Open Rating Rant

I was talking with Michael Standing, CEO and president of AIM Mutual Insurance Company out of Massachusetts - preparing a guest spot for the Seismic Shifts presentations last year.

("Seismic Shifts: An Essential Guide for Practitioners and CEOs in Workers' Comp," was a special WorkCompCentral report prepared by Peter Rousmaniere last year that investigates commercial opportunities in a shrinking workers' comp industry.)

Standing and I were making some small talk about the market and he floored me when he told me that Massachusetts, a state of about 6.75 million people, and only $1 billion in workers' compensation premium, had 290 workers' compensation insurance companies competing for business.

California, by contrast, has almost 39 million people, a gross written premium of nearly $16.5 billion, but only 218 carriers, many of them sub-carriers or affiliates of larger companies, so the real number of carriers is even smaller.

What's wrong with this picture?

In 1993 "open rating" became the new business model in California. Before the open rating law, all workers' compensation insurance had to meet a minimum pricing standard. In other words, there was a floor on rates - insurance companies could not quote or charge less than what the Department of Insurance said could be charged.

I've ranted before about this.

Before open rating, there were well over 350 insurance companies. They competed on quality of service, the experience rating modification factor (aka "ex mod") being the determining distinction between carriers - the better serviced claims, the lower the ex mod, the less expensive the insurance.

This promoted safety, prompt claims handling, and frankly BETTER claims handling.

Since 1993, however, the standard has deteriorated to least expensive claims handling (which is ironic given the cost of claims has increased exponentially since then, in particular the cost containment component of claims handling).

Open rating was supposed to increase competition.

The opposite has occurred - it has, to the great detriment of the policy purchasing employer population completely stifled competition.

And worse, has focused the industry incorrectly on cost containment rather than quality performance.

At least that's MY opinion.

Ought to be yours...

Pendulum Swinging Can be Stopped - Get Rid of Open Rating

The California Coalition on Workers' Compensation (CWCC) began its 9th Annual Educational Conference yesterday, and according to a WorkCompCentral News story, speakers were telling attendees to brace for new "reform" legislation in the next couple of years as Democrats take more hold of the state's politics, injured workers gain increased benefits, rates increase and medical costs continue unmitigated.

Speakers advised that California is rapidly climbing to top status, again, as the most expensive workers' compensation state and that the average indemnity claim now costs upwards of $60,000 with combined ratios nearing 130.

Anyone who has been in this industry more than 10 years will recognize the characteristics that make this system untenable and wildly unpredictable: complaints of costs, special interest maneuvering, attempts at surgical correction, restatement of costs based on said correction, quiet solicitude for about 4 years while the surgical correction develops scarring tissue, re-initiation of complaints of costs as the scarring starts to hurt then protest and "reform".

However, since 1992, the pendulum has been swinging more wildly and to greater extremes.

Missing from the pendulum debate is, what I believe, the single ultimate "reform" item that initiated the wild physics of the workers' compensation cycle in California, and that is "open rating".

Prior to 1992 California floor rates were set by the Department of Insurance (DOI). DOI was responsible for ensuring that the market for work comp insurance remained vital and vibrant by reviewing system costs and establishing the bare minimum rates that any carrier could establish premiums on. Carriers could charge more, but not less, than the rate established by DOI.

The effect of this system was that carriers competed on claims servicing because since no one could under price the competition the way to keep costs down was to ensure a high level of claims servicing so that the experience modification factor (x-mod) would not be adversely affected, thus keeping long term premiums down.

The market effect of this system was a very robust market for workers' compensation insurance with many small specialty insurers covering highly technical risks and using that special knowledge to manage safety and claims most efficiently.

Starting with 1993, the effective start date of "open rating", things got wild. Price competition blew away half of the capacity in California, and while employers enjoyed record low premiums for several years, the cat got out of the bag around 2000 when capacity dried up, supply became scarce, and premiums skyrocketed at hyper-inflationary rates nearing 50% annually.

I have observed as well a much more dramatic swinging of the pendulum in our industry and that has begat increased legislative and regulatory burden impacting all system participants. We now have a mind-numbingly complex system with networks, exceptions, presumptions, etc. that is nearly impossible to navigate with out special expertise.

In addition we are seeing market contraction with large carriers stating that they are not interested, again, in writing California business because the risks are just too difficult to gauge to ensure some profitability.

While prices are climbing, premiums will again skyrocket as supply diminishes, and since demand is constant because work comp is mandatory, prices can only go up.

As the debate for more "reform" starts heating up, I urge those shaping the dialogue to go back to 1992 and return to a rate floor.

I'm an open market type of guy - I like market competition. But it only works where there truly is a market. Where the market is the product of a legal mandate it is not open, and must be highly regulated. That is workers' compensation. I think the proof is in the history - yes we had swings in workers' compensation prior to "open rating" but since then the swings have become perilously uncontrollable.

Ogilvie Court Does a Disservice to California

The news of the morning actually occurred late Friday afternoon: The California First District Court of Appeals (DCA) handed down its review of the Ogilvie case, disapproved of the formula the Workers Compensation Appeals Board (WCAB) had devised to standardize rebuttal of the Diminished Future Earnings Component (DFEC) of a permanent disability rating string, and opened the gauntlet to further indemnity unpredictability and litigation.

The court upheld the WCAB's conclusion that nothing in SB 899 changed the ability of an injured worker to challenge a permanent disability rating. But it didn't like the WCAB coming up with a formula for doing so, stating that the WCAB exceeded its authority.

There are three avenues for challenging a rating according to the 1st DCA:

• A factual error in the calculation of a factor in the rating formula or its application.
• The applicant is "not amenable to rehabilitation" because of his injury and therefore suffered a greater loss of future earning capacity than was reflected in the scheduled rating: 

“Another way the cases have long recognized that a scheduled rating has been effectively rebutted is when the injury to the employee impairs his or her rehabilitation, and for that reason, the employee’s diminished future earning capacity is greater than reflected in the employee’s scheduled rating….An employee effectively rebuts the scheduled rating when the employee will have a greater loss of future earnings than reflected in a rating because, due to the industrial injury, the employee is not amenable to rehabilitation…”

• The omission of medical complications aggravating the injured workers' disability: 

“The briefs and arguments of the parties and amici also point out a third basis for rebuttal of a scheduled rating that is consistent with the statutory scheme. In certain rare cases, it appears the amalgamation of data used to arrive at a diminished future earning capacity adjustment may not capture the severity or all of the medical complications of an employee’s work-related injury. After all, the adjustment is a calculation based upon a summary of data that projects earning losses based upon wage information obtained from the California Employment Development Department for a finite period and comparing the earnings losses of certain disabled workers to the actual earnings of a control group of uninjured workers. (Working Paper at p. 3.) A scheduled rating may be rebutted when a claimant can demonstrate that the nature or severity of the claimant’s injury is not captured within the sampling of disabled workers that was used to compute the adjustment factor. For example, a claimant who sustains a compensable foot fracture with complications resulting from nerve damage may have greater permanent effects of the injury and thereby disprove the scheduled rating if the sampling used to arrive at the rating did not include any workers with similar complications.”

The first avenue is easy since it is a factually based element that is easy to rule on, easy to implement, and plug back into the rating formula.

The second and third create a destabilizing effect and will increase litigation at the trial level, and perhaps increase litigation at the review levels as well.

We are left without any guidance as to how to prove a loss of future earnings capacity. "Not amenable"? What does that mean? Does that include cases where the injured worker just says "no" to some form of rehabilitation?

At least the WCAB gave us a methodology for doing so, albeit a complicated one.

