UNITED STATES DISTRICT COURT DISTRICT OF MINNESOTA ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) )

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1 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 1 of 125 UNITED STATES DISTRICT COURT DISTRICT OF MINNESOTA CALIFORNIA PUBLIC EMPLOYEES RETIREMENT SYSTEM, On Behalf of Itself and All Others Similarly Situated, vs. Plaintiff, UNITEDHEALTH GROUP INC., WILLIAM W. MCGUIRE, STEPHEN J. HEMSLEY, PATRICK J. ERLANDSON, ROBERT J. SHEEHY, DAVID J. LUBBEN, WILLIAM A. MUNSELL, TRACY L. BAHL, LOIS E. QUAM, JAMES A. JOHNSON, THOMAS H. KEAN, MARY O. MUNDINGER, WILLIAM C. BALLARD, JR., DOUGLAS W. LEATHERDALE, WILLIAM G. SPEARS, GAIL R. WILENSKY, RICHARD T. BURKE, DONNA E. SHALALA and ROBERT L. RYAN, Defendants. ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) ) Civ. No. CLASS ACTION COMPLAINT FOR VIOLATION OF THE FEDERAL SECURITIES LAWS SEEKING MONEY DAMAGES AND EQUITABLE RELIEF DEMAND FOR JURY TRIAL

2 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 2 of 125 INTRODUCTION 1. This is a securities class action on behalf of all persons who purchased or otherwise acquired the publicly traded securities of UnitedHealth Group Inc. ( UnitedHealth, UHG or the Company ) between January 20, 2005 and May 17, 2006 (the Class Period ), including (i) those who owned UnitedHealth common stock in 2002, 2003, 2004 and 2005 at the time UnitedHealth s 2002, 2003, 2004 and 2005 Proxy Statements were circulated to shareholders to solicit their votes on various matters, and (ii) those who received (acquired) UnitedHealth common stock issued pursuant to the October 12, 2005 Registration Statement/Prospectus used to issue new UnitedHealth shares in the Company s December 21, 2005 UnitedHealth merger with PacifiCare Health Systems, Inc. ( Merger Registration Statement ), against UnitedHealth and certain of its officers and/or directors for violations of the Securities Act of 1933 (the Securities Act ) and the Securities Exchange Act of 1934 (the Exchange Act ). 2. During the Class Period, and in UnitedHealth s Proxy Statements, defendants issued materially false and misleading statements regarding the Company s business, its stock option plans and compensation practices and its financial results, while employing contrivances and manipulative acts in connection with UnitedHealth s stock option programs and financial statements. 1 As a result of defendants false statements, 1 Backdating refers to picking an option-grant date earlier than the actual date the option is granted a date when the stock price was lower than the current actual grant date. Spring loading refers to granting stock options just before the release of positive corporate news which is expedited to push the stock higher. Both practices are manipulative - 1 -

3 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 3 of 125 contrivances and manipulative acts, UnitedHealth s publicly traded securities traded at artificially inflated prices during the Class Period, with its common stock reaching a high of $64.61 per share on December 27, 2005, as UnitedHealth consistently reported outstanding financial results and completed the PacifiCare acquisition. In addition, UnitedHealth s 2002 Stock Incentive Plan ( 2002 Stock Plan ) was approved and its directors were elected and reelected by shareholder votes. Certain of the defendants took advantage of these falsified financial results, the artificial inflation of UnitedHealth s stock and the manipulation of its stock option plans by selling millions of shares of their UnitedHealth stock for illegal insider trading proceeds of over $235 million in ill-gotten gains that were materially enhanced due to the improper backdating and spring loading of their options to purchase UnitedHealth stock, while they pocketed millions more in unjustified bonus payments enhanced in part by UnitedHealth s falsified profits. As a result of the individual defendants misrepresentations of UnitedHealth s business and financial success, they were also able to successfully pursue and complete the acquisition of PacifiCare in late 2005 via a merger the largest acquisition in UnitedHealth s history and one very much desired by UnitedHealth s top insiders as it greatly increased the size of UnitedHealth, which justified larger compensation and perquisites for them as executives and directors of a now much larger company. 3. Among the false statements made during the Class Period and in the Proxy Statements were: contrivances that constitute insider trading and provide the corporate executive with a quick, riskless profit, harming investors and public shareholders

