Medicare Advantage Organizations: Actual Expenses and Profits	 
Compared to Projections for 2005 (24-JUN-08, GAO-08-827R).	 
                                                                 
Medicare Advantage (MA) organizations offer an alternative to the
original Medicare fee-for-service (FFS) program. Payments to MA  
organizations are, in part, based on the revenue and expenditure 
projections MA organizations submit to the Centers for Medicare &
Medicaid Services (CMS)--the agency that administers		 
Medicare--prior to the start of each contract year. Once Medicare
payments are determined, they are not modified based on 	 
differences between actual and projected expenses. In February	 
2008, we reported that, on average, MA organizations projected	 
they would spend approximately 87 percent of their 2007 revenue  
on medical expenses, 9 percent on non-medical expenses, and that 
the remaining 4 percent would go to profits. The accuracy of MA  
organizations' projections is important because, in addition to  
determining Medicare payments, these projections also affect the 
extent to which MA beneficiaries receive additional benefits not 
provided under FFS and the amounts beneficiaries pay in cost	 
sharing and premiums. This report responds to a Congressional	 
request for additional information on the accuracy of MA	 
organizations' projections. Specifically, this report focuses on 
how organizations' 2005 actual medical expenses, non-medical	 
expenses, and profits compare to projections for the same year. A
forthcoming report will provide a similar analysis of 2006 data. 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-08-827R					        
    ACCNO:   A82510						        
  TITLE:     Medicare Advantage Organizations: Actual Expenses and    
Profits Compared to Projections for 2005			 
     DATE:   06/24/2008 
  SUBJECT:   Beneficiaries					 
	     Budget allowances					 
	     Comparative analysis				 
	     Cost analysis					 
	     Cost sharing (finance)				 
	     Expense allowances 				 
	     Expense claims					 
	     Health care cost control				 
	     Health care costs					 
	     Health care programs				 
	     Managed health care				 
	     Medical fees					 
	     Medical services rates				 
	     Medicare						 
	     Payments						 
	     Profits						 
	     Program evaluation 				 
	     Projections					 
	     Medicare Advantage Program 			 
	     Medicare Fee-for-Service Program			 

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GAO-08-827R

   

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GAO-08-827R: 

United States Government Accountability Office: 
Washington, DC 20548: 

June 24, 2008: 

The Honorable Pete Stark: 
Chairman: 
Subcommittee on Health: 
Committee on Ways and Means: 
House of Representatives: 

Subject: Medicare Advantage Organizations: Actual Expenses and Profits 
Compared to Projections for 2005: 

Medicare Advantage (MA) organizations offer an alternative to the 
original Medicare fee-for-service (FFS) program.[Footnote 1] Payments 
to MA organizations are, in part, based on the revenue and expenditure 
projections MA organizations submit to the Centers for Medicare & 
Medicaid Services (CMS)--the agency that administers Medicare--prior to 
the start of each contract year. Once Medicare payments are determined, 
they are not modified based on differences between actual and projected 
expenses.[Footnote 2] In February 2008, we reported that, on average, 
MA organizations projected they would spend approximately 87 percent of 
their 2007 revenue on medical expenses, 9 percent on non-medical 
expenses, and that the remaining 4 percent would go to profits. 
[Footnote 3] The accuracy of MA organizations' projections is important 
because, in addition to determining Medicare payments, these 
projections also affect the extent to which MA beneficiaries receive 
additional benefits not provided under FFS and the amounts 
beneficiaries pay in cost sharing and premiums. 

This report responds to your request for additional information on the 
accuracy of MA organizations' projections. Specifically, this report 
focuses on how organizations' 2005 actual medical expenses, non-medical 
expenses, and profits compare to projections for the same year. 
[Footnote 4] A forthcoming report will provide a similar analysis of 
2006 data.[Footnote 5] 

