A boom in HMOs for the neediest leads to litigation, controversy-and lots of profits
JOYCE HINES OF BALTIMORE is 45 years old and weighs just 87 pounds. Years of illness that began in the late 1990s with a bleeding ulcer left her jobless and dependent on Medicaid. She has an intravenous line that delivers both nutrition and medication, takes eight prescriptions, and has 11 doctors. But this is a radical improvement from a few years ago, when she was down to 67 pounds and spent over a third of the year in the hospital. Today she lives mostly at home, thanks to a team of caregivers that includes a nurse, a social worker, and a case manager. Hines credits Amerigroup, a publicly traded insurer that provides managed care for the Medicaid population. "No one seemed to know what was going on," she says. "But now we do."
Amerigroup, for its part, says that its approach to someone like Hines-whom it features in its annual report this year-can save taxpayers money by reducing hospital stays and emergency room visits. And saving money is critical for Medicaid, the $330 billion program that covers more than 50 million of the poorest Americans, including the elderly, the disabled, and children and their mothers. While Medicare gets most of the headlines, Medicaid-which funds over a third of all births in the U.S. and is paid for jointly by the states and the federal government-is just as apt to break the bank. On average, Medicaid now eats up the largest share of state budgets-around 22%, which is more than education-and is growing by 8% a year.
States have been putting their Medicaid populations into managed-care plans since the early 1990s, but in the past few years they have awarded contracts to a brand-new crop of companies-principally Amerigroup and three others, WellCare, Centene, and Molina-all of which focus on insuring Medicaid patients. While subsidiaries of multiline insurers like UnitedHealth and WellPoint are still the biggest players in Medicaid, the "pure plays," as they're called, have grown rapidly and now have 22% of the Medicaid managed-care market, up from 14% in 1999, according to Merrill Lynch analyst Doug Simpson. The four upstart companies now manage the care of about five million Medicaid patients, collect some $9 billion in annual premiums, and have a combined market capitalization of roughly $7 billion. Their remarkable growth-Amerigroup's revenues have risen at an annual rate of over 60% in the past decade-has been accompanied by generally stellar stock performance.
Jeff McWaters, 50, Amerigroup's CEO, is a proselytizer for his industry. Amerigroup's new headquarters in Virginia Beach feature a picture of President Lyndon Johnson signing the 1965 legislation that created Medicare and Medicaid. "The greatest generation made housing affordable, built roads, and sent a man to the moon," McWaters says. "The problem we have not figured out, and which is up to our generation to figure out, is this health-care problem."
Any business that is supposed to deliver a public good while maximizing profits for its shareholders invites skepticism. These companies "need to operate in a way that is squeaky-clean," says Dan Mendelson, who oversaw Medicaid at the Office of Management and Budget in the Clinton administration and is now president of consultant Avalere Health. But a close look reveals some blemishes-and more profits than anyone imagined.
THERE'S A LONG-STANDING JOKE in the industry that when you've seen one Medicaid health plan, you've seen one Medicaid health plan. Policies and reimbursements vary wildly from state to state, and the population that Medicaid serves is incredibly diverse.
Medicaid has traditionally been a tricky business for insurers. In the late 1990s states slashed the premiums they pay, and large commercial players like Aetna began exiting the business. But in 1997 the federal government abolished the requirement that health plans serving Medicaid patients get 25% of their members from the private sector, setting the stage for Medicaid-only plans. Then states began to raise premiums again as they realized that they needed insurers to stay in business. In 2005 a federal budget resolution sought to cut billions from Medicaid, but even that is seen as positive for the managed-care industry, because it will push more states to try to save money.
Both Amerigroup and Centene grew by acquiring smaller plans on the cheap. Venture capitalists saw opportunity too. In 2002, George Soros's Soros Private Equity (which has since been spun off and renamed TowerBrook Capital Partners) bought WellCare, a small
Florida operation, and began to expand it. Molina, started in 1980 by a
California emergency room doctor, also began to expand out of its home state, under the leadership of the founder's son, Dr. J. Mario Molina. By 2005 all four companies had gone public. Molina has struggled, in part because California has squeezed its insurers. Amerigroup and Centene both stumbled in 2005 and had to warn that profits wouldn't meet expectations, but their stocks have still trounced the S&P 500 since their
IPO dates (see chart). WellCare, which also has a high-growth Medicare business, has been a Wall Street superstar: Its stock has more than quintupled since its IPO, to just over $90.
Investors and executives have made a ton of money. In August 2006, TowerBrook cashed out of the last of its $70 mil-lion investment in WellCare, reaping a total of almost $900 million. Since WellCare's IPO, CEO Doug Farha has sold over $37 million of stock, according to Thomson Financial. He still owns shares worth almost $100 million and has collected $3.5 million in cash compensation over the past four years. McWaters has received $6.5 million in cash over that period. He owns almost $25 million in stock. Centene's CEO, Michael Neidorff, has also gotten $6.75 million in cash and big helpings of stock, including a grant worth $24.6 million in November 2004.
