Threat to Market?

Disclaimer - I'm no economist. I leave that stuff up to Bob Hartwig and his team over at Insurance Information Institute.

I just know what I know, and the older I get the more I don't know.

Still, in the world of workers' compensation there are some basic, simple facts that we tend to forget as we get swallowed up in the mire of data that either supports or contradicts our theories and actions.

The single most basic fact about workers' compensation is that it doesn't exist unless there are businesses that employ workers, and there are workers at those businesses.

Bottom line - without work there's no work comp, nor an industry to support it.

This fact was last made painfully aware to us in the Great Recession, when premium dollars dried up, and 2010 saw one of the single biggest jumps in claim frequency in many, many years, producing a couple years of negative combined ratios, followed by years (and continuing) of abysmal investment returns.

Workers' compensation is particularly hurt in troubling economic times when the top tier of the risk categories are impacted: construction, manufacturing, trucking - high risk lines with corresponding high rates and, ergo, high premiums.

And just when we think things are getting better, the global economy gets challenged, which challenges the domestic economy, because in this new world everything is connected.

The Wall Street Journal yesterday ran a story about the ongoing recession (didn't we escape that a couple years ago?) - not an overall recession, but the hard times befalling the industrial sector.

“The industrial environment’s in a recession. I don’t care what anybody says,” Daniel Florness, chief financial officer of Fastenal Co., the WSJ reported he told investors and analysts earlier this month. Fastenal is a NASDAQ traded company and its stock has been trending downward over the past year.

The reason the stock has been slipping is because its customer base isn't buying the nuts, bolts and other factory and construction supplies the company makes. According to the story, Florness said that a third of Fastenal's top 100 customers have cut their spending by more than 10% and nearly a fifth by more than 25%.

That story is repeated by other big, industrial stocks. Caterpillar Inc. last week reduced its profit forecast, citing weak demand for its heavy equipment, and 3M Co., whose products range from kitchen sponges to adhesives used in automobiles, said it would lay off 1,500 employees, or 1.7% of its total, as sales growth sagged for a wide range of wares, according to WSJ.

What's going on?

Energy prices (i.e. oil) has favored fuel consumers, but has killed domestic production and the need for drilling equipment and supplies. China's troubles, including its own interest rate cuts, have stemmed that country's needs for US goods, and other emerging markets such as Brazil aren't able to take up the slack.

According to the WSJ story, profit and revenue are falling in tandem for the first time in six years (six years ago we were in the throes of The Great Recession), with a third of S&P 500 companies reporting so far. Sales are also on pace to fall 4%—the third straight quarterly decline (and we're going into retail's customarily biggest season). The last time sales and profits fell in the same quarter was in the third period of 2009 says the Journal.

Last year, outgoing NCCI president/CEO Stephen Klingel in his State of the Line address opined that the industry was stable and that the future looked promising, but he couched that forecast with some skepticism about the future, and that skepticism seems foretelling. Pricing is being challenged, rates are going down (okay, except in California), investment returns are stagnant ... but claims frequency and severity is ameliorating too.

True - there are sectors that are defying the global troubles: tech, health care, autos, air travel; and most economists don't see a meltdown or overall damage to the economy.

But even construction, which is a high rate, high premium sector for work comp may be a challenge because, believe it or not, the home-building industry is saying they can't find labor to keep up with demand, and the most recent reports show that new home sales are actually cooling off.

It seems the financial world of workers' compensation is challenged. Low interest rates on renewing bonds squeeze investment gains (if at all); high margin risk categories aren't generating the payroll to fortify premium sales; foreign investment in US assets is waning; and the strong dollar abroad is pinching the export/import markets.

Oh, and good heavens, there are economists that are now saying Americans are saving too much!

On top of all this, we are in the midst of radical changes to when, where, how and who does work (and who pays for that work).

Forbes ran a story the other day opining that, "in the 21st-century corporation, whether it’s acknowledged or not, employees own most of the assets because they are most of the assets."

That's a radical concept - it's not the machines, the land, the buildings, the inventory that's important to the 21st Century business, but the people that make that business happen.

And people is what workers' compensation is all about - it takes people to hire people to do the work that people want done to produce the goods and services that people will buy....

So wait! Maybe work comp isn't doomed - the concept of how that insurance is bought, used and/or applied is just changing.

We think of insurance as a capital intensive business, particularly workers' compensation insurance where laws dictate minimum capitalization and liquidity to meet claims needs.

Many industries in the past used to be thought of as capital intensive, which created barriers to entry: transportation, lodging, information...

What we are seeing though, is that technology is enabling the redistribution of risk, and therefore capital requirements are not so intensive any longer: Uber, AirBnB, Facebook and Google - each of these new generation businesses have in common a basic business fundamental of redistributing the risks of operation making the revenue/profit per employee (i.e. asset) much, much higher than traditional models.

The old capital intensive requirement is a part of what we like to call "friction" but as this "new economy" is showing, that friction is being reduced dramatically. Work that used to require factories, offices, commuting, and risk, is now delegated to the most competitive workers throughout the world - what is now called the "gig economy".

So maybe work comp carriers don't need that much capital other than what the law says. Maybe the industry's traditional financial thinking is looking too much at the past, rather than recasting for the future.

There's a lot more to this story than I can give credence because there are so many moving parts.

Workers' compensation is over 100 years old; and while you can't teach an old dog new tricks, you can build upon the foundation.

I think that's what is happening - and we're seeing this happen before our eyes at a pace that is relatively slow so that the disruption is not as abrupt as in other industries. Berkshire Hathaway, Insureon, Intuit, and others, are all moving towards digitization of the workers' compensation insurance market.

At the end of the day it's understanding the risk requirements, which dictates the capital requirements. Knowing what the risk requirement is at a minute, detailed level means allocation of capital to meet that risk can also occur at a minute, detailed level - i.e. greater efficiency means less capital in the traditional sense.

Short term, the traditional stalwarts of work comp will be challenged. Over time, though, as efficiencies work their way into the economy those efficiencies will be translated to the work comp insurance line. I think we're going to see some exciting, new, and radical changes in the next decade as our "old world" industry becomes imbued with new world understanding.

As Much As We Can

The NCCI Annual Issues Symposium in Orlando is the insurance industry's annual physical examination.

It's about the business of workers' compensation insurance, very simply, and its relative health in comparison to other insurance lines, and other industries.

Lots of numbers are thrown about because that's what insurance people look at.

And that's important. Because without insurance companies then the whole premise of workers' compensation, spreading the risks through some financially viable means (i.e. the cost of risk) doesn't work.

So having a vital insurance industry backing the system is hugely critical to the concept of work injury protection.

This past year the industry wrote $44.2 billion total net premium - the 4th year of premium growth , which NCCI president and CEO, Stephen Klingel said was, "great news."

The private carrier industry posted a 98 combined ratio, which was the first time since 2006 that it was under 100.

Very simply, a combined ratio of 98 means that for every dollar of premium taken in during the measuring period, 98 cents goes out the door as costs and expenses. I believe that the combined ratio is a misleading indicator of insurance line health, but it is commonly and widely used by the investment industry so it gets a lot of attention.

But Klingel advised that this "great news" won't last long, that the industry has seen these trends before and that the path ahead is "turbulent."

There's a lot of variables that impact what the risk of work injury protection costs, but here's the bottom line - it's going to cost more and more over the next couple of years.

There are several factors that come into play, but the most important factor is a continuing trend of low interest rates, which the actuaries and economists at NCCI don't see rising anytime soon despite what the Federal Reserve says.

These low interest rates mean that the insurance industry, which invests largely in conservative vehicles such as Treasury bonds, won't reap the same profit margins from investments as they had with previous investments that are now maturing.

The money has to come from somewhere to keep investors happy, so the only other income avenue - selling the product - needs price increases.

Other challenges facing the insurance industry include the uneven economic recovery; not only has the United States economy been slow to recover from the Great Recession of 2008, but different sectors are growing at different paces for various reasons.

Sectors that are most important to worker's compensation, because of payroll growth and risk categories, such as trucking and construction, are seeing tepid growth, and in certain cases are seeing big changes due to technology.

In fact, manufacturing, which once was a staple underwriting class for work comp carriers, won't ever recover, at least not from a payroll perspective, because many of the jobs that were jettisoned in the recession are being replaced by robotics.

Outsider Salim Ismail, a former vice president at Yahoo and an extraordinarily smart guy, gave attendees an exciting, but at the same time frightening, perspective on how fast technology is growing, and how quickly this world is changing as a result of the Information Revolution.

