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Disruptive Forces to Keep Health Insurers on Their Toes

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The year 2017 was beset by debate over U.S. health care reform and the future of the Affordable Care Act. Finally, toward the end of the year, the individual mandate was repealed. The year 2018 should also be lined with continued policy changes and ongoing uncertainty. Against this backdrop, players in the health insurance industry will continue to work toward making their enterprise more resilient to the dynamic industry.

On an operating front, U.S. health plans are expected to carry on their business in a lowered margin environment, given pricing pressure, rising medical costs, and regulatory compliance costs. Increased competition and general marketplace uncertainty are some of the headwinds faced by the players in the industry.

What Does the Individual Mandate Repeal Mean for Insurers?

In December, Obamacare’s Individual Mandate, which required most Americans to be covered under health insurance or to pay a fine, was stripped away. This provision will no longer be in effect from 2019. This policy change might lead to healthy individuals opting to remain uninsured only to buy an insurance cover when sick. This should lead to an adverse change in customer mix with insurers getting sick customers mostly, which might increase their risk pool and cause high claim incidence.

Insurers have been lobbying against this repeal, fearing its unfavorable outcome. This might also destabilize the public exchanges where more sick customers would flock to buy insurance, causing an increase in insurance premiums, or lead the insurance companies to exit from exchanges if the businesses don’t look sustainable. The Congressional Budget Office (CBO) has stated that repealing Obamacare’s individual mandate would cause 13 million fewer Americans to be insured in 2027. This implies an increase in the uninsured rate, which is inversely proportional to insurers’ earnings growth.

Mounting Pressure to Deliver in Medicare Advantage Business

Medicare Advantage has been a cash cow, but players are facing increased pressure to deliver on government quality ratings and gain operational efficiencies, which if not achieved may drive some insurers out of the market. In an effort to attract more customers, the players have to make smart strategic investments in customer experience designed to appeal to the growing baby boomer population which is technologically literate.

Customers have become conscious of choosing the plan from a company that can successfully address and take care of their individual needs. Also, in order to be more attractive to customers, companies are supposed to have strong ranking from the CMS, (which depends on their provision of quality of care and customer service, among other factors).

The success of players in the Medicare Advantage market to a great extent depends on their Medicare Star ratings, which can only be achieved by investment in infrastructure. Some of the players that have invested are reaping the benefits, but for others it is imperative to make necessary investments to risk losing out to competitors.  

Tough Regulatory Oversight to Prevail

Tough oversight of the Department of Justice (DoJ) led to the death of two mega mergers: Aetna Inc. (AET - Free Report) with Humana inc. (HUM - Free Report) and Cigna Corp. (CI - Free Report) with Anthem Inc. (ANTM - Free Report) . These mergers, which were in the form of horizontal combination, would have made the surviving entities to become mammoth players in the insurance market, but would have also nixed competition. While these combinations would have been highly beneficial for these entities from the business point of view, providing them with enough heft and size to bargain with their suppliers and customers, these were perceived to provide little good to the consumer.

Mergers and consolidation are rife in the sector, triggered by the changing industry environment, which calls for the businesses to grow in size in order to better command the market and remain leaders, and the best way for insurers to achieve this status is to engage in mergers and acquisitions. But these will not be easy to come by, given regulators’ opportunities to strip down deals, which would go against the interest of consumers and throttle competition. Thus, the ride may not be easy for insurers on this front.

Margins to Stay Under Pressure

Minimum MLR rebate requirements limit the level of margin insurers’ can earn in their Commercial Insured, Medicare Insured and Medicaid Insured businesses while leaving them  exposed to higher-than-expected medical costs. This has kept health insurers’ margins under pressure lately, a trend that will likely continue in the coming quarters. A host of factors —including compliance costs related to health care reform regulation, increased fees and taxes, pricing pressure, stiff competition and rising medical costs — are also at play in compressing margins.

The industry is also witnessing a general shift in patient mix from commercial insurance to government (Medicare, Medicaid and state-subsidized marketplace or exchange) which is another major dampener of insurers’ profitability. Premiums for Medicare, Medicaid and state-subsidized policies tend to be higher due to serious health issues for many enrollees. However, they carry smaller profitability margins compared to commercial insurance.

High Cost

Regulatory reforms sweeping through the sector have hit insurers with high compliance costs. Expenditures involved in redoing the internal systems have led to a spike in expenses. There has been huge spending on health information technology (“HIT”) as the system is going through a challenging transition to electronic medical records, which is expensive and requires expertise.

Increased Capital Expenditures 

Health insurers operate in a highly competitive environment in an industry that is subject to significant ongoing changes from marketplace pressures brought about by public policy forces, the ACA, changes to or repeal or replacement of the ACA, Insurance Exchanges, customer demands, demographic shifts, new and expanding health care capabilities, business consolidations, strategic alliances, new market entrants and marketing practices. As a result of these and other factors, their ability to grow profitably through the sale of traditional insured health care and related benefits products in the United States may be limited.

In order to grow profitably in the future, insurers need to diversify their sources of revenue and earnings and transform their business models. This includes developing and expanding Consumer Health and Services, making investments in consumer engagement capabilities and technology and other services for health systems and provider organizations (including joint ventures, ACOs and collaborative provider networks), optimizing business platforms and expanding internationally.

Achieving these goals will require significant senior management and capital resources to make acquisitions or other transactions. This required huge capital before any significant revenues or earnings are generated from such initiatives. 

Stiff Competition

The environment is particularly challenging for small insurers. Large employers having operations across states prefer to contract with insurers that can serve all of their employees throughout the country. Scale economies have therefore become imperative for acquiring business. The implication of these trends is an expectation of increasing consolidation.

Challenges from International Operations

International expansion has exposed insurers to political, legal and compliance, operational, regulatory, economic and other risks in foreign countries. A fragile economy in many parts of the world presents another headwind for insurers. One of the largest insurers, UnitedHealth Group, made an acquisition to reap benefits from the Brazil market but is now facing slowing growth rates in that country.

Also, fluctuations in foreign currency exchange rates are likely to have an impact on revenues, operating results and cash flows from international operations.

To Sum Up

Continued uncertainty will command the industry in 2018. Insurers will have to stay on their toes to constantly take stock of their business workings and build a resilient enterprise. This will require an increase amount of investment and talent. Players can only emerge as winners when they act proactively.

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