4 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 4 of 125 UnitedHealth s stock option plans would help assure the Company s future success by offering to top executives incentives to put forth maximum effort for the success of the Company s business. UnitedHealth s stock option plans assured favorable tax treatment of stockbased awards and ensured stock-option compensation was tax deductible for the Company. Stock options could not and would not be granted at less than 100% of fair market value (i.e., stock market closing price) on the date of grant. UnitedHealth s stock option plans were administered by a Compensation Committee of all independent directors. The Compensation Committee was authorized only to grant options in accordance with the terms of the plan, including limiting option exercise prices to not less than 100% of fair market value of the stock on the date of grant. The value of the Company s stock option grants was tied to the Company s performance. The Company s internal financial, accounting and disclosure controls were adequately designed and functioning in a manner so as to prevent fraud or manipulation. UnitedHealth s strong financial results were due to consistent operational performances across the full spectrum of its businesses. UnitedHealth s financial reports and statements fairly presented its financial condition and results in accordance with Generally Accepted Accounting Principles ( GAAP ). Specified officers of UnitedHealth had been granted options to buy specified numbers of shares of UnitedHealth stock at specified prices, i.e., fair market value on the date the options were granted. Because of the way UnitedHealth s stock option plans were structured and administered and because the Company grants stock options at an exercise price not less than the fair market value of the Company s common stock on the date of grant, UnitedHealth did not have to recognize compensation expense in connection with its grant, or any subsequent exercise, of stock option grants

5 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 5 of 125 UnitedHealth s stock option plans had been voted for and adopted by its Board and its shareholders and, therefore, the option shares were validly issued and would not dilute existing stockholders ownership stake in UnitedHealth. 4. In late 2005 and early 2006, a number of incidents involving stock option backdating and spring loading by public companies surfaced, including SEC investigations, executive resignations and financial restatements. In late February 2006, William W. McGuire ( McGuire ), UnitedHealth s Chief Executive Officer ( CEO ), learned that The Wall Street Journal was working on an exposé regarding executive stock option manipulation, including backdating, and planning a story which would feature UnitedHealth and its executives, including McGuire. Upon hearing this, McGuire quickly sold 2.3 million of his UnitedHealth shares which he had gotten via stock options pocketing $136 million. Then, on March 18, 2006, The Wall Street Journal published an article raising questions over whether several public companies had been manipulating stock option grants to enrich executives by backdating these grants to lower prices or granting options to executives ahead of the release of positive corporate news, specifically mentioning UnitedHealth and McGuire. UnitedHealth immediately announced an internal investigation of its own stock option grant practices. Shortly thereafter, UnitedHealth revealed it was suspending all stock option grants to executives. 5. In April 2006, The Wall Street Journal published a story entitled Probe of UnitedHealth Options Grants Deepens, which stated: Lieutenants of UnitedHealth Group Inc. Chief Executive William McGuire frequently received stock-option grants dated at or near quarterly low points in the company s share price, raising new questions about how the giant health insurer timed option grants

6 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 6 of 125 A review of securities filings shows at least 11 executives, including Dr. McGuire, received grants dated at the lowest daily closing price of the first or third quarters of the year Seven of them, including the company s general counsel, received grants in both quarters. A few days later, UnitedHealth changed its stock option practices and established a new policy establishing a fixed day each year for the grant of stock options. 6. On April 25, 2006, Reuters reported: Minnesota Attorney General Mike Hatch, stepping up his attack on huge stock options at UnitedHealth Group Inc., urged pension funds to withhold votes for four directors seeking re-election to the health insurer s board next month.... Hatch, in a letter sent on Monday to about 135 public and private pension funds, accused the board of failing to provide proper oversight in the awarding of stock options in the billions to top executives, while having awarded themselves millions of dollars in stock option opportunities. Hatch s letter comes amid scrutiny of the circumstances under which UnitedHealth Chief Executive William McGuire obtained some of the $1.6 billion in unrealized gains he holds in UnitedHealth stock options, the report said. 7. During late April and early May 2006, the emerging public company stock option manipulation scandal exploded with additional revelations involving several companies, resulting in SEC civil and DOJ criminal investigations. On May 11, 2006, UnitedHealth revealed that the SEC was investigating the Company, admitted there had been significant deficiencies in its granting of and accounting for stock options to its executives and that it would likely have to restate its financial results for the past three years to eliminate over $393 million in pre-tax profits. On May 17, 2006, the Company revealed that it had received a subpoena from the DOJ involving a grand jury investigation of its stock option activities and a request from the IRS for years of documents relating to stock options and other compensation to its executives. As news of all of this reached the market, - 5 -