The stock market rewards growth, and the growth in this business has been spectacular as states have awarded new managed-care contracts. But the companies' profit margins have also been outsized by Medicaid standards. An industry benchmark holds that plans should spend at least 85 cents of every premium dollar on
medical care-a proportion known in insurance jargon as the "medical loss ratio." Indeed, a recent study by the Center for Health Care Strategies (CHCS) says the average plan has a medical loss ratio of 86.5%. Administrative costs should run about 10 to 11 cents, with the remainder left over as a slim profit after interest and taxes. "Dad used to say that this was a business of nickels," says Dr. Molina, whose company has a medical loss ratio of about 86%. But with the exception of Molina, the pure-play Medicaid insurers spend less than 85% on medical care and more than 10% on administrative costs. In 2006, Amerigroup had a medical loss ratio of 82.1% and administrative costs of 13%. Over the past three years Centene's medical loss ratio has been around 82%, and WellCare's has been around 81%.
The CHCS study, co-authored by Dr. Robert Hurley, a professor at Virginia Commonwealth University who has researched Medicaid for 30 years, concluded that the pure plays as a group were spending less on medical care. Dr. Hurley worries that because "Medicaid is a meager payer, how can anyone
make money by paying even less and not suffer adverse consequences?" He says, however, that there is "no clear evidence" that the profit is coming at the expense of beneficiaries.
The companies claim they hold down their medical loss ratios by operating efficiently.
THERE HAVE BEEN disturbing episodes, however. In 2002 a former Amerigroup employee filed a whistleblower case alleging that the company's Illinois plan discriminated against pregnant women and others dubbed "unhealthies" by discouraging them from enrolling in its plan. (In 2002 and 2003, Amerigroup's medical loss ratio in Illinois was shockingly low-under 50%.) Last October, after a three-week trial, a Chicago jury found both Amerigroup Illinois and the parent company liable under the federal False Claims Act. Amerigroup's total bill-damages plus civil penalties-is $334 million, or more than three times its 2006 net income. Judge Harry Leinenweber, who oversaw the case, called Amerigroup's behavior "egregious and calculated." The company "pilfered money from Medicaid coffers to pad its own pockets," he wrote.
Amerigroup, which is appealing the decision, says the state told it to follow this policy to ensure that pregnant women could keep seeing their current doctors. "We did what we were asked to do," says McWaters.
Controversy has also arisen in Georgia, which in 2006 turned its Medicaid population over to Centene, WellCare, and Amerigroup. In its state budget, Georgia estimated that the move to managed care would save $84 million. But some physicians-who even staged a rally last August on the steps of the Georgia state capitol-say that the managed-care companies, particularly Centene, don't pay their bills in a timely fashion, don't have enough specialists in their networks to provide care for patients, and are discouraging preventive care. Dr. Beth Sullivan, a family physician in Commerce, Ga., says she had to send a boy with a broken arm to Augusta, 140 miles away, because no doctor any closer would accept a Medicaid managed-care plan.
Sullivan and others also say the insurers are discouraging prenatal care by cutting out a bonus that doctors used to receive for seeing an expectant mother before she was 13 weeks pregnant. The companies say they aren't aware of this issue; Centene says 95.2% of its claims are now paid in 15 days or less. In general, "the physician community has always fought reform," says Jim Carlson, COO of Amerigroup. "They're just trying to preserve the status quo that will bankrupt the state."
IT'S NO SURPRISE that in a business this highly regulated, the insurers would be politically connected. McWaters, for instance, served on President George W. Bush's Health and Human Services transition team, and the boards of the companies are stacked with politicos. A close look at WellCare's Florida operations reveals just how strong its political connections are. The Florida Agency for Health Care Administration is the top regulatory agency in the state. A former WellCare board member, Dr. Andrew Agwunobi, stepped down in December 2006 to become the agency's secretary. During his brief time on WellCare's board-he joined in June 2006-he received stock in the company that was worth over $350,000 when he stepped down. (He has sold his stock.)
In addition, according to a FORTUNE analysis of campaign finance records, WellCare executives and their family members, along with the company PAC, gave a total of $1.5 million to Florida candidates for state and federal elections in 2006. Florida is already a profitable state for the insurers; in fact, the state "appears to be overpaying its Medicaid plans," wrote CIBC analyst Carl McDonald in a recent report. But this spring legislators slipped a rate increase into Florida's budget. They also removed a state requirement that insurers spend at least 80 cents of every premium dollar meant for behavioral-health services on patient care. (In May, Amerigroup had to pay $5 million for failing to meet this requirement, which the company says is due to "startup issues.") A bill containing both provisions passed the Florida legislature. But on May 24, Governor Charlie Crist vetoed it, calling the provisions "alarming" and saying the rate increases were "not justified."
That may be a sign that the flush times for the pure-play Medicaid companies are over. "There's a consensus that the business won't be as lucrative as it has been," says Hurley. "States have an obligation to wise up in terms of how they monitor their plans." There may be other signs as well: Since late 2006, WellCare's chief medical officer and the head of its Florida business have resigned. In February, Amerigroup's chief medical officer resigned. The company also lost its EVP of plan operations. (Both companies say the turnover is normal.) At WellCare, insiders have sold over $25 million worth of stock since late 2006. The company says those are planned sales.
As for McWaters, he says his company is in the Medicaid business for the long haul. "We've got some people trying to knock us down, but over time they will stand down, because what we do is valid, capitalistic, and ethical," he says. But if profits do shrink, then how investors react will have a major impact on the Medicaid landscape. After all, McWaters's prescription for fixing the health-care system doesn't include unhappy shareholders.
By Bethany McLean