Health Net 2001 Annual Report Download - page 22

HEALTH CARE COSTS. A large portion of the revenue we receive is expended to pay the costs
of health care services or supplies delivered to our members. The total health care costs incurred by us
are affected by the number of individual services rendered and the cost of each service. Much of our
premium revenue is set in advance of the actual delivery of services and the related incurring of the
cost, usually on a prospective annual basis. While we attempt to base the premiums we charge at least
in part on our estimate of expected health care costs over the fixed premium period, competition,
regulations and other circumstances may limit our ability to fully base premiums on estimated costs. In
addition, many factors may and often do cause actual health care costs to exceed those costs estimated
and reflected in premiums. These factors may include increased utilization of services, increased cost of
individual services, catastrophes, epidemics, seasonality, new mandated benefits or other regulatory
changes, and insured population characteristics.
The managed health care industry is labor intensive and its profit margin is low. Hence, it is
especially sensitive to inflation. Health care industry costs have been rising annually at rates higher than
the Consumer Price Index. Increases in medical expenses without corresponding increases in premiums
could have a material adverse effect on us.
RESERVES FOR CLAIMS. Our reserves for claims are estimates of future costs based on various
assumptions. The accuracy of these estimates may be affected by external forces such as changes in the
rate of inflation, the regulatory environment, the judicious administration of claims, medical costs and
other factors. Included in the reserves for claims are estimates for the costs of services which have been
incurred but not reported. Estimates are continually monitored and reviewed and, as settlements are
made or estimates adjusted, differences are reflected in current operations. Such estimates are subject
to the impact of changes in the regulatory environment and economic conditions. Given the inherent
variability of such estimates, the actual liability could differ significantly from the amounts reserved.
Moreover, if the assumptions on which the estimates are based prove to be incorrect and reserves are
inadequate to cover our actual experience, our financial condition could be adversely affected.
PHARMACEUTICAL COSTS. The costs of pharmaceutical products and services are increasing
faster than the costs of other medical products and services. Thus, our HMOs face ever higher
pharmaceutical expenses. The inability to manage pharmaceutical costs could have an adverse effect on
our financial condition.
FEDERAL AND STATE LEGISLATION. There are frequently legislative proposals before the
United States Congress and the state legislatures which, if enacted, could materially affect the managed
health care industry and the regulatory environment. Recent financial difficulties of certain health care
service providers and plans and/or continued publicity of the health care industry could alter or
increase legislative consideration of these or additional proposals. These proposals include federal and
state ‘‘patients’ bill of rights’’ legislation and other initiatives which, if enacted, could have significant
adverse effects on our operations. Such measures propose, among other things, to:
• expand health plan exposure to tort and other liability, under federal and/or state law, including
for coverage determinations, provider malpractice and care decisions;
• restrict a health plan’s ability to limit coverage to medically necessary care;
• require third party review of certain care decisions;
• expedite or modify grievance and appeals procedures;
• reduce the reimbursement or payment levels for services provided under government programs
such as Medicare or Medicaid;
• mandate certain benefits and services that could increase costs;
• restrict a health plan’s ability to select and/or terminate providers; and
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