Contemporary Issues in Private Health Insurance

Contemporary Issues in Private Health Insurance Ben Ooi 18 May 2015 Ben Ooi This presentation has been prepared for the Actuaries Institute 2015 Actuaries Summit. The Institute Council wishes it to be understood that opinions put forward herein are not necessarily those of the Institute and the Council is not responsible for those opinions.

For the next 55 mins. 40 minutes brief slide show, with more slides in Appendix. 15 minutes discussion. This workshop assumes some PHI knowledge. 2

Roadmap Background Consumer issues Insurer issues Actuaries Outlook Stakeholders Affordability Sustainability The AA Role Longer term Insurers, products PHI rebate Risk equalisation Challenges Shorter term Policyholders Downgrades Financial pressures Products Complexity Government policy changes Financial Out of pockets Other Environmental changes Capital Value Recent developments 3

Background: stakeholders 34 Private health insurers Hospitals (private and public) Doctors, other providers Providers Policyholders 55% of Australians or 13 million people Intermediaries Actuaries Shareholders Health Minister, DoH PHIAC, APRA PHIO, CO ACCC, others Regulators 4

Background: insurers Hospital policies at 30 June 2014. Source: PHIAC 5

Background: products Health insurance business Hospital Treatment General treatment Overseas visitors Overseas students Health related business Components or package Differential pricing by state, scale, packages, etc Lifestage products, tax products Some have extra cover for GP, health plans, loyalty PHIO comparison website (privatehealth.gov.au) lists over 25,000 products. General treatment products can be Fixed benefits, Percentage benefits with Limits, sub-limits, etc. Lots to choose from! 6

Background: policyholders At June 2014 11million people have hospital cover (5.4m policies) 2million people have general only cover (1.0m policies) Total number of policies increased by 2.7% for FY14 (168,000 policies) but made up of 585,000 new to PHI offset by lapses and other movements. Net increase in hospital policies FY14 Net growth rate% FY14 BUPA 31,647 Health.com.au 95% Health.com.au 15,085 HIF 16% HCF 12,779 CUA 13% NIB 8,901 Navy 10% Teachers 7,874 DHF 8% GMHBA 7,684 GMHBA 8% 7

Background: financial FY11 FY12 FY13 FY14 P&L Premiums ($b) 15.4 16.7 18.0 19.3 Surplus (after tax) ($b) 1.2 1.0 1.1 1.1 Hospital gross margin 10.5% 10.3% 9.6% 9.3% General gross margin 25.2% 24.3% 21.9% 21.0% Gross margin 14.7% 14.3% 13.1% 12.6% MER 9.1% 9.4% 8.9% 8.6% Net margin 5.5% 4.9% 4.2% 4.0% Surplus margin 7.6% 6.2% 6.1% 5.5% Capital Health benefits fund assets ($b) 9.5 11.1 10.7 11.1 Prudential capital requirements ($b) 6.1 7.4 7.1 6.0 Assets in excess of prudential requirements ($b) 3.4 3.7 3.6 5.1 Rate increases 2011 2012 2013 2014 2015 Medibank 5.4% 4.7% 6.2% 6.5% 6.6% BUPA 5.1% 4.9% 5.8% 6.4% 5.6% HCF 6.4% 5.9% 5.7% 6.9% 6.6% NIB 6.2% 5.5% 6.5% 8.0% 6.6% HBF 5.9% 5.9% 3.8% 3.7% 6.0% Industry 5.6% 5.1% 5.6% 6.2% 6.2% $20b premium industry Results vary by insurers! More details in appendix 8

Background: capital 60.0% Net assets on premium 50.0% 40.0% 30.0% 20.0% 10.0% 0.0% 99/00 00/01 01/02 02/03 03/04 04/05 05/06 06/07 07/08 08/09 09/10 10/11 11/12 12/13 13/14 9

Background: capital requirements Since the last Actuarial Summit: New capital standards were introduced Capital adequacy from 31 March 2014 Solvency from 1 July 2014 Capital management policy from 1 July 2014 $1.5b reduction in prudential capital requirements 10

Recent developments Plans to cease PHIAC and PHIO Medibank Private listed on ASX Members Own Health Funds launched Primary Health acquired Transport Health (which then converted to open and forprofit) CUA converted to open for-profit Change in Minister of Health from Peter Dutton to Sussan Ley 30% rebate reduced to 29.04% (April 2014) then to 27.82% (April 2015) MLS thresholds frozen for next 3 years Lots of Commission of Audit recommendations While PHI Participation continues to increase, there is an increasing shift towards lower cost products Cash rate drops to historic low of 2.0% Changes to Medicare, GP payments? Harper competition review Several health insurers involved in primary health networks (PHNs) 11

