What Keeps Insurance CEOs
Awake at Night?
Overview & Outlook for the
P/C Insurance Industry
Midwest Actuarial Forum
Casualty Actuaries of the Midwest
Schaumburg, IL
March 12, 2003
Robert P. Hartwig, Ph.D., CPCU, Senior Vice President & Chief Economist
Insurance Information Institute  110 William Street  New York, NY 10038
Tel: (212) 346-5520  Fax: (212) 732-1916  bobh@iii.org  www.iii.org
Presentation Outline
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Improve Profitability
Improve Underwriting
Reserving Issues
Improve Pricing
Restore Destroyed Capacity
Improve Investment Performance
The Challenge of Terrorism
The Tragedy of Corporate Governance
Courts & Torts: Abuse of the Civil Justice System
Mold
Insurance Scoring
Q&A
IMPROVE
PROFITABILITY
P/C Net Income After Taxes
1991-2002E ($ Millions)
2001 was the first year ever
with a full year net loss
$40,000
$35,000
$36,819
2002 9-Month ROE = 4.4%
$30,773
$30,000
$24,404
$20,598
$25,000
$19,316
$20,000
$15,000
$21,865
$20,559
$14,178
$12,419
$10,870
$10,000
$5,840
$5,000
$0
-$5,000
-$6,970
-$10,000
91
92
93
94
95
96
*I.I.I. estimate based on first 9 months of 2002 data.
Sources: A.M. Best, ISO, Insurance Information Institute.
97
98
99
00
01
02*
ROE: P/C vs. All Industries
1987–2003F*
20%
15%
10%
5%
0%
-5%
87
88
89
90
91
92
93
94
US P/C Insurers
Source: Insurance Information Institute; Fortune
95
96
97
98
99
00
All US Industries
01
02E 03F
ROE vs. Cost of Capital:
US P/C Insurance: 1991 – 2002
15%
14.6 pts
10%
5%
6.8. pts
There is an enormous gap
between the industry’s cost of
capital and its rate of return
20%
US P/C insurers have missed
their cost of capital by an
average 6.6 points since 1991
0%
-5%
1991
1992
1993
1994
1995
1996
1997
Source: The Geneva Association, Ins. Information Inst.
1998
1999
ROE
2000
2001
2002
Cost of Capital
IMPROVE
UNDERWRITING
Underwriting Gain (Loss)
1975-2002*
$10
$0
$ Billions
($10)
($20)
($30)
($40)
($50)
P-C insurers paid $22 billion more in claims
& expenses than they collected in premiums
in 2002
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
($60)
*Annualized estimate based on first 9 months of 2002 data.
Source: A.M. Best, Insurance Information Institute
P/C Industry Combined Ratio
120
Combined
Ratios
2001 = 115.7
1970s: 100.3
2002E = 106.3*
115
1980s: 109.2
2003F = 103.2*
1990s: 107.7
2000s: 110.4
110
105
100
Sources: A.M. Best; III
00
98
96
94
92
90
88
02*
*Based on January 2003 III survey of industry analysts.
86
84
82
80
78
76
74
72
70
95
Combined Ratio:
Reinsurance vs. P/C Industry
170
All Lines Combined Ratio
162.5
Reinsurance
2001’s combined ratio was the
worst-ever for reinsurers
160
150
114.4
104.9
115.7
106.5
110.0
114.3
107.7
100.5
105.6
100.8
101.6
104.8
105.8
106.5
119.2
113.6
108.5
110
105.0
106.9
120
110.5
108.8
130
115.8
126.5
140
100
90
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001 2002*
*Reinsurance figure for first 9 months of 2002.
Source: A.M. Best, ISO, Reinsurance Association of America, Insurance Information Institute
U.S. Insured
Catastrophe Losses
$ Billions
CAT losses continue to be a problem,
though 2002 was much better than 2001
$30
$28.1
$22.9
$25
$20
$16.9
$15
$10 $7.5
$2.7
$5
$5.5
$4.7
$10.1
$8.3 $7.3
$8.3
$5.8
$4.3
$2.6
$0
89
90
91
92
93
94
95
96
97
98
99
00
01
02
*Estimate.