The 1st DCA said that everything we ever needed to know about DFEC has been published in earlier case law because even though SB 899 changed everything we thought we knew about permanent disability rating, it actually didn't:

“Senate Bill No. 899 amended section 4660 in two ways that affect the issue presented in this proceeding. The statute now provides that “an employee’s diminished future earning capacity shall be a numeric formula based upon empirical data and findings . . . prepared by the RAND Institute for Civil Justice.” (§ 4660, subd. (b)(2).) And a permanent disability award must now reflect consideration of an injured employee’s “diminished future earning capacity,” rather than the “ability of such injured employee to compete in an open labor market.” (Former § 4660, subd. (a).) This latter change is readily addressed… Indeed, the terms “diminished future earning capacity” and “ability to compete in an open labor market” suggest to us no meaningful difference, and nothing in Senate Bill No. 899 suggests that the Legislature intended to alter the purpose of an award of permanent disability through this change of phrase. Nor does its use suggest that a party seeking to rebut a permanent disability rating must make any particular showing.”

So we're back to "ability to compete in the open labor market" as a standard for challenging a rating without "any particular showing."

I think that participants in California workers' compensation want specificity, want routine, want clear direction. It benefits injured workers because then they don't have to spend a lot of time in litigation to either get, or not get, more money. It benefits employers and carriers because then they know exactly what they have to pay. Both benefit by getting cases get closed faster.

The 1st DCA creates a new level of pandemonium and litigation induced claim delay at a point in time when all of the participants in work comp cases are looking for some stability and predictability.

The court did a disservice to both the injured workers and employers of California.

World Ag Expo and Work Comp - Observation

The California State Compensation Insurance Fund (State Fund) held its annual meeting yesterday, and disclosed some important industry trends - most notably that private carrier capacity appears to be shrinking and as a consequence State Fund's business is increasing.

In underwriting parlance, the market is hardening.

State Fund had a 12.9% market share as of Dec. 31, 2011, according to the state Department of Insurance.

According to State Fund President and Chief Executive Officer Tom Rowe, the company recorded three straight months of growth since November as other carriers have reduced their exposure in certain segments of the market or left the state entirely.

Rowe said competitors are not renewing high-risk policies, which is leading more businesses to buy policies from State Fund. The comments were based on the State Funds most recent three months of experience, which showed growth each month.

State Fund's net income in 2012 increased 229% to $359 million from $130 million in 2011, which Chief Financial Officer Dan Sevilla attributed to the carrier's disciplined underwriting approach. State Fund wrote 132,600 policies in 2012, about 10% fewer than in 2011, but average premiums of $7,000 per policy were about 2% higher in 2012, Sevilla said.

I went with a rancher friend of mine to the World Ag Expo, held in Tulare (you pronounce the "e" at the end of Tulare, i.e. "Too-lar-ee"), California every year since 1968 (making this the 45th year!).


This is, as the name suggests, the largest exposition of agricultural products and services in the world, with exhibits and events held over 3 days and 2.6 million square feet of exhibit space.

Exhibitors include just about anything and everything you might imagine connected to the agricultural industry: tractors, farm equipment, soil enhancements, pumps, irrigation ... you name it, it was there, including insurance.

Zenith had several booths, as did Great American. Several brokerages were in attendance. Other work comp related businesses were also present such as special payroll services that coordinate with work comp, and safety companies touting everything from equipment to record keeping for OSHA compliance, etc.

The correlation between State Fund's business and the World Ag Expo was evident by my rancher friend's latest debate with State Fund underwriting about the classification of his employees.

My friend has a relatively small ranch in the Santa Ynez Valley, and just a couple of employees. His profit margins are tight so just a few points on his rates makes a big difference to his bottom line - particularly if the weather is uncooperative in any particular growing season.

But the important part of the story is that my friend has no recourse other than State Fund to cover his employees because his payroll is too small, and ranching risks are too great, for there to be a private market appetite for his business, even though he has run his operation for years without any claims.

As I walked around the 68 acres (yeah, I was tired by the end of the day) and talked with many farmers and ranchers, I found my friend's experience is not unique.

Farming and ranching are dangerous industries. The equipment is massive, with great big pieces of steel ready to shred, rip, mangle, tear and do all sorts of other motions deleterious to human well being. And that's not taking into account the basic physical nature of harvesting, packing, shipping, etc. because there are many operations in farming and ranching that can't be done by machines.

And while there have been many technological advances in agriculture - that's what all these big toys are about - that do make operations safer and more efficient, there is still inherent danger as represented by this one two story tall, 40 foot long contraption I saw that is used to rip out tree stumps and shred them into little bits of saw dust in a single operation.

There were several large insurance companies and brokerages with booths present so I talked to them about agribusiness and their appetite for workers' compensation risk.

Without a single deviation, each of them said that they are looking for "sweet spot" payroll - generally between $1 million and $2 million. My rancher friend's operations are too small to meet that hurdle. The larger operations have more exotic programs to deal with their work comp such as high deductibles or self-insurance.

Also without a single deviation, each of them said that the changes instituted by SB 863 were causing massive operational shifts with increased staffing and new procedures, all in a very time-compressed fashion that they said were very challenging for the carriers to meet.

And though the World Ag Expo is attended by people from, you guessed it, all over the world (I saw many different displays of cultures from other states and nations and heard many different languages), the insurance businesses were mainly focused on California agribusiness - which would make sense since the Central Valley is one of the world's most productive agricultural regions, with over 230 crops. On less than 1 percent of the total farmland in the United States, the Central Valley produces 8 percent of the nation’s agricultural output by value: 17 billion USD in 2002.

Tulare County itself is the second highest in the US for agricultural sales with $3.335 billion in 2007 according to the California Research Bureau.

So obviously agriculture is BIG business when aggregated.

That big business is comprised of a few large operations, and many, many small operations like my friend's ranch.

I recall prior to "open rating" in 1996 all off the small, specialty carriers that made the Central Valley farmers their market and how well served those operations were.

I have nothing against the State Fund - thankfully it is available and healthy to provide mandated coverage for businesses that are too small, and too risky, for the current private market.

But I can't help to think that the workers' compensation risks of small farmers and ranchers, and many other businesses, would be better served by the small specialty carriers that made it a point to completely understand the risks and had programs in place tailored to mitigate those risks, and thus provide superior service in claims management thereby reducing the overall costs of claims.

In my opinion true workers' compensation "reform" should have included a review of the underwriting laws and an examination of a return to "closed rating." I'm not saying that we should blindly return to the days before open rating, but it would be worthwhile to see, if in the past 16 years whether open rating has truly been beneficial to the California workers' compensation market (i.e. the premium paying employers) and the California economy.

Mixed News Shows Service is Critical

We reported several seemingly unrelated stories this morning in the WorkCompCentral news which, upon closer inspection, are all related.

In New York an appellate court upheld the constitutionality of the State Workers' Compensation Board (SWCB) to make assessments against the remaining self-insured employer members of the failed CRM Holdings, which was shut down by NY officials in 2006 due to underfunded reserves.

CRM is Majestic Capital, a Bermuda based insurance holding company and parent company of Majestic Insurance.

Yesterday the San Francisco Superior Court granted the California Department of Insurance an order placing Majestic Insurance Company into conservatorship.

In the meantime the California Workers' Compensation Insurance Rating Bureau (WCIRB - an advisory group that makes statistical analysis and assists carriers set rates) announced that carriers in that state saw a slight decline in claim costs from 2009 to 2010, that the combined ratio also declined, and that premium volume increased - all good news.

Written premium increased slightly as well to about $9.8 billion, which is still far below the "crisis" year of 2004 when skyrocketing premiums peaked at $23.5 billion, leading to a recall of Governor Gray Davis, the popular vote to office of Arnold Schwarzenegger, and the emergency "reform" of the California work comp system.

But the WCIRB's good news was tempered by the announcement that claim frequency increased by 4.5%.

Work comp is a brutal line in terms of profitability for carriers - actuarial excellence is a must, and pricing discipline defines the future financial viability of the system from the top down.

But the one element that ties this news altogether is that SERVICE to the employer remains the single most important aspect to a) ensuring reasonable rates, b) retaining business, c) and controlling costs.

Prior to "open rating" in California (which began in 1997) carriers competed almost exclusively on service, because they could not charge less than what the Department of Insurance allowed. Now we are seeing that even with "open rating" service is still the key marketing element of carriers who wish to stay in business.

Certain companies who have been through the cycles understand this. Others, such as Majestic, leave their road kill carcases on the open highway of the work comp insurance line. In this business you can't compete on pricing and remain viable. Service costs more up front, but keeps costs lower over time, and is the key to marketing the work comp line.

