KGB Interview: Medibank's George Savvides

Medibank Private chief executive George Savvides outlines the company's plans for primary healthcare and its opportunities to lift profits.

Medibank Private chief executive George Savvides tells Business Spectator's Alan Kohler and Robert Gottliebsen:

-- What’s changed since Medibank listed on the ASX

-- Despite impressive growth in recent years, there is still plenty of opportunity to lift profits

-- How Medibank plans to share the yields gained from improved cost management with customers

-- Why the government should be concerned about a drop in the private healthcare participation rate

-- Medibank's plans to get involved in primary healthcare and concierge chronic patients at the GP level will benefit the public and private health systems

-- The company's capital policy needs to be restored to a midpoint of 12-14 per cent of premiums 


Alan Kohler: George, welcome to Business Spectator.

George Savvides: It’s great to be here.

AK: Now, 13 days since you became a listed public company, tell us about how life has changed for you and for the company.

GS: It’s a pretty special time. I’ve been in the role now just coming up to about 13 years and around four or five years into the role the conversation about possible privatisation started to emerge, and that's a while ago. Obviously, my job is to run the business rather than worry about the owner, but that started to appear then.

AK: Have things changed since the owner has changed? I mean outwardly at least it's a huge difference.

GS: Yeah. That’s right. Well, you only have one layer of governance and the board is focused on returning value to shareholders and the business plan is the plan that we own and the stakeholder management has come to a very simple framework now. When you’re owned by the government, stakeholder management’s a very complex process. So, life is normal.

AK: So, it’s simplified running the business?

GS: It has.

AK: And life is, you say, normal now?

GS: Life is normal in terms of a $6 billion corporation, yeah.

Robert Gottliebsen: Just going back one step, you’ve substantially increased the Medibank profits. What’s your advice to people in government organisations as to how they can improve their efficiency, because you’ve done it?

GS: Well, one of the things that is very clear about Medibank when you turn up to the business or walk in to the business is that it’s a company, not a department of government. It doesn’t have any of these sorts of cultural overlays of government-run activities. So, from the day I started we were Melbourne-based, that we’d already moved from Canberra, the management team had already been recruited from the private sector marketplace in terms of corporations and other places, and since then we’ve continued to invest in talent and skillsets and systems and capabilities that are, you know, marketplace-based capabilities rather than sort of doing business the way government does business.

AK: Yeah, but having said that, you’ve just told us that life is now normal, that things have changed, that it is more simple, that stakeholder management is much more complex, so it is quite different, right?

GS: Running a corporation but also being sensitised to the way that corporation bumps into stakeholder issues, so it may be a negotiation with a regional private hospital group where the sensitivities about how they may travel in that negotiation are broader than just the commercial issues when you’re government owned, so you know we understand that and we sensitise our negotiation to that. Well, that's sort of not there anymoreCertainly we have to behave in a way that shows respect and is consistent with our brand and our reputation, but you know we need to make sure that our customers can afford the health cover we provide which means that we have to be very strong in our purchasing, very strong around our quality commitments and also even more so committed to the service culture of the company because with our customers you can’t make a bottom line, so that gets even more intense going forward.

AK: Well, as Robert said, you’ve increased profit enormously under government ownership. I figured out that over 10 years it was 36 per cent compound growth in profit. I mean what can and will you do as a private company CEO to improve that or is it impossible to improve it?

GS: No, the continuous improvement opportunities in health in Australia are significant. The 87c in every dollar of premium that we collect that we pay out as claims, that 87c has opportunity within it to purchase better, have less waste, have more consistent quality and that’s such a large part of our bill of materials that 87c in every dollar that the market leader leveraging its scale around quality and economics of size to do a better job on that 87c is the opportunity in front of us. It’s a very large opportunity.

RG: Are you saying that you’re going to really squeeze the life out of the private hospitals?

GS: No, not at all. And private hospitals are an important part of our value proposition. We’re about private health cover. We need a very strong private hospital network and industry to support our proposition. But, in that, the market leader should be able to procure services at the right quality and price that respect size and the economics of size.