To report MA organizations' 2005 actual expenditures, actual profits, 
and projections for 2005, we analyzed the two-year look-back form that 
MA organizations submitted to CMS with the 2007 Bid Pricing Tool. 
[Footnote 6] The 2007 two-year look-back form contains MA 
organizations' self-reported actual medical expenses, non-medical 
expenses, and profits for 2005. The form also contains the 2005 
projections for those categories that the organizations submitted in 
2004.[Footnote 7] MA organizations submit a single two-year look-back 
form for each of their contracts, which may include more than one 
health benefit plan. We excluded employer group health plans because 
these plans are not open to the general Medicare population, and actual 
and projected expenses are calculated differently than for other plans. 
We also excluded small contracts, defined as those with fewer than 
24,000 "member months" (equivalent to 2,000 beneficiaries enrolled for 
a full year), because CMS officials stated that they do not consider 
data from these contracts to be fully credible.[Footnote 8] 
Additionally, we excluded 15 contracts for which actual or projected 
expenditures were missing. After all exclusions, our analysis included 
120 contracts, representing about 81 percent of the contracts for which 
two-year look-back forms were submitted and about 78 percent of MA 
enrollment, equivalent to approximately 3.9 million beneficiaries 
enrolled in contracted plans for a full year. To compare actual and 
projected profits for 2005, we multiplied both actual and projected per 
member per month profits by actual 2005 enrollment in member months and 
took the difference. Reported results are for the 2005 contract year 
and may not be representative of or generalizable to other contract 
years. 

We interviewed officials at CMS about data reliability, reviewed all 
data for reasonableness and consistency, and determined that the data 
were sufficiently reliable for our purposes. However, we did not 
independently audit MA organizations' self-reported data. We conducted 
this performance audit from April 2008 to June 2008 in accordance with 
generally accepted government auditing standards. Those standards 
require that we plan and perform the audit to obtain sufficient, 
appropriate evidence to provide a reasonable basis for our findings and 
conclusions based on our audit objectives. We believe that the evidence 
obtained provides a reasonable basis for our findings and conclusions 
based on our audit objectives. 

Results in Brief: 

On average, MA organizations' self-reported actual medical expenditures 
as a percentage of revenue were lower in 2005 than they had projected. 
MA organizations, on average, reported spending 85.7 percent of total 
revenue on medical expenses in 2005, but had projected medical 
expenditures of 90.2 percent of total revenue. Because organizations 
spent less revenue on medical expenses than projected, they earned 
higher average profits than projected. On average, MA organizations' 
self-reported actual profit margin was 5.1 percent of total revenue, 
which is approximately $1.14 billion more in profits in 2005 than MA 
organizations projected. There were several outlier contracts whose 
relatively large differences between actual and projected profits made 
up more than half of the $1.14 billion difference. Nearly two-thirds of 
beneficiaries were enrolled in health benefit plans offered by MA 
organizations for which the percentage of revenue dedicated to profits 
was greater than projected and the percentage of revenue dedicated to 
expenditures (medical and non-medical combined) was lower than 
projected. CMS officials stated that projections submitted by MA 
organizations in 2005 may be less reliable than those submitted in 2006 
and subsequent years because, among other factors, actuaries were not 
required to attest to the accuracy of projections until 2006. 

In commenting on a draft of this report, CMS stated that the report was 
factually accurate but that the findings were not relevant to assessing 
the operation of the Medicare Advantage program in 2006 and subsequent 
years. Among other comments, CMS stated that the report should more 
clearly recognize the changes to the program that have occurred since 
2005, and should mention that differences between projected and actual 
expenses and profits did not affect Medicare payments to MA 
organizations or the benefits they would have provided. We generally 
disagree with CMS. While we state in our report that the 2005 findings 
may not be representative of or generalizable to subsequent contract 
years, it would be incorrect to suggest that there is no relationship 
between the payment system in 2005 and the bidding process that began 
in 2006. Also, although differences between projected and actual 
expenses and profits may not have affected Medicare payments to MA 
organizations, the inaccuracy of projections could have impacted the 
types and costs of services that MA beneficiaries received. CMS also 
supplied specific technical comments that we incorporated as 
appropriate. 

Background: 

Since the 1980s, organizations that participate in Medicare's program 
for private health plans have been required to submit projections of 
their expenses and profits to CMS.[Footnote 9] There have been changes 
over time, however, in how these projections were used. In 2005, MA 
organizations submitted to CMS projected revenue requirements for the 
medical expenses, non-medical expenses, and profit margin associated 
with supplying an FFS benefit package. MA organizations were paid the 
administratively set rate regardless of their projections. However, if 
an MA organization's projection was less than the administratively set 
rate, the organization was required to spend the surplus Medicare 
payment on beneficiaries by adding extra benefits or reducing 
beneficiary cost sharing. 

Under the payment system effective in 2006 and subsequent years, MA 
organizations submit bids to CMS that reflect their projected revenue 
requirements for the medical expenses, non-medical expenses, and profit 
margin associated with supplying an FFS benefit package. If the 
organization's bid is higher than the administratively set rates, known 
as benchmarks, Medicare pays the organization the amount of the 
benchmark, and the organization must charge beneficiaries a premium to 
collect the amount by which the bid exceeds the benchmark. If the 
organization's bid is lower than the benchmark, the organization 
receives the amount of the bid plus additional payments, known as 
rebates, equal to 75 percent of the difference between the benchmark 
and the bid. MA organizations are required to spend their rebates on 
additional benefits, reduced cost sharing, reduced premiums, or a 
combination of the three. 

