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Modern Healthcare

Meet the new WellPoint;

Providers wonder how they and their patients will have to change to cope with the biggest managed-care merger to date.

by Laura Benko
November 3, 2003

The financial outlook for Martha Jefferson Hospital in Charlottesville, Va., took on a decidedly cloudy cast last week but not of its own doing.

In a single day, the 143-bed, not-for-profit facility was rocked by news of two major managed-care mergers that not only threaten to diminish its contracting clout but also stand to vastly transform its current health plan agreements.

In the bigger of the announcements, Indianapolis-based Anthem agreed to acquire rival WellPoint Health Networks in a deal initially valued at $16.4 billion. The merger would create the nation's largest health insurer and bring Blues plans in 13 states under the control of a single for-profit to be called WellPoint Inc. In the other, current industry leader UnitedHealth Group agreed to pay $2.95 billion for Mid Atlantic Medical Services, Rockville, Md., in a bid to gain market dominance over the fast-growing Eastern seaboard. Martha Jefferson contracts with both Anthem and Mid Atlantic.

Like several other hospitals, Martha Jefferson fears that the colossal insurers could try to recoup their enormous merger costs by ultimately boosting premiums, dropping services or cutting payments to providers. The announcements come at a time when providers already are facing soaring medical malpractice premiums, rising numbers of uninsured patients and lower government reimbursement.

''The march toward fewer and fewer health plans does not bode well for providers, employers or patients,'' said Martha Jefferson's chief operating officer, Elliot Kuida. ''As these insurers continue to gain strength, particularly on a national scale, I think it will prove detrimental to our
healthcare system.''

Kuida expects to feel the most immediate impact from UnitedHealth's purchase of Mid Atlantic, which would triple the Minneapolis-based insurer's Virginia membership to about 304,000. Until now, Martha Jefferson has avoided contracting directly with UnitedHealth because of its ''reputation as a very difficult insurer to work with,'' Kuida said.

But now, Kuida fears that UnitedHealth will not only push for lower reimbursement rates but also will require Martha Jefferson to take part in Mid Atlantic's HMO. The hospital, which now contracts with the health plan's PPO, has refused to join Mid Atlantic's HMO network because of its ''onerous'' preauthorization requirements designed to limit utilization and costs, he said.

As a double whammy, Kuida also fears Anthem could use its increased size to further tighten its grip on local providers. Martha Jefferson already is struggling to renegotiate its contract with the company, which acquired the state's largest insurer, Richmond, Va.-based Trigon Healthcare, for $4 billion last August.

"Anthem is already the proverbial 800-pound gorilla in Virginia,'' he said. ''With the added financial strength of WellPoint behind them, the insurer is sure to bring a tremendous amount of muscle to the negotiating table.''

A joining of giants

An Anthem-WellPoint merger would certainly create a force to be reckoned with.

Both Blues giants have enjoyed explosive growth thanks to acquisitions, double-digit premium increases and the recent easing in the breakneck speed of medical cost inflation. Last week, WellPoint reported a 17% jump in third-quarter net income to $246.2 million, or $1.63 per share. Revenue rose 12% to $5.05 billion. Anthem's net profits jumped 15% over the same period to $196.5 million, or $1.38 per share. Its revenue rose 19% to $4.26 billion. Both insurers boosted their full-year earnings guidance, Anthem for the fourth time this year.

Combined, the new company would have total assets of more than $27 billion and cover 26 million members from California to Maine--roughly one out of every 11 Americans. If completed, the deal would be, far and away, the largest managed-care merger in at least seven years (See chart).

Analysts, though, said the deal won't have much impact on providers, largely because the two insurers don't compete in any markets. Anthem operates Blues plans in Colorado, Connecticut, Indiana, Kentucky, Maine, Nevada, New Hampshire, Ohio and Virginia. WellPoint runs Blues plans in California, Georgia, Missouri and Wisconsin.

According to Shellie Stoddard, senior healthcare analyst at Standard & Poor's, New York, the merger is intended to strengthen the insurers' ability to compete for national accounts, not to bolster their contracting clout in local markets. ''It's really about becoming more of a national player,'' on the scale of an Aetna, Cigna Corp. or UnitedHealth, Stoddard said.

