Workers' Compensation: More Changes Ahead
CWCE August, 2000

Today, there are a number of separate and distinct workers' compensation issues that will shape the future. This is the first of two columns in which I will share my thoughts on how the coming changes will effect system stakeholders as they deal with the challenges.

We have experienced enormous turmoil in the workers' compensation field during the last year. Extreme volatility characterized rate increases that have been even more dramatic than those of the early '90s. This dynamic market has been brought about in response to historic highs in underwriting losses and combined ratios. Some carriers have consolidated while others have had their financial ratings downgraded or have been declared insolvent.

From an administrative perspective, we now have a new insurance commissioner. Governor Gray Davis nominated Harry Low, a retired judge from the California Court of Appeal. Low has recently served as an arbitrator hired by corporations and insurance companies to resolve disputes. At press time, he awaited confirmation by the Legislature. Until then, interim commissioner Clark Kelso will continue his duties.

On July 31, 2000, the Workers' Compensation Insurance Rating Bureau (WCIRB) projected ultimate loss ratios for the years 1998 and 1999 at 106% and 111%, respectively. This represents the highest amounts ever recorded by the WCIRB and exceeds earlier projections of 101% and 100%. Based on the revised estimates, the WCIRB also anticipates record high combined ratios of 147% and 149% for 1998 and 1999. Dave Bellusci, the WCIRB chief actuary, states, "If paid losses continue to accelerate at this unprecedented level, I anticipate that the ultimate loss ratios may climb even higher."

At the same time the WCIRB released its summary of statewide insurer results March 31, 2000, it shows that the average insurer rates increased 19%, now reaching their highest level since open rating beginning in 1995. The report also noted a very important factor: Despite all this, rates are still 7% below the improved pure premium increase. It's important to note that pure premium rates do not take into account insurance expenses. Therefore, insurer first quarter rates are 30% less than the estimated cost of benefits and insurer expenses for the year 2000.

As evidenced by this data, the market has certainly hardened, but it has not necessarily created enough profit to make up for the industry's past sins. These come in the form of poor short-term strategic thinking at the expense of long-term stability. Without further significant hardening of the market, California may see further insolvencies and certainly more financial rating downgrades. Further, there's another area of concern with claim reserves. The latest estimate puts the industry's shortfall at $5.5 billion. This is a frighteningly high figure when put into perspective, considering it is nearly a whole year's worth of medical and indemnity costs.

So, the WCIRB is in the process of finalizing the pure premium rate filing for 2001. After an initial 3.1% increase recommendation was made and rejected by the governing body, the revised raise could go as high as 9%. Again, this is pure premium and does not include carrier expenses. The fact that insurers have not been charging enough to cover their costs was given a recent tongue-in-cheek acknowledgement by Edward Woodward, president of the California Workers' Compensation Institute (CWCI), who remarked "If you are faced with rapidly increasing costs, you lower your premium, right?" But even he has lost his sense of humor over the seriousness of rate inadequacy as he evidenced by adding, "It's no longer funny. Every time we get a new quarter's worth of data, it gets worse. We've seen such a rapid escalation in costs that nothing has kept up with it. And it's going to get worse rather than better."

On the legislative front, the question is "Will our elected officials do more harm than good with respect to their efforts to reform the system?" Currently, the legislature is trying to resolve an issue employers have been complaining about since last year. This is a response to a bill proposed by Ellen Corbett (D-San Leandro). AB 435 severely restricts the amount of medical information employers can access after a worker is injured. The new bill, AB 1468, would allow employers to again have access to information in three areas: 1) diagnosis and underlying medical information relevant to a claim, 2) recommended treatment plan and date on which an employee may return to work, and 3) the medical information necessary for the employer to modify the employee's work duties.

Not understanding the full scope of their actions and the ramifications that can occur makes the legislative effort a minefield for the process of effecting positive changes in the workers' compensation system. It appears that for the second year in a row, a bill to increase benefits for the injured worker will not be successful. One of the main points of contention is that not enough consideration is given to established cost-cutting measures within the system. Should the legislature continue its paralysis on such important issues, we may see the discussion put in the hands of the voters in the form of an initiative during the next available election. I don't believe this option is any better.

It is also anticipated that the California Insurance Guarantee Association (CIGA) board is likely to levy a surcharge needed for workers' compensation policies next year (following six years without one). During the review conducted by the Department of Insurance (DOI), it was revealed that the conserved Superior National Insurance Group companies are under-reserved by about $300 million. The maximum allowable premium surcharge likely to be levied as a result is 1% of premium, which currently would result in the collection of approximately $67 million per year. Kemper Insurance Group purchased the renewal rights to the conserved companies' business, and is handling its claims. Insurance carriers that would be forced to pay the surcharge to defray the additional costs have objected to Kemper's earning millions of dollars in profit from its claims adjustment services. As a result, CIGA staff may be called on to adjust Superior National claims in order to avoid the $80 million in charges that Kemper would otherwise be due.

The number of California workers' compensation carriers continues to shrink. Here is an example: After deciding to exit the property and casualty market to focus on group health, Cigna insurance sold its P&C unit to ACE/USA. In turn, ACE spun off the California workers' compensation book to Superior National. Prior to this, Superior National had bought California Compensation. It was subsequently declared insolvent. Then Kemper Insurance purchased the rights to quote Superior's renewal business. Where once there were four companies competing in the workers' compensation market, now there is one.

The top ten carriers of 1999 have been reduced to eight by mid year 2000. Reliance Insurance's deal to sell fell through, and Travelers has gained the right to quote on its renewal book. The loss of these two carriers represents more than 13.5% of market share. Viable options will continue to be reduced as we experience additional insolvencies and further financial rating downgrades. The workers' compensation market is not immune to the laws of supply and demand. As the supply dwindles, rates will increase.

These are the results of a free market economy and it is the winnowing out process of the weaker companies that had been protected under a system that guaranteed exposures were covered prior to deregulation. As the saying goes, "It will get worse before it gets better."

SullivanCurtisMonroe is an insurance brokerage based in Irvine, California that specializes in risk management. It is a member of RiskProNet International, a network of 29 premium regional brokerages. For information, call (949) 250-7172.