Ismail showed the exponential curves associated with disruption, and believes (very convincingly so) that we've only just begun; the legal and regulatory frameworks are reactive rather than proactive, largely due to entrenched interests, and are going to remain far behind where this world is going.

I believe that.

Robert Hartwig, president of the Insurance Information Institute, showed how jobs are being replaced by automation, and the implication is that those jobs will disappear forever, which means that payroll will disappear forever, which means that carriers will have less premium, which means that prices are going to rise, etc.

Vicious circle.

I came away believing that while there is going to be an employment shift, that shift will be towards more technical jobs requiring more skills and paying more money - and there will be a lot of those jobs coming on line providing plenty of job opportunities for the displaced.

There is going to be, however, a population that won't, or can't, make that move and what I fear is really going to happen is that the gulf between the "haves" and the "have nots" will widen.

The bottom line in my opinion is that there is going to be a huge demographic that is going to be left behind for one reason or another and it's going to be society's big job to figure out what to do, and how to support, that population.

And it isn't going to be pretty.

Much was made about the "on demand economy" and how the Ubers of this world are redefining the work place.

We've heard this before at the beginning of the dot com cycle, and actually that argument has preceded virtually every economic shift. 

In the dot com world, the argument was that the typical office-based worker has new freedoms to work wherever, whenever and however they feel, and that this will be empowering greater productivity and satisfaction.

What we have learned (and what I have experienced first hand) is that for some people and jobs, that is true. But the fundamental "pack animal" instinct of humans still favor an office where people gather, collaborate face to face, and leave their work when they're done for the day so there's some sanity at home...

I'm a simple, liberal arts kind of guy - that's why I became a lawyer. All of these numbers are confounding, confusing, and challenge my underdeveloped left brain. 

It's difficult to reconcile the business of workers' compensation with the mission of workers' compensation.

And maybe they can't be reconciled. These are left brain versus right brain concepts. Different people are good at different things. 

Regardless, the check up at the Annual Issues Symposium is important because The Money has to know that it is in good hands. We are stewards of a very complex system. Sometimes we get it right. Sometimes we get it wrong.

I think most of us try as hard as we can to get it right as much as we can.

The Market Is Dynamic

At the upcoming Workers' Compensation Research Institute 2014 Annual Issues & Research Conference in Boston next week, National Council on Compensation Insurance's chief economist, Harry Shuford will present "How the Economy Drives Workers' Compensation."

I don't know what Harry is going to present. But I've heard Harry in past NCCI events and he always does a masterful job of explaining how economic issues affect workers' compensation underwriting.

Harry would probably criticize my explanation of the economy's relationship to workers' compensation, but here's my elementary school version.

When employment is high, and payrolls increase, workers' compensation premiums go up. That's because workers' compensation premiums are based in large part on how big the work force is, and the best indicator of the size of a work force risk is how much money the work force is being paid, which is then modified by what kind of jobs that work force is doing.

Smart guys with lots of computing power (in the old days it used to be really fast slide rules) figure out what kind of jobs are risky, and which are not so risky, and ascribe a modifier to the payroll number to determine the ultimate premium cost.

When investment yields are low and claim exposure is high, workers' compensation premiums go up, of course depending usually on whether the state insurance commissioner agrees that these circumstances were not of the carrier's making.

And visa versa - when fewer are employed and payrolls decrease, premiums go down, and when investment yields are good and claim exposure is controlled, premiums don't go up (but usually don't go down appreciably).

Generally the industry doesn't expect to make much money, if at all, on an underwriting versus expense basis - a measurement called the combined ratio.

A combined ratio of 100 means that for every dollar coming in the door, a dollar goes out the door. If the combined ratio is higher than 100 then there is more cash going out the door in claims and expenses than is coming in from customer's premiums. And if the number is less than 100 then there is more cash coming in and less going out.

Workers' compensation is a cash flow mechanism. Carriers bet that the cash flow spread, what is parlayed into investments, yields enough money to generate a profit over time. The old adage that a dollar today is worth ten cents more tomorrow is what drives work comp profit margins.

As an investment, workers' compensation is not a great business. There are a lot easier and less risky ways to make more money than the general profit margin in work comp. But it's not a bad line if one can stomach the ever changing statutory and regulatory framework one must work within, and the consequential changing assumptions regarding the risk of investing in the market.

There is still a good appetite for workers' compensation risk however, as market statistics demonstrate.

Today it was reported that Travelers Group surpassed Liberty Mutual Group as the nation’s top workers’ compensation insurer in 2013, reporting direct written premiums of $4.14 billion to Liberty’s $3.59 billion, according to figures released Tuesday by the National Association of Insurance Commissioners.

Liberty had been top dog for many years, but the company has in the past let it be known that its appetite for workers' compensation risk, particularly in the ever changing market of California, was waning. So its move to number two is not particularly surprising.

And also not surprising is that the industry’s top 25 companies had a 7% increase in direct premiums written from a year earlier with a combined $51.4 billion in 2013.

The numbers reflect the 2.1 million new jobs nationwide, a modest increase in payrolls “and rate increases being pushed through as well,” said Robert Hartwig, president of the Insurance Information Institute.

Hartwig also told WorkCompCentral that “some of the most unprofitable business is being shed into the state funds,” predicting that the trend may continue for a while.

The private carrier appetite for risk must not be too healthy in New York, as that state's fund, New York State Insurance Fund, was sixth on the list, even ahead of big economy California's State Compensation Insurance Fund, which moved down the scale to twelfth. 

Apparently there is a lot of unprofitable business in New York that the private carriers don't want to touch.

Here are the Top 10 in direct written premium in 2013 and their change since 2012:

• Travelers Group, $4.14 billion, up 8.9%.
• Liberty Mutual Group, $3.59 billion, down 14.2%.
• Hartford Fire & Casualty Group, $3.35 billion, up 1.7%.
• American International Group, $2.85 billion, down 3.5%.
• Zurich Insurance Group, $2.53 billion, down 8.6%.
• New York State Insurance Fund, $2.28 billion, up 17.4%.
• Berkshire Hathaway Group, $1.76 billion, up 39.9%.
• AmTrust NGH Group, $1.67 billion, up 82.0%.
• Old Republic Group, $1.20 billion, up 7.9%.
• WR Berkley Corp. Group, $1.16 billion, up 17.4%.

California’s State Compensation Insurance Fund was No. 12, with direct written premiums of $1.11 billion, a 23% increase.

Texas Mutual Insurance Co. held its No. 13 ranking with direct written premium of $1.03 billion, a 13.8% increase.

Shuford will probably tell us at the conference next week that some of the big premium drivers, the riskiest categories with the highest payroll, haven't quite recovered completely from the 2008 recession - such as the construction and trucking industries.

But then we have new growth in the health care sector with its related sub-industries and it's trillions of dollars in payroll as the roll out of the Affordable Care Act continues over the years. The health care sector is generally low risk and high payroll - an attractive combination if you're an underwriter.

In the meantime the investment returns remain below inflationary rates because of the Federal Reserve's monetary policy which has kept interest rates artificially low, and historically anemic.

Which is to say that the overall workers' compensation underwriting market is particularly dynamic right now.

In the past couple of years the economists that follow this market have generally opined that the current trend of low investment yields, increasing payrolls, and an ability to pass along some of the risk onto policy holders will continue for a couple more years.

So far it looks like their forecasts are accurate.

See you in Boston.

Let the Man Do His Job

The political nature of workers' compensation is being played out in Iowa, a state that is used to being in the political spotlight during national election years as the first state to vote in presidential primaries since 1972.

Rates in Iowa have increased 17.3% during the course of the past 4 years and this has Republicans who back the governor on the offensive.

That averages out to 4.325% per year which is too much for Iowa Republicans to bear, so they are calling for the head of Commissioner Chris Godfrey.

Iowa state Sen. Jake Chapman, R-Adel, authored an editorial published by the Des Moines Register newspaper on Oct. 28 complaining that Godfrey was biased and too eager to award injured workers benefits.

This is part of a campaign by supporters of Republican Gov. Terry Branstad, who upon election called for the resignation of Godfrey.

Godfrey refused. He said that he was entitled to serve out the rest of his term, which ends in April 2015.

So the Governor took vengeance by slashing Godfrey's salary from the statutory maximum of $112,069 to the statutory minimum of $73,250.

The salary cut prompted Godfrey to file employment discrimination suits against Branstad that are now pending in both state and federal courts. The suits contend that Branstad discriminated against Godfrey because he is gay and affiliated with the Democratic Party.