1. Affordability (purchasing issues) $12,000 Annual premium rates for top nil excess package products for NSW families - April 2015 $10,000 $8,000 $6,000 $4,000 $2,000 $- Fund 1 Fund 2 Fund 3 Fund 4 Example: top cover package for a family could be about $8000 (ex rebate) at April 2015. Premium rate increases have been trending at about 6%. For example, in ten years the same product could be about $14k (ex rebate)? 13

Apr-13 Apr-14 Apr-15 Apr-16 Apr-17 Apr-18 Apr-19 Apr-20 Apr-21 Apr-22 Apr-23 1. PHI Rebate (and MLS) The future 30% rebate 30% 27% 24% 21% 18% 15% Actual if CPI was 2.5% p.a., rate increase 6.5% p.a. if CPI was 1% p.a., rate increase of 6.5% p.a. if CPI was 0% p.a. and rate increase of 7% 14

1. PHI Rebate The rebate is dependent on income band and age band. MLS thresholds paused for FY15, FY16 and FY17. The rebate is indexed to CPI, and will significantly reduce over time. This is about a 1-2% p.a. impact (increase in premiums) to consumers. 6% is headline increase for the fund, includes rate protection. In practice, the product level increase will vary from the headline. Including the reduction to the rebate (if any), the net increase to the consumer could be more. 15

2. Downgrades $12,000 Annual premium rates for basic $1000 excess package products for NSW families - April 2015 $10,000 $8,000 $6,000 $4,000 $2,000 $- Fund 1 Fund 2 Fund 3 Fund 4 Top (faded colours) Basic (bold colours) 16

2. Downgrades Eg non-claimers can change cover from nil to $500 excess to reduce the impact of the premium rate increase. Or when rebate tiers were introduced, some dropped general treatment cover. Many drivers: affordability, product design, consumer demand, legislation change. Downgrades can lead to increased dissatisfaction, eg complaints, not meeting expectations. An issue for both consumers and insurers. 17

2. Downgrades 5,000,000 Total Hospital Treatment - Total Policies and Persons 4,500,000 4,000,000 3,500,000 3,000,000 2,500,000 2,000,000 Excess and Co-payment No excess and no co-payment Exclusionary Non Exclusionary 1,500,000 1,000,000 500,000 - The number of policies with either exclusions and/or excesses or co-payments have increased over the past decade. At 31 December 2014, only 13% of total hospital policies have no restrictions, excess or exclusions. 18

2. Downgrades The financial impact of product downgrades is about 1% of revenue per annum in the past 5 years. But how long can downgrades persist given that there are minimum benefit requirements? and when will average spend as a % of income increase? What is the impact on the fitness of purposes? 10.0% 9.0% 8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% 1.90% 1.80% 1.70% 1.60% Effect of downgrades in revenue FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 rate increase avg premium increase Avg premiums as a % of annualised AWE 1.50% 1.40% 1.30% 1.20% FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 19

3. Benefits are complex Hospital treatment Hospital fees vs doctors (medical) fees Excess, co-pay, max out-of-pockets per year, same day waiver of excess In-patient vs out-patient, hospital substitute, CDMP Waiting period, benefit limitation period Exclusions, restrictions, minimum benefits Non-agreement hospitals General treatment Initial benefit, subsequent consultation Sub-limits, group limits, per person limits, per family limits Limits per financial year, or rolling 12 months Loyalty benefits that increase with membership tenure Boils down to what is my out of pocket? 20

% of total hospital policies out of pocket as a % of total hospital cost (ex medicare benefit) 3. Out of pockets Out of pockets vs excess products 80% 79% 78% 77% 76% 75% 74% 73% 72% 71% 70% Jun-08 Jun-09 Jun-10 Jun-11 Jun-12 Jun-13 Jun-14 % of policies with an excess Out of pocket as a% of cost 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% But this is not the whole story! Eg excluded treatments are not reported. 21

3. Unexpected...Out of pockets Out of pockets are often unexpected, hence the frustration. The number of complaints (relating to benefits and out of pocket costs) have increased at a rate greater than membership growth in past several years. Expectations gap suggests lack of engagement/understanding from the consumer and/or product complexity from the insurer. Increasing popularity of lower cost products (which have more out of pockets) are likely to contribute to customer dissatisfaction. Source: PHIO. Note the different scales on the y axis, but I have scaled them for you! 22

