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Covering the managed care business.

In the past decade, the health insurance marketplace has changed dramatically. Indemnity insurance provided an almost unrestricted choice of physicians and hospitals. It has been replaced by managed care. Journalists reporting the rapidly changing managed care story cannot do it justice unless they understand how to cover health care plans as businesses. In this NewsBackgrounder, James Bentley of The American Hospital Association outlines the main points of a seminar he gave at a FACS conference on managed care. The opinions expressed do not necessarily represent those of FACS or the American Hospital Association.

Managed care insurance is a highly competitive business. Developed in substantial part to limit the rate of increase in traditional insurance and health care spending, managed care plans have had to chase the twin goals of providing lower premiums and remaining profitable.

Managed care plans come in a variety of organizational forms and a broad range financial arrangements. These comments are intended to help health and business writers think about how to report on the business side of managed care.

Managed Care Revenue

Revenues for managed care organizations are primarily of two types: premium revenue and investment income. The plan's premium may be thought of as the sum of three components:

* Medical Service Use - The amount of premium the plan expects to spend providing personal medical services to its enrollees. Medical service use is usually established by professional actuaries using historical information about the health care use patterns and needs of the insured population, and judgments about expected trends.

* The Risk Corridor - Utilization patterns, medical technology, and enrollment patterns are all subject to change. The risk corridor is the amount added, as a hedge against errors in the actuarial estimates, to the expected medical service use.

* The Administrative Load - All health plans incur expenses beyond medical services purchased for enrollees. The Administrative Load is designed to provide the revenues necessary for marketing, enrollment, contract management, administration, taxes, and profits.

These three premium components are combined to provide the premium base for the plan. Important premium decisions remain, as specific premiums must be set for enrollees by family composition (e.g., single, couple, single parent with child, and family), by age if allowed, and for other factors (e.g., disability or preexisting conditions).

In addition to its premium revenue, health plans also may obtain significant revenue from investment income. They earn some of this income on the reserves the plan maintains to protect against errors in the actuarial estimates for premiums. Plans may earn additional income by investing the "float" between the time premiums are received and claims for medical care are paid. While investment income may enable a plan to be profitable despite unexpectedly high claims, experts generally do not feel it is healthy for a health plan to become dependent upon its investment income because of the inability to assure investment results.

Managed Care Expenses

All health plans incur three expenses and anticipate profit that must be funded from the revenue stream.

First, before insuring its first customer, the plan must establish its capital base, including mandatory insurance reserves. The reserves help assure that the plan remains solvent through both good and bad times. The plan may deposit some of the reserves with state insurance regulators and retain some as a cushion for unexpected claims. As enrollment grows, the plan generally increases its reserves in recognition of its increasing population. Where a plan provides medical services directly to enrollees through its facilities and staff rather than via claims paid to "external" providers, reserves may be smaller. The difference in reserves recognizes the lag between the times when an external provider renders service and when the plan receives the claim for payment.

Second, the plan incurs expenses for the use of personal medical services by its enrollees. These include physician, hospital, pharmacy, and home health services. Each policy specifies the individual services covered; payment arrangements, including deductibles and copayments by enrollees; and limits on the number of services covered.

Third, health plans must finance a variety of administrative services, including marketing and advertising, sales and enrollment, records maintenance, claims processing and payments, investment and brokerage costs, and corporate management.

As businesses, health plans need to make a profit, either to reinvest in growth and development or as a dividend to investors for capital used. While traditional accounting conventions do not treat profits as an expense, it may be useful for journalists to look at profit as an expense because a plan that does not provide for profits is usually not viable in the long run.

Managed Care Plan Functions

To readers, listeners and viewers a managed care plan seems simple. That simplicity is deceptive. While they recognize that the plan receives premiums and pays claims, they are unaware of many of the "behind the scenes" activities of the plan As business organizations, managed care plans have multiple functions:

* Picking markets: Plans need to identify the geographic areas in which they wish to offer coverage. Within a geographic area, they also may pick potential coverage groups (e.g., employers, unions) which are thought to have lower risks and lower expected costs in order to have an attractive premium. When this practice of seeking low costs groups is aggressively pursued, it is frequently labeled "cherry picking." Likewise, plans may avoid high costs communities-a practice labeled "redlining."

