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Wall Street Comes to Washington

Conference Transcript
June 24, 2004

Welcome and Overview

Paul Ginsburg, president, HSC

Panelists

• Norm Fidel, Senior Vice President, Alliance Capital Management

• Roberta Goodman, Principal, Health Care Analytics, LLC

• Robert Laszewski, President, Health Policy and Strategy Associates

• Robert Reischauer, President, The Urban Institute

• Frank Sustersic, Senior Portfolio Manager/Equity Analyst, Turner Investments

• Gary Taylor, Principal of Equity Research, Banc of America Securities

• Paul Ginsburg, HSC President, Moderator

Panel One: Health Care Cost and Premium Trends and New Health Insurance Product Designs
Panel Two—Hospitals and Physicians in a Changing Marketplace

Proceedings

Paul Ginsburg: I’d like to welcome you to HSC’s Ninth Annual Wall Street Comes to Washington Conference. The purpose of this conference is to give the Washington, D.C., health policy community insights into market developments in health care that are relevant to public policy.

Now, discussing market developments and their implications for people’s health care is a core activity of the Center for Studying Health System Change. Most of you are familiar with our publications based on our site visit research.

The Wall Street Comes to Washington Conference gives us an opportunity to tap a different source of information, namely, equity analysts, on this topic. Equity analysts advise investors about which publicly traded companies will do well and which ones will not. And the good ones develop a very thorough understanding of the markets that the companies they follow operate in.

Some of the analysts work for brokerage companies and advise the clients of those firms, and in the jargon, they are called sell-side analysts. Others work for institutional investors such as mutual funds, and they are called the buy-side analysts. We have two of each at our meeting today. Their perspectives are often different. The sell-side analysts tend to be more specialized than the buy-side analysts, so we have made sure to have one who specializes in health insurers and managed care, and another who specializes in health care providers.

We also include Washington-based health policy analysts on the panel because they make valuable contributions to our discussion by tying the market developments that the equity analysts discuss more closely to health policy issues.

The format today is the format that we have had in the past, which is a roundtable discussion of a series of questions that my colleague Joy Grossman and I have prepared, and we have shared those questions with the analysts in advance. In fact, they have even given us some feedback as to which ones they have interesting things to say and which ones are just dumb questions and shouldn’t be asked.

We are dividing our meeting into two sessions. The first is going to be about health care costs and premium trends and various issues connected with health insurance, including Medicare Advantage and Medicare prescription drug plans. And the second panel is going to cover hospital and physician issues. And we will have a question-and-answer session with the audience after each of these segments of the meeting. We will be using a mix of the question cards, which I hope are in your packets, and people getting up and going to the microphone.

This conference is funded by the Robert Wood Johnson Foundation, which is the principal funder of HSC, and we are very grateful for their support. And there will be later opportunities to see this conference again. It is going to be webcast at rwjf.org starting at 6 o’clock today, and also HSC is making a transcript of the conference, and we will have it on our website by June 30th, next week.

Let me go now to introducing the panelists and grab my notes. I will start immediately to my left: Bob Reischauer, who is the President of The Urban Institute and very well known throughout the country as an insightful health policy analyst.

Next is Norm Fidel, who is Senior Vice President of Alliance Capital Management, a large mutual fund company, so he is the buy-side analyst.

Next is Roberta Goodman, who now is a principal at Health Care Analytics LLC in Nashville, Tennessee, and she was a long-term sell-side analyst with Merrill Lynch and has been with us I think all but one of the various Wall Street Comes to Washington meetings starting in 1996.

After that is Bob Laszewski, who is the President of Health Policy and Strategy Associates. He is our other Washington health policy analyst. Bob does have a background in the health insurance industry, and many of his clients are in health insurance. So he really brings perspectives from both worlds.

Frank Sustersic is a Senior Portfolio Manager and Equity Analyst of Turner Investment Partners, which is an organization that does the portfolio management for a number of mutual funds. So he is a buy-side analyst.

And, finally, Gary Taylor, who is a principal and Senior Equity Research Analyst, Banc of America Securities, a sell-side analyst who covers the hospital and other provider-related industries in health care.

We will start here, before I return to my seat, with our first question, which is about cost trends, and as many of you know, Brad Strunk and I last week put out our annual synthesis discussion of health cost trends where we pointed out that health cost trends in 2003 were down substantially, the first substantial decline in many years. All four components were down, although the largest drop was in the prescription drug component. I’d like to begin by asking the panel about their perspectives on the 2003 experience.

Norm Fidel: Well, if I were to look at cost trends and take sort of an arithmetic mean of what the public companies have reported in ’03, I do come up with numbers that are quite a bit higher than what Paul has come up with, which I guess a lot of that is based on the Milliman data. But if we just look at the commercial segment of the market, the non-government-sponsored plans, and just look at--and this is mainly employer-based as well as individual book of business--the average medical cost trend in 2003 would have been 10.4 percent, as far as I calculate it, versus the 7.4 that Paul has shown in his paper.

Paul Ginsburg: What about the trend from the previous year? Is that down?

Norm Fidel: In all four categories, you would see a deceleration in trends. In fact, in the prior year, in ’02, it would have been 11.2 percent. So there was about an 80-basis-point reduction, and that is, I think, continuing into this year. But, for example, in hospital inpatient, I would have calculated 9 percent versus the 6.5, and that compares to 10 percent the year before; outpatient, 13 percent versus the 10, and that compares with 15 percent the year before; physician, 7 percent compared to the 5.1 that Paul showed, and compared with 8 percent the prior year; and prescription drugs, 11 percent compared to 12 the prior year and the 9.1.

So it may be a definition of exactly which patient groups we are looking at since Medicare and Medicaid tend to have much lower medical trend because of more price controls, et cetera, in those markets.

Paul Ginsburg: Sure. Any perspective on what does it mean, the fact that the trend has fallen? Roberta?

Roberta Goodman: I think obviously it’s a positive thing that the trend has fallen. I think some of that is probably an artifact of trends in GDP. The Milliman research historically has projected that when GDP trends change, that will be a leading indicator for cost trends going out several years, two to four years typically.

I think as we look at the individual categories, you can probably point to some specific issues. With the drug category, there has been the move toward three-tiered formularies. There has been research showing that people’s out-of-pocket cost incentives do make a difference in their consumption of drugs. In addition to that, you have had some major drug categories move over the counter, and I think that’s more or less a one-time event, not something that we should look for benefits in the future.

Looking at the hospital side, Gary probably will have his own views on this, but I think that to some extent you have a reversion to the mean taking place with hospital utilization. In the late 1990s, there was the relaxation of a lot of the utilization controls that managed care had exercised. There was also the change in contracting structures in some markets from capitation to, quote-unquote, risk-sharing arrangements. And I think that there was also some impact of the economy, people moving to accelerate treatments when they felt comfortable that they had coverage or that they had stronger coverage. And so I think that there was a bit of a bolus effect going on before 2003 that has now worked its way through the system, and what we’re seeing on the hospital side, on the inpatient utilization, is a more normal sort of trend as opposed to an abnormally high trend, which I think some had interpreted as being the start of a shift.

Paul Ginsburg: And what about 2004, 2005? Are cost trends going to stay at this level, or are they going to be going up again or going down further? Norm?

Norm Fidel: Based on the first quarter results and trying to weed through what the companies are saying for this full year, I think we will see a further reduction in medical trend, and I think it’s going to average between 9 and 9.5 percent this year, and that would compare to the 10.4 percent last year. And, again, we see deceleration in all categories except possibly for physician, which is the lowest trend at 7 percent and looks to be about stable. But we’re seeing a deceleration across the board, particularly in outpatient care, which is coming off a very high base; inpatient, just a slight deceleration; and the Rx trend, or drug trend, is continuing to decelerate.

In fact, if we look at the sales reported by IMS, the major auditing service for that industry, U.S. pharmaceutical sales are only up 8 percent through the first four months of the year, whereas they had been predicting 10 to 11 percent for the full year. So the year has started off even slower than one might have expected, and we haven’t seen single-digit growth in total pharma sales in the U.S. for a long, long time, almost a decade. So there is continuing deceleration going on, and we will, I think, be solidly in the single figures for the first time in a number of years this year.

Paul Ginsburg: Bob?

Robert Reischauer: I don’t disagree with Norm, but I think we have to keep a little bit of uncertainty out there, simply because we are going to into a period where labor markets in general are going to be tighter and when inflation is going to be a bit higher and interest rates are going to be higher. And the question is how these will feed into the health marketplace. In general, you know, health seems to have been insulated from the overall impact in the economy for the last few years. But that won’t hold necessarily over the long time.

Paul Ginsburg: Frank? His mike is not working.

Frank Sustersic: The trends, and perhaps, you know, there was a lag effect as the copays, increased copays in the three-tier structure. It probably did take some time to alter consumer behavior. But looking forward here, there are still moves that companies will be moving in the direction to control drug costs that are still underutilized. Mandatory mail order when there’s chronic illnesses is still not occurring to a wide use, and that I think is going to happen eventually. It’s a question of time rather than--a matter of when rather than if.

Then, secondly, going forward as well, ’06 and ’07 is going to have another bolus of drugs losing their patent protection, and this year is a little bit quieter year compared to the past couple of years. But going forward here, it is going to be dramatic sums in dollars sales that are going to be losing patent protection.

And just as this morning, we’re going to see continued probably more surprises or maybe not--it shouldn’t be surprises, but this morning, you know, Synthroid from Abbott Labs, you know, the early--Sandoz was allowed to enter the market quite a bit earlier for a generic version for that hormone. So I think that’s inevitably the trend that’s going to continue for the next few years.

Robert Laszewski: I think the thing I’ve learned in the health insurance business over the last 30 years is there’s no such thing as a trend. When we look at health care costs, it’s a very complex mix of maybe 20 factors. If you look at what it takes to bring health care costs under control, you know, you can come up with a list of 20 things.

When you look at trend and what’s been going on in trend, I can tell you that, you know, sitting in board rooms every week, people are surprised at what’s going on. This isn’t something that was entirely predictable and, getting to Reischauer’s point, it’s probably something that isn’t entirely predictable going forward either. But there are a whole series of things that have combined to drive costs down, but at the same time, there are a number of pressures that are driving it up, I think.

I mean, hospitals are exerting an upward pressure. The uninsured are definitely exerting an upward pressure. Bad debt in hospitals is up significantly, and that is one of the things that’s driving hospitals. The Federal budget deficit is likely to exert upward pressure because we’ve got to believe there are going to be some changes in the way the government pays for health care.

But at the same time, we can’t underestimate the growing proficiency in disease management that has been going on out there behind the scenes that is starting to have an impact. So that’s a positive impact.

Employer cost shifting is not necessarily a good thing, but it has been a good thing for trend.

The drug pipeline, what’s happening to the cost of drugs, the move to generics, has been a good thing.

We’re seeing competition increasing, and the thing about competition when you look at trend, there’s underlying trend and then there’s what the competitors do with trend. And you have a tendency to exacerbate trend in one direction or another, particularly when there’s a lot of competition.

So there are a bunch of things that push trend up, and there are a bunch of things that push trend down. And we’re going through a period right now where there are more things pushing it down than pushing it up. And that’s something that can change over time.

Paul Ginsburg: Yes, that’s a valuable perspective.

Before I turn to Gary, I want to say that in a sense, there’s costs and there’s costs, and a lot of Bob’s comments, which were very valuable, were focusing on the costs that are specific to private insurance and would be expected over time to show up in their premium trends.

Gary?

Gary Taylor: I would just say that least from the provider side, looking at the actual data we track on hospital admissions and physician office activity, I would say costs have decelerated, maybe more sharply into ’04 than even the insurance companies have let on to this point in their reporting.

But I would also say I’m not in any way convinced that we don’t see a rebound in ’05 and ’06, and I think what happens on the employment side is very important. And the question is: When we see employment pick up, do the employers still want to push the consumer-driven buttons? Do they still want to push on the utilization side?

But if I had to predict ’04, I would suspect we’d be surprised at the end of the year how sharply costs have come down. But I’m not ready to say that continues through ’05.

Paul Ginsburg: Three panelists have made reference to the role of the economy in health care cost trends, and there is a research literature that does demonstrate that the general economy is a predictor of health care costs, but with a very long lag. And by long, I mean maybe three, four years. So, in a sense, it’s possible that some of the panelists have intimated that some of the basis for the slower cost trends now is, you know, the weaker economy from a few years ago. And to the extent that the economy does get roaring this year and continues, that certainly has implications for higher cost trends a couple of years out.

Let me turn to premiums now and the question I’ll pose is: Looking out to 2005 or to 2006, are premiums going to track the changes in the cost trends? Or are they going to have lower trends or higher trends? Or, in a sense, is the difference between premiums and costs going to shrink or is it going to grow or about remain the same? Norm?

Norm Fidel: Well, in the past, when premiums have increased less than medical cost trend, it usually happened at a time when medical cost trends started to accelerate and they were unanticipated by the health insurers who a lot of them price--especially in the large-group business, price for January 1, and if costs start to creep up, they’re kind of caught flat-footed and can’t correct until the next year. And that’s when you’ve begun to see a negative underwriting margin for the companies.

So I’d say the risk would be that if we see a somewhat relatively sharp reacceleration in health care costs and this was not priced for, you will see a decline in the spread or even going negative between prices and costs. And if I were to look at that spread, it seemed to be a positive 200--and this is of the public companies. I don’t have data on non-public companies. But of the public companies, that positive spread between pricing and costs in the medical area was about 200 basis points in ’02, looked to be about 150 basis points in ’03. And in ’04, based on how the companies have priced and how costs are coming in, it looks to be still a positive spread of about 50 to 100 basis points. And then for ’05, based on the initial indication of rate increases that we’ve seen for Mercer, Hewitt, even CalPERS, it would appear to be 0 to 50, so still a positive trend.

However, if costs were to reaccelerate, that positive spread could certainly disappear and go negative.

Robert Laszewski: What I’m seeing out there is that we will see rate increases look to be less than they have been. They will not drop as fast, at least in the next 12 to 18 months, getting through the January 2005 renewals, as fast as we see trend coming down.

