The condensed consolidated financial statements of Humana Inc. in this document present the Company's financial position, results of operations and cash flows, and should be read in conjunction with the following discussion and analysis. References to "we," "us," "our," "Company," and "Humana" mean Humana Inc. and its subsidiaries. This discussion includes forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. When used in filings with the SEC, in our press releases, investor presentations, and in oral statements made by or with the approval of one of our executive officers, the words or phrases like "expects," "anticipates," "intends," "likely will result," "estimates," "projects" or variations of such words and similar expressions are intended to identify such forward-looking statements. These forward-looking statements are not guarantees of future performance and are subject to risks, uncertainties and assumptions, including, among other things, information set forth in Item 1A. - Risk Factors in our Form 10-K for the year ended December 31, 2008 that was filed with the SEC on February 20, 2009, in each case, as modified by the changes to these risk factors included in this document and other reports we filed subsequent to February 20, 2009 and are incorporated by reference herein. In making these statements, we are not undertaking to address or update these factors in future filings or communications regarding our business or results. In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this document might not occur. There may also be other risks that we are unable to predict at this time. Any of these risks and uncertainties may cause actual results to differ materially from the results discussed in the forward-looking statements.

Overview

Headquartered in Louisville, Kentucky, Humana is one of the nation's largest publicly traded health and supplemental benefits companies, based on our 2008 revenues of $28.9 billion. We are a full-service benefits solutions company, offering a wide array of health and supplemental benefit products for employer groups, government benefit programs, and individuals. As of March 31, 2009, we had approximately 10.4 million members enrolled in our medical benefit plans, as well as approximately 6.7 million members enrolled in our specialty products.

We manage our business with two segments: Government and Commercial. The Government segment consists of beneficiaries of government benefit programs, and includes three lines of business: Medicare, Military, and Medicaid. The Commercial segment consists of members enrolled in our medical and specialty products marketed to employer groups and individuals. We identified our segments in accordance with the aggregation provisions of SFAS 131, which aggregates products with similar economic characteristics. These characteristics include the nature of customer groups as well as pricing, benefits, and underwriting requirements. These segment groupings are consistent with information used by our Chief Executive Officer.

The results of each segment are measured by income before income taxes. We allocate all selling, general and administrative expenses, investment and other revenue, interest expense, and goodwill, but no other assets or liabilities, to our segments. Members served by our two segments often utilize the same provider networks, in some instances enabling us to obtain more favorable contract terms with providers. Our segments also share indirect overhead costs and assets. As a result, the profitability of each segment is interdependent.

Our results are impacted by many factors, but most notably are influenced by our ability to establish and maintain a competitive and efficient cost structure and to accurately and consistently establish competitive premium, ASO fee, and plan benefit levels that are commensurate with our benefit and administrative costs. Benefit costs are subject to a high rate of inflation due to many forces, including new higher priced technologies and medical procedures, new prescription drugs and therapies, an aging population, lifestyle challenges including obesity and smoking, the tort liability system, and government regulation.

Our industry relies on two key statistics to measure performance. The benefit ratio, which is computed by taking total benefit expenses as a percentage of premium revenues, represents a statistic used to measure underwriting profitability. The selling, general, and administrative expense ratio, or SG&A expense ratio, which is computed by taking total selling, general and administrative expenses as a percentage of premium revenues, administrative services fees and other revenues, represents a statistic used to measure administrative spending efficiency.

Government Segment

Our strategy and commitment to the Medicare programs has led to significant growth. Medicare Advantage membership increased to 1,468,900 members at March 31, 2009, up 201,200 members, or 15.9%, from 1,267,700 at March 31, 2008, primarily due to sales of preferred provider organization, or PPO products. This increase also included the impact of the acquisitions of Cariten, OSF, SecureHorizons, and Metcare, which together added 94,900 Medicare HMO and PPO members. Likewise, Medicare Advantage premium revenues have increased 28.2% to $4.1 billion for the first quarter of 2009 from $3.2 billion in the first quarter of 2008. Recently the mix of sales has shifted increasingly to our network-based PPO offerings, which is particularly important given the enactment of the Medicare Improvements for Patients and Providers Act of 2008, discussed more fully below. Medicare Advantage members enrolled in network-based products was approximately 61% at March 31, 2009 compared to 47% at March 31, 2008, with our PPO membership increasing 134% from March 31, 2008 to March 31, 2009.

