Blaming Babies
[Tim Armstrong, the chief executive officer of AOL] explained it this way:
“We had two AOL-ers that had distressed babies that were born that we paid a million dollars each to make sure those babies were OK in general. And those are the things that add up into our benefits cost. So when we had the final decision about what benefits to cut because of the increased health care costs, we made the decision, and I made the decision, to basically change the 401(k) plan.”
A mother described one of her babies:
She weighed 1 pound, 9 ounces. Her skin was reddish-purple, bloody and bruised all over. One doctor, visibly shaken, described it as “gelatinous.” I couldn’t hold my daughter or nurse her or hear her cries, which were silenced by the ventilator. Without it, she couldn’t breathe.
Only a few years ago this baby would have died. Almost anywhere else in the world this baby would be dead. But AOL spent $1 million to keep her alive. And the mother is offended over the discussion:
All of which made the implication from Armstrong that the saving of her life was an extravagant option, an oversize burden on the company bottom line, feel like a cruel violation, no less brutal for the ludicrousness of his contention. (Dallas Morning News)
What do you think?
Of course the CEO blames a baby for his company’s financial woes. Using them as a justification for cost cutting is throwing his employees under the bus.
Its understandable to blame Obamacare because everyone is experiencing those cut backs, but then you throw “distressed babies” in there, that is going too far.
So I wonder if he would have felt better if he didn’t provide that kind of health coverage for his employees, knowing they could lose a child.
Tim Armstrong is not in the business of saving babies. He’s in the business of motivating productive employees to further his stockholders’ interests. He offers medical protection for employees and their families because employees are willing to forgo some of their wages in return for health coverage. He also does this because federal law now requires it. But there are limits to how much wages employees are willing to forgo in return for medical protection. Armstrong was saying (even though he probably doesn’t know it) that the decision about how much medical protection workers are willing to pay for was taken from them and he had to make the decision to cut their pension benefits because the federal health care law required him to provide unlimited medical benefits that workers have to pay for.
“Let’s set aside the fact that Armstrong — who took home $12 million in pay in 2012 — felt the need to announce a cut in employee benefits on the very day that he touted the best quarterly earnings in years.”
If costs were that high, he could cut his salary. Steve Jobs only took $1 a year from Apple after he made his fortune.
You can’t compare Jobs’ Apple to the situation of Armstrong. Jobs only took 1 million in pay because he was a major stockholder of the company, so he would get the money out that way. Also, Jobs was the founder and it was his accomplishments the better numbers the company reported. Armstrong on the other hand is an employee. He wasn’t the founder of the company, he is not a major stockholder, and he was hired to turn AOL around. Also if you check the salary it is the same 1 million, it is in compensation that he earned the big chunk of money, just as Jobs did. So don’t say that this decision is inconsiderate, he was making a decision in the best interest of the company (something that it is included in his job description!). He made a mistake of giving a specific example? Yes, but this doesn’t mean that his intention (changing the 401(k)s) was not in the company’s best intentions.
Let’s emphasize, AFTER he made his fortune. Jobs net worth is vastly higher than Armstrong’s.
Let me add that Armstrong’s salary and AOL’s earnings should have little bearing on employee compensation and dependent coverage.
If the company is earning tons of money. And if the current workers are hard to replace, then he should pay them well and do whatever it takes to retain them. But, whether or not the company earns money, workers that can easily be replaced; and those who cost the company far more than they produce should not necessarily be given a free ride. His company had no choice but to spend $2 million on two babies — that will contribute very little to AOL’s bottom line. That money didn’t benefit AOL or its stockholders. It benefited a very small segment of AOL’s workers (probably just two).
I don’t think Armstrong was blaming the baby; he was blaming the benefits in general that the company offered to its employees. In general AOL’s benefit plans was hurting the company’s number, it was an unsustainable expense. If they didn’t act now the company probably would have to do it later on or risk the company’s success. Armstrong’s mistake was describing a specific situation. If he just stated the numbers, the company spent X million dollars in health claims last fiscal year, an unsustainable figure for our company, he wouldn’t have been under the spotlight and “forced” to retract. The company will have to change its employees 401(k)’s in the future, that is the only way the company would be able to continue its existence.
When I read this my knee jerk reaction was… Wow! Is AOL still around?
My second reaction was… Why didn’t AOL have reinsurance for any claim costing more than $100,000?