RG: When you go to a hospital, certainly I found, that the inefficiency is unbelievable. They’re still operating paper systems. I’m not being critical of the nurses. In fact, I’ve discussed it with the ACTU president and we all agree -- it’s a mess. And is there any way you can change that?

GS: Well, the way we procure services now is a much more sophisticated approach than it has been in the past. When we started to install our new claims engines about three years ago, the big iMed claims engines, we spent $200m on three large processing systems: one for specialist claims, one for hospital claims and one for our general cover ancillary claims. And everything now is straight-through-processing -- nothing’s keyed in anymore -- straight from the providers and they go into these very large data warehouses.

Now, all of what I’ve just described is new and there aren’t any health insurers in the 34 health insurers that have new claims engines. We’re it, right. Significant investment in technology and capability. When all of those claims, $5bn a year for Medibank, fall into the big data warehouses, we now mine that data. We use data analytics to understand what we’re consuming in health care for the four million lives we cover and we benchmark what we see across 400 hospitals that we contract with and thousands and thousands of ancillary providers and we see incredible unwarranted variation in the cost, frequency and the quality of those services. We see revision rates that are way out of the bell curve and we ask why are getting surgical revision rates that are high in this part of the landscape and we go in there and investigate. We find that there are costs that we’re consuming there that are unproductive costs, not only for the health fund but for the patient who’s exposed to those costs. We find frequencies of infection that are much, much higher across our landscape than in the mean or in the average areas. And then we say so what is driving that variation? With that data and analytics we now have health care insight. The people who have run our health businesses in Medibank now run all of that procurement as well. We gave them a broader assignment.

AK: Since when have you had this insight?

GS: For the last couple of years we’ve started to build.

AK: Right. And is that now turning into actual profitability for you?

GS: Well, it gives us a lens on the 87c which we believe is relatively unique as a lens for a large player, the size and understanding. We have the people in terms of health professionals in Medibank now who can understand the digestion of those large quantums of health care costs and the variation in quality. So, when we go back to contract with the many providers that we contract with, we no longer just sit there and do an indexation negotiation, you know, the CPI adjustment; we come with loads and loads of information about what we purchased from this provider or their multi sites last year, what we saw in that purchasing and how we benchmark that purchasing against the rest of the Australian landscape and then we start to talk about the delta, the negative deltas of underperformance, and the first sort of statement we make is well, if it’s sub-average, why would Medibank pay for it and why would a Medibank customer want to receive it?

AK: So, how does that conversation unfold with the hospital, that’s a sub-average hospital? What happens? Do you say well look, we’re not going to pay?

GS: Well, clinical performance can be improved in any hospital and in the hospitals we contract with, when we contract around quality and a quantum of service delivery, we now say to the provider: we want to hold you accountable for the quality that we’re purchasing and under-performance won’t be paid for, over-performance can be a reward environment and certainly we expect that a consistency of performance across all the contracted sites. And that delta alone, if were to remove the size and quantum of that delta as it’s starting to emerge for us, that has enough for us to be confident that we can drive value going forward. To sort of answer your first question about the years of possible growth, where will the future come from, in the quality of procured services.

AK: Because that’s more than what Rob was talking about with waste. That’s an effectiveness of surgery issue, surgery revisions, infections …

GS: But it is a quality measure.

AK: Well, it’s a quality, but it’s not the paperwork Rob was talking about.

GS: No. That’s another item in itself.

AK: That’s another issue which is still…

GS: Yeah. Yeah. But that does drive not having an electronic health record or at least the history of that patient at the point of care can also contribute to poor quality as well.

RG: So, if you improve the standard of hospitals and medical, is there a danger that instead of that money going to the shareholders, in fact the regulator will say ‘aha’, I can reduce the premiums on the health cover?

AK: Yeah. I was wondering the same thing.

