Exchanges Bring Big Opportunities for the Industry

The following is based on a comprehensive analysis by PWC Health.

The new state-based exchanges represent a major business opportunity for the insurance industry — an estimated $205 billion in premiums by 2021. One year from now, 12 million Americans are expected to begin purchasing health insurance through exchanges. Federal subsidies will entice many to the program with coverage starting in 2014. By 2021, the exchange market is expected to more than double, marking the largest expansion of health coverage since the creation of Medicare in 1965.

“This is the largest open enrollment in our careers,” said Kim Jacobs, vice president of product and innovation at UPMC Health Plan. Individual state exchange members in 2021 are projected to range from 100,000 in states such as Maine to 3.5 million in California. “Public exchanges will create an irreversible shift in the insurance market that will ultimately change the way medical care is sold in the U.S.,” said Joel Ario, managing director of Manatt Health Solutions and the former head of insurance exchange planning at HHS.

Private Exchanges

Private, employer-focused exchanges have much to gain. Unbounded by public exchange requirements, private exchanges can experiment with different approaches and adapt rapidly to consumer demands. They may lead the way in the quality of customer experience. “In an exchange, employees spend money differently than employers think. Individuals often buy up when they understand their choices,” said Ron Goldstein, president and CEO of CHOICE Administrators. Choices can include services such as vision, chiropractic service or more coverage for family members. “We’ve relied heavily on the broker network to educate the individuals; as more choice is introduced into the system, we’ll need the brokers to continue to play that educator role,” he added.

Ario, said, “Private exchanges, already up and running in a handful of markets, may serve as innovation models in this new purchasing environment targeting employers and consumers seeking lower costs, greater transparency and convenience.” In many ways, the private exchange is the precursor to the public exchanges envisioned in the ACA. In the future, private exchanges will create an alternative for employers and for individuals who don’t qualify for government-subsidized insurance.

Private exchanges offer an alternative for employers to move toward a defined contribution approach that caps costs while offering access to a wider array of benefits. Starting in March 2013, employers will be required to notify employees about the new exchanges, providing detailed information on services offered and subsidy eligibility. The business must also clarify that it will not provide a contribution toward coverage if the employee enrolls in an exchange plan.

Medicaid Managed Care

Medicaid Managed Care organizations, which have experience addressing the needs of a lower income population, may be well equipped to serve the market. In the latter years, the average income of exchange participants trends slightly upward as higher income people join the exchanges. For example, in 2014, HRI estimates that 16% of the individual exchange population will have incomes above 300% FPL. The portion rises to 35% in 2021.

Challenges for Insurers

For carriers, thriving in this new market won’t be easy. Insurers will need to maintain a balance of healthy and sick members to limit adverse selection. Providers and insurers will face challenges in serving a new customer base with a demographic profile and health needs that differ from today’s insured population.

Insurance companies must determine how to price at the different levels of plans laid out in the ACA — bronze, silver, gold and platinum — each having cost sharing percentages. Consumers care about price; with all else being equal, price will win. That’s where health plans will start competing in the exchanges. Some plans will price low to attract new customers while some may price higher to avoid the sickest, costliest patients. Higher-priced plans with a better fitting provider network could beat out some lower-priced plans. As previous HRI research has shown, 47% of consumers are willing to pay more for additional insurance features, such as dental or vision coverage. Even more important to consumers is the quality of insurance coverage. Consumers cited benefits and provider network as their top two aspects that define quality. Lower costs came in third.

Insurers focus on finding the sweet spot in product pricing and managing the influx of enrollees. It may be easier for larger insurers to turn a profit under the small margins, said Ario. Large-scale acquisitions are a likely outcome. However, regional insurers and accountable care organizations could provide tough competition to larger companies in markets with fewer players because they know their customer base and they can be competitive on price and benefits.

The pace of state exchange planning poses challenges for insurance companies. The timeline to begin qualifying health plans begins in October, but no state is ready. High progress states, such as California and New York, hope to begin health plan certification in early 2013. Only a few carriers may find it realistic or worthwhile to participate in all 50 public exchange markets.