Godfrey was first appointed into office by Democrat Gov. Tom Vilsack in 2006 and reappointed by Gov. Chet Culver in 2009.

In the meantime state Republicans have been aggressive towards Godfrey, stating that he hands out money.

Godfrey says he is simply following long standing case law that interprets the state's labor laws.

Iowa has held its ground against pressure to compete on workers' compensation laws against neighboring states for business.

Neighboring states have reformed their laws to reduce benefits by changing qualifying standards for benefits. So those states are held out as examples by Republicans against Godfrey and the state's system.

But Godfrey correctly notes that Iowa is one of only four states that don't have any medical fee controls in place, and says the statistics implicate the rising cost of medical benefits as the genesis for rate increases, not actual benefits paid on claims that have close fact patterns.

"I believe Iowa is one of only four states in the country that has no medical cost containment," he told WorkCompCentral. "We do not have a mechanism in our statute, we do not have a fee schedule, we don't have treatment guidelines. Many people would say that is a good thing, but I also say that makes it unlikely for us to enjoy the stability that we have had over the last 20-some years. Medical care costs are 61 cents out of every premium dollar, and if we do not control those medical costs, that is going to be pretty devastating."

Iowa hasn't made any radical changes to its system in 30 years, which likely contributes to the state's relative stability when compared to more active, reform-minded, states. Godfrey notes that rates, on an inflation adjusted basis, are the equivalent of what they were in 1994.

Certainly we can't say that what happens in Iowa workers' compensation is indicative of trends nationally like in national elections, but we can say that politics and workers' compensation generate muddy results. We see this time and time again.

Godfrey said Tuesday that some Republicans have been more vocal about their opposition to him in recent weeks because they fear that his lawsuits will go to trial. Maybe that's true.

In which case the right thing to do is to stop with this misguided political folderol, reinstate Godfrey's salary, and let the man do his job.

Off To Florida For A Pulse Check

I'm on my way to the National Council on Compensation Insurance's (NCCI) Annual Issues Symposium (AIS) in Orlando, FL.

The AIS is particularly interesting because it provides a national perspective on the health of the industry away from the outsized influence that California's mammoth system imparts. Because NCCI is the rate maker for the vast majority of this country's state systems, it has a broad collection of data to interpret and compare.

Just a few weeks ago NCCI issued its annual report. In summary, NCCI sees claims frequency and severity (i.e. the number of claims filed and the total cost of such claims) as moderating while the overall underwriting market is starting to harden. In general this is good news for insurance companies writing this line of business - less money going out, more money coming in...

In addition, noted insurance economist Robert Hartwig, PhD says in the report (and I'm sure will present at AIS) that while the economic recovery isn't robust, there is still a recovery and this means increased payrolls, ergo increased premiums, for carriers.

The payroll increases are not necessarily going to be the product of an increase in the number of people actually employed though. Hartwig is optimistic on employment figures but I didn't see him mention the large number of people that are no longer reflected in the government's unemployment statistics - the "lost unemployed" or those people who have been unemployed for so long that they will never return to the employment roles.

Indeed, recent anecdotal evidence published in business tomes reflect that, for example, while domestic manufacturing is on the increase in the United States, much of this production is due to technology gains and investments in robotics.

Even Hartwig notes that the Great Recession decimated the construction industry (which has a outsized influence on some states such as California, Florida and Nevada), which shed 2.3 million jobs - or one-third of the construction industry employment rolls - as a consequence of the recession. Though the construction industry is picking up steam, and is expected to continue to grow (albeit tepidly) for the next few years, there's a lot of jobs still on the side lines.

And Hartwig notes that the recovery is not treating all states the same. Nevada, California, Florida and a couple of other states are still in or very near double digit unemployment percentages, while North Dakota has almost no unemployment.

The bigger the state, and the more reliance to real estate for economic activity, the slower the recovery.

So basically, while the economy is recovering, it is still slow and not across the board in either job sectors or state lines.

But overall, the expectation if you're an insurance company is that the workers' compensation market is heading towards black ink, which is delightful news to underwriters and brokers.

That sentiment was apparently echoed at the 12th Annual JMP Securities Research Conference in San Francisco where the chief financial officers of Amerisafe and AmTrust both expressed that it was their belief that the trend is pointing to a hardening market.

Albeit, both of these companies do not represent the average workers' compensation insurance company - both are in niche markets.

Still, this means to me that employers in all of the states that have passed reform laws this past couple of years may not see all of the savings that were predicted.

Data from the Council of Insurance Agents and Brokers shows that in the first quarter of 2013 more than 80% of workers' comp policies had rate increases. In comparison, during the third quarter of 2010, more than 80% of work comp policies had no change or rate decreases

While the insurance market hardens, the big challenge for carriers is still getting a return on cash flow sufficient to keep investors satisfied.

Investment returns have been, and are staying, comparatively low, so the industry's underwriting profits will show a pretax loss of 1% for 2012 according to NCCI's report.

The common thinking is that in order to maintain a consistent return on equity, a 1% decline in the investment yield means companies need to improve their combined ratio by 5.7%. That's nearly impossible in the short term unless some law drastically slashes benefits (either medical or indemnity or both) - for example when SB 899 in California was passed, carrier combined ratios plummeted.

But these ratios increased rather quickly in California as SB 899 worked its way through the courts and the various parts of the workers' compensation machine refined their systems and operations to take advantage of new areas of vagaries and opportunities.

I interpret all of this to mean that employers in general will be seeing bigger premium bills, regardless of competition and reform, on a consistent basis for the next few years as the industry cycle continues to revolve.

One of the elements that keeps me interested in workers' compensation is this omnipresent tension between carriers, employers and workers. It's interesting to me going to different events and seeing how insurance executives, or business owners and risk managers, or injured worker's attorneys, or physicians all react to the same news in different ways.

Because if carriers can't make a reasonable profit on the workers' compensation line of insurance then they will get out of the market.

If premiums paid by employers get too high, then employers change their business models, get out of business or move somewhere else that is cheaper or isn't regulated (Bangladesh anyone?).

And if workers aren't protected and don't get the benefit of the "great bargain" then there are lawsuits, protests or other social unrest that will challenge society, or at least legislators.

This tension is what drives the continual cycle of reform, adjust, inflate, complain, and reform.

So off to Florida I go to take the pulse of the nation's workers' compensation insurance market and to see just where we are in the overall cycle of the industry - at least from the insurance company perspective.

FL Drugs, Lobbying & Market Forces

It turns out that capping repackaged drugs in Florida won't save as much money in the state's workers' compensation system as previously predicted.

But that's a good thing because market forces have helped curtail the costs of repackaged drugs, according the latest report prepared by the National Council on Compensation Insurance (NCCI) in preparation for Thursday's annual workers' compensation rate hearing in Tallahassee.

Despite the state's complete failure to move forward with closing a loophole in its drug policies, workers' compensation carriers have been following the lead of Miami-Dade Public School District, which refused to pay the prices charges by three repackaging houses in 2010 and cut its payments by an estimated $515,000 a year.

The District relied upon a portion of state law in Florida Statute 440.13(12) that allows carriers to pay the drug price for which they have contracted, even if the billing party is not a party to the contract.

As a consequence the state's carriers have not been paying out as much for repackaged drugs as was previously estimated by NCCI in its prior projections.

Using 2009 data, NCCI told the Florida Legislature last session the cap on repackaged drug prices would save $62 million and reduce overall costs by 2.5%.

The latest report, prepared last week, concludes that capping the price of repackaged drugs – those primarily dispensed by physicians – would save $27.3 million a year for the workers' compensation system and reduce overall costs by 1.1%. The newest estimate was calculated using data collected from carriers for 2011.

The flip side is that there are more billing disputes going to litigation.

DWC spokeswoman Nina Banister Ashley confirmed to WorkCompCentral Monday that disputes over physicians' drug bills are on the rise. This observation was also noted by NCCI State Relations Executive Lori Lovgren who told WorkCompCentral that the "Division of Workers' Compensation has been flooded with reimbursement disputes."

The state has attempted to cap repackaged drugs thrice already, with strong lobbying (and concomitant funding) coming from those in the business of providing software to doctors to assist with claims management and billing for repackaged drugs.

Bob Wilson, CEO of WorkersCompensation.com, in his blog Sunday noted that the state seems confused on its priorities - the state's prescription drug database is nearly out of money despite the fact that the maker of oxycontin, Purdue Pharma, had offered $1 million to pay for two years of operation of this database.

Yet, he notes, the state lets repackaged drug companies spend millions lobbying against a price cap.