Due to the enactment of the Medicare Improvements for Patients and Providers Act of 2008, or the Act, in July 2008, principally, beginning in 2011 sponsors of Medicare Advantage Private Fee-For-Service, or PFFS, plans will be required to contract with providers to establish adequate networks, except in geographic areas that CMS determines have fewer than two network-based Medicare Advantage plans. We have 577,100 PFFS members, or approximately 39% of our total Medicare Advantage membership at March 31, 2009, down from 49% at December 31, 2008. Over 80% of these PFFS members at March 31, 2009 reside in geographies where we have developed a PPO network and offer a PPO plan. We are implementing various operational and strategic initiatives including further developing our PPO network and building network-based plan offerings to address the network restriction.

Final 2010 Medicare Advantage rates were announced by CMS on April 6, 2009, with an effective rate decrease for the industry of 4% to 5%. We will have to address this rate change by increasing member premiums, reducing benefits, or some combination thereof as we file our bids for 2010 by the June 1, 2009 submission deadline. We believe we can effectively design Medicare Advantage products that address the lower rates while continuing to remain competitive compared to both the combination of original Medicare with a supplement policy as well as other Medicare Advantage competitors within our industry. In addition, we will continue to pursue our cost-reduction and outcome-enhancing strategies, including care coordination and disease management, to mitigate the adverse effects of this rate reduction on our Medicare Advantage members. Nonetheless, there can be no assurance that we will be able to successfully execute operational and strategic strategies with respect to changes in the Medicare Advantage program. Failure to execute these strategies may result in a material adverse effect on our results of operations, financial position, and cash flows.

We also offer three Medicare stand-alone prescription drug plans, or PDPs, under the Medicare Part D program: our Standard, Enhanced, and Complete products. These plans provide varying degrees of coverage. In order to offer these plans in a given year, in June of the preceding year we must submit bids to CMS for approval. During 2008, we experienced prescription drug claim expenses for our Medicare stand-alone PDPs that were higher than we had originally assumed in the bid that we submitted to CMS in June 2007. These higher claim levels for our Medicare stand-alone PDPs reflected a combination of several variances between our actuarial bid assumptions versus our experience. These variances resulted from, among other things, differences between the actuarial utilization assumptions (which are our attempts to predict members' future utilization of drugs) in the bids for our Enhanced plans versus our actual claims experience in 2008, as well as an increase in the percentage of higher cost members in both our Standard and Enhanced plans. These issues were addressed for 2009 based on enhancements made to our bid development and review processes. Our Medicare stand-alone PDP membership declined to 2,078,900 members at March 31, 2009, down 987,700 members from December 31, 2008 and down 1,071,300 members from March 31, 2008, resulting primarily from our competitive positioning as we realigned stand-alone PDP premium and benefit structures to correspond with our historical prescription drug claims experience.

Our quarterly Government segment earnings and operating cash flows are impacted by the Medicare Part D benefit design and changes in the composition of our membership. The Medicare Part D benefit design results in coverage that varies as a member's cumulative out-of-pocket costs pass through successive stages of a member's plan period which begins January 1 for renewals. These plan designs generally result in us sharing a greater portion

of the responsibility for total prescription drug costs in the early stages and less in the latter stages. As a result the Government segment's benefit ratio generally improves as the year progresses. In addition, the number of low-income senior members as well as year-over-year changes in the mix of membership in our stand-alone PDP products, Standard, Enhanced, and Complete, affect the quarterly benefit ratio pattern. The impact of the Medicare Part D benefit designs on our overall earnings pattern is expected to be less in 2009 as compared to 2008 due to the loss of 987,700 Medicare stand-alone PDP members, or 32.2%, from December 31, 2008 to March 31, 2009 as discussed above.

