Doing the splits: health insurers can improve profitability by dividing marketing, sales and service dollars among the most productive relationships. (Life/Health: Profitability).

Achieving and maintaining profitability in the health insurance industry is more complex than ever before. Medical inflation has not disappeared, with higher drug costs, skyrocketing provider-contract rates and growing utilization rates all contributing to the escalation of medical costs. Insurers are also faced with increased consumerism and the need for technological improvements that require even more investment, thereby directly impacting the bottom line.

In response to changing customer demands, insurers must offer increased product choice, including defined-contribution plans/medical savings accounts and specialty coverage such as long-term care. Additionally, the industry is experiencing new technology as the growing need for customer relationship management and data mining to target the most profitable customers and reduce administrative expenses requires an unprecedented focus on these new applications.

While bottom-line results have been gradually improving over the past few years, insurers must focus on managing operating costs to ensure a continued return to profitability As insurers have limited ability to affect medical costs, the efficient use of nonmedical expenses is essential to increase profitability, yet nonmedical operating expenses are being squeezed through investments in product development and technology deployments. Despite the new management challenges of technology and consumerism, insurers must still manage historical industry measures such as PMPM (per member per month), which means either adding more members without additional spending or cutting costs without losing existing members.

Improving the Bottom Line Now

All investments in product development and technology should pay off through increased enrollment rates and reduced administrative costs, but when and to what degree? The problem is happening now, and there is another route to take. In the short term, insurers can have the most immediate impact by optimizing their current levels of marketing, sales and service spending. Historically, combined sales and marketing expenses represent less than 5% of premium revenue--five to 10 points lower than that of other industries--making it all the more critical to spend that money wisely to attract new members and sell new offerings. In addition, customer service and claims operations typically represent the two biggest line-item operating expenditures, which raises questions about possible areas for improving efficiencies.

As with any business challenge, getting more for each marketing, sales or service dollar requires some trade-offs. Determining the appropriate allocation of marketing, sales and service costs requires clear answers to three key questions:

* Which customers and products should the company focus on for premium growth?

* What levels of investment are needed to support agents, plan sponsors and members to meet customer and product requirements for premium growth?

* What mix of marketing, sales and service expenses is economically allowable to support agents, plan sponsors and members to influence the targeted customers and products for premium growth?

Determine Objectives

Prioritizing the sources of future premiums will help tie marketing, sales and service spending to overall strategic goals. Should the company be focusing on new customers, new products, cross-selling, enrollment rates or customer churn? Most companies will say they are focusing on all of these areas, which is probably correct in theory but impossible in actuality. More often than not, the majority of effort is expended on renewing existing contracts (service-based retention), with limited budget and capacity remaining for acquiring new customers or developing relationships. In the end, all three of these areas are important, but companies must make a conscious effort to identify and quantify the sources of future premiums to make the best use of marketing, sales and service budgets.

Prioritize Relationships

After a company has determined and prioritized sources of future premiums, the decisions become more difficult. The health insurance industry is uniquely complex due to the multiple relationships that impact premiums. Insurers have five key relationships to which they must pay attention. Understanding which relationships create the most leverage in achieving goals will help prioritize investments in the areas with the greatest return.

* Health insurer to agent network: Insurers can target investments to drive agent recruitment and sales through commissions, lead generation and sales support and product/sales training.

* Agent network to plan sponsors: When selling through agents, insurers have less direct control over influencing plan sponsors to include their plan in a benefits offering, but insurers can equip agents for success through targeted product development and effective sales tools.

* Plan sponsors to members: While it is perhaps the most difficult influence point for insurers to affect, insurers can increase enrollment rates through targeted product development and providing educational materials to increase member understanding of plan benefits through printed collateral material, presentations or Web-site content.

* Health insurer to plan sponsors: Insurers can increase customer service responsiveness and develop employee benefits solutions to ease the administrative burdens on plan sponsors and increase plan selection.

* Health insurer to members: While the agent network is typically the channel of choice for group sales, insurers can also sell direct, particularly in the individual segments and small-group business or with specialty products such as long-term care. Additionally, streamlining customer-service operations through integrated telephone and Web operations can improve the member experience and reduce customer churn.

Based on the company's specific coverage objectives, investments are different across these relationships. For example, an insurer that has prioritized relationship-based account development would want to allocate the majority of expenses to the plan-sponsor-to-member relationship through member education and product development investments.

Build the Budget

Once the insurer has determined where the growth is coming from and who will help achieve it, the next step is to allocate the budget. Traditional budgeting practices start from the top down, allocating dollars for line items across marketing, sales and service, with limited rigor in determining how those dollars should be spent across the critical relationships. In actuality, total marketing, sales and service spending should be an aggregate of the individual mixes of spending across agents, plan sponsors and members.

What This All Means

The good news is that it isn't necessary for health insurers to cut their already lean operating budgets, although it might be necessary to rearrange a few things to see results. After committing to the source of future premiums, the biggest challenge will be determining which relationships yield the greatest return because hard data probably does not yet exist. It is surprising, however, what a few interviews with agents, plan sponsors and members will achieve in terms of understanding their needs. Also, begin tracking marketing, sales and service results now--even a thorough understanding of one program can help narrow down what works and what doesn't--because insurers must understand what motivates agents, plan sponsors and members to sell, promote and buy their insurance offerings before their competitors do.

Health-Insurer Expense Trends

The average health-insurer profitability is improving, but insurers must
carefully manage operating costs to continue the upward trend.

                % of Total Revenue
           Medical    Administrative  Operating
          Loss Ratio  Expense Ratio    Margin

1998        88.9%         15.0%         -3.5%
1999        89.0%         14.2%         -1.3%
2000        88.0%         13.7%         -0.6%

Source: MarketBridge Corp.; The InterStudy National HMO Financial
Database, 2001

Note: Table made from line graph.

How to Divide the Dollars: An Example

Total marketing, sales and service spending should be an aggregate of
the individual mixes of spending across relationships among agents, plan
sponsors and members.

Total Marketing, Sales and Service Spending (2)


Marketing  10%
Sales      35%
Service    55%

(1)Mix of spending is illustrative

(2)Total mix of spending based on MarketBridge research and client data

Source: MarketBridge Corp.

Note: Table made from pie chart

Andrew Isaacman is vice president of market strategy at MarketBridge Corp., Bethesda, Md.