How merger of the Blues got derailed

Getting a major merger through government regulatory hurdles doesn't come without a price - and the boards of Independence Blue Cross and Highmark Inc. are savvy enough to know that.

The price, this time, was more than they were willing to pay.

The merger between Independence Blue Cross in Philadelphia and Highmark in Pittsburgh would have created the largest health insurance company in the state.

The two insurers withdrew their application to merge on Wednesday, amid certainty that it would be turned down.

"Something changed in the very recent past," said one highly connected board member. "It was a head-scratcher."

Even in early December, there was optimism that the deal would fly.

Yes, there had been strong opposition from Donald White, the Republican chairman of the Senate Banking and Insurance Committee, and intense lobbying against it from medical trade groups and the Insurance Federation of Pennsylvania, representing rivals such as Aetna Inc.

Also, there had been pointed questions about the stifling of competition from Insurance Commissioner Joel Ario, who had a long background as a consumer advocate battling big insurers.

Still, the companies had reason for confidence. They were major employers, good corporate citizens, and bankrollers of some of Gov. Rendell's health initiatives.

Rendell had appointed Ario.

The competition issue? The companies would serve the same areas they do now. Nothing would change, the insurers said.

So, at the Pennsylvania Society gathering of state politicos and lobbyists in Manhattan over the weekend of Dec. 12, those on the insurers' side checked in with each other over drinks at the receptions. Everything looked good.

"We knew there were going to be conditions - probably financial conditions, maybe more charitable contributions to Rendell's plan," the board member said, but "it was something we could handle."

That was the weekend.

Midway through the next week, Ario delivered a different message to high-ranking company executives in a private meeting, Ario said in a recent interview.

There would be three conditions: The new company would have to give up one of its highly valued and popular "Blue" trademarks (Highmark uses Blue Cross and Blue Shield; Independence is Blue Cross) so another company could use it to compete against them in Pennsylvania.

The companies would need to expand their charitable work - that was the expected money part.

And they would have to agree to some fair-trade measures, such as more scrutiny of their reimbursement practices.

"I said, 'the ball is deep in your court,' " Ario recalled.

Ario said he expected some horse-trading.

After all, he, too, has been in government for years. In June 2007, two months after Highmark and Independence filed their merger application, Ario came to Pennsylvania from his job as Oregon's top insurance regulator.

Ario wasn't surprised that people thought Rendell had given him marching orders.

"Yes, Rendell had a lot of interest in the money," Ario said. "But we had no conversation about, 'here's how your decision should be shaped.'

"Why would he pick somebody from the West Coast who has the reputation of being outspoken if he already knew what he wanted to do? That never made sense to me."

Given that Independence and Highmark knew Ario was intent on increasing health insurance competition, he figured they would at least split up the "Blue" trademarks in the Philadelphia area, where it would be easiest.

Highmark could compete here using the Blue Shield mark, as it does in the Lehigh Valley against Capital Blue Cross. Competition there raises marketing costs, Highmark said. That's why, among other reasons, Highmark said it was not eager to fight Independence Blue Cross in Philadelphia.

Highmark hasn't "used the mark," Ario said. "They are holding a card that doesn't have any value. The value is that they are blocking someone else from using it."

Ario made his bet even though the companies' executives told him in no uncertain terms that they would never agree to anything like that.

"Anything related to the brand would be a nonstarter for IBC," Independence Blue Cross chief executive officer Joseph A. Frick told Ario in a public hearing, and he was the one who put it mildly.

"It would be a silly move," said Highmark's CEO Kenneth Melani, whose face reddens when he's angry.

Ario assumed there would be some reasonable dickering over other regions, particularly Western Pennsylvania, where Highmark uses the Blue Cross and Blue Shield trademark. Highmark was created from the merger of Blue Cross of Western Pennsylvania and Pennsylvania Blue Shield.

"It would be like unscrambling the eggs," Ario said.

But, much to Ario's surprise, there was no dickering. None. "We never got to the details," Ario said, "because we never got past the Blue-on-Blue competition."

The deal was off.

At public hearings in Philadelphia in July, executives from Independence Blue Cross and Highmark Inc. objected to a suggestion that they relinquish one of their popular "Blue" trademarks in the name of competition.  Click here for a transcript of that exchange, plus more on the attempted merger.

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