7 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 7 of 125 contradicting UnitedHealth s prior positive representation and reports, and its impact and significance was digested by investors and reflected in the prices of UnitedHealth s publicly traded securities, including UnitedHealth s stock price, the artificial inflation came out of the price of UnitedHealth s publicly traded securities and its stock collapsed to as low as $42.09 per share, on much higher than normal trading volume. 8. In violation of the Company s own stated policies and applicable laws, defendants engaged in or permitted backdating and spring loading in the issuance of executive stock options for many years. While the Company s 2002 Stock Plan required stock options to have an exercise price of the fair market value 2 of stock on the date of the grant, and defendants regularly represented that stock options covered by the 2002 Stock Plan would not be granted at less than 100% of fair market value on the date of grant, with the plan to be administered by the Compensation Committee of the Board comprised of independent directors this was not true. Often the grants were unilaterally made by McGuire and other executives and were backdated to the day that UnitedHealth stock had hit its low price for the year or were granted to them just prior to the release of positive 2 The 2002 Stock Plan defined Fair Market Value as: Fair Market Value shall mean, with respect to any property (including, without limitation, any Shares or other securities), the fair market value of such property determined by such methods or procedures as shall be established from time to time by the Committee. Notwithstanding the foregoing, for purposes of the Plan, the Fair Market Value of Shares on a given date shall be, if the Shares are then traded on the New York Stock Exchange, the closing price of the Shares as reported on the New York Stock Exchange on such date or, if the New York Stock Exchange is not open for trading on that date, on the most recent preceding date when the New York Stock Exchange was open for trading

8 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 8 of 125 corporate news and a likely increase in the market price of the Company s stock, thus positioning the executives to achieve an instant, riskless profit. The Company s stock option plan and policies stated that stock option grants were to be made at a price not less than the fair market value of the common stock on the date of the grant, i.e., the public closing price of the stock on the date of the grant, and because of this no favorable tax treatment of the stock options by the Company would occur. Despite the defendants repeated representations in the Company s Annual Reports, Proxy Statements and other SEC filings that UnitedHealth s option granting practices were appropriate, one analysis has concluded that the likelihood of the option grants made to McGuire and Stephen J. Hemsley, the Company s COO, from 1997 to 2002 occurring by chance on the dates when the prices of UnitedHealth stock were so low (and hence so favorable to McGuire and Hemsley) was 1 in hundreds of millions and UnitedHealth itself has now admitted to significant deficiencies in the administering of its stock option plan 9. The true facts, which were known by the defendants but concealed from the investing public during the Class Period were: (a) UnitedHealth s 2003, 2004 and 2005 financial results, including its net income, earnings per share and profit and gross margins, were all materially overstated due to contrivances and manipulations in the administration of UnitedHealth s stock options, including backdating and spring loading, and failing to properly record or account for the actual amount, and tax consequences of, compensation expense of its executives; (b) UnitedHealth s excellent financial and operating results reported during the Class Period were not entirely due to the skill and business acumen of its top executives, - 7 -

9 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 9 of 125 their successful management of its business or the outstanding performance of its business units, as represented; in fact, a significant part was due to falsification of UnitedHealth s financial statements by not properly accounting for (and thus understating) the true compensation expense of its executive and management team; (c) UnitedHealth s top executives were manipulating the Company s stock option plan so as to enrich themselves by millions of dollars by backdating or spring loading the stock options they were granted to set the options at a much lower exercise price one well below the market price or fair value of the stock when the option was actually granted or by granting them in front of the release of positive corporate news which would boost the stock, thus giving them an instant, riskless profit, while exposing the Company to the risk of regulatory investigations, tax penalties, and even criminal proceedings; (d) UnitedHealth s internal financial and accounting controls were materially deficient and not effective in providing the necessary and required degrees of assurance that UnitedHealth s financial results and reports were fairly and accurately presented and free from fraud; and (e) Because UnitedHealth s historical and current financial results were overstated, defendants forecasts of UnitedHealth s future financial performance were false and could not be achieved. 10. As a result of defendants false statements, UnitedHealth s publicly traded securities traded at artificially inflated levels during the Class Period, a massive stock option plan for executives was approved and all of the current UnitedHealth directors were elected - 8 -

10 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 10 of 125 or re-elected, perpetuating their control of UnitedHealth. The improper backdating and spring-loading of United Health s top insiders stock options and the artificial inflation of UnitedHealth s stock allowed UnitedHealth s top officers to reap millions of dollars via illegal insider trading of their UnitedHealth stock, while the falsification of its financial statements contributed to huge bonuses for them based in part on UnitedHealth s inflated profits. However, the public purchasers and owners of UnitedHealth s stock were damaged. The ownership of UnitedHealth as public stockholders was improperly diluted as UnitedHealth executives got millions of stock options they were not entitled to or got more shares at lower option prices than they were entitled to and Class members were damaged as they purchased UnitedHealth stock and other securities at artificially inflated prices and then the Company s stock and other securities declined in price as the truth entered the market. The chart below shows these events: - 9 -

