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By William Langbein

NEW YORK (Reuters Health) – While profits at health maintenance organizations (HMOs) rose an impressive 8% in the first quarter of 2001, the pending recession does not bode well for sustained earnings in the industry, according to the independent financial ratings agency Weiss Ratings Inc.

The first quarter net profit of $323 million reflects rate increases the industry has been able to implement in the past three years, said Weiss Ratings Chairman Dr. Martin Weiss.

"If the recession takes hold as forecast, you could see rate increases ending quickly," Dr. Weiss told Reuters Health. "Employers already are cutting back on the number of employees to be insured. The enrollment decline reduces HMO revenue and makes it more difficult to raise rates."

In the first quarter of 2000, the industry reported a net profit of $298 million, and industry earnings for all of 2000 totaled nearly $1 billion.

Dr. Weiss said that the recent rise in profits is almost entirely correlated to rate increases health plans have been able to pass on to businesses and consumers.

While the overall health of the industry appears to be improving, Weiss reported that 40.5% of the country's HMOs still lost money through March 31, 2001. Most of the red ink flowed from HMOs with less than 100,000 enrollees, with 44.5% of these companies reported losses.

Among the country's largest HMOs, about 31% of the health plans reported losses in the first quarter. Eleven of 37 HMOs with enrollments between 250,000 and 500,000 failed to break into the black in the first three months of 2001, while 10 of 32 plans with more than 500,000 enrollees reported losses.

The trend of small HMOs continuing to lose money may be a harbinger for the industry as a whole, noted Dr. Weiss. Small HMOs cannot offer the same breadth of services as larger health plans. As a result, businesses gravitate toward larger HMOs and smaller companies go bankrupt. But even though the larger HMOs gain more enrollees, Dr. Weiss doubts they will be able to profit from plans that feature more choice and services because the recession will decrease enrollment in more expensive options.

In recent years, HMOs have suffered high bankruptcy rates, with 58 companies failing between 1997 and 2000. After a return to profitability in 2000, the bankruptcy rate has since diminished to only seven HMO failures so far in 2001.

Dr. Weiss cautioned that if the current recession deepens, the danger of failure will re-emerge. "The high failure rate has subsided, but not gone away entirely," he said.

Of the 456 HMOs that Weiss rated based on first-quarter 2001 data, 40 received safety rating upgrades, while 14 were downgraded. The ratings were based on total assets, capital, anticipated premiums and net income. Two notable upgrades by Weiss were Americhoice of New York, Inc. from D+ to C+ and Geisinger Health Plan of Pennsylvania from D to a C- rating.

Cigna Healthcare of Virginia, Inc. was downgraded from a B- to C+ and Parkland Community Health Plan in Texas dropped from a C- to a D+ safety rating.

Palm Beach Gardens, Florida-based Weiss did not issue a forecast of industry profits for the remaining three quarters of 2001. Dr. Weiss, however, said that he anticipated HMOs may have to give back their recent gains in 2002 if the recession deepens.

The HMO industry's net income of $990 million last year followed aggregate losses of $199 million in 1999, $864 million in 1998 and $755 million in 1997. In 1996, the industry posted net income of $746 million.