UnitedHealth's planned acquisition of 2 million-member Mid Atlantic, however, is quite a different story, Stoddard said. That's because the two insurers already compete head-to-head in Mid Atlantic's key markets--Delaware, the District of Columbia, Maryland, northern North Carolina, southeastern Pennsylvania, Virginia and West Virginia. Their merger would create a 3.5 million-member insurer with a dominant share of the mid-Atlantic region--home to 300 Fortune 500 companies, only one of which UnitedHealth currently serves, company officials said.

George Dawson, president and chief executive officer of two-hospital Centra Health in Lynchburg, Va., is taking a wait-and-see approach to the Anthem deal. ''It's too early to tell what will happen when Trigon (Anthem's Virginia unit) flips hands again,'' he said, adding that Centra recently hammered out a ''satisfactory'' contract with the insurer. ''The concern is that the 20% premium
Anthem paid (for WellPoint) will have to be offset in their cost structure somehow. And history has shown that such consolidations have put increased pressure on providers.''

Meanwhile, officials at Fishersville, Va.-based Augusta Health Care, which also contracts with Anthem, say they are more worried about how the merger will affect the hospital's ability to buy coverage for its employees. While the 167-bed rural hospital's reimbursement rates have remained ''consistent with the industry'' over the years, the cost of covering its 1,500 employees has soared as local carriers have continued to merge, said Augusta President and CEO Dick Graham. Health benefits now account for 30% of the facility's cash payroll.

''It's probably heresy for me to say this, but I think the merger will impact us more as a purchaser of health benefits than as a provider of healthcare services,'' Graham said.

For their part, Anthem and WellPoint have said the merger will benefit clients, patients and providers by bringing greater efficiency and standardization to the healthcare industry.

Both companies, for example, are pioneers of ''pay for performance,'' inwhich doctors and hospitals are reimbursed based on the quality of the medical care they provide (June 9, p. 28). Combined, the companies will be able to take these efforts to a new, national level, some providers say.

''The merged company will have access to an enormous amount of healthcare data from at least 13 states,'' said R. Edward Howell, vice president and CEO of the University of Virginia Health System, Charlottesville. ''There's great potential for them to drive the quality agenda. The question is whether they will.''

Merger of equals

Although Anthem technically is acquiring WellPoint, the deal appears to be a well-crafted merger of equals. The Anthem name will be phased out in favor of WellPoint, while the headquarters will move from WellPoint's hometown of Thousand Oaks, Calif., to lower-cost Indianapolis. Some analysts speculate that another reason behind the arrangement is that WellPoint Chairman and CEO Leonard Schaeffer may have other long-term plans.

Anthem Chairman, President and CEO Larry Glasscock will serve as president and CEO of the new company, while Schaeffer, who has headed WellPoint since1986, will remain as chairman. The new company's 20-member board will consist of 12 directors from Anthem and eight from WellPoint.

The deal is expected to close in mid-2004, pending approval from state and federal regulators, as well as company shareholders and the Blue Cross and Blue Shield Association. But the insurers could face some challenges along the way, not the least of which is one being waged by the Foundation for Taxpayer & Consumer Rights.

The Santa Monica, Calif.-based consumer advocacy group last week called on state regulators and the Federal Trade Commission to investigate the merger on the grounds that it would unfairly enrich executives at the expense of members. According to Securities and Exchange Commission filings, Schaeffer stands to receive a total of $335 million--including $118 million in cash and 3.3 million WellPoint shares--upon completion of the deal.

''When an HMO CEO is handed a third of a billion dollars, patients will get shortchanged because there is less money for medical care,'' said Jerry Flanagan, an advocate at the foundation.

A similar investigation helped derail WellPoint's planned $1.37 billion acquisition and conversion of not-for-profit CareFirst, Owings Mills, Md., earlier this year. Maryland regulators blocked the deal after determining, among other things, that CareFirst CEO William Jews stood to receive $39.4 million as part of the transaction.

Most industry observers, however, expect the merger to be approved with relative ease, largely because both companies are already for-profit.

''I don't think there are any insurmountable antitrust hurdles, and there's no question about the proper use of charitable assets, as with CareFirst,'' said Robert McCann, former vice president and associate general counsel of the American Hospital Association. As for Schaeffer's compensation, ''These kinds of bonuses, as exorbitant as they may seem, are very common among large, publicly traded companies.''