11 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 11 of 125 JURISDICTION AND VENUE 11. The claims asserted herein arise under 10(b), 14(a), 20(a) and 20A of the Exchange Act, 15 U.S.C. 78j(b), 78n(a), 78t(a) and 78t-1, and Rule 10b-5, 17 C.F.R b-5, promulgated thereunder, and under 11 and 15 of the Securities Act, 15 U.S.C. 77k and 77o. In connection with the acts, conduct and other wrongs complained of herein, defendants, directly or indirectly, used the means and instrumentalities of interstate commerce, the United States mail and the facilities of a national securities market. 12. Jurisdiction exists pursuant to 22 of the Securities Act, 15 U.S.C. 77v, and 27 of the Exchange Act, 15 U.S.C. 78aa, and 28 U.S.C and Venue is proper in this district pursuant to 22 of the Securities Act, 15 U.S.C. 77v, 27 of the Exchange Act, 15 U.S.C. 78aa, and 28 U.S.C. 1391(b). Many of the acts

12 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 12 of 125 charged herein, including the preparation and dissemination of materially false and misleading information, occurred in substantial part in this District. UnitedHealth s principal executive offices are located in Minnetonka, Minnesota. Further, the individual defendants conduct business in this District. PARTIES 14. Plaintiff California Public Employees Retirement System ( CalPERS ) is the largest public employee retirement system in the United States, with assets of approximately $200 billion and nearly 1.4 million beneficiaries, including active and retired public employees. As set forth in the Certification attached hereto, CalPERS purchased UnitedHealth publicly traded securities during the Class Period, including its purchases on the open market and its exchange of PacifiCare shares for UnitedHealth shares in the PacifiCare/UnitedHealth merger, and remains an owner of over 6.7 million shares of UnitedHealth common stock. CalPERS has owned UnitedHealth stock continually during 2002 to the current date. As a result, CalPERS has suffered economic loss and damages and had its position as a UnitedHealth shareholder unfairly and improperly diluted. 15. Defendant UnitedHealth is a health and well-being company. The Company provides individuals with access to healthcare services and resources through physicians and other care providers and hospitals. UnitedHealth conducts its operations through four operating divisions: Uniprise, Health Care Services, Specialized Care Services and Ingenix. 16. Defendant William W. McGuire ( McGuire ) is, and at all relevant times was, CEO and Chairman of UnitedHealth. During the Class Period, McGuire reaped illegal insider selling proceeds of $135.9 million by selling 2.3 million shares of his UnitedHealth

13 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 13 of 125 stock. Defendant McGuire signed the Proxies, signed the Ks and the Merger Registration Statement. 17. Defendant Stephen J. Hemsley ( Hemsley ) is, and at all relevant times was, President, COO and a director of UnitedHealth. Defendant Hemsley authorized and permitted the use of his name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 18. Defendant Patrick J. Erlandson ( Erlandson ) is, and at all relevant times was, Chief Financial Officer ( CFO ) of UnitedHealth. During the Class Period, Erlandson reaped illegal insider trading proceeds of over $7.9 million by selling 150,024 shares of his UnitedHealth stock. Defendant Erlandson signed the 2004 and Ks and signed the Merger Registration Statement. 19. Defendant Robert J. Sheehy ( Sheehy ) is, and at all relevant times was, CEO of UnitedHealthcare, a division of UnitedHealth. During the Class Period, Sheehy reaped illegal insider trading proceeds of $13 million by selling 280,000 shares of his UnitedHealth stock. 20. Defendant David J. Lubben ( Lubben ) is, and at all relevant times was, General Counsel and Secretary of UnitedHealth. During the Class Period, Lubben reaped illegal insider trading proceeds of $14 million by selling 311,648 shares of his UnitedHealth stock. 21. Defendant William A. Munsell ( Munsell ) is, and at all relevant times was, CEO of Specialized Care Services, a division of UnitedHealth. During the Class Period, Munsell reaped proceeds of $7.4 million by selling 165,088 shares of his UnitedHealth stock

14 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 14 of Defendant Tracy L. Bahl ( Bahl ) is, and at all relevant times was, CEO of Uniprise, a division of UnitedHealth. During the Class Period, Bahl reaped illegal insider trading proceeds of $7.2 million by selling 160,000 shares of his UnitedHealth stock. 23. Defendant Lois E. Quam ( Quam ) is, at all relevant times was, CEO of Ovations, a division of UnitedHealth. During the Class Period, Quam reaped illegal insider trading proceeds of $8.86 million by selling 173,200 shares of her UnitedHealth stock. 24. Defendant James A. Johnson ( Johnson ) has been a director of UnitedHealth since Johnson has been Chair of the Compensation Committee (the Compensation Committee ) of UnitedHealth since During the Class Period, Johnson reaped illegal insider trading proceeds by selling 12,800 shares of his UnitedHealth stock for over $783,000. Defendant Johnson authorized and permitted the use of his name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 25. Defendant Thomas H. Kean ( Kean ) has been a director of UnitedHealth since Kean is a member of the Audit Committee. Kean reaped illegal insider trading proceeds by selling 192,000 shares of his UnitedHealth stock for $9.6 million. Defendant Kean authorized and permitted the use of his name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 26. Defendant Mary O. Mundinger ( Mundinger ) has been a director of UnitedHealth since Mundinger has been a member of the Compensation Committee since at least Defendant Mundinger authorized and permitted the use of her name in