* Benefit design: Plans must identify the benefits they will cover, those they will exclude, and enrollee cost sharing. In designing the benefits, the plan may have more flexibility if it is working with a self-insured company operating under ERISA (Employment Retirement Income Security Act) and not subject to state insurance mandates. Because the benefit design can influence the attractiveness of the plan to different enrollees, plans work to understand the mix of benefits that will be attracted. A very generous benefit package may be socially responsive to the most medically needy in a community, but it may not support a viable business enterprise.

* Network design: In its early development, managed care plans tried to emphasize tight networks of carefully qualified physicians and hospitals in an effort to obtain a conservative pattern of medical practice and to negotiate lower prices for expected volume. In recent years, the public has favored more open networks including a larger proportion of the physicians and hospitals in the community. Regardless of whether a plan is using a tight or open network, it needs to develop and update its list of participating providers and agree upon expectations for communication between the plan and the providers.

* Payment rates: Unless a plan is content to pay the billed charges of physicians, laboratories, pharmacies, and hospitals, the plan needs to negotiate (1) the unit of service for which it will pay providers (e.g., per visit, per day, per admission, or per year) and (2) the amounts it will pay for each unit of service.

* Risk management: While a few plans may retain all of the insurance risk, many will limit their risk by (1) purchasing commercial stop loss (or reinsurance) coverage to limit their financial liability, (2) by agreeing with the employer or union to an experience-based risk corridor, or (3) by passing some of the risk down to providers in capitated subcontracts. To perform these functions well, health plans need up-to-date information systems that accurately track enrollment information, authorizations for care approved, use of services by enrollees, claims received and paid, and contract compliance.

Managed Care Plan Performance Measures

As journalists analyze and write about the performance of managed care plans as organizations, there is a variety of measures that they may wish to examine for insights into the plan's present performance and developing trends.

Total margin - measures profitability in percentage terms using the ratio: Revenue minus Expense divided by Revenue. A negative margin indicates that the plan is not profitable for the reporting period; a positive margin shows that the plan was profitable. Business journalists often compare margin data across several plans to see if a plan is particularly profitable or unprofitable or to identify atypical margins for further investigation.

Return on Investment (ROI) - measures the profitability of the plan as a return on invested capital. Two plans could have the same total margin but differing returns on investment. For example, one plan could have health care facilities of its own (e.g., clinics or hospitals) while an alternative plan has its own facilities for providing services. In this case, if both plans had the same total margin, the plan without the facilities would have the higher ROI because of earning the same margin on a smaller capital base.

Incurred But Not Reported (IBNR) - refers to the plan's projected liability for services used by its enrollees but not yet filed as claims. For example, if an enrollee is treated in an emergency room, a plan may not know it is liable for this care for 30-60 days. Well-run plans devote considerable attention to accurately estimating such claims because a plan can look healthy based on claims submitted and be financially unhealthy if IBNR claims experience is increasing substantially but is unknown. As a result, journalist have often monitored IBRN data across several years to determine how closely a plan is predicting this measure.

Days payable-summarizes the plan's liabilities to its providers and suppliers. Business journalists often generally try to "find the story" behind increasing days payable.

Days receivable - describes primarily the amounts due from purchasers (e.g., individual enrollees, employers, unions). Rapid increases in days payable may leave the plan "starved" for cash or indicate that the plan believes it has enrollees who have dropped coverage or enrolled with another plan.

Fixed costs - describes the plan's ongoing commitments for facilities, including computer systems. Plans that provide medical care directly to their enrollees generally have higher fixed costs than plans that contract with freestanding physicians and hospitals to provide care. Also, plans with high fixed costs may have less flexibility to respond quickly to reductions in enrollment.