Medical Expenses, on Average, Were Lower Than Projected, Leading to 
Higher Profits: 

MA organizations' self-reported actual medical expenditures as a 
percentage of revenue were, on average, lower in 2005 than they had 
projected. MA organizations reported spending an average of 85.7 
percent of total revenue on medical expenses in 2005, but had projected 
medical expenses of 90.2 percent of total revenue, on average. Because 
organizations spent less revenue on medical expenses than projected, 
they earned higher average profits than projected. On average, MA 
organizations' self-reported actual profit margin was 5.1 percent of 
total revenue--nearly three times their projected profit margin of 1.8 
percent of total revenue. (See table 1.) MA organizations included in 
our analysis received a total of $35 billion in revenues, $1.3 billion 
more than projected, after weighting for actual enrollment. Revenues 
were higher than projected because MA organizations received additional 
revenues to compensate for enrollees who were either potentially more 
costly because of increased severity of illness, were 
disproportionately from counties with higher administratively set 
rates, or some combination of the two. However, even after accounting 
for increased severity of illness and disproportionately higher 
enrollment from certain counties, MA organizations still over-projected 
their medical expenses compared to actual medical expenses and under- 
projected non-medical expenses and profits. 

Table 1: Actual and Projected Medical Expenses, Non-Medical Expenses, 
and Profits as Amounts and Percentages of Revenue, 2005: 

Medical Expenses[A]: 
Actual: Percentage of Revenue: 85.7%; 
Actual: Amount in dollars (billions): $30.06; 
Projected: Percentage of Revenue: 90.2%; 
Projected: Amount in dollars (billions): $30.46. 

Non-Medical Expenses: 
Actual: Percentage of Revenue: 9.2%; 
Actual: Amount in dollars (billions): $3.21; 
Projected: Percentage of Revenue: 7.9%; 
Projected: Amount in dollars (billions): $2.65. 

Profits: 
Actual: Percentage of Revenue: 5.1%; 
Actual: Amount in dollars (billions): $1.74; 
Projected: Percentage of Revenue: 1.8%; 
Projected: Amount in dollars (billions): $0.60. 

Total Revenue[B]: 
Actual: Amount in dollars (billions): $35.01; 
Projected: Amount in dollars (billions): $33.71. 

Source: GAO analysis of CMS's two-year look-back data for 2005. 

Notes: Data on actual expenses and profits were self-reported by MA 
organizations. Percentages are weighted by 2005 actual enrollment. 
Percentage totals may add to less than 100 due to rounding. We excluded 
from our analysis employer group health plans, contracts for which 
revenue projections or actual expenditures were not reported, and 
contracts that had fewer than 24,000 member months. Twenty-four 
thousand member months is equivalent to 2,000 beneficiaries enrolled 
for a full year. This analysis includes 120 contracts, representing 
about 81 percent of the contracts for which two-year look-back forms 
were submitted in 2007 and about 78 percent of MA enrollment. 

[A] A CMS official we spoke with stated that medical expenses as a 
percentage of revenue may vary for reasons other than utilization and 
the cost of providing care. For example, some MA organizations may 
categorize the costs of delivering care management services as medical 
expenses, while other organizations may classify these as non-medical 
expenses. 

[B] Revenues were higher than projected because MA organizations 
received additional revenues to compensate for enrollees who were 
either potentially more costly because of increased severity of 
illness, were disproportionately from counties with higher 
administratively set rates, or some combination of the two. 

[End of table] 

The difference between MA organizations' self-reported actual and 
projected profit margins translates to approximately $1.14 billion more 
in profits in 2005 than MA organizations projected. The median amount 
of actual profits earned above projections per contract was 
approximately $2.8 million.[Footnote 10] There were several outlier 
contracts whose relatively large differences in actual and projected 
profits made up more than half of the $1.14 billion difference. 
However, even after removing outliers, the remaining contracts 
exhibited lower medical expenses and higher profits than projected, on 
average.[Footnote 11] 

Nearly two-thirds of beneficiaries were enrolled in health benefits 
plans offered by MA organizations for which the percentage of revenue 
dedicated to profits was greater than projected and the percentage of 
revenue dedicated to actual expenses (medical and non-medical combined) 
was less than projected. This was largely driven by MA organizations' 
over-projection of medical expenses--about 80 percent of beneficiaries 
were enrolled in plans for which projected medical expenses were 
greater than actual medical expenses as a percentage of revenue. In 
contrast, about 56 percent of beneficiaries were enrolled in health 
benefit plans offered by MA organizations for which actual non-medical 
expenses were greater than projected non-medical expenses as a 
percentage of revenue. (See fig. 1.) 

