VHI members face headaches if trading rules persist

Opinion: Just how much trouble is the Voluntary Health Insurance (VHI) facing? If you believe the latest annual report, published last week, its viability is under grave threat. Why?

As the VHI tells it, its board has decided to curb price increases in the future by running down reserves. This follows the decision (hotly criticised by the VHI) of the Health Insurance Agency (HIA) not to trigger the risk equalisation scheme. Under this scheme, BUPA Ireland would have had to transfer funds to the VHI to redress the higher costs associated with VHI's older patient profile.

And VHI's auditors, Deloitte & Touche, appears to agree about the financial risks ahead. The accounts have not been qualified. But here is the rub: that audit certificate is a mere skin away from a qualification.

Of concern is the amount of provisions being made in the accounts to meet possible future deficits. The auditors, as is their brief, noted the provision of €50.8 million included in the technical provisions (unexpired risk reserve), and the disclosures on this provision, and said that, "in view of the significance of the uncertainties inherent in both the provision and the likelihood of further significant deficits, we consider that these matters should be drawn to your [the VHI board's\] attention".

That may appear mild enough but in auditing parlance it is clearly a pointed warning.

The sceptics might say that the VHI plan (or plot) is to present itself as financially vulnerable as possible so as to get the HIA to take a more favourably view the next time it looks at the figures. How does this stand up?

Certainly, if the trading environment continues as is, and if there is no changed recommendation from the HIA, then VHI will, in time, face enormous financial pressures. And those pressures could start to manifest themselves towards the end of 2006, or in the run-up to the next general election. It could become a big hot potato for the current administration, or the new one.

So what are the realities. The VHI says the latest increase in the unexpired risk reserve is to provide for losses anticipated on contracts up to September 2005 and that the 3 per cent price increase next month will not be enough to provide a surplus in 2005/6. That appears okay but what is disturbing is VHI's exclamation that it has not made provisions for future periods because of uncertainties. Roll on thereafter for the unpalatable uncertainties.

Not surprisingly, the VHI, in a note in the accounts, makes it clear that "losses will arise in an environment where the community-rated funding system is applied across the market in the absence of risk equalisation". It goes on to stress that "such losses would have a severe impact on the financial position of the board, and urgent consideration is being given by the board to the implications of this position".

These gloomy predictions are, ironically, in sharp contrast to the latest results, which show a very strong financial position. So is the VHI excessively negative about the years ahead?

The accounts indicate a very healthy financial position. A few figures back this view. Earned premium income grew by 16.8 per cent to €803 million, claims increased by the lesser amount of 11.5 per cent to €663 million, operating expenses rose by 14.2 per cent to €66.3 million and the net profit after tax expanded by 34 per cent to a whopping €62.3 million. This represented a 7.8 per cent return on premium and this was ahead of the target return of 5 per cent.

The surplus of €23.5 million, VHI says, is being used to absorb medical cost inflation, said to be running at 10 per cent, "by supporting an artificially low price increase of just 3 per cent from September 1st". That increase contrasts with the 8.5 per cent and 18 per cent price increases over the past two years, which helped the VHI to build up reserves.

It is worth noting that the published surpluses in the period 2002-2004 would have been much higher had it not created the unexpired risks reserve. This was treated as a cost before the line. So in 2002 the VHI showed a drop in the surplus from €28.2 million to €14.7 million. But that latter figure was after the payment of €15.3 million into the unexpired risks reserve; so comparing the figures on an operational basis would have indicated a small increase in the surplus rather than the indicated slump. The cynic would be forgiven for concluding that this reserve, which so depleted profits, was designed to dupe the Minister for Health to allow such massive increases.

On a positive note, the general reserves (these are in addition to the unexpired risks reserve) increased by 28.9 per cent to €278 million last year. These are now double the 2000 level. The VHI has been slowly building up its solvency margin, from 28.4 per cent in 2000 to 34.6 per cent now. While this is below its target level of 40 per cent, it is still a very sound position.

Based on these figures, it could opt for modest price increases - around the inflation level - by dipping into reserves for a number of years. Based on 2000's solvency rate it could deplete the reserves by about €50 million. But the crunch will eventually come. VHI says the lower premium increases can only be maintained if the HIA "reverses its decision, is forced to do so by the courts, or if the Government meets the cost of financing community rating".

In an environment of relatively free markets, the latter could be difficult to justify. And if the HIA adopts a different viewpoint, it is likely to be legally resisted by BUPA Ireland. Clearly, in time, VHI members will face a major headache; unsustainable price hikes and/or reduced benefits.

It is a bit ironic that the VHI, which is so committed to community rating (individuals pay the same regardless of age), should discriminate against the elderly in its travel insurance scheme. According to its website, the premium for members (they already have some medical cover under their policies) up to the age of 65 is €49 for an individual, and €69 for a couple. For a member aged over 65 it is €79. At least one other firm quotes the same rate for all those aged up to 75.