Work Comp Complexity - Just Part of Life

Workers' compensation law is so complex, even the higher courts don't understand it, or get it right.

That appears to be the sentiment following Friday's release by the California First District Court of Appeal's opinion in Ogilvie.

The injured worker's attorney, Mark Gearheart, told WorkCompCentral, "I think it's likely that this decision will not end the litigation and confusion about how to use future earning capacity evidence, but will engender another round as the parties try to do it again. The battle will go on."

And the defense bar is also decrying the court's seeming lack of sophistication when it said that "loss of earning capacity" and "ability to compete in the open labor market", the former substituting the latter in the landmark reform bill SB 899, as being synonymous.

The California Division of Workers' Compensation (DWC) has a new Administrative Director (AD) coming on board, and presumably one of the major actions that the new AD will be taking is instituting a new permanent disability rating schedule (PDRS), which DWC was required by law to have implemented last year (a law that the DWC under the Schwarzenegger Administration conveniently ignored).

Some in the community are hopeful that a new rating schedule can be constructed to deal with vagaries that have been introduced by court decisions, and in particular the Ogilvie case.

I am less optimistic.

The court decisions throughout the years, well before SB 899, have consistently upheld the concept that factors in the PDRS can be rebutted. There has been some guidance, but this being case law, unique facts underlying the opinions make the standardization of any specific factor very difficult.

While the WCAB may have exceeded its authority in ascribing the technique to be used to rebut the diminished future earnings capacity (DFEC) component of a rating, it was a solid attempt at bringing some stability and predictability to rating. If you could provide the specific evidence documenting supporting numbers, you know what the answer would be, given the WCAB's original formula.

Now we are back to a case-by-case basis in determining not only what can rebut a rating, but what a rating may be given any similar set of facts.

That will not change with a new rating schedule - the DWC lacks the authority to overturn by regulation what has been upheld as case law for many years.

If anything, a new rating schedule will introduce more confusion and complexity since it will apply only to injuries incurred after the effective date of its introduction (unless perhaps there is some legislation to make it retroactive, in which case that may open up older cases to new litigation).

Such is life in the California workers' compensation system.

California Conundrum Part 2

Friday was the first part of this series about the California Conundrum, the theme of the Annual Workers' Compensation Insurance Rating Bureau meeting held in San Francisco last Thursday.

This second part is about the state of the workers' compensation insurance industry in California.

Note readers - this is about the INSURANCE industry! Not the state of the system. Not self insureds. Not employers, workers, other vendors... Simply how the insurance industry sees itself performing in the biggest workers' compensation market, by far, in the United States.

The information was presented by Chief Actuary of the WCIRB, Dave Bellusci.

Here's the bottom line, if you don't wish to read the statistical information further: California is the biggest, most competitive, most costly, workers' compensation insurance market in the US.

Did I say costly?

So what else is new?

2015 marked the 6th consecutive year of $1B growth in insurance premium. Bellusci's forecast for 2016 is a $17.9B gross premium, and 13.24B net of credits.

But Bellusci thinks 2016 will be the end of premium growth as lower rates trim the cash inflow. The earlier premium growth was driven by higher rates early on, and thereafter was economically (i.e. payroll) driven. It seems, according to Bellusci's interpretation of the data, that the industry is at end of a premium growth period.

Though California has 12% of the nation's total population, it represents 29% of countrywide premium. In 2009 California was 19% of the entire country. The premium growth in California, post recession, was much quicker than rest of the country. Part of this was rate increases, payroll expansion, and now the carriers are facing rate decreases.

Also, Bellusci noted, that even though many carriers have been consolidating (buying each other and/or merging subsidiary operations) the state still is the most competitive and diverse market in the country.

70% of the state is written by national carriers, 21% are California specific only, and 9% written by State Fund.

You folks already know what I think of this situation - in my mind, while a bit better than in the past with California specific carriers climbing out of the decimation to the market created by "open rating", I see this as still a very anti-competitive market.

Domination by big money national firms with broad portfolios seeking to take advantage of the work comp market to sell other lines - to me there is nothing healthy about work comp being a "loss leader" to other lines and such behavior negatively affects the quality of claims handling.

Despite "open rating" and the illusion of competition, California rates remain considerably higher than the rest of the nation (see my argument above).

Bellusci points to 3 principal factors negatively affecting California rates: frequency, severity and the cost of benefit delivery.

Injury reports went from 1 in 5 workers in 1962 to 1 in 25 in 2012 - 83% decline. That is a fantastic safety record that mirrors the rest of the nation and is consistent with what Berkeley research Frank Neuhauser's opinion that it is more dangerous living outside the work place than in it!

But, of course, the Los Angeles area pulls California out of the national average. From a statistical standpoint the anomaly is due to the high rates of permanent partial disability claims (which drives litigation, ergo expenses) and continuous trauma claims (which are largely absent in the rest of the nation).

Indemnity loss in 2015 was nearly a $30,000 per claim average. In 2005 that number was $19,000. If there is any good news for carriers (at the expense of the medical community) medical cost severity bucks the national trend; California medical costs have been deflationary since SB 863 while the rest of the nation has see inflation.

But it's not medical severity that really drives these costs in California - it is late reporting and more importantly late treatment authorization. The late tail in medical care (i.e. delays, denials, and overall bureaucratic wedge-points) creates a super heated medical cost driver, such that the average California indemnity claim medical cost is $42,000 - second highest in the nation, and unfortunately also by a long shot...

And to the chagrin of reformers, the unintended consequence of SB 863 has been an increase in benefit delivery friction costs by 24%, making California the most expensive in loss allocated expenses, by far.

So what's the take away?

I think Mark Walls, a panelist on a separate presentation at the meeting (Conundrum Part 3), put it best: "California is performing exactly as it was designed ... this is what we signed up for in California."

Unfair and Inequitable

Rating a permanent disability in the California system prior to SB 863 included a function known as the Diminished Future Earnings Capacity modifier.

The DFEC element in the rating string was meant to compensate for disparity in pre-injury income, and the affect a disability has on the earning capacity post injury.

It's a noble sentiment and is based on research that demonstrated significant disparities in the earnings of workers of various occupations.

The problem with the DFEC is that it is another element of the California workers' compensation system that opens up debate, argument, disagreement, and ultimately litigation.

And we know from many studies that litigation is a huge cost driver, directly and indirectly.

Which is why SB 863 eliminated that portion of the rating string and substituted a flat modifier of 1.3 to all ratings regardless of occupation and alleged impact of disability on a worker in that category.

So while the First District Court of Appeals for California is finally going to render a decision in Contra Costa County v. WCAB (Dahl), No. A141046, having assigned responsive dates for the Workers' Compensation Appeals Board to deliver the case record, the case itself will have very limited application.

Doreen Dahl suffered a cumulative trauma industrial injury to her neck and shoulder in 2005, while working for Contra Costa County as a medical records technician.

Based on the agreed medical examiner's evaluation of Dahl's whole-person impairment and the 2005 Permanent Disability Rating Schedule, the Workers' Compensation Judge issued Dahl a 59% permanent disability rating.

The WCJ rejected Dahl's argument that her permanent disability should have been awarded at a higher rate because her decreased future earning capacity was greater than that reflected in the rating schedule.

59% rating

Dahl based her argument on a 1983 California Supreme Court case called LeBoeuf v. WCAB.

In LeBoeuf, the California Supreme Court allowed a worker to establish a permanent total disability based on vocational rehabilitation testimony showing his injury effectively rendered him unable to compete for jobs in the open labor market.

The WCJ ruled that LeBoeuf was inapplicable to Dahl.

Following the 1st DCA's 2011 decision in Ogilvie v. City and County of San Francisco, the WCJ concluded that an injured worker could not rebut the rating schedule's diminished future earnings capacity adjustment through vocational rehabilitation testimony unless her injury caused a total loss of future earning capacity and a 100% permanent disability.

The WCAB in a panel decision reversed the WCJ.