15 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 15 of 125 the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 27. Defendant William C. Ballard, Jr. ( Ballard ) has been a director of UnitedHealth since Ballard is Chair of the Audit Committee of UnitedHealth. Ballard reaped illegal insider trading proceeds by selling 32,000 shares of his UnitedHealth stock for over $1.69 million. Defendant Ballard authorized and permitted the use of his name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 28. Defendant Douglas W. Leatherdale ( Leatherdale ) has been a director of UnitedHealth since Leatherdale is a member of the Audit Committee of UnitedHealth. Leatherdale reaped illegal insider trading proceeds by selling 78,000 shares of his UnitedHealth stock for over $3.47 million. Defendant Leatherdale authorized and permitted the use of his name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 29. Defendant William G. Spears ( Spears ) has been a director of UnitedHealth since Spears is a member of the Compensation Committee and has been at all times relevant to this action. Spears reaped illegal insider trading proceeds by selling 166,400 shares of his UnitedHealth stock for $8.46 million. Defendant Spears authorized and permitted the use of his name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 30. Defendant Gail R. Wilensky ( Wilensky ) has been a director of UnitedHealth since Wilensky reaped illegal insider trading proceeds by selling 30,000 shares of her

16 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 16 of 125 UnitedHealth stock for over $1.3 million. Defendant Wilensky authorized and permitted the use of her name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 31. Defendant Richard T. Burke ( Burke ) has been a director of UnitedHealth since Previously, Burke served as CEO of UnitedHealthcare, Inc. from 1977 to Burke reaped illegal insider trading proceeds by selling 228,000 shares of his UnitedHealth stock for approximately $10.6 million. Defendant Burke authorized and permitted the use of his name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 32. Defendant Donna E. Shalala ( Shalala ) has been a director of UnitedHealth since Shalala reaped illegal insider trading proceeds by selling 122,000 shares of her UnitedHealth stock for $5.4 million. Defendant Shalala authorized and permitted the use of her name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. 33. Defendant Robert L. Ryan ( Ryan ) has been a director of UnitedHealth since Defendant Ryan authorized and permitted the use of his name in the Proxies, signed the 2004 and Ks and signed the Merger Registration Statement. Defendants Duties 34. Each officer and director of UnitedHealth owed UnitedHealth shareholders the duty to exercise care and diligence in the management and administration of the affairs of the Company

17 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 17 of By reason of their positions as officers and directors of UnitedHealth and because of their ability to control the business and corporate affairs of the Company, the defendants owed UnitedHealth shareholders an obligation of candor. As officers and/or directors of a publicly held company, the defendants had a duty to promptly disseminate accurate and truthful information with respect to the Company s operations, finances and compensation practices. 36. Because of their positions of control and authority as directors or officers of UnitedHealth, each of the defendants was able to and did, directly and indirectly, control the wrongful acts complained of herein. These acts include: (i) agreement to and/or acquiescence in the improper stock option practices; (ii) causing UnitedHealth to disseminate false Proxy Statements for , which Proxy Statements failed to disclose defendants improper option activities and failed to disclose that executives were able to backdate or spring load their stock options grants via oral notification in order to lower the exercise price of the stock options they received, or pick the grant date of their option grants so as to benefit from the upcoming release of positive corporate news which would likely boost the stock price; (iii) causing UnitedHealth to file false SEC filings, including UnitedHealth s 2004 and 2005 Annual Reports, its Qs, its Proxy Statements and the Merger Registration Statement, all in violation of the U.S. securities laws. Because of their positions with UnitedHealth, each of the defendants had access to adverse non-public information and was required to disclose these facts promptly and accurately to UnitedHealth shareholders and the financial markets but failed to do so