Note: 2001 figure includes $20.3B for 9/11 losses reported through 12/31/01. Includes only business
and personal property claims, business interruption and auto claims.
Source: Property Claims Service/ISO; Insurance Information Institute
11.2%
11.0%
8.1%
8.1%
7.3%
4.9%
0.2%
5.9%
6.6%
2.5%
1.3%
5%
2.1%
4.8%
10%
5.2%
8.0%
10.1%
15%
6.1%
8.4%
Health care inflation is affecting the
cost of medical care, no matter what
system it is delivered through
14.7%
Med Claim Costs Rising Sharply
-5%
92
93
-1.1%
-2.1%
0%
94
95
96
97
Health Benefit Costs
98
WC
Source: NCCI; William M. Mercer, Insurance Information Institute.
99
00
01
02
Outlook for Personal Lines:
2002-2003
PERSONAL AUTO
125
HOMEOWNERS
121.7
120
115
112.8
111.4
109.5
110
103.5
105
108.2
107.1
103.0
101.1
100
109.4
107.9
100.3
99.5
101.0
95
90
97
98
Source: A.M. Best
99
00
01
02E 03F
97
98
99
00
01
02E 03F
Outlook for Commercial Lines:
2002 - 2004
2002E
2003F
2004F
153.3
155.3
158.1
165.0
2001
170
160
100.3
98.8
95.2
92.8
100
103.6
99.1
99.5
110
118.5
120
115.8
111.9
108.3
106.7
130
121.7
116.6
113.2
113.0
140
130.2
125.3
120.2
113.6
150
90
Workers
Comp
GL & Prod. Commercial Commercial
Package
Auto
Liab
Sources: A.M. Best, Conning & Co.
Med Mal
Inland
Marine
HOW DOES THIS HARD
MARKET STACK UP TO
PREVIOUS HARD MARKETS?
Hard Markets Since 1970
25%
1975-78
1985-87
2001-03
There have been 3 hard
markets since 1970:
20%
1975-1978
1985-1987
15%
2001-200?
10%
5%
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
0%
Source: A.M. Best, Insurance Information Institute
Strength of Recent Hard Markets
by Real NWP Growth
25%
1975-78
1985-87
2001-03
Real NWP Growth During
Past 3 Hard Markets
20%
1975-78: 8.6%
15%
1985-87: 14.5%
10%
2001-03: 9.1%
5%
0%
-5%
Current $
Real $
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
-10%
Note: Shaded areas denote hard market periods.
Source: A.M. Best, Insurance Information Institute
GDP Growth vs. Net Written
Premium Growth (1987=100)
Hard Market
250
The gap between cumulative GDP
and Net Written Premium growth
hit a maximum of 52.5 pts or
33.7% in 2000. In 2003, the
estimated gap is 29.0 pts or 15.2%.
200
52.5 pts
225
29.0 pts
175
150
125
Note: Shaded area denotes hard market.
Source: Insurance Information Institute
2003F
2002E
2001
2000
1999
1998
1997
1996
1995
1993
1992
1991
1990
1989
1988
1987
100
1994
Cumulative GDP Growth
Cumulative NWP Growth
RESERVING
ISSUES
Reserve Deficiency, by Line
(AY 1992-2001, as of 12/01)
PPA Liab CA Liab
HO
WC
CMP
Special
Med Mal* Liab
Other
Liab*
XS Liab
Reins
Prod
Liab*
$0
-$2
-$0.8
-$0.8
-$1.8
-$1.9
-$4
-$6
-$3.8
-$4.1
-$6.2
-$8
-$10
-$9.1
-$12
-$14
-$16
-$18
-$20
Estimated Deficiency
Total Excluding A&E:
$64 Billion
A&E Deficiency:
$55 Billion
Total Including A&E:
$120 Billion
*Occurrence and claims made
Source: Morgan Stanley
-$17.8
-$18.0
IMPROVE
PRICING
Growth in Net Premiums
Written (All P/C Lines)
25%
2001: 8.1%
20%
2002: 14.2% (est.)*
2003: 12.7% (forecast)*
15%
The underwriting cycle went
AWOL in the 1990s.
10%
It’s Back!
5%
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
0%
*Estimate/forecast based on January 2003 III survey of industry analysts.
