3 Midwestern States Seek to Remove Maxicare Units From Bankruptcy Court

State regulators in the Midwest said Friday that they would try to get Maxicare Health Plans’ subsidiaries in their states dismissed from federal bankruptcy proceedings. The regulators said they would take the action to protect the interests of the plans’ members and health-care providers who are owed money by the units.

If they are successful, state control over Maxicare’s subsidiaries in Illinois, Ohio and Indiana would mean that the company’s health-care providers and members would be paid what they are owed before bondholders and banks. The regulators’ plan would also increase the likelihood of the plans being liquidated.

A key question is whether a federal court will rule that the Midwestern plans are insurance companies. The three states, which regulate the Maxicare plans as insurance concerns, believe that they are, said Neil Rector, deputy director of the Ohio Department of Insurance. As insurance companies, the plans “are inappropriate entities to be subjects of a bankruptcy filing,” he said.

Preventing Action

Maxicare’s California plans, which were also included in the bankruptcy filings, operate as corporations and are regulated by the California Department of Corporations. Maxicare is regulated as an insurance company in all other states in which it operates.

On Thursday, when Maxicare filed for protection from creditors under Chapter 11 of the U.S. Bankruptcy Code, it conceded that the plan operating in Wisconsin is an insurance company. By filing petitions in federal Bankruptcy Court in Santa Ana for all other subsidiaries, Maxicare automatically prevented state regulators from taking any initial action to protect members and creditors in their states, said John E. Washburn, director of the Illinois Department of Insurance.

He said he “will be moving quickly” to have Maxicare Health Plans of the Midwest Inc. dismissed from the California proceedings. The company includes Maxicare’s plans in Illinois, Ohio and Indiana. Rector said Ohio and Indiana officials agreed that Illinois would take action on behalf of all three. Indiana officials couldn’t be reached for comment Friday.

Maxicare Midwest has 260,000 to 300,000 members and lost about $9 million in 1988, according to reports filed with the state of Illinois. According to the bankruptcy petition, the company has assets of $237.3 million and liabilities of $83.7 million. However, according to the unaudited report on file in Illinois, the company has a net worth of $15.5 million.

The states do not want to liquidate the plans, Rector said, but are acting to gain some control over what happens to creditors and members in their states because Maxicare Midwest “has been working fairly smoothly” under the states’ direction. He said Ohio had sponsored meetings between Maxicare officials and hospitals and doctors who are owed money by Maxicare Midwest.

$1.5-Million Debt

Maxicare Midwest “was very close to reaching an agreement with most of the providers” when the bankruptcy petition was filed, he said. “The problem had been very close to being resolved under state direction.”

Rector said all of Maxicare’s providers in Ohio were willing to await the results of negotiations except Cleveland’s University Hospital, which sued Maxicare Midwest and the parent company for a $1.5-million past due debt. University Hospital said it sued because for months it couldn’t get a definitive answer to the question of when it would be paid.

During meetings sponsored by Illinois and Ohio regulators, “Maxicare representatives indicated that even under the best of circumstances under current operations, Maxicare would not be able to pay off its backlog of claims for several years,” Gerald Haggerty, the hospital’s chief financial officer, said after the suit was filed on March 1.

Pomona Valley Hospital and Medical Center has also filed suit in Los Angles Superior Court in an attempt to collect about $1.6 million owed by Maxicare’s Family Health Services Inc. of Orange. Maxicare said last week that it would shut down that unit, known as General Med, at the end of the month.

Washburn said Illinois had been working closely with Maxicare’s management in an attempt to resolve the company’s financial problems “and had no prior indication” that Maxicare would file for Chapter 11 protection.

The federal bankruptcy code states that domestic insurance companies, savings and loans, and certain other financial institutions are not eligible to file under Chapter 11. A Maxicare spokesman said company officials have been assured by its bankruptcy lawyers that the Illinois, Indiana and Ohio plans are not insurance companies “for the purpose of bankruptcy law. We are confident that we will prevail in federal court.”

However, in its report to the Securities and Exchange Commission for the third quarter of 1988, Maxicare said it didn’t expect to be able to use Chapter 11 to protect most of its subsidiaries from provider claims. Except for California, “all the company’s principal subsidiaries are regulated as insurers, and state law would preempt the federal bankruptcy code insofar as such subsidiaries are concerned,” it said in the filing.

No Explanation

State insurance regulations are designed primarily to protect members and health-care providers, the report said. “The bankruptcy of (Maxicare) could therefore result in liquidation of the plans at the state level in order to satisfy claims of members and providers without providing value to securities holders or general creditors.”

A Maxicare spokesman said he couldn’t explain the company’s current position in light of the SEC filing. Company officers couldn’t be reached.

Daniel C. Menteer, a San Diego attorney who is chairman of the State Bar of California’s bankruptcy committee, said the Maxicare plans aren’t necessarily insurance concerns “merely because the states are regulating them like an insurance company.” A federal court, which will ultimately decide the question if the states pursue their claims, might take the position that the companies are insurance companies if the states say they are, he said. However, the court is more likely to examine the details of how the companies operate, he added.

Michael S. McManus, a Sacramento attorney who is vice chairman of the Bar’s bankruptcy committee, said that in the past the courts have generally looked at the state’s classification of the company, whether the company is governed by clear state regulations covering insurance companies and whether it operates in a public or quasi-public manner like insurance companies.