3. Other thoughts... The increasing number of intermediaries suggests an increasing demand for assistance in purchasing PHI due all these complexities. I think that a contributing factor for these issues stem from the inappropriate motivation as these issues are less relevant for those who need their cover. For example, policyholders avoiding Medicare Levy Surcharge and/or Lifetime Health Cover will have different requirements from policyholders who value their cover. Grudge purchasers are a large and increasing proportion of total policyholders. It make sense that they are less loyal, more price driven and more vocal. 23

4. Value for money? Perception of a free public system. Australians have an Option : Medicare and a generally good public health system. Perception of PHI to cover everything! Many members seem to expect or feel entitled to a return on their health insurance premium (yet do not expect a return from their car or home insurance). Do the current products fit its purpose? (particularly if the purpose or motivation, varies from true insurance to avoiding penalties) 24

1. Sustainability Retaining the value proposition and relevance to consumers. Therefore consumer issues are insurer issues. How to stay ahead of competitors? Scale What is the optimal or minimum size? What is the appropriate growth rate? Differentiators: Some insurers offering broader cover such as GP visits Some insurers have health centres PHI involvement in PHNs Preferred provider networks 26

2. Risk equalisation Risk equalisation is keystone of community rating. In short, it is a subsidy scheme between different risk groups (old and chronic vs young and healthy). Theoretically, premium rates do not differ by risk. But has community rating (and therefore risk equalisation) been diluted by product/benefit design? The pool has increased at around 8% p.a. over the past decade. Is the risk equalisation system sustainable? There are industry calls to review it. Ideas include: Review age factors. Review high cost claims pool. Review the approach, eg risk based capitation. Allow some risk rating. 27

2. Risk equalisation Payers NIB Receivers BUPA MPL HCF Defence CBHS HPL GMHBA GUC TFH HIF Lysaght Police QCH NHBA HCI Navy HBF AU RT CUA Latrobe StLukes Phoenix RBHS CDH Transp ort ACA DHF Year to Jun2014 results 28 Westfund HPartne rs Hguard Mildur a

2. Risk equalisation Gross deficit per SEU 800 700 600 500 400 300 200 100 0 FY2001 FY2002 FY2003 FY2004 FY2005 FY2006 FY2007 FY2008 FY2009 FY2010 FY2011 FY2012 FY2013 FY2014 16.0% 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Gross deficit per SEU Annual increase 29

2. Risk equalisation This scenario reduces the annual state average deficit by approximately $190 p.a. which lowers the drawing rate for persons younger than 55. However there is an increase in the drawing rate of more than $500 p.a. for most persons older than 55, which could translate into a premium increase for some policyholders to offset the lower state average deficit being paid. 7,000 Hospital drawing rate (CY14) Age factors Current Scenario 55-59 15.0% 0.0% 60-64 42.5% 20.0% 65-69 60.0% 40.0% 70-74 70.0% 50.0% 75-79 76.0% 60.0% 80-84 78.0% 67.5% 85-89 82.0% 67.5% 90-94 82.0% 67.5% 95+ 82.0% 67.5% 6,000 5,000 4,000 3,000 2,000 1,000 0 Scenario drawing rate lower than current due to lesser benefits equalised lower state average deficit Scenario drawing rate higher than current due to lesser benefits equalised 20-24 25-29 30-34 35-39 40-44 45-49 50-54 55-59 60-64 65-69 70-74 75-79 80-84 85-89 90-94 95+ DR (pre RE) DR (post current RE) DR (post scenario RE) 30

3. Financial pressures Decreasing margins as discussed earlier. Margin pressures consist of: Pressure to keep premium rate increases low; and Increasing cost pressures Health spending is 9.5% of GDP (AIHW excl residential aged care) Health insurance cost pressures Benefits for medical services Growth in utilisation (volume) Expansion in no-gap benefits Growth in use of contracts Private hospital contracting Table drift (more products leading to antiselection) Health cost pressures Wages increases Technology advances Prostheses and other devices Pharmaceuticals Medical procedures and treatment techniques Ageing population DRIVEN BY SIGNIFICANT INCREASE IN HEALTH AWARENESS, EDUCATION AND DEMAND/EXPECTATIONS 31

Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 3. Financial pressures - inflation Hospital inflation (% p.a.) Benefit improvements Provider cost increase Volume increases total inflation 9.0% 7.0% 5.0% 3.0% 1.0% -1.0% -3.0% Year to But this is influenced by product downgrades and trend of new sales drawn towards low cost products. Product drawing rates not publicly available, but is generally higher at around 8-9% p.a. 32