I’ve never seen discipline in the industry from a pricing standpoint like I’ve seen now. We’ve had such extraordinary consolidation. Remember back 15 years ago, we heard a lot about projections that we’d have relatively few health plans controlling the market, we’d move to oligopoly. You know, we really have sort of achieved that. We’ve got a lot of regional plans out there, particularly the Blues. But if you go into any one market, there are three or four health plans doing business, and they tend to be large, sophisticated players. And they’ve become much more sophisticated at pricing than the buyer side. The buyer side used to have--the employer side used to have a lot more leverage on the health insurance business than it does today.

Typically, historically, you would have expected the so-called underwriting cycle to cut in some time ago. That hasn’t happened because we’ve had the consolidation, we have the market dominated by relatively few players.

We had a phenomena over the years when we’d have outside underwriting capacity coming in the form of reinsurance from Canada and Europe, and they’d put together little competing plans that would give people trouble and screw up the market. That just doesn’t exist any longer.

So, you know, to sort of paraphrase Bill Clinton, the rates are going to stay high because they can. And I think for some time you’re going to continue to see that.

There’s no real sign that that has changed, so you’re going to see renewals a little bit lower, but there is still every indication that the margins are there.

Paul Ginsburg: Frank?

Frank Sustersic: Adding further to those comments, there is a conservatism among many treasurers, both in the public and not-for-profit, that, you know, the memory of ’98 and ’99 is still fresh in the mind for many treasurers, and so as Norm mentioned, they do not want to be flat-footed. So any decrease in that gap between pricing and costs is going to be very moderate. And the surviving companies during this consolidation that’s happened over the last four years, what we do find is that the companies do have better IT systems--not all of them, definitely not all of them. But the major companies, the major consolidators, have very strong IT systems that can have much quicker response and know the trends more quickly than in the past. And so the big surprises and the big wide cycles that we saw I think is likely not to occur in the future.

Roberta Goodman: I think that the biggest risk will come in when there is an inflection point in the medical cost trend, and I think the specifics of that risk are that if we have a period of decelerating costs that goes for a period of several years, the companies will start projecting that those decelerations will continue and then price for them. And I think at this point, there is still some degree of concern that the trends won’t continue to decelerate as much, that there are forces that could push them up, that changes in technology could occur, that there will be limits on the effectiveness of some of the cost-sharing strategies. And I think that those things are causing managements to be fairly conservative as they look at what they need to do.

Going back ten years ago, I think that what happened in ’94, as the companies looked at ’95, was that they expected that the path of deceleration that had been in place for the early 1990 period--’92, ’92, ’93, ’94--would continue and that they could price for that continuation rather than pricing as though that second derivative trend would not continue. And I think that’s--to me, that’s the risk, that you have an inflection point that is not prospectively recognized.

And I hate to say it, but there are cycles in all businesses, and at some point this will probably happen to this one.

Paul Ginsburg: Bob?

Robert Reischauer: This discussion has proceeded as if there’s only one side of the market, people selling insurance. And there’s another side, and the other side consists of employers and beneficiaries who are--well, maybe there is only one side of the market.

[Laughter.]

Robert Reischauer: You know, who are seeing wage increases of 3, 3.5 percent and premium increases of 10-plus after buydowns. You know, you can see this going on for a few years, but you project out four or five years, and you realize there has to be some resistance on the other side of the market that leads to maybe a change in the nature of the product that’s being sold. And we see a little bit of that, which we’ll talk about later, in the consumer-directed area. But much more would be required. I don’t see this, you know, what we’re talking about here, as sustainable beyond three or four years.

Robert Laszewski: And it’s interesting, Bob, that along that line, you’re right, and we haven’t seen the employer in any way kick in because their first line of defense has been cost shifting, which has been an effective strategy in the short run. You know, you can only raise the deductible to $1,000 one time. And so there’s kind of a cliff here that we’re coming to where no longer are they going to be able to do those things.

But for the next couple of years, it looks like cost shifting has got a couple of more years to run.

Paul Ginsburg: I think we really have a conflict here between clearly the forces on the buying side which can’t tolerate these rate increases very much, but then you have the industry structure on the selling side that in a sense is going to say, okay, well, you can buy down the benefits, but that’s different from saying that we’re going to price them lower.

Norm, did you still want to come in?

Norm Fidel: I’m sure everyone in the room is aware, but the ten-year-ago or the mid-1990s cycle where we actually ended up with a price war in health insurance came after a point where literally hundreds of plans were created by health care providers, mainly hospitals, as well as physician groups, which had little underwriting capability and also were in the business because they wanted to keep control of the patient, not because they envisioned making money in the insurance side. Virtually all of those provider-based health plans have been washed out and have disappeared. And the number of health plans today is lower in half by what it was eight years ago. There’s about 450 plans now versus about 900 back in that period.

So the supply of plans has gone down, and as was mentioned before, the concentration within the industry has increased considerably. For-profit plans now represent about 45 percent of all the members of health plans today versus only about 25 percent in the late ’90s. So there is more concentration in fewer hands, and those fewer hands are more focused on the bottom line than was the case eight years ago by the industry in general.

Paul Ginsburg: Yes, so let me close this discussion by just noting that some time in the last week on the front page of the Wall Street Journal there was a story about cutting premiums, and what a striking difference you are hearing from this panel than you got from that article.

Let me turn to the products. You know, we hear a lot of talk about problems of rising health care costs. I want to ask our two public policy analysts about their perspective. Will anything concrete happen as far as public policy response to the rapidly rising health care costs. Bob?

Robert Reischauer: If we’re talking about rapidly rising health care costs in the private sector--

Paul Ginsburg: In the private sector.

Robert Reischauer: --the answer is I think there will be a lot of talk, a lot of wringing of hands, and a lot of inaction, simply because this is too complex and difficult an issue to grapple with in the Congress or in the White House.

Robert Laszewski: Yes, I would agree. You know, all the change we see is evolutionary. Look at prescription drugs. I mean, it’s the perfect example. We’re going to talk about prescription drugs in a minute, but I think it’s the perfect example of the inability of the public sector to really effectively deal with these things. You can’t get Republicans to vote for cost controls in Medicare, but you can get them to vote to use the cost controls of the nation of Luxembourg through reimportation.

To deal with these issues head on is almost impossible in this environment. So it will be hand-wringing and a little bit of evolutionary sort of things, but not much more than that.

Paul Ginsburg: Roberta?

Roberta Goodman: I also think that part of the reason that we are seeing so much focus on drugs and then the hearing this week about nonprofit hospitals is that it’s symbolic. I think, you know, as you look at drugs, the percentage of drug spend that is borne by consumers out of pocket is much higher than any other of the insured components of health care. And so I think that’s why there’s so much focus on this.

But I think--

Robert Reischauer: But much lower than it was 5 or 10 or 15 years ago.

Roberta Goodman: I’m sorry--yes, and it will be even lower under the Medicare drug bill. But it’s still high, and with the three-tiered formularies being put into place and some of the consumer cost sharing, I think people are generally a little bit more cognizant of the fact that this is an important area of spend.

So I think that it’s got symbolic value to go after drugs, even though they are a relatively small component of the overall spend, and also a smaller component of the increase in spend. And I think for the same reason that with some of the cost shifting that is taking place on the hospital side, there will be focus on hospital pricing practices because it’s good headlines, it makes it look like you’re doing something, but it’s not really asking taxpayers to give up much of anything or to accept trade-offs in terms of their access and their perceptions of quality.

Paul Ginsburg: Let me turn to some other health insurance issues now. Last week in the news, CalPERS, which often makes news when it makes changes to its health benefits program, announced that it was dropping 38 hospitals from its HMO network because their prices were too high. I want to ask the panel about whether--are they just out there by themselves, or is it likely to lead to other employers taking similar steps to narrow their provider networks?

Roberta Goodman: I don’t think that there’s been a huge amount of evidence that employers are generally desirous of restricting the networks down. But I do think it could be looked at as a bit of a warning shot across the bows. And I think it probably also will lead at least some employers in markets where there’s been a lot of hospital consolidation and resulting increases in hospital pricing to look at ways that they might make the hospital decisions a little bit more onerous on the consumers.

I can tell you that the benefit plan I’m in does have an eight-tiered network, but it’s interesting--the one that I’m in is interestingly tiered because it tiers the physicians. So you go to the physicians that are affiliated with hospital A, you have a much lower cost exposure than if you go to physicians that are not practicing at that particular facility. And then, of course, if you need inpatient care, where do you go? You go where your doctor sends you, which is the preferred hospital. And that’s a more subtle way of doing it.

But I do think that there will be more interest in looking at ways of trying to push people one way or the other without excluding facilities from the network, because that can impede the attractiveness of those products to consumers and to employers both.

And I think that there will be learning--there has been learning from the three-tiered drug formularies. You can get what you want. It’s just going to cost you.

Paul Ginsburg: Norm?

Norm Fidel: Over the past two years health care plans have had a major push on introducing tiered networks, particularly for hospitals and it really didn’t take off too much, and I think a major reason was that the buyer of those health care plans didn’t feel that the networks were based on quality as much as they were on price, and there was a hesitation to lose some of the major teaching institutions that typically have higher prices, and it doesn’t seem to have really taken off.

Now, CALPERS has done a dramatic action, and I think CALPERS used to be looked at, or at least in my view was looked at as sort of a forecaster of trends because they’re in California and things usually often happen first in California, and there are 1.2 million lives in that network, so they are a major buyer and they try new things, but CALPERS, in recent years, has kind of varied from what’s happening across the country. They really got premium rates very low years ago, and as a consequence, only three plans are left providing at risk health plans to CALPERS, versus almost 10 several years ago.

And in reaction to that, CALPERS has had to accept very high rate increases in recent years, 26 percent two years ago, 18 percent on average last year, much higher than we saw in the rest of the country I think because there was a catch-up phase. CALPERS also has a relatively rich benefits structure. It’s a union-based organization, and I think they needed to do something dramatic to keep the rate increases down. I think they’re saying that eliminating these 38 hospitals is reducing their premium by over 300 basis points, so that was a pretty dramatic action. But, you know, they were coming off of a rate increase trend that was much higher than the rest of the country. I think that they’re sort of trying to keep generous benefits, keep costs low at the same time, and as a result they’re left with three not-for-profit health plans instead of a more varied source years ago.

Paul Ginsburg: Bob?

Robert Reischauer: Whether what CALPERS has done will spread throughout the country I think depends on a couple of factors. One is the reaction of those hospitals. I mean it could be that they cave and next year they’re back in the game under lower prices, and then this will all disappear.

The other issue is whether the market structure in local areas is really capable of having exclusions like this, and in a lot of parts of the country it just isn’t a possibility.

And the third issue is the one that Norm brought up which I think is very important, and that is what is the relationship between price and quality? And we’re going to put more and more emphasis in the coming years on trying to measure quality, and if it turns out even that there’s a weak correlation between the two, it becomes politically very, very hard to say we won’t let you go to the good place, or we’re going to charge you more for the better outcome, and, you know, I think employers will begin to balk.

Paul Ginsburg: Frank.

Frank Sustersic: But the approach that CALPERS is using in this tier approach is actually angering quite a few constituents, and as Norm mentioned, the impression in California is whatever contract Blue Shield just recently signed as far as the lower cost automatically becomes a top tier.

So, you know, in the Monterey area there was one consultant that was mentioned, that there was a company that signed on, you know, that Monterey Hospital, and that area was, you know, in the first quarter was in the top tier, and then due to some recent contract redesigns from some other hospital organization, then Monterey all of a sudden slipped. And so you go to the hospital expecting a certain number of copays and costs, and you’re surprised when you show up. You may have gone there in February with certain expectations, and you show up in May, and you’re going to be surprised with a big negative surprise.

So a lot of pushback throughout the country as far as how employees and the employers deal with this quarterly shifting of these tiers.

And CALPERS itself, as Norm mentioned, there’s a growing number of cities that are dissatisfied with CALPERS and that are starting to, at least initially, consider moving in their own direction, forming their own PERS, and trying to--now the California League of Cities is trying to put a stop to this, trying to encourage everyone to stay together, but my understanding is that there are some cities that are considering joining together, and there is one small city outside of San Francisco, that the costs are astronomical.

In 2000 to 2001, the cost to a small little city was 2.1, and four years later it’s 8.1 million, so literally, 2.1 to 8.1 in four years, so cities are really struggling with this and are considering perhaps moving in their own direction and negotiating on their own, and try to have a tighter control over their costs.

Paul Ginsburg: Yes, Gary?

Gary Taylor: From a provider perspective at least, what CALPERS did I thought was interesting because I think it was a shot across the bow, so to speak at the most egregious providers or the most egregious pricing behavior on behalf of hospitals may not be tolerated any more, and we’re seeing some signs of that at the margin in other markets.

But I would have to say, I’ve really been surprised over the last few years that we haven’t seen more of this action, and you know, my view of how you can bring hospitals’ cost down and pricing down is the employees give the employer a mandate to have the insurance companies go out and form these restrictive networks like they did a decade ago. If the consumer was willing to go back into the HMO, and the insurance company was going to negotiate with three hospitals out of 10 in the market, hospital prices would be a heck of a lot lower than they are today.

With all this acceleration in pricing, there’s been no mandate whatsoever and no real desire on the consumers’ behalf to save costs in that fashion by giving up choice. I’m just surprised we haven’t seen more of this, and I don’t think it’s a trend. It’s sort of an interesting data point, but it doesn’t look like we’re seeing a lot of movement in that direction.

Paul Ginsburg: Yes. That’s interesting. In fact, I want to reiterate my surprise at the lack of interest in restrictive networks because of the fact that consumers are experiencing substantial increases in the cost sharing, the benefit structure in their health insurance.

