This document provides a summary and position on successful strategies for underwriting large group health insurance. It discusses three key rules: the 90/10 rule which states 10% of quoted business is typically closed; the 80/20 rule where 20% of a group's population accounts for 80% of claims costs; and the 50/50 rule where half of groups in a block will have costs higher than projected and half lower. The document argues focusing resources on opportunities most likely to close based on the 90/10 rule, profiling groups to manage large claims risk per the 80/20 rule, and recognizing cost variability per the 50/50 rule can improve underwriting success more than following detailed underwriting manuals.

1. Position Paper - Practical Guide To Underwriting Success – Tony Nista – June 2010 1
The Practical Guide
To
Underwriting Success
A Simple and Straightforward Look at the
Dynamics of Large Group Health Insurance
Written by Tony Nista
June 2010
Disclaimer:
This document is a position paper that expresses the sole opinion of the author and
is not intended to serve as any business or legal advice. The ideas and suggestions
herein are purely for stimulating thought and discussion and not to be used as
consultative advice or advertisement. The reader acknowledges that the suggestions
noted may or may not be practical in their own environment and they should
consult with legal counsel before applying these techniques.
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2. Position Paper - Practical Guide To Underwriting Success – Tony Nista – June 2010 2
Introduction
Underwriting is more of an art than it is a science. Like any discipline, we
learn by doing and continually change our approach to meet our objectives.
With more time and experience the law of large numbers eventually kicks in
to critical mass.
With thirty plus years of experience in the health insurance industry working
with several major insurance carriers in varied geographic territories and
groups of all sizes and funding arrangements, I have confidence the old
adage “experience is the best teacher” certainly holds true. I have learned
some things in my travels that have helped me focus on the big ticket items
which when executed appropriately will yield membership growth and profit
margin.
The purpose of this position paper is to share the benefit of my experience
and to stimulate thought and discussion on various strategies that are
successful in underwriting the group health insurance market. I hope you
enjoy this brief and to the point view of successful underwriting approaches
to spend your resources more appropriately and achieve good business
results.
Tony Nista
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3. Position Paper - Practical Guide To Underwriting Success – Tony Nista – June 2010 3
Getting Down to Basics
Every insurance carrier with an actuarial and/or underwriting staff has an
underwriting guidelines and procedures manual. Most of them look pretty
much the same and have pretty much the same rules (e.g. employer
contribution requirements, participation requirements, benefit plan rules,
etc.). Most of these manuals look the same since the science and art of
underwriting is well known and tested. It is also due in part to the
“incestuous” nature of the health insurance industry. As professionals move
between companies they carry with them the knowledge and experience of
their prior venues (and sometimes they carry with them a copy of the actual
manual, but that is a discussion for another time).
There are many guidelines and procedures that are used to qualify risk and
set pricing, and I will not debate the wisdom of some great actuaries and
underwriters who created these manuals. However, in my experience it has
proven time and time again that only a handful of rules stand out as the
“sacred” tablets. In fact, there are three:
 The 90/10 Rule
 The 80/20 Rule
 The 50/50 Rule
The thought probably comes to mind that boiling down the practice of
underwriting into three simple and well-known rules is not rocket science
and is far too simple. Well, in fact, it is that simple. A deep understanding
of the dynamics of each of these three rules, coupled with practical and
disciplined application of the strategy, and the courage to stand out from the
“normal” way of doing things, will lead to more success than following any
list of procedures in a manual.
Let’s take a look at each of these three independently, and then how these
strategies combined becomes a force multiplier.
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4. Position Paper - Practical Guide To Underwriting Success – Tony Nista – June 2010 4
The 90/10 Rule
The 90/10 Rule, stated simply, is a prospect quoting rule that says one
should expect on average to sell 10% of the business opportunities you are
afforded to quote. Conversely, 90% of that same opportunity will meet
some alternate ending (i.e. the customer will stay with their current carrier or
a successful competitor other than your own company will win the
business). In this industry a 10% closing ratio is fairly standard. Some
companies with niche products in certain geographic areas playing to
specific sizes of groups will see a higher or lower closing ratio, but 10%
seems to be about the industry average for successful companies.