79% rating

"Ogilvie does not preclude a finding of permanent disability that takes into account the injury's impairment of rehabilitation and its effect upon the worker's (decreased future earning capacity)," Commissioner Frank M. Brass wrote in his decision for the panel.

After the case was sent back to the trial level, the WCJ determined that Dahl had a 79% permanent disability, based on her vocational rehabilitation expert's testimony that Dahl had suffered a loss of future earnings that was greater than what was reflected by the PDRS.

A WCAB panel upheld Miller's decision last January. Contra Costa County petitioned for judicial review last February.

And that's the reason why DFEC was eliminated from the PDRS by SB 863.

Because this case is representative of another friction point in the workers' compensation process - a delay on the case of untold years. Dahl's injury was in 2005, and the court may finally hear arguments some 10 years later, on whether Dahl is entitled to a few more thousand dollars. Maybe the court will issue an opinion within a year.

Maybe.

I'm all for trying as hard a possible to make a system fair and equitable.

But there are limitations built into the workers' compensation system; it can not be everything for everybody.

And there lies the issue: by design workers' compensation is NOT fair and equitable. At best, the indemnity portion of workers' compensation, whether temporary disability or permanent disability, is a temporary financial relief.

Any attempt to make the indemnity portion of work comp actually meet some compensatory goal of returning someone to a certain financial level will fail because the variables are too great.

California is famously a liberal state. The citizens, for the most part, want fair treatment of everyone. In the California Nirvana, everyone should have an equal chance and be treated with equanimity.

The real world doesn't work that way however - and frankly I think it's time to stop the fairy tale that workers' compensation should be fair and equitable, because it isn't and never will be.

There are minimums and maximums to indemnity. There are limitations on medical procedures. There are restrictions on benefits.

Are there devastating disabilities? Yep. Are some worse than others? Yep. Is each case different? Yep.

Does each case deserve to be treated differently? Not necessarily.

The concept of workers' compensation is that everyone compromises. That dialogue has been repeated over and over and over again - everyone gives up something for security.

The employer's security is supposed to be protection from civil lawsuits. The employee's security is supposed to be the promise of prompt medical care and an allowance to stave off financial ruin.

What happens when a system tries to be fair and equitable is exactly what happens to Doreen Dahl - a case that lingers for ten years while other people argue about a small component to the overall scheme because the variables make it worth while to do so.

The financial difference to Dahl is about $100,000 in gross indemnity, plus a "life pension" of about $73.00 per week.

The financial incentive to argue this small point of the rating string demonstrates how friction gets created out of "fair and equitable."

I don't know what Dahl's age was at the time of injury (the panel opinion from which the appeal was taken doesn't provide that detail) but let's assume that she was 50 years old for ease of calculation. And let's also assume that she was permanent and stationary 2 years post injury after her temporary disability indemnity ran out.

That brings us to 2007, and 52 years old. At that time Dahl would have an average life expectancy based on US life tables of about 30 years - to age 82.

Let's also assume a 5% return on investment rate.

The gross value of the 79% PD award, inclusive of the present value of the life pension, is about $215,000.

Fifty nine percent doesn't merit a life pension, so the gross value of that is about $80,000.

$80,000 invested at 5% in 2007 will generate about $38,000 in interest. And if none of that money is touched the gross amount today would be almost $120,000. If left alone for 12 years it grows to over $130,000, and if left alone for 15 years it grows to nearly $170,000. For 30 years the value grows to about $350,000.

And Dahl gets to move on with her life in 2007.

Let's assume that the court renders its decision this year, 2015 - that means according the life tables there's 22 years left in Dahl's life expectancy. $225,000 at 5% for 22 years generates a gross return of about $630,000.

And Dahl gets to move on with her life in 2015, with potentially twice the financial gain.

It's a trade off, for sure. I'm not saying whether one result is better than the other. What I am saying is that in an attempt to make a system "fair and equitable" the system itself became unfair and inequitable by implanting points of friction - and Dahl may be better off financially because she got an attorney than someone who didn't.

A truly fair and equitable system would not create incentives for people to get lawyers to maximize an award. A truly fair and equitable system would eliminate the difference having an attorney on a case could make.

The DFEC component was eliminated by SB 863, so that point of contention is gone. But there are many others.

Complexity begets litigation because an attorney can make a difference. And as we can see, sometimes a big difference.

The cost to the system is delay and uncertainty.

In order for workers' compensation to be fair and equitable, it has to be less fair and less equitable...

Bragging Rights

"The fish REALLY was THAT big!"

In perhaps the biggest news of the year in California workers' compensation is the real possibility that the Workers' Compensation Insurance Rating Bureau may ultimately recommend a near double digit mid-year rate decrease.

If this occurs this would be the first mid-year filing since 2012 and the first recommended decrease since 2007.

In 2012, the WCIRB recommended a 9.1% increase in the advisory pure premium rates effective July 1.

In 2007, the Rating Bureau recommended an 11.3% rate reduction in the middle of the year.

Mid-year filings are important to the insurance industry because they have been a consistent barometer of where the market is going. In most years, when the WCIRB submitted a mid-year filing the recommended change has been close to what gets recommended in the WCIRB's subsequent annual filing.

What's holding up any recommendation at this point is finalization by actuaries of certain loss adjustment expenses.

Giovanni A. Muzzarelli, a senior casualty actuary for the Insurance Department, told WorkCompCentral Monday the loss-adjustment expense methodology pointed to an approximate 5% increase in those costs.

But taken against the 13% decrease indicated by trends on benefit costs, and accounting for the fact that loss adjustment expenses are not a direct one-to-one offset against benefit trends, "it sounds like it's ending up minus 10-ish," Muzzarelli said.

Dave Bellusci, WCIRB executive vice president and chief actuary, would not speculate on how the Governing Committee would actually vote; a vote on whether to submit a mid-year filing for 2015 when members meet today at 9:30 a.m. in Oakland, CA.

So far, here's what the numbers are reflecting:

Allocated loss-adjustment expenses, costs that can be attributed to a specific claim, increased 12.1% from 2013 to 2014.

In 2014, carriers paid $886 in ALAE per indemnity claim at the 12-month valuation point, up from $790 in 2013. The WCIRB speculates that this increase experience is related to the Workers' Compensation Appeals Board decision in Dubon I, which provided an invalidation path on independent medical reviews. Dubon II closed that hole, but issued too late in 2014 to affect the numbers.

"In addition to IMR, we saw a big spike in expedited hearings and prior to Dubon II, there were challenges to the expedited hearing," Bellusci said. "So you had this dual-track, you had to go to IMR, but you're also paying lawyers to attend the expedited hearing."
The Rating Bureau is projecting from 2013 to 2014, estimated ultimate ALAE per indemnity claim will increase 12.3%, following a 5.7% increase from 2012 to 2013.

The WCIRB is projecting the ultimate ALAE per indemnity claim will account for 19.6% of losses for policies incepting on or after July 1, 2015. The Jan. 1, 2015, pure premium rate filing projected an ALAE-to-loss ratio of 15.4%.

Unallocated expenses, those costs that are not directly attributable to specific claims, such as office rent and overhead, is now projected to be 6.5% of losses for policies incepting July 1, 2015, compared to the 5.5% ratio projected in the Jan. 1 filing.

Paid medical cost containment per open indemnity claim increased 4.7% in 2013 to $1,019 from $973 in 2012, consistent with the Rating Bureau's severity trend that assumes a 5% annual increase.

Of course, California is an open market, and carriers can rate as they please, and rates don't necessarily translate to net paid premium, which has a host of other factors more personal to an employer's actual experience.

But this news certainly gives SB 863 proponents something to brag about.

CA Research Confirms - Injured Workers Need Representation

Much is going to be made of the University of California, Berkeley, researcher Frank Neuhauser's report to the Commission on Health and Safety and Workers' Compensation (CHSWC) on the effect of the 2004 reforms on permanent disability indemnity.

But will the arguments be properly focused?

According to Neuhauser, in order for permanent disability indemnity levels to match pre reform levels an additional $2.64 billion will need to be found in the system.

