© 2005 Towers Perrin©Towers Perrin

Status of the Medical Malpractice Marketplace

Jeremy Brigham, FCAS, MAAAJeremy Brigham, FCAS, MAAA

2005 Casualty Loss Reserve Seminar – Boston, MA2005 Casualty Loss Reserve Seminar – Boston, MA

September 13, 2005September 13, 2005

2

Introduction

The Medical Malpractice Environment

Commercial Insurance Market Response

Healthcare Industry Response

Legislative Response

3

Late 1970s Most private insurers exit the market,

causing availability/affordability crisis for health care providers

“Bedpan” mutuals formed Emergence of physician-owned

insurers in response to “availability crisis”

The medical malpractice insurance market hasundergone significant change over the past three decades

1970s 1980s

Mid-1970s Period of “crisis”

Rising claims Inadequate rates

Wage/price control guidelines Stock market falters CA doctors strike

Mid-1980s Period of crisis for health systems

Significant rate increases (20%+)

Reduced reinsurance capacity “Affordability crisis”

Mid-1980s Effort to ease exploding claims cost

Increased diagnostic testing Improved peer review Focus on risk management

Companies consent to claims made Second batch of tort reforms

MarketConditions

Evolution of the Medical Malpractice Insurance Market

Competitive Responses

Late 1970s Initial tort reforms Malpractice frequency/ severity

subsidies

Early 1980s Soft market

conditions Erosion of early

tort reforms

Late 1980s Inflation declines; loss cost trends

ease; frequency declines Second wave of provider-owned

companies emerge to provide needed coverage

Captive formation accelerates RRG/PG legislation passes

4

The medical malpractice insurance market has undergone significant change over the past three decades

1990s 2000 Today

Early – Mid-1990s Low inflationary period Loss cost trends — low and stable Managed care attacks medical cost inflation Prolonged soft market conditions

Late 1990s Period of “crisis”?

Rising claims Inadequate reserves

Managed care backlash

Mid-1990s Flood of companies into the market To compete, prices driven

down/mispricing common

2000 – today Several insurers exit market New capacity emerges Provider-owned companies’ capacity

diminishes and rebounds Accelerated movement toward alternative risk

financing (i.e., captives, self-insurance trusts)

MarketConditions

Competitive Responses

Evolution of the Medical Malpractice Insurance Market

Early-Mid 2000s Low inflationary period Concern over claims “severity” Large rate increases

5

The Medical Malpractice Environment

Claim frequency is generally flat

6

The Medical Malpractice Environment

However, claim severity has been escalating…

7

The Medical Malpractice Environment

…and premiums did not keep upwith claim costs

Total claim costs

Premiums

Rate increases reflect “catch up”

8

Malpractice Jury Awards Began an Upward Spiral in 1998

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003

Year

Me

an

Ju

ry A

wa

rds

($

mill

ion

s)

0.00

0.25

0.50

0.75

1.00

1.25

1.50

1.75

Me

dia

n J

ury

Aw

ard

s (

$m

illio

ns

)

Mean Median

9

Comparison of Large Awards – Top 10

1997

$27,570,327

$23,530,746

$19,275,466

$18,924,000

$15,700,000

$15,317,000

$15,000,000

$14,460,000

$12,381,670

$11,500,000

$173,479,209

2000-2001

$269,000,000

$108,000,000

$100,000,000

$75,000,000

$60,686,150

$49,594,684

$41,444,531

$32,767,410

$31,100,000

$30,000,000

$797,492,775Total

Source: Jury Verdict Research

10

Where are the Most Troubled Claims Occurring?

Radiology – failure to diagnose

OB/GYN

Emergency Medicine

Neurosurgery/Orthopedics

Bariatric surgery

Batch claims

11

Medical Malpractice Awards, 1997-2003

$2,252,645

$975,000 $1,000,000

$687,500 $648,000

$500,000

$0

$500,000

$1,000,000

$1,500,000

$2,000,000

$2,500,000

Childbirth Diagnosis Medication PatientRelationIssues

NonsurgicalTreatment

NegligentSurgery

Source: Jury Verdict Research

12

Variable by Locale

Healthcare is local

Malpractice is local

Chicago, Philadelphia, Miami difficult for everyone

Indiana, Wisconsin, California less difficult

Problems and solutions are different

13

AK

CT

TX

NMAZ

NVUT CO

ORID

WY

MT

WA

KS

NE

SD

ND

LA

OKAR

MS AL

TN

KY

OH

MO

IA

MNWI

IL IN

MI

FL

GA

SC

NC

VAWV

ME

NY MARI

NJ

DEMDDCCA

PA

VTNH

HI

Effective reforms halting crisis *

States showing problem signs

States in crisis

States currently OK

May 2005

© 2004 American Medical Association . All rights reserved. The American Medical Association Crisis Map, while copyrighted, may be reproduced and distributed, without modification, for non-commercial purposes so long as all information and copyright notices are included.Commercial use requires permission.

*In addition to a cap on non-economic damages, Texas voters passed a constitutional amendment.

Source: AON

American’s Medical Liability Crisis: A National View

14

Commercial Market Response

Recap of financial results

Commercial market response

Where are we in the cycle now?

