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Column: Risk Management

Perceptions of Risk

By: | February 18, 2014 • 3 min read
Joanna Makomaski is a specialist in innovative enterprise risk management methods and implementation techniques. She can be reached at riskletters@lrp.com.

Decisions we make today will shape our future. It is our experience that guides us. It is our ability to recognize the influences on each decision we make that allows us to make better decisions as we mature. Or so we hope.

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The difficulty with decision-making is that our environment and influences are ever changing. Expectations are always changing. As such, leadership is difficult. Leaders must be confident enough to make decisions as they humbly seek wisdom and historical perspective from those with alternative views, experiences and understanding. As we might say, those who remember the past are less condemned to repeat it.

As a risk manager, I rely on experiential data. As I conduct strategic risk assessments, I purposely look for known threats or symptoms that may defeat a proposed decision or path. I look for flawed strategies that have caused failure in similar situations in the past. That approach is part of my craft. But is it reliable?

The insurance industry has plenty of historical failures to study. Unfortunately, we can only discuss failures that have already occurred. We cannot foresee the failures yet to play out.

The mortgage industry, specifically the subprime mortgage industry in 2006 and 2007, is an excellent example of how mimicking the success of many subprime lenders of years past looked like a fruitful and profitable venture. Many banks adopted the strategy. And why shouldn’t they have? Everyone was doing it. Risk? What risk?

But clearly the measure of risk in that situation was distorted. Huge risk existed, but at the time it was perceived that the risk of not entering the market was far greater than the risk of any financial disaster. Clearly, this turned out to be a disastrous gamble.

In the years following the meltdown, the entire banking system froze. This reaction was almost equally catastrophic. No one lent anything to anyone, at any rate, for any time, for any reason. This response was a disaster in of itself.

Except for a courageous and wise few, the opportunity to profit was missed. Decisions were made in a dangerously risk-averse environment fueled by some leaders’ loss of faith in the banking system. Those risk-averse leaders failed to seize a tremendous opportunity to make money.

During this time, I observed two environments: An environment of excessive confidence, and one of deep naiveté coupled with excessive fear and paralysis. It was a dramatic spread.

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Leaders who kept their perspective and passed up the easy money maintained the ability to capitalize on tremendous opportunities after the crash. Those who stayed their course, were true to their values and recognized the distortions in the markets were able to lead their organizations through the disaster and come out stronger than their peers.

These leaders, we must cherish and embrace. The leaders who were paralyzed by fear are still immobilized or likely now unemployed.

But we shouldn’t be too hard on those leaders who only now may understand their failures.

Any point in time never seems historic when you are living through it.  As we enter or exit the next realm of decision-making, I hope we are able to recognize the distortions and the opportunities, and sidestep the decisions that may cause us peril.

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Aviation Woes

Coping with Cancellations

Could a weather-related insurance solution be designed to help airlines cope with cancellation losses?
By: | April 23, 2014 • 4 min read
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Airlines typically can offset revenue losses for cancellations due to bad weather either by saving on fuel and salary costs or rerouting passengers on other flights, but this year’s revenue losses from the worst winter storm season in years might be too much for traditional measures.

At least one broker said the time may be right for airlines to consider crafting custom insurance programs to account for such devastating seasons.

For a good part of the country, including many parts of the Southeast, snow and ice storms have wreaked havoc on flight cancellations, with a mid-February storm being the worst of all. On Feb. 13, a snowstorm from Virginia to Maine caused airlines to scrub 7,561 U.S. flights, more than the 7,400 cancelled flights due to Hurricane Sandy, according to MasFlight, industry data tracker based in Bethesda, Md.

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Roughly 100,000 flights have been canceled since Dec. 1, MasFlight said.

Just United, alone, the world’s second-largest airline, reported that it had cancelled 22,500 flights in January and February, 2014, according to Bloomberg. The airline’s completed regional flights was 87.1 percent, which was “an extraordinarily low level,” and almost 9 percentage points below its mainline operations, it reported.

And another potentially heavy snowfall was forecast for last weekend, from California to New England.

The sheer amount of cancellations this winter are likely straining airlines’ bottom lines, said Katie Connell, a spokeswoman for Airlines for America, a trade group for major U.S. airline companies.

