Health insurers that have bet on the new Medicare prescription drug program to drive their future growth are now facing several challenges and might have to wait until next year to see whether their gamble actually pays off.
A number of major insurers have invested heavily in launching stand-alone Medicare drug-benefit plans, known commonly as Medicare Part D plans, with the hope of roping in thousands of new, potentially profitable members. But many are running a financial risk -- at least in the short-term -- as the drug plans' heavy startup costs and razor-thin profit margins crimp their bottom lines, analysts said.
"With low profit margins, there's concern that insurers' premium (revenue) growth will outpace their growth in capital," said A.M. Best analyst Sally Rosen. "If that happens, their level of capitalization could deteriorate."
While roughly 85 private insurers now offer about 3,000 drug plans nationwide, enrollees have flocked to just a handful of companies, according to CMS' data. Three insurers -- Humana, UnitedHealth Group and WellPoint -- have grabbed 52% of the 13.9 million seniors who have signed up for Part D so far, and the top 10 insurers account for 80% of total enrollment. Seniors had until May 15 to enroll in a drug plan without facing penalties.
Humana -- which now covers 2.4 million drug plan members, or 18% of all Part D enrollees -- has made a particularly aggressive push into the market. The insurer is banking that it will ultimately be able to transfer many of its new Part D members into its higher-margin Medicare Advantage HMOs down the road.
But so far the payoff has been mixed. From January to March, Humana enrolled 1.96 million Part D members, which added $515 million in new revenue and helped drive up its total revenue for the first quarter by 38%, to $4.7 billion. Yet, the insurer announced this month that its first-quarter net income dropped 22% to $83.7 million on higher-than-expected Part D costs, causing it to miss analysts' projections.
Humana also faces a potential class-action lawsuit over the launch of its drug plans. The lawsuit, which a Seattle couple filed in March, alleged that Humana charged enrollees a full premium for January but didn't cover all of their medications. Humana spokesman Tom Noland said the lawsuit was "without merit."
Several major insurers have seen their stock prices drop this year at least partly due to weak returns on their early drug plan investments. But according to analysts, what investors have failed to realize is that the Part D program is "front loaded" so insurers must assume a disproportionate share of enrollees' coverage costs early in the year: For the first $2,250 spent, the insurer pays 75% while the enrollee pays 25%. After that, the enrollee is responsible for 100% of costs up to $5,100, after which catastrophic coverage kicks in and Medicare pays 95%.
"Insurers are going to start seeing better margins in the third and fourth quarters once that (initial) limit is reached," said CRT Capital Group analyst Sheryl Skolnick.
Indeed, Humana boosted its full-year 2006 earnings forecast to between $2.82 and $2.88 per share, up from $2.81 per share. Humana said it expects to reap $2 billion in Medicare Part D revenue as enrollment in its drug plans grows to 2.7 million to 2.9 million members by year-end.
Going forward, insurers with the largest foothold early on are positioned to benefit further as Part D plans with lagging enrollment exit the market, said Dan Mendelson, president and founder of consulting firm Avalere Health. "You should expect to see some companies dropping out and others selling out ... as some smaller plans find it more advantageous to sell their assets to larger plans that are operating more efficiently," he said.
Consolidation could be further fueled by a new CMS rule issued last month, Mendelson added. Under the rule, insurers that offer more than two plans in a single region next year will have to offer at least one that fills the coverage "doughnut hole," between $2,250 and $5,100. "As plans are looking at this, some of them aren't finding it potentially viable," he said. "So it will be natural to see some net reduction in the number of plans."
Legislation introduced last month by Sen. Max Baucus (D-Mont.) poses an even greater potential challenge for insurers. Among other things, the bill would limit Part D plans to just six standardized benefit designs. In introducing the bill, Baucus criticized the CMS for bewildering seniors by approving too many different plan types.
America's Health Insurance Plans opposes the bill, arguing that it would crimp insurers' ability to meet beneficiaries' varied needs and preferences. Mendelson agreed: "In the long run, it would make it much more difficult for plans to innovate," he said. "It would change the shape of the market very significantly."