enterprise risk management july 30, 2003 discussion document “meeting objectives, with...
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Enterprise Risk Management
July 30, 2003
Discussion Document
“Meeting objectives, with consistency”
Perspective on ERM
Conceptual framework
ERM issues in the health industry
Overview of methodology and process
Turning risk to advantage
ERM conceptual framework
What is Enterprise Risk Management?
ERM is a rigorous approach to assessing and addressing the risks from all sources that: Threaten the achievement of key enterprise objectives (I.e., financial,
market penetration, customer service) Present opportunities to exploit for competitive advantage
Improving capitalefficiency
Supporting strategic
decision-making
Providing an objective basis for allocating resources
Reducing expenditures on immaterial risks
Exploiting natural hedges and portfolio effects
Uncovering areas of high potential adverse impact on the drivers of stakeholder value
Identifying and exploiting areas of “risk-based advantage”
Building enterprise-owner
confidence
Establishing a process to help stabilize results
Demonstrating proactive risk stewardship
Objective: Enhance enterprise value by...
Minimizing earnings volatility has a significant impact on enterprise value
The effect of earnings volatility can be seen clearly by first stratifying the industry according to return and growth, thereby normalizing those effects
Low Earnings Growth Companies
High Earnings Growth Companies
High Return
Companies
Low Return
Companies
4.905.94
0
2
4
6
8
10
12
High LowEarnings Volatility
Mark
et
Valu
e A
dded
1.39
3.62
0
2
4
6
8
10
12
High LowEarnings Volatility
Mark
et
Valu
e A
dded
6.26
10.14
0
2
4
6
8
10
12
High LowEarnings Volatility
Mark
et
Valu
e A
dded
1.43
4.48
0
2
4
6
8
10
12
High LowEarnings Volatility
Mark
et
Valu
e A
dded
Source: Tillinghast – Towers Perrin analysis of 1989-1998 performance of 86 publicly traded companies in the financial services industry, based on data from Compustat and ValueLine. Details available on request.
ERM issues in the health industry
The risks are real
There are several current and significant sources of unmanaged risk
Court rulings
Consumerism
State and Federal political environment
Compliance with regulations and statutes BBA Medicare HIPPA State regulations
Unmanaged risk and litigation damages MCOs
ReputationReputation Financial Results
Financial Results RelationshipsRelationships SalesSales
Core Business FoundationCore Business Foundation
More than short-term financial impact, this environment strikes at the heart of managedcare, and threatens an MCO’s core business
QualityCare
QualityCare
Overview of methodology and process
Assessment of Organization Capabilities provides focus and priorities for a comprehensive ERM initiative
ILLUSTRATIVE EXAMPLE: PHARMACEUTICAL ORGANIZATION
Better ThanCompetitors
Alignment
Equal tocompetitors
Worse ThanCompetitors
NeededTo Play
NeededTo Compete
NeededTo Win
Perf
orm
an
ce
Importance
Surpluses
Gaps
Budget andOperationsPlanning
ProductConsistency
Technical and ProductSupport
Speed-to-Market
Managed Care Marketing
Cost Leadership
Global Supply/Distribution
Manage Industry Cycles
CustomerResponsiveness
Influence RegulatoryProcess
SustainCustomer
Relationships
Identify risk factors
Prioritize risk factors
Classify high priority risk factors
Quantify impacts
Mitigate
Finance
Analyze opportunities
Develop plan
Implement
Monitor change:- Risk factors- Environment- Organization
Re-enter prior steps as necessary
I. Assess Risk
II. Shape Risk
III. Exploit Risk
IV. Keep Ahead
The ERM approach to risk is straightforward
A more detailed view of risk assessment and shaping
Identify Risk
Factors
Prioritize Risk
Factors
Classify High- Priority Risk Factors
Model and
Quantify Mitigate
Strategic Risk
Factors
Manageable Risk
Factors
Strategic Risk
Factors
Manageable Risk
Factors
Risk Factors
That Can Be
MitigatedResidual
Risk Factors
Finance
Phase II - Shape Risk
Phase I - Assess Risk
When identifying risk factors...
…start with the business, not a checklist of risks
Business
Physical
Legal
PoliticalFinancial
RISKS THE BUSINESS
Market Capital
Infrastructure Capital
Human Capital
Financial
Capital
Business Processe
s
When prioritizing risk factors...