15

General Insurance Industry Trends

Source: A.M. Best, January 2005

16

Medical Malpractice Results

0%

20%

40%

60%

80%

100%

120%

140%

160%

180%

1976

1977

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

Calendar Year

Combined Ratios Investment Gain Operating Ratios

Medical Malpractice Combined Ratios – A.M. Best

Crisis I Crisis IIICrisis II

17

Medical Malpractice Loss Reserve Development

-$150

$50

$250

$450

$650

$850

$1,050

$1,250

$1,450

1994 1995 1996 1997 1998 1999 2000 2001 2002

Coverage Year

Fiscal Year 2000 Fiscal Year 2001Fiscal Year 2002 Fiscal Year 2003

Millions

FavorableDevelopment

Adverse Development

18

Increasing claim severity has affected reinsurers results more adversely than primary carriers

Source: A.M. Best.

0%

25%

50%

75%

100%

125%

150%

175%

200%

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004

Coverage Year

Ceded Loss Ratio Direct Loss Ratio Net Loss Ratio

19

Completely Out of the Market Since 1996

Close to $2 Billion in Displaced Premiums

Many Additional Companies Have Retrenched

PeakCompany Peak Year Year Premium

PIE Mutual 1996 $193,210,000

Physicians Reciprocal Group 2003 $ 203,782,000

Frontier 1997 $ 119,702,000

St. Paul 1996 $ 650,361,000

PHICO 1998 $ 212,486,000

MIIX 1999 $ 241,773,000

Reliance 1998 $ 54,217,000

ROA / DIR 2002 $ 69,965,000

Washington Casualty 2001 $ 28,445,000

Farmers 2002 $ 231,074,000

TOTAL $ 1,950,852,217

Other Capacity Issues

Notable Downgrades/ Exits: Kemper (gone) - Washington Casualty (1Q-03) TVIR - Church Mutual (LTC mkt.) (1Q-03) Princeton - Royal (LTC mkt.) (2Q-03) OHIC - Farmers (Hospitals, phys) (3Q-03) SCPIE - MCIS, Lex (PEL/HMO Re)(3Q-03) APAC - ERC (PEL) (3Q-03) Zurich ERC

Source: A.M. Best Company

21

Top 20 of 1996 - % of Writings at ‘05

Rating of B+ or Less20%

Out of Business or Left Market

39%

Still Writing & B++ or Better

41%

22

New Capacity since 9/11

Carrier

ACE Healthcare

One Beacon

Berkley Medical Excess

Endurance Specialty Ins., Ltd.

AWAC

Arch Capital Group Ltd.

Darwin Professional U/W

Renaissance Re (BDA)

Max Re (BDA)

Beazley Program Inc

Aspen Re

23

Commercial Market Response

Significant price increases coupled with increased deductible levels and self-insured retentions Inner aggregate Swing rated contracts

Restricting terms and conditions: Most “occurrence” business has converted to “claims made”

Carriers imposing specific conditions on the reporting of excess loss and potential excess losses

Tail/extended reporting period (ERP) provisions Collateralization for retentions Risk management More exclusions “Follow form” reinsurance of captives less prevalent

24

The “hard market” may have peaked

After several years of substantial double digit rate increases and better results, many carriers will be seeking only inflationary increases

Price adequacy

Market pressure

Regulatory pressure

Increases in Hospital Professional Liability retention levels seen over the past several years are stabilizing

Due to the recent capacity shortages and the market correction, substantial new capacity has entered the market

Commercial carriers, provider owned carriers, captives, RRGs, other alternative risk vehicles

Tort reform may reduce loss costs

Capacity and program structure options are available in all venues ( even difficult ones)

Strict underwriting is helping providers with strong and proven risk management programs

25

Physician Market

Physician market conditions: Double digit increases still occurring in some markets Sub-standard market the only market for some Significant interest in considering alternative vehicles

Hospitals/Systems trying to help physicians with problem

Channeled programs

Win/Win programs – changing the game!!

26

Healthcare Industry Response

Financing Purchasing less limits Alternative risk financing vehicles

Risk management/quality control initiatives Focusing management’s attention on quality Claims practices changing

— engaging patient at time of incident

— mediation

— fast settlements when liability exists Quality initiatives designed to fix problem areas Specialty focused (OB, ER, etc.) quality programs emerging

27

Alternative Risk FinanceRisk Financing Continuum

Guaranteed Cost

Deductible

Retention

Trust

Captive

RRG

Exchange

HIGH

LOW HIGHFinancial Risk/Complexity

Ad

min

istr

atio

n

RRG Reciprocal

Small hospital

s

Low risk States

Large Hospitals/Systems

High Risk States

Multi-state risks

Group program

Fronting required

For Profit

28

Overview of the Insurance MarketHealthcare Captive Formations

Estimate that 90% of the top 100 healthcare systems own at least one captive

Healthcare Captive Statistics:Active Healthcare Captives at Year-end:

2002 2003 Cayman Islands: 197 212 Bermuda: 110 110+ Vermont: 42 62 Hawaii: 13 15 South Carolina: 7 21

Total 369 430 Healthcare RRGs 37 77*

(Included above) *81% of RRGs formed in 2003 were HC

Sources: CIMA / A.M. Best Captive Reports / Domicile Captive Managers / Risk Retention Reporter

29

Legislative Response – Tort Reform

Federal level: House has passed a tort reform bill with caps similar to MICRA, Senate has not yet voted

Laws affecting medical malpractice have been passed in many states: Texas Florida Ohio Mississippi Arkansas Georgia Others, and more on the way

Impact of tort reform Soft vs. hard cap Will it be upheld? Will plaintiff bar find alternate routes? Before/After