GS: Yeah. Well, we think the effort to go to saving costs or, if you like, reducing the year-on-year growth in health care costs by identifying underperforming health care and extracting that out of commercial negotiations, so it becomes a save, should be rewarded, not penalised, right?.

AK: Yeah, but it’s a question of who gets rewarded. Because the customers might get rewarded by the regulator holding down premium prices.

GS: We have no issue around sharing our yield in terms of better cost management with customer affordability. In fact, that is our plan. We know that we have to bring down or, if you like, make the affordability of private health insurance a stronger proposition than it is today. We’ve got the rebate eroding every year because of the differential in indexation between the rebate and CPI versus health CPI, so the 30 per cent rebate is now 28 per cent going forward and going lower and lower, so we’re concerned about that. So, somebody who receives a 6 per cent premium increase now also loses one and a quarter in their rebate, so they’re getting a seven and a quarter premium increase. So, we feel that stress for customers. So, how are we going to help them? We need to procure well, get some save in the procurement for both bottom line and customer affordability. That’s our plan.

RG: You’re going to put the squeeze on the other health funds, aren’t you?

GS: Well, we want to certainly compete in a way where we provide more value for the money that’s being asked for, absolutely.

RG: And will you…

GS: It’s one of the objectives of privatising Medibank from the minister himself was to increase the competition in the sector by privatising Medibank.

RG: Will you look to take over some of the rivals because they’ll struggle?

GS: Well, this is sort of a funny sort of sector in that… in, you know, ask the M&A question. And on the roadshow we were asked it at every one of the 150 investor meetings. It’s a very long tail, isn’t it, 34 funds.

RG: Hear, hear.

GS: The top five or six are… you know, make up their own 85 per cent of the members in the sector. If you look at Medibank’s near 30 cent share, we lose about 3 per cent market share a year in lapse and we acquire roughly the same. That three per cent market share that moves in and out of Medibank, 10 per cent -- we’re slightly under 10; we’re around nine in the lapse rate, slightly under industry average -- that lapse if you go down to the grid, say to a health fund like Australian Unity just over three per cent and then below them another 27 funds in size. So, in the M&A conversation, the question is: Medibank you need to get your own house in order first before you go out shopping for other health funds. There are 3 per cent market share leaving your book every year, as do the others in terms of lapse, but why wouldn’t we invest in better retention systems, the capability of saving the customers we already have, which is a much better economic proposition in terms of investment and return, than go shopping for somebody else’s customers? You know, we have all of that value opportunity in our own shop.

AK: And it won’t cost you goodwill.

GS: That’s right and also the distraction of the M&A. No, we acquired AHM four or five years ago. They were in distress. I don’t know of any other health fund that’s in distress. I think you need that to sort of facilitate an M&A. So, we’re not relying on that to make the future happen for us.

AK: What about your own margins? BUPA’s underwriting margins are 300 basis points better than yours. What are you going to do to get your margins to that level?

GS: Yes. You’re alluding to that page in the prospectus where there’s some historical data around net operating margins. I think we were at about 3.7 or something in that grid in 2013, and BUPA was around just over six. 

We landed the year at 4.4. We got a prospectus margin of net of 4.9, so you know you can see a very strong growth path as we move up the scale in margin growth. We’re investing in the continuation of that through the 87c strategy of managing healthcare costs in a sustainable, long-term way.

AK: So, that gets back to the 87c, right?

GS: Yeah, absolutely. And the underperforming costs in the 87c. 

I’ll give you another example of that. We’ll look across the spectrum on claims data on dental claiming. We know the number of chairs versus the volume in claiming ratios.  The analytics team can discern consumption rates, and they find a series of providers who have enormous volume ratios for chairs. We go and do an audit, and we discover that someone is defrauding the fund, they’re just cranking the card without a patient. We deregister them and hand them over to authorities if it is fraud. 

The whole idea of the 87c is that like other areas of the financial services sector, there is leakage. And smart operators use systems, people who understand the health system -- a third of our workforce are health professionals -- who then use data and analytics to come from our invested systems to make our organisation a better procurer of health services with a tighter control over the consumption of those services and a more consistent approach to quality. 