And in our household survey, which we are just getting a look at the fourth rounds of data, when we asked consumers about their willingness to have a restrictive choice of providers in order to save money, the majority say yes, that they are willing. And it seems that this is a--if that survey is right, this is a forgotten group that perhaps--I mean it is the higher income, older people that held the other view, that they are not willing to make these tradeoffs. Maybe they’re the people that are--

Robert Reischauer: Yes. But then what you’re saying is those who don’t expect to use a hospital say, hey, let’s have a restrictive network of hospitals.

[Laughter.]

Robert Reischauer: And the minute they’re in the ambulance, then they change their minds.

Robert Laszewski: Yeah. The market follows the path of least resistance, and the problem with CALPERS is that it’s kind of a dinosaur in that it’s tied to the labor contracts, it doesn’t have the flexibility it needs, and now its own cities are starting to cherry pick against it. I think CALPERS has got some very serious problems.

You might recall a couple years ago WellPoint took on the same hospitals and backed out, and caved in. And what you find when you go out and you talk to people who run health plans is they say, "I remember the patient rates rebellion, and I remember what I went through, and I’m not going through that again." I mean there’s a conscious effort not to get back to the point where you’re angering the customer, because, you know, we--all buyers are liars, Paul. You ask them if they want the tighter network, and then they don’t want the tighter network.

The path of least resistance today, interestingly--and I wouldn’t have predicted this a couple of years ago--is cost shifting. I mean a couple years ago when we had the tight labor market, employers did not want to fool around with cost shifting. They did not want to anger the employees. A few of them started to do it, and they got away with it, and they’re getting away with it left and right. And so what you have is instead of the market trying to deal with fundamental costs, both the health plans and the employers have realized that they can go to cost shifted structures and the employees are accepting it and we’re moving on. It’s the path of least resistance.

Until we run that through its course, we’re not going to get serious about tackling these things.

Roberta Goodman: But to some extent that’s also just responding to the fact that the out of pocket cost burden had fallen so much during the period 1994 through 1999. So I think you’re reverting back a little bit on the cost sharing to the mean, because you had not had the out of pocket cost keep pace with underlying inflation.

But I do think that ultimately you run out of room on what you can do with a cost shift, and you run out of room with what you can do on a lot of the at-the-margin issues. And you have to deal with some of the bigger underlying issues, and probably the biggest one of those is technology, which has been a bit of a benefit in the last couple of years to trend.

I was at a conference about a month ago and looked at some data from the technology assessment firm that found that changes in technology over the course of the last couple of years and into this year have benefited the medical cost trend by 100 to 200 basis points. But they’re forecasting that going forward it’s going to be additive by about the same amount because of changes in devices that are coming out and some of the new biological drugs.

So I think at the end of the day we have to look at what it is that we’re spending, what kind of trade-offs we’re expecting from different parts of the system, and at the end of the day you can’t have something that’s bigger on the inside than it is on the outside, and I think that’s what we’ve been asking of our health care system.

Robert Reischauer: Can I say a word about cost shifting? The way we analysts tend to look at it is to say, you know, what fraction of the total bill was being paid by insurance versus out of pocket? But that’s not the way it feeds into the political process. The way it feeds into the political process is how many bucks do I have to put out? And you can have the percentage borne by insurance rising through time, but the dollar burden on individuals also rising because the total package is rising so rapidly.

What you want to do is look at that dollar number and compare it to rising wages, and I think recently you’ll get a very different picture, which is that the burden on individuals is going up faster than their wages, even though the fraction of the total bill they’re paying is going down.

Robert Laszewski: Wages are going up at 2 percent, and health care’s going up at 10. There’s a disconnect.

Roberta Goodman: Part of the reason that wages are going up at 2 percent is that health care’s going up at 10 percent, because--

[Laughter.]

Roberta Goodman: Because an employer’s not looking at it and saying, oh, here’s my health bucket and here’s my wage bucket. They’re looking at it and saying, "How much does it cost to me to employ my workforce in aggregate?" And that’s not only wage compensation but it’s the fringe benefits. So if you looked at the article the other day on Whole Foods and their use of a health savings account, they’re putting money into the health savings accounts, but they’re also taking money out of the 401(k) support that they provide. So they’re looking at what does it cost us to employ this workforce, and how do we manage the allocation of those dollars?

Paul Ginsburg: This might be--Gary.

Gary Taylor: Just 30 seconds on something that’s interesting just in terms of cost sharing and how much farther it could go. If you look at inflation adjusted out-of-pocket per capita for hospital care, it’s actually been falling for a decade. The government data’s old, so I suspect in the last couple years that’s probably turned up a little bit, but when we last looked at this, an interesting statistic I thought was per capita in the U.S. we spend $700 a year on alcohol and tobacco, and per capita out-of-pocket on hospital care was $100.

Now, you could criticize that and say, well, if you’re the guy that actually goes in the hospital, then you pay a bigger piece, but I suspect those that smoke and drink spend more than the average person too.

[Laughter.]

Gary Taylor: But I think there’s a--to me, I think there’s still plenty of room that this gets to play out, even though it’s attracted a lot of headlines because it’s inflected in the percentage changes moving. The dollar amounts are still very small that actually comes out of your pocket if you go into the hospital.

Paul Ginsburg: This is a good time to move to our next topic, which is benefit structure. And we have seen this phenomenon of increased patient cost sharing in private plans. And sometimes I see in the media comments from some people, that, well, it’s about finished, or--do you agree with that, or are we going to see continued, you know, roughly 3 percent a year? In a sense the premium increase has been held down by about 3 percentage points a year for the past three years by changes in the benefit structure, increasing out-of-pocket payments to patients.

Do those on the panel think that this buy-in is going to continue or not? Norm?

Norm Fidel: Well, based on Hewitt and other consultant studies, sort of come up with an estimate that right now in ’03, the average employer based insurance program, the employee was paying about 22 percent of the cost of health care out of pocket, and that compared with--

Paul Ginsburg: Is this the employer or the patients?

Norm Fidel: The patient. The employee who is part of an employer-based insurance system.

Paul Ginsburg: That’s what I meant, cost sharing for services, not part of the premium.

Norm Fidel: Right. This is just out of pocket aside from the premium. Were paying 22 percent of the total health care cost, up from 16 percent in ’00. And a recent Hewitt study, as well as another study I saw, predicted that that figure would rise to 30 percent by 2010, but if you were to actually believe that number, you’d see the rate of buydowns or increased patient sharing will slow almost in half from what it’s been in the last five years.

And I think if that’s true, the reason would be that there’s not as much need for benefit buydowns when insurance premiums are increasing 8 or 9 percent than they were 13 or 14 percent. So the need by the employer to shift the cost to the employee becomes less when health insurance--when medical costs are rising at a lower rate.

Plus, for the last three years we were in a pretty difficult economic environment, and corporations were under tremendous earnings pressure, and now we are in better times. Corporate profits are growing very rapidly, and so I think that will relieve some of the pressure by employers to also put more costs on the employee.

So, yes, there will be more shifting to consumers, but my guess--or to patients or employees, but I think the pace of it will lessen somewhat because of a reduced cost trend in general and a better economy.

Paul Ginsburg: What about consumer driven health plans, HSAs? How important are they going to be a couple of years out? We know that today they’re getting a lot of attention, but if you look at the numbers it’s something like 1 percent people in employment based coverage are enrolled in those plans, but what’s the outlook on the program?

Robert Laszewski: I think one of the things not to underestimate in the new HSA legislation is what an extraordinary tax preference it is. At a time when you can only write out charity and your home deduction, the Congress basically gave people a new $1,000 and up tax preference. I mean I’m hearing people talk about setting up HSAs and never using them, but using them as another IRA, if you will, because you can’t even get that kind of tax preference out of a basic IRA any more.

So what we’ve got is this enormous tax preference out there that is an unmistakable benefit that is going to be leveraged in the benefits industry and sold.

One of the things that surprised me this spring, as the HSAs were coming out, is I started asking my clients what percentage of your block of business today already has $1,000 deductible? And whether it was the individual business, the small group business or the large PPO business--obviously HMOs aren’t going to have a $1,000 deductible--what we were hearing is about a third of all groups are already up to the $1,000 level. So if you look at the number of people in PPO plans, which is around 100 million people now, you probably already got a third of them that have already got these higher deductibles. If you’ve already got the high deductible or if the employer is going to go to the high deductible anyway to save costs, the HSA becomes a no brainer.

You’re also hearing a lot in the market about the larger self-insured employer wanting to use actually the Treasury ruling, HRA, the Health Reimbursement Account, which operates a little differently. So both technique, the HRA, the HSA, they fit into the cost shift strategy so perfectly, there is such an extraordinary tax preference anyway, that the momentum is significant and they’re going to grow. Whether they fundamentally control costs out there or not, they’re the third tax preference you can add to that short list of tax preferences that you’ve got.

Robert Reischauer: I’m a little less upbeat about this as a big trend. You know, will we see law firms, architectural firms, farmers, individuals move in this direction? Sure, we will. But I don’t sense that there’s a great taste out there among rank and file workers for this, and for high-deductible plans. Bob mentioned that there are a lot of policies out there that already have $1,000 deductible. Well, if they do, you know, then there isn’t a huge amount of premium savings from having a high deductible plan with a catastrophic because that’s what they, in a sense, already have. So sort of where’s the grease to make this vehicle run smoothly?

I, quite frankly, don’t see the demand for it out there.

With respect to the bait of a great tax advantage, sure, a lot of us in this room would like another $1,000 or whatever it is, to shelter until we’re retired, but we have to keep in mind that the vast bulk of Americans are nowhere near taking full advantage of the tax preference for retirement that they have now. So they aren’t up at the margin sort of saying, "Give me a new break." It’s a tiny, tiny fraction of the population, most of whom are in this room.

Robert Laszewski: I think though, don’t underestimate that the decision maker in the benefit plan is not the employee, particularly in the small market. When you go in and sell a benefit plan to somebody who has 10 employees, it’s not a question of what the other nine employees want. It’s a question of what the decision maker, the owner of the business, thinks is going to work.

Robert Reischauer: I’m glad you brought that up because most of the decision makers are like me. I mean they’re, you know, people who are above age 45, maybe considerably above age 45, therefore have a lot of medical problems maybe in their family or themselves, for whom--maybe some chronic conditions--for whom high-deductible plans will mean greater expenditures on their part than have been the case in the past. I mean I thank my research assistant every day for subsidizing the health insurance that I have.

[Laughter.]

Robert Reischauer: Were we starting this anew, with a new generation of people, I can see us all making a decision that over our lifetime this would be a good bet. But we’re being asked to join this new world at an inopportune time from the standpoint of our own health.

Robert Laszewski: Actually, Bob, most of the small business people are not like you. They’re Republicans.

[Laughter.]

Robert Reischauer: I bet there’s another difference or two.

[Laughter.]

Robert Laszewski: And I don’t disagree with your analysis, but what I see going on in the marketplace is that the small business buyer--and the provider small business product is really structuring a lot of new products around this. I don’t see people setting up $1,000 deductibles to take advantage of HSAs. Let me be clear on that.

For example, if you’ve got a small employer who has $250 deductible today, and they move to $1,000 deductible, the premium reduction in the policy is only about 4 percent. So you basically manufacture about two or three hundred dollars of savings per employee when you move from a 250 to $1,000 deductible. So there isn’t--so the HSAs do not create the dollar incentive to move to the $1,000 deductible.

It works the other way. What you have is the market is very quickly moving to the $1,000 deductible anyway, especially in the small market, because they’re trying to find every means they can to continue having health insurance because we’re seeing the number of small employers who have health insurance drop, so they’re looking for every savings they can get.

Now, if you’re going to move to that $1,000 deductible anyway, it’s a no brainer to take advantage of the HSA, even if the employee is only putting three or four hundred dollars in it because you’ve got the ability to save on whatever your costs are. There are a lot of people out there selling benefits today using Section 125 and HSA as a means to actually manufacture dollars for benefits. If you put in a Section 125 plan, the dollars that employees were paying out of their pockets suddenly become pre tax rather than post tax, and you manufacture dollars to be able to put in these benefits.

So we’re seeing a lot of that going on, and I do not believe that HSAs are going to transform the market or save money. But they are restructuring the way benefits are being marketed, and they’re going to be a much bigger part of that as we go down the road.

Paul Ginsburg: Let me call on me. I don’t think there’s actually that much disagreement that we’ve heard so far, because I think the main point is that we could see a year from now 5 million people are in HSAs, and what Bob Laszewski is saying, that’s going to mean for little for health care because they’re just going to--will have been agile in obtaining more tax savings without changing their health plan pretty much.

Roberta?

Roberta Goodman: I do think that there is going to be a big issue that comes about if you have a lot of lower income people who are in HSA vehicles who do not have the accounts funded, because what happens when those individuals do in fact go into the system and do incur costs that are up to and above that deductible on a catastrophic basis? You know, a 24-year-old woman who has a premature infant. What happens to those costs in that kind of a system?

I think that that will be something with which we all have to grapple.

Robert Reischauer: It’s worth keeping in mind that three-quarters of the taxpayers in America face either 0, 10 percent or 15 percent marginal tax rates. So, you know, well, they aren’t the decision makers I meant. You know, they aren’t really affected by the tax preferences.

Roberta Goodman: Because people don’t--a large percentage of people who are eligible for 410(k)’s don’t invest in those either, and that’s pretty much a no brainer also.

Paul Ginsburg: Okay. Let me go to Medicare now, and the first question I wanted to ask you is that, you know, we’ve been hearing a lot about, a lot about the drug benefits in the private plans and Medicare, but let’s talk for a minute about the mainstream Medicare. There’s been a lot of talk about the potential for disease management, greater coordination of care, and this is a question really for anyone, but particularly for the public analysts, as to, you know, how much potential is there for the traditional Medicare program the way it’s run and to incorporate the new management tools in health care? In a sense, is this going to be a potential big difference that it can happen, or is there potential initially through large demonstrations and then making it a regular part of the program? I don’t think we have a volunteer.