Don't expect that to come from employers' premiums - Governor Brown gave no indication that he was inclined to promote any indemnity increases during California's tenuous recessionary recovery unless there was a wholesale revision of the work comp system that did not negatively impact the state's employers.

And even if permanent disability indemnity was increased to meet pre 2004 levels, is that a proper measurement of what this benefit is supposed to accomplish?

The California Constitution does not give us any clue as to whether permanent disability indemnity is to perform any specific function - the best the Constitution does is state that the overall workers' compensation system is to make "adequate provisions for the comfort, health and safety and general welfare of any and all workers and those dependent upon them for support to the extent of relieving from the consequences of any injury or death incurred or sustained by workers in the course of their employment".

The California Labor Code does not define permanent disability. It tells us how to determine how much there is, but not what it is or what it is supposed to "relieve".

Case law gives us a clue as to what permanent disability indemnity is presumed to provide - as summarized by Sullivan on Comp, Chapter 10:

"Case law has understood permanent disability as the 'irreversible residual of an injury.'[1] It refers to the condition that remains after maximum recovery from the effects of the injury has been attained or the employee's condition becomes permanent and stationary.[2]Permanent disability also has been defined as 'the impairment of earning capacity, impairment of the normal use of a body member or function or a competitive handicap in the open labor market.'[3]"

Still, this case law does not give us any notion that one way of computing the adequacy of this benefit is any better or more accurate than any other method.

That job is up to the Legislature, and this legislature isn't interested in a political hot potato like permanent disability benefits, especially when increasing them to pre-reform levels would increase system costs by over 30%.

Perhaps what is most troubling about the findings of Neuhauser is that the gulf between injured workers who hire an attorney, and those who do not, is expansive - and that points to a system that does not make "adequate provision" for "any and all workers and those dependent upon them for support".

The average impairment rating for cases in which the injured worker did not hire an attorney decreased 40.1%, from an average rating of 22.2% under the 1997 rating schedule to 13.3% under the 2005 schedule. At the same time, average compensation in unrepresented cases decreased 51.7% to $12,246 from $25,363 under the new system, according to Neuhauser's study.

In cases where the claimant did have an attorney, impairment ratings dropped 28.4% on average, from 37% under the previous rating schedule to 26.5% under the current schedule. Compensation paid in represented cases decreased 37.2%, to an average of $30,804 from $49,080.

Regardless of the drop in indemnity, this study says that injured workers need representation in order to get maximum advantage of "adequate provision".

I've heard it stated in the past that one of the objectives of "reform" was to minimize attorney participation in order to reduce litigation costs in the system. It's true that immediately following SB 899 the ranks of attorneys representing injured workers (aka "applicant attorneys" in California) dropped precipitously. Figures from the Division of Workers' Compensation (DWC) in 2007 showed a 30% drop in the applicant attorney rolls.

But has this really resulted in a drop in litigation?

Overall litigation at the Workers' Compensation Appeals Board (WCAB) division offices is down if measured by the number of Applications for Adjudication of Claim forms filed with the WCAB and by quite a bit. We don't know if this is due to reform effects, the economy, or a combination of factors.

We do know that cases that do get into the WCAB system are taking longer than before to resolve - but again we don't know if this is because of the complexity of issues, litigation management issues, WCAB staffing level issues, carrier opposition, etc.

But clearly, attorney involvement is desired if the injured worker wishes to avail him or herself of all of the benefits allegedly available, but made difficult to access by "reform" and related regulations.

One of the stated purposes of the 2004 reform laws that instituted a new permanent disability rating system based on the AMA Guides 5th edition was to promote uniformity and predictability.

About the only thing that is really uniform and predictable is that if an injured worker does not have an attorney then that injured worker will get significantly less money as compensation.

Ratios, Rates, Risk Allocation and Benefits Delivery

In June the Workers' Compensation Insurance Rating Bureau (WCIRB) released its overall combined ratio analysis for carriers in California. The ratio had climbed from 117% for years 2009 and 2010 to 122% in 2011.

As you likely know, the combined ratio is how much goes out the door for every premium dollar taken in - so in the case of 2011 a carriers paid out twenty two cents more than they took in.

The combined ratio is a very broad measurement that is useful for at least trend spotting, but is very susceptible to misinterpretation because it is greatly affected by outliers - companies whose ratios that are included in the overall number that have either very high or very low individual ratios.

In general for California, while the present number itself is high, a negative combined ratio is not abnormal. Most of the time there is sufficient investment income to still make a profit despite more expense dollars going out than premium dollars coming in.

There have been some years, most notably 2005 through 2007, where the combined ratio was positive and carriers were able to make an underwriting profit in addition to investment income.

And there are years like 2012 where there is insufficient investment income, insufficient payroll base, insufficient premium ... Which takes us to rates.

The published insurance rates are an interesting phenomenon in workers' compensation because they are the product of available risk allocation resources - in other words what the size of the market's total payroll is. In the latest filing, for every $100 in payroll, the WCIRB seeks $2.68 as the basis for determining the employer's obligation.

When the economy is in the doldrums, and unemployment remains stubbornly high (Bureau of Labor Statistics reported California's July unemployment at 10.7%, still the third worst in the country), there is quite simply less wage against which to charge premium, so each unit of risk allocation resource, i.e. a wage dollar, must carry more of the risk.

Consequently carriers seek higher rates because the risk allocation part of the insurance teeter-totter was getting outweighed by the benefit delivery side. But this isn't necessarily because the benefit delivery system got heavier. Part of the problem is that the risk allocation system got lighter.

Another part of insurance fundamentals is expenses, and more directly, loss and loss adjustment expenses. These can come in either at the benefit delivery side or at the risk allocation side.

Loss is basically how much medical costs and how much indemnity is paid out.

California medical losses paid in 2011 were $4.4 billion and accounted for 60% of total payments, as they did in 2010 and 2009, when total medical losses were $4.3 billion and $4.2 billion, respectively.

Carriers paid $3 billion in indemnity benefits, with $1.5 billion in temporary disability and $1.2 billion in permanent partial disability benefits, in 2011.

Loss adjustment expenses are comprised of all of the various components that carriers use to deny or reduce claims, be it indemnity (by limiting either the rate or duration) or medical (utilization review, bill review, attorneys, and other consultants).

This is where things get interesting.

In 2005, just after the institution of SB 899's utilization review mandates (carriers were required to have systems in place, but they didn't necessarily have to use them), $197 million was spent on medical cost containment services.

In 2011 the cost of such services was $384 million - 94% more than was spent in 2005, or $187 million.

According to the analysis addressed to DIR Director Christine Baker, prepared by Bickmore actuary Mark Priven, the proposed reform bill would result in a net savings to employers of between $95 million and $375 million. The median would be $235 million - not that far off from what carriers spent on medical cost containment services last year.

And the increased spending on medical cost containment services from 2005 to present doesn't appear to be too terribly effective, given that the cost of providing medical services continues to grow by $100 million per year even though claims frequency is at an all time low (except for an anomaly in 2010 when there was a spike in claims experience).

In 1997, after "open-rating" (i.e. pure price competition by carriers without Department of Insurance oversight) was made possible by SB 30 there was justifiable concern that some carriers would not be able to exercise the discipline necessary to price risk properly, and that concern was played out over the next few years with the demise of a couple dozen of carriers that drank the Unicover KoolAid.

It seems that 2005 brought in its own medical cost containment services KoolAid.

And maybe this is what the new Independent Medical Review system will curtail - runaway utilization review and runaway medical bill review.

When DIR started on its present reformation agenda, I argued that there could be no "real" reform without also seeking change in the risk allocation part of workers' compensation. I was met with an unsupported argument that doing so would increase costs and increase rates.

So the focus on the present reform is solely about the benefit delivery system.

The fundamental flaw with the present risk allocation system is that there is no incentive for carriers to more tightly manage loss adjustment expenses and it may very well be that increased complexity of the system over the years inhibits carrier's ability to do so.  Evidence of this is the simple fact that despite a near doubling in the amount of money that was spent on medical cost containment services it has had no discernible effect over the long term. Medical costs continued to grow.