Figure 1: Percentage of Beneficiaries Covered by MA Organizations with 
Reported Expenses and Profits as a Percentage of Revenue that Were 
Greater Than, Less Than, or Equal to Projections, 2005: 

[See PDF for image] 

This figure is a vertical bar graph depicting the following data: 

Medical expenses: 
Actual greater than projected: 17.5 percent; 
Actual less than projected: 80.2 percent; 
Actual equal to projected: 2.4 percent. 

Non-Medical expenses: 
Actual greater than projected: 56.2 percent; 
Actual less than projected: 43.1 percent; 
Actual equal to projected: 0.7 percent. 

Profit: 
Actual greater than projected: 62.1 percent; 
Actual less than projected: 37.0 percent; 
Actual equal to projected: 0.9 percent. 

Notes: Data on actual expenses and profits were self-reported by MA 
organizations. Percentage totals may be greater than 100 due to 
rounding. We used member months as our measure of beneficiary 
enrollment. Twelve member months is equivalent to one beneficiary 
enrolled in a contracted plan for a full year. We excluded from our 
analysis employer group health plans, contracts for which revenue 
projections or actual expenditures were not reported, and contracts 
that had fewer than 24,000 member months. Twenty-four thousand member 
months is equivalent to 2,000 beneficiaries enrolled for a full year. 
This analysis includes 120 contracts, representing about 81 percent of 
the contracts for which two-year look-back forms were submitted in 2007 
and about 78 percent of MA enrollment. 

[End of figure] 

CMS officials suggested factors that could explain the difference 
between actual and projected revenue allocations for 2005. CMS 
officials stated that changes in the mix and health status of projected 
versus actually enrolled beneficiaries may also have produced 
differences between actual expenditures and projections. Additionally, 
CMS officials cautioned against drawing conclusions based on a single 
year of data. The reported actual allocations of revenue to medical 
expenses, non-medical expenses, and profits in 2005 were similar to MA 
organizations' projected allocations for 2007.[Footnote 12] 

CMS officials also stated that the projections submitted by MA 
organizations in 2005 may be less reliable than those submitted in 2006 
and subsequent years. CMS officials stated that in 2005 MA 
organizations' actuaries were not required to attest to the accuracy of 
projections and that MA organizations were not required to base their 
projections on actuarial projections. Specifically, CMS officials 
stated that MA organizations used trends from their commercial 
experience to project MA costs. Although an actuarial attestation was 
not required in 2005, 53 percent of 2004 projections were accompanied 
by actuarial attestations. Additionally, in 2005, the chief executive 
officer or the chief financial officer of the MA organization was 
required to certify that projections were accurate. Regarding how MA 
organizations determined projections in 2005, CMS instructed MA 
organizations to adjust their cost trend estimates if they did not 
believe the projections based on their commercial experience were 
appropriate for their Medicare population. CMS also noted in 
instructions to MA organizations that there were acceptable actuarial 
techniques that supplement actual plan experience with other data 
sources in projecting costs. CMS officials also stated that the 
projections submitted in 2005 by MA organizations did not explicitly 
list their profit projections. CMS calculated projected profits for the 
2005 two-year look-back form by subtracting expenses from revenue. 
However, CMS officials stated that they were not sure that this 
accurately reflected what the MA organization would have expected its 
profit to be in 2005. 

Agency Comments and Our Evaluation: 

In commenting on a draft of this report, CMS stated that the report was 
factually accurate but that the findings were not relevant to assessing 
the operation of the MA program in 2006 and subsequent years. CMS said 
that the accuracy of estimates has increased since the inception of the 
MA program and that the agency is continuing to improve the methodology 
used to produce estimates. CMS also stated that the report should more 
clearly recognize the changes that have occurred since 2005 and provide 
greater context for the findings. In general, CMS's comments can be 
grouped into four categories: (1) results from 2005 are of historical 
significance only, (2) differences between projected and actual 
expenses and profits did not affect Medicare payments to MA 
organizations or the benefits they would have provided, (3) one outlier 
MA organization was responsible for nearly half the aggregate 
difference between projected and actual profits, and (4) MA 
organizations may have made mistakes in their Adjusted Community Rate 
Proposals (ACRPs),[Footnote 13] thus contributing to the observed 
differences between projected and actual values. We elaborate on CMS's 
key comments and respond below. CMS also supplied specific technical 
comments that we incorporated as appropriate. CMS comments are 
reprinted in enclosure I. 

