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Fraying safety net: Insurer of last resort feeling financial pinch

Blue Cross Blue Shield plans say hits to their bottom line will be felt throughout the health care system.

By Emily Berry — Posted Feb. 16, 2009

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Chris Bush, MD has had a love-hate relationship with his state's Blue Cross Blue Shield plan over his 25 years in practice.

There was a time when a large portion of the patients he saw at his family practice in the Detroit suburb of Riverview, Mich., were auto company employees or retirees insured by Blue Cross Blue Shield of Michigan. "The coverage has been so good for so many years," Dr. Bush said.

But times have changed. The car manufacturers are in financial crisis, helping put the Michigan Blues in decline, which in turn is putting financial pressure on Dr. Bush and his patients.

The same scenario is playing out across the country as the recession drags on. Nonprofit Blues plans, the insurers of last resort in many states, have seen finances take a hit as underwriting income falls, thanks to workers losing jobs and insurance.

Blues plans no longer can count on investment income to offset operating losses. For what appears to be a first, investment and underwriting income are in decline at the same time.

Doctors aren't necessarily sympathetic, given past conflict with the Blues. For example, the national BlueCross BlueShield Assn. and more than 30 subsidiaries are being monitored by the AMA and 27 other societies to ensure they comply with a settlement reached in federal court last year to reform their business practices.

The Blues didn't admit to wrongdoing, but agreed to refrain from automatic downcoding of claims, to pay claims promptly, to keep physicians informed of policy changes, and to stop retroactively revoking authorization for care.

Financial success dwindling

For much of the last decade, Blues plans of all kinds -- nonprofit and mutual insurers, and those that converted to for-profit status and were acquired by WellPoint -- enjoyed financial success. For the nonprofit plans, investment or underwriting income could cover any shortfalls by the other, helping maintain their dominant status and meet state-mandated obligations as an insurer of last resort.

In the late 1990s, when premium price cuts caused underwriting losses among nonprofit plans, investments kept their books in the black. As the stock market cooled in 2002 the Blues plans' underwriting business became more profitable, thanks to premium hikes and tighter cost management. Its earnings margin was 2.8% that year, and peaked in 2003 and 2004 at 4.4%. In those years, investment margins also went up.

The result was that investment income constituted less than one-third of total earnings, and reserves more than doubled over six years -- from $16 billion in 2002 to $36.5 billion at the end of the first quarter of 2008.

Blues plans in states from Hawaii to Maryland have been targeted with legislation aimed at their cash reserves. Critics said they were keeping excessive savings. The Blues argued that the money was, in most cases, equal to only a small amount per member, and would be needed in a time of disaster or economic trouble.

That time of trouble, in the plans' minds, has arrived. Though the final figures have not yet been reported, Goldman Sachs investment analyst Matthew Borsch estimated their 2008 underwriting margins, already falling because of higher medical costs, were 1.0%, their lowest since 2000. Meanwhile, he estimated investment margins were around 0.8% in 2008, the lowest since 2002. That decline came as plans were getting more reliant on that money -- 71% of 2008 income, the highest percentage since 2001.

Blues reserves peaked in the second quarter of 2008 at $36.6 billion. But by the end of the third quarter, they had fallen to $35.9 billion. And that was before the end-of-the-year stock market and employment collapse.

Experts say Blues plans will have to continue to draw on backup cash because legislators and regulators are not inclined to give a strategic advantage to plans that often dominate their states.

Highmark Inc. and Independence Blue Cross, Pennsylvania's two largest Blues plans, abandoned a proposed merger after the state insurance commissioner said approval depended on them giving up one Blue trademark. The withdrawal ended a nearly two-year quest to consolidate. Scrutiny of the proposed deal may affect future regulation of business practices.

Next door in New Jersey, Horizon Blue Cross Blue Shield of New Jersey has ignored calls to abandon its application to convert to a for-profit company. In light of the economic recession, some have suggested the company should reassess the projected costs and benefits of a conversion. After Horizon filed its application in August 2008, the state insurance department found in October 2008 that it was incomplete and asked Horizon for further information. That request was still pending as of early February.

Blue Cross Blue Shield of Michigan failed last year to win changes in the state's individual insurance market regulations. The company argued it needed the changes to effectively compete and thrive as a company. The plan, which is the legislated insurer of last resort in Michigan, said it lost $140 million on individual coverage in 2008 and will lose $320 million in 2009. Its reserves fell about 10% from a peak of more than $2.6 billion to $2.4 billion as of the third quarter of 2008.

Opponents of the legislation accused the plan of trying to push its competition out of the market. The legislation died in committee, and the Michigan Blues warned of dire consequences for its business. Weeks later it announced it would cut between 400 and 1,000 jobs and raise rates on some policies by as much as 55% this year.

Spokeswoman Helen Stojic said the state's "outdated" regulatory code has made it difficult for the plan to react to rising costs and has forced it to take on a more costly population. "I think a lot of the cost we see in the individual market is a result of the cherry-picking that goes on."

The problem for Blues plans, experts say, is that their still-healthy reserves mean the public at large is not ready to hear their poor-mouthing.

"A lot of these folks are doing so well and have such enormous reserves that they'll be in better shape than the investor-owned companies," said Jeff Goldsmith, PhD, president of consulting firm Health Futures Inc. and a professor of public health sciences at the University of Virginia. "Tennessee, Alabama, you look at a lot of the states, and they don't need to do much of anything unless the economy totally falls apart in their states, because it's like single-payer."

Even with diminished reserves, the Blues have advantages that give them an edge against the competition, said Gary Claxton, vice president and director of the Health Care Marketplace Project at the Kaiser Family Foundation.

"A lot of them really do have the best [physician] discounts, and that's going to really help them going forward," Claxton said. "Some of them built up their surpluses pretty good, and they don't have investors yelling at them to get the stock back up. The challenge for nonprofits is whether they have enough scale, and whether they have the ability to generate enough cash to invest in new systems."

And those advantages are there for the long haul, said Allan Baumgarten, a Minneapolis-based consultant and analyst who studies the health care markets in individual states. "Twelve months from now, the market could regain a significant amount of its value, and all of a sudden their reserves are much improved."

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ADDITIONAL INFORMATION

Nationwide Blues

[download pdf]

BlueCross BlueShield plans have a major presence in the states they inhabit. Here is a state-by-state list of the Blues plans, their Web sites and status.

Source: BlueCross BlueShield Assn., individual plan Web pages and annual reports

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[download pdf]

Reserves and income

Nonprofit Blues plans collectively keep billions of dollars in reserve. They say funds are meant to cover unexpected medical costs as well as operating expenses in the case of a financial downturn. And that downturn may be now, as both underwriting and investment incomes drop.

Source: Matthew Borsch, Goldman Sachs

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[download pdf]

Investment cushion getting flat

The stock market downturn comes at a bad time for nonprofit Blues plans, because they are again becoming more dependent on investment income.

Source: Matthew Borsch, Goldman Sachs

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