Before SB 30 carrier competition centered on tight claims management because the only way to demonstrate a savings to an employer, and thus win the employer's business, was to ensure the lowest possible experience modification factor possible. And this was accomplished by tight claims management to get the claim closed as quickly as possible thus minimizing indemnity AND medical.

And guess what, carriers didn't rely upon utilization review or bill review back then. Claims adjusters had much more discretion and made professional decisions based on experience and knowledge accumulated through years of training and dealing with claims. Good claims management got rewarded with more business volume.

Let me summarize this rambling post: the machinations that go into keeping the benefits under workers' compensation affordable to employers are complex. The present day system angst is a product of changes that go back two decades. System performance is compromised by increased complexity (to which the proposed reform bill adds in my opinion), and the delegation of individual responsibility to regulatory subsystems that are applied without appropriate discretion.

Troubled

The message I heard at the California Workers' Compensation Insurance Rating Bureau's Annual Meeting yesterday in San Francisco was a mixed one, but my ultimate conclusion isn't positive.

The bottom line - frictional costs associated with the most recent reform effort seem to have introduced more frictional costs than savings, and the likelihood is that when Oregon does it's rate normalized bi-annual survey, California may just come out on top as the most expensive state with a troublesome delivery history and questionable profitability for carriers.

Ugh...

Here's a sort of good news, bad news synopsis, not necessarily in any particular order:

While there has been a dramatic reduction in claim frequency (fancy insurance-speak for the number of injuries per given period), down some 80% over the past 40 years, California has seen frequency level off and even grow a small percentage where the rest of the nation continues to experience continuing declines. It seems that this frequency deviation is attributable to the Greater Los Angeles area - a geographic bubble driving the state's negative claims picture.

It seems that the frequency trend in indemnity claims in the LA area is attributable to continuous trauma claims. Los Angeles carries the highest percent of CT claims - about 82% higher than rest of state and 50% higher than Bay Area. There's still speculation about why this anomalous situation exists, with blame going to a larger attorney population than the rest of the state, or a larger overall population in the state, or limits on post termination claims driving more creative pleading, or attempts to make up for the decimation of PD indemnity after SB 899's routing, or physician's requirement to report anything apportionable which raises the specter of earlier indications of potential industrial exposure, or ....?

The one exception to the frequency trend is 2010 when both national and California experienced a sudden spike. One industry researcher I spoke with believed that spike is attributable to the recession - as unemployment benefits ran out people suddenly remembered that injury they had at work...

That explained 2010, but what remains troublesome is that after 2010 frequency continued on its downward trend (based on National Council on Compensation Insurance stats) but California frequency, though down from 2010, is bucking the trend.

According to Berkeley Research Group's study more recently, 85% of injured workers in California were able to see a doctor within 3 days of reporting an injury and 80% said they were satisfied with the care and attention they received.

And while the statistics reflect that nearly 90% of all injured workers return to work post injury, the issue is how long it takes them to get there; significantly longer than the national average - California workers are out of work and on temporary disability 36% longer than the national median, based on Workers' Compensation Research Institutes' numbers.

Though California has the third most generous temporary disability payments in the nation, when adjusted for cost of living California is down around 30th of all states.

The average rates carriers charged employers was $2.91 per $100 of payroll, which is just under the those charged in 1978 ... but rates have gone up 35% since 2008 (when rates bottomed) and is 70% higher than the national median.

California's work comp market is by far and away the largest in the nation, which explains the attraction to carriers and others vending to the system, comprising 25% of the total market with an estimated 2014 written premium of $12 billion.

This premium growth is partly from increasing payrolls as the economy recovers and more people return to the work force, but some of it is just carriers increasing rates as investment returns sag and carriers take advantage of the current market's willingness to absorb increases.

In terms of diversification of carriers, there's no threat of monopolization by any single carrier, though State Compensation Fund continues to be the largest, albeit slipping considerably since 2004 with private carriers nipping the heels of SCIF for the top spot.

And since open rating began in 1996 national carriers have come to dominate the California market.

But if the California workers' compensation market were examined by a rational Wall Street it would not survive financier's scrutiny, with a terrible historic return on capital rate, the system being called "return challenged" when the industry is compared to other industries on a return on net worth basis.

Payments on the medical side of the balance sheet comprise nearly 67.5% of all claims dollars now, but California has the sorry distinction of being among the slowest of all states to pay the doctors - with days to payment nearly twice as long as the national average.

But inflation for workers' compensation medical treatment, though existent, has remained far below the inflation experienced in the general health system (where premiums have tripled since 2001).

The system spent $15.5 billion at the last measure, 2/3rds going to benefits and the other third spent on administration of benefits. This ratio is not appreciably changed from prior years though.

Lou Shields, part of the afternoon panel on the real world experience with SB 863, and Vice President IT Application Integration for Maximus Federal Services, corrected the WorkCompCentral report of the other day telling me that while the overall payroll of Maximus' doctors reflected 40% from California, 70% that do the California work are California licensed presently and that they intend to increase that ratio.

So if I had to describe my perceptions of California workers' compensation following this meeting it would be, "troubled."

While Christine Baker, Director of the Department of Industrial Relations and at the meeting but not part of the presentation, said that SB 863 needs to be given time, the short term prognosis is not good.

Still we have to remember that there are a lot of balls up in the air: lien process challenges pending at the appellate court level, adjustments to the IMR process, roll out of the $120 million supplemental fund, interpreter and copy service fee schedules, etc.

From my jaundiced view though, what is pending doesn't represent any meaningful chunk of system savings, and if, for example, the lien fee challenges are upheld costs will actually increase.

Plantar Fasciitis, PD & Bovine Excrement

I read and hear many who express disdain for the workers' compensation system because, to them, it seems too convenient of a give-away - get or claim injury, and the expectation is money, regardless of how minor the injury claim is or whether there is any actual disability (and you know from my prior posts that I'm not a big fan of rewarding "disability").

It's not enough to get better from an injury and to return to work. There is an expectation of money, ergo compensation, for an inconvenience of life, which if removed from the workers' compensation context would simply be an annoyance.

An example is a case that is up on appeal which is all about whether plantar fasciitis deserves a permanent disability rating.

According to the US National Library of Medicine (PubMed), plantar fasciitis is inflammation of the thick tissue on the bottom of the foot - the tissue is called the plantar fascia and it connects the heel bone to the toes and creates the arch of the foot.

The condition arises when this tissue is overstretched or overused - the classic "continuous trauma" sort of injury. It is common with long distance running and can be resolved with shoe inserts.

Treatment for the condition is very conservative and prognosis is quite favorable. Treatment can last from several months to 2 years before symptoms get better. Most patients feel better in 9 months. Some people may need surgery to relieve the pain but that is a rare case.

Plantar fasciitis is a common malady. I've had it. You have probably had it. It's no big deal. It causes pain for a short while, pain that is manageable and doesn't ruin your life, and eventually ceases.

But Arthur Cannon wasn't satisfied that his plantar fasciitis wasn't worth any cash even though he returned to work as a police officer (albeit, it is not stated in the opinion when he returned to work - police officers in California get full salary for 52 weeks when claiming disability from a work injury).

The agreed medical evaluator (AME) originally opined that there was no impairment related to Cannon's plantar fasciitis.

The parties asked him to issue supplemental reports after the Almaraz/Guzman II opinion, and the AME determined that Cannon had a 7% whole person impairment, based upon a "rating by analogy" to the gait derangement table in the American Medical Association's Guides to the Evaluation of Permanent Impairment.

Seven percent is worth $4,105.50, with the return to work discount.

The workers' compensation judge (WCJ) rejected the AME's opinion on disability - rightfully so in my jaded, non-sympathetic opinion.

The WCJ said that rating by analogy was inappropriate because the plantar fasciitis was not "complex or extraordinary." The judge based the decision on the following language from Almaraz/Guzman II:

"The Guides itself recognizes that it cannot anticipate and describe every impairment that may be experienced by injured employees. To accommodate those complex or extraordinary cases, it calls for the physician's exercise of clinical judgment to evaluate the impairment most accurately, even if that is possible only by resorting to comparable conditions described in the Guides." [Emphasis mine.]