Wilson concludes, "What it really means is that Florida has virtually no interest in preventing prescription drug abuse of any kind. And no Floridian is better off for that lack of effort."

I think Wilson is partially correct - he means that Florida LEGISLATORS have no interest. It seems that the market, however, is reading from a different script and will take matters into its own hands given the opportunity.

I'm with Wilson - shame on Florida's lawmakers. But at least where the dollar hits the payment system there are those willing to interpose their own regulation and deal with the consequences as they arise.

Work Comp Rates and Politics; Just the Way It Is

An interesting thing happened on my way to the [residual] market the other day - there were a lot more businesses in there than last year.

For those of you unfamiliar with residual markets - those are the assigned risk pools in states that do not have a "carrier of last resort" (i.e. a state fund). Carriers participating in these state markets are required to provide coverage for those businesses that can not get traditional workers' compensation insurance. In those cases there are pools where a carrier must take an "assigned" business and provide coverage. These are typically very high risk businesses or brand new businesses that have not established a safety or loss record. Because of that assigned risk categories are charged more for coverage.

According to the latest report from the National Council on Compensation Insurance (NCCI), new assignments to state residual market pools is up 9.2% on average resulting in new assigned premium going up 68.9% for the second quarter of 2012, compared to the second quarter of 2011.


On a year-to-date basis, the number of new assignments is up 13.4%, and new assigned premium is up 89.4% for 2012.


There are three basic elements to this surge in the residual pools: carriers can't make adequate money in the investment arena to cover their risks and gain a profit due to the economy; political philandering is artificially suppressing rates; and a tightening of underwriting standards in the voluntary market because of higher than anticipated loss ratios.


What is interesting about this latest surge, according to Harry Shuford, practice leader and economist with NCCI, is that the increase in the number of assignments have been “particularly pronounced in larger risks.”


In other words, more mature businesses are being assigned to the high risk pools which indicates that carriers are being much more selective with whom they take on voluntarily.


Shuford attributes this to a combination of high loss ratios the past couple of years and poor investment returns, which are not expected to reverse course for the next couple of years.


The other element though is the political interference in rate making. When rates are held artificially low carriers have little recourse in their bag of risk allocation tricks to protect their assets - and one of the tricks is to put more businesses into the assigned risk pools.


This is a form of "market hardening" that is likely to continue for the next few years until payroll increases sufficiently to generate adequate premium base.

The risk to the economy though are spikes in premium that spook employers.

While the actual dollar amount of premium increase may not be alarming on a period over period basis, when an employer's premium doubles from one quarter to the next as a consequence of reassignment it causes panic and disruption begetting further political machinations that may not otherwise occur if premium increases are smooth and predictable.

David Long, president of Liberty Mutual Insurance Co., said during a conference call last week that “while I am happy to receive fees, and in all likelihood better profits, for servicing these pools, it’s just not healthy for the industry.”


Artificially suppressing rates eventually catches up to the industry and to the premium paying businesses with spikes in premium down the road.


Smooth, progressive inflation of rates is much more palatable to the premium payor (employer) than single large increases every few years, which are difficult to plan for and disrupt the budget.


But workers' compensation is a politically created animal and thus is a politically manipulated system for the expediency of politicians. 


That's just the way it is.

AMA 6th Study Doesn't Answer the Big Question

An interesting thing happened when three states migrated to the Sixth Ed. of the AMA Guides to the Evaluation of Permanent Impairment - the average impairment ratings declined.

That is what the National Council on Compensation Insurance (NCCI) reported on Wednesday.

Impairment ratings for injured workers dropped significantly in Montana, New Mexico and Tennessee after they switched to the Sixth Edition NCCI found.

The study also compared some changes to impairment ratings in Georgia and Kentucky, which are continuing use of the AMA fifth edition.

NCCI found a direct correlation between ratings declines and use of the sixth edition in New Mexico, Montana and Tennessee. But there were also some declines in Georgia and Kentucky which NCCI attributes to other factors including the economy and law changes.

"While the impact of and the direction of the changes in Kentucky and Georgia are worth noting, the mere presence of change itself has an impact on average impairment ratings from factors unrelated to which edition of the AMA guides was used to determine impairment," NCCI said in the report.

For the three states examined, NCCI found:

• In Montana, whole-body impairment ratings dropped by an average of 28% when comparing workers who reached maximum medical improvement (MMI) during accident years 2006-2007 and those who reached MMI during 2008 or 2009.
• In New Mexico, whole-body impairment ratings dropped by 32% and impairment ratings for individual body part dropped by 6% for workers who reached MMI during 2008 and 2009, compared to those who reached MMI during accident years 2006-2007.
• Average whole-body impairments dropped by 25% and impairments for individual body parts dropped by an average of 16% in Tennessee for workers who reached MMI in 2008 or 2009, compared to those who reached MMI in 2006-2007.

The Sixth Edition generated much controversy when it was introduced. The AMA released the tome at the end of a year that caused an uproar in some states because they had statutes that required an automatic conversion to the new edition - but there was insufficient time for the adoption process so legal and legislative maneuvers ensued to retard the adoption process in those states.

In addition many observed that there would be significant reduction in ratings - and of course it turns out that they were correct. This would not necessarily pose a problem for those states that have formulas to adjust impairment ratings to disability ratings (the former describes "whole person" bodily function, the later describes the financial affect). But those states that don't have a conversion system and translate an impairment directly into money essentially discriminate against workers injured after the adoption date of the 6th.

The sixth edition of the AMA guides is used in 12 states and for the administration of the U.S. Longshore and Harbor Workers' Compensation Act: Alaska, Arizona, Illinois, Louisiana, Mississippi, Montana, North Dakota, New Mexico, Pennsylvania, Rhode Island, Tennessee and Wyoming.

How those states use the guides however is dramatically different from state to state.

The biggest driving factor of the sixth edition from prior editions is the attempt to make ratings as predictable and stable as possible so that injuries generate the same rating across the nation regardless of where, when, how, who and what.

In my opinion, while the NCCI reports the obvious and predictable, what NCCI should really study (if possible) is whether adoption of the sixth edition resulted in more consistency in impairment ratings.

The issue isn't how much money an impairment rating generates - that can be adjusted by the conversion to a disability rating.

The issue is whether a back injury in Alaska generates the same impairment rating as a back injury in Wyoming. If that is the case, then the sixth edition accomplishes its goal and legislatures can adjust now much money an impairment is worth.

While NCCI's study is interesting, it is not terribly relevant.

Will New NCCI Study Help Control Moles?

In the past I have commented about making decisions without adequate data.

One of the biggest challenges in workers' compensation is getting the necessary data in the first place. There are a lot of moving parts, a lot of factors that don't get appreciated until one is looking for something, and a lot of hay covering up needles.

A challenge for system administrators is always the control of medical costs. This is done in large part with medical fee schedules which prescribe procedure based reimbursement rates. Because of all the moving parts, a portion of the challenge is related to just tracking the data - what effects occur when certain changes are made.

An example of data driven decision making is going on right now with new research to come out of the National Council on Compensation Insurance (NCCI) on whether doctors perform more medical procedures when states reduce workers' compensation system fees for their services.

The assumption has always been "yes", but that assumption has been based on old research: a 1998 Centers for Medicare and Medicaid Services (CMS) study, not directly applicable to workers' compensation systems.

Karen Ayres, an NCCI actuary who recently presented a loss-cost rate reduction proposal in Tennessee that included a 40% offset for expected increased service volumes, said the study is complete and undergoing internal peer reviews. External peer reviews and publication of the results will likely conclude by the end of 2012, according to Ayres.

One of the reasons NCCI is making the study is because of criticism that loss costs would be different if the data concerning service volume were different. The critics have said that the old study is no longer relevant, and even when it was near-in-time relevant it still was not workers' compensation specific which experiences different motivations and other factors that impact service volume.

The CMS study found a range of 30% to 50% of savings in physician payments from fee schedule changes are not realized due to medical service volume increases. The study indicated the higher range of variance occurred when new fee schedules were created or changes were made in young regulatory systems. The variance was closer to 30% where the regulations were more mature, Natasha Moore, an actuary and fellow for NCCI, told WorkCompCentral.

Preliminarily, according to Moore, it is appearing that the offset overall is more like 50% in the work comp world.

In other words, when a medical fee schedule change occurs 50% of projected savings in physician payments from fee schedule changes are not realized due to medical service volume increases.

I'm sure this is not a surprising conclusion to most. What I think would be more important to policy makers is how those shifts occur.