Robert Reischauer: The Medicare Modernization Act does have provisions in there that should encourage this, but one shouldn’t underestimate the difficulties implementing something like this in an unmanaged fee-for-service system where we basically allow all willing providers to participate. And there’s a lot of autonomy of the various providers. So I think it will be very interesting to see in the various demonstrations, you know, how this evolves and is applied, and the extent to which not just this is successful with respect to outcomes and maybe savings or improved quality, but more the reaction of the various providers, and are they willing to go forward when it will be a CMS decision to roll this out across the nation--

Robert Laszewski: I think you’re right. There just aren’t any incentives for the provider or the patient to get into the sort of intensive and complex system that it would entail.

Frank Sustersic: I think that the industry--and it’s just my opinion--the industry is still in its infancy, so I was surprised at the language in the Medicare drug benefit and the timelines that are very aggressive, given that there’s just a lot of, you know, still skepticism out there. I think that the data does show cost controls for the populations, but there’s skepticism out there and it’s going to be a gradual process.

But, you know, a lot of these steps as far as disease management are, you know, I characterize as pretty straightforward. Just having a nurse keep on contacting and nagging you to take your medicines, it’s being effective for the plans that are using those disease management programs. But it’s still in its infancy though.

Paul Ginsburg: Gary?

Gary Taylor: I would defer to the insurance analysts as to how effective they think the disease management programs can be or will be. But to me, it looks like we’re putting the cart before the horse a little bit because, as Bob mentioned, you’ve got a Medicare program where 85 percent of the enrollees are in this rich fee-for-service benefit, totally devoid of even the most basic measures to control utilization that you see in most commercial health plans.

And I’m of the view that there’s a tremendous amount of excess utilization in Medicare fee for service, and some of those initial steps, percertification, or a physician gatekeeper, I think could be incredibly impactful, probably more so even than the disease management, and we haven’t really seen--unless we see dramatic expansion of the Medicare + Choice or Medicare Advantage it’s called now, we haven’t seen as much effort moving in that direction.

Roberta Goodman: I think the fact that there is such profound regional variations in the consumption of health care services and also such profound regional variations in compliance with evidence-based medicine and some very basic best practices, would suggest that Gary is correct. I mean I think that the disease management programs, particularly those that deal with patients with multiple morbidity, can be very helpful in terms of improving quality of care and reducing unnecessary hospitalization.

But there’s a lot out there that is probably a lot more low-hanging fruit than what we’re talking about with some of the disease management issues.

Paul Ginsburg: Good. The next question is the--I’d like to turn to Medicare Advantage, formerly called Medicare + Choice, and begin with how does the insurance industry perceive the business now? In a sense we’ve had somewhat of a roller coaster rates, some very sharp rate increases for 2004, 2005, and as I read the details, likely to stay in 2006 and afterwards, but you have already criticism expressed in the Congress that the rate increases were too high. I was wondering how insurers take a look at this business? Roberta?

Roberta Goodman: I think that there’s a bit of ambivalence there. On the one hand there’s a huge population that is, at least in theory, more accessible for enrollment purposes, and a number of the public companies are now talking much more aggressively about growing enrollment than they had been two, three, four years ago. So that’s encouraging. The fact that the rates are up and u p considerably from where they had been, and the rate of increase looks better is also encouraging.

But at the same time I think that there’s some degree of caution about what are the regulations really going to look like? Is this really going to be something that is adequately compensated, particularly when you start looking at issues in large states, cross-subsidies between rural and urban markets, the ability to construct networks, the ability to market a product that actually does attract the right kind of risk selection.

And I think the history of Medicare with Choice, you know, whatever you want to--and the name keeps changing to protect the whatever--

[Laughter.]

Roberta Goodman: But I think the history is that you have a period of boom and then you have a period of bust, and the period of bust usually follows focus on what the Medicare program spending growth looks like relative to the overall federal budget deficit.

And my personal guess is that a lot of what was given in MMA, ultimately over some period of time does get taken away, and not only for Medicare Advantage, but for anybody else that reaped any kind of windfall from it.

Paul Ginsburg: Norm?

Norm Fidel: Well, I think history has shown that stability in Medicare policy is as long as one congressional session.

[Laughter.]

Norm Fidel: And I think that the industry will remember that, although what Roberta says, there’s a renewed enthusiasm because the new law is favorable for them to think about this as a long-term business.

So when we hear Democratic leadership now, i.e., Daschle, Kennedy, already talking about legislation to undo Medicare Advantage and some of the features of the free-standing drug benefit, this does not build confidence and stability.

But I think that if we were to have a--the results of the election such that there doesn’t appear to be a change in the majority in Congress, if the rules are written under the leadership of a Mark McClellan rather than a Kerry appointee to oversee, I mean that does make a big difference, and if beginning in ’05, if there is a belief that the current administration is still, you know, has the advantage in coming up with these decisions, I think there would be renewed enthusiasm and to this program, but if there’s a change, I think that there will still be a very cautious attitude.

Paul Ginsburg: Bob?

Robert Reischauer: My own feeling is that insurers and plans should be nervous no matter what the outcome of the election, simply because we do have a very serious deficit problem facing us. Sooner or later we’re going to address it. Medicare unavoidably is going to be a contributor to the solution and it will come down to a question of what part of Medicare gives.

And it’s a whole lot more politically acceptable to take something away from a component of Medicare where 11 or 13 percent of the folks are affected than to take it away from the component that 87 percent are affected. And so I think the generous payments that have been provided to Medicare Advantage plans have a life expectancy of an ice cube on a Jamaican beach.

[Laughter.]

Robert Laszewski: The question you asked was as to the plans that are on the table. The Medicare Plus Choice we renamed the Medicare Advantage, which was the traditional. The new Medicare PPO that comes out, I think, in 2006 and the Part D drug benefit.

Medicare Advantage first. You know, we’re sort of damned by how good the increases were. And the profit opportunity in Medicare Advantage is extraordinary. I mean, I sat with a client on Monday. We actually had a map of the United States and every county colored for how profitable. We know how profitable any give county’s going to be based upon the new payment rates. And it’s just extraordinary, the opportunities.

It is regional, though. I mean, a third of the country is not something you want to be terribly aggressive about. In places like Florida, for example, where we saw Medicare Advantage grow in the first place, don’t look good.

So you have to look at the markets very selectively, which is not necessarily what the Congress wanted to do, but that’s practically how you do it. There are a lot of markets that are not attractive. There are a lot of markets that are attractive.

Remember--and I agree with this whole notion that we gave too much to the program and some or a lot’s going to have to come back because of what’s going on in Medicare. But don’t forget that we just went through a pretty horrific time in the Medicare risk business coming off the ’97 BBA. And people survived. And people made money. They retracted the number of opportunity they were covering, they screwed the business down, but they screwed it down to a point where they could survive and be profitable. Pacific Care, which is the biggest Medicare player out there, went through a difficult time. But it made through that difficult time.

And so, actually what you’re seeing in the marketplace is an understanding that we’re going to have adjustments made--there’s no doubt about it--for all the reasons that we’ve talked about. But even if we go back to where we were, there’s still quite a number of markets that were profitable, and the expectation is that we likely won’t go back to where we were.

While the finances, while the projections to Medicare say this has got to be cut dramatically, let’s not forget that the Republican Party has a huge investment in Medicare Advantage. For them to turn around in a year and say, oh, that was a bad idea, let’s cut it back to where it was, if there’s a Republican Congress and a Republican president, I don’t think they’re going to do that even in the face of the deficits and even in the face of what’s going on with Medicare.

And it’s really interesting, when you look at that map, to see some of the states that have some really attractive Medicare markets. Iowa stands out as a real gem, for example. So when you look at not only the budget issues, but the politics of it--yeah, if we get a Democratic Congress and a Democratic president, the whole thing gets turned upside-down. But if we have a Republican Congress even with a Democratic president, I think it’s going to be hard to retract that.

The market is cautious but is expanding the Medicare Advantage business at a real clip. That’s the product they really want. The Medicare PPO in ’06, no one’s interested in that. Why would you be interested in the Medicare PPO, with all of the limitations, the regional issues, all of the complexities, when you can make a pile of money in Medicare Advantage choosing a county at a time?

Part D, the drug benefit, I think has got some real problems in terms of having adequate market capacity. Everyone, when you ask them what they’re going to do with Part D, it’s like, well, let’s see what the regs look like. But the way the legislation is structured, particularly the mandatory $250 deductible, I mean, Part D violates about every underwriting rule that you train a 22-year-old underwriting trainee to follow. And so there’s some real problems with Part D.

Robert Reischauer: Can I just have a footnote on the PPOs? I would think the most vulnerable chunk of money in this whole thing is the $12 billion encouragement fund for PPOs. Because this is a pot of money that nobody has benefited from yet, and so it’s easier to take something away that hasn’t been enjoyed than something that--

Robert Laszewski: Yeah, I would absolutely agree with that. I think Medicare Advantage is where you’ll see the protection. And that’s what the industry wants. The industry never wanted--the industry doesn’t care about the other stuff. From an industry standpoint, this was about Medicare Advantage improvements. And the rest is if you guys want to do that, that’s fine, but we want to be in the Medicare Advantage business.

MR. : I think the PPOs and the particular regional things come in from some rural Republican senators--or rural senators, I shouldn’t say Republican.

Paul Ginsburg: Any other comments--we just have a minute before we go to our Q&As--on the prescription drug plans?

Gary Taylor: Can I ask a question of your panel that you’ve assembled, Paul, just because I’m curious about the answer?

When Medicare Plus Choice was originally rolled out in the industry, our seniors were devoid of any drug benefit that they didn’t have to go out and pay for themselves. A big draw of getting into the M+C was you had a drug benefit. Does that change? You think there are problems with Part D, but if you could get a sustainable Part D benefit out there, how much less attractive does that make it for seniors to enter into Medicare Plus Choice?

Roberta Goodman: I think it does make the Medicare Advantage plan a lot less attractive to a senior, because, in a sense, they’ve been giving up some freedom of choice in order to get access to drugs and also to reduce some of the out-of-pocket cost burden that they would otherwise either bear or cover through Medigap. So I do think that a drug benefit will, at the margin, pull away membership. Predicting exactly what part of the membership gets a little bit difficult, given the strange structure of the Part D program with the donut hole.

Robert Laszewski: I go a different direction on that. The industry--and as product development is ongoing, the health insurance industry can do a far better job in crafting a drug benefit inside the integrated benefits structure of the Medicare Advantage plan. And it’s really a difficult job to put together a Part D benefit that the industry--the industry may have to sell it, they may have to make some concessions and be in the business to do it, but it’s going to be a loss-leader kind of thing.

So all the incentives are going to be to the integrated style of benefits. And the excess dollars that are flowing into Medicare Advantage, while some goes to profit, most actually goes to enhance benefits to grow the business.

So Medicare Advantage, the industry can do some really neat things for the senior on Medicare Advantage. That’s going to be a very--is actually going to become a more attractive benefit with the drug benefit inside it. Everything that we do is going to be pulling people into the Medicare Advantage plan.

Paul Ginsburg: One more comment.

Robert Reischauer: I want to agree with what Bob just said, in two senses: that a Medicare Advantage plan can internalize all the savings that are associated with appropriate drug usage. They can choose on their formulary a more expensive drug that leads to less hospitalization, people think, and capture all the benefits, as opposed to those benefits being captured by the rest of Medicare and the taxpayer. And so there’s a true economic advantage.

There’s another advantage, which is: I think, under the law, if you can provide the basic benefit under Part D more cheaply than the average, you can use the savings to help close the donut hole. And that is an advantage that those plans will have that the PDPs operating in the fee for service sector won’t have.

Paul Ginsburg: Okay, a quick one.

Norm Fidel: The plans that I have spoken to, when they look at the reimbursement under Medicare Advantage, they feel they’ll be able to design a drug benefit that will be much more generous than I think most people are thinking. In fact, some have said that they could probably offer a drug benefit that would be somewhat comparable to what we all are used to in the commercial market, And donut holes wouldn’t exist, et cetera. So I think that the attractiveness of that drug benefit would be a drawing card, much as we saw with Medicare Plus Choice initially, with a drug benefit that drew people out of traditional Medicare.

I just wanted to make that point.

And as far as the stand-alone drug benefit--I said this last year--I still do not find much enthusiasm on the part of PBMs or even health plans in underwriting that benefit. And, you know, the fallback is for the government to come in and--you know, I still don’t see--we’ll particularly have to see after the rules are finally written, but, you know, these companies don’t know who’s going to be in the pool, they don’t know who--it’s very difficult to underwrite the stand-alone drug benefit. So I think there’s no comparison between what we’ll see between the stand-alone drug benefit and those in the drug benefit in Medicare Advantage.

Paul Ginsburg: Let me call--are there questions on the subjects that we’ve covered so far?

QUESTION: Joe Coopersmith. I’m a scholar in residence at the Institute of Medicine.

I wonder what you think--this was mentioned briefly, but I wonder what you think of the influence of the recent interest in the tort bar on the hospital nonprofit status. Particularly since--

Paul Ginsburg: Actually, if I could stop you, that’s going to be for the next session.

QUESTION: Okay. Well, I won’t ask it, then.

QUESTION: [Off-microphone.] This is sort of a comment, but I’d appreciate reactions, that if we got really serious about transparency, in particular in hospitals and in particular in some of the more, the bad quality aspects, the complication rates and so forth, that that might shift the whole dynamic around the restrictive networks and also strengthen the hand of the payor in all those circumstances. So I just wondered if you could speculate on how fast you think that’s going to happen and what impact.

Roberta Goodman: I think there clearly is a lot of reason that we should all, from a policy standpoint, want increased transparency on cost and quality issues. I think it’s important that to the extent that there is quality data disclosed that risk adjustment is done in an appropriate way, and I think not only the age, sex kinds of things, but also looking at demographic characteristics. You know, somebody who is living in an inner-city and is poor is going to have, all other things being equal, a worse likely outcome than somebody who is affluent and living in the suburbs with the same disease condition. So you have certain hospitals that tend to get different kinds of populations using them. And I think you need to adjust for those factors.