Let’s look at the dynamics of the quote process. Out of every hundred
business opportunities that come our way, using an average closing ratio of
10%, we should expect to sell ten customers. It has been my experience that
the hundred opportunities usually play out in the following scenario:
• Twenty-five customers (or 25%) generally will fit into your
company’s business profile (or “footprint” if you like that term) and
will be in your competitive range;
• Twenty-five customers (or 25%) generally will fit your company’s
business profile but not be in your competitive range;
• Fifty customers (or 50%) generally will not meet your company’s
business profile or be in your competitive range.
Starting with the last category first, there is likely to be fifty percent of your
prospect business opportunities that will not meet your profile or that you
would never have the opportunity to actually sell. Looking at the “other”
fifty percent, about half (or 25% of the total) will likely fit into a competitive
“sweet spot” in which your true prospect business opportunities will fall.
Why would we waste any time and resources on the fifty percent of prospect
quotes that will never come to fruition? Are they really “opportunities” or
are they more a distraction to our business growth strategy? Would we be
better served spending all of our resources on the twenty-five percent at the
top of the profile? Would that triple our closing ratio or allow us to sell
three times the business with the same effort?
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5. Position Paper - Practical Guide To Underwriting Success – Tony Nista – June 2010 5
The 80/20 Rule
The 80/20 Rule says that eighty percent of a group’s claims dollars are
generated by only twenty percent of that group’s population. There are
some variations on this theme and some believe the percentage could be
more like 75/25, but the principle is basically the same. Whichever number
you like to pick, the underlying premise is that a small portion of any
group’s population will be high utilizers of health care, and their cost is
spread over the remaining population of that group (or other groups in
community rated environments).
Most insurance carrier rating methodologies give special credence to large
claims activity. Large claims are considered within the norms of particular
group sizes. Statistical data is developed to generate large claims pooling
levels and charges. Basically, large claims pooling is a standard in the group
health insurance industry, so I will not challenge the norm or dwell on any
particular recommendations for pooling practices.
However, what if we take this dynamic to the next step? As underwriters,
we can use a myriad of pricing tools laboriously to determine if the correct
per member per month rate for any particular group is $250, $245 or $255.
There is a scientific part to underwriting that says you can determine if any
one of these answers is the “most correct.” But in the end, your rate will be
incorrect if you take on a greater than expected share of large claims when
writing new groups.
In my experience, the greatest risk of business blocks heading into financial
deterioration is caused by large claims risk. Most often it is not incorrect
estimation of the group rate that hurts the block but rather writing the wrong
groups that bring with them an inordinate risk of large claims. No matter
how well fine-tuned the rate setting process is, higher than expected large
claims activity will deteriorate your profit margins faster than you can re-
align your rating tools.
Wouldn’t it make sense for us to spend most of our time and resources
concentrating on large claims risk? Couldn’t we manage our business
blocks more effectively by shifting the paradigm from a group specific rate
setting basis to a catastrophic claims profiling approach?
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The 50/50 Rule
The 50/50 rule says that in a fairly stable business block, half of the groups
will have a higher run rate than the block while the other half will have a
lower run rate. I say “fairly” stable since we would expect that as long as
the distribution is even on both sides of the equation (either based on
number of groups or total membership) that the overall book will balance
out to the desired result.
When we use our rating tools to develop a group’s premium we develop an
underlying projected claims cost, in other words, projected health care
expenses, or if you will, the “cost of goods.” No matter how much historical
data we have on a group or how fine-tuned our rating model is, the chance
that a group’s actual cost will be exactly what we project is minimal. On the
very largest of cases that are highly credible we might be on average within
a couple of points, and on smaller size cases we could be within a much
larger corridor of twenty percent plus, one way or the other. Nonetheless we
will not hit the “nail on the head” outside of the very rare instance.
