realistic in the kind of goals that we ought to have inside the Company to execute against.

Great, thanks a lot.

Thank you, Bill.

And your next question comes from the line of Mr. Steve Halper of Thomas Weisel Partners. Please proceed, sir.

Yes, hi, Gary. Could you just give us an update on some of the state healthcare initiatives, specifically California, Massachusetts, and Pennsylvania, and how that -- what's going on there, and is that going to help you or hurt you over time?

Sure. Well, just as a quick primer for everyone on the call, some of the states have taken on healthcare on a statewide level, looking at rules, laws, regulations, mandates, and so on, because they're concerned about the number of uninsured people that they have.

In California, we've got well over six million people who have no health insurance today and that's a big social problem. It's also an economic problem, because it's a drain on all of us in many, many ways. So of all the states, California's the largest in the country and the governor, in his state of the state address this past January, announced some proposals to make changes to the system of healthcare, including a mandate that everyone would have health insurance in the state.

Like any social problem, the solution typically presents three or four new problems that don't exist currently, and what we're seeing in California is that the proposal, although it's got some good elements and some elements that we don't support; however, it's very problematic.

Unions aren't necessarily in support of it, the California Medical Association isn't. I mean, the list goes on and on and on. So you've got all these different views and a lot of tension in the system. We don't think anything substantial will occur in California this year. Whether it does in 2008 is another question. There are tremendous funding issues, among other things. I think that in California we may see some work done through SCHIP, the State Children's Health Insurance Program, which is federal funding for children to have health insurance.

I think we may see some work there and we're very supportive of that, and we like that a lot.

If the federal government can get their act together on SCHIP.

If SCHIP is passed, and if President Bush even signs the bill. That's kind of my point -- these things are really hard to get done, and we're talking to people in the governor's office, the governor himself, as well as people in the White House and in the Senate and in the House. So we're very close to all of this, and again, I think it's very questionable that anything is going to happen.

In Massachusetts, of course, the Romney program that Mitt Romney got through in Massachusetts is underway. There's a mandate in the state that everyone has to have health insurance. There are no individual products available; we're looking at that right now. We're going to get involved in the state. There's some other issues, as well. Anything that happens in Massachusetts will improve our business, because we never did any business in Massachusetts because of the mandates and the way the state was structured.

Pennsylvania's a similar thing. It's early there. There's a few other states that are looking at some of these issues, as well. But it all comes down to two things -- a lot of the partisan groups that are involved, and then the funding. These are very, very expensive programs to try to launch and then to support. From a federal level, again, I don't see anything happening till 2009.

We're going to need to get the new presidential administration in place and then see what the makeup is of the House and the Senate as well. And you've seen what SCHIP has been like -- you can imagine things that could be larger and more far-reaching than that, the controversy surrounding them.

But I think that states and the federal government will enact some changes over time. It's important that we're there to provide these legislators as much knowledge and fact about what's happening, so that the decisions that are made are informed decisions and we get good policy.

And we think because of our prowess on the Internet -- we are technology, meaning healthcare -- that most of these initiatives benefit our Company and we can help with them, as well.

Great, thanks.

Thanks, Steve.

And your next question comes from the line of Mr. Peter Costa of FTN Midwest Securities. Please proceed, sir.

Hi, guys. You saw a little bit of a decline in the small group business this quarter sequentially. Can you talk about what went into that for a minute?

I'm not sure we talked about a decline in the small group business. We continue to sell well into that market. Maybe you can elaborate a little more on your question?

Yes, if you back into it from the total members to the IFP members, subtracting those out, you went from 80,900 to 80,200. So just a real small decline.

Oh, yes, the nine -- right. The nine IFP products overall sequentially experienced a decline in the membership there. That's a combination of many different products. It includes small business, but also a very significant component of that is short-term product. Short-term individual and family product, which is designed to be held for only a few months.

And so it has very high turnover; it always has, but it is an important product for our constituencies as well. A lot of people looking to that product, need that product, and we fulfill that demand. So it's by design that it's there and it impacts our (inaudible), but it's a good product for us.

So nothing fundamental, then, (inaudible).

There's nothing fundamental there, no.

Okay. And then can you talk about -- sort of more on a macro side -- if something does happen with SCHIP reform -- and something probably will happen; reauthorizing it -- there's clearly going to be some increase in the authorization which is going to allow for more of the more wealthy, if you will, groups to get insurance for their kids through SCHIP.

That could cause a drop in some of the individual membership or the groups that you do have, but you could then pick them up on the SCHIP side. Can you talk a little bit about how that will affect you if SCHIP is expanded? Will that hurt you or help you?

Peter, it's Gary. It depends on how it's expanded. One of the criticisms of the SCHIP legislation as it's been proposed in some forms is that it provides federal funding to people who don't need it -- i.e., they're at a level of income where they can afford health insurance for their children, and do. So clearly if that were to happen, I think right across the whole industry-wide member base you could see some of those children who are on policies today moving to some kind of a federally funded SCHIP -- the program, or so on.

I'd be surprised if the legislation passes in a way where that's the case, but that's just one person's opinion who's close to it. Now, having said that, I actually think the SCHIP legislation is good. I think the expansion of the SCHIP program is good. There are certainly things that we can do there to help with that and to monetize it, as well, in terms of being an electronic access point, a distribution point, and on and on and we're having some discussions with people about that, as well.

Okay, great. And then you talked about expanding the business HSA into several states. Could you care to comment -- is California one of those states that you're going to bring that out in in the first rollout period here?

We're not going to disclose the states right now; we will as we're rolling it out, and I would say stay tuned on that.