In other words, can there be some general conclusions made that can forecast what type of procedures are likely to replace or be utilized where there is a fee adjustment? For example, does reduction in fees for a physical medicine procedure correspond with an increase in surgical referrals (and surgical costs)?

If the NCCI study can be expanded to include that kind of forecasting then the work comp world will have some very powerful information at its hands and be able to make more intelligent decisions on a global basis reducing the "whack-a-mole" phenomenon.

If not, perhaps this can be the next step in this research. I think system administrators would find such information extremely helpful in the policy making process.

Cost Containment Expenses - I Smell a Rat

"If cost containment tools are not working but cost more than they benefit the system, we need to know why."

That's what California Insurance Commissioner Dave Jones was quoted as saying yesterday at the Department of Insurance (DOI) rate making hearing, expressing concern that medical prices are increasing in spite of the rise in spending on cost-containment programs, such as medical provider networks and utilization review. Jones said it might be appropriate to study whether the programs are worth what they cost.

Perhaps he should initiate review, utilization and fee schedules for cost containment services...

For those of you less sensitive to sarcasm in print, a healthy guffaw is applicable now.

The Workers' Compensation Insurance Rating Bureau (WCIRB) estimates that carriers spent $350 million on medical cost-containment programs in 2010. The estimate for 2011 is $370 million.

WCIRB's Chief Actuary Dave Bellusci said the overall impact of reform measures passed between 2002 and 2004, including cost containment, a cap on the number of physical therapy visits and treatment guidelines based on evidence-based medicine were overall "tremendously effective in controlling medical costs."

According to Bellusci, using the medical inflation rate for the years leading up to 2005 to project costs through 2011, the average cost per medical claim would be $88,092. Because of the 2004 reforms, the actual projected cost is $43,308.

If we use only the volume of litigated claims in California (generally about 300,000 filed per year) that means the industry saved about $13.5 billion.

Seems to me that if the goal of cost containment services is to actually contain costs, then the extra $20 million spent last year is still producing a good return on investment. Maybe I'm not reading this right though. These insurance guys are a lot smarter than I am - I have never been good at math.

Bellusci also noted that the WCIRB is seeing a shift in the percentage of indemnity and medical-only claims. Between 2005 and 2007, 71% of all claims were medical-only and 29% were indemnity. By 2010, only 66% of claims were medical-only.

I didn't see the estimate for 2011 in the report on the meeting.

NCCI noted a similar spike in indemnity claims in its Annual State of the Line report delivered just last week, and also noted that the 2010 spike appeared to ameliorate in 2011 - so this "trend" may not be a trend at all, but some statistical anomaly that has yet to be identified.

In large part because of these alleged out-of-control expenses, the WCIRB recommended to the Insurance Commissioner a pure premium rate hike of $2.51 per $100 of payroll.

That would be 9.1% higher than the rate that took effect Jan. 1 and 7.7% higher than the $2.33 recommended by the Rating Bureau in its Jan. 1, 2012, filing. The recommended pure premium rate is also 4.15% higher than the industry average charged rate of $2.41 as of Jan. 1, 2012.

Rating Bureau President Bill Mudge said he believes that some of the cost-containment expenses can be attributed to regulations that make it difficult to establish and maintain a medical provider network.

I suggest that perhaps some cost-containment expenses can be attributed to profiteering and over-utilization of these services. It isn't rocket science, and not even actuarial science - just follow the money. Who owns utilization services? Where does that money flow? Who is dictating policies about cost containment services?

Not all medical treatment needs to be subjected to utilization or bill review and my guess is that most treatment requests don't require this level of oversight.

But the anecdotes I hear point towards nearly mandatory review by most companies of almost all treatment requests. To me that's a utilization issue that the carriers need to address with their internal policies, not some external priming of the pump to extract more cash from the insured base.

Let's look at another issue with these dog and pony show rate making hearings - how many of the state's carriers are really operating at such high loss ratios and high combined ratios? Are these statistics skewed by just a few of the state's carriers? How many carriers are operating at levels that are much rational?

And since the last rate hike recommendation, just how many carriers actually increased rates?

Maybe I'm just naive, uneducated, or just plain stupid (don't pick one - this is theoretical) but it just seems to me that we're not getting the whole story. I can't make sense of these numbers.

And it seems that the Insurance Commissioner buys into the gloom and doom, in part because he doesn't study workers' compensation history very well - he is quoted as stating that the current trajectory of the market is not sustainable and one doesn't have to look back far to "see the ground littered with the bodies of 35 workers' compensation carriers" that the Insurance Department had to liquidate.

Those 35 carriers were the subject of inadequate rates, not because of inaction by the DOI, but because of irrational exuberance based upon the availability of irrational reinsurance deals that went bust - deals that the rest of the market knew was a fantasy - following revocation of the minimum rate floor in 1995.

If the sky is falling then why isn't everyone running for cover? If doing business in California is such a huge burden and such a money losing proposition, then why do carriers remain in the state and write coverage for California business? Why not just cede all that risk to the State Fund and let them worry about it?

I smell a rat. But I don't have the bait or a big enough trap to catch it.

Alternatives to Work Comp and Long Term Issues

I had a couple of interesting conversations last week at the NCCI Annual Issues Symposium about alternative risk management in workers' compensation, instigated by discussions on what I thought would be disruptions to the marketplace should Oklahoma non-subscription take hold.

As you likely are aware, it is my opinion that non-subscription represents a real threat to the workers' compensation insurance market and will constitute significant competition for the risk management dollar should the idea spread to other states. Indeed, Stephen Klingel in his State of the Line address acknowledged that many states were watching Oklahoma to see what happens and that this could represent a challenge for the industry to compete against.

One issue with non-subscription that I presume would need to be dealt with if this option were to be a viable alternative to traditional workers' compensation insurance and stay within the Oklahoma mandate that it provide the same or better benefits to injured workers is the life time medical provision - under ERISA plans there are no guarantees of continuing medical beyond the employment period.

In workers' compensation, medical treatment for the condition deemed to have arisen out of and in the course of employment is covered for the life of the injured worker unless compromised by a settlement agreement. I am unclear how ERISA plans would provide for this requirement but I suspect that those who put together such systems have this worked out.

One aspect of non-subscription that plays well to the work force though is the tendency of non-subscribers to become completely obsessive with safety.

In conversations I had at NCCI with people that have been studying the option, employers that do non-subscribe in Texas with ERISA plans are vigilantly safety-conscious because a failure of safety by the employer exposes the employer to big civil damages.

As for the impact on the industry - that is a big unknown. I talked with several actuaries at NCCI. They expressed that the concern over reduction of insured base upon which to spread risk was voiced when large deductible programs were introduced, but the experience was just the opposite.

However, non-subscription is different. Non-subscription takes an employer completely out of the risk pool, while large deductibles keep an employer in the risk pool, albeit at a different loss level.

Another matter of concern should be financial fundamentals of the entire risk management scene - i.e. what happens when a non-subscriber folds, becomes insolvent or otherwise is unable to take care of its obligations.

The one beauty of the workers' compensation system is that an intermediary, i.e. insurance company, takes the financial risk and pays fees and taxes into state systems that guarantee performance if the insurance company can no longer function. Self insureds likewise make payments into guarantee systems to protect injured workers over the long term.

This backstop was beautifully played out in the late 1990s when so many insurance companies fell victim to the intoxication of Unicover brew and laid so many claims into the hands of state insurance guarantee associations.

The risk is playing out now with self insurance groups (SIGs) finding all sorts of financial issues with their programs.

For instance the Healthcare Industry Self Insurance Program of California is encouraging former members to rejoin to help secure the long-term solvency of the self-insured group by offering them the option of paying their liabilities in installments after seeing membership decline in 2009 and 2010 making funding the long-term liabilities of the group a challenge.

One of the oldest self-insured groups in Nevada, the Nevada Restaurant Self-Insured Group, was winding down at the end of 2011after deciding it is no longer financially practical to continue taking on risks, forcing more than 1,700 employers to find a new source for workers' compensation insurance, some who have been covered by the group since it was founded in 1995.

And all of us have seen the mess that has been created by the failure of Compensation Risk Managers and the ongoing litigation and financial aftermath of those programs.

This is all brought home by the recent announcement that the Orange County Board of Supervisors in California adopted a resolution that its self-funded workers' compensation program is to be brought back up to 80% funding of estimated losses over the course of the next five years, moving $2 to $3 million in departmental budgets into the work comp fund.

So where does all this lead us?

Every employer that is part of a SIG, a captive, a Retro Plan, a High Deduct, or has coverage with an A- carrier needs to take a look at the financial underpinnings. We assume that smart people know what they're doing when entering into alternative risk propositions to cover the mandated obligation towards those in the employ of the company.

