PacifiCare Trying to Heal as Its Shares Drop
As many large HMOs enjoy a year of renewed prosperity, Santa Ana-based PacifiCare Health Systems Inc. can’t seem to turn the corner in the eyes of investors and analysts.
Profit is down. A junk-bond sale flopped. Doctors groups are fuming. Lawsuits are piling up. And the company’s method of paying hospitals has been turned on its head.
“They’re in a much more precarious situation than almost any of their peers,” said analyst David Shove of Prudential Securities, who has a “hold” rating on the stock.
Financial analysts cite two main reasons for PacifiCare’s woes. As the operator of the nation’s largest HMO for Medicare enrollees, PacifiCare is heavily dependent on payments set by regulators and lawmakers. In addition, PacifiCare has been forced to change its business model radically and assume more responsibility for reviewing treatment requests and paying claims. It once delegated that responsibility to hospital systems and physician groups in its network, but many don’t want the job anymore.
Investors have taken note of the problems. PacifiCare’s stock is trading around $15 on Nasdaq, down 73% from a year ago, while the average HMO stock is up about 25% in the same period.
Of the company’s 33 million outstanding shares, about a third have been “shorted”--that is, borrowed and sold by speculators who are betting that the stock price will continue to slide.
PacifiCare President and Chief Executive Howard Phanstiel said his company is making progress on a two-year plan to diversify its product offerings and speed up its claims payment system.
“Today, we’re principally a Medicare HMO,” Phanstiel said in a recent interview. “And we want to evolve from an HMO model to a full-service health insurance company.”
This shift will lead to decreased emphasis on PacifiCare’s 3.7-million-member health maintenance organization in favor of the less-restrictive preferred provider organization, which has 45,000 enrollees. The company also has begun marketing Medicare supplemental products.
PacifiCare’s problems have resulted in a number of well-publicized disappointments, analysts say:
* The HMO was forced to drop a plan to raise nearly $1 billion in capital this summer after a junk-bond sale failed. The firm settled for a one-year extension on its $805-million bank loans and notes, which now come due in January 2003.
* Profit fell 78% in the second quarter and 82% in the first quarter, compared with the same periods in 2000, and the company cut projections by nearly half for the rest of the year.
* The HMO was fined $250,000 this year by the California Department of Managed Health Care for delays in paying doctors and hospitals. Texas regulators also placed PacifiCare under administrative oversight last year for late payments to doctors.
Phanstiel said that despite these stumbles his company remains profitable, unlike its largest rival, Aetna Inc., which is struggling to digest two large acquisitions. Another large insurer, Cigna Corp., also has missed earnings targets but remains profitable.
“This isn’t a question of a company that’s losing money,” he said. “We’re just operating, for the time being, on thinner margins. And we’ve always said it wasn’t a straight line up; it was a stairstep improvement.”
The biggest concern among analysts is the company’s participation in the Medicare HMO program. PacifiCare’s Secure Horizons product covers 1 million of the 5.6 million seniors enrolled in HMOs nationally.
Since 1997, the federal government has slowed the rate of payment increases for HMOs in the Medicare program. Fees to HMOs in urban areas will increase 14% from 1997 through 2002, compared with a 21% increase in government spending for traditional Medicare. Medicare HMOs in rural counties will receive a 49% increase during the period.
Phanstiel said the federal government initially promised to pay Medicare HMOs 95% of the cost of treating an average Medicare patient. But PacifiCare estimates that Medicare pays it only 88% of what it spends on non-HMO Medicare enrollees.
Analysts say they are concerned because the federal government holds the keys to PacifiCare’s fate, a claim Phanstiel says has some merit.
“Unfortunately for PacifiCare, . . . a lot of their ability to implement changes is really out of their control,” said Todd Richter, managing director of Banc of America Securities. “If the government gives them relief, they will look like heroes. If the government doesn’t, the turnaround will take a lot longer.”
Phanstiel said the company is assuming that Medicare will not increase reimbursements this year. It plans to exit a “fairly modest” number of markets Dec. 31 and cut its benefit package in remaining regions. PacifiCare and other HMOs must notify the government of their plans by Sept. 17.
PacifiCare already has stopped taking new members in 42 of the 101 markets in which it operates, but not in Los Angeles, Orange or San Diego counties.