So I think that that would be an important thing, but I think it’s going to happen pretty slowly, because every move that has been made has been fought because of the difficulty in coming up with an appropriate population base and an appropriate way of using that, number one; and number two, everything that I’ve seen historically when there’s been mortality data or complication data published, the hospitals that are on the bad end of that have a gazillion reasons why it’s not relevant and this isn’t a good measurement. But good hospitals don’t seem to have that problem, of course.

But I think that there is a move afoot, but it’s going to take time and I think it also will take changes in a lot of states as to the laws and regulations around disclosure. And that in and of itself is a lengthy process. But once you start in a few places and people use it and it’s seen as being valuable and it’s seen as having a positive impact, then I think you’ll really start seeing the ball roll very quickly.

Frank Sustersic: And I think that’s actually one of the weaknesses right now with where we are as far as the life cycle of the HSA, is that this is, you know, has amazing tax benefits, but its ultimate motivation was more consumerism involved in the process, getting the consumer directly involved. And right now, the data really isn’t there for the consumer to make an educated decision about which hospital center is going to have the best outcome for this procedure. You know, we just talked about outcomes right now; we haven’t talked about costs. So the data to come by to make an educated decision is very, very difficult, so that’s going to be problematic.

Paul Ginsburg: Yes?

QUESTION: [Off-microphone.] Hi. Leah Carlson with BenefitNews. I know you guys mentioned that only about 1 percent of people are actually enrolled in -- health plan right now --. And you just mentioned lack of data possibly could be an intervening factor where the patients or employees want --. What do you think are the other factors that are causing this low enrollment at the moment?

Frank Sustersic: One quick comment is that the fiduciary, the financial depository for the deductibles, hasn’t been really designed yet. So I heard one benefits consultant said, My clients don’t want to put any funds in an Internet bank. But, you know, once Fidelity and Schwab--my understanding is Wells Fargo will have a product designed specifically for HSA’s year end, that there may be a little bit more openness towards, you know, considering the HSA. But right now, so few financial institutions have a product depository for fiduciary responsibility. There’s a lot of concern about that.

Robert Reischauer: I would argue that we don’t see more take-up or pressure for take-up because what Americans want is health assistance, they don’t want health insurance. And they’d much rather have a very low deductible and a $20 copay than face real insurance. So unless they’re sort of pushed by rising premiums, rising deductibles, they’ll be reluctant to go into something like this.

Robert Laszewski: That answer is an employer perspective, why the employer won’t offer that?

Robert Reischauer: Yes.

Robert Laszewski: I agree with you.

Roberta Goodman: And also, there have been in the past all sorts of panaceas promised that haven’t really panned out. I think that a lot of employers want to wait and see what the evidence looks like over a longer period of time. And a lot of them are sort of in a dilemma, because on the one hand, if you put part of the population on a voluntary basis into this kind of a program, you’re going to get the younger, healthier people who have been subsidizing the risk pool, so the aggregate cost of providing coverage could actually rise beyond what it might have done under a traditional product. On the other hand, if you put everybody in, not everybody is necessarily going to be happy and that’s not necessarily something that they want to do. So it’s easier to watch somebody else take the plunge and see if it works than to be the guy who’s actually diving off that board.

QUESTION: [Off-microphone.] Wally Stein [?]. Is there any evidence that hospital quality has fallen due to the -- crisis forced upon hospitals? And secondly, is there anything going on with -- quality versus price? Everything you talk about in terms of group working with or without details and so forth or 40 hospitals have dropped, is there--they’re being dropped, obviously --. Where are we in the idea of trying to hook up -- quality?

Roberta Goodman: I think that there are clearly purchasers out there that are looking. There are some collaborative efforts on the part of some employers. Some of the health insurers are trying to evaluate the quality of the different networks that they offer and they make some quality information, typically from Subimo, available on their Web sites for consumers to look at. So I think that there definitely are efforts out there. And I think some of the Rand data would suggest that the high-cost facilities are not necessarily the high-quality facilities, that they’re high-cost because they have undue levels of complication.

So I think that there are some efforts out there, but I think it’s relatively early on and I think a lot of the employers therefore have not moved towards tiering or restrictive networks because they simply don’t know.

Paul Ginsburg: There’s a question here about combining two things, noting that the number of uninsured is growing and we also see increasing stripped-down products. What’s the future for what the costs of--it says "insuring the uninsured"; I would have thought maybe "caring for the uninsured"--people in this environment?

Robert Laszewski: What’s the question?

Paul Ginsburg: Actually, I think what I got from this is, What about the cross-subsidies by which--well, actually, look at hospitals now, really under the gun not to charge so much for uninsured patients that show up, in a sense requiring larger cross-subsidies from what they earn from insured patients. In a sense, how is this going to work out?

Robert Laszewski: It’s really problematic today. What you hear from hospital administrators is that their bad-debt levels were generally around 6 percent and many are reporting now bad debt of 9 percent. It’s the first time I’ve seen the uninsured problem really hit as directly the bottom line in the hospital industry as it is. I mean, we’ve always had, you know, the cost shift because of the uninsured and so forth, but it’s--the bad-debt number took a real top in just the last year or so. So I think we’re getting to the point now where it’s becoming more of an overt and obvious problem that people are going to start talking about dealing with, but there’s nothing going on to really do that in an informal way. It’s all been informal.

Paul Ginsburg: Gary?

Gary Taylor: Well, I think a hospital--I think the industry is caught in a little bit of a bind here. I guess a couple of things. One, I would say, when you look at growth and bad-debt ratios, remember that’s a reflection of revenue that you’ve reported. To the extent that you’ve been inflation your charges over a number of years and inflating your revenue line, at some point that catches up in the bad-debt number.

So what we really should take a look at is, you know, what is the cost of the uninsured, how much has--the hospitals aren’t making any money on the uninsured no matter what they charge, so what is the cost of treating the uninsured and how much has that gone up. And I think clearly that has gone up over the last few years, but not as much as the bad-debt ratios may lead you to believe.

But to the extent--and I guess we’ll get into this in the next panel--I’d argue that there are reasons you’re going to see more pressure from the payers onto the hospitals and less ability to cross-subsidize what Medicare Medicaid’s not making up for, I think that’s going to put the hospitals in a little bit of a squeeze. But we could probably talk for an hour about that, so I’ll save that for the next hour.

QUESTION: Just following up on that point, there’s been a lot of emphasis placed on the uninsured and hospitals’ bad debt. And if I’m not mistaken, a contributory factor of the high level or the increasing level of bad debt for hospitals is insured people not paying their bills as they deal with higher deductibles, higher co-insurance. I think that feeds into a couple of other questions. What is the impact on the providers when everybody’s got $1,000 deductibles? Are they not going to be swimming in bad debt?

Robert Laszewski: I don’t know. It will obviously have some impact on bad debt, but what we’re seeing is that the high-deductible plans, when people are paying either out of the savings accounts or just paying higher deductibles, we’re seeing emergency visits down, we’re seeing primary care physicians--when I talk to physicians groups, what I say is the primary care physicians have really got to take a look at the way financing has changed here, because it’s the people who are there for patients to access the system with the low dollar cost--prescription drugs, primary care, early-level diagnostic sorts of tests--that’s where we’re seeing it all impact. And so the primary care people are really the ones that are taking it on the chin here.

Norm Fidel: I would say in the last three to four years, what was referred to as the bad-debt ratio, in my opinion, has gone from about 7 percent on average to 10 percent--300 basis points of increased burden. And part of that is a reflection of recording revenues that were never going to be collected, particularly for uninsureds who are indigent. And now more hospitals are just writing off indigent revenues. They don’t--it will never fall into bad debts.

And now I forgot the point I was going to make. But if you give me a second, I’ll try and come around to it.

Oh. How much of the increased bad debts is due to the uninsured and how much is due to higher copays? And from what I’ve been able to detect, the average hospital collects only about 6 cents on the dollar from the uninsured. So there’s almost, with all the battering that the hospitals are taking in the press, they’re not collecting any money, although it’s a pretty messy process along the way.

If you were to look at copays and deductibles, they’re collecting on average between 50 and 70 percent of that.

So if I were to try to quantify how much of the rise from 7 percent to 10 percent is due to each, I’d say 75 to 80 percent is due to the uninsured and the remainder is due to not collecting copays and deductibles from people who have the resources--they’re employed, they have insurance, but not everyone feels they have to pay a hospital bill.

Roberta Goodman: That percentage of the bill that’s actually collected on the patient share is pretty consistent with what it’s been historically, by the way. So even those amounts in aggregate are up, the collection rate for the hospitals is pretty much where it’s been.

Norm Fidel: Right. It’s just that there are more uninsured.

Robert Reischauer: Not to be an optimist and hold out any hope, but CMS does have a survey that it’s collecting information on, on uncompensated care in hospitals, which I think will be the first systematic information that we have on this and could lead to a debate about whether to transform the DiSh payment system or maybe the payments above costs for IME into some kind of distributional program to help hospitals deal with the costs of uncompensated care.

Paul Ginsburg: At this point, I’d like to end this first session, take a break for 10 minutes, and then we’ll come back and talk about hospitals, physicians, and drugs.

[Recess.]

Paul Ginsburg: Thanks for returning. This segment is going to be about providers, much of it about hospitals, some about prescription drugs, other than the insurance issues. And I’d like to begin the first question about utilization trends.

I remember some of the forecasts around 2001 about how rapidly hospital use was going to grow, aging baby boomers, new technology and the like. And then we see in 2003 a very flat trend, really flattening out, of the pattern of growth of hospital use. And I wanted to ask the panelists about what they see happening in the next few years. Is this a slow trend going to continue? Or are there forces that will speed things up? Norm?

Norm Fidel: Well, I think that the increased copays has been a major reason why it’s happened. I see that easing somewhat, and there is a constant push, obviously, from demographics. So I think we will see a somewhat better tone. I think we’ve already seen it, in fact. We were dipping down to zero and negative numbers year to year in hospital admissions, and it seems in recent quarters to have ticked up to more in the 1- to even 2-percent range, which is getting back to almost normalcy.

So I think we’ll see a somewhat better trend, but I don’t think we’ll see it expanding to the levels that some people thought we would based on demographics looking back five years ago.

Gary Taylor: I’ll chime in. Yes, I basically agree with that. I think, you know, to put it in context, from 1946 to 1982, hospital admissions grew about 2 percent a year through lots of different economic cycles, very consistently, big structural changes in the ’80s and ’90s; numbers were negative for 15 years. In the late ’90s, Roberta mentioned a couple things: relaxation of managed care, movement of people in Medicare Plus Choice back to Medicare fee-for-service; the for-profit companies I think taking market share. We saw 5-, 6-percent growth, not for the whole industry but at least for the for-profit guys. And I think some analysts and some investors even thought that was sort of the new outlook.

When we do a 10- or 20-year forecast, even incorporating the baby boomers and all that should create over the next 10 years, we’re looking for about 2-percent admissions growth for the industry, and that’s basically where we’re at. It looks like ’04 is running a little below that, but by the end of ’03, after some negative numbers, we kind of bounced back into that range.

So my view is ’04 looks incredibly weak, so we may see a little bounce back from there. But 2 percent is probably what we should be thinking about, unless we have another big structural change. And I could guess what a couple of those might be, but absent that, I’d say 2.

Paul Ginsburg: Roberta?

Roberta Goodman: I think if you look at the combination of demographics and changes in use rates, 2 percent may be the right number. It may actually be a little bit less because over time what we’ve seen is that the use rates per 1,000 population have tended to decline and decline pretty consistently year over year, less so for the 65 and over population, where the system has been relatively unmanaged. And I think the big driver for the use rates coming down not only will be some of the shift that we’ve seen in consumer incentives, but also changes in technology and some of the changes in treatment protocols for patients. So if you have drug-eluting stents, avoiding restenosis, that ultimately does cut into cardiac admission rates. If you have better outpatient treatment of different kinds of cancerous conditions, that will also cut into some of the admission rates.

I did some work this spring looking at discharges per 1,000 population for different types of conditions, and the only conditions that over the last 20 years there has been an increase in utilization rates has been cardiology, and that is an area that is under technological attack.

Paul Ginsburg: Has the slower growth in utilization had a significant effect on easing the capacity constraints that we’ve seen as far as both staff, nurses in particular, and bricks-and-mortar capacity? Gary?

Gary Taylor: Sure. I guess I’d say for some things yes and some things no. I think the hospital industry, there’s so many different strata of facilities, if you’d say take your typical inner-city, publicly supported hospital, has there been any relief in the overcrowding of their emergency room? No, probably not. If you look at the industry as a whole, though, has the slowdown allowed companies to wean themselves off of a lot of the contract labor? Yes. So I think there’s been some benefit there.

I don’t look at the industry as particularly capacity constrained. There are certain areas, certain markets, particularly emergency rooms, but inpatient occupancy in the U.S. is 62 percent, after all, so that’s not particularly, you know, tight in my view. And I think we’ll get into it a little bit later; I actually think capacity is coming up pretty dramatically or will be over the next five years or so.

So you may have seen a little bit of relief in some markets, but the ones that attract the headlines are the big inner-city hospitals where the emergency room is a loss leader and there’s not a lot of funding or incentive to throw a lot more resources at those emergency rooms.

Paul Ginsburg: Norm?

Norm Fidel: If you look at intentions of hospitals, they still look to be adding to capacity quite dramatically in future years, despite the slowness in demand growth in the last year and a half. And I don’t know whether it’s a lag effect or what. But it is somewhat surprising that, you know, we’re continuing to see pretty robust intentions on their part to add to capacity. That may change.

Paul Ginsburg: I’d like to get into that some more because, you know, we’ve seen lots of evidence about this very powerful pipeline of capacity expansions that many hospitals are pursuing. And, you know, I’d like to talk about--I guess first, what’s the potential that hospital capacity could overshoot and hospitals could find themselves in a situation with underused facilities and in a weaker bargaining position with insurers because of the excess capacity? Gary?