CMS stated that results from 2005, under the ACRP process, are of only 
historical significance. We state in our report that the 2005 findings 
may not be representative of or generalizable to subsequent years. 
However, it would be incorrect to suggest that there is no relationship 
between the ACRP process in 2005 and the bidding process that began in 
2006. The current MA bidding system evolved from the earlier ACRP 
process. Both require MA organizations' projections that help to 
determine the extent to which benefit packages are enhanced and both 
include incentives for plan competition. Similar to the current bidding 
system, if MA organizations projected revenue requirements in their 
ACRPs that were lower than the administratively set rate (known as a 
benchmark under the current competitive bidding process), they were 
required to provide additional benefits or reduce beneficiaries' cost 
sharing.[Footnote 14] As such, MA organizations under both systems 
enhanced benefit packages to attract higher enrollment. The ACRP 
projections were of sufficient importance that Congress required CMS to 
audit at least one-third of the financial records of MA organizations, 
including data related to the ACRP projections, in order to determine 
whether payments were proper.[Footnote 15] CMS stated that the rigorous 
competitive bidding system, which began in 2006, improved the 
methodology used to make and use projections. Evaluation of that 
process was outside the scope of our work, but we will provide a 
similar analysis of 2006 data in a forthcoming report. 

CMS commented that even if MA organizations' 2005 profit projections 
had accurately reflected actual 2005 profits, there would have been no 
additional federal payments and there would have been no requirements 
for these organizations to provide any additional benefits. We agree 
that regardless of whether 2005 projections more closely reflected 
actual 2005 profits and expenses, federal payments to MA organizations 
would not have changed. However, the inaccuracy of projections could 
have impacted the extent to which benefit packages were enhanced. If MA 
organizations' projections for medical expenses more accurately 
reflected the cost and utilization of services in 2005, organizations 
would have been able to provide additional benefits or cost-sharing 
reductions to beneficiaries and still have maintained the level of 
profits they projected. 

CMS also stated that our analysis did not consider that 45 percent of 
the $1.14 billion difference between the projected and actual profits 
was due to one contract. We did not highlight that single contract 
because, while it had the largest enrollment among all the outliers we 
identified, other outliers with lower enrollment had greater 
differences between projected and actual profits. In our draft, we 
reported values with and without outliers to show their impact. As 
suggested by CMS in its comments, we added additional context by 
providing information on total revenues, profits, and MA spending in 
2005 for the contracts in our analysis. 

CMS commented that MA organizations may have miscalculated or provided 
inaccurate information in their ACRP projections, contributing to the 
differences between projected and actual values. CMS noted the example 
of the one large MA organization that accounted for 45 percent of the 
difference between actual and projected profits as being a likely 
mistake. Determining whether the outlier organization's projections 
were incorrect was outside the scope of our work. However, CMS was 
required by law to review and approve those projections and they were 
the basis for additional benefits.[Footnote 16] Additionally, CMS 
officials stated that the newness of many MA health benefit plans in 
2006 may partially explain the differences between actual expenses and 
projections for that year. While CMS did not offer the newness of MA 
health benefit contracts in 2005 as an explanation for the variances 
from projections, there was significant growth in the number of MA 
contracts in 2005 as well as 2006. We did not analyze the impact of new 
plans on the accuracy of projections, but the outlier contract CMS 
described was an established private health contract with high 
enrollment. 

As agreed with your office, unless you publicly announce its contents 
earlier, we plan no further distribution of this report until 30 days 
from its date. At that time, we will send copies of this report to the 
Acting Administrator of CMS and relevant congressional committees and 
other interested members. The report will also be available at no 
charge on the GAO Web site at [hyperlink, http://www.gao.gov]. 

If you or your staff have any questions regarding this report, please 
contact me at (202) 512-7114 or [email protected]. Contact points for 
our Offices of Congressional Relations and Public Affairs may be found 
on the last page of this report. Christine Brudevold, Assistant 
Director; Gregory Giusto; Dan Lee; and Jessica T. Lee were major 
contributors to this report. 