18 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 18 of To discharge their duties, the directors of UnitedHealth were required to exercise reasonable and prudent supervision over the management, policies, practices and controls of the business and financial affairs of UnitedHealth. By virtue of such duties, the officers and directors of UnitedHealth were required, among other things, to: (a) manage, conduct, supervise and direct the business affairs of UnitedHealth in accordance with applicable federal law, government rules and regulations and the charter and bylaws of UnitedHealth, including its stock option plans; (b) not permit any officer, director or employee of UnitedHealth to engage in self-dealing, insider trading or stock manipulation; (c) not permit any officer, director or employee of UnitedHealth to violate applicable laws, rules and regulations; (d) remain informed as to the status of UnitedHealth s operations, including its practices in relation to its executive compensation practices, financial statement preparation and internal financial, accounting and disclosure controls, and upon receipt of notice or information of imprudent improper or unsound practices, to make inquiry in connection therewith, and to take steps to correct such conditions or practices and make such disclosures as are necessary to comply with the federal securities laws and their duty of candor to the Company s shareholders; (e) establish and maintain systematic and accurate records and reports of the business and affairs of UnitedHealth and procedures for the reporting to the Board of Directors and to periodically investigate, or cause independent investigation to be made of, said reports and records;

19 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 19 of 125 (f) maintain and implement an adequate, functioning system of internal legal, financial, disclosure and accounting controls, such that UnitedHealth s financial statements including its expenses, accounting for stock option grants and other financial information would be accurate and in accordance with applicable laws; (g) exercise control and supervision over the public statements to the securities markets and trading in UnitedHealth stock by the officers and employees of UnitedHealth; and (h) supervise the preparation and filing of any financial reports or other information required by law from UnitedHealth and to examine and evaluate any reports of examinations, audits or other financial information concerning the financial affairs of UnitedHealth and to make full and accurate disclosure of all material facts concerning, inter alia, each of the subjects and duties set forth above. 38. The defendants, as corporate officers and/or directors, were obligated to comply with applicable laws and to disclose the truth about UnitedHealth. Each of the defendants participated in the issuance and/or review of the false and/or misleading statements, including the false SEC filings and reports issued to UnitedHealth shareholders. 39. The Individual Defendants, because of their positions with the Company, possessed the power and authority to control the contents of UnitedHealth s Proxy Statements, quarterly reports, press releases, SEC filings and presentations to securities analysts, money and portfolio managers and institutional investors, i.e., the market. They were provided with copies of the Company s reports, Proxy Statements, SEC filings, registration statements and press releases alleged herein to be misleading prior to or shortly

20 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 20 of 125 after their issuance and had the ability and opportunity to prevent their issuance or cause them to be corrected. 40. The defendants identified in and are directors referred to herein as the Director Defendants. The defendants identified in are corporate officers referred to herein as the Officer Defendants. The defendants identified in 16, and sold stock during the Class Period and are referred to herein as the Insider Selling Defendants. The defendants named in are referred to herein as the Individual Defendants. STOCK OPTION BACKDATING AND SPRING LOADING 41. A stock option granted to an employee of a corporation allows the employee to purchase the specified number of shares of company stock at a specified price referred to as the exercise price or strike price for a specified period of time. Stock options are granted by public companies as part of compensation packages for executives supposedly to create incentives for them to boost long-term corporate performance and profitability by good, honest management efforts. When the executive exercises the option, he or she purchases the stock from the company at the exercise price, regardless of the stock s market price at the time the option is exercised. Options are priced at the market price on the date of grant so if the stock goes up over time, the executive makes a profit. If the system is abused by backdating, setting the option exercise price to a lower price than the stock s fair market value when the option is granted, or by spring loading, i.e., granting the stock option just before the company is going to issue positive news which will likely push the stock price up, the executive gets an instant, guaranteed and riskless profit. The company is

21 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 21 of 125 also hurt as the spread between the true grant exercise price and the market price is required by law to be treated as compensation expense, which reduces profits, the corporate stock option plan loses its tax protection and the corporations internal non-public information is misappropriated by the executives for their personal profit. Shareholders and share purchasers are also hurt, as reported corporate profits are improperly inflated, as is the trading price of the stock (at least until the truth comes out), their ownership interest in the corporation is unfairly diluted and since they voted to approve the stock option plan and elect the directors who proposed the plan and oversee its implementation and administration, their corporate suffrage rights are violated. 42. Defendants improper stock option practices and contrivances began no later than 1997 and continued through Insiders at UnitedHealth consistently got options at miraculously low prices, year in/year out, due to what UnitedHealth has now admitted were significant deficiencies in how its stock option plans were conducted a euphemism for backdating or spring loading. The charts below highlight some of these significant deficiencies (unadjusted for subsequent stock splits):

