Maxicare Benefits From Change in Law : HMO Finds Right Medicine--Profit

In 1972, when the founder of Hawthorne-based Maxicare Health Plans Inc. approached nine doctors about starting a health maintenance organization in Los Angeles, you couldn’t make a dime in the business: California didn’t permit for-profit HMOs.

So Maxicare founder Fred W. Wasserman and his partners set up a nonprofit HMO to offer reduced medical costs by getting patients to prepay a fee and putting doctors and hospitals on a budget. The group toyed with different management techniques to improve its efficiency.

“I didn’t have any idea at all that they might change the law,” Wasserman said. “We just thought that HMOs could provide care more efficiently and at lower cost. . . . The cost of entry was small and, by the second year, we were almost covering our expenses.”

Ready to Go

By the time the law was changed in 1980, Wasserman--a former medical consultant who has a master’s in business administration and a doctorate in public health--was ready to hit the ground running. His was among the first health maintenance organizations in California to be granted for-profit status under the state’s General Nonprofit Corporation Act. And it didn’t take long for Wasserman’s business expertise to pay off.

Maxicare has become the nation’s largest investor-owned HMO, measured by revenue. After posting a $9,000 deficit in its first year as a nonprofit concern, Maxicare last year had net income of $10.7 million on revenue of $316.7 million. During the same period, enrollment soared to 533,000 from fewer than 4,500 as more large employers such as General Motors, TRW and the City of Chicago began offering the plan to workers.

Controlling Interest

Until this month, Maxicare was not the only one benefiting from this tremendous growth.

Los Angeles-based Fremont General Corp., an insurance company that in 1982 owned 94% of the outstanding common stock of Maxicare, held a controlling interest in Maxicare until it sold its remaining 55% stake for about $220 million in February. After the sale of the 8.9 million shares, which netted Fremont an after-tax gain of $135 million, three Fremont directors resigned from Maxicare’s board, leaving Maxicare free to navigate on its own.

It will have plenty of territory to cover while cashing in on America’s leading growth industry--health care--which in 1983 accounted for $355 billion, or 10% of the gross national product, according to the Health Care Financing Administration. The U.S. Chamber of Commerce estimates that employers spend $70 billion each year on health insurance premiums for their workers.

Only a fraction of that market is served by the nation’s more than 200 nonprofit HMOs or 100 for-profit HMOs. Just 13 million people--about 6% of the population--now use HMOs, according to InterStudy, a research firm based in the Minneapolis suburb of Excelsior.

That’s why analysts are generally bullish on large investor-owned HMOs such as Maxicare. It and other for-profit HMOs, such as Nashville-based HealthAmerica Corp. and U.S. Health Care Systems of Blue Bell, Pa., stand to be some of the biggest beneficiaries of recent efforts by government and private industry to impose discipline on the health-care industry.

Cutbacks in the traditional fee-for-service reimbursement system are forcing consumers to pay more for medical services or seek lower-cost alternatives.

“Six years ago an awful lot of employers thought an HMO was an unnecessary complication,” said Roy Gonella, an executive with William Mercer Inc., a Los Angeles-based firm that brokers health-insurance plans to companies. “Now HMOs are a real alternative, and employers are . . . encouraging workers to join.”

Unnecessary Procedures

HMOs are said to be more economical than traditional fee-for-service health insurance, partly because patients don’t pay for every office visit. HMO physicians don’t have an incentive to perform unnecessary procedures because their salary doesn’t depend on the number of patient visits or tests ordered. Whether it’s heart surgery or a Pap smear, treatment usually costs an HMO member very little or nothing at all beyond the monthly membership fee.

Those economies of scale also extend to HMO operators, who, unlike hospitals owners, are not burdened by high costs for equipment and facilities, since those costs are borne by the doctors and hospitals with which an HMO company contracts to provide medical care.

“Maxicare is one of the very strong health-care companies,” said Barbara Santry, a health-industry analyst for Alex. Brown & Sons in Baltimore. “I think the success of (Fremont’s stock) offering indicates that. Last year, Maxicare’s revenue grew at a 61% (annual) rate, and its earnings grew at an 81% rate. I’m forecasting a 54% increase in earnings growth and 56% in revenue growth” in calendar 1985.

Adds James A. McIntyre, president and chief executive of Fremont General and a director of Maxicare: “We think Maxicare’s an excellent company which is very well managed. The reason we sold our stock is . . . (because) our stock price never fully reflected the value of our Maxicare holdings. It was always $5 or $6 (per share) under.” Since it began selling off its Maxicare holdings, Fremont General’s stock price has risen. It has gone up 40% since the end of 1984 alone, McIntyre noted.

Impressive as those numbers might be, Maxicare is run as though it has more in common with high-tech companies in Silicon Valley than with the conservative medical profession.

“Fred’s an innovator,” McIntyre said. “But he’s also a hands-on manager who is deeply involved with his company. He has an uncanny ability to deal with medical care providers (doctors), and his company has an excellent marketing program.”

Walk Right In

Adds David M. Hallis, Maxicare senior vice president: “You can walk right in to (Wasserman’s) office. He’s Fred to everybody; he’s just one of the boys.”

Results are more important than protocol for Wasserman. Maxicare was one of the first HMOs to advertise on television, with an ad that showed a health-insurance claim being ripped up as an announcer intoned that Maxicare “cuts the aggravation out of health care.”

Women executives are as visible as men at Maxicare: Wasserman’s wife, Pamela K. Anderson, who is executive vice president, and Susan D. Squires, regional vice president, are among Maxicare’s six top officials.

“This is a very results-oriented company,” Wasserman emphasized. “Pam Anderson and I have performed every activity in this company all the way from handling (medical) claims to managing finances. All of our people are hands-on managers; no one sits around in an office operating by remote control.”

The attention to detail seems to have worked.

“Although Maxicare’s (premium) costs are higher than a (reimbursement) plan,” Gonella said, “its reputation is pretty good for being a high-quality HMO.”

Crucial to its success is a $2-million computer system.

Determines Eligibility

It spits out analyses of outstanding medical claims every 15 days, determines patient eligibility, does word processing on any of its 700 terminals and generates periodic management and accounting reports, among other things. The computer is an important link in Maxicare’s far-flung network of 125 physician groups in California and nine other states and tracks a complex fee structure that, in part, determines Maxicare’s profitability.

To make money, Maxicare must set its monthly premiums low enough to be competitive with other HMOs and fee-for-service plans offered by employers but high enough to cover its costs of operation.

Monthly premiums now range between $196 and $279 for a family of four, with much of the cost borne by the employer. Maxicare must also keep its members’ hospital-utilization rates low because hospital care is more expensive than care in a doctor’s office.

To accomplish these goals, Maxicare determines the expected costs of physician, hospital, prescription drug and emergency-care services and establishes an annual budget for each geographic area.

The physician group contracting with Maxicare is advanced an amount for each Maxicare enrollee in his geographic area. In simple terms, Wasserman says, those doctors who diagnose problems early and keep their patients out of the hospital reap a budget surplus each month; those that utilize the hospital too often absorb a loss.

Maxicare’s utilization review department also keeps an eye on medical costs. It reviews elective surgeries and attempts to arrange for diagnostic and laboratory work to be performed outside the hospital. The department monitors hospital stays and the quality of health care.

“If you get a guy that’s slipshod, it begins to surface,” Wasserman says.

Ordinarily, this second-guessing of physicians would not be welcome in the medical profession, but Wasserman seems to have the magic touch, observers say.

“He has the docs accept him because he understands how to manage their business,” said Hallis. “The doctors like him because he knows their problems. They have a lot of respect for each other.”