We set out to write and retain as much business as possible while meeting an
overall block profit margin goal. If we sell enough business running more
favorable than expected it should subsidize the business that runs
unfavorable. In the ideal scenario we would want to lean a slight bit more
on the favorable side. We often find that leaning too far in either direction
can have disastrous results. Being overly aggressive will populate your
membership rolls while your profits take a dive. Being overly conservative
will net you larger profits per group but on a much smaller overall
membership base.
When quoting on prospect groups, we need to look at the universe of
potential clients and continually evaluate the impact of our wins to date and
potential outstanding quotes. On renewal business, we need a strategy that
preserves the block as a whole, both membership and profit.
Would we improve our results if we stepped outside of the normal
underwriting rating/pricing approach and focused on other business
dynamics to write a healthy cross-section of new business and to preserve
the integrity of the existing business block?
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7. Position Paper - Practical Guide To Underwriting Success – Tony Nista – June 2010 7
The Combined Force Multiplier
Each of these three “rules” viewed independently are straightforward. All of
our underwriting rating manuals have some form of rule or guideline that
addresses these dynamics. There are common sense approaches to all of
these which are common knowledge and we are not breaking new ground.
However, what if we made the paradigm shift and spent all of our time and
resources on these three principles? Could we impact our results more
favorably by focusing on these three elements alone, and placing less
emphasis on the practices that have been proven to be “hit and miss” when
all is said and done?
Prospect Quote Triage
Identify the 50% of prospects that either do not fit your business profile or
which you would have limited competitive opportunity, and decline to
quote. On the remaining 50%, spend most of your time on the half of those
(25% of the total) that match your profile and your competitive range, and
work them until they sell. Work them, and work them again, until they sell.
Catastrophic Claims Profiling
Get surgical. Get real surgical. Require as much detail on large claims
history as you need to evaluate catastrophic events. Fine tune your rating
strategy to be most aggressive on those groups less likely to negatively
impact your business block. Price other groups more conservatively if they
are likely to have large claims impact on your book.
Business Block Categorization
Categorize your existing business block into three sections:
• Groups that are “must keep” under any circumstances
• Groups that you “want to keep at the appropriate price”
• Groups that you are “willing to lose unless priced profitably”
Price the block to these dynamics rather than getting too defined using the
group by group experience history. Groups will have underwriting cycles
but if you properly classify your groups they will balance out in the long
run.
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Summary
This paper does not suggest throwing away our underwriting and rating
manuals and following only these three strategies. Underwriting guidelines
and procedural manuals are a must have in this industry. We need rules and
consistency in practice, as well as detailed pricing processes to develop
group-specific rates. We cannot completely discard the tools that we have
created and perfected over the past decades.
What this paper suggests is that as underwriters we can make a paradigm
shift to focus our time and resources on the three above noted strategies and
make common-sense business decisions from that platform. The detailed
rating process and underwriting guidelines that your company prescribes
should be followed in accordance with your corporate directive. However,
when you are managing your day to day business, keep these three principles
in mind and apply what you believe makes the most business sense. It has
been my own personal experience over the past thirty plus years, as well as
the input of my colleagues, that the best success in underwriting profitable
business has been achieved focusing on these three simple principles.
Thank you for taking the time to read this position paper. I hope you
enjoyed it and that you find something useful in its contents. Any feedback
or comments on alternative underwriting approaches would be welcome.
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Special Note:
HR 3590 Patient Protection and Affordable Care Act
HR 4872 Health Care and Educational Reconciliation Act
As of this writing we are all sifting through the details of health care reform
and modeling the potential impacts on the health insurance industry. As our
new environment unfolds we will be reviewing all of our underwriting and
pricing practices to ensure they comply with the law and also allow us to
meet our business objectives.
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