Medical loss ratio - In traditional casualty insurance companies, expenses for automobile repairs or the rebuilding of a house are described as losses from the insurer's perspective. By analogy, managed care plan expenses for medical services provided to enrollees are described as medical losses. The medical loss ratio is determined by calculating the ratio of medical losses paid to premiums earned. A medical loss ratio above 1.0 indicates the plan is spending all of its premiums on medical services with no premium revenue for administrative expenses or profits. A low medical loss ratio provides some evidence that consumers are receiving substantially less in benefits than they are paying in premiums.

Per member per month (pmpm) - reduces total premium revenue into the amount the plan has available for each beneficiary per month. Journalists often use pmpm information to have a more consistent statistic for comparing plans of varying sizes.

Post price mandates - describe costs the plan must incur which were not known at the time the policy was priced and written. For example, a costly new technology may be widely used. This may undermine the assumptions in the actuarial model used to develop plan premiums. A recent example of a post-price mandate occurred when some states required plans to provide Viagra to enrollees this past year.

Days 1000/by payer - One of the ways managed care plans have constrained costs is by reducing hospital admissions and the length of stay for admissions. Journalists examine a plan's performance by separately comparing its days per thousand for Medicare patients, Medicaid patients, and private plan enrollees. Plans providing appropriate and necessary services with fewer days per thousand have a competitive advantage.

Re-enrollment rate - Shows the percentage of enrollee who stay in a plan at the end of an enrollment period. A high re-enrollment rate is generally viewed as a measure of enrollee satisfaction.

Cost per beneficiary acquired - In the past year there have been a number of mergers/consolidations among managed care plans. Analysts have examined the amount one plan paid to acquire another on a per enrollee basis. Some journalists have reported the purchase price for a plan in terms of the equivalent number of months of premium payments.

Population pyramid - In general, older individuals use more health services than younger persons. If a plan has a small number of older persons and a large number of young enrollees (a steep pyramid), it has the potential to cross-subsidize the seniors with a small premium addition for each young person. The small addition may not disadvantage the plan in the market. On the other hand, if a plan has a large number of seniors and relatively few younger enrollees (a rectangle or inverted pyramid), its premiums may be unacceptable to younger persons and create a self-reinforcing enrollment and pricing problem.

Return on investment - Because investment income is one source of plan revenue, journalists analyzing plans generally try to determine what percentage of plan revenue results from investment income. A low percentage may indicate poor management of cash balances or poor investment experience. An unusually high return on investment may not be reproducible in subsequent years and should not be relied upon to maintain plan solvency.

Spending on prevention - In their infancy, many managed care plans began as Health Maintenance Organizations. The concept was that enrollees would select a plan and remain with it for several years. This would allow the plan to provide preventive services with costs in the current year and benefits (in terms of reduced illness or lower costs) in future years. Journalists describing plan characteristics have often sought to determine the extent to which the plan is able to retain and fund the concept of health maintenance. Preventive/early detection services include immunizations, first trimester care for pregnancies, asthma prevention programs, diabetes and hypertension control programs, and screenings for breast and colon cancer.

HEDIS performance - The National Committee for Quality Assurance (NCQA) has developed a program to collect information and evaluate the performance of managed care plans. One component of the assessment is a standardized set of plan performance measures known by the acronym HEDIS (Health Plan Employer Data and Information Set). Information on the scores managed care plans obtain on HEDIS are often publicly available and may be used in articles or tables comparing multiple plans.

James D. Bentley is the senior vice president for strategic policy planning at the American Hospital Association. He is responsible for developing AHA policy on long-term public policy issues. Those issues include restructuring Medicare, increasing the number of Americans with health care coverage, and the financing and accreditation of graduate medical and nursing education. Before joining the AHA in 1991, Mr. Bentley spent 15 years with the Association of American Medical Colleges. His articles have appeared in Health Affairs, The New England Journal of Medicine and The Journal of the American Medical Association. His Ph.D. in medical care organization is from the University of Michigan.
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Author:Bentley, James D.
Publication:The Quill
Date:Jun 1, 1999
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