But, at the risk of sounding insensitive, I have to agree with Tim Armstrong’s (implied) assessment that AOL’s expense was excessive.
Prior to the PPACA, insurers and employer plans could have limited benefits to some arbitrary level. For example, an insurer would be free to sell policies that paid 80% of all medical costs between $5,000 to $500,000 and nothing above. That type of coverage would be affordable for most people. It would also protect 99.999% of the population from catastrophic illness. But, under the PPACA, health plans have to cover the other 0.001% that run up $1 million medical bills.
Since Tim Armstrong doesn’t have the option of cutting back on the employee health plan to compensate for Million Dollar Babies, he did the next best thing. He cut back on employee retirement contributions to compensate for the occasional million dollar baby (and those workers with $500,000 health problems).
The bottom line: Employee health benefits are not free. We all pay for them. In this case, AOL and its employees collectively paid $2 million for 2 babies that would not have survived had they been born anywhere else in the world. The author of the article implied that Tim Armstrong should feel bad about making these comparisons. He shouldn’t. The people who should feel bad are AOL employees who now are suffering because of a costly health care law that forced the entire workforce to collectively pay for outliers.
Completely agree. If the company continued to have those excessive costs in health care, soon AOL wouldn’t be there to either provide healthcare insurance or contributions to employees. It is in the long term interest of AOL’s employees to support the change, and if they don’t like the new compensation plan they are free to seek another employer that offers compensation plans that suits their needs.
Capping the health plan at $500K wouldn’t make for a very competitive benefits package, from a recruiting standpoint. But, as you say, they could have opted for reinsurance. At this point AOL probably needs to start thinking about purchasing a small- or mid-sized plan anyway.
As for cutting back on retirement contributions, perhaps it would make more sense to cut back on taxable compensation.
Capping the health plan at $500K wouldn’t make for a very competitive benefits package, from a recruiting standpoint…
Although I agree it’s common to ask if a potential employer has a health plan, I doubt if most applicants ask what the health plan limits are. I certainly wouldn’t. I wonder if an employer could offer additional coverage to workers to cover medical bills exceeding $500,000. I cannot imagine that such coverage would cost very much.
The premature baby cases are typically among the most expensive within the commercially insured population under age 65. The most expensive typically involve multiple births that may need months of intensive care and numerous surgeries for each child. At the same time, most employees don’t have a clue about how much their employer is paying for health insurance on their behalf. The provision in the ACA requiring employers to disclose this information on W-2 forms attempts to shed some light on that issue.
Employers would be better served, in my opinion, by moving from defined benefit health insurance to a defined contribution approach like Walgreen Company is doing starting this year. Using a private exchange, WAG’s employees will have a reasonable number of plans to choose from at various benefit and premium levels. The defined contribution amount is presumably enough to pay most of the cost for a decent plan. Moving to a defined contribution brings cost predictability for employers and employees are made fully aware of how much health insurance actually costs. Employees are likely to be more price sensitive under a defined contribution approach and better able to select a health insurance plan that best meets their needs. Both are good things. I also believe this would be a better strategy then AOL’s proposed change to its 401-K plan.
Separately, I think most large self-funded employers don’t buy reinsurance because it’s too expensive. I presume they priced it and opted to take the risk themselves instead.
“I think most large self-funded employers don’t buy reinsurance because it’s too expensive. I presume they priced it and opted to take the risk themselves instead.”
BC, that might be true, but I think it doesn’t fully explain how companies like AOL who choose to take the risk themselves, later find that choice was also too expensive.
My opinion: there’s an almost irresistible temptation for self-funded plan administrators to underestimate the risks they are taking when they self-fund.
I think this temptation affects more than just the decision whether to buy specific stop-loss insurance; it also affects the setting of regular, annual claim budget; the estimate of incurred but unrecorded claims; and a few other lesser financial projections. All of these risks are too often underestimated. I don’t mean to say that self-funding is an unworkable arrangement – only that the real business risks involved are too often overlooked, underestimated, or even ignored.
When managements understand that there might be cash reserves sitting inside a self-funded plan, it’s difficult for them to resist stripping them out for use elsewhere in the business. Even the federal government does this in the insurance plans it manages – Medicare, Medicaid, even Social Security.
