Workers' Compensation: Passing Through the Eye of Change

In the Deloitte report, "2009 Shift Index–Industry Metrics and Perspectives", it identifies "The Big Shift" as the convergence of long term trends, played out over decades, which are fundamentally reshaping the business landscape. The long-term trend of declining return on assets and profitability highlights that current business practices must change.

The report further suggests that while these trends are leading to near-term severe performance erosion, they offer powerful new options to create long-term economic value. While these trends were set in motion decades ago, they are now fundamentally altering business environments abetted by a powerful and influential new digital infrastructure.

The eye of change highlights the criticality for transformation and innovation in the workers' compensation market.

Change requires replacement of legacy business practices and systems; proactive claims management; more focus on growing medical and litigation costs; enhanced risk management; and business analytics and intelligence. Leaders are breaking from old business assumptions and are creating new flexible, agile business models that create a new foundation for competitiveness, growth and success.

AN INDUSTRY UNDER CHANGE

Workers' compensation insurance began in the early 20th century and differs by state, sometimes significantly. It covers the cost of medical care and rehabilitation for workers injured on the job; compensates workers for lost wages and physical impairment; and provides death benefits for dependents if workers are killed in work-related accidents, including terrorist attacks.

Regional specific workers' compensation insurance costs are one of many factors influencing business expansion or relocation of operations. Significant premium increases and the implication on state specific business development, often creates legislative or regulatory reform. In the US, the last major wave of reform and innovation was in the late 1980s, which focused on controlling medical costs through coordination and oversight of treatment, return-to-work process and workplace safety improvements.

Once again, most states are economically challenged, with workers' compensation at the center, suggesting a new wave of reform and innovation is needed.

The November 2009 presentation by the Insurance Information Institute (III) indicates that U.S. workers' compensation combined ratios reduced by 29 points between 2001 and 2006, with 2006 being only one of two years in the last 15 years with a ratio under 100.

However, in 2007 and 2008 in early days of the financial crisis, the combined ratio jumped 8 points to 101 and pretax operating gain ratios slipped almost 50 percent.

The Swiss Re Economic Research & Consulting report titled "Global insurance review 2009 and outlook 2010″ published December 2009, notes that while P&C insurers tend not to have very high leverage ratios, the impact of declining investment yields on ROE was magnified during the financial crisis.

The industry implications are and will continue to be significant due to low investment yields for the foreseeable future.

Investment rates and performance no longer hide underwriting losses resulting in a view for combined ratios is that the "new 100 is 90 – 95″ as suggested by the Insurance Information Institute.

At the Workers' Compensation Research Institute's (WCRI) 2010 annual conference, Richard Victor, Executive Director, noted that when the U.S. recession ends, workers' compensation systems will have to function in a reduced economy, requiring cost cuts. He further indicated that the post-recession reality is an economy with a "shrunken new normal", with tremendous pressure to reduce costs and operate businesses with smaller payrolls. Victor suggests the result will be that successful businesses will do more with less and successful workers' compensation systems will eliminate unnecessary costs.

This new business reality is an environment of increased competition, declining prices, medical cost inflation, increasing litigation costs, price competition, and decreasing premium growth … impacting operational results and combined ratios.

Some leading insurers prepared for these trends, while others are just realizing the implications. Leading companies are addressing their complex, legacy business environment, creating flexibility while decreasing costs to effectively respond to future market trends and opportunities.

CHANGING WORKPLACE DEMOGRAPHICS

The US workplace has been undergoing change for decades … moving from agricultural to manufacturing and service industries to information, technology, energy and agriculture (again) industries … within a global economic context. The "Great Recession" also called a "Jobless Recession", has accelerated this demographic change due to the massive job losses, particularly for manufacturing, construction, and the automotive industries heavily dependent on workers compensation. Key areas highlighting the change:

? Housing weakness is symptomatic of problems in construction and other related industries. The Insurance Information Institute noted that new home starts plunged 34 percent from 2005 – 2007 and 72 percent through 2009, the lowest since records began in 1959.

? Individuals are unemployed longer. NCCI's statistical modeling shows that job destruction dominates workers' compensation frequency. Regional differences in unemployment impact insurers depending on their market presence. While some regions are recovering sooner, others are still losing jobs, creating substantial differences between regions and impacting region specific insurers more deeply.

? The crisis decimated retirement funds, pensions, and savings, keeping people in the workforce longer and creating an aging workforce with greater workers' compensation risk. Historical risk and pricing models are no longer valid in this new environment.

According to the Insurance Information Institute, workers' compensation medical costs will equal 70 percent of all costs by 2018 based on current trends. The institute indicates that medical and tort cost inflation continues to outpace overall inflation, with tort costs twice the rate of inflation and medical 50 percent the rate.