Commercial Segment

Commercial segment pretax earnings, impacted by the slowing economy and lower investment income, increased by less than 1% from March 31, 2008 to March 31, 2009. Commercial segment medical membership at March 31, 2009 of 3,471,500 was essentially unchanged from March 31, 2008, despite the acquisitions of OSF in the second quarter of 2008 and Cariten in the fourth quarter of 2008. As discussed more fully below, together these acquisitions added approximately 83,100 fully-insured members and 51,300 ASO members. Commercial segment medical membership decreased 149,300 members, or 4.1% from December 31, 2008 to March 31, 2009. The decline in membership primarily was a result of the loss of a few larger ASO accounts and the slowing economy, as workforce reductions have caused corresponding membership losses, particularly in our small group accounts. However, the membership declines were partially offset by enrollment gains in strategic areas of commercial growth. Individual membership increased 23% from March 31, 2008 to March 31, 2009, and 3% from December 31, 2008. Smart plans and other consumer offerings membership grew 11% from March 31, 2008 to March 31, 2009, and was essentially unchanged from December 31, 2008. We expect Commercial segment medical membership to decline by 150,000 to 175,000 members for the full-year 2009 as compared to December 31, 2008, reflecting the loss of a few larger ASO accounts as well as the impact of attrition in our small-group accounts due to workforce reductions.

Turmoil in the Financial Markets

The securities and credit markets continue to experience severe volatility and disturbance, increasing risk with respect to our financial assets. At March 31, 2009, cash, cash equivalents and our investment securities totaled $7.4 billion, or 54.6% of total assets, with 25.7% of the $7.4 billion invested in cash and cash equivalents. Investment securities consist primarily of debt securities of investment-grade quality with an average credit rating by S&P of AA+ at March 31, 2009 and an average duration of approximately 4.1 years. Including cash and cash equivalents, the average duration of our investment portfolio was approximately 3.1 years. We had $7.5 million of mortgage-backed securities associated with Alt-A or subprime loans at March 31, 2009 and no collateralized debt obligations.

Gross unrealized losses of $369.8 million at March 31, 2009, including the invested collateral under the securities lending program, primarily were caused by an increase in investment yields as a result of a widening of credit spreads. All issuers of securities trading at an unrealized loss remain current on all contractual payments, and we believe it is probable that we will be able to collect amounts due according to the contractual terms of the debt securities. After taking into account these and other factors, including severity, length of time of the decline, and our ability and intent to hold these securities until recovery or maturity, we determined the unrealized losses on these investment securities were temporary and, as such, no impairment was required. We continuously review our investment portfolios. Given current market conditions, there is a continuing risk that further declines in fair value may occur and additional material realized losses from sales or other-than temporary impairments may be recorded in future periods.

In addition, in the fall of 2008 we terminated all fixed to variable interest-rate swap agreements outstanding associated with our senior notes based on recent changes in the credit market environment. In exchange for terminating these interest-rate swap agreements, we received cash of $93.0 million representing the fair value of the swap assets. This transaction also fixes the interest rate on our senior notes to a weighted-average rate of 6.08%. We may re-enter into swap agreements in the future depending on market conditions and other factors.

The availability of liquidity and credit capacity in general has been impacted by the current conditions in the financial markets. We believe our cash balances, investment securities, operating cash flows, and funds available under our credit agreement or from other public or private financing sources, taken together, provide adequate

resources to fund ongoing operating and regulatory requirements, future expansion opportunities, and capital expenditures in the foreseeable future, as well as refinance debt as it matures. Our long-term debt, consisting primarily of senior notes, of $1,934.9 million represented 29.3% of total capitalization at March 31, 2009. The earliest maturity of our senior notes is in June 2016. We have available a 5-year, $1.0 billion unsecured revolving credit agreement which expires in July 2011. As of March 31, 2009, there was $250 million in borrowings outstanding under this credit agreement, primarily related to funding the acquisition of Cariten described under "Recent Acquisitions" below.

Certain of our subsidiaries operate in states that regulate the payment of dividends, loans, or other cash transfers to Humana Inc., our parent company, and require minimum levels of equity as well as limit investments to approved securities. The amount of dividends that may be paid to Humana Inc. by these subsidiaries, without prior approval by state regulatory authorities, is limited based on the entity's level of statutory income and statutory capital and surplus. In most states, prior notification is provided before paying a dividend even if approval is not required.

