I had dinner with a friend this weekend who has decided to leave the world of investing OPM (Other People's Money) - and will be investing his own account for a living. One of the biggest issues with doing something like this is health insurance. Personal and Single Family Health Insurance have historically been prohibitivly expensive. Occasionally a regional chamber of commerce will allow small businesses to join together and obtain a group health insurance plan, but this practice is not widespread and is subject to a wide range of limitations.
My friend had mentioned Costco was testing a program to offer health insurance to its members... and sure enough - an AP story showed up yesterday. Here is the link to the article:
Costco to Test Health Insurance Offering
Money quote - "Costco's move to sell health plans through its membership stores probably won't have much effect on the nation's estimated 45 million uninsured. But if other big-box discounters jump in, it could do to brokers what Wal-Mart did to small retailers, analysts said Friday."
I would classify this as a low-end disruption. A product that is "good enough" at a lower cost. While the article doesn't make this clear, my hunch is that the Costco offering will be a good basic insurance without any of the more "upscale" offerings such as dental insurance, discounted health club memberships, and reduced premiums for quitting smoking. As the article mentions at the end, "...this could accelerate an emerging trend of offering locally based, low-premium niche plans that reduce costs by limiting care to one or two hospitals."
At a 20% discount to existing premiums, the product is still expensive, and thus unlikely to address the problem of the uninsured. But to the extent that customers previously unable to purchase health insurance are now able to obtain it, one could argue that this could be a new-market disruption. What do others think?
Regardless, if Costco is successful, you can be confident that others will follow. When health insurance brokers repond saying "These customers purchase low-end, low margin products - I'm not interested in serving them," they would do well to keep the example of steel mini-mills described in Chapter 4 of The Innovator's Dilemma in mind.
More Disruption in Health Insurance
Chris CarterPosted by Chris Carter in Comments (3)
Discussion
Posted: Saturday, June 25th, 2005 - 7:34 am EDT
I agree that this should be classified as a disruptive innovation, but I am not sure whether it has the potential to succeed with that business model. There is a similar discussion in Korea. Some discount retailers try to sell auto insurance. Auto insurance may be an easier product to sell in a discount store, but I have been skeptic about the idea as well.
The question I have is whether the discount store has the cost advantage against the agents. In 2000, I developed the idea and the strategy for Korea's first direct (Internet and inbound call) auto insurance. Two of my arguments for launching the new business were that there were people who would like to buy auto insurance online without seeing an agent, and online insurance can lower the cost of insurance significantly by not providing agent service. In the case of discount store, however, is there a real cost difference? I don't know what business model CostCo is applying in the US, but I believe they have some space for insurance in the store and at least one sales person. In principle agents do not need physical space, even though many still do, as they go out to see customers. To have a ow-cost potential, I can only imagine that CostCo should sell insurances like they sell magazines or chewing gums. That is, display insurance on a shelf space, sell a lot, and without help of insurance-trained employees.
Otherwise, they may be just doing a price play. I just don't see why it has to be a discount store.
I thank professor Christensen, as his work helped my consulting work. When I was working on the auto project, I had not heard of disruptive innovation. When I was working on the first direct life insurance project later, I found Innovator's Dilemma in the middle of the project. I was happy as it confirmed most of my hypotheses, among which was to have a reasonably separate new division for the new division. Looking back, how I found the book may show the delicate nature of the problem. In the middle of the project, I was frustrated that the management always discussed the direct insurance idea in light of their traditional agent-based insurance. They either resisted the new idea for protection of the old, or sometimes the meeting completely switched to discussion of current issues of agent channel.
Professor Christensen's studies touch the most delicate issues that concern the most serious strategists. Right now, I am working on a second-wave issue on the direct auto insurance. As more companies join online insurance model, price competition is getting fiercer and margin is likely to erode. So the natural question is how to improve and sustain profitability. I agree with his theory, and tend to simplify that wherever demand is, profit must be somewhere around that demand.
I like your blog. I have been thinking about having one myself for my own consultancy (Innomove Group in Korea), and I will. But I guess the challenge is to diffuse it, which is another important issue on innovation. I found Tipping Point a well-written popular kind of book on this, though there are more strategy-oriented books. Good luck!
Posted: Sunday, June 26th, 2005 - 9:40 am EDT
Hyokon -
You make some interesting points. My guess (and I don't know for sure as I haven't evaluated Costco's plan in detail), is that Costco is simply going to offer health insurance and will do little to no one-on-one marketing. At the start, they will only offer the product to thier "Executive" members (their highest level members). They will probably offer only one plan through an insurer such as United Health Care (one with a nation-wide network). They may even add the executive members to the Costco healthplan.
It seems to me to be an actuarial issue. Small group and individual health insurance is so expensive because you have fewer individuals to spread out the risk. In fact, due to the high cost, there is a potential for negative selection, where they only people willing to pay the high prices for insurance are the ones who are most likely to benefit from it. Unlike the auto insurance - which is mandatory in most states in order to register a car - health insurance is not, and so healthier individuals can opt out and essentially insure themselves. New auto insurance customers are either first time purchasers (a fairly steady but small group) or switchers (probably a larger group). New health insurance customers are likely to be uninsured and people on COBRA. Given the 40MM uninsured in the US, that's a large market.
The broader base of customers is important as it allows health insurers to make money at lower rates. So the key for Costco will be to make the program big enough. The test in CA should give an idea of demand, and allow Costco to determine if the plan makes sense.
I would love to hear your thoughts.
Posted: Sunday, June 26th, 2005 - 10:33 am EDT
I think I understand your point. It seems that the cost differential is mostly actuarial. And the administrative cost reduction by having only 2 plans as opposed to 10. It is mostly innovation around product, rather than channel. And they believe that at this price level the uninsured will buy the insurance.
Then the reason that the insurer needed CostCo as the distribution channel is that CostCo has customer base in which many uninsured exist. And simplicity of building awareness. But it is unclear whether CostCo(or a discount store) can remain as a critical component in the business model. The product could be sold through other channels like Internet or telemarketing. Hospitals (get insurance before getting treatment), drugstores, and banks could all be good or even better alternative channels to attract the uninsured. Also, insurance business probably does not have much synergy with CostCo's "consumer product" retail business.
In the case of online auto insurance, we knew that the Internet channel had a natural actuarial implication as well as the distribution cost differentials. The Internet users were mostly city-living and white-collar, and they (or their spuse) mostly drove inside the cities. So they were not likely to have big accidents.
To summarize, I guess the CostCo health insurance product has genuine potential to attract the uninsured and/or current insured who are not happy with current offering ("I am paying for services that I don't benefit from"). And CostCo triggered it. But I am not sure whether CostCo will be the big winner of this new game. It will be interesting to see the game's development.
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