The Workers' Compensation Appeals Board (WCAB), on reconsideration, reversed the WCJ in a 2 versus 1 split, saying that the WCJ didn't know what he was talking about.

"As argued by applicant here, the language cited by the workers' compensation judge to limit a rating by analogy only to cases with 'complex or extraordinary' medical conditions does not support his interpretation," Commissioner Marguerite Sweeney wrote on behalf of the majority. "Rather than further restrict a physician's expertise, this language should be read to reflect the ability of a physician to rate impairment by analogy, within the four corners of the Guides, where a strict application of the Guides does not accurately reflect the impairment being assessed."

Here's where the WCAB went awry - there isn't any impairment. That's why plantar fasciitis isn't in the Guides. Because it doesn't cause any impairment.

This is essentially acknowledged in the opinion where it is noted that Cannon has pain when he removes his shoe insert or when he pushes on his heel with his finger.

Or, "when he runs for a period of time."

The old physician joke here is appropriate. Patient: Doc, it hurts when I do this. Doctor: Don't do that...

Commissioner Deidra Lowe dissented.

Lowe determined that the evidence showed that Cannon did not sustain a ratable permanent disability. To support this point, she noted that:

• Cannon did not suffer any loss of earning capacity.
• Ramsey found no impairment of the normal use of a member.
• No evidence showed that Cannon suffered a competitive handicap in the open labor market.
• Ramsey did not discuss the condition's impact on Cannon's activities of daily living or suggest that the condition affected them.

"Here, there are absolutely no measurable impairments and no impairments in the ADLs, so there is no justifiable basis for the use of Table 17-5," Lowe reasoned. She concluded that Ramsey was "basically speculating" about the existence of whether there was objective evidence of measurable impairment, which is insufficient to justify a 7% impairment rating.

Moreover, it seems to me that the WCJ and Lowe are reading between the lines in this case - it is acknowledged that Cannon used to run "a lot of races" and half marathons regularly (but of course now he can't because he's disabled...).

Go back to the PubMed article - one is more likely to experience plantar fasciitis when engaging in long distance running. I know there is no apportionment to causation. Fair enough. But Cannon alleges the onset of his plantar fasciitis was from running during a physical fitness test...

I'm calling BS on this claim. I think the WCJ and Commissioner Lowe are too.

The City of Sacramento filed a petition for writ of review with the 3rd District Court of Appeal on Jan. 23, which is still pending. 

Monopoly Part Deux

Yesterday was an exploration on monopolies and workers' compensation - it was my conclusion that competition is what makes workers' compensation inefficient.

Many have taken exception to that statement, understandably, because it defies conventional wisdom.

After all, we would think that competition would compel companies and people to be MORE efficient because if they are not then someone else will come in with a better mouse trap and do the job cheaper, faster, better.

But that's not how workers' compensation is, in large part because workers' compensation itself is not a market based system - it is a REGULATED market, which means that governmental interference with the market is necessary because system stakeholders - employers and employees - are compelled to participate.

Workers' compensation was established in the first place as a monopoly system, meaning the state was the monopoly and dictated the terms of engagement. The state creates as level a playing field as can possibly be created, and thereafter its job is then to enforce the rules of play.

When we disrupt the state's role, when we remove the monopoly power of the state, the playing field gets distorted because players with unequal strengths (in this instance, money) enter the game. When unequal powers are introduced inefficiency occurs because of misallocation of capital and resources.

The state's monopoly fostered innovation.

In California this happened starting in 1993, when Open Rating became the law.

Prior to OR, the Department of Insurance dictated a minimum rate structure. Workers' compensation insurance companies could charge more than the minimum rate, but could not charge less.

The reason for this rule was brilliant forethought by the people that created the system. Their initial reasoning was that in order for the market to be stable there must be a secure capital system, meaning that there would always be money available to meet the risk.

The less obvious role of the minimum rate rule was that it forced insurance companies to compete on service levels because pricing, if a company was efficient in and of itself, was a commodity; if everyone is forced to charge the same price then the buyer needs some other distinction in order to make a purchase decision.

Workers' compensation is a service pure and simple. There are no widgets to sell (except perhaps durable medical equipment, and that is something that is not core to the system). The only way for an insurance company under the minimum rate law to distinguish itself is to provide service levels over and above the next guy who happens to be charging the same price for that service.

When the minimum rate law ruled the insurance landscape there were oodles more (I think upwards of nearly 350+) insurance companies JUST WRITING COMP. They weren't very big insurance companies but they were all specialty carriers that knew their risk industries intimately, and they offered INNOVATIVE  services in claims management that were designed to get people back to work as soon as possible.

Because the ONLY way to save an employer money was to ensure that it's experience modification factor (x-mod) was low.

And the only way to get a low x-mod was by getting benefits initiated and delivered quickly, timely and efficiently to minimize the impact of a claim; the longer a claim stays open the more expensive it is, a fact that is immutable.

Sometimes there were failures in the delivery of services, of course. Nothing can be 100%.

And of course rates rose for various reasons, but overall the rise of rates was relatively benign - there were no huge spikes or rises, nor were there any huge declines. Rate inflation existed, but it was relatively smooth and predictable.

Most businesses don't care too much about rate inflation so long as it can be predicted and modeled into a company's products and services. Disruption occurs when the unexpected happens and rates deviate from the pricing model causing an expense item that wasn't accounted for, which can affect profits (which was part of the Grand Bargain in the first place, smoothing the disruption of a potentially disastrous jury verdict).

When OR came along innovation died because carriers competed on price only. Workers' compensation became a price-dictated commodity. Employers didn't understand the value of specialty services, or the impact of those services on their x-mod, and the ultimate affect was that pricing competition put insurance companies out of business, there became less choice in the market, and worse, less expertise for any given risk model and less service.

That's when wild fluctuations started to occur in the market as capital fled.

Because when an insurance company competes on price, that means that expenses become acutely more important. Trimming expenses means trimming service levels since payroll is by far the single largest fungible expense item.

Trimming service happens at the claims management level since it is reactionary: the level of service necessary to manage a claim isn't known until that claim arrives, and even then it's a guess as to severity.

In the end employers actually have less choice - competition actually destroyed competition! Business shock reverberated through California as employers saw premium increases of over 50% in a single year, destroying any plans and models that relied on stable pricing.

Worse, competition destroyed innovation. No longer was there a reason for an insurance company to specialize in Central Valley cotton crops, or East Los Angeles body shops, etc. There was no reason for a carrier to truly understand an industry, understand intimately the particular risks, or understand operational challenges, because what mattered to the business owner was the price of a policy.

The value of innovative claims management was lost on the business owner or financial officer until a claim came through the mail, and by then it's too late.

I'm not saying that all innovation died with OR, because there are still some players doing good things. But the pace of innovation, the creativity in the insurance market, slowed considerably.

All of the small specialty carriers have left the state or just called it a day.

And the market became much, much more volatile ... and expensive at the premium level, which is what really counts for employers.

So with the minimum rate floor, insurance carriers provided good value. They helped businesses grow, and helped injured workers get on with their lives.

California needs to return to the monopoly of dictating minimum rates.

Cynism, or Experience - WA Reform Is Just Politics

The State of Washington is demonstrating that a monopolistic system, where the state provides the insurance, the administration and management of claims, and the adjudication of any disputes, isn't necessarily any better than an open competition system.

While Washington's Department of Labor and Industries (L&I) has kept rates flat the past two years, it has done so at the expense of drawing down its reserves.

Now it is floating a 10 year plan to increase rates 5.5% per year on average in order to meet estimated liabilities.

And employer groups active in workers' compensation are making the same noise they make in every other state every seven or so years - the call for "reform," which loosely translated means trimming benefits, disguised as liberalizing system rules to expedite benefit delivery.

The same tired arguments are being tossed around.

Kris Tefft, general counsel and government affairs director for the Association of Washington Businesses, said during the Senate Committee on Business and Labor hearing on Wednesday concerning a package of work comp bills that the cumulative effect of the department’s plan could drive employers out of business or out of the state.