…qualitative scoring is appropriate at this stage
H
H
A. STRATEGY1. Informal planning, process and communications allow surprises 2. Market share and earning objectives are not aligned..
Likelihood
B. GROWTH1. Infrastructure is increasingly strained; will be difficult to retain culture and values with the changes that growth demands
2. Increased size creates more opportunity for mistakes..
C. COMPANY REPUTATION1. Pressure to make numbers may prompt behavior that will impair company’s credibility with financial markets 2. Adverse publicity (e.g., business practices, ethics) can affect image across multiple brands
D. HUMAN RESOURCES... J. SYSTEMS..
SeverityRisk Factors Controls
“NPV” Scale 1 - Low5 - High
H
L
4.5
3.0
L
L
H
M
H
L
4.5
2.0
L
M
M
L
H
H
H
H
3.5
2.5
Known environment
Capabilities and resources on hand to address
Fell between the cracks?
Just get on with it
Unfamiliar territory
Capabilities or resources may not be in place
Major change in market or business
Requires allocation of capital or shift in strategic direction
“Manageable” Risk Factors “Strategic” Risk Factors
…use a scheme that implies action
When classifying risk factors...
When modeling/quantifying risk factors...
Underwriting Risk Financial Risk Distribution Channel Competitor Risk
Business & risk management strategies
Invest Income
Medical & Admin. Expenses
Price
Taxes
Cumulative Policyholder Equity
Net Income
Underwriting G/L
Premium Revenues
Members
Bonds/stocks Subsidiaries
…link to relevantfinancial measures
…strike the appropriate balance
When mitigating risk factors...
Total
Little
Weak StrongRisk CultureRisk Culture
Stifling(excessive control)
Stifling(excessive control)
Gambling(excessive delegation)
Gambling(excessive delegation)
VulnerableVulnerable
Balancedrisk
program
Balancedrisk
program
Strategic RiskAdvantage
Strategic RiskAdvantage
ConventionalRisk Controls
…exploit the “portfolio effect”
When financing risk...
$ LOSS
PR
OB
AB
ILIT
Y
Risk A
Risk A+B
Risk B
If you understand risk, it can be a competitive advantage
Can we manage the risk better than competitors?
Is the risk more dangerous to competitors?
Impact?
High
Low
LowHigh
Predictability?
Have the capabilities to handle it?
No
Yes
NoYes
Understand the risk?
US
THEM
THEM
THEM
US
THEM
THEM
THEM
Two strategic questions:
Turning risk to advantage
Applying ERM to Health Plans
Where does risk reside?
Organization and strategy
Marketing, sales and customer service
Medical/Clinical
People andPerformanceManagement
Operations Finance
Cases to date have focused on these four areas Cases to date have focused on these four areas
While each MCO is unique, the basic business functions create a framework for mapping actionable risks
Risk management happens through leadership and peopleRisk management happens through leadership and people
Risk Types
Point-of-Sale(Misleading Sales Practices)
Point-of-Sale(Misleading Sales Practices)
Financial incentives Undisclosed care management
decision (doctors, vs. nurses and other)
Discrimination Unfair trade practices
Financial incentives Undisclosed care management
decision (doctors, vs. nurses and other)
Discrimination Unfair trade practices
Point-of-Service(Quality of Service)
Point-of-Service(Quality of Service)
Adverse medical outcomes due to negligence (medical malpractice)
Inflated reimbursements recoveries
Discrimination in peer review/ratings of doctors
Adverse medical outcomes due to negligence (medical malpractice)
Inflated reimbursements recoveries
Discrimination in peer review/ratings of doctors
Managed Care(Quantity of Service)
Managed Care(Quantity of Service)
Harmful cost saving protocols Breach of fiduciary responsibility
(economic gain) Application of inconsistent
protocols Improper denial of benefits
Harmful cost saving protocols Breach of fiduciary responsibility
(economic gain) Application of inconsistent
protocols Improper denial of benefits
Physician LawsuitsPhysician Lawsuits
Financial ruin due to “fraudulent” representations of financial risk
Interference with care Slow pay Discrimination/exclusion from
panel
Financial ruin due to “fraudulent” representations of financial risk
Interference with care Slow pay Discrimination/exclusion from
panel
Summons
The risk is compounded by the tension created when mitigating one risk potentially exacerbates another
Lack of direction Lack of clarity Lack of consensus and
consistency
Whistleblower Discrimination Consistency
An illustrative risk map
Appropriateness of capitation models
Business Function
Summons
Point-of-Sale Point-of-Service Managed Care Physician Litigation
Accuracy of provider membership information
Accuracy of policy/ coverage documents
Consistent application of policy restrictions and exclusions
Effective use of data to assess quality, improve operations