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25 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 25 of UnitedHealth granted McGuire 850,000 options in two transactions in McGuire selected a grant date of February 3, 2005 for the first 650,000 options, which yielded a strike price of $90.56 (or a split-adjusted strike price of $45.28 for 1.3 million options). By April 7, 2005, the share price was up to over $99. The selection of the strike price here thus yielded a paper return of approximately 10% in only days more than two months. Given the past pattern, such a pronounced jump immediately after this grant can hardly be seen as a coincidence. The second group of 200,000 options was granted on May 2, 2005, yielding a strike price of (or a split-adjusted grant of 400,000 options at $47.34 per share). On May 3, 2005 the next trading day the share price went up over $2.00 and then was up approximately another $2.00 by May 6, 2005, when the shares closed at $ Thus, the options granted on Monday yielded instant profits of approximately $4.00 per share by that Friday. Given that McGuire was granted 200,000 options, this amounted to approximately $800,000 in instant profits for McGuire in just one business week. If McGuire had exercised these options and sold the shares at UnitedHealth s closing price on May 1, 2006, his net proceeds would have been more than $6.9 million (1.3 million shares at $49.80 less the $45.24 exercise price, plus 400,000 shares at $49.80 less the $47.34 exercise price). 44. Because McGuire set the exercise prices for UnitedHealth s options in a way favorable to him, but harmful to shareholders of the Company, i.e., Class members, and he and others with option grants received hundreds of millions of dollars of additional compensation to which they would not be entitled had an exercise price fair to the Company been picked, as was required

26 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 26 of The failure to disclose the setting of the exercise prices to achieve maximum benefit for McGuire and UnitedHealth s other executives caused the Proxies and the Merger Registration Statement and 2004 and Ks and Qs issued by the Company to be materially misleading in violation of the proxy rules and the Securities and Exchange Acts. 46. Many companies make their stock option grants at the same time each year, a policy that greatly reduces and perhaps eliminates the potential for manipulation like backdating or spring loading. Defendants stock option backdating violated the express terms of the Company s stock option plans and policies. The Company s stock option plans and policies stated that stock option grants are consummated at a price not less than 100% of the fair market value of the common stock on the date of the grant. Despite defendants repeated representations in the Company s Annual Reports and Proxy Statements filed during the Class Period, asserting that UnitedHealth s option granting practices were appropriate, 3 statistical analysis shows the likelihood of the option grants made to McGuire and Hemsley between 1997 and 2002 occurring on the dates when the prices of UnitedHealth stock were at their lowest point (and hence most favorable to McGuire and Hemsley) was astronomical, and UnitedHealth has admitted there were significant deficiencies in how 3 During the Class Period, on October 12, 2005, defendants reassured shareholders that all of the issued shares and options then issued were entirely appropriate, stating that all stock (and related issuances i.e., options) were being carefully scrutinized by the Company s own internal lawyers, noting UnitedHealth Group s General Counsel [has determined] the validity of the securities offered. Amendment No. 1 to S-4 Registration Statement, Oct. 12, 2005, at

27 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 27 of 125 these options were granted, and has suspended its stock options program in the wake of SEC civil and DOJ criminal investigations. 47. On May 11, 2006, defendants admitted in UnitedHealth s Report on Form 10- Q for the quarter ended March 31, 2006, that as a result of the improper option practices UnitedHealth s net income for had been overstated by at least $393 million (pretax). In addition to the billions of dollars of options awarded to McGuire and Hemsley, other executives also received a substantial number of options as detailed below: Name Number of Stock Options Carlson 85,000 Kaplan 90,000 Koppe 50,000 Lubben 125,000 McDonough 75,000 Rivet 201,000 Sheehy 125,000 Wheeler 218,760 Willis 190, The Director Defendants (other than McGuire) also handsomely benefited from their participation in the option backdating scheme as detailed below: Name Number of Stock Options Ballard 302,000 Burke 422,270 Johnson 410,020 Kean 389,840 Leatherdale 426,190 Mundinger 314,320 Ryan 170,370 Spears 392,590 Wilensky 251,

28 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 28 of 125 DEFENDANTS FALSE AND MISLEADING STATEMENTS ISSUED DURING THE CLASS PERIOD 49. On January 20, 2005, the Company issued a press release entitled UnitedHealth Group Reports Record Fourth Quarter and Full Year 2004 Earnings of $1.09 and $3.94 Per Share. The press release stated in part: UnitedHealth Group achieved record results in the fourth quarter and full year ended December 31, 2004, reported Chairman and CEO William W. McGuire, M.D. today. Results were driven by balanced contributions across the diversified family of UnitedHealth Group businesses.... Quarterly and Annual Financial Performance Three Months Ended Year Ended December 31, September 30, December 31, December 31, December Revenues $10.51 billion $9.86 billion $7.52 billion $37.22 billion $28.82 billion Earnings From Operations $1.19 billion $1.09 billion $810 million $4.10 billion $2.94 billion Operating Margin 11.3% 11.1% 10.8% 11.0% 10.2% UnitedHealth Group Highlights Fourth quarter earnings per share of $1.09 increased 31 percent from $0.83 in the fourth quarter of 2003, and improved 5 cents or 5 percent from the third quarter of Full year earnings per share of $3.94 increased 33 percent from $2.96 per share in Fourth quarter consolidated net earnings increased to $739 million, up $232 million or 46 percent year-over-year and $41 million or 6 percent on a sequential quarter basis. Full year net earnings advanced to $2.6 billion, up $762 million or 42 percent over 2003 results. Operating costs were 15.1 percent of revenues in the fourth quarter, an improvement of 160 basis points from the fourth quarter of 2003 and were stable sequentially. The full year operating cost ratio of 15.4 percent also improved significantly from 16.9 percent in

