Why the Potential CVS Acquisition of Aetna is Brilliant………………

The Law of Unintended Consequences……………Revenue enhancement through deception?

Why the Potential CVS Acquisition of Aetna is Brilliant, The Law of Unintended Consequences

Oct 30, 2017


Many people have been surprised by the announcement that CVS is interested in purchasing Aetna.  Why would a PBM want to own a health plan?  There has been speculation that the move by Amazon to get into the pharmacy space may be a reason.  But there is another more rationale reason and its based upon a flaw in the Affordable Care Act.

The flaw is known as the Medical Loss Ratio requirement and it reads like this from the CMS website

The Affordable Care Act requires insurance companies to spend at least 80% or 85% of premium dollars on medical care, with the rate review provisions imposing tighter limits on health insurance rate increases. If an issuer fails to meet the applicable MLR standard in any given year, as of 2012, the issuer is required to provide a rebate to its customers.

This requirement was put in place as a way to ensure that health plans did not make money by underutilizing medical care.  But it had the unintended consequence of insuring that costs never went down and here’s why.

Let’s assume that a hypothetical health plan offers a product at a $5,000 premium.  Based on this premium, they must spend 80% or $4,000 on Medical Care and the remaining $1,000 goes to cover administrative expenses and profit. At the same time, it’s fairly common knowledge that 30% and possibly more of healthcare costs are associated with waste, fraud and abuse.  So, let’s use some AHIP data and come up with a scenario.

Perhaps a health plan wants to go after some of this waste, fraud and abuse and targets inpatient hospital costs. Per AHIP this represents 15.8% of a health plan’s spend or $790 in our hypothetical scenario. So now the health plan puts in programs and negotiated pricing that reduces inpatient costs by 10% or $79. Now let’s assume that all other medical costs remain the same. The health plan is now below the 80% MLR requirement and must rebate $79 back to the customers; they can’t keep even a piece of it as a reward for their efforts. Next year under the same scenario, if nothing else changed, they would need to come in with a lower premium (meaning they’ll have a smaller 20% for their admin and profits) or rebate the money again. This is why health plans do not take a meat cleaver to the pork.

BUT… Now let’s introduce a new owner of the health plan, a PBM, which per the same AHIP report represents 22.1% or $1,105 of our hypothetical health plan premium.  The PBM will tell the health plan to sharpen up and use the meat cleaver. Why? Because instead of rebating the savings to the customer, the PBM can increase its cost and or utilization up to $79 to keep the health plan in good graces with the government MLR requirement. In this hypothetical, $79 is equivalent to 7.2% growth for the PBM and is a way, as the owner, to pull more profits out of the health plan which are not allowed to be taken by the health plan under the ACA’s MLR requirement.  Now in the pharmacy case, some of this could be due to better adherence, or higher price or more utilization, some potentially good, some not so good.  In any case, if the PBM is really smart they will take a meat cleaver to every area except pharmacy costs and shoot for the whole hog.

And that potential growth strategy is another unintended consequence of the MLR requirement.

Fred Goldstein is the founder of Accountable Health Inc.

RELATED BLOG POST: PPACA – Game Changer For Health Care Financing

“An example of a reverse outcome of good intentions pertains to the Minimum Loss Ratio mandate required of all fully insured plans but exempted under self-funded plans. Fully insured large groups are required to maintain a loss ratio wherein health care claims cannot be less than 85% of premium leaving insurance companies with 15% of premium to cover their costs and earn profits. However this has had a reverse effect, the opposite of which is higher costs. The greater the cost (claims), the greater the profit to the insurance company. Fifteen percent of a larger number is larger than 15% of a smaller number.