Value-added administrative requirements
Operations
Fairness of pricing Regulatory compliance
Deductibles, co-pays and coordination of benefit provisions applied correctly
Fair risk pools Prompt, accurate
reimbursement
Finance
Accuracy of disclosures
Fairness of sales practices
Quality of customer service responsiveness
Fair/Equitable exclusion from network
Access to emergency care
Access to specialists
Quality of network management
Data-driven utilization management
Fair application of profiling tools
Effective peer review Fair network
contracting and management
Non-interference in effective care delivery
MedicalManagement
Sufficiency of disclosures about physician relations and incentives
The assessment identifies and then prioritizes the risks, based on the size of risk, and its “impactability”
Sufficiency of disclosures about care management processes
Marketing, Salesand CustomerService
Organization and Strategy
People and Performance Management
Internal audit HR
Assessment
An illustrative action plan
Broad oversight External
assessment
Structure appropriate stop loss or reinsurance
Create captive to fund defense and losses
Business Function
Summons
Point-of-Sale Point-of-Service Managed Care Physician Litigation
Avoid risk by outsourcing data management
Train/monitor nurse lines
Audit claims processing, coding and compliance
Effectively manage network and credentialty process
Operations
Test equity and compliance of pricing
Transfer risk by outsourcing benefit payments
Provide insurance to help physicians finance risk
Audit credit worthiness of practices
Finance
Have disclosures reviewed by legal counsel
Improve training of sales force
Transfer risk by outsourcing customer service
Ensure admission rules are appropriate
Eliminate unnecessary emergency care restrictions
Develop measures of quality network management
Re-consider delegated medical management tactics
MedicalManagement
Avoid risk by eliminating utilization management
Mitigate through improved sales communication training
Marketing, Salesand CustomerService
Organization and Strategy
People and Performance Management
Representative Case Studies
Case Study #1
Client Profile: $2 billion Health Plan in the Northeast
Issue/Context: they lost $90 million in the prior year; heavy turnover of senior staff; long-term viability questions by public, Board
Scope of Service: review all factors regarding financial results and projections; evaluation of risks and likelihood of achieving projections; interviews with Board, insurance executives and insurance commission
Recommendations/Outcomes: provide report as to financial impact of changes on organization for two-year period; recommend additional actions to enhance financials and public image; report was accepted; $20 million surplus in the next year; PR was positive
Case Study #2
Client Profile: Publicly traded healthcare provider that owns/manages integrated health systems in most of the 50 states
Issue/Context: Company successfully emerged from bankruptcy court protection, re-organized and overcame significant regulatory, financial and public relations issues. Organizational structure and leadership processes that served well during the “crisis days” were now getting in the way of executing new business strategy
Scope of Service: engaged by CEO to assess risks in existing organization structure,
management team and processes worked with CEO and each direct report conducted a series of management off-sites to work through outcomes
of assessment
Recommendations/Outcomes: simplified organization structure clarified and reached consensus on business strategy analyzed management decision making process provided CEO and direct reports individual feedback and coaching on
their management style and effectiveness
Case Study #3
Client Profile: $4 billion market-leading manufacturer and distributor of prestige consumer products with 40-year track record of uninterrupted growth and profitability
Issue/Context: Client desired a comprehensive, enterprise-wide risk review, driven by their expansion into new areas, increasing business complexity, recent IPO and corporate philosophy of anticipating problems before they arise
Scope of Service: Development of key performance measures and risk thresholds Rank-ordering of risks from all sources (hazard, financial, political,
regulatory, operational, etc.) and cross-validation Development of strategies for risk factor mitigation and financing Creation of “Business Risk Self-assessment Toolkit”
Recommendations/Outcomes: Product diversification underway Domestic and International operations have begun consolidation Formal succession planning undertaken Business contingency planning underway at key facilities Senior Risk Oversight Committee not yet established due to
management turnover