I think these circumstances go a long way toward explaining why more administrators don’t buy reinsurance or stop-loss protection for their plans.
btw, I think most people would be surprised what proportion of total claims in a typical group of employees may go to fund “catastrophic” claims. It depends on how one defines catastrophic, but can easily run between 25% and 40% of all claims for the group. Such claims may be infrequent, but they pack a wallop. Put another way, these claims crowd out other spending – which increases the administrator’s need to reduce benefits and / or increase employee contributions, in order to have enough money overall to finance the entire plan.
John,
Thanks for the interesting comments about employers’ underestimation of risks associated with self-funding of health insurance for employees.
At UnitedHealth Group’s annual Investor Day meeting in NYC last December, in response to a question, one of the presenters estimated that self-funding is, on average, 6%-10% cheaper than full risk insurance coverage. The savings relate mainly to exemption from state benefit mandates and state premium taxes, control over reserves, and a few lesser factors.
I’ve also heard experts in the health insurance industry suggest that for most large populations, the top 1% of members will account for 20% of claims costs in a given year and the top 5% will account for 50% of claims. Of course, they are not the same people from one year to the next. So, if a company has 10,000 covered lives and spends an average of $5,000 each on medical claims, total claims would be $50 million. The 100 most expensive members would account for $10 million of claims and the 500 most expensive will account for $25 million of claims. The least expensive 50% or 5,000 covered lives will cost close to nothing, perhaps 4%-5% of claims at most. Even within Medicare, the healthiest 50% of seniors only account for 4% of costs each year.
While I don’t know, my perception is that reinsurance is comparatively expensive even with a fairly high attachment point of $250,000. I suspect that it’s similar to Berkshire Hathaway’s catastrophic coverage business which insures potentially high cost but low probability events. When the rare event actually occurs, Berkshire pays out a lot of money but overall, the business is highly profitable over time because of good risk assessment and disciplined pricing.
BC, I agree that self-funding can be less expensive than insuring – generally in the range and for the reasons you cite (except I’m not sure what “control over reserves” means – if it means the freedom to underestimate liabilities, that’s not a savings).
My previous points relate to plan administrators who yield to the temptation to play games with assumptions because they want self-funding to be less expensive than it is. That might well make self-funding appear even less expensive than it is. But administrators who play this way are often fooling themselves about the risks – and some day that will surely bite them, as it apparently bit AOL.
In your comment, you mention a “fairly high” attachment point of $250,000. In fact $250,000 is not a particularly high attachment point today. That’s because, sadly, the frequency of claims above $250,000 is no longer the small number it once was. Stop loss at that level is expensive, just like any lower-deductible plan costs more than a higher-deductible plan.
If a plan sponsor is large enough in terms of covered persons, there are other strategies they can use to mitigate these risks and still not buy specific stop loss coverage.
For example. Back in the day when I managed a large self-funded plan (more than 20,000 employees), every couple years we would secure specific stop loss proposals with an attachment point of $1 million. We accrued an internal cash reserve equal to 110% of the proposed annual stop-loss premium. This accrual was a component of our monthly company and employee contributions. In other words, we self-funded the entire catastrophic risk, but carried the cash reserve as a buffer for claims over $1 million. In my time there, we dipped into this reserve only once (perhaps not so coincidentally, it was for a preemie).
(btw, back in an even earlier day I was head of underwriting for an insurer that is now one of UnitedHealthGroup’s subsidiaries. In that job, I had the opportunity to work directly with Allianz, the big German reinsurer. Its overall loss ratios for aggregate and specific stop loss coverage differed by a lot. Their aggregate ratio was under 60%. Their specific ratio was over 80%. I usually advised our self-funded customers not to buy aggregate. But I always urged them at least to consider specific, and the fewer employees the customer had, the more I urged them to buy specific.)
Thanks John. That’s very helpful. I knew you worked in the insurance industry but couldn’t remember in what capacity. Perhaps you could provide an estimate of what reinsurance would cost per covered life today at attachment points of $250,000 and $1 million.
Separately, my reference to control over reserves when self-insuring means the ability to earn an investment return on that money. That’s not very relevant today with short term interest rates near zero but it was back in the day when Treasury bill yields were in the mid-single digits.
BC, I retired in 2007 and don’t have access to the market today. I did find one of my old files that shows a few specific stop-loss quotations from 2005 – but unfortunately not the one we actually used. I don’t seem to have kept any info about stop-loss quotes at the $1 million level.