Signed by: 

James C. Cosgrove: 
Director, Health Care: 

Enclosure - 1: 

Comments from the Centers for Medicare & Medicaid Services: 

Department Of Health & Human Services: 
Office of the Assistant Secretary for Legislation: 
Washington, DC 20201: 

June 20, 2008: 

James Cosgrove: 
Director, Health: 
U.S. Government Accountability Office: 
441 G Street, NW: 
Washington, DC 20548: 

Dear Mr. Cosgrove: 

Enclosed are the Department's comments on the U.S. Government 
Accountability Office's (GAO) draft report entitled: Medicare Advantage 
Organizations: Actual Expenses and Profits Compared to Projections for 
2005" (GAO 08-827R). 

The Department appreciates the opportunity to review and comment on 
this report before its publication. 

Sincerely, 

Signed by: 
Jennifer P. Luong, for: 

Vincent J. Ventimiglia, Jr. 
Assistant Secretary for Legislation: 

Attachment: 

Department Of Health & Human Services:	
Centers for Medicare & Medicaid Services
Administrator: 
Washington, DC 20201: 

Date: June 19, 2008 

To: James Cosgrove: 
Director, Health Care: 
Government Accountability Office: 

From: [Signed by] Kerry Weems: 
Acting Administrator: 

Subject: Government Accountability Office (GAO) Draft Correspondence: 
"Medicare Advantage Organizations: Actual Expenses and Profits Compared 
to Projections for 2005" (GAO-18-827R): 

Thank you for the opportunity to review and comment on the above GAO 
Draft Correspondence Report. The draft report focuses on how the actual 
medical expenses, non-medical expenses, and profits of Medicare 
Advantage plans in 2005 compared to the plans' projections for that 
year. While the report is generally factually accurate (see specific 
corrections below), it fails to adequately note the important 
differences between the prior Adjusted Community Rate Proposal (ACRP) 
process and the current competitive bidding system that began in 2006. 
Please also note that while the program name was changed in 2004 from 
Medicare + Choice to Medicare Advantage, pursuant to the Medicare 
Prescription Drug, Improvement, and Modernization Act of 2003 (MMA), 
the methodology for 2005 still employed the old ACRP process. 

The report does not fully recognize that the 2005 base year was vastly 
different from the current competitive bidding process mandated by the 
MMA. As indicated below, 2005 was priced under the now no longer 
existing ACRP system that did not have the discipline of the current 
system. In essence, the report indicates that the Medicare Advantage 
(MA) plans earned $1.14 billion more profit than projected. Much of 
this conclusion is misleading because the requirements of the ACRP 
process and the 2007 two-year look-back process are significantly 
different. In addition, the conclusion fails to take into consideration 
that 45 percent of the $1.14 billion difference between the calculated 
profit expectation and the actual profit is due to a loss by one major 
plan. More importantly, it must be understood that the total amount of 
dollars the MA organizations received in 2005 would not have changed if 
the expectations were closer to the actual. 

The 2005 base year was the final year ACRPs were submitted to the 
Centers for Medicare & Medicaid Services (CMS) by MA organizations. The 
ACRP pricing methodology was replaced in 2006 with the current 
competitive bidding process in accordance with the MMA. The competitive 
bidding model brought the discipline of the market to the Medicare 
program and was implemented through a rigorous system of actuarial bid 
submissions, subject to careful review by the Office of the Actuary at 
CMS. Organizations are required to make competitive bids based on 
actuarial principals to provide competitive premiums and benefit 
packages to Medicare beneficiaries. The bids must be submitted and 
certified by accredited actuaries and must be prepared following the 
Actuarial Standards of Practice developed by the Actuarial Standards 
Board. In contrast, the ACRP model established set payments to private 
Medicare health organizations that did not require the rigor of the 
current bid process regarding projections or allocating the payment to 
categories of expenses. 

The draft GAO report acknowledges the distinction between the ACRP and 
actuarial bid processes, but does not adequately reflect or describe 
its importance. As a result, the use of 2005 for such a comparison may 
have some significance to historical Medicare policy, but it is not 
relevant to an assessment of the operation of the MA program in 2006 
and later. 

CMS believes the value of the Medicare Advantage program is self 
evident, and more than 20 percent of Medicare beneficiaries - some 9.5 
million seniors and disabled Americans - have chosen the benefits of MA 
plans. These individuals enjoy additional value when compared to 
traditional Medicare, such as reduced premiums, lower co-payments and 
extra benefits. Perhaps most importantly, they have injected into 
Medicare greater choice and competition - two virtues that are critical 
to addressing the long-term sustainability of the Medicare program. 

