Medical Cost Spikes May Cause Health Insurer Pain : Lewis Krauskopf

By Author: Winston Morrison
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Any worker in the United States who fears he may lose his job might feel compelled to take an extra visit to the doctor or have a final dental checkup because his health coverage is about to vanish.

For U.S. health insurers, this could spell financial trouble.

Signs emerged last week that U.S. health insurers already hurt by lower membership because of the weak economy may face more fallout from the recession: higher medical costs.

Aetna Inc , the No. 3 U.S. health insurer, rattled investors on Wednesday when it reported higher-than-projected medical costs for its first quarter, and blamed the economy.

In another ominous sign, a survey released on Thursday by consulting company Mercer found employers raised estimates for 2009 health benefit costs because of the recession.

On top of people using medical services because they worry about getting laid off, greater numbers may flock to Cobra post-employment health coverage and use more health services.

While some analysts and investors believe Aetna's results were an anomaly - indeed, no other major HMO reported such a cost spike this quarter ...
... - they may signal rising medical costs for the entire industry, which could bite into profits.

"It definitely raises the concern," Leerink Swann analyst Jason Gurda said. "There's a lot of similarities between these companies and if one is seeing a particular trend, it's very likely that the other companies are seeing it as well."

Surprisingly high medical costs would provide another reason to keep a lid on health-insurer stocks, which have yet to rebound after profit warnings last year. Fears about the financial impact of potential health reform measures keep investors uncertain about the companies' prospects.

The S&P Managed Health Care index of the six largest health insurers trades at a lowly 6.7 times this year's earnings estimates, compared with 13.4 times for the broader S&P 500 index.

A spike in economy-related costs may also counter what some analysts had hoped would benefit insurers in the recession.

One theory has been that medical costs would fall because cost-sensitive consumers would cut back on medical services as they face hard times - a position reflected, for example, by weak sales cited by some drugmakers this quarter.

"It definitely is a big headwind for companies that did not expect it going into this year," Gurda said.

Mercer's survey of 428 employers taken in March found they expect a 7.4 percent rise in health benefit costs this year, after last summer expecting a 6 percent rise for 2009. Fifteen percent of respondents already have experienced higher utilization of medical services than expected this year.

"Why employers are now revising their cost increase upward is increased utilization," said Beth Umland, Mercer's director of research for health benefits. "That's very much a function of concerns about layoffs and more people on Cobra."

Workers anticipating layoffs may get tests, exams or even elective surgeries they have been putting off, Umland said.

"There is definitely a stockpiling mentality that comes into play when your coverage is tied to your employment and you're worried about your employment," Umland said.

Because Cobra insurance is more expensive, people who buy the coverage tend to use it - making them much higher-cost members for health insurers.

Aetna said about 2 percent of its members generally are in Cobra, but it believes the amount rose in the fourth quarter and into the first, driving up its overall medical costs.

The economic stimulus package also includes Cobra subsidies that are expected to lead to more people to choose Cobra.

Aetna Chief Financial Officer Joseph Zubretsky said in an interview last week the company previously had yet to conclude if the economy would lower medical costs or increase them.

"Clearly, now we see that it's more the latter than the former," Zubretsky said.

Some doubt cost spikes are about to hit industry earnings.

Even if the recession is driving up costs, many analysts say other companies, like WellPoint Inc and UnitedHealth Group Inc , have been conservative and included that possibility in their 2009 forecasts for profits and medical cost increases.

Put another way, a spike in costs poses a problem only if the insurers did not account for it in their pricing.

Aetna also needed to dip into reserves to cover medical costs from prior periods, hurting earnings for the quarter.

WellPoint and UnitedHealth, the two largest health insurers, suffered earnings setbacks last year that lead them to strengthen reserves, while Aetna did not endure such a setback in 2008.

"Other companies were more reserved because they just blew up last year," Stifel Nicolaus analyst Thomas Carroll said. "When you have an underwriting problem like WellPoint did in March of last year, the first thing you do is fatten up your reserves."

The question may be whether Aetna is now about to face the problems its rivals encountered, or whether it is ahead of the curve in pointing to a worrisome industry trend.

"The issue here is: Did the others account for it relative to how they viewed pricing for 2009?" said David Heupel, a portfolio manager with Thrivent Investment Management.

"You're going to have to see another quarter or so before it plays out.

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