What I have is some summary info from proposals for a $250,000 attachment point; the premiums varied between $12 and $16 per capita. This was for medical only – no Rx. If I were getting a quote today, I would include Rx. The variations reflected different insurance companies, and whether the contract covered incurred claims or just paid claims. Of course, the corresponding premiums for a $1 million attachment point – whatever they were – were substantially less.
We continued to self-fund all claims, but decided in 2005 it was no longer practical for us to finance claims above $1 million per year without the separate reserve as previously described. (Actually, I was only able to persuade my management to make that decision after we paid out more than $2 million during 2005 for an extremely low birth-weight preemie who, sadly, died after having survived only about 70 days.)
The debate about whether society should spend $1 million or $2 million to save the life of a baby is a difficult topic. Many of these survivors may be unable to even lead a normal life even if they survives. We feel good when we hear about a survivor against all odds. But the costs are real.
Throughout most of our history nearly half of babies born did not survive to see their 5th birthday. Whether we’re talking about animals on the savannah — or humans in earlier times — it was always the young and old who were the most vulnerable. There is a limit to how much society can afford to spend to mitigate that fact.
It is easy to side with the mother; she appeals to feeling and is human nature to feel compassion for her situation. The article, written by the mother, is an emotional piece. Because it heartwarming story, public opinion tend to side with the mother. It is the big, greedy corporation and its multimillionaire CEO against a common mother devastated for her daughter’s condition. The mother is trying to make this story of AOL’s attack on her, but is not. Business is business, and what made sense for the business was to restructure the compensation plan. This doesn’t mean that the corporation is heartless; it means that the company is thinking in the long run. The mother situation is just an example AOL’s CEO used (which he shouldn’t have), to exemplify the humongous costs that they are spending in medical claims.
Armstrong’s point was actually very simple- the compensation of AOL’s employees has to pay for the compensation of AOL’s employees. If the compensation is overweighting towards one particular form of compensation (the mother’s prematurely born daughter), then some other items of employee compensation have to adjust to pay for it.
Armstrong’s mistake was in being so blunt about it, and he should have simply said that in the past year, AOL had to cover some higher health costs that required some adjustment in how benefits are structured. He left himself open to an emotionally laden, but otherwise off-point attack.
We cannot blame for the employer because his or her responsibility is to increase the profit not to provide insurance.
How big is AOL? I do not know the answer, but if they have 10,000 employees whose total comp averages $70,000 each, then their total payroll expense is $700 million a year.
If that is true, then a $1 million claim while disturbing does not call for a readjustment of pensions or massive cutbacks or anything else.
Seems to me that Armstrong is just a jerk.
To make this argument, one has to define at what point is an adjustment necessary? Note, the adjustment actually made is pretty small, too.
‘How big is AOL? I do not know the answer, but . . . ”
Well, gee Bob, you’re sitting at a computer.
I find it hard to believe that AOL did not have stop-loss insurance to pay expenses, say , over $200,000 per person.
Assuming thye did have that type of insurance, and 2 cases happened to be catastrophically expensive, that doesn’t seem to be out of the ordinary considering the number of employees and dependents.
The insurer is supposed to pay for catastrophic expenses.
They should not be surprised they occurred in the form of these 2 cases.
It is only if the incidence of the cases and the magnitude of each loss was more than expected, would stop-loss premiums rise.
Don Levit
Don Levit
Talk about whining!
To give you an idea of how much it costs to insure a fragile newborn like this, when I purchased my individual policy, the company offered a rider to increase the lifetime limit $8 million from $3 million for something like $8.00 per month. The policy would have covered this child, though not the cost of labor and delivery.
An $8 million lifetime limit covers almost every horrible thing one can think of.
If I recall correctly, before Obamacare screwed things up, normal employer policies had limits on lifetime benefits that were on the order of $1 to $3 million a year.
Note to Don Levitt……
it could be that AOL really had stop loss coverage, but Armstrong was so mad at seeing a big claim that he did not understand the minor impact of such a claim.
He may have been just casting around for villains to justify his 401K match decreases.
Some nations that many on the left wish to emulate do exactly what Armstrong did and do not cover cost under certain circumstances that lead to exorbitant costs. What I cannot understand is why those that wish the US to be more like Europe find that what Armstrong did was so terrible when that has the same result seen in many European nations.
There is a bit of hypocrisy in the attitude of the left.
If you don’t want your employer knowing about and judging your medical conditions, then don’t have him pay your medical bills.
This lady should be calling for an end to the government’s distortive tax policies, which have entrenched employer-sponsored coverage.