have entered the South African market in decades, Discovery has
built an impressive business on the foundation laid by its health
insurance unit. Though Discovery had to admit defeat in the US, its
South African and UK businesses continue to forge ahead at a brisk
pace.
Breaking into the US health insurance market is a tough
challenge, as South African composite insurer Discovery Holdings
has found to its cost. After seven years of uphill battle and
losses totalling $146 million – an amount equal to 9 percent of its
total profit over the period – Discovery is to call it a day and
transfer the 50,000 members of its Chicago-based Destiny Health
unit to an undisclosed carrier. Discovery estimates that during
Destiny’s 18-month run-off period it will incur additional costs of
between $25 million and $30 million.
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Destiny’s products, which are underwritten and marketed by US
mutual insurer Guardian Life Insurance Company of America, were not
the stumbling block in the road to success, Discovery CEO Adrian
Gore told LII. Indeed, the consumer-directed health plans marketed
in the US have enjoyed immense success in South Africa since
Discovery’s founding in 1992 and are achieving strong acceptance in
the UK via a joint venture with UK insurer Prudential.
The biggest problem faced by Destiny was a lack of scale, explained
Gore. “As a small start-up we could never obtain the network
discounts [on medical services] that the big US health insurers
enjoy.” said Gore. Discounts enjoyed by big players are as much as
30 percent and, he added “it proved to be an intractable problem”.
Though Destiny’s products were marketed by Guardian Life in
Illinois, Virginia, Washington DC, Maryland and Texas, activity was
confined primarily to Illinois.
However, Gore stressed that though Destiny is being wound up,
Discovery remains firmly committed to developing its Vitality brand
in the US. Vitality is a stand-alone unit that assists its members
achieve healthier lifestyles and is a core feature of all
Discovery’s products, which range from health and life insurance to
credit cards and retail investment management. Discovery sums up
Vitality’s approach as:
• enabling members to ascertain how healthy they are;
• assisting members to set personal goals to improve their
health; and
• providing incentives such as lower premiums and retailer and
travel discounts to achieve a healthier lifestyle.
He stressed that unlike retail insurance, Vitality is not capital
intensive and that additional capital investment would be coupled
to the success achieved as the business evolves in the US. Gore
said Vitality in the US already has about 50,000 members drawn from
five “big corporates” that have adopted Vitality. Among adopters of
Vitality is media and internet group AOL.
The probability that more large US companies will adopt Vitality is
high, indicates a survey of executives from 448 major companies
undertaken by human resource consultancy Hewitt Associates in 2007.
Almost two-thirds of respondents indicated they intend becoming
much more involved in the health and healthcare of their employees.
These employers, said Hewitt Associates, view a healthy, present
and productive work force as a critical business advantage and are
likely to offer “cutting-edge programmes” around health and
healthcare.
No looking back
The failure of Destiny to make the grade is viewed philosophically
by Gore. “We have started all our businesses from the ground up and
it is inevitable that some won’t succeed,” he said. Indeed, Destiny
is the first failure in what has been a series of impressive
achievements over the 16 years since Gore, then 28 years old,
founded Discovery’s first unit, Discovery Health, in South Africa.
The timing of Discovery Health’s launch was significant, coming
three years after removal of regulations that had prohibited health
insurers from risk-rating premiums and excluding high-risk
individuals.
Though regulations requiring health insurers to accept all
membership applications and prohibiting them from risk-rating
premiums was reimposed in 2000, the period of deregulation provided
the ideal environment for Discovery Health to flourish.
Spearheading its drive into what had remained a largely
innovation-shy health insurance industry for a century, Discovery
Health pioneered consumer-driven healthcare (CDH) in South Africa
with the introduction of innovations such as medical savings
accounts and the Vitality wellness programme.
Discovery Health is South Africa’s largest health insurer and in a
market of 41 open and 83 restricted health plan providers holds a
30 percent market share and has just over 2 million members, about
three times more than its closest rival, Bonitas. According to
Gore, 1.2 million Discovery Health members are enrolled in the
Vitality programme.
However, Discovery Health’s growth in terms of new members has
slowed appreciably in recent years. For example, between June 1999
and June 2003 membership increased from 509,858 to 1.446 million, a
CAGR of 29.8 percent. During the next four years to June 2007,
membership grew to 2.026 million, a CAGR of 8.8 percent, while the
increase between December 2006 and December 2007 when membership
stood at 2.054 million was 4 percent.
In part, slower growth is attributable to Discovery Health’s
dominant market position and emergence of stronger competition
that, notably, includes Momentum Health, launched in July 2005 by
Discovery’s former controlling shareholder, South African bank
First National Bank. Momentum Health now has about 520,000 members,
making it the fourth-largest South African health insurer.
In addition to increased competition, membership growth in South
Africa’s health insurance market has been sluggish for many years.
According to statutory body the Council for Medical Schemes (CMS),
the number of members of open private health plan providers
increased from 4.7 million in 2000 to 5.1 million in 2006, a CAGR
of only 1.4 percent.
Risk-only products
Discovery responded to the challenge of its maturing health
business and tightening health insurance regulation by launching a
life insurance unit, Discovery Life, in October 2000. Again the
insurer adopted an approach then unique in South Africa by
confining its offerings to risk-only products such as life,
disability and dread disease, and linking policy premiums to
membership of its Vitality programme and its Discovery
Health.