Gary Taylor: I’ll start. I think in some markets that’s a very real potential. I think for the industry overall, the answer is it’s probably unlikely because I don’t think we’ll have the same robust financial environment you had when this happened before. This happened in the ’60s and ’70s because Medicare paid your capital costs and you had Hill-Burton funds and all these incentives for hospitals to build. And that’s exactly what the industry did. For 20 years, capacity has been declining. I think we’re right at the inflection point where it’s going to turn and start to move up. And I think that’s been driven by the fact that nonprofit margins are up in ’02 for the first time since ’97, plus they’ve bought in to the utilization growth they saw in the late ’90s.

So I see the industry very excited about building capacity and feeling they need to, but if we run into a deficit environment and Medicare becomes a little more adverse forum in the next few years, you may see that, you know, chopped off at the knees a little bit.

So I’m hard-pressed to say we’re going to get back to the levels we saw, you know, where we were in the late ’70s, early ’80s.

Robert Laszewski: Gary, don’t we have an environment now like the insurance industry where you’ve had so much hospital consolidation that you have bigger, smarter, more disciplined players, more dominated by for-profit organizations as opposed to nonprofit and, therefore, having the disciplines of the market that they have to face?

Gary Taylor: Well, I don’t know if I’d give them that much credit. There’s definitely been--

[Laughter.]

Gary Taylor: That was a nice way to put it. There’s definitely been a tremendous amount of consolidation, but I think if you look--you know, 20 years ago, 13 percent of the hospitals were for-profit; today it’s 15 or 16. It’s moved two or three points. It hasn’t moved a whole lot. And I kind of view the nonprofits as a sleeping giant or the bulk of the industry. They haven’t spent a lot of capital. And I think in the hospital business your only competitive advantage is capital.

So I’m a little--covering the for-profit guys, I’m a little afraid that the nonprofits may not be real smart in how they put that capital to work, hopefully smarter than they were historically, but as an industry analyst, I was much more excited to see utilization going up and capacity coming down because I knew that was going to create some leverage over the payers. And I think we’re at a point where we’re seeing it turn the other way right now.

Paul Ginsburg: Actually, if I could add some perspective, a number of months ago, I met with a group of CFOs from large systems, and much to my surprise, given that I had heard about hospital expansions, these were people very nervous about the expansions, but who were not in control, and figuring that these projects were going to get done despite their skepticism about them.

Norm Fidel: I think one of the issues--I mean, the expansion is occurring where demand has been growing pretty rapidly--orthopedics, cardiology, expensive diagnostic equipment. So it is concentrated. It’s not all over the ballpark. So from that respect, you know, if demand continues in those areas, it won’t be the excess capacity as much as it would appear at first glance.

Paul Ginsburg: Norm, could I ask you about these ares, which I think it’s very clear that the expansions have been focused on. How much of that is demand driven versus reimbursement driven?

Norm Fidel: It’s both. I mean, you don’t do it exclusively for one. You can’t do it because reimbursement is good if there is not demand there. So I think it’s a combination of both.

Also, another thought I had leading up to that question, a lot of the weakness in hospital demand has come from a reduction of procedures in the hospital at the low end. A lot of physicians have taken certain procedures out of the hospital into their office because reimbursement is better for them to be done--GI scoping, cataract procedures, issues like that. There’s hundreds of thousands of those procedures in recent years that have moved from the hospital environment into the physician’s office, and it’s all because of reimbursement on their part. They’re under tremendous pressure, and they can end up making more money doing it in their own office than to bring it into the hospital.

From that respect, the weakness in demand in the hospitals is not as drastic for their bottom line since these are usually low-revenue, low-profit procedures to begin with for the hospital.

Paul Ginsburg: What about information technology? We hear a lot about the potential, and there’s a great deal of interest in Washington in hospitals and physicians investing in information technology. In fact, there was an interesting article some time ago by Jeff Goldsmith asserting that in many cases investments in information technology could be alternatives to investing in bricks and mortar. In a sense to use your existing facilities more efficiently could be a substitute.

Is there any expectation of substantial spending in information technology under the current incentives?

Gary Taylor: Well, I would say--we do a big survey every year of nonprofits, and three years ago, as they prioritized their capital spending, IT spending was third, and last year it was second, and this year it was first. So, clearly, the talk is at least that this is an area that they’re going to spend.

I don’t know that we’ve seen that show up in terms of purchasing. I don’t know that we’ve seen it show up in the IT companies. I don’t know that that’s really happened yet. It’s still--remember, the bulk of that is still going to be viewed as non-revenue-producing investment, and the revenue-producing investment, particularly in the specialty areas, seems to me over and over again to be winning the battle. I still view the payers having much more of a technology advantage than the providers do in general. At least they’re signaling that could change. I don’t think we’ve seen it yet.

Paul Ginsburg: What do you mean by a greater technology advantage?

Gary Taylor: Well, I think, you know, depending on the payer, how large they are, how sophisticated they are, they do have some very good data on utilization and enrollment that they use effectively in what they do. And I see a credible lack of that ability even at some of the very large for-profit hospitals, let alone the stand-alone nonprofit facilities, even in just the financial accounting realm let alone clinical information technology.

Paul Ginsburg: The specialty hospitals, there is a Medicare moratorium, and do you have any sense as to what is happening? Is this moratorium having an effect or are people finding ways to declare their projects having been started before?

Gary Taylor: Well, I’ll start. I would say--we just saw a ruling out of--I want to say--not the OIG but one of the government acronyms that--I guess it came out of CMS, actually, that just approved a specialty orthopedic facility that was not eligible to go forward, but then they proved to CMS that they did meet the requirements and could go forward despite the moratorium.

But I suspect that there’s some very smart attorneys and lawyers out there who are being fairly active in terms of developing some structures that are going to be able to move forward despite the moratorium. And even if this 18-month moratorium became permanent, I would certainly not sit here and say, well, that’s the end of the development of specialty hospitals, because I suspect you’ll see some legal structures created that sort of get around how the law is written right now.

Frank Sustersic: Moving tangentially, I’m hearing that there’s quite a lot of capital moving into the ambulatory surgery center area and that there’s a lot of profit motivation by the interested parties. And so their ASCs development is growing quite rapidly.

Paul Ginsburg: And I guess this is far along, and I think Gary spoke at our specialty hospital conference, which I guess was about two years ago. And how would you say--you know, as the projects that were often in the planning stages have gone online, have they met their demand projections, in a sense are they getting enough patients? Or do we have a lot of underutilized facilities?

Gary Taylor: Well, I would say sometimes yes, sometimes no, but, by and large, I think yes. I think they’ve done pretty well. I think the key is you go into a market, even if you go into a market that has excess capacity, if you lock up the top orthopedic group in town, your facility is going to be full, and that’s going to come out of somebody else’s pocket. But that facility, that specialty facility, is going to be quite successful because the physicians are going to drive the demand and steer the patients into it, as long as you’re--at least on the Medicare side, and eventually if you get the right group of docs, you’re going to be able to get into the commercial networks. As well, there have been some--there are some cases of some pretty spectacular failures, though, where you didn’t have a great group of docs, you just cobbled, you know, a group together, and the commercial payers wouldn’t grant entrance into the networks. And those facilities are sitting half-empty. But I think that’s the rarity.

Paul Ginsburg: Yes, Bob?

Robert Reischauer: You know, this still remains a risky business as far as Medicare is concerned because if what we have here is a business opportunity that’s being created by Medicare overreimbursing for the costs of particular procedures, eventually, particularly in a deficit reduction environment, that could get fixed. If you have a situation in which the specialty hospitals can do something more efficiently than an acute-care hospital or more general hospital, then it’s a more difficult situation to deal with, particularly if Medicare retains a principle that it should pay the same no matter what the site of the provision of the service is.

So I think we have to look particularly at cardiac procedures and ask ourselves whether this isn’t the situation where the payment system is just out of whack with the cost as technology has moved forward, and eventually they will be brought back into some sort of balance.

Gary Taylor: I’ll just toss in there, I think certainly that’s something that could be looked at, but obviously the AHA will come in and tell you that, you know, there’s hospitals where 30 percent of the revenues are cardiovascular and it’s half their profits, and they lose money in the ER and obstetrics and in the trauma unit. And so--

Robert Reischauer: But the presumption would be that you would rebalance these--

Gary Taylor: Oh, right, sure.

Robert Reischauer: --so the other ones would go up as the cardiac payments went down.

Gary Taylor: A budget-neutral rebalancing would be, I think, very acceptable to the AHA and very harmful to the specialty facilities. But I’ve always argued that you take away that physician ownership element, that’s--if from a public policy perspective you really want to nip this growth in specialty in the bud, you take away the physician ownership because these are the guys that they want the revenue opportunity, and they’re the ones that are bringing the patients to it.

Paul Ginsburg: What’s the perception out there in the market about, you know, the future of the moratorium? Do they expect that Congress will continue it or abandon it? Or don’t they talk about that?

Gary Taylor: Well, no one knows for sure. You know, it’s interesting. There’s one public company that builds specialty hospitals, and the stock has doubled in the face of the moratorium being placed on their business. So I guess you could say to a certain extent the market doesn’t think it’s going to become permanent. Otherwise, what would their growth opportunity be. But the reality is the moratorium really only affects a small subset of the market. I think there’s 150 specialty inpatient facilities subject to the moratorium that half of those were built in the last five years. There’s 4,000 surgery centers in the U.S. They’ve been around for 20 years, and that’s subject to the moratorium in any way. So there’s not a heck of a lot of, I guess, chatter, so to speak, because it only hit a very small element; that was the inpatient specialty model.

Paul Ginsburg: What about in the Medicare Modernization Act, there was some very sharp decreases for rural hospitals, and, you know, I was wondering what the implications of that would be for prices charged health plans, in a sense to--I guess it depends on whether you’re a believer in hospital cost-shifting mechanisms. Do you expect that some of this is going to be passed on to the people that pay health insurance premiums in a noticeable way?

Robert Laszewski: No.

Robert Reischauer: No. I mean, the question is: Why?

Robert Laszewski: It’s sort of like gas prices. They only go up. They’ll never go down. And, no, the market is going to follow the path of least resistance and any additional dollars--we’re not seeing any indication that things are softening out in those rural areas, if you will.

Norm Fidel: The rural areas are not a large part of the payers’ spectrum to begin with.

Robert Laszewski: Right, small part of the dollar market.

Norm Fidel: But I do disagree. I think to the extent that Medicare is more generous in their reimbursement, there is a subsidization that goes on, and there will be somewhat less pressure for increased rates in the private sector if Medicare is paying better. But it’s hard to measure it in a 12-month period.

Roberta Goodman: I think it also depends on how much pressure they get from the local employers who are buying their services, and if there’s a lot of publicity around rate increases and the cost of services and what that does to those local employers and what it does to the employees who bear a greater percentage of the burden, it’s much more visible in a community of 70,000 people that hospital A is doing the following bad things than if you’re dealing with the New York metropolitan area, because the impact of any one facility on health care costs, as you look at a given employer or a given individual, is going to be much lower.

But I agree it’s not going to be a one-year thing. I think it is going to be a question over time. Can they continue to push on pricing when they’re getting some relief from Medicare and when their customer is feeling a lot of pain.

Robert Laszewski: It’s interesting. Anecdotally, we--again, the employer is focused someplace else right now. He’s focused on cost shifting, not necessarily the pricing structures in the hospital. But I’ve seen more than one example--and I’d be interested in some of the analysts’ broader view of this, more than one example in recent months where in the rural areas you’re seeing expansion in health care infrastructure, you’re seeing a hospital in a town of 50,000 build another unit on the other side of town, for example. And we’ve seen this happen more than once. And that’s where the business community and the health plan community really sort of gets up in arms, because in many rural areas, we’ve kept costs more under control because we’ve kept a tighter lid on the expansion and the overcapacity. And the problem is sort of like you have one hospital. You can’t go to 1.3 hospitals. There’s a point where these communities start going to two, and you see a real impact on health care costs locally.

So I don’t know if you’ve seen anything from a higher perspective than that, but we’ve seen it happen in a number of communities in the last couple of years.

Gary Taylor: I would say, you know, again, in the survey we just did, I was a little surprised. The third year in a row, we had a huge majority of hospitals talking about planning to add capacity in the new few years, and this year we were able to look at urban versus rural, and, you know, we maybe had 85 percent of the urban hospitals planned to add capacity in the next two years. I would have guessed the rural number would be 30 or below. It was 60. It was a fair number, and not really a consensus view that you’re seeing a lot more capital be put to work there. But it looks like you may be seeing that pick up a little bit.

Roberta Goodman: The problem with the hospital industry is if you build it, they will come. Romer’s law holds here that capacity drives demand, so the availability of the facility will create the utilization for that facility to some degree. And so it would make sense that businesses would be concerned about the impact on their benefit costs from the expansion of capacity.

Frank Sustersic: And there has to be a distinction between the type of capacity that is being planned. Like we mentioned earlier, cardiology units are profitable, and if you can prevent a 200-mile drive to another region and keep the patient in that area, hospitals will be doing that to keep the patients.

Roberta Goodman: The problem being whether they have sufficient volume to have appropriate proficiency, number one; and, number two, whether you have a situation, as in California, that the existence of the facility combined with a couple of arguably unscrupulous people created huge, quote-unquote, demand for services that was completely unnecessary.

Paul Ginsburg: [Inaudible comment off microphone.]

[Laughter.]

Paul Ginsburg: I always (?) of prescription drugs, and I guess that’s a number of years now when I look at cost trends and the trend is down for prescription drugs, one of the reasons that I’m given by people is, you know, there are so few introductions of new important drugs. (?) that there’s this expectation that we have a terrific future as a result of advances in science, but I wonder if Norm or Frank could give a sense of what’s the story.

Norm Fidel: Well, if we look at the years between 1998 and 2001, in the U.S. there were 15 to 20 products approved annually that we think had more than $500 million in sales potential some time in their product cycle. And then beginning in ’02 and especially in ’03, the number of those products dropped to about 10 to 12, and the number of total products approved by the FDA dropped considerably, too. We got up into over 40 new chemical entities being approved in the late ’90s, and last year only 21 were approved, and half of them were biotech drugs, believe it or not. Even though biotech is only 10 percent of pharma sales, they were half of the approvals. And, by the way, 25 percent of all the drugs that are in clinical research today, in human clinical research, are biotech drugs. So these more expensive drugs, some of them up to $4,400 per month now with Evastin, the pipeline in biotech is very vibrant. But we’ve actually seen a decline in recent years, the number of drugs applied for. New drug applications have actually declined in the U.S., which was a big surprise.