29 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 29 of 125 Earnings from operations increased to $1.2 billion in the fourth quarter, up $378 million or 47 percent over the prior year, and up $96 million or 9 percent sequentially. Full year earnings from operations of $4.1 billion advanced 40 percent over 2003 results. Consolidated fourth quarter operating margin improved to 11.3 percent from 10.8 percent in the fourth quarter of Full year operating margin of 11.0 percent improved 80 basis points from 10.2 percent in The Company noted that its near term financial performance outlook has strengthened.... Earnings per share for 2005 are now expected in the range of $4.75 to $4.80, an increase of 5 cents per share over the Company s most recent view and representing a 21 percent to 22 percent earnings advance over the $3.94 per share earned in On March 1, 2005, UnitedHealth filed its Form 10-K for 2004, including the financial results previously reported for 2004, and its financial results as well. The 10-K was signed by the Director Defendants and the CFO. follows: 51. The K discussed UnitedHealth s stock-based compensation as Stock-Based Compensation We account for activity under our stock-based employee compensation plans under the recognition and measurement principles of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees. Accordingly, we do not recognize compensation expense in connection with employee stock option grants because we grant stock options at exercise prices not less than the fair value of our common stock on the date of grant. 52. The Form 10-K included a certification by McGuire which stated: 1. I have reviewed this report on Form 10-K of UnitedHealth Group Incorporated (the registrant ); 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which

30 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 30 of 125 such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a- 15(f) and 15d-15(f)) for the registrant and we have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant s internal control over financial reporting that occurred during the registrant s most recent fiscal quarter (the registrant s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant s internal control over financial reporting; and 5. The registrant s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant s auditors and the audit committee of the registrant s board of directors (or persons performing the equivalent functions):

31 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 31 of 125 a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant s ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant s internal control over financial reporting. Erlandson signed an identical certification included in the K. 53. The statements made by defendants on January 20, 2005 and March 1, 2005 were false and misleading when made. The true facts were: (a) UnitedHealth s 2002, 2003 and 2004 financial results, including its net income, earnings per share and profit and gross margins, were all materially overstated due to contrivances and manipulations in the administration of UnitedHealth s stock options, including backdating and spring loading, and failing to properly record or account for the actual amount and tax consequences of compensation expenses of its executives; (b) UnitedHealth s excellent financial and operating results reported during the Class Period were not entirely due to the skill and business acumen of its top executives, their successful management of its business or the outstanding performance of its business units, as represented; in fact, a significant part was due to falsification of UnitedHealth s financial statements by not properly accounting for (and thus understating) the true compensation expense of its executive and management team; (c) UnitedHealth s top executives were manipulating the Company s stock option plan so as to enrich themselves by millions of dollars by backdating or spring loading the stock options they were granted to set the options at a much lower exercise price one well below the market price or fair value of the stock when the option was

32 Case 0:06-cv JMR-FLN Document 1-1 Filed 07/07/2006 Page 32 of 125 actually granted or by granting them in front of the release of positive corporate news which would boost the stock, thus giving them an instant, riskless profit, while exposing the Company to the risk of regulatory investigations, tax penalties, and even criminal proceedings; (d) UnitedHealth s internal financial and accounting controls were materially deficient and not effective in providing the necessary and required degrees of assurance that UnitedHealth s financial results and reports were fairly and accurately presented and free from fraud; and (e) Because UnitedHealth s historical and current financial results were overstated, defendants forecasts of UnitedHealth s future financial performance were false and could not be achieved. 54. In April 2005, UnitedHealth issued its 2005 Proxy, which was false and misleading and is detailed in the Third Claim for Relief. 55. On April 14, 2005, the Company issued a press release entitled UnitedHealth Group Reports Record First Quarter Net Earnings of $1.16 Per Share. The press release stated in part: Operating Margin Expanded to 11.5% Earnings Per Share Increased 32% UnitedHealth Group achieved record results in the first quarter of 2005, reported Chairman and CEO William W. McGuire, M.D. First quarter results were driven by strong and diverse growth and consistent operating performance across the spectrum of UnitedHealth Group businesses