Based on the most recently filed statutory financial statements as of December 31, 2008, we maintained aggregate statutory capital and surplus of $3.5 billion in our state regulated subsidiaries, $1.4 billion above the aggregate $2.1 billion in applicable statutory requirements which would trigger any regulatory action by the respective states.

Other Highlights

• We expect to grow our net Medicare Advantage membership by approximately 50,000 members in 2009.

• On March 12, 2009, we were notified by the government that it had exercised its option to extend the TRICARE contract for the sixth option period, which commenced on April 1, 2009 and runs through March 31, 2010. We anticipate the Department of Defense will make its TRICARE award announcement for the T-3 five-year contracts during the second quarter of 2009 for an April 2010 implementation date.

• Cash flows from operations increased $41.1 million to $45.5 million for the three months ended March 31, 2009 compared to $4.4 million for the three months ended March 31, 2008. We continue to expect operating cash flows for 2009 of between $1.2 billion and $1.4 billion. As was the case in 2008, we expect most of the total operating cash flow to occur in the second half of 2009.

Recent Acquisitions

On October 31, 2008 we acquired PHP Companies, Inc. (d/b/a Cariten Healthcare), or Cariten, for cash consideration of approximately $256.1 million. The Cariten acquisition increased our presence in eastern Tennessee, adding approximately 49,700 commercial fully-insured members, 21,600 commercial ASO members, and 46,900 Medicare HMO members. This acquisition also added approximately 85,700 Medicaid ASO members under a contract which expired on December 31, 2008 and was not renewed.

On August 29, 2008, we acquired Metcare Health Plans, Inc., or Metcare, for cash consideration of approximately $14.9 million. The acquisition expanded our Medicare HMO membership in central Florida, adding approximately 7,300 members.

On May 22, 2008, we acquired OSF Health Plans, Inc., or OSF, a managed care company serving both Medicare and commercial members in central Illinois, for cash consideration of approximately $87.3 million. This acquisition expanded our presence in Illinois, broadening our ability to serve multi-location employers with a wider range of products, including our specialty offerings. The acquisition added approximately 33,400 commercial fully-insured members, 29,700 commercial ASO members, and 14,000 Medicare HMO and PPO members.

On April 30, 2008, we acquired UnitedHealth Group's Las Vegas, Nevada individual SecureHorizons Medicare Advantage HMO business, or SecureHorizons, for cash consideration of approximately $185.3 million, plus subsidiary capital and surplus requirements of $40 million. The acquisition expanded our presence in the Las Vegas market, adding approximately 26,700 Medicare HMO members.

Recently Issued Accounting Pronouncements

In April 2009, the Financial Accounting Standards Board, or FASB, issued two FASB Staff Positions, or FSPs, to address concerns about (1) measuring the fair value of financial instruments when the markets become inactive and quoted prices may reflect distressed transactions and (2) recording impairment charges on investments in debt securities. The FASB also issued a third FSP to require disclosures of fair values of certain financial instruments in interim financial statements.

FSP No. FAS 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, 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. This FSP also requires new disclosures relating to fair value measurement inputs and valuation techniques (including changes in inputs and valuation techniques).

FSP No. FAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments, will change (1) the trigger for determining whether an other-than-temporary impairment exists and (2) the amount of an impairment charge to be recorded in earnings. To determine whether an other-than-temporary impairment exists, an entity will be required to assess the likelihood of selling a security prior to recovering its cost basis. This is a change from the current requirement for an entity to assess whether it has the intent and ability to hold a security to recovery or maturity. This FSP also expands and increases the frequency of existing disclosure about other-than-temporary impairments and requires new disclosures of the significant inputs used in determining a credit loss, as well as a rollforward of that amount each period.

FSP No. FAS 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial Instruments, increases the frequency of fair value disclosures from annual to quarterly to provide financial statement users with more timely information about the effects of current market conditions on their financial instruments.

We currently are evaluating the provisions of these three FSPs which require adoption effective for the quarter ending June 30, 2009.

Comparison of Results of Operations for 2009 and 2008

The following discussion primarily deals with our results of operations for the
three months ended March 31, 2009, or the 2009 quarter, and the three months
ended March 31, 2008, or the 2008 quarter.

