California's governor recently signed into law one of the most comprehensive managed-care reform bills in the nation (Oct. 4, p. 3). The California Association of Health Plans supported a considerable portion of the reform package, recognizing consumers' legitimate concerns about managed care.
There should be no doubt, however, that the new benefits, services and rights will increase costs. These increases will add to the persistent inflationary pressures of rising pharmaceutical costs and technological advances. They also will push future premium increases higher than 10%.
Managed-care reform debates have largely ignored the question of who will shoulder such cost increases. During the debate in California, many assumed that health plans had been earning sizable profits and that adding benefits and services wouldn't necessarily cause premium increases. HMOs could simply accept lower profits, they reasoned. But health plan profit rates-net operating income divided by net operating revenues-are much lower than profit rates in virtually any other industry.
In a 1999 survey by Weiss Ratings, more than half the 500 health plans surveyed nationwide reported operating losses in 1997 and 1998. According to InterStudy, which tracks HMO industry performance, health plans lost an aggregate 1.2% in 1997.
In 1998 the picture was only marginally brighter. Analysts at Bank of America estimated that 10 of the largest national health plans reported average profit rates of only about 2% last year.
Profit rates have been particularly low in California. Because of aggressive competition between well-established HMOs and the prominence of sophisticated and demanding purchasers, such as the Pacific Business Group on Health, California has proved to be a particularly low-margin market for most health plans.
According to the California Department of Corporations, more than 60% of all health plans operating in the state earned profits of 2% or less in 1998, with one-third posting losses.
Because of recent premium increases, California health plans have posted modest improvements in profits for 1999. But occasional reports of sizable percentage increases can be misleading. If a health plan with a profit of 1% posts a 20% increase, the plan still has a profit of only 1.2%-well below all comparable stock market indices.
In response to new demands for services and benefits, health plans have three choices: take less profit, increase efficiency or raise premiums. The contention that health plans can provide more services and benefits by accepting lower profits is more fantasy than fact.
Increasing efficiency and reducing inappropriate and unnecessary expenditures have been at the forefront of managed-care innovation and the development of cost-effective healthcare delivery systems. Consequently, healthcare costs in California are among the lowest in the country. But the continued drive for efficiency is beginning to stress the system, as reflected by reductions in nursing staffs, hospital closures, medical group insolvencies and health plans' lower profit margins. We cannot, therefore, count on greater efficiency to absorb the costs of new mandates.
There should be little doubt that more benefits and services will mean higher premiums.
Director of research
California Association of Health Plans