But we made bad assumptions about those people in many past instances of failed pension plans. Workers' compensation, when one gets down to the basics, is nothing different - it's all about conservative and robust financial planning.

I'm still intrigued by Oklahoma style non-subscription. I think it brings significant market competition to the workers' compensation insurance industry. But these long term issues need to be addressed.

And my guess is that if such optional plans take off in the future, some smart insurance people will put together new specialized products that put all the elements together and address the long term risk issues.

NCCI - "Conflicted"

"Conflicted".

NCCI's president and CEO, Stephen Klingel, is famous for his single word descriptors of the industry that he has been doing since he began delivering the State of the Line address at the NCCI Annual Issues Symposium, and I think this carefully chosen adjective is a good and accurate one for the industry at this juncture.

I opined that I thought Klingel would tell us that the industry is still perilous, but that stability is coming into play as the economy, albeit tepid, appears to be improving. That appears to have been an accurate view.

Klingel said that the fundamentals have stopped declining and are improving and while other fundamentals are either not to a desirable or are at a neutral level, are nevertheless improving.

Here's what's good:

Lost time claim frequency - While 2010 saw the first increase in 13 years, this appears to have been an anomaly. For the past 2 decades there has been a prominent negative trend in claims frequency. Last year's numbers were up 3% which was considered "significant" and challenged the long held belief that the decline would continue. 2011 data shows that the downward trend is continuing, albeit at a lower pace than in previous years.

Net written premium increased for first time in 5 years, and by 8% - Dissecting that number shows that what drove it was not wage increase (contributing a very small factor to the premium increase) or prices. The increase was an audit return premium phenomenon meaning that payroll audits showed more payroll than originally reported by employers.

Accident year combined ratio improved by 2 points - However this third positive is tenuous depending upon overall economic improvement.

Finally, medical inflation is stabilizing growth, with no high spikes noted in medical inflation.

Here's what's bad:

Calendar year combined ratio of 115% for 2011 - This was troubling because, while it is the exact number as the prior year, 3 points in 2010 was attributable to one carrier adding so much to their reserves, so actual;ly this represents an overall deterioration in industry combined ratio.

Reserve deficiency - Each of past 4 years the industry reserve deficiency has increased and it is now 5 times higher than in 2007. While this number does not set off any major alarm, the trend could be problematic if it continues.

Residual markets in the first quarter of 2012 saw the premium grow 47% - This not a positive, said Klingel, because the major growth was seen in the premium sector exceeding $100,000, and as residuals grow there is tendency that they become less self-sustaining, and it becomes difficult to maintain pricing differentials to meet the growth in risk inherent in a growing residual market.

Finally low interest rates and investment income is not there to support underwriting. Net profit of carriers this past year was the product of capital gains realized on bond sales. While this produced some investment profit, the downside is that these bond positions are being replaced by bonds with lower returns which may serve to depress net investment income in the future.

As I predicted in yesterday's column, California distorted some of the statistics about the health of the industry, but I was surprised that the influence was not as outsized as it had been in the past.

One part of the various presentations that I thought was interesting was the analysis of the economic recovery. Several speakers all agreed that manufacturing is returning to the United States - in a big way. Manufacturers have discovered that it is now costing more to make things in China, because of Chinese wage inflation, shipping, distribution and other costs, than it would just to manufacturer in the United States.

But, US manufacturers have learned to become so efficient in the manufacturing processes that this return to American soil is not resulting in increased jobs.

I take that essentially as a very good thing. Sure, employment isn't jumping right back up post recession because of the return of manufacturing, but what this means to me is that we are building a much tougher, more resilient economy that we had in the past, and much less susceptible to base employment export.

In other words, the jobs that are being created now by the return to manufacturing are going to be here for quite a while, and this base will continue to expand as the US returns to being the world's largest manufacturer (we're not that far behind China at this point anyhow). Imagine living in China and looking at the Made In The US tag on the product! That likely is not that far off into the future as China goes through its current socio-economic transformation.

And of course the construction sector, usually a major contributor to premium, remains in the doldrums. There is growth in industrial construction (see increase in manufacturing!) but residential construction and municipal/state construction continues to contract.

One area of observation that was interpreted differently by NCCI than my interpretation was the return of growth to the residual market. I said that this was a positive attribute, because the base for residual markets are new employers and businesses that are high risk (e.g. construction). So an uptick in residual markets means that the base employment numbers are going up which reflects positively on the economy. Several underwriting executives that I talked to agreed with my interpretation - time will tell which prognostication proves correct.

For those who are concerned about the impact of the AMA Guides on indemnity, for the first time there has been an apples to apples comparison between the 5th and 6th editions (the 5th and 6th editions of the AMA Guides have been adopted in 15 states since introduction, while 14 states don't use any edition).

In a pre-recorded video by Jeff Eddinger of NCCI, displayed during NCCI's Chief Actuary Dennis Mealey's presentation, a comparison was done for Montana, Tennessee and New Mexico. NCCI data showed that impairment ratings consistently dropped between 25 and 30 percent across the board when states moved from the 5th to the 6th edition.

Oklahoma was mentioned in passing, and NCCI acknowledged that there are many states looking closely at what happens in Oklahoma with great interest in bringing a non-subscription model to legislatures if there is success there. There was not much conversation though about what could happen to the comp market should a wave of non-subscription start spreading across the states. 

Those close to the work comp industry derided the Oklahoma plan because it circumvents the "grand plan" since there would be no protection for workers over the long term - if an injured worker leaves the employ of an ERISA planned employer medical benefits would then cease. I am not sure this is really the case, as this in my opinion would be a violation of the Oklahoma compromise which requires that a non-subscription system match what would be available under work comp.

There was acknowledgment, however, that if the Oklahoma plan bears fruit and spreads to other states that the industry would face significant obstacles in the same manner that were predicted with the invention of large deductible policies - the difference being however that large deductible policies still are workers' compensation policies bringing in premium revenue to support claims and operations. Non-subscription would wholesale remove that premium base.

Vermont also got honorable mention as that state continues to look at including workers' compensation in a single payer medical system.

In the end, it was noted that the work comp market is on the upswing, demonstrating the largest line increases out of all property/casualty lines, demonstrating the cash flow stimulation that the insurance industry craves.

Now if the investment market would just cooperate to deliver returns to take advantage of all that incoming cash...

There's more in this morning's WorkCompCentral story by Senior Editor Jim Sams.

At NCCI's Annual Issues Symposium

I made one of my biannual pilgrimages to Orlando, Florida, yesterday - man that's a long travel day!

I'm in Orlando this morning for the National Council on Compensation Insurance (NCCI) Annual Issues Symposium 2012 (the other trip is in August for the FWCI conference).

For those of you unfamiliar with NCCI, it is the largest workers' compensation rate making association in the nation, managing rates, data, and other vital services for most of the nation. Because of this unique position, NCCI has the most comprehensive data for state by state comparison as well as for spotting trends.

This is a long trek for only a couple of days, and each year I wonder whether the trip is worth it, and then each year I go away affirmed that I have to return the next year.

If you want to understand the macro-view of the workers' compensation industry the NCCI Symposium is the place to get that view in one day as they cover not only what the insurance industry is doing, but the overall economy with a forecast, overall medical trends and other issues that are not work comp specific but which impact the industry.

In addition the Annual Symposium is a great place to catch up with colleagues, regulators, executives and other industry notables.

Last year NCCI's president and CEO, Stephen Klingel, opened the event as he does every year with an overview and his State of the Line Report in 2011 described the industry's experience as "deteriorating", with increasing combined ratio, decreasing premium base (due to lower payrolls), poor investment returns, and a trend upwards in claim frequency and severity.

This year I expect Klingel to tell us that the industry is still perilous, but that stability is coming into play as the economy, albeit tepid, appears to be improving.

One of the key components to industry health is the residual market. For those unfamiliar with this concept a residual market serves the "last resort" market in those states that don't have a state fund - in order to write in a non-fund state carriers must offer coverage for those employers that don't qualify for the best pricing and rates.

What NCCI's data is showing is that residual market participation is increasing. This is a positive indicator because the base for residual markets are new employers and businesses that are high risk (e.g. construction). So an uptick in residual markets means that the base employment numbers are going up which reflects positively on the economy.

Tempering this is an increase in claim frequency which was not forecast earlier. The traditional thinking is that claim frequency is tied to the economy and that high unemployment coincides with low claim frequency because there are fewer people working that could get hurt.

