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Industry Insights

The Outsourcing Universe

  • National

The workers’ compensation insurer is for many the centerpiece of a mature industry. Injury frequency almost constantly declines. Insurers earn modest but fairly steady returns on equity, with little risk of insolvency. Market shares generally do not change much. Careers are largely very predictable.

Within this industry, however, specialized services as an extension of claims management grew since 1990 from about $4 billion in total costs to about $18 billion today. This service universe expanded dramatically and changed repeatedly in products, organization, and leadership. Let’s review this evolution and ask if two decades-plus of growth is coming toward an end.

Medical bill review, case management, subrogation services, transportation, investigation, pharmacy management – the list of specialized services to assist in the direct benefit spend is long. Service sectors go through life cycles of random, fragile experimentation, to a sustainable business model buttressed by regulation, and, sometimes, national consolidation. With annual growth of all specialized services in the 15%-plus level, successful entrepreneurs are highly rewarded by their investors.  

What may appear a straightforward service becomes complicated to deliver. For example, like matryoshka dolls, a direct benefit spend (such as surgeries) requires bill review; inside that, a more specialized review for implants; and then more specialized responses to new state regulation and court decisions.   

Claims payers account for these services as “loss adjustment expenses,” which divide into “unallocated” and “allocated” in the claims file categories. The National Academy of Social Insurance’s annual report on workers' compensation may be the only reliable source for total LAE spending. (Any figures are soft due to differing practices in accounting for a claims-related expense as a direct paid benefit or as one of the classes of allocated expenses.)

Rick Sabetta, a managing principal with Risk Navigation, a claims consultancy, notes as specialized services grew, insurers and third-party administrators began to reposition some costs as “allocated,” with the result that either they, but more likely vendors, could charge their services to the claims file. This step created competitive markets for services and redefined profit planning by claims payers.

Sabetta told me that some insurers sought to improve the bottom line by reducing or completely removing the unallocated factor, even to the point of insurers outsourcing their entire claims operation to TPAs. He said, “It is far less expensive to farm the claims out to the TPA than it is to attract, hire, train and manage a claim staff.” He says that one trade off is that the insurer no longer has control over adjusting quality.  

To an investment banker, the outsourcing universe is an engagingly complex version of a supply chain management exercise given to MBA students. The entrepreneurs compete through superior information technology, superior management talent, and guiding more volume through a scalable structure.  

And, since the 1980s, the supply chain challenge always has reinvented itself into something larger. That’s why the bankers come back often, confident of liquidating their investments in a few years at a profit by selling them to other bankers.

1980s saw the rise of case management, and case management vendors such as Intracorp, CRA, Genex and Corvel start to expand nationally.

The 1990s saw the introduction of bill review firms, with their complicated coding systems. State mandated closed networks started to emerge. So did utilization review. Major state reforms, in Florida in the 1990s and Texas and California in 2004-2005, effectively educated the payer community that it could – and legally had to – commit to using specialized services.

In the 2000s, pharmacy benefit management arrived.  

Regulators rarely demand transparency in the outsourcing universe. For example,  physical therapy is today heavily influenced by proprietary physical rehab networks, but these networks do not share their experience publicly. Pharmacy benefit managers, to be sure, publish about their experience, but only voluntarily.  

This universe of firms that arrange on behalf of claims payers for physical therapy, dental care, translation, Social Security disability awards, etc., arose from a choice claims payers made to outsource. Would Walmart or Home Depot have outsourced management of their supply chain to vendors to anywhere near this extent?

Despite 2014 starting as a banner year for acquisitions and investor turnover, the prospects of double-digit growth in the outsourcing universe may be declining. Frequency of claims continues to decline. There may not be a new major class of claims operations for payers to outsource. Some large states could still lay down new mandates that create service firm demand, such as new utilization review or preferred provider organization rules, but the bigger states have mostly done that already.

I am told that claims payers are adding more top executive and middle level analytical staff to oversee managed care programs, which drove most of the expansion of the outsourcing universe. This will lead to tougher demands on servicing vendors.

The claims community today understands the value of specialized knowledge that may be better to buy than to make or bring in-house. The ecology of workers' compensation claims is a vast archipelago of specialties. One runs all the time into new vendor-promoted ideas for managing workers' comp claims costs all the time.  

In any event, I think we are going to see more of a Walmart culture in how the supply chain is controlled.

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