Nor has the Blue Cross and Blue Shield Association raised any red flags. ''As long as they maintain the quality standards and financial stability required under the Blues trademark, we don't foresee any problems,'' said Brian Crawford, spokesman for the Chicago-based trade group.

An industry evolution

By all accounts, the Anthem-WellPoint merger underscores the rapidly changing culture of the insurance industry, particularly within the Blues, a traditionally not-for-profit group of local plans created during the Depression to serve as the insurer of last resort.

''As more plans have become for-profit, WellPoint and Anthem have come to symbolize the overlay of large corporate culture on the traditionally community-minded Blues,'' McCann said.

The Blue Cross and Blue Shield Association opened the proverbial Pandora's box in 1993 when it allowed WellPoint, then known as Blue Cross of California, to go for-profit in an initial public offering. Since then, more than a dozen Blues plans have followed suit, and virtually all of them have been snapped up by WellPoint or Anthem.

''The Blues were supposed to be there when the Aetnas weren't there to provide coverage, but that mission has essentially gone out the window,'' McCann said, adding that an Anthem-WellPoint merger would bring nearly 28% of all Blues beneficiaries under the umbrella of a single publicly traded company. These days, ''Blues plans see themselves as any other insurer and not as a community resource.''

Analysts speculate that Anthem and WellPoint decided to merge now largely because their pool of potential acquisition targets is quickly drying up amid growing opposition to Blues-plan conversions.

In August, the Kansas Supreme Court unanimously upheld a regulatory decision blocking Anthem's planned $190 million acquisition of Blue Cross and Blue Shield of Kansas. And Blues plans in North Carolina and New Jersey abandoned their conversion plans in recent months, citing an unfavorable regulatory environment.

Analysts expect further consolidation among the remaining 40 Blues plans that are not publicly traded. But it's also likely that, given the CareFirst setback, future acquisitions will not take place until the Blues plans convert to for-profit status on their own, perhaps operating for a few years as a for-profit before a sale.

Mountlake Terrace, Wash.-based Premera Blue Cross still is pursuing its for-profit conversion, but intense opposition by consumer groups and recent concerns raised by regulators have made the transaction anything but certain. Meanwhile, the only other for-profit Blues plan, New York-based WellChoice, has said it plans to remain independent for the foreseeable future and has adopted
protections against a hostile takeover.

''Anthem and WellPoint may very well have said, 'Our most immediate opportunities to expand (via Blues-plan acquisitions) are being sealed off, so our best chance to grow right now is to merge,' '' said Ed Fishman, a principal with Cain Bros. in New York.

The companies began seriously discussing the merger only a month ago, after WellPoint completed its $906 million acquisition of Milwaukee-based Cobalt Corp., parent of Blue Cross and Blue Shield United of Wisconsin. ''There has always been the idea that these two companies could come together and make an even stronger one,'' Schaeffer told analysts last week. ''And after the Cobalt deal, Larry and I had a chance to discuss that, and it turned out that we both believed this was by far the best future option for both of our companies.''

The companies said they expect the deal to generate pretax cost savings of $50 million next year, about $175 million in 2005 and at least $250 million each year after that.

Non-Blues acquisition

Meanwhile, the new company likely will continue to make smaller, non-Blues acquisitions -- perhaps provider-owned plans -- to strengthen its position in specific markets. WellPoint's Unicare subsidiary, for instance, acquired 650,000-member MethodistCare from five-hospital Methodist Health Care System last year to gain a foothold in the Houston market.

Last week's acquisition spree also could fuel further industry consolidation, though few see another mega-merger on the immediate horizon. Most of the activity is expected to be concentrated among midsize insurers that want to protect their prized regional accounts from larger, multistate rivals. Small, local plans also will likely join forces to keep from being driven out of their markets by stronger, out-of-state competitors.

Hospitals and doctors, however, fear that continued consolidation will slash competition among health plans and leave too much power in the hands of a few industry Goliaths. Last week, the American Medical Association reiterated its call for the FTC to investigate insurance mergers, which it says provide no consumer benefit.

Recent merger activity ''should raise concerns that the country is headed toward a healthcare system dominated by a few publicly traded companies that operate primarily in the interest of shareholders,'' AMA President Donald Palmisano said in a statement. ''Ironically, these expenditures come at a time when insurance premiums are rising, adding to the number of uninsured,'' he said.
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