RG: We’re running into an Australian society, according to Treasury, where income growth per capita is not going to rise. It’s gradually going to fall to almost nil. That’s already affecting discretionary expenditure over many areas.

GS: Yes.

RG: Do you think it will affect discretionary expenditure over private health, that people will say ‘Well, sorry, I just can’t afford that anymore, my income’s not going up and my mortgage is where it is and whatever it is other costs I’ve got?’

GS: Good question, Robert. We’re into probably the third generation of private health as a sort of a paradigm in Australia, so it’s been around for a while. 

It certainly is a significant participation rate -- around 50 per cent of the population -- which is very high compared to some of the other markets in the world. We certainly got some feedback when we went on the roadshow from some of the international investors.

Firstly, we need to understand that the price of health insurance in Australia, because it’s community-rated and has the assistance of the rebate along with the tax incentives that compel people to buy after the age of thirty, those three very important government variables do drive strong participation. We’ve seen that consistently, even through very significant down cycles in the economy. 

The subsidiser in Australia is not the employer, it’s the government. So, being in employment is so important for participation in private health in North America and the UK. In Australia, the mechanisms are independent of employment.That’s a really good thing. 

Secondly, the price we pay because it’s community-rated and it’s risk-equalised, is that a $4000 comprehensive family cover in Australia -- 50-year-old parents and teenaged children -- one cover for four people here is $4000, less the rebate, $2800 dollars per year. In the interviews we had in North America and in the UK, they said, ‘Per month?’ I said no, per year. And they said how do you do it so low? 

Now, I know that on a global basis we may be a winner, i.e. our price point is much, much lower than those northern hemisphere markets. In Australia, mums and dads see the increases every year and they may stress out. So, who would be concerned, apart from the health insurers who have their own self-interest, in this particular question? 

The Australian government would be concerned to see the participation rate lower. We keep 50 per cent of the Australian population out of public hospitals through private health cover and private hospital care. That pressure off our public system keeps our healthcare expenditure as a nation to below 10 per cent of GDP still, whereas Europe and the OECD averages are now into the 11s and 12s. And in the US, we know it’s at 18 per cent and totally out of control. 

We have a set of policy frameworks in Australia, which bipartisan governments have supported over around 15 years. If we did see a degradation in the participation rate, I’m sure we would see government come to the party along with the sector saying, ‘We’ve got to fix this, because ultimately everyone pays more if we see a significant part of the privately insured population move to public care’.

AK: Last time I spoke to you, you talked about how you were starting to get involved in primary healthcare and start to concierge chronic patients at the doctor level. 

GS: That’s right.

AK: Will that have a benefit for the public system as well as the private system?

GS: Absolutely. We certainly share our gains in cost management with the broader system. We can’t put a fence around those savings and shield the rest of the sector from them to keep them all to ourselves.

AK: Explain how the savings work in what you’re going to do.

GS: Firstly, the costs that we’re trying to save, 2 per cent of our customers claim 35 per cent of our hospital claims. So we paid out $5bn last year in total claims, just under $4bn were hospital claims, so about $1.2bn are hospital claims from the 2 per cent. We know them by name. We know all our customers by name. So, how do we deal with these particular…

AK: That 2 per cent is a small number, as you say.

GS: A small number. So, how do we deal with this cost in our book? 

Firstly, it’s a customer need. It’s a complex customer. Their KPIs, as we do the analytics, show that this group of individuals go to hospital four times in four years.  That’s how we find them. 

Now, who’s gone to hospital for four or less over that, and then some of them go to hospital four times in one year. But overall it’s four years, four times.  That’s the basket. Just over 2 per cent of our members claim 35 per cent of our claims in hospital. 

As we get to understand who these people are because we go found out -- we have our focus groups, our conversations, our outbound calls -- we understand that they have several issues. Some of them might be just old and frail. Others, English is not their first language. Others have a mental health problem.  Lots of issues. Getting to the primary care system on time, fronting up to all that it can offer, not missing those appointments, is the problem. 