Dec-05 Dec-06 Dec-07 Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 3. Financial pressures - inflation General treatment inflation (% p.a.) Benefit improvements Provider cost increase Volume increases total inflation 15.0% 10.0% 5.0% 0.0% -5.0% -10.0% Year to 33

3. Side note: CPI vs rate increase On a side note... Many like to compare rate increases to CPI. This is a flawed comparison. CPI is the increase in the price of a particular basket of goods, regardless of volume. Premium rate increases reflects the increase in the cost of claims AND the volume of claims. Simple example could be CPI indicates increase the price of a meal, however private health insurance is like a buffet and the premium is the cost of the buffet. If diners eat more, the cost of the buffet reflects the cost AND the volume of meals. 34

3. Financial pressures - continued For profit: return on equity for shareholders, share price and ASX expectations Not-for-profit: value for members, customer satisfaction, affordability Balancing strategic KPIs, capital management policy, market competitiveness 35

4. Government policy changes Reduction of rebate (as mentioned above) Change from PHIAC to APRA risk management standard (future?) capital standards (future?) changes to PHI Act, etc Potential changes: Commission of audit findings Harper competition review and potential deregulation Tax paper 36

4. Other environmental changes cont d Changing market Medibank Private IPO Health.com.au Primary Health (Transport Health) Members Own funds Financial markets Issues with term deposits PHI involvement in Primary Health Networks (PHN) 37

The actuarial role Appointed Actuary role AA role was introduced in 2004. Over 10 years! Responsible for financial condition report, and duties including liability valuation, risk margins and capital adequacy stress test Notifiable circumstances, including pricing, product changes, investments, etc with a catch all clause: any other event that the insurer reasonably expects to have a significant impact on the conduct of the business of a health benefits fund of the insurer Actuaries Institute HPC activities focus a lot on PHI. 38

The actuarial role (con d) My view on challenges for actuaries in PHI are similar to other practice areas: Ensuring value Balancing 1 st line vs 2 nd line: being strategic vs being compliant with the defined AA role CPS 220 and CROs For health insurers : sustainability and affordability of PHI, and therefore longevity of the PHI industry. Do we have the appropriate number of actuaries in PHI? What are your thoughts? (save for the discussion time) 39

In summary... Key themes for consumer and insurer issues could be grouped into: Affordability Fitness for purpose Sustainability 40

Outlook (longer term)... Should we re-visit community rating (and therefore re-open the discussion on risk rating vs community rating, risk equalisation: what to equalise, how to equalise, how to address products that challenge community rating)? Rather than ask whether the market is competitive, should we ask if consumers are engaged with the product? How do we get better engagement? How should PHI fit in with the larger and wider health system? Should insurers be focus on funding only? Should and can insurers play a bigger role in health? 41

Outlook (shorter term)... On the short term radar (from an actuary s perspective): APRA transition 1 July How is the pricing round going to work under APRA for April 2016? Risk Management Standard Pricing deregulation what and when? (not if...) PHNs Actuaries can contribute to these discussions! 42

Questions/discussion 43

Appendix 44

Appendix: policies Source: PHIAC 45

Appendix: policies Source: PHIAC 46

Appendix: Policies growth 8.0% Policy growth (% p.a.) 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 Year to Total Hospital Treatment General Treatment Ambulance Only Total General Treatment Hospital Treatment & General Treatment Combined Total General Treatment Only Total Policies Source: PHIAC 47

Appendix: Persons growth 6.0% Growth in hospital persons - % p.a. 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% Dec-10 Dec-11 Dec-12 Dec-13 Dec-14 Year to NSW & ACT VIC QLD SA WA TAS ACT NT AUST Source: PHIAC 48

Appendix: PHI participation 70% PHI Participation by age 60% 50% 40% 30% 20% 10% Even though there has been more 20-30 years insured, PHI participation is still relatively low in this age segment. 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 0% 0-4 5-9 10-14 15-19 20-24 25-29 30-34 35-39 40-44 45-49 50-54 55-59 60-64 65-69 70-74 75-79 80-84 85-89 90-94 95+ Source: PHIAC 49

Appendix: rate increases 40.0% Rate increase (FCI) 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Source: DoH 50

Appendix: rate increase 9.00% 8.00% 7.00% 6.00% 5.00% 4.00% 3.00% 2.00% 1.00% Industry rate increases 0.00% 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Source: DoH 51

