Aetna 2008 Annual Report Download - page 23

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CRITICAL ACCOUNTING ESTIMATES
We prepare our consolidated financial statements in accordance with GAAP. The application of GAAP requires
management to make estimates and assumptions that affect our consolidated financial statements and related notes.
The accounting estimates described below are those we consider critical in preparing our consolidated financial
statements. We use information available to us at the time the estimates are made; however, as described below,
these estimates could change materially if different information or assumptions were used. Also, these estimates
may not ultimately reflect the actual amounts of the final transactions that occur.
Health Care Costs Payable
Health care costs payable include estimates of the ultimate cost of claims that have been incurred but not yet reported
to us and of those which have been reported to us but not yet paid (collectively “IBNR”). At December 31, 2008 and
2007, our IBNR reserves represented approximately 86% and 80%, respectively, of total health care costs payable.
The remainder of health care costs payable is primarily comprised of pharmacy and capitation payables and accruals
for state assessments. We develop our IBNR estimates using actuarial principles and assumptions that consider
numerous factors. Of those factors, we consider the analysis of historical and projected claim payment patterns
(including claims submission and processing patterns) and the assumed health care cost trend rate to be the most
critical assumptions. In developing our estimate of health care costs payable, we consistently apply these actuarial
principles and assumptions each period, with consideration to the variability of related factors.
We analyze historical claim payment patterns by comparing claim incurred dates (i.e., the date services were
provided) to claim payment dates to estimate “completion factors.” We estimate completion factors by aggregating
claim data based on the month of service and month of claim payment and estimating the percentage of claims
incurred for a given month that are complete by each month thereafter. For any given month, substantially all claims
are paid within six months of the date of service, but it can take up to 48 months or longer before all of the claims are
completely resolved and paid. These historically derived completion factors are then applied to claims paid through
the financial statement date to estimate the ultimate claim cost for a given month’ s incurred claim activity. The
difference between the estimated ultimate claim cost and the claims paid through the financial statement date
represents our estimate of claims remaining to be paid as of the financial statement date and is included in our health
care costs payable.
We use completion factors predominantly to estimate reserves for claims with claim incurred dates greater than three
months prior to the financial statement date. The completion factors we use reflect judgments and possible
adjustments based on data such as claim inventory levels, claim submission and processing patterns and, to a lesser
extent, other factors such as changes in health care cost trend rates, changes in membership and product mix. If
claims are submitted or processed on a faster (slower) pace than prior periods, the actual claims may be more (less)
complete than originally estimated using our completion factors, which may result in reserves that are higher (lower)
than the ultimate cost of claims.
Because claims incurred within three months prior to the financial statement date have less activity (i.e., a large
portion of health care claims are not submitted to us and/or processed until after the end of the quarter in which
services are rendered by providers to our members), estimates of the ultimate cost of claims incurred for these
months are not based primarily on the historically derived completion factors. Rather, the estimates for these months
also reflect increased emphasis on the assumed health care cost trend rate, which may be influenced by seasonal
patterns, and changes in membership and product mix.
Our health care cost trend rate is affected by changes in per member utilization of medical services as well as
changes in the unit cost of such services. Many factors influence the health care cost trend rate, including our ability
to manage health care costs through underwriting criteria, product design, negotiation of favorable provider contracts
and medical management programs. The aging of the population and other demographic characteristics, advances in
medical technology and other factors continue to contribute to rising per member utilization and unit costs. Changes
in health care practices, inflation, new technologies, increases in the cost of prescription drugs, direct-to-consumer
marketing by pharmaceutical companies, clusters of high cost cases, changes in the regulatory environment, health
care provider or member fraud and numerous other factors also contribute to the cost of health care and our health
care cost trend rate.