Discovery Health customers who are also Vitality members are
entitled to initial premium discounts of up to 20 percent on new
policies and also have the opportunity to reduce the cost of risk
cover by managing their health. In essence, policyholders are
entitled to a refund of a portion of their premiums every five
years; the percentage refund is determined by their Discovery
Health claims and their Vitality status, which is determined by the
extent of effort put into improving their health and lifestyle. The
maximum premium refund achievable is 50 percent.
Pure risk products soon proved to be what the insurance-buying
public wanted and within two years of Discovery Life’s launch its
long-established competitors such as Old Mutual, Sanlam and Liberty
Life followed its lead by introducing risk-only products of their
own. A number of insurers also no longer offer life products that
include an investment element.
However, while competition in the risk-only space was inevitable,
Discovery Life made full use of its first-to-market advantage.
According to Gore, Discovery believes it transacts more new
business in the pure risk market than any other South African
insurer. It also estimates that Discovery Life accounts for about
40 percent of life product sales via independent brokers.
Healthier policyholders also mean better claims and lapse
experience. “The combination of innovative and relevant benefit
structures with the use of Vitality to enable dynamic pricing
allowed Discovery Life to achieve unique levels of competitiveness,
and better risk selection – both in terms of new business and
lapses,” said Gore, referring to Discovery’s results for the six
months to December 2007. Mortality and morbidity experiences were
also significantly lower than expected, he added.
During the six months, Discovery Life reported new business premium
income of ZAR627 million ($82 million), a 31 percent increased
compared with the corresponding period in 2006, while the value of
business in force increased 31 percent to ZAR6.62 billion.
Discovery Life’s operating profit for the six-month period
increased 56 percent to ZAR557 million. This was a significantly
faster growth pace than that achieved by Discovery Health, which
increased operating profit 14 percent to ZAR389 million and new
business premium income 2.6 percent to ZAR1.27 billion. Discovery
Life, which now has about 400,000 policyholders, is anticipated to
continue outpacing Discovery Health’s profit growth rate, said
Gore.
The Prudential partnership
It would certainly seem that Prudential chose wisely when it
selected Discovery to partner it in its UK private health insurance
venture, PruHealth, launched in October 2004. Discovery’s CDH
approach including Vitality has been successfully adopted by
PruHealth which, said Gore, “is progressing very well”.
PruHealth ended 2007 with 142,000 members, up from 110,000 at the
start of the year, and gross premium income of £64 million ($126
million), up 80 percent compared with 2006. Based on new business,
PruHealth is now second only to the UK’s largest and oldest private
health insurer, BUPA.
However, rapid growth and the upfront nature of PruHealth’s
acquisition costs have meant that profits are still illusive, an
operating loss of ZAR126 million being reported in the six months
to December 2007. This was down from a ZAR234 million loss in the
comparable 2006 period.
Embedded value provides a more appropriate measure of the progress
made by PruHealth, said Gore. This was reported for the first time
in the 2007 half-year results and stood at ZAR1.25 billion,
comprising ZAR564 million of value-in-force and ZAR686 million of
net asset value.
Positive experience with PruHealth prompted the formation of a
second joint venture between Prudential and Discovery, a pure risk
product life insurer called PruProtect, launched in September 2007.
In all key respects PruProtect is a replica of Discovery Life and
is housed together with PruHealth in a holding company,
PruProtection. Prudential and Discovery have budgeted to spend a
total of about £70 million each over five years to build
PruProtect, which has a distribution model focused on independent
advisers. As part of its distribution strategy, PruProtect is
establishing owner-managed advisory businesses across the UK.
New unit for South Africa
Rounding off its risk management financial services offerings in
South Africa, Discovery launched a retail asset management unit,
Discovery Invest, in October 2007. Though still early days, Gore
said, initial response had “exceeded expectations”, with the new
unit attracting ZAR330 million in investments in its first 12 weeks
of operation.
With its products, which cover mutual fund- and life
insurance-based investments, Discovery Invest has introduced a
number of unique features, most of which are coupled to membership
of Discovery Health and the Vitality programme. For example,
existing Discovery Life policyholders who opt for a Discovery
Invest investment product can, depending on their Vitality status,
receive discounts of up to 100 percent on asset management and
administration fees.
Other unique new products are domestic and global equity funds that
offer investors a guarantee linked to the performance of specific
benchmarks. If a Discovery fund’s returns are below those produced
by their benchmark, investors in the fund will receive between 75
percent and 100 percent of the amount the benchmark return exceeds
the return of the Discovery product. As benchmarks, the global fund
uses either the US S&P 500 Index or the European Eurostoxx 50
Index; the domestic fund uses either the local Top40 index or the
return produced by one of three leading mutual funds.
Notably, formation of Discovery Invest marked the parting of the
ways for Discovery and First National Bank (FNB), Discovery’s
controlling shareholder since 1992. Quite simply, the investment
unit represented just one too many conflicts of interest. At the
time of FNB’s announcement in September 2007 that it was to
distribute its stake in Discovery to FNB shareholders, the bank
said in a statement: “With Discovery now entering the investment
market and Momentum’s growing presence in the health sector, both
will increasingly be competing head-on in all product areas.”
In October 2007 FNB distributed the 57.1 percent of Discovery’s
shares worth ZAR16 billion it owned to FNB shareholders.
Discovery’s largest shareholder is now South African investment
bank RMB Holdings, which holds a 25 percent stake. The largest
private investors are Gore, who has a 7.9 percent stake, and fellow
director Barry Swartzberg, who has a 3.6 percent stake.