Source: A.M. Best, Insurance Information Institute
Council of Insurance Agents &
Brokers Rate Survey
Fourth Quarter 2002
Rate Increases By Line of Business
No Change Up 1-10%
10-20%
20-30%
30-50%
50%-100%
>100%
Comm. Auto
6%
14%
42%
25%
8%
1%
0%
Workers Comp
8%
17%
25%
24%
10%
2%
2%
General Liability
7%
13%
29%
37%
11%
0%
0%
Comm. Umbrella
8%
3%
21%
21%
26%
10%
5%
D&O
6%
4%
22%
23%
18%
9%
3%
Comm. Property
8%
16%
25%
25%
18%
3%
0%
Construction Risk 4%
8%
17%
18%
23%
9%
4%
Terrorism
12%
5%
8%
12%
5%
0%
6%
Business Interr.
13%
19%
36%
14%
4%
0%
0%
Surety Bonds
8%
16%
16%
15%
6%
1%
1%
Med Mal
1%
5%
6%
6%
12%
12%
16%
Rate On Line Index
(1989=100)
260
250
240
230
220
210
200
190
180
170
160
150
140
130
120
110
100
Prices rising, limits falling:
ROL up significantly
89
90
91
Source: Guy Carpenter
92
93
94
95
96
97
98
99
00
01
* III Estimate
02*
Cost of Risk per $1,000 of
Revenues: 1990-2002E
•Cost of risk to
corporations fell 42%
between 1992 and
2000
$10
$9
$8
$7
•Estimated 15%
increase in 2001,
25% in 2002
$8.30
$7.70
$7.30
• About half of 2002
increase due to 9/11
$6.49
$6.40
$6.10
$5.70
$6
$6.94
$5.71
$5.55
$5.25
$5.20$4.83
$5
$4
90
91
92
93
94
95
96
97
98
99
00 01E 02E
Source: 2001 RIMS Benchmark Survey; Insurance Information Institute estimates.
Average Price Change of
Personal Lines Renewals
5%
Homeowners
6%
9%
7%
4%
2%
2%
4%
6%
3%
Personal Auto
9%
9%
1%
-1%
0%
1%
-2% -1%
2003*
*III estimates
Source: Conning, III
0%
2002*
1%
2001*
2%
3%
Fall 2000
4%
5%
Spring 2000
6%
Fall 99
7%
8%
Spring 99
9%
Fall 98
Average Expenditures on
Auto Insurance: US
78
4
$850
$800
72
3
68
7
68
3
70
4
70
6
66
8
69
1
$750
$700
85
5
Countrywide auto insurance
expenditures are expected to rise
8-10% in 2003
$900
$650
3*
0
200
200
9
199
2*
8
199
200
7
199
1*
6
199
*Insurance Information Institute Estimates/Forecasts
Source: NAIC, Insurance Information Institute
200
5
199
$600
Average Expenditures on
Homeowners Ins.: US
55
3
$600
Average HO expenditures are
expected to rise by 8-10% in 2003
60
3
$650
51
2
50
0
41
8
$450
45
5
44
0
48
1
$500
48
8
$550
3*
200
2*
200
9
199
1*
8
199
200
7
199
0*
6
199
*III Estimates
Source: NAIC, Insurance Information Institute
200
5
199
$400
Urban Legend
Insurance is More
Expensive than Ever and is
Squeezing Families and
Businesses Alike
Commercial Lines Net Written
Premium as % of GDP
Commercial insurance premiums
as a % of GDP fell 35% between
1988 and 2000 and remains far
below late 1980’s levels
2.4%
2.3%
2.2%
2.1%
2.1%
2.0%
2.0%
1.9%
1.9%
1.9%
1.8%
1.8%
1.8%
1.7%
1.6%
1.6%
1.5%
1.6%
1.5%1.5%
More Cover for Less Money: Terms
& conditions broadened significantly
during the soft market, even as prices
fell
1.4%
1.2%
1.0%
88
89
90
91
92
93
94
95
96
97
98
99
00
01 02E
Sources: Insurance Information Institute, calculated from U.S. Bureau of
Economic Analysis and A.M. Best data.