The poor economy should not generate more claims, but the data is refuting that assumption. The adjusted results (adjusted for statistical anomaly) demonstrate a 3% increase in frequency. It will be interesting to see if NCCI has any insight into this phenomenon.

NCCI does not see broad based reform initiatives across the nation because it is an election year, but the one state that impacts workers' compensation in a disproportionate manner is California which is not an NCCI state, and while California may not push through something in 2012 it is obvious that something will occur at the latest by 2013. I expect the speakers to address the outsized influence of California's reform efforts on the nation - every year NCCI does national comparisons with California included and without in order to demonstrate the state's influence on the market but usually that is from an underwriting perspective. With California's reform focus on the benefit delivery system there may be residual influence on other states.

Another aspect that may be touched on would be the Oklahoma non-subscription effort - clearly that is a potential trend that is just starting and has obvious implications for the industry. Does NCCI think this is just an isolated incident, or do they see this as a potential national trend? I'm going to "ask the experts" during a break, which NCCI encourages.

One thing that must always be understood about NCCI's data and forecasting is that, while pretty accurate, it always changes because of the "long tail" nature of workers' compensation so as new data comes in on prior policy years the folks who analyze this information make alterations to their reports.

For instance, NCCI notes that the premium growth that was observed in 2010 is actually larger than previously reported, offering as an explanation that carriers over-compensated for audit returns experienced in 2010 and are actually seeing additional premium booked through those audits (i.e. payroll was more than first reported).

Other presentations will cover the overall economy, the coming impact of implementation of the Federal Patient Protection and Affordable Care Act, Dodd-Frank Act and recommendations that may come out of the new Federal Insurance Office. We'll hear about the impact of the aging work force, changes trending in international labor markets and legislative/regulatory trends.

I don't know what word Klingel will use to describe the State of the Line this morning but I expect it to be a bit more optimistic than last year's dismal forecast.

Stay tuned!

California, Connecticut and the Wind

The Door's "L.A. Woman" lyrics seem particularly relevant to a certain trend in workers' compensation:

"Took a little downer 'bout an hour ago. Took a look around me, which way the wind blow."

Connecticut is seeing wind blow in its direction - physician dispensed and repackaged drugs.

What is interesting is that, according to State Workers' Compensation Commission (WCC) Chairman John Mastropietro in an interview with WorkCompCentral, there were no problems with physician dispensing and repackaged drugs just four years ago and that physician dispensing was limited only to sample drugs.

Now Mastropietro says he is hearing reports that some Connecticut doctors are charging up to 600 times the price charged by pharmacies for certain drugs.

The WCC is now considering regulations to cap prices and restrict dispensing.

"The prices that have been documented are disturbing," Mastropietro told WorkCompCentral. "There are some objections to control of free enterprise, but it's difficult to justify the price differences for what is a relatively minor inconvenience associated with not being able to pick up your drugs on the way out of the doctor's office."

Exactly the point - when unreasonable people exceed tolerable greed levels they bring on regulation to the rest of the population and create additional work and frictional costs.

In a national study of drugs in the workers' compensation system, National Council on Compensation Insurance (NCCI) reported last August that the share of physician dispensing based on total dollars spent on prescriptions in Connecticut increased from less than 10% in 2007 to more than 25% in 2009.

NCCI said medical costs now account for half of all costs in the Connecticut system.

Though Connecticut has a fee schedule, adopted in 2000, that caps the price of prescription drugs at the average wholesale price established by Medi-Span plus a $5 dispensing fee for brand-name mediation and $8 for generic drugs, doctors are buying prescriptions from drug repackagers, which are allowed to assign a new National Drug Code to the drugs they sell doctors and assign their own AWP.

Legislation enacting price caps meets incredible resistance and has failed in Florida, Hawaii and Maryland. But when enacted via regulation caps have been more successful as witnessed in California, Mississippi, Georgia, South Carolina and other states.

The issue is not whether a physician can or should dispense drugs from the office, but what the price is. 

"It's especially difficult to justify when you drive past six CVS pharmacies and a Rite-Aid on your way home from the doctor's office," Mastropietro said.

In another story this morning the Santa Clara County District Attorney's office brought charges against spinal implant hardware distributor, Implantium's chief executive officer and chief medical officer.

The allegations are that the company through the direction of the CEO and CMO fraudulently over charged for the hardware in cases involving the County, and the cities of Los Gatos and San Jose.

California Code of Regulations Section 9792.1(c)(7) provides that implantable hardware or instrumentation for diagnostic-related groups 496 through 500 "shall be separately reimbursed at the provider's documented paid cost, plus an additional 10% of the provider's documented paid cost not to exceed a maximum of $250, plus any sales tax and/or shipping and handling charges actually paid." That regulation restates state law, Labor Code Section 5318.

But who's to blame? According to a former Division of Workers' Compensation employee who was responsible for drafting many of the medical fee regulations, the public entities complaining should have paid the hospitals that "purchased" the hardware and should not have paid Implantium directly.

The hospitals have to pay for the implants first and are then reimbursed. If they don’t pay before submitting the bill to the payer, there is no basis for payment because they are entitled to what they actually paid, not what they will pay, according to Sue Honor, the former manager of the Division of Workers’ Compensation Medical Unit.

“The fee schedule is for facilities,” she said. “It identifies the definition of ‘facility’ and nowhere does it say anything about allowing a facilitator to jump in.”

So what's the connection in these two stories that are 3500 miles apart?

The jet stream blows from west to east.

And both states are dealing essentially with the abuse and regulation of medical charges. California has already dealt with physician dispensing and repackaging.

In 2007 California regulators capped the price of repackaged drugs not included in the fee schedule established by Medi-Cal at the average wholesale price set by the original manufacturer plus a dispensing fee. Now the state is dealing with reimbursement of medical hardware and there is pending legislation to do so.

So can we assume that Connecticut and other Eastern states will have to deal with reimbursement of medical hardware? I have no reason to believe otherwise given the prophesy of Jim Morrison's lyrics.

Florida Does It's Own Private Idaho

We know that legislators don't think a whole lot about workers' compensation. For the most part, work comp to our elected officials is viewed the same by law makers as most business owners see it - an irritating expense that isn't understood, takes up unnecessary time and resources, and adds no value to the operation.

Florida Governor Rick Scott certainly indicates that's how he views an industry responsible for a couple billion dollars of economic activity in his state by line item vetoing $195,000 from the state budget of $70 billion that was marked to fund the annual benchmark study by the Workers Compensation Research Institute (WCRI).

The money would have come from the Florida Workers' Compensation Administration Trust Fund, which is financed by premium assessments paid by employers. 

As I have opined in the past, I have a problem when a specific funding source for a specific service is treated like general fund money - employers paid for the research and now they are not getting what they paid for.

The Florida Division of Workers' Compensation (DWC) used to provide information to law makers about the functioning of the system, but on April 6, Scott signed Senate Bill 140, which repeals the requirement that DWC issue annual reports to lawmakers.

Florida does not have its own rate making agency and relies upon the services of National Council on Compensation Insurance, Inc. (NCCI) to take care of statistical analysis and rate making recommendations to the insurance department. NCCI takes in a lot of data about the health of the system and uses that data to determine if carriers in the state for which rates are being recommended can continue doing business in an adequate fashion to ensure liquidity and capacity. But NCCI's function is as a rate making agency, not as a public policy analyzer, like what WCRI provides.

Removal of funding for WCRI study and DWC's reporting now means that the only source of information about the health of the system in Florida is the rate making service provided by NCCI.

That would be like saying that the only newspaper in Florida is going to be the Miami Herald.

Persons responsible for making decisions, particularly law makers, are now deprived of important, independent, information that otherwise is not of particular interest to rate makers.

The WCRI provides vital statistical comparison analysis of key states that have influence on the rest of the nation's workers' compensation practices in a manner quite different than NCCI. WCRI's annual benchmark reports, because of comparison analysis with numerous states, provides trending that otherwise might fly off the radar on topics that are not of interest to rate makers.

For instance, during this past year WCRI reporting was instrumental in understanding not only the scope of prescription drug issues, but how they are trending across states, and showing the migration of activity, for instance, from Florida to Georgia, as measures were implemented to control prescription abuses.

And its not often that business and labor agree on something, but the availability of an independent source of information on the state's work comp system is one where there is shared concern.

In a statement issued late Wednesday, the Florida Insurance Council said insurers were "disappointed".