Medical care inflation has surged ahead of overall inflation for 25 years. Since the early 1980′s, it has more than tripled in cost making it one of the most serious long-term challenges facing the industry.

REGULATORY AND GOVERNMENT

Based on insights from industry organizations, regulatory and government proposals could significantly impact the industry. They include:

? 24-Hour Coverage Proposal would incorporate workers' compensation and medical components of auto insurance into a national health care plan.

? The FTC was granted authority to conduct studies "related to insurance" for all lines of business, creating the potential of a "new regulatory body".

? Rollback of the McCarran-Ferguson Act would repeal/restrict health and medical malpractice insurers.

? Exclusion of medical malpractice reform from health care bill proposals continues to negatively impact tort and medical costs. Adjustments to Medicare fee schedules add additional pressure to claims costs and losses.

? In the health care bill, "Medical Liability Alternatives," establishes a state incentive program to adopt medical liability litigation alternatives, but …… "a state is not eligible for the incentive payments if that state puts a law on the books that limits attorneys' fees or imposes caps on damages." The program would increase litigation costs and jeopardize reform cost savings as noted by the Congressional Budget Office.

THE COMBINED IMPACT

Each area highlighted above, individually impacts the industry but combined, creates a transformative impact resulting in:

? Increased claims risk, severity, settlement, longevity and costs and resulting in reserve inadequacy and higher reinsurance costs.

? Premium rate inadequacy from employment market changes and use of historical data that is fundamentally altered due to the financial crisis.

? In May 2009, NCCI released its annual State of the Line market analysis. In 2008, a small underwriting loss and combined ratio of 101 occurred before the full impact of the financial crisis. Furthermore, 2009 would have further losses due to medical and indemnity claim costs increasing faster than wages, low investment yields, and double digit decrease in premiums due to job losses … highlighting a dismal outlook for the industry.

A PRACTITIONERS' VIEW

With market trends unfolding, we wanted a "practitioners" view of the opportunities and challenges. We posed the question, "What are the top 3-5 opportunities or challenges for workers compensation?" to participants in a workers' compensation group on LinkedIn, a professional social network. While the responses do not represent a "statistically valid sampling", they provide valuable insights and validate market trends from practitioners.

The practitioners overwhelming agreed that increasing medical costs due to medical inflation, increasing obesity, an ageing workforce more susceptible to injury, long-term narcotic or chronic pain medication usage and use of mobile devices while working are major areas of concern and focus by their companies.

Healthcare problems directly impact the ability to manage claims; increase indemnity benefits; and delayed treatments, which contribute to increasing costs. Key problems include longer wait times for appointments with medical specialists; processing delays in medical billing impact closure and keep unwarranted reserves on the books; and scheduling delays with medical evaluation exams (i.e. AME, QME) prolong benefit determinations, impairment rating and extend settlement times.

Furthermore, a decreasing pool of talented, experienced, quality staff is causing degradation in claims and adjusting services. Finding the next generation of claims staff is critical, but training programs are limited or do not exist. With seasoned professionals retiring and limited professional training, increased claims expenses and indemnity is likely.

Quality staff who can manage the increasing complexity and changing technicalities of workers' compensation claims is more important than ever.

In the rush to decrease costs, mandatory calls on long-term claimants every 30 days, in-person investigations on questionable claims, face-to-face contact with insured's, and on-site subrogation investigations have been scaled back or eliminated. These practitioners strongly believe these actions have negatively impacted claims incident values and increased costs. They suggest that insurers should use technology to enable valuable business practices to provide proactive, case management which would drive down the right costs.

Compliance with MSA / SCHIP will create issues for claims operations including: how aggressively CMS will pursue penalties; how many liens will occur and unknown to claims handlers; and will CMS pharmacy guidelines be reasonable?

The answers will have significant impact on claims costs and company brands.

Finally, proposed legislation allowing the plaintiff's (employer's) ability to sue plaintiff's attorneys or physicians for malpractice due to gross negligence from either one enlisting necessary services or prescribed medication that cause long-term harm to the injured employee. This will create further increases in medical claims costs.

TECHNOLOGY

Today claims adjuster systems are time consuming and ineffective due to poor workflow, intensive paper and data entry and limited access to full case information. Insurers need solutions that include full automation, straight-through processing, and real-time access to data and information as well as business analytics and reporting. These features would create a more efficient and effective claims operation to allow access anywhere (on the road, home, etc.) by professional staff … which would open access to a broader talent pool, remove the threat of claim files being lost or destroyed and create real-time process and information to help decrease claims costs.