Cost of Risk per $1,000 of
Revenues: 1990-2002E
$10
•Cost of risk to
corporations fell 42%
between 1992 and
2000
$9
$8.30
$7.70
$7.30
$8
$7
$6.49
$6.40
$6.10
$5.70
$6
$5
$4
•Estimated 15%
increase in 2001,
25% in 2002
$6.94
$5.71
$5.55
$5.25
$5.20$4.83
Cost of risk is still less than
it was a decade ago!
90
91
92
93
94
95
96
97
98
99
00 01E 02E
Source: 2001 RIMS Benchmark Survey; Insurance Information Institute estimates.
Homeowners Insurance Expenditure
as a % of Median Home Price
$100,000
$147,800
$139,000
$133,300
$128,400
0.37% 0.37% 0.37%
$121,800
$115,800
$125,000
$110,500
$150,000
The cost of
homeowners
insurance
relative to the
price of a typical
home has fallen!
0.36%
0.40%
$157,800
0.38% 0.38%
$175,000
$107,200
Median Home Sales Price
0.39%
Median Sales Price of Existing Homes
HO Insurance Expenditure as a % of Sales Price
0.38%
0.35%
0.35% 0.35%
0.33%
0.30%
94
95
96
97
98
99
00
01
02
*As of January 2003.
Source: Insurance Information Institute calculations based on data from National Association of
Realtors, NAIC.
HO Expenditure as % of Sales Price
$200,000
Change in Cost of Homes vs. Change
in Cost of Homeowners Insurance
$10,000
$8,000
Recent increases in the cost of
homeowners insurance are
miniscule in comparison to the
soaring cost of homes
$6,000
$4,000
$5,300
$6,000
$6,600
$4,900
$10,000
$8,800
$5,700
$3,300
$2,000
$0
-$2,000
$22
$15
$7
$26
$12
$12
$41
-$2
1995
1996
1997
1998
1999
2000
2001
2002*
Change in Cost of Median Existing Home
Change in Average Homeowners Insurance Expenditure
*August 2002
Source: Insurance Info. Inst. calculations based on data from Natl. Association of Realtors, NAIC.
RESTORE
DESTROYED
CAPACITY
Policyholder Surplus:
1975-2002*
$350
$300
Billions
(US$)
$250
Surplus (capacity) peaked at $336.3 Billion in
mid-1999 and has fallen by 18.7% ($63 billion) to
$273.3 billion since then.
•Surplus fell 5.6% during first 9 months of 2002
•Surplus is now lower than at year-end 1997.
$200
$150
$100
$50
“Surplus” is a measure of
underwriting capacity. It is
analogous to “Owners
Equity” or “Net Worth” in
non-insurance organizations
$0
75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02
*As of September 30, 2002
Source: A.M. Best, Insurance Information Institute
Global P/C Insurance Capacity is
Falling Dramatically
$1,000
$920
$900
$800
$690
$ Billions
$700
Global
non-life
capacity
is down
25%
over the
past 2
years
$600
$500
$400
$300
$200
$100
$0
2000:I
Sources: Insurance Information Institute, Swiss Re
2002:IV (est.)
Capital Raising by P/C Insurers
Since September 11, 2001*
Capital Raising by P/C Insurers Since 9/11 Totals $53.2B
$30,000
$27.9 Billion
$25.4 Billion
$25,000
14 Pending
($ Millions)
$4,872
38 Pending
$20,000
$16,437
$15,000
$10,000
$20,492
40 Completed
33 Completed
$11,442
$5,000
$0
2002*
2001
Completed
*As of September 13, 2002.
Source: Morgan Stanley, Insurance Information Institute.
Pending
Capital Myth: US P/C Insurers Have
$300 Billion to Pay Terrorism Claims
Total PHS = $298.2 B as of 6/30/01
= $273.3 B as of 9/30/02
"Target"
Commercial*
$100 billion
33%
Only 33% of
industry surplus
backs up “target”
lines
Personal
$150 billion
50%
*”Target” Commercial includes: Comm property, liability and workers comp; Surplus must
also back-up on non-terrorist related property/liability and WC claims
Source: Insurance Information Institute
Other
Commercial
$50 billion
17%
IMPROVE
INVESTMENT
PERFORMANCE
Net Investment Income
$45
Billions
(US$)
$36
$27
Investment income in
2002 is expected
to fall 5 to 6%
due primarily to
historically low
interest rates
Facts
1997 Peak = $41.5B
$18
2000= $40.7B
2001 = $37.7B
$9
2002E* = $35.2B
$0
75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02
*Annualized estimate based on first 9 months of 2002 data.