"The vetoed funds would have allowed WCRI to include Florida in its multi-state comparisons on multiple workers' compensation issues for policymakers. The Department of Financial Services believes it has all of the data necessary for Florida," the Council said in the statement. "The department, however, does not have the multi-state access of WCRI. This was money allocated from the WC Administrative Trust Fund that is funded by assessments on policyholders, not general revenue."

And Ricardo Morales, president of Florida Workers' Advocates (FWA), a claimants' attorneys' group, said potential removal from the annual WCRI study leaves the National Council on Compensation Insurance (NCCI), Florida's rate maker, as the sole source of annual reports on workers' compensation, which would place too much reliance on NCCI.

Judge David Langham, deputy chief judge of the state Office of Judges of Workers' Compensation Claims, told WorkCompCentral that lawmakers and state officials need a multi-state comparison to make policy decisions.

"In order to have consistency, you've got to be able to compare statistics state-to-state and region-to-region," Langham said. "Only an agency like WCRI brings that to the table."

WCRI Executive Director Richard A. Victor said the withdrawal of state funding for the studies "appears to be only a phenomenon in Florida."

Without a good comparison, and the ability to note trends not just in one state, but across several comprable states, deprives policymakers of important information that would influence legislation and business operations.

Maybe Florida, hanging down there at the lower eastern portion of the nation, sort of isolated due to its extensive Gulf and Eastern shorelines, is feeling a little B-52's "Private Idaho":

Don't let the chlorine in your eyes
Blind you to the awful surprise
That's waitin' for you at
The bottom of the bottomless blue blue blue pool.

Florida - don't "be blind to the big surprise, Swimming round and round like the deadly hand, Of a radium clock, at the bottom, of the pool."

Privatization of State Funds Won't Avoid the Long Arm of the Tax Man

Hard times for state budgets make for consistent headlines in workers' compensation news as state insurance funds become targets for raids against surplus prompting attempts to privatize them, which provokes other revenue issues.

Top headlines in WorkCompCentral News this morning involve two such stories - Maryland's Injured Workers Insurance Fund (IWIF) and the Missouri Employers Mutual Insurance Co. (MEM).

The provocation for privatization of both state's carriers is the same - continuous attempts in the past (and present) to siphon money out of the carrier's reserves in order to supplement general fund revenues. Since I'm from the workers' compensation industry my bias is obvious - state legislators have no business tinkering with money that is intended to ensure a healthy insurance environment where the system around which the carriers exist requires mandatory participation by the state's employers and workers.

But state legislators pull out all the tricks in challenging the resistance to the raids - for instance, now that both IWIF and MEM have support for some privatization, legislators are seeking either back taxes from which these entities were previously exempt, or current taxes on certain assets.

In Maryland, the debate is what IWIF may owe the government in taxes if it goes private. The Maryland House of Representatives agreed by a voice vote on Thursday to send Senate Bill 745 back to the state Senate, where members voted later in the day to reject a House amendment that would prevent IWIF from paying premium taxes dating back to 1941, when the state first imposed the tax.

IWIF was exempt from the 2% premium tax until last year and could owe as much $100 million in back taxes, according to one state estimate.

Last year IWIF beat back efforts by Gov. Martin O'Malley to take $20 million of IWIF's surplus.

This year it is fighting the Budget Reconciliation and Financing Act of 2012, which would require O'Malley to take $50 million of IWIF's estimated $322 million in surplus by July 1, 2013. That bill is pending in a House-Senate conference committee.

In the meantime both versions of SB 745 require the Maryland Insurance Administration to hire an outside consultant and report back on the "real value" of all benefits IWIF has received since it was created.

In Missouri, legislation is pending requiring a study to decide whether the state has a claim to part of MEM’s $161 million surplus.

SB 856 by Sen. Scott Rupp, R-Wentzville, would establish the "Senate Interim Committee on the Structure of the Missouri Employers Mutual Insurance Co." The bill passed on a 26 to 7 vote.

The bill still requires approval by the House of Representatives.

The Missouri Legislature created MEM in 1993 to promote competition in the marketplace and lower workers’ compensation premiums for employers – especially small businesses. Because the governor appoints three of the five MEM directors, the insurer is exempted from federal taxes as an “independent public corporation.”

SB 624 by Sen. Jim Lembke, R-St. Louis, and SB 660 by Sen. Eric Schmitt, R-Glendale, would require MEM, by 2014, to convert to a private mutual company operating under the same state laws and regulations as other workers’ compensation carriers. SB 660 also would require that MEM transfer $127 million from the company's surplus funds to the state treasurer for deposit into the state's general revenue fund.

In the meantime, the interim committee would be required to meet at least twice between August and December of this year, and to study whether MEM should be sold, privatized, or have its current structure modified. It would also be required to calculate the value of MEM in case the committee recommends selling the company to another insurer.

In my opinion a mandatory participation insurance system, like workers' compensation, can not operate without either a state fund, or (in my opinion less desirable) or a residual market. These are the only alternatives to small business, which comprise the majority of insureds in any state - and are particularly subject to volatility in smaller states.

If a state is going to privatize a state fund, then it needs to implement a residual market. But the problem with residual markets is that the size of the market is divided among all participating carriers, diluting the overall capacity for the high risk small businesses meaning that their premiums are out-sized in comparison to their payroll ratio.

This in my opinion is a short sighted view of a state's economy, and could end up further exacerbating an already delicate situation by making small business activity even less attractive thus impairing further taxation revenue down the road.

But when it comes to meeting government's obligations, the immediate future takes precedence - the money will be found!

There's an old saying in tax law circles - what the government giveth, the government taketh away.

In the world of workers' compensation insurance though, the government should leaveth alone!

MD's IWIF - Proposed Raid Wrong, Prompts Privatization Effort Again

An interesting development is going on in Maryland with that state's carrier of last resort.

For the second time in two years the Injured Workers' Insurance Fund (IWIF) is seeking privatization, but it is not full privatization in the traditional sense, and the reason is not to expand operations, like what is being sought by Pinnacol Assurance in Colorado.

IWIF seeks protection from governmental raids to its surplus.

Gov. Martin O'Malley's proposed Budget Reconciliation and Financing Act of 2012 would transfer $50 million from IWIF to the Maryland General Fund.

A bill converting IWIF to a different entity cleared the Maryland Senate in 2010 but died in the state House. That year the House also rejected O'Malley's bid to transfer $20 million of IWIF's money to Maryland's general fund.

Lawmakers allied with the carrier filed bills earlier this month in both the Maryland House and Senate to create a new entity named the Chesapeake Employer's' Insurance Co., effective March 1, 2013.

House Bill 1017 and its companion, Senate Bill 745, were filed by Maryland Delegate Dereck E. Davis, D-Baltimore, and Senate Finance Committee Chairman Thomas "Mac" Middleton, D-Waldorf.

Under the legislation, the Towson, Md.-based workers' compensation carrier would continue to serve as the state's carrier of last resort and would be run by a board composed of nine members appointed by Maryland's governor – as it is now.

But, for the first time the new company would be subject to rate-making by the Maryland Insurance Administration and would be required to join the National Council on Compensation Insurance (NCCI), which recommends loss costs in Maryland. The carrier now sets its own rates and does not report its loss and premium data to NCCI.

This is significant because IWIF currently writes about 21% of the market.

According to its 2010 annual report, IWIF reported reserves for unpaid loss and loss adjustment expenses of $1.31 billion and net earned premium of $168.9 million for the year.

But the issue of who owns the "excess profits" of IWIF is going to be a battle and points to state government's general lack of regard for the protections a well funded and stable insurance company, state fund or not, provide to the business market place.

Maryland Attorney General Douglas Gansler concluded in a letter to IWIF last March 14 that all funds in excess of the surplus and reserves required by state insurance law would be the property of the state.

He said state law already empowers the General Assembly to take control of IWIF funds in the event of a termination, which I assume includes privatization.

"IWIF was not created as a mutual insurance company. Nor is there any indication in its enabling law that its assets belong to its current policyholders," Gansler said.

"To the extent that IWIF has assets in excess of the reserves and surplus required by the Insurance Article, upon IWIF’s termination, those assets would belong to the State, which created IWIF," he concluded.

So I take it that if IWIF does privatize there will be a big fight in the state of that $168.9 million.

And despite the state's budget woes, any raid on an insurance company assets is wrong. Even if the money legally belongs to the state, taking from surplus may inhibit the good performance of IWIF in the future - we have all seen the consequences of short sighted budgetary mismanagement by state legislators over the long term way too often.

My advise to Maryland - leave IWIF alone if you want business in your state to continue in a stabilized, economically advantageous manner. Remove that money if you want to jeopardize all of the small businesses that make the economy run.