Deciding if Bupa should have to pay compensation to the VHI will be difficult, writes Arthur Beesley, Senior Business Correspondent.

As if all the other difficulties that seem to plague the health service were not enough, Minister for Health Mary Harney will soon be faced with yet another prickly problem: what to do about the VHI's long-standing demand for "risk equalisation" with its biggest rival, Bupa Ireland.

In her seven years as minister for enterprise, trade and employment, Ms Harney made her name as a champion of liberalised markets with a preference for private capital over public money.

It is a theme she has continued since becoming Minister for Health, although her principles will soon face a test when she decides whether to go forward with a risk equalisation which Bupa Ireland says will threaten the viability of its business.

The flipside of that unappealing scenario is that such a system could secure the finances of a major State-owned company, which has faced its share of trading difficulties over the years.

At issue is whether the VHI should be compensated by Bupa Ireland for the higher age profile of its customers.

The theory goes that older people are more likely to fall ill than younger customers and, therefore, are more likely to be consumers of expensive healthcare services.

This means that the VHI has to pay out for healthcare more often than Bupa Ireland, whose younger customers are less likely to make claims for medical care.

The VHI has argued since the market was liberalised in 1996 that new market entrants would cherry-pick the healthiest of customers, placing it at a clear disadvantage in the market.

The company is obliged to operate a "community rating system", in which it must charge the same premiums to all customers, young or old, no matter what their risk profile.

It says that it should be compensated for this, a prospect that horrifies Bupa Ireland.

The company sees such a payment as akin to "piracy" and it has initiated an action in the European Court of First Instance against risk equalisation.

However, it suffered a severe setback last month when the Health Insurance Authority said for the first time that the risk equalisation mechanism should be triggered. The ultimate decision rests with Ms Harney, to whom the authority will submit a report in the coming weeks.

While Bupa Ireland has long been subjected to claims that it was making "super-profits" from its Irish business, what has not been known until now was the exact extent of those profits - and of the rate of growth in the business.

Risk equalisation would cost Bupa Ireland almost €35 million on the basis of last year's figures, but assessing the true impact of such a charge was impossible without fuller financial figures.

The company has never before disclosed its Irish profits. No longer.

According to figures seen by The Irish Times and verified for Bupa Ireland by KPMG, the company reported operating profits to its board last year of €24.3 million, up from €15.7 million in 2003 and €13.1 million in 2002. Such figures include provisions for outstanding claims at year end.

Premium income last year rose to €149.2 million from €115 million in 2003.

While the company projects that premiums will grow to €175.8 million in the current year and to €200.5 million in 2006, it is budgeting a dip in operating profits to €17.3 million this year - and says that figure will hold steady in the following year.

The company argues that such profits would not be enough to sustain the business in the face of a risk equalisation payment of €32.7 million from last year's operating profit and a projected €42.5 million from this year's figure.

The company is understood to have told the Health Insurance Authority that such payments would have resulted in an operating loss last year of €8.4 million and an operating loss this year of €25.2 million.

It argues that it would be "unrealistic" of any regulator to expect the company to remain in the market while losses of such magnitude were being sustained.

It follows from such an argument that the company could argue that it will have to leave the market if the system proceeds.

To support that argument, Bupa Ireland is understood to say that it would have to increase premiums by 22 per cent to maintain its current rate of profitability.

It says that this would prompt existing customers to leave the company, while curtailing its capacity to win new customers.

If that is the case for the defence of Bupa Ireland, the Health Insurance Authority has yet to publicly reveal its hand.

According to a determination circulated to health insurers and seen by The Irish Times, the authority said its "previously expressed concern as to a possible reduction in competitive pressure" if risk equalisation was introduced has diminished.

"The authority is now of the view that the benefits to health insurance customers, which would accrue from the commencement of risk equalisation payments would outweigh any counterveiling factors," it said.

Needless to say, Bupa Ireland rejects that analysis.

The authority is considering the company's submission on the determination, although it is unlikely to change its mind.

Therefore, it is Ms Harney who will have the final say.

High stakes indeed.