Source: A.M. Best, Insurance Information Institute
Interest Rates: Lower Than
They’ve Been in Decades
16%
1.
Historically low interest rates are the primary driver
behind lower investment yields. Nevertheless, overall
insurer investment performance outpaces all major
market indices and almost every major category of
mutual fund.
66% of the industry’s invested assets are in bonds
14%
12%
2.
10%
8%
6%
4%
2%
3-Month T-Bill
1-Yr. T-Bill
10-Year T-Note
2002
2003
*
*As of February 2003.
Source: Board of Governors, Federal Reserve System; Insurance Information Institute
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
1989
1988
1987
1986
1985
1984
1983
1982
1981
1980
0%
Total Returns for Large Company
Stocks: 1970-2003*
40%
30%
20%
10%
0%
-10%
2002 was 3rd consecutive year of decline for stocks
-20%
Will 2003 be the 4th?
Large Company Stocks
*As of March 7, 2003.
Source: Ibbotson Associates, Insurance Information Institute
2002
2000
1998
1996
1994
1992
1990
1988
1986
1984
1982
1980
1978
1976
1974
1972
1970
-30%
P/C Industry Investments,
by Type (as of Dec. 31, 2001)
Common
stock accounts
for about 1/5
of invested
assets
Common Stock
21%
Other
5%
Cash & ST Secs.
6%
Bond Holdings, by Type
Industrial & Misc.
32.5%
Special Revenue
30.5%
Governments
18.0%
States/Terr/Other
15.4%
Public Utilities
Real Est. &
Mortgages
1%
Preferred Stock
1%
Source: A.M. Best, Insurance Information Institute
3.1%
Parents/Subs/Affiliates 0.5%
Bonds
66%
Property/Casualty Insurance
Industry Investment Gain*
$ Billions
$57.9
$60
$52.3
$56.9
$51.9
$47.2
$50
$44.4
$42.8
$40
$39.5
$35.4
Investment gains are simply
returning to “pre-bubble” levels
$30
$20
$10
$0
94
95
96
97
98
99
00
01
2002E
*Investment gains consists primarily of interest, stock dividends and realized capital gains and losses.
Source: Insurance Services Office; Insurance Information Institute estimate annualized as of 9/30/02.
Geopolitical Instability Increased
in 2002, Boiling Over in 2003
Terrorists &
Terrorism
War on Terrorism
North Korea: Nukes & Kooks
Iraq:
War
Jitters
THE CHALLENGE
OF TERRORISM
Sept. 11 Industry Loss Estimates
($ Billions)
Property WTC 1 & 2
$3.5 (9%)
Other
Liability
$10.0 (25%)
Life
$2.7 (7%)
Aviation
Liability
$3.5 (9%)
Event
Cancellation
$1.0 (2%)
Workers
Comp
Aviation Hull
$2.0 (5%)
$0.5 (1%)
Property Other
$6.0 (15%)
Biz
Interruption
$11.0 (27%)
Consensus Insured Losses Estimate: $40.2B
Source: Insurance Information Institute
Industry Losses Under Proposed Federal
Backstop Using 9/11 Scenario
(as interpreted on date of enactment, Nov. 26, 2002)
$14.25B
Total Ind. Loss: $10.875B
$19.675B
$20
$1.75B
Industry
Co-Share
$0.925B
Industry
Co-Share
$10.575
$2.0B
Industry
Co-Share
$18.00
($ Billions)
$25
$15.75
$30
$15
$0.125B
$10 Industry $1.125
Co-Share
$5
$8.75
$18.75
$12.50
$0
Year 1
Industry Retention
Year 2
Surcharge Layer
Year 3
Co-Reinsurance Layer
Assumes $30B Commercial Prop & WC Loss, $125B “At Risk” Commercial DPE
Source: Insurance Information Institute.