What’s happened is the total number of drugs that are under development have continued to increase, and there’s been a significant increase in the early-stage products. So if we can look ahead 10 years, there’s going to be a lot of products coming out, but it takes 10, 12 years to develop a drug, on average, from the beginning until it’s finally approved. So a lot of the work from sequencing the human genome, and there were a number of new targets that developed for that, but it takes a long time to develop the drugs. You know, you understand the development of a new target or even identify better a gene, but it’s going to take several years to come up with a workable drug product from that. And then you’ve got, you know, an eight-year or so term down the road to go through the complete development process.

So, you know, looking out towards 2010, I do think we’ll see a higher number of drugs approved because of all of these new targets. But in the meantime, we sort of had an acceleration of new drugs approved in the late ’90s because of the user fee system, and it kind of did away with a lot of the backlog of drugs that had been hanging around waiting to be approved for several years. And at the same time, you had a drop in the number of new drugs actually applied for at the FDA. So the result was that we actually have had a decline in the number of new drugs approved. And if we look at how many of them are significant, it’s been almost a 50- to 75-percent reduction from what we saw. So there has been--but there is a time out in the future, assuming that a lot of these drugs do make it to market, that we’ll see an uptick again. So we’re sort of going through more or less a drier stage for drug development as far as marketed products, but not so much in the early stage, but in the late stage.

Paul Ginsburg: Is there an explanation for the dry stage?

Norm Fidel: Well, one of the explanations given was that the FDA late in the ’90s started identifying certain signals, adverse reaction type things, whether they be higher kidney function or liver function enzyme levels, and this threw a scare into a lot of drug companies that were in the process of developing those drugs. And this is just a theory. I can’t prove this, but--so there were three or four areas that the FDA got more cautious about, and this had a reaction back on to the industry as far as how many of those drugs they were going to file at that time.

And another theory is that we just need more new drug targets, and, you know, once you develop six or eight products around one basic drug product, you know, how many more me-too drugs are you going to introduce into that category? You just need new targets to which to develop. But, again, the payoff for that may not be for many more years.

Frank Sustersic: To add to that, I think Norm mentioned at the end, there is a distinction. The absolute number of new chemical entities that have been approved has been, you know, significantly off from the late ’90s, but also if you look at the major drugs that have been approved, it questions the amount of improvement to society or the market expansion that’s going to occur. You know, does the market really need a third erectile dysfunction drug? You know, it’s just a question for--or, you know, the seventh or eighth statin. You know, the incremental 2- to 3-percent reduction in LDL, does that really expand the marketplace?

So all of these issues are coming to bear, and when you see the lower drug spend, and even the fewer drugs that are reaching--drugs that are reaching the marketplace are not really expanding. And that is where you do have to give credit to the biotechnology companies that, you know, of course, they have stepped out a little bit on the risk curve, you know, are not just looking for the next statin, but are going after very tough targets, a Genentech, you know, being a leader in the EGFR and VEG-F area, and providing--and really developing meaningful clinical advances in the oncology area.

Robert Laszewski: How much of the biotech take-up is really an accident? I mean, you look at this, and it almost seems like the mainstream pharmaceutical industry has become more risk averse. The biotech industry, which has flourished in Montgomery County, Route 128 around Boston, for example, the venture capital segment has embraced that. And it’s almost as though we’ve had a shift in research away from the mainstream company that has traditionally done it, where the biotechs are now taking it up, and so much of the research that will lead to the next breakthroughs is really venture capital based. And that’s a shift in the equation that I think is quite significant, because the venture capitalist is going to expect an extraordinary return on investment for all that risk. The high prices we’ve had in drugs are what’s sucked that venture capital money. If we get a reimportation bill or any kind of drug cost price management, that venture capital money is going to flee like crazy. And so we now lose the venture capital money, we lose the biotech, the industry has become more risk averse. I mean, there’s--we’re sort of sitting at a pivot point here, aren’t we?

Norm Fidel: I guess the question--could you refine that down to a question?

Robert Laszewski: Well, my observation is that I think that much of R&D has shifted to being venture capital based, which is much more tied to the high drug prices and will flee--and that venture capital money is not wedded to the pharmaceutical industry. It will go elsewhere if these high prices come down. In other words, a shift has occurred, you know, that we probably weren’t observing that’s going to have an even more dramatic impact on new discoveries over the years if these prices come down--

Paul Ginsburg: Why don’t we just stop it at the observation, and then in a couple of minutes we’ll go to reimportation. But does that perspective make sense to you, that much of the good things is happening from risks taken in biotech rather than what the large outcome is--

Norm Fidel: The first quote, let’s define "biotech" as sort of large molecule injectable drugs. I mean we’re talking about 20-year-old industry here, and we were just starting to scratch the surface. Chemically synthesized drugs, you know, it’s 150-years-old, that industry. So to compare the resurgence in R&D, which seemingly is higher research productivity, is you’re tapping into a whole new potential area, and the first 20 years of that are going to look a lot more vibrant than after 150 years of capitalizing on an older technology.

So I think a lot has to do with the tremendous advance in science we had, and the whole new area, the new tools that we had to find these drugs, which we didn’t have before, and the industry is enjoying the early growth phase of an industry compared to a relatively mature industry, drugs.

Paul Ginsburg: Now I’d like to talk about reimportation and begin with what does it look like from the industry perspective? Are they expecting reimportation bills this year?

Norm Fidel: Well, I think the industry kind of accepted that maybe there was a 50/50 chance at some sort of reimportation or importation would be legislated this year. I think it looks like less than 50 percent because of some of the resistance of, frankly, the Republicans to this, and some of the word from them as far as whether they’ll entertain--I think it’s less than a 50/50 proposition.

Again, If it’s Canada only, it’s not much of a threat to the industry. There’s really not enough drugs and excess drugs in Canada to really have an impact on the U.S. market, and efforts by Grassley and others to say that drug companies can’t restrict supply in other countries is a long way from being legislated into law, and if it were, I think we would a three-year process of a Supreme Court type of decision as to whether it’s constitutional for the U.S. Congress to put that type of limitation on the drug industry.

So if it’s Canada only, it’s a lot of bad media, a lot of bad news, a lot of bad rhetoric, but not much impact on the industry. But if it’s extended to the EU, we have parallel importing, as much as 15 percent of sales in the high-priced European countries like the UK. Certainly could be at least that much in the U.S., and it would be a significant negative for the industry. But we’re still a long ways from legislation that will say the EU is all right, and I think it will still depend ultimately on HHS saying yes it’s okay to do that, and we’re not there yet even for Canada, never mind the EU.

Paul Ginsburg: So your assumption is that, say if it’s just Canada, the industry is going to limit what it ships to Canada, and that’s what’s going to keep us--

Norm Fidel: Canada is less than 5 percent of the size of the U.S. market. So we’d have to absorb all the drugs in Canada to have a real impact in the U.S. market, and Canada is not going to stand by and let all of these drugs flow down south of the border, and the drug companies are going to do everything they can to make sure there’s not enough excess supply for wholesalers to buy much and bring down. So I think it will just be as we have now, less than one-half of 1 percent of all drugs consumed in the U.S. are really reimportated from other countries, including Canada, right now.

Paul Ginsburg: Bob?

Robert Reischauer: Yeah. I think even if some of the more aggressive forms of legislation are enacted, the impact will be relatively modest because of the actions that the pharmaceutical manufacturers will take, the actions that the exporting country will take to protect its own situation and the advantage it now has. The cut that the middle men will take out of this game and the regulatory costs, and so it might make a lot of people feel good when it’s enacted, but impact on prices here would not be substantial.

And moreover, this is an avenue which may make theoretical sense for people with chronic conditions getting 90-day supplies through the mail order, but an awful of drugs are for acute conditions, and this really isn’t an option in those cases.

Robert Laszewski: I think there are a lot of reasons why reimportation is a dumb idea and it won’t work, but I think we need to take it one step further than that. Let’s--first of all, I think there’s a pretty good chance we will see a vote on the reimportation bill in the Congress this year, and the reason is that the Democrats would love for the Republicans to stonewall a vote on the issue, and this is a big issue. It’s an issue that people who vote are really upset about. If the Republicans don’t bring it to a vote, the Democrats have got a huge issue. If it does come to a vote, you know, we saw 87 Republicans in the House last year on site. The votes are there if it comes to a vote, and I think we’ve passed a certain point where the Republicans are sort of willing to lay down their political futures for the pharmaceutical industry, so I kind of think it’s going the come to a vote.

So it passes. I think the real issue here is in fact it won’t work for all the reasons you two just talked about, and that creates an even bigger political problem for the pharmaceutical industry because people were mad and they thought reimportation would do something. Now they found that reimportation’s been defeated for all the reasons we’ve talked about. My numbers are Canada is 2 percent of the market by volume. The U.S. is about 50 percent of the world. The EU is 25 percent or a little bit less. Studies have been done on reimportation. You’re right, the only people who win are the middle men.

So now you pass it, the drug industry defeats it because they’re able to block shipments. Now you’ve got an even bigger political problem, and the easier thing to do now is to allow Medicare, for example, to negotiate prices, and you move to that next stage. So I think it actually creates bigger political problems. Then it just becomes a non-issue.

Norm Fidel: The cry for reimportation is mainly people who don’t have drug insurance. People who have insurance are not clamoring for reimportation. They’re paying copays. It’s going to cost them a lot more to buy a prescription from Canada than to pay their copay.

Now, with the Medicare drug benefit starting to wend its way through--not until ’06--we will have some impact on the number of the elderly without drug insurance, so that clamoring will be reduced.

But as you mentioned, it’s a gigantic political issue. The Democrats lost somewhat the Medicare issue because that’s now been passed, so now deja vu all over again, now it will be on reimportation.

Robert Laszewski: Yes. You’re right about it’s relatively few people, and I think that’s the big irony in this. You have a relatively few people that are directly impacted by this because of the number of insured versus uninsured. But the political dynamic is fascinating. You have relatively few people impacted. 87 Republicans voted for it, and I think those same 87 and some more will be back. You’ve got the votes in the House. Who’d have ever thought that Grassley and Gregg would be introducing the reimportation bills? I mean don’t underestimate the politics of this, even because it’s supposedly a few people. This is going to be huge.

The other thing too is the Republicans did not win the Medicare battle. That battle is still being ferociously waged, and every indication is that the Democrats are probably coming out ahead in the final analysis on that battle. So if the Democrats have an issue to really grab hold of here, it’s this one, and you know, in the final analysis, I don’t see a lot of Republican leaders willing to risk what they have to risk for the pharmaceutical industry. That’s the interesting thing about this.

Robert Reischauer: I think that’s very true for the situation we face for the next year or so, and your political predictions are basically right.

Robert Laszewski: That’s the year we’re talking about, yeah.

Robert Reischauer: But keep in mind that a lot of the impetus for reimportation and a lot of the acceptability of it was the fact that some governors and some mayors, many of whom are Republicans, were worried about the retiree benefit costs that they had for Medicare beneficiaries with their wraparound policies because this is where the costs of those policies are, and these folks are going to be getting big subsidies through the Medicare Modernization Act. And it’s going to go away for them. So it’s sort of like two years or the next 18 months, but after that I think Norm’s the--

Robert Laszewski: I think the big area in this whole debate is the people who are--when you see these newspaper studies and they say that it costs $100 to get a month’s supply of a drug here in the United States, and it costs 70 in Canada. The huge irony is the number that’s being quoted is the retail price. The managed care price is going to be a lot closer to the 70. The problem with the managed care price is the consumer only sees the 5 or 10 dollar copay. They don’t know that they’re actually getting the price.

The smartest thing the drug industry could do to head this off is to restructure the price, that retail price that only the uninsured are paying. What percentage of the market and their profits could that possibly be? That’s creating 85 percent of the political problem that they’ve got.

The health insurance industry lucked out in the patient rights debate. If you look at the patient rights debate, prior to 9/11 we all thought we were going to get a patient’s rights bill. I mean we were absolutely convinced we were going to get a patient rights bill because everybody was so mad at the managed care industry. 9/11 came along. The domestic agenda went into neutral for about a year, and during that year the managed health care industry went into reverse on the things that they were doing. That’s one of the reasons why trends shot up. But they defused the consumer angst.

The drug industry has got maybe a few weeks or a few months to do basically the same thing. And what they’ve got to target are those goofy retail prices that only uninsured 85-year-old ladies are paying.

Norm Fidel: The problem is, if you change those retail prices and average wholesale prices, it has an impact throughout the whole food chain because all the other prices are based off of that.

Robert Laszewski: The prices are based upon the schedules that have been negotiated, and those prices are in contracts, and yeah, when you come up for the negotiation next time, so you change the base.

Norm Fidel: Well, it’s easier to say that than to do it.

Robert Laszewski: Well, reimportation bill is where you’re headed if you don’t.

Frank Sustersic: But the reimportation, the end game appears to be more in courts rather than legislation. Looking through a few steps ahead, okay, let’s say even the most drastic EU type of reimportation plan is improved? Then the pharmaceutical companies will restrict the amount of drugs that are manufactured out of those plants or restrict only to the size of that given market, and then we’ll see if this end game is played out then. Then the government steps in through the FTC, alleges interference of commerce, and then it goes to courts.

Robert Laszewski: Sure. And the taking--think it through. You pass the reimportation bill now. Next year you’re starting to implement Part D, the drug industries all go to court to prohibit the reimportation bill to take place. You think people are mad at the drug industry today?

Frank Sustersic: I can’t see it getting worse, to be honest with you.

[Laughter.]