“The airline industry’s fixed costs are high, therefore the majority of operating costs will still be incurred by airlines, even for canceled flights,” Connell wrote in an email. “If a flight is canceled due to weather, the only significant cost that the airline avoids is fuel; otherwise, it must still pay ownership costs for aircraft and ground equipment, maintenance costs and overhead and most crew costs. Extended storms and other sources of irregular operations are clear reminders of the industry’s operational and financial vulnerability to factors outside its control.”

Bob Mann, an independent airline analyst and consultant who is principal of R.W. Mann & Co. Inc. in Port Washington, N.Y., said that two-thirds of costs — fuel and labor — are short-term variable costs, but that fixed charges are “unfortunately incurred.” Airlines just typically absorb those costs.

“I am not aware of any airline that has considered taking out business interruption insurance for weather-related disruptions; it is simply a part of the business,” Mann said.

Chuck Cederroth, managing director at Aon Risk Solutions’ aviation practice, said carriers would probably not want to insure airlines against cancellations because airlines have control over whether a flight will be canceled, particularly if they don’t want to risk being fined up to $27,500 for each passenger by the Federal Aviation Administration when passengers are stuck on a tarmac for hours.

“How could an insurance product work when the insured is the one who controls the trigger?” Cederroth asked. “I think it would be a product that insurance companies would probably have a hard time providing.”

But Brad Meinhardt, U.S. aviation practice leader, for Arthur J. Gallagher & Co., said now may be the best time for airlines — and insurance carriers — to think about crafting a specialized insurance program to cover fluke years like this one.

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“I would be stunned if this subject hasn’t made its way up into the C-suites of major and mid-sized airlines,” Meinhardt said. “When these events happen, people tend to look over their shoulder and ask if there is a solution for such events.”

Airlines often hedge losses from unknown variables such as varying fuel costs or interest rate fluctuations using derivatives, but those tools may not be enough for severe winters such as this year’s, he said. While products like business interruption insurance may not be used for airlines, they could look at weather-related insurance products that have very specific triggers.

For example, airlines could designate a period of time for such a “tough winter policy,” say from the period of November to March, in which they can manage cancellations due to 10 days of heavy snowfall, Meinhardt said. That amount could be designated their retention in such a policy, and anything in excess of the designated snowfall days could be a defined benefit that a carrier could pay if the policy is triggered. Possibly, the trigger would be inches of snowfall. “Custom solutions are the idea,” he said.

“Airlines are not likely buying any of these types of products now, but I think there’s probably some thinking along those lines right now as many might have to take losses as write-downs on their quarterly earnings and hope this doesn’t happen again,” he said. “There probably needs to be one airline making a trailblazing action on an insurance or derivative product — something that gets people talking about how to hedge against those losses in the future.”

Katie Kuehner-Hebert is a freelance writer based in California. She has more than two decades of journalism experience and expertise in financial writing. She can be reached at riskletters@lrp.com.
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Sponsored: Rising Medical Solutions

Beware of Medical Hyper-Inflation!

Workers’ comp medical costs are spiking in hidden pockets across the country.
By: | August 4, 2014 • 5 min read
SponsoredContent_Rising

Historically, medical inflation rates nationwide have been fairly consistent. However, data is now showing that medical inflation is not a “one size fits all” phenomenon, with hyperinflation spikes occurring in some locations…but not others.

This geographical conundrum means hyperinflation can occur as narrowly as two hospitals having dramatically different charges on the same street in Anytown, USA. So, uncovering these anomalies is akin to finding the proverbial needle in a haystack.

“In recent years, workers’ compensation saw claim frequency decline, while severity rates went up. This basically means that increased job safety has offset increased medical costs,” explained Jason Beans, CEO of Rising Medical Solutions, a national medical cost management firm. “So, whenever a client’s average cost-per-claim went up, it was almost always caused by catastrophic, outlier-type claims.”

But beginning in 2013 and extending into 2014, Beans said, things changed. “I’ve never seen anything like it in my 20-plus years in this industry.”

SponsoredContent_Rising“Our analytics made it very clear that small pockets around the country are experiencing what could only be described as medical cost hyperinflation. The big spikes in some clients’ claim costs were driven by a broader rise in medical costs, rather than catastrophic claims or severity issues.”
– Jason Beans, CEO, Rising Medical Solutions

Data dive uncovers surprising findings

On a national level, most experts describe medical costs increasing at a moderate annual rate. But, as often is the case, sometimes a macro perspective glosses over a very different situation at a more micro level.

“Our analytics made it very clear that small pockets around the country are experiencing what could only be described as medical cost hyperinflation,” explained Beans. “The big spikes in some clients’ claim costs were driven by a broader rise in medical costs, rather than catastrophic claims or severity issues.”