The other major concern is the way PacifiCare pays doctors and hospitals. This started to become an issue in late 1998 when medical groups became insolvent and hospitals posted operating losses.
During the mid-1990s, PacifiCare paid nearly all providers a set fee per patient, called capitation, and the providers were responsible for the cost of patient care in their facilities. If a hospital or medical group had money left over at the end of the year, it logged a profit.
The payment system was the envy of the managed-care industry. PacifiCare paid only a small percentage of claims because the hospital systems and medical groups handled those tasks. And health providers enjoyed the freedom to make decisions without HMO second-guessing.
But by 1999, hospitals and some medical groups had discovered they needed more money. They also had realized they were ill-prepared to handle the financial risk that came with capitated payments. They told PacifiCare they would accept only a set fee for every service performed, which is similar to the traditional indemnity form of insurance.
Getting Claims Payment Under Control
Once PacifiCare began paying individual claims, it was overwhelmed by an avalanche of paperwork. Phanstiel said the company initially couldn’t hire enough staff and purchase enough equipment to pay all claims within the 45-day time frame required by state law. The fines and regulatory actions ensued.
Today the average claim-payment time is less than 10 days, he said. “We think we’ve got a great track record at this point.”
The state’s chief HMO regulator said PacifiCare has improved.
“In some ways I’d say they’re doing better than some other plans,” said Daniel Zingale, director of the California Department of Managed Health Care. “That may be, in part, a response to the corrective action that we took.”
With the claims system under control, the insurer is attempting to restructure its physician network. It recently sent termination letters to medical groups that treat 30,000 to 40,000 local residents.
Many of the terminated groups don’t score well on the company’s quality measures, Phanstiel said, and some don’t provide disease-management programs for patients with diseases such as asthma and diabetes. Also, their patient costs are higher than those of their peers.
“Part of our goal here is to organize the networks that can deliver the best care at a cost people can afford,” he said, adding that Southern California patients have plenty of choices within the HMO network.
What makes this squabble different from others is that health plans are usually on the receiving end of termination letters from doctors, not the other way around.
“The contracting practices that have been put into effect by their contracts people have been pretty appalling,” said Dr. Francesco Federico, CEO of Lakeside Medical Group in Burbank. “They have basically broken all of the goodwill that they’ve built up over the years.”
Another group leader said PacifiCare is the industry tightwad. Because many California physician groups have teetered on the brink of insolvency, money issues loom large in their decisions.
“We’re with eight other health plans,” said Dr. Marvin Kanter, who manages Community Medical Group in the San Fernando Valley. “All of us [the medical groups] have been through the hard times and we’ve come through it by really watching our bottom line. And we don’t want our bottom line to go south again.”
Because many doctors participate in more than one medical group, Phanstiel said no more than 20,000 local PacifiCare members will have to select new doctors. PacifiCare said it does not yet have a list of doctors leaving the network.
Anger at PacifiCare also is shared by members, shareholders and others, who have filed suit against the company. An AIDS treatment foundation claims the HMO is not abiding by a state law that allows patients to see specialists without referrals. Medicare patients accuse the company of delaying care and trying to stall reviews by outside medical experts. And a class-action suit alleges that PacifiCare and other HMOs engage in unfair contracting practices with physicians.
In May, the California Supreme Court ruled against PacifiCare in a case brought by a member of Secure Horizons. The court decided that seniors can sue their Medicare HMOs in state court for damages. PacifiCare is appealing to the U.S. Supreme Court.
Phanstiel said PacifiCare is no different from its competitors. “The industry as a whole is seeing increased litigation as a new genre of plaintiffs’ bar actions has surfaced in the health-care industry,” he said.
Zingale praised PacifiCare for working with regulators to resolve consumer problems more quickly.
When a PacifiCare consumer calls the Department of Managed Health Care with a complaint, a company representative is called promptly to try to address the problem before the consumer hangs up. Previously, regulators wrote letters to insurers and waited for their responses.
Phanstiel defended the care given to AIDS patients and said his company does not delay attempts by seniors to appeal treatment denials. But sometimes, he said, the company makes mistakes.
“In the very rare situations where we didn’t exercise the best procedure or discretion, we’re going to face up to our accountabilities,” Phanstiel said.