Terrorism Act Summary
• Terrorism Risk Insurance Act signed into law Nov. 26, 2002
• Capping of risk allows insurers to estimate PMLs
 Enhances ability to price
• Industry maintains significant retentions & FF exposure
 Company: 7%, 10%, 15% Comm. DPE in Years 1, 2, 3
•
•
•
•
•
•
Aggregate industry cap of $10B, $12.5, 15B in those years
10% co-reinsurance above industry aggregate
Government liability capped at $100B
Legislation requires mandatory offer of terror coverage
Reinsurers/Life insurers NOT eligible under the program
UPSHOT:
 Bill will help a bit (expectation may be too high)
 Laws of insurance economics are not suspended
 Price/availability still a function of risk and capital available
Terrorism Act Summary
• Mechanics of the Bill:
 Bill immediately creates/reinstates coverage for all
commercial policyholders (even those that declined or
purchased sub-limited coverage)
 Mandatory offer of coverage within 90 days (Feb. 24, 2003)
 Policyholder has 30 days to accept/reject (can negotiate after
rejection)
 Charge for terrorism must now appear as a line item
 Claims must be processed in accordance with “appropriate
business practices”
• Law Sunsets in 3 years (12/31/05)
• State authority to disapprove rates if excessive,
inadequate or unfairly discriminatory retained
• Civil liability can exist as federal cause of action
• Federal definition of terrorism applies
Property Market Response
Terrorism Market is Inconsistent
High take-up rate among small risks
Very low take-up rate for larger risks
 Carriers/brokers report take-up rate of just 15% - 25 % for larger risks
Prices cited varied from 0% to 1,000% of property premiums but
quotes in the 2% - 4% range typical as insurers sought to
distribute max loss under TRIA loss across policyholder base
Could change substantially for 2003 renewal: more indiv. rating
Reasons Businesses Decline Coverage






Expense
Want to bargain with insurer; attempt to change terms/conditions
Feel likelihood of an attack impacting them is remote
Believe government will bail them out
Feel“Fire Following” provision will compel coverage
Will try self insurance; investigate alternative risk transfer options
Source:Marsh, Inc.; Insurance Information Institute.
Property Market Response
• Problems
Low take-up rate => possible adverse selection problem
Insurability of terrorism still question despite TRIA
12/31/05 sunset date will cause market to unravel in 2004
• Stand-alone terrorism market
Some quotes being sought for certified and non-certified losses
Those treaties that existed are expiring and capacity for 2003 is
uncertain
Some insurers have reallocated resources
• Reinsurance Market
Some property catastrophe treaty renewals at Jan 1 were renewed
including “non-certified” terrorism but still excluding nuclear,
biological and chemical
Reinsurers cautious about risk accumulation (e.g., zip code buckets)
Insurers are seeking reinsurance to buy down their retentions
Source:Marsh, Inc.; Insurance Information Institute.
TRIA Effect on Upcoming
Renewals be Affected?
• Unlike well-communicated issues surrounding in-force
policies in TRIA notice period, there are no time
constraints as respects offer, acceptance or payments
• Renewal quotations will include a separate line item for
terrorism coverage
• Options are to decline, purchase or negotiate the
terrorism premium
• Now that terrorism coverage must be offered underwriters may be reluctant to offer any coverage or
may offer reduced limits for risks they view as potential
terrorist targets
Capital allocation vs. underwriting decisions
Source:Marsh, Inc.; Insurance Information Institute.
CRISIS IN
CORPORATE
GOVERNANCE
Accounting Problems are Getting
Many Companies into Trouble
•Enron was tip of an iceberg
•Major implications for insurers (p/c and life)
Financial Restatements Filed
300
250
200
The number of financial
restatements is rising
even thought the number
of publicly traded
companies is falling.
270
233
215
160
150
116
100
50
0
1997
1998*
*Approximate
Sources: Huron Consulting Group
1999*
2000
2001
Shareholder Class Action Lawsuits*
600
Shareholders typically recover just
2.56% of amount lost; 1/3 of that
goes to lawyers & expenses**
500
400
300
202
200
164
236
231
188
163
178
487
258
209 216
110
100
0
91
92
93
94
95
96
97
98
*Securities fraud suits filed in U.S. federal courts.