If an employer's margin is so thin that a 5.5% increase in insurance in a year is going to make or break it, then the management of such a business has larger problems than an insurance premium.

Here's what's being floated:

Senate Bill 5127 would make settlements an option in all claims regardless of the age of the injured worker. The bill also states that the Legislature in 2011 intended to require the Board of Industrial Insurance Accidents to rule on whether a settlement was in the best interest of an unrepresented worker before approving an agreement, but does not have to make a determination about the best interest of a worker who has hired an attorney.

Senate Bill 5128 would allow parties to settle all aspects of a claim, including future medical benefits which can't be settled in a lump sum under current law. The bill also calls for a study of voluntary settlements every five years until 2026, a study of a stay-at-work program that subsidizes employers who bring injured workers back to transitional jobs due in 2016 and a study of occupational disease due Sept. 1.

The thinking behind SB 5127 and 5128 is that being able to close more claims, freeing up reserve money that would allow businesses to invest in growth. Injured worker representatives say this would entice claimants to accept lower settlements than they would be entitled to over time, and would push them to other state and federal disability/unemployment programs when the claimant can't get back to work or find work post injury.

I have never seen a study reflecting that reserve money that is released as a consequence of a lump sum settlement actually makes its way back into the economy. It may be true, but I have never seen any publication where a dollar is followed from premium collection, to claim reserve, to reintroduction back into the economy. My guess is that any such dollar, at best, represents a neutral investment and does nothing to contribute to economic growth or stimulation.

Senate Bill 5112 would allow employers who are enrolled in the department’s retrospective rating program to schedule independent medical exams and vocational rehabilitation assessments appointments, provided they notify L&I in writing and use doctors and rehabilitation experts who are approved by the department. L&I would be permitted to intervene in any dispute arising from how a retrospective rating plan employer handles a claim and allow the director of L&I to take corrective action such as requiring additional monitoring, additional training or placing on probation an employer that doesn’t following proper procedures.

The bill does not authorize fines for any violations, and it would not allow the director to remove an employer from participating in retrospective rating.

Supporters of this provision say L&I is too slow in setting exams which increases disability duration and forestalls return to work. Opponents argue that turning this over to employers allows them to game the system with employer friendly physician examiners thus decreasing claimant recoveries or causing a return to work too early.

My opinion - if the employer must choose from a state approved list of examiners there likely is no net impact on claimant benefits and if an employer can be removed from the retrospective rating group as a consequence of abusing the process then that is good incentive to stay clean.

Senate Bill 5126 would calculate an injured worker’s wages based only on monetary payments and exclude from the calculation fringe benefits such as health insurance coverage. The bill would eliminate a provision that calculates benefits using 60% of the wages for workers who are unmarried and 65% for workers who are married, as well as a 2% increase for each of the worker’s children. All benefits be calculated at 66.67% of the injured worker’s wages. It would also cap maximum monthly time-loss and survivor benefits at 100% of the state’s average monthly wage, as opposed to 120% as it is currently calculated.

Here is where the real savings come from - reducing benefits.

Workers' compensation, as I have said before, starts with a bucket. That bucket never gets bigger, on a relative scale. The most that can be done with the contents of that bucket is adjust who gets how much.

This is just part of the grand compromise - and is at the core of the friction between employer and worker groups.

Workers' compensation is a political animal. Though over 100 years old and with some culture behind it, the bottom line is that what comes out of the political process - which means deal making, bargaining, back scratching, and sometimes just plain vindictiveness - is what we call work comp.

Washington just went through a "reform" cycle in 2011. Some question whether it is logical for the state to visit more "reform" topics when the effect of the 2011 legislation has yet to fully materialize.

That is not a proper analysis. The proper analysis is who has the political muscle to implement what any particular interest group deems beneficial at any particular point in time.

And it all comes down to money - the tug and tussle of shifting resources to benefit one constituency or another.

Us jaded professionals in the system have learned to just deal with whatever gets thrown at us. We see the net effect, both in macro and micro terms, where most of the population doesn't because the majority of voters and their representatives don't deal with this day in and day out.

Call me cynical. Or maybe just experienced. At least it makes good news.

CA Reform Should Not Be Just About Benefits

With all due respect to California State Senator Ted Lieu (D-Torrance), the issue behind the next generation in workers' compensation reform is not how to hold down costs to employers while increasing benefits to injured workers.

The real issue is stability and predictability.

Yesterday the Senate Committee on Labor and Industrial Relations and the Assembly Insurance Committee held a joint hearing on the impact of Senate Bill 899.

Intended as a “launching pad” for reform discussions, the hearing took in testimony from several people about benefits, costs, market rates, ratios, and other elements that go into "fixing" workers' compensation.

I think that administrative officials understand the issue.

Division of Workers' Compensation (DWC) Administrative Director, Rosa Moran, testified that the division is working with the Commission on Health and Safety and Workers’ Compensation (CHSWC), Rand Corp., and the University of California to discern how to “carefully devise a program that will improve compensation benefits to injured workers, but at the same time not create a volatile market.”

Moran understands the issue exactly - avoiding volatility in the market is the goal.

Rand generated a report in 2009 in response to a request by CHSWC about trends in the California system with 29 recommendations ("California's Volatile Workers' Compensation Insurance Market: Problems and Recommendations for Change"; Dixon, Macdonald, Barbagallo) that, in the opinion of the study authors, would return stability to the market.

Indeed, it wasn't that prices were inflating in the 2000s that led to the monumental reform action in 2004, it was that prices inflated much too rapidly and shocked the business community.

Think of gasoline prices, a much broader market and the subject of much public concern and/or consternation.

The market does not grumble about inflating gasoline prices. As long as the inflation is gradual people hardly even notice. One might hear some comment about how much fuel costs, but that conversation is typically compared to a much longer historical reference.

But when prices inflate suddenly there is a shock to the population and a general dissatisfaction overcomes the population with disparaging remarks about oil company profits, Middle East unrest, and calls for regulatory action.

The same with workers' compensation. The issue for business in any state is not really about how much a certain service or commodity costs, but whether there is stability in the cost so that an effective business model can be drawn and relied upon for decision making in the quest for a reasonable profit.

Rand notes that since 1995, "average premium per $100 of payroll has varied by nearly a factor of three."

Here's a graph from WCIRB data put together by an insurance brokerage unrelated to the Rand study:

The point of this graph is that prior to "open rating" (i.e. SB 30 passed in 1994, effective 1995 that removed direct Department of Insurance rate regulation) there was fairly good separation of earned premium against incurred losses. Around 1999, as the folly of the reinsurance scandal (known more commonly as "Unicover") and Managing General Agents came to fruition losses increased dramatically, carriers failed, capacity dried up, forcing premiums to skyrocket.

Since 1995, Rand notes, "While it is true that the volatility and insolvencies were due to a number of factors other than price deregulation, it should also be acknowledged that price deregulation created an atmosphere that exacerbated the adverse effects of several factors."

Rand says that the market seems to have learned its lesson and that the confluence of events that led to the 1999 malaise was unique, but "memories are short" and "and many of the same incentives, institutions, and regulatory practices that led to the volatility and insolvencies remain in place."

The point of this short review is that the current talk of "reform" is all about the benefit delivery system, but there is almost no talk about the underwriting market - what we tend to forget in workers' compensation is that while costs are important, to the business owner it is not the cost of indemnity, the cost of medical treatment or rehabilitation. It is the cost of the premium that counts.

While the Rand report authors do not recommend a return to the minimum rate regulation system that was in place prior to 1995, they do recommend tighter regulatory control over the underwriting market as a part of an overall "reform" in order to bring stability back to premium costs to employers.

There is neither the time nor the space in this post to go into any great detail about increased regulatory oversight in the underwriting market.

But it is my opinion that the benefit delivery system can not be the sole purview of true "reform" and that the underwriting market must also be a part of any broad discussion.

And I believe that the discussion should not focus on "costs" as typically understood, but should focus on volatility versus predictability.

The issue is not how much the system costs, but the value of the system. In a mandatory participation system like workers' compensation, predictability is where the value lies.