With today's technology, workers' compensation adjusters could work like auto or property adjusters with field/mobile solutions, meeting directly with key players–the injured employee and employer–as well as survey the accident location, which would provide timely, accurate information and open the door to a new generation of adjusters who embrace technology and personal interaction. It could change the customer relationship from claims bill payers to a business partner working to protect both the employee and employer while reducing overall risk.

Finally, adoption of SaaS and cloud computing will provide an opportunity for the industry to scale, share and decrease costs. This technology can create new business partnerships and a new breed of TPAs for the market resulting in new options to work, attract talent, and manage customer relationships that would otherwise go untapped.

OUT OF THE STORM … NEW COMPET IT IVE LANDSCAPE

Given the sea changes and headwinds of the perfect storm, "business as usual" is not an option. Survival, let alone growth demands business transformation … of people, processes, data and technology. Insurers serious about transformation must focus on using modern solutions that reduce costs, increase business intelligence, enhance risk management and enable future flexibility and agility to respond to future market changes.

Because workers' compensation medical costs, litigation, regulatory, changing demographics, workforce challenges and operational inefficiencies are major issues, companies need quick notification of an injury to start medical treatment that helps injured workers recuperate and return to work faster … limiting the loss to the business and the worker.

Unfortunately, existing business processes and solutions do not support the increasing business complexity. Many systems were implemented following the last major reform in the 80′s and lack modern design and technology. The impact includes duplicate and disconnected data, limited flexibility, ineffective workflow, significant manual exceptions, and high maintenance costs. On average, 70-85 percent of an insurer's IT budget is allocated to legacy maintenance which limits resources that can focus on innovation and long-term sustainability.

Financial ratings analysts are focusing beyond top line growth and bottom line financial results, to core business process and IT performance. Analysts are evaluating insurers' use of capital whether for market expansion, growth, operational efficiency, product and service innovation, or transformation initiatives. The days of significant capital investment in IT systems are changing due to the increased need of capital to expand and grow the business. As a result, companies are considering new delivery methods, such as BPO, SaaS or cloud computing, non-capital intensive options with access to best of breed solutions.

Workers' compensation and its' growing complexity must be reflected in new modern systems. Insurers need an end-to-end process-driven, customer-centric solution designed to handle the day-to-day business with a fresh approach to architecture that can be a technology components or a combination of those components with business process outsourcing for first report of injury (claim intake/assignment). Each can be used individually or as integrated solution supporting any or all of the end-to-end business process.

Supporting this new approach to architecture and components, as well as market trends, solutions much be business-focused, feature-rich, and data driven. They must be highly customer centric to help insurers retain customers through quality service, flexibility for customers to interact, and offers a complete view of the customer as a cornerstone for competitive advantage and provides an online portal that provides customers with a flexible and quality experience to ensure satisfaction. This comprehensive approach for workers' compensation, focusing on operational and strategic requirements is innovative and transformative and creates business value and sustainability in a market under continuous pressure and change.

An innovative solution and delivery model with this architecture and focus can provide business value including speed to market for new products or regions in days versus months; enhanced operational results with variable costs based on usage; decreased operational expenses of 30opercent or more; preserved capital for other business growth priorities; best practices based on a portfolio of companies; and enhanced risk management. It provides an avenue to enable transformation quickly, cost effectively and with minimal risk.

Most importantly, it helps workers' compensation operations effectively mitigate and manage overall risk exposure, maintain profitable growth, and manage the business financials to achieve market-leading results.

WORKERS' COMPENSAT ION… A NEW LANDSCAPE OF COMPETITION

The only thing certain in this world is change. The dramatic and fast-paced change in the workers' compensation industry shows no signs of slowing with increased regulation, economic disruptions, increased medical and litigation costs, and changing demographics. It is not "business as usual."

The "big shift" is underway. It is a time of great challenge and opportunity; of pressure and potential; changing customer expectations and growth opportunities. A time to leverage a history of risk management expertise with an unknown future to redefine the industry, provide new and innovative value to customers, businesses, and economies. A time to assess business fundamentals and to redefine business models that integrate partners which create a new competitive landscape.

Workers' compensation insurers must rethink and rebalance how they manage their business and profitability in light of the significant market, business, and regulatory, medical, litigation and technology changes. It means the complex legacy business environment must be addressed. While many leaders claim they embrace change, too many limit their focus on technology, rather than a combination of business process, technology and organization, which can have significantly greater impact.

The industry is in the eye of a storm. How we weather it, let alone emerge? It will depend on strong leadership, modern solutions and delivery models, and new partners. The industry can break the shackles of ineffective business environments. Today, more than ever before, the industry has the potential to truly transform. Can your organization be one of those new leaders? With a trusted partner who can enable new ideas and models that creates a business environment helping customers grow; achieve business and financial success, drive to a competitive combined ratio, and flexibility to support ongoing market changes.