MPL BUPA HCF NIB HBF AUHL TFH GMHBA Defence CBHS HIF Westfund Latrobe HPL H'Partners CUA H'guard Lysaght QTUH GUC St Luke's QCH Mildura NHBA HCI Transport CDH RT Police Navy DHF Phoenix ACA RBHS Appendix: rate increase 8.0% April 2015 rate increases - Industry 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% >5% market share 1-5% market share 0.5%-1% market share <0.5% market share, open <0.5% market share, restricted Rate increase (solid=not for profit, hash=for profit) Weighted average Industry average Source: DoH 52

Rate increase - april 2015 Appendix: rate increase Rate increase - april 2015 vs FY14 Policy Growth 9.0% 8.0% Westfund 7.0% CDH TFH 6.0% HCF MPL NIB CBHS Phoenix GMHBA QTUH AUHL NHBA St Luke's LatrobeRTMildura Lysaght HCI HBF H'Partners BUPA Defence CUA H'guard 5.0% ACA RBHS Transport QCH GUC Police Navy HIF 4.0% DHF 3.0% -5.0% 0.0% 5.0% 10.0% 15.0% 20.0% FY14 Policy Growth Source: DoH, PHIAC Not for profit For Profit 53

Appendix: ageing 41.0 Average Age of Persons with Hospital Treatment - AUS 40.5 40.0 39.5 39.0 38.5 38.0 37.5 37.0 Source: PHIAC 54

Appendix: risk profile 1.10 Risk weights 1.08 1.06 1.04 1.02 1.00 0.98 0.96 Before RETF After RETF Source: based on PHIAC data 55

0 4 5 9 10 14 15 19 20 24 25 29 30 34 35 39 40 44 45 49 50 54 55 59 60 64 65 69 70 74 75 79 80 84 85 89 90 94 95+ Appendix: benefits (drawing rates) 6,000 Hospital drawing rate ($ per person) by age 5,000 4,000 3,000 2,000 1,000 0 Jun-13 Jun-14 Source: PHIAC 56

Appendix: RETF 6,000,000,000 5,000,000,000 4,000,000,000 3,000,000,000 2,000,000,000 1,000,000,000 Risk equalisation trust fund 0 FY2001 FY2002 FY2003 FY2004 FY2005 FY2006 FY2007 FY2008 FY2009 FY2010 FY2011 FY2012 FY2013 FY2014 Source: PHIAC 57

Appendix: gross margin 25.0% Industry gross margin 20.0% 15.0% 10.0% 5.0% 0.0% 99/00 00/01 01/02 02/03 03/04 04/05 05/06 06/07 07/08 08/09 09/10 10/11 11/12 12/13 13/14 Source: PHIAC 58

Appendix: expenses 14.0% Industry MER 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% 99/00 00/01 01/02 02/03 03/04 04/05 05/06 06/07 07/08 08/09 09/10 10/11 11/12 12/13 13/14 Source: PHIAC 59

Appendix: net margin 25.0% Industry Net Margin (% of premiums) 20.0% 15.0% 10.0% 5.0% 0.0% -5.0% 99/00 00/01 01/02 02/03 03/04 04/05 05/06 06/07 07/08 08/09 09/10 10/11 11/12 12/13 13/14 Gross margin MER Net margin Source: PHIAC 60

Rate increase - april 2015 Appendix: net margin vs rate increase 8.5% Rate increase - april 2015 vs FY14 Net margin Westfund 7.5% CDH TFH HPL 6.5% Mildura St Luke's HCF CBHS Phoenix QTUH HCI RT GMHBA Lysaght HBF NIB MPL CUA AUHL Latrobe NHBA 5.5% H'Partners Defence BUPA H'guard ACA RBHS Transport QCH 4.5% Navy HIF Police GUC DHF 3.5% -5.0% -4.0% -3.0% -2.0% -1.0% 0.0% 1.0% 2.0% 3.0% 4.0% 5.0% 6.0% 7.0% 8.0% 9.0% 10.0% 11.0% 12.0% 13.0% 14.0% 15.0% 16.0% FY14 Net margin Source: PHIAC 61

Appendix: pre-tax surplus 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% -2.0% Industry Surplus margin (% of premiums, before tax) -4.0% 99/00 00/01 01/02 02/03 03/04 04/05 05/06 06/07 07/08 08/09 09/10 10/11 11/12 12/13 13/14 Net margin Investment margin Source: PHIAC 62