This conclusion is supported by several key data patterns:

  • Geographic dependency: While many payers operate at the national level, only relatively small, geographically clustered claims showed steep cost increases.
  • Median cost per claim: The median cost per claim, not just the average, increased greatly within these geographic clusters.
  • Hospital associated care: Some clusters saw a large increase in the rates and/or the number of services provided by hospital systems, including their broad array of affiliate locations.
  • Provider rates: Other clusters saw the same hospital/non-hospital based treatment ratios as prior years, but there was a material rate increase for all provider types across the board.
  • Utilization increases: Some clusters also experienced a larger number of services being performed per claim.

One of the most severe examples of hyperinflation came from a large Florida metropolitan area which experienced a combined 47 percent workers’ compensation healthcare inflation rate. Not only was there a dramatic increase in the charge per hospital bill, but utilization was also way up and there was a shift to more services being performed in a costlier hospital system setting.

“The growth of costs in this Florida market stood in stark contrast to neighboring areas where most of our clients’ claim costs were coming down or at least had flat-lined,” Beans said.

An Arizona metropolitan area, on the other hand, experienced a different root cause for their hyperinflation. Regardless of provider type, rates have significantly increased over the past year. For example, one hospital system showed dramatic increases in both charge master rates and utilization. “Even with aggressive discounting, the projected customer impact in 2014 will be an increase of $773,850 from this provider alone,” said Beans.

ACA: Unintended consequences?

So what is going on? According to Beans, a potential driver of these cost spikes could be unintended consequences of the Affordable Care Act (ACA).

First, the ACA may be a contributing factor in recent provider consolidation. While healthcare industry consolidation is not new, the ACA can prompt increased merger and acquisition efforts as hospitals seek to improve financials and healthcare delivery by forming Accountable Care Organizations (ACO). ACOs, the theory goes, can take better advantage of value-based fee arrangements in existing and new markets.

“As hospital systems grow by acquisition, more patients are being brought under hospital pricing structures – which are significantly more expensive than similar services at smaller facilities such as independent ambulatory surgery centers and doctors’ offices,” Beans said.

Unfortunately, there is little evidence that post-consolidation healthcare systems have become more efficient, only more expensive. For example, a recent PwC study reported that hospital IT infrastructure consolidation alone is projected to add 2 percent to hospital costs in 2015.

Another potential ACA consequence is group health insurers may have less incentive to keep medical costs down. An ACA provision requires that 85% of premium in the large group market must be spent on medical care and provider incentive programs, leaving 15% of premium to be allocated towards administration, sales and subsequent profits. “Fifteen percent of $5000 in medical charges is a lot less than 15% of $10,000,” said Beans. “This really limits a group health carrier’s incentive to lower medical costs.”

How do increased group health rates relate to workers’ comp? In some markets, a group health carrier may use its group health rates for their work comp network so any rate increase impacts both business types.

In the end, medical inflation is inconsistent at best, with varying levels driven by differing factors in different locations – a true “needle in the haystack” challenge.

What to do?

Managing these emerging cost threats, whether you have the capabilities internally or utilize a partner, means having the tools to pinpoint hyperinflation and make adjustments. Beans said potential solutions for payers include:

  • Using data analytics: Data availability is at an all-time high. Utilizing analytical tools to spot problem areas is critical for executing cost saving strategies quickly.
  • Moving services out of hospital systems: Programs that direct care away from the hospital setting can substantially reduce costs. For example, Rising’s surgical care program utilizes ambulatory service centers to provide predictable, bundled case rates to payers.
  • Negotiating with providers: Working directly with providers to negotiate bill reductions and prompt payment arrangements is effective in some markets.
  • Underwriting with a micro-focus: For carriers, it is vital that underwriters identify where these pockets of hyperinflation are so they can adjust rates to keep pace with inflation.

“This trend needs to be closely watched,” Beans said. “In the meantime, we will continue to use data to help payers of medical services be smarter shoppers.”

Contact Rising Medical Solutions: info@risingms.com | www.risingms.com

This article was produced by the R&I Brand Studio, a unit of the advertising department of Risk & Insurance, in collaboration with Rising Medical Solutions. The editorial staff of Risk & Insurance had no role in its preparation.


Rising Medical Solutions provides medical cost containment, care management and financial management services to the workers’ compensation, auto, liability and group health markets.
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