The following table presents certain financial data for our two segments:



                                         For the three months ended March 31,                  Change
                                             2009                     2008             Dollars       Percentage
                                                        (dollars in thousands)
Premium revenues:

Medicare Advantage                    $        4,060,459       $        3,167,717     $  892,742           28.2 %
Medicare stand-alone PDP                         595,683                  874,999       (279,316 )        (31.9 )%

Total Medicare                                 4,656,142                4,042,716        613,426           15.2 %
Military services                                871,171                  810,659         60,512            7.5 %
Medicaid                                         156,660                  143,680         12,980            9.0 %

Total Government                               5,683,973                4,997,055        686,918           13.7 %


Fully-insured                                  1,558,669                1,481,486         77,183            5.2 %
Specialty                                        228,652                  234,060         (5,408 )         (2.3 )%

Total Commercial                               1,787,321                1,715,546         71,775            4.2 %

Total                                 $        7,471,294       $        6,712,601     $  758,693           11.3 %

Administrative services fees:
Government                            $           20,333       $           22,706     $   (2,373 )        (10.5 )%
Commercial                                        95,549                   89,273          6,276            7.0 %

Total                                 $          115,882       $          111,979     $    3,903            3.5 %

Income (loss) before income taxes:
Government                            $          166,101       $           (3,237 )   $  169,338         5231.3 %
Commercial                                       127,661                  127,165            496            0.4 %

Total                                 $          293,762       $          123,928     $  169,834          137.0 %

Benefit ratios (a):
Government                                          86.8 %                   90.0 %                        (3.2 )%
Commercial                                          74.7 %                   76.8 %                        (2.1 )%

Total                                               83.9 %                   86.7 %                        (2.8 )%

SG&A expense ratios (b):
Government                                          10.5 %                   10.7 %                        (0.2 )%
Commercial                                          24.1 %                   22.3 %                         1.8 %

Total                                               13.9 %                   13.8 %                         0.1 %

(a) Represents total benefit expenses as a percentage of premium revenues. Also known as the benefit ratio.

(b) Represents total selling, general, and administrative expenses as a percentage of premium revenues, administrative services fees, and other revenues. Also known as the SG&A expense ratio.

Ending medical membership was as follows at March 31, 2009 and 2008:

                                      March 31,                   Change
                                  2009         2008       Members       Percentage
    Medical Membership:
    Government segment:
    Medicare Advantage          1,468,900    1,267,700      201,200           15.9 %
    Medicare stand-alone PDP    2,078,900    3,150,200   (1,071,300 )        (34.0 )%

    Total Medicare              3,547,800    4,417,900     (870,100 )        (19.7 )%

    Military services           1,746,600    1,728,100       18,500            1.1 %
    Military services ASO       1,244,000    1,193,000       51,000            4.3 %

    Total military services     2,990,600    2,921,100       69,500            2.4 %

    Medicaid                      385,200      384,200        1,000            0.3 %
    Medicaid ASO                       -       175,400     (175,400 )       (100.0 )%

    Total Medicaid                385,200      559,600     (174,400 )        (31.2 )%

    Total Government            6,923,600    7,898,600     (975,000 )        (12.3 )%


    Commercial segment:
    Fully-insured               1,893,700    1,861,000       32,700            1.8 %
    ASO                         1,577,800    1,597,700      (19,900 )         (1.2 )%

    Total Commercial            3,471,500    3,458,700       12,800            0.4 %


    Total medical membership   10,395,100   11,357,300     (962,200 )         (8.5 )%


    Specialty Membership:
    Commercial segment (a)      6,743,700    6,916,200     (172,500 )         (2.5 )%

(a) The Commercial segment provides a full range of insured specialty products including dental, vision, and other supplemental products. Members could be counted more than once since members have the ability to choose multiple products.

These tables of financial data should be reviewed in connection with the discussion that follows. We intend for the discussion of our financial condition and results of operations that follows to assist in the understanding of our financial statements and related changes in certain key items in those financial statements from year to year, including the primary factors that accounted for those changes.

Summary

Net income was $205.7 million, or $1.22 per diluted common share, in the 2009 . . .