Although CMS agrees with the findings in this report, they apply to a 
system that has changed significantly since the period GAO examined. 
CMS is improving the methodology used in order to produce more accurate 
estimates and we will make further improvements in the future. Today 
estimates are more accurate than they were at the inception of the 
Medicare Advantage program, and they will be still more accurate in the 
months and years ahead. 

Below are the technical changes that CMS suggests be made to the GAO 
correspondence report. 

Pages 3 & 5: 

* It should be noted that if the actual higher level of profit of MA 
organizations had been anticipated and reflected in the 2005 ACRPs, 
there would have been no additional federal payments and there would 
have been no requirement for these organizations to provide any 
additional benefits. 

Pages 3-4, Results in Brief: 

* The report indicates on average that MA organizations' actual profit 
margins were 5.1 percent of total revenue, which is approximately $1.14 
billion more in profit for 2005 than MA organizations had projected. 
The report also indicates that more than half of the $1.14 billion is 
attributable to several outlier contracts. We recommend more context be 
provided around these figures (e.g., total revenue, profit, and MA 
spending for 2005). Otherwise, it is difficult for an average reader to 
interpret the relative magnitude of the amount in question. 

* This section states "CMS officials stated that projections submitted 
by MA organizations in 2005 may be less reliable than those submitted 
in 2006 and subsequent years because, among other factors, actuaries 
were not required to attest to the accuracy of projections until 2006." 
While this factor may be one reason why 2005 projections are less 
reliable than 2006, we recommend GAO also mention other potentially 
more critical factors such as the significant changes made to the 
program between 2005 and 2006-especially the change away from the ACRP 
process and to the system of competitive actuarial bid submissions. The 
same incomplete point is also made in the body of the report on page 8 
and should be elaborated upon in that section. 

Page 4: 

* This section should note that CMS officials indicated that the 
projections submitted by MA organizations before 2006 maybe less 
reliable than those submitted in 2006 and subsequent years because the 
ACRP was not required to be based on an actuarial projection. For 
example, the development of cost growth trend assumptions were 
generally based on the MA organization's commercial experience as 
compared to the projection for the Medicare covered population. 

Pages 5-6, Medical Expenses, on Average, Were Lower than Projected 
Leading to Higher Profits: 

* This section outlines the key finding of the report and includes, in 
Table 1, the actual and projected medical expenses, non-medical 
expenses, and profit as a percentage of revenue for 2005. In this 
section, the report indicates several outlier contracts whose large 
differences in actual and projected profit made up more than half of 
the $1.14 billion difference. Footnote 11 provides all of the same data 
presented in Table 1 based on excluding the outlier plans. We recommend 
GAO present the data directly in Table 1 with and without the outliers 
included. This will indicate the sensitivity of the comparison to the 
small number of outlier plans and also show that the differences 
between actual expenses and profit and projected expenses and profit 
are much smaller when the outliers are removed. 

Page 7: 

* The draft report states that "They [CMS officials] stated that 
differences may partially be explained by the newness of many MA plans 
in 2005; ..." This is not an accurate summary of comments from CMS 
officials. CMS officials stated that the differences for 2006 (which 
subsequently were not studied by the GAO) may be partially explained by 
the newness of many MA plans in 2006. The presence of many new MA plans 
in 2006 has no meaningful effect on the 2005 experience. 

Page 8: 

* The draft report indicates that the head marketing official of the MA 
organization was required to certify that the projections were 
accurate. In fact, the certification of the head marketing official was 
not required for the 2005 ACRPs. 

* The report notes that the ACRP projections submitted for 2005 by MA 
organizations did not explicitly list their profit projections and that 
the implicit profit projections for 2005 had to be estimated from other 
aspects of the ACRP information. This point would benefit from further 
elaboration. In particular, the ACRP summary sheet, Worksheet E, is not 
organized in a way that allows for ready determination of the profit 
expectations for the company. That is, the purpose of Worksheet E is to 
calculate the level of extra benefits to be provided to plan enrollees, 
and it is not a summary of expected company results. Further, some of 
the terms used in Worksheet E are not commonly used within the managed 
care industry: for example, "additional revenue," "adjusted excess 
amount," and "remaining excess." This position is underscored by the 
large implicit projected loss (in the hundreds of millions of dollars) 
represented by the largest contract in 2005, which was operated by a 
well-established health plan. As mentioned previously, that particular 
plan accounts for 45 percent of the $1.14 billion difference between 
projected and actual profits. Given the company realized a reasonable 
profit for 2005, we suspect their actual expectation was almost 
certainly for a profit, and the implicit loss in the ACRP was likely a 
consequence of the process itself and a miscalculation on the part of 
the plan. 