Robert Laszewski: Yeah, it can get worse, because you pass the reimportation bill, and the drug industry blocks it in the courts, and what you have are the same people who voted for reimportation are now under pressure--there’s that provision in Medicare that does not allow Medicare to negotiate with the drug companies. I’ll tell you something, that will come out of there so fast if the drug companies block reimportation. That’s the thing--you know, reimportation is not the end game. Reimportation is a strategy on the part of some people to get to the end game, which is the regulation of drug prices. And then when the drug industry goes to court, they play right into the hands of the people that are going to do that.

Roberta Goodman: There’s a step we’ve left out, which is the implementation, and I think that the question of what kind of regulations would pertain to who can import and under what conditions, I think will be quite important. A sizeable portion of drugs in Canada are manufactured in places like Iran and Thailand, which I think would be highly problematic coming into this country without some quality controls on them. And if they came in and there were problems, I think there would be some huge litigation issues that would arise that would be tremendously difficult to deal with.

So I think that how--if reimportation is passed, how the regulations are structured is going to be pretty key, and if the pharmaceutical industry has sense about this, they will focus very hard on those regulations rather than on the legal battles.

Paul Ginsburg: We’ve got one more short topic, and then we’ll have a Q&A period, so I would appreciate it if people that have questions that they want to send up on cards, could start passing their cards.

The final thing I wanted to discuss with you in the drug area is the experience with Medicare prescription drug cards. I haven’t followed it closely, but I gather the take-up wasn’t that high.

[Laughter.]

Paul Ginsburg: And I wanted people to talk about the implications of that experience. I mean not the political implications, but the implications for policy or for markets on that experience of so little interest in this device.

Frank Sustersic: It’s been interesting. It’s been having an impact in a lot of different areas. Year to date, the Medicare Choice enrollment has been very weak, and a lot of companies subscribe it to just the confusion from the drug card and the upcoming drug benefit as really just freezing everyone’s market. And the entire design of the plan is--I don’t know if anyone’s ever gone on their website and tried it, but it’s a challenge. It is very difficult.

I guess hypothetically, if you were taking one drug, if you’re taking Lipitor, and you plug in your zip code and then you don’t look at it again--don’t look at it again, that’s key--but if you’re dealing with the average senior citizen that takes, what, 5 to 8 drugs, and is trying to price shop, the prices are changing constantly. You may think you’ve done the best price shopping, and then you find out a week later, you know, CVS wasn’t the best choice. It was Walgreens. And for the number of drugs it’s a very difficult mechanism.

I hope that none of the current attributes of the current plan is going to be permanent, and I understand it won’t be, but it’s a challenge.

Paul Ginsburg: Bob?

Robert Reischauer: Yeah. I think there is a lot of problems with expectations here. People are acting like this is a government program as opposed to a policy that’s structuring a private offering, and the government aspect of course is the $600 subsidy for low income people, but all of the media attention is focused on the other folks who were saying, you know, "Hey, this is only giving me a 5 or a 10 percent discount. When I was a worker I only paid--I got an 85 percent discount on my drug spending." You know, it’s sort of unrealistic expectations, and they’re comparing it, as people said, say not to the retail price of the corner drugstore but to drugstore.com, which I think is unrealistic.

It’s also, it strikes me, wrong to criticize the slow take up in this, when virtually every adviser for seniors said, "Take your time. Look at the options. Wait till these things sort themselves out." And this isn’t like missing an airplane or a train. You know, if you aren’t there on time, June 1st, you know, no flight, you don’t go to Florida. This is something where, you know, you can join at any time over a long period, and still reap whatever benefits, depending on when the next time you need to go and get drugs.

The other thing to realize is that, you know, there are huge variations in America on supermarket prices, on retail store prices, and many people, for convenience reasons or for laziness or whatever, seniors even with limited incomes, don’t comparison shop and go way out of their way to save a few bucks, which is what this is going to save you, and that’s their choice. So don’t criticize in a sense the government for trying to fill in an unavoidable gap with a very limited private sector alternative for the first 18 months.

Robert Laszewski: Paul, you asked about policy implications. We have something approaching I think 80 cards the last time I looked at--how many? 120 now. Okay. I’ve seen reports that this indicates that the insurance industry is in fact interested in Part D because they’re going into this, and they’re going into this to collect data so that they know how to do it. That just isn’t the case.

What’s going on here is people have been in the drug card business--I always wondered how many drug cards were out there--and I guess the answer is 120--in the private sector. What the private sector is doing is, they believe that in order to continue selling their drug card, they’ve got to get the Good Housekeeping Seal of Approval from CMS.

So everybody went out there and got their cards approved because they thought they would lose whatever drug card market share they had if they didn’t, and they were also concerned about maintaining the medical supplement insurance, the old basic traditional supplement, and any Medicare Advantage that they had that did not have a drug benefit.

So the policy implication is this doesn’t mean anything in terms of embracing Pard D. It was a defensive strategy more than anything else.

Paul Ginsburg: Norm?

Norm Fidel: You know, if we personalize these things, my mother-in-law still does not have a Medicare drug card, and here her son-in-law is a drug analyst, and even time I speak to her, I say, "Why don’t you have one?" She says, well, you know--she’s so--she lives in another state, so she has her son go on the Internet to compare the prices. I say, "Don’t even look at that. Just get one of the major cards, and go into the drugstore, and you’re going to save probably 20 percent on your brand drugs and 40 percent on your generic. It doesn’t matter which one it is if it’s one of the major cards."

But I think it’s a case where it’s so complex and complicated that it’s kind of stalled it. And if there were five choices, it would have been a much faster takeoff than if there were 120 choices. Plus you have much more of the media focused on the criticism of the program than the good parts of the program. I don’t know how many articles I’ve read quoting Kennedy and Daschle about how this is a terrible program, et cetera, and the media just seems to be enthralled with writing negative stories and not positive. I would be willing to bet that the media coverage on this has been extraordinarily negative.

You know, it’s basically a great program for a senior that does not have drug insurance.

Paul Ginsburg: I’d like Roberta to have the last word, and if people want to come to the microphones after she speaks.

Roberta Goodman: I’m going to echo Norm a little bit. My parents haven’t signed up for it either, and their basic thing is that they only take a couple of drugs and it’s really more trouble than it’s worth to figure it out.

So on the one hand you’ve got the people like them, who could figure it out relatively easily because they’re not taking a lot of drugs, who are totally befuddled, so I think that there is such a thing as an optimal number of choices for people to have, and 120 probably is not it.

[Laughter.]

Paul Ginsburg: We’ll have a question and answer period. How about the gentleman from the Institute of Medicine ask that question again?

Norm Fidel: 120 works for Baskins Robbins and ice cream and stuff like that.

Roberta Goodman: It depends on who you’re behind in the line.

[Laughter.]

QUESTIONER [Off microphone]: I was just wondering what effects you thought that the--so far as interest in hospital nonprofit status will have in view of a couple of things. One is that a major part of it has to do with how hospitals reduce beds and--at least a part of it--and it may have influence even--or a lesser influence even if no major judgment is formed. These things do tend to influence behavior such as the veggie burgers at McDonald’s returning and that sort of thing.

Norm Fidel: The behavior modification is already long along the path. We don’t need Richard Scruggs to get them to move faster, and you know, when the plaintiffs brought a tax class action status against an industry, you know that industry has already been vilified in the press for a long period of time. So most hospitals have already the process of revising their strategies, either writing off indigent patients and not even attempting to collect any money on that score, or creating discount programs for people who are near indigent, but right up to people that are three times the poverty level.

It’s just that the implementation of that is much more difficult than a lot of people have thought, and I’m sure Gary could give you examples of that. But the industry is far along the path of trying to revise their strategy to get out of the newspapers, such as managed care revised their strategy five years ago and said, "All right, you want choice, you’ll get it. Costs more, but."

Managed care has been the principal villain any more in health care. Now it’s drug companies and hospitals. In five years it will probably be somebody else.

Gary Taylor: Can I just comment? I think--well, you know, the lawsuits are interesting, of course, but even all the political attention to this, the House hearings later today, is very misguided, in my opinion, and I can be as cynical as you want to be, but I still think it’s misguided because if you look at the hospital industry--I look at the Emergency Medicine Even Treatment Act as the single largest insurance program in the country, because if you--44 million people with no insurance, if they come to a emergency room a hospital has to treat them, period. They have no choice.

Secondly, hospitals don’t make money on uninsured people. They lose billions of dollars a year from these people that come in and they can’t pay.

The thing that has to change, and where I think all the political attention should be, is collection practices. If someone comes in and they have no insurance and you charge them $20 or you charge them $20,000, what is the behavior of the industry in attempting to collect from people? And we’ve seen some providers go over the line and repossess people’s mobile homes or just do stuff that, from a public policy standpoint I would argue is where the attention should be focused, and let’s do something and make sure that these people are being treated in the right way.

But the whole thought that somehow hospitals aren’t generating the tax benefit that they get, when they’re losing billions of dollars on this payer class, is way off in the wrong direction I think.

Roberta Goodman: I would also add that the 501(c)(3) is not set up simply for charity care. It’s for community service, research and education. So the idea that only one of those is the criteria for the tax exemption I think is somewhat problematic.

I think that there’s also a question as to how you define what community service is. So if you have a hospital that operates near ambulance service, it loses large amounts of money, but brings people in from traffic accidents from miles away. Do you count that in? Those services, as far as I’m aware, tend to lose huge amounts of money.

Facilities that operate lodging for families to stay when they’re coming from out of town, from rural areas when they’re loved one is in the hospital, does that count?

And I think you get down a slippery slope if you start saying, "Well, only one of those purposes, very narrowly construed, is what you need in order to justify the tax exemption." And while I do think that there are things that have been done badly and shouldn’t have happened, and should not happen in the future, I think that some of what we’re seeing on the vilification of the nonprofits is probably going off a bit too far in the other direction itself.

Paul Ginsburg: I’ve got a good question here that I’ll read. To what extent has the growth of specialty hospitals and ambulatory surgery centers been the result of declining reimbursement for physicians, or tensions between community hospitals and physicians, or inefficiencies within community hospitals that affect physician revenues?

Gary, do you want to comment on that?

Gary Taylor: I would say whoever wrote that question, I would rank them in that order, and I’d say number one is far and away the huge factor when you look at physician income, especially--particularly specialists, inflation-adjusted, declining over the last five to seven years. I see incredible demand from these surgeons and physicians to want to have some ancillary revenue opportunity in the way the laws are written. They can get that in a specialty facility, and they can’t get that in the general acute care facility. Do the doctors want to do these. The doctors want to create these and there’s a benefit to them. I think that’s the huge factor driving it, and I agree with the other two. They’re just a little farther down scale.

Paul Ginsburg: What effect has employer groups or large coalitions such as the leapfrog group had on health care spending? Leapfrogs focused on the use of intensivists, CPOE and evidence-based medicine is to improve quality and patient safety, but what effect does it have on hospital costs? Has the cost of adopting these practices affected hospitals’ use of them?

Gary Taylor: Anybody want to say anything?

[Laughter.]

Gary Taylor: I think there’s certainly been some modest costs. I don’t think there’s been a tremendous amount of cost incurred thus far by hospitals to try to participate even in leapfrog efforts or even in data collection that CMS now requires if you want a full market basket update, because these seem to be pretty simplistic measures that are being collected.

To really do real good information where we can actually have quality as part of the purchase decision, I think that’s a massive technology infrastructure investment for hospitals to do it well, but I don’t think we’ve seen that yet.

Robert Laszewski: I think the leapfrog group is an example of exactly what has to happen in the marketplace. They’re doing all the right things, as opposed to consumer-driven health care that’s probably going to be a three or four year flash in the pan, and we’ll look back on it and it wasn’t anything more than sugar-coated cost shifting.

The problem is it’s not having any impact yet, and it just shows how hard this is, how far away we are, how incapable of using data effectively we still are. We’ve just got a long way to go, but this is the kind of work we need to do, and I think consumer-driven is diverting us from that and delaying it, but it just shows the march we’ve got to have yet.

Paul Ginsburg: Here’s a question for the analysts, the Wall Street analysts, as in what’s the average profit margin today for hospitals, health insurance companies and pharmaceutical companies compared to what it was around 2000? Is the trend up or down?

Norm Fidel: Well, you have to take each one individually, so managed care, it’s much higher. We went through a period between ’97 and really ’99 dramatically, where margins went down as the aftershocks of a price war. And since about ’98 prices have been accelerating, and margins have been increasing. So the average margin in the industry now is about 6 percent. Operating wise, it was down about 2 percent in 2000, and it’s pretty near the high end of what we’ve seen in history.

In the case of hospitals we had a dramatic increase in hospital margins with the initial give-backs after BBA. And now in the last year and a half margins have trended down, basically because bad debts expense has gone up. That’s been the primary reason. And so we’re down from where we were, but probably up from 2000 or ’99, but down from where we were in ’02, ’03.

And in pharmaceuticals, margins have actually come down in the last couple of years, primarily because of the reduced number of new products that were introduced into the market at the same time that we had an explosion in ’01 and ’02 in patent expirations. In ’04 and ’05 there will be somewhat less patent expirations than we saw in the ’01 through ’03 period, but then it picks up again in ’06 and ’07, although I do think we’ll have a better new product profile in the next few years than we had in the last couple of years, but gross margins have actually declined for the industry. The other expenses are more discretionary, but we’ve actually had a little bit of a decline in the operating margin from a very high level to a less high level for pharma.

Paul Ginsburg: It’s 12 o’clock now, and I’d like to bring the conference to a close. Thank you for coming, and please do fill out your evaluations. I think they’re in yellow. We are researchers. We like working with data. We do analyze them. It helps us plan the future.

I want to thank the panel for doing a marvelous job. They’ve brought an enormous amount of content into this meeting.

[Applause.]

Paul Ginsburg: I want to thank the Robert Wood Johnson Foundation for its support of this conference, and also the HSC staff that developed it. Joy Grossman, who was very active working with me on planning the substance of it; Roland Edwards who did all the facility arrangements as flawlessly as ever; and Bridge O’Leary for providing very good support out there at the desk.

Thank you.

[Applause.]

[Whereupon, at 12:00 noon, the conference was concluded.]


 

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