Plans will compete head-to-head in the exchanges and against plans operating outside of the exchanges. Increased competition and pricing transparency will pressure insurers to control costs while maintaining benefits and quality. As the insurance exchange population becomes more demanding, plans will need more than price to attract and retain members.

Insurers that decide to compete in an exchange must keep a careful eye on administrative costs. Plans must already keep these costs below 15% to 20% of premiums under the ACA’s medical loss ratio requirements. Even if the company does well, it will be required to relinquish a portion of profits above 3% for the first few years as part of the “risk corridor function,” which is a temporary program that limits gains and losses by insurers operating in the exchange. And while there are controls in place to limit plan loss and liability from high-cost members, there are no guarantees of long-term profitability.

In addition to public exchanges, insurers look for opportunities in the private exchange world, including with small businesses. Insurers may work to create their own single carrier exchanges or participate in broader third-party exchange networks. As the environment shifts to a direct-to-consumer market, segmentation will be an important means to offer differentiated products to consumers and potentially also manage risk. Winners are likely to find a way to communicate with consumers in a way that non-healthcare professionals can understand.

Insurers will put pressure on providers to deliver value over volume. Enrollment in exchanges could speed up new expectations of care such as more online capabilities, improved transparency, and an increased focus on customer experience.

Provider Organizations

Once the exchanges are established, expect to see provider organizations developing products to compete with insurers on all lines of business. Provider-owned health plans and ACOs could be well positioned, said health industry investor Stephen Jackson. They will be able to offer lower-cost products with the advantage of local name recognition/reputation and insurers could become the backroom for these organizations.

Pharmacy Benefits

Depending on the type of benchmark plan selected by states, there will be various pharmacy benefit structures ranging from restrictive formularies to a comprehensive benefit similar to that offered through the Federal Employee Health Benefits Program (FEHBP). Over time, qualified health plan participation rules may impose additional requirements, such as evidence that demonstrates superiority to medications and devices already covered in a therapeutic category. If more states choose to adopt the FEHBP open formulary design as a default, it could be a boon for branded drug manufacturers looking for continuity and maximum pharmaceutical coverage. On the other hand, more limited formularies would further drive usage of generic medications. Generous purchasing subsidies built into the ACA provide a large and rapid cash injection into the burgeoning health insurance exchange market.


Many employers will not see dropping their health benefits as a viable solution. The ACA’s $2,000 penalty for dropping coverage for a full-time employee may seem small compared to the cost of providing health insurance. But that penalty multiplies. The annual penalty calculation is the number of full-time employees minus 30, times $2,000. The penalty grows each year by the growth in insurance premiums.

Employers that drop coverage lose numerous tax advantages that come with offering health benefits. Also, employees view healthcare as a valuable benefit. The employers that are most likely to consider  dropping coverage are those with high concentrations of lower-wage workers who willqualify for federal subsidies through the individual exchange markets.

With the law and its subsidies, exchanges could revolutionize the health insurance market by shifting the focus to the individual and prompting insurers to act in a more retail-oriented manner. There will be a push for clarity in products and their value, convenience for buyers and competitive prices. Yet the 2010 law is neither the first nor the last word on the future of exchanges. Even if a future Congress and administration scale back or repeal the law, exchanges remain a hot prospect, as evidenced by the private sector entering this new market.

Investors view 2014 as the start of a major new trend in the US health system –away from employers managing coverage to a robust, open marketplace. Ongoing cost concerns will continue to spur change, both in the form of commercial innovation and more traditional government pressure. Under the ACA, regulators already have MLR limits on premiums and the power to review rate increases. In addition, states may follow Massachusetts in implementing all-payer pricing systems for providers.

The Congressional Budget Office projects that exchange membership will reach 25 million in 2021 for the individual exchange and 4 million for the small group exchange.
Exchange shoppers are not likely to overwhelm the healthcare system or substantially drive up costs immediately after gaining coverage. However, they will be less familiar with the insurance system; in 2014, approximately 75% of public exchange enrollees will be newly insured. Over time, outreach and education efforts by states and insurers will need to match the changing needs of exchange members as they transition from newly-insured to more sophisticated customers. To get the report, visit

Last Updated 06/29/2022

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