Lastly, we suggest adding some descriptive information regarding the 
ACRPs, including that they are a health care cost spending projection 
and that it is expected that actual expenditures will vary from the 
original projections. Moreover, the variations seen here between actual 
and projected expenditures are not uncommon in the health insurance 
market. 

We appreciate the opportunity to review and comment on this draft 
correspondence. 

[End of enclosure] 

Footnotes: 

[1] Medicare is the federally financed health insurance program for 
persons aged 65 and over, certain individuals with disabilities, and 
individuals with end-stage renal disease. Medicare Part A covers 
hospital and other inpatient stays. Medicare Part B is optional 
insurance, and covers hospital outpatient, physician, and other 
services. Medicare Parts A and B are known as original Medicare or 
Medicare FFS. Medicare beneficiaries have the option of obtaining 
coverage for Medicare Parts A and B services from private health plans 
that participate in Medicare's MA program--also known as Medicare Part 
C. All Medicare beneficiaries may purchase coverage for outpatient 
prescription drugs under Medicare Part D. 

[2] However, payments to MA organizations may be modified based on 
differences in actual and projected beneficiary health status, 
beneficiary residence, and enrollment. Actual expenses may be used to 
inform projections for future contract years. In 2007, payments to MA 
organizations totaled an estimated $77 billion. 

[3] See GAO, Medicare Advantage: Increased Spending Relative to 
Medicare Fee-for-Service May Not Always Reduce Beneficiary Out-of- 
Pocket Costs, [hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-08-359] 
(Washington, D.C.: Feb. 22, 2008). Profits refer to MA organizations' 
remaining revenue after medical and non- medical expenses are paid. In 
certain circumstances, such as for new market entrants, CMS allows an 
MA organization to have a negative profit, meaning that the 
organization's revenue is less than its combined medical and non-
medical expenses. 

[4] Prior to 2006, private health plans provided health coverage to 
Medicare beneficiaries through the Medicare + Choice program. The 
Medicare Prescription Drug, Improvement, and Modernization Act of 2003 
renamed that program Medicare Advantage among other changes. Pub. L. 
No. 108-173, ï¿½ 201, 117 Stat. 2066, 2176. Organizations were required 
to begin using the new program name in 2006, but CMS encouraged MA 
organizations to transition to "Medicare Advantage" in all plan 
materials for the 2005 contract year. 

[5] At the time of this report, 2005 and 2006 were the most recent 
years for which two-year look-back data were available. 

[6] MA organizations are required to annually submit bids for review 
and approval for each plan they intend to offer. The bid submission 
includes a Bid Pricing Tool, which contains MA organizations' 
projections of their revenue requirements and revenue sources. 

[7] The two-year look-back form is so named because it provides data 
for the calendar year 2 years prior to the upcoming contract year. The 
two-year look-back form was not subject to CMS audit in 2007 and is not 
certified by the MA plan's actuary. 

[8] Member months is the sum of a given contract's total monthly 
enrollments in a year. For example, if 1,500 members were enrolled in 
an organization's plans for January and February and 2,000 members were 
enrolled in its plans for March through December, the contract would 
have 23,000 member months. 

[9] Before July 1, 2001, CMS was known as the Health Care Financing 
Administration. 

[10] In an ordered set of values, the median is a value below and above 
which there is an equal number of values; if there is no one middle 
number, it is the arithmetic mean (average) of the two middle values. 

[11] After removing outliers, as a percentage of revenue MA 
organizations reported spending 85.5 percent on medical expenses 
compared to projections of 88.3 percent, 9.1 percent on non-medical 
expenses compared to projections of 8.7 percent, and had a profit 
margin of 5.4 percent compared to projections of 3.1 percent on 
average. 

[12] [hyperlink, http://www.gao.gov/cgi-bin/getrpt?GAO-08-359]. 

[13] Before 2006, MA organizations were required to annually submit an 
ACRP for each health benefit plan that they intended to offer to CMS 
for its review and approval. The ACRP identified the health services 
the MA organization would provide to its Medicare enrollees and the 
estimated cost of providing those services. It also showed the 
estimated payments that the MA organization expected to receive for 
providing these services. 

[14] Under the MA program's competitive bidding process, MA 
organizations can also use the difference between their projections and 
the benchmark to reduce beneficiaries' Part B and Part D premiums. 

[15] See 42 U.S.C. ï¿½1395w-27(d)(1). 

[16] See 42 U.S.C. ï¿½1395w-24(a)(5). 

[End of section] 

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