So, how do we get more of the primary care system for these high claimers, so that they don’t default as often into acute care system? We know they don’t want to go there: it’s just that if you don’t get enough primary care, you’ll be in acute care, especially if you have high needs. 

The Medibank business has a very significant tele-health capability: 800 nurses and docs doing 24/7 to run all of the health direct nurse on-call and healthline services in Australia and New Zealand. We’ve used some of that capability to create a concierge. 

We facilitate a concierge link with the general practitioner of these high-needs patients. We do the very best we can to encourage them through the primary care system: make the bookings, turn up with the transport, get them there on time. 

We’re doing some trials now in Victoria and in Western Australia to prove the point that if you do significantly invest in this coordination of primary care, you will lower unnecessary acute care. And it is still about four or five months away before we do some evaluation, but it’s just another example. We talked about the 87c before. There’s also the 2 per cent that claim 35; another concentrated area of health costs that we’re working on.

RG: It’s a bit like Tony Abbott’s co-payment with the $5. You’re actually trying to achieve the same thing in a different way.

GS: We’re funding it. So, we’re happy as a health fund…

RG: Yeah, I understand you’re funding it, but you’re actually trying to achieve the same objective.

GS: We’re not passing these costs on to patients.

RG: No, no, I understand that.

One more point, going back to the prospectus: do you think it’s fair to say you were just a little bit naughty? 

You sold the Medibank shares at a yield of 4.2 per cent and that involved paying out 89 per cent of the profit in dividends. But you also said, well, we should really pay 75 per cent. So, wouldn’t it have been better to actually have just paid the 75 per cent of the profit in the current year, rather than to push it up, which got the premium a bit higher than it should have been?

GS: The engineering of what was paid out was done where government is an owner of the company, right, and we go right up to the sale point and the prospectus is the government in its handover. Whatever conversations were had that produced that outcome were very much at the time where the Australian government was very much in control of the sale process. That’s very clear. 

But I don’t believe we’ve hidden the detail; it’s clearly stated in the prospectus. We make a strong case about what the normalised yields are, which are not the same yields as the first year.

RG: But what you’re saying is it was naughty, but that was the government’s fault.

AK: The government’s fault, yeah.

GS: I’m just saying that the owner has brought the company to market and, as you can see and it’s all there for everyone to see, that it was well received, oversubscribed to people who were excited by our mission and our brand and the role we’re going to play in the future.

RG: Are you going to maintain the dividend rate?

GS: Our commitment is laid out in the prospectus. We’re not saying anything beyond prospectus there. We can’t. 

RG: You’ll certainly pay the dividend to the year ended June 30, 2015?

GS: We certainly made the case at 70 to 80 cent.

RG: But next year afterwards you actually have hedged it a bit.

GS: Because we have a capital policy: between 12-14 per cent of our premiums form the basis of our capital policy. Our capital policy in the mid-11s needs to be restored to that midpoint, so we want to make sure that we do that.

RG: But to maintain the dividend at the rate that you’re going to pay in 2014-15, your 87c and the other efforts have to really work, don’t they?

GS: Absolutely.

AK: Wayne Swan got special dividends out of you. I mean, the last three years of Wayne Swan, he got $1bn off you.

GS: They did.

AK: We can expect special dividends, can’t we?

GS: Well, if you look at the trajectory…

RG: It’s gone.

GS: Yeah. I think Rob has answered the question. Obviously …

AK: Oh, the money’s gone.

GS: Obviously, the capital reduction program in the period of for profit conversion, which is the last five years, brought us through to an efficient capital base. That was the capital entry point for the float. To get there was a series of special divs along with the ordinaries. You can’t go below that any further. 

So we’ve had our period of special divs. If the business performs well in the future and that can create capital that’s best to be returned, the board can make that decision or it could be invested in growth. We’ll see what the future brings.

AK: We’ll have to leave it there, George. Thank you.

RG: Thanks, George.

GS: Thank you very much.

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