Okay. And then lastly, in the earnings calls from some of the big insurers, almost every one of them talked about growth in the individual market or the lack thereof for some of the Blue plans. Can you talk about what you've seen, whether there's actually an increase in sight for the individual members from some of the big guys out there, and how has that been affecting you and do you see anything that's really changed?

Well, it's clear to us that the market continues to expand right before our eyes in terms of more people coming to the market, and more importantly there's more product inventory. Some of the very largest carriers who traditionally only supported large businesses -- like Aetna, Cigna, United, Humana -- have come into the individual market in a very aggressive and assertive way.

That's been really good for us, because these are great brand names, they're high-quality companies, high-quality products, and when consumers see those they tend to buy them. And we have been adding them in every state that they've come in, and it's been really good for us.

So I think we're actually the beneficiary of what you point out, and you're right -- that there's additional competition among the carriers for these consumers who are there. Remember, we have all those products online here in one marketplace where we've aggregated them, so for us we're a real beneficiary.

Now having said that, I should also add that we have seen over the years that these carriers go through product cycles, and our growth rates with carriers go up and down. In any one quarter, we could grow 100% over the same quarter a year ago with a carrier, and two quarters later, the growth could be much less than that because of pricing, features, and things like that they've built into the products.

It's one of the things, again, that I think is a benefit to the way that we operate in that we have all of the products from all the major carriers here. So when a consumer sees a product that's gotten too expensive or whatever, we have all the other choices for them, as well. So we're the beneficiary from this additional interest in the market by the carriers.

Great, thank you.

Trisha, any more questions?

Operator, are there any more questions?

Are we still on?

Mr. Lynch, you may proceed, your line is open. And your next question comes from the line of Mr. Justin Post of Merrill Lynch. Please proceed.

Thank you. One question on your commission revenue per average member. It was kind of flattish year-over-year, based on our calculations. Are you seeing any inflation in policies, and how are your commission rates trending with your larger carriers?

Yes, first on the commission rate question, we have not seen any changes on our commission rates with our carriers, first of all. Our arrangements are just the same as they were last quarter, last year. We continue to see premium (inaudible) in the IFP area. One thing we are seeing is a little bit of a change in the mix within the non-IFP. There's more ancillary products -- for example, dental -- becoming a bigger part of the mix over the last couple quarters, which has blended the rate down a little bit.

We've seen a little bit lower premiums selected by individuals in the short-term market recently, and one other small factor is the mix between members that are in their first year, where we earn higher commissions and those that are in their second year and thereafter, a little bit more -- at least in the second quarter, a little bit higher percentage in the second year and thereafter than we had last quarter. And that has influence, as well.

Okay, and last question -- going to the non-IFP, you did see the other non-IFP members' growth kind of slow down, as far as new members, and you also saw the cost of goods line decline as a percentage of revenue. So are those related, and were you getting kind of a nice help from a partner, and is that slowing down as we move forward?

I'm not going to predict whether it's going to slow down; I don't really see a slowdown there.

Was one partner really helping the growth there, I guess, historically?

We did have a little pick-up in that line from the Willis transition. In some of our 10-Q materials you've probably seen some small business members that came through us through the Willis relationship, which is a revenue share.

Great, thank you.

Nothing really substantial.

Nothing substantial.

And your next question comes from the line of Mr. Carl McDonald. Please proceed, sir.

Great, thank you. I'm going to restate one of the prior questions slightly differently, which is that United and WellPoint, your two biggest customers, both actually reported a decline in the individual enrollment this quarter. Any specific impact on your business as a highlight from that?

Hey, Carl, it's Gary. No. I mean, you've seen our growth numbers. We think they're very healthy, and we're very enthused about the potential for growth going forward. I had actually heard from someone recently that WellPoint and United were flattish to down. All I can tell you is that some other major -- and we watch these things pretty carefully -- some of the other major carriers we do business with are up substantially.

In fact, a couple of names that are as recognizable as United or WellPoint are up in terms of growth in triple digits on a percentage basis. So it kind of goes back to what I was saying earlier, is that we see products -- we see these carriers cycle through products or go through product cycles. I'm not indicating that WellPoint or United's in a good or a bad product cycle -- I don't know.

But if we don't get the growth from one, we'll typically find it from another because of the preference that consumers have. But no, nothing unusual we've seen there, and I can tell you that our business with those two carriers we think is quite good, as well.

All right, so from your comment it sounds like what you're seeing is business shifting from carrier to carrier as opposed to individuals leaving the market.

Oh, we've always seen it that way, yes. In fact, I'll tell you -- what we see today are more people coming to the Internet every day looking for information for solutions to health insurance, more of them coming to us as a result of that, and certainly within that there's movement from one carrier to another.

So from a financial perspective, what's better for your business? Is churn better, where you get members going from one carrier to the other? What's the tradeoff between sort of the initial benefit from churn as opposed to some of the longer-term incentives you have to keep members with a single carrier?

Well, it's pretty basic. As I've stated many times, our average commission payment is 15% to 25% of the premium value in the first 12 months. Months 13 and later, it falls to about half of that. So obviously, the math says that if you moved everybody into the first 12-month cycle, you're going to optimize the commission.

I want to point out that everything we do is done in an objective and unbiased way. We only want consumers to find the solution that's best for them, because we think over time that's the most profitable model for us. So we don't try to move people one way or the other, but I should note that the retention numbers we talk about -- that is product retention being in excess of two years -- that's retention for a product, that's not retention for a member.

And many of these members, for various reasons, will terminate one product, come through us, and buy another product. So our member retention is different than our product retention.

Thank you.

At this time, there are no further questions in queue, and I would like to turn the call back over to management for closing remarks. Please proceed.

Well, this is Gary Lauer. I'd just like to thank everyone for their interest and participation today, and we look forward to talking with all of you soon.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.