**Suits of $100 million or more.
Source: Stanford University School of Law; Insurance Information Institute
99
00
01
02
ABUSE OF THE
U.S. CIVIL JUSTICE
SYSTEM
TORT-ure
•
•
•
•
•
•
•
•
•
•
•
•
•
•
Asbestos
“Toxic” Mold
Medical Malpractice
Construction Defects
Lead
Fast Food
Arsenic Treated Lumber
Guns
Genetically Modified Foods (Corn)
Pharmaceuticals & Medical Devices
Security exposures (workplace violence, post-9/11 issues)
What’s Next?
Slavery
Sept. 11??
Favorite 5 for 2002:
Is the U.S. Legal System Out of Control?
5. “Children Uncover Porn in Barney Book”
-CNN.com, December 27, 2002
4. “Cat Owners Sue Airlines for $5 Million”
-The Daily Review, August 29, 2002
3. “Ed McMahon Sues Over Toxic Mold Invasion”
-USA Today, April 11, 2002
2. “Rodman Sued for Rubbing Dice on Casino
Employee’s Crotch”
-The Gazette (Montreal)
1. “Teenagers’ Suit Says McDonald’s Made Them Obese”
-The New York Times, November 21, 2002
Average Jury Awards
1994 vs. 2000
1994
$7,000
6,817
2000
$6,000
($000)
$5,000
$4,000
3,482
3,566
$3,000
1,744
1,727
$2,000
1,168
$1,000
419
1,140
759
1,185
698
187 269
333
Vehicular
Liability*
Premises
Liability
$0
Overall
Business
Negligence
Source: Jury Verdict Research; Insurance Information Institute.
Medical
Malpractice
Wrongful
Death
Products
Liability
Trends in Million Dollar Verdicts*
100%
99-00
11%
12%
8%
13%
8%
6%
4%
4%
20%
9%
25%
30%
19%
50%
40%
40%
10%
52%
37%
50%
24%
60%
24%
70%
39%
Very sharp jumps in multi-million
dollar awards in recent years across
virtually all types of defendants
34%
80%
38%
94-96
63%
97-98
90%
0%
Vehicular
Liability
Premises
Liability
Personal
Negligence
Business
Negligence
Medical
Government
Negligence Malpractice
*Verdicts of $1 million or more.
Source: Jury Verdict Research; Insurance Information Institute.
Products
Liability
Cost of U.S. Tort System
($ Billions)
Tort costs consumed 2.0% of GDP annually on average since 1990,
$350 expected to rise to 2.4% of GDP by 2005!
$298
$300
Tort costs equaled $636 per person in 2000!
$250
Expected to rise to $1,000 by 2005
$198 $204
$200
$150
$129 $130
$141 $144 $148
$159 $156 $156
$179
$167 $169
$100
$50
$0
90
91
92
93
94
95
96
97
98
99
Source: Tillinghast-Towers Perrin; Insurance Information Institute estimates for
2001/2002 assume tort costs equal to 2% of GDP. 2005 forecasts from Tillinghast.
00
01* 02E* 05F
Tort Costs as a % of GDP*
Denmark
0.4%
U.K.
0.6%
High tort costs put the U.S. economy at
a significant disadvantage.
France
0.8%
Japan
0.8%
Canada
0.8%
Switzerland
Spain
0.9%
1.0%
Australia
1.1%
Belgium
1.1%
Germany
Italy
U.S.
1.3%
1.7%
1.9%
0.0% 0.2% 0.4% 0.6% 0.8% 1.0% 1.2% 1.4% 1.6% 1.8% 2.0%
*1998 (latest available)
Source: Tillinghast-Towers Perrin
Where the Tort Dollar Goes
(2000)
Tort System
is extremely
inefficient:
Only 20%
of the tort
dollar
compensates
victims for
economic
losses
Claimants'
Attorney Fees
17%
Awards for
At least
Non-Economic
58% of every
Loss
tort dollar
22%
Awards for
Economic Loss
20%
Administration
25%
never reaches
the victim
Defense Costs
16%
Source: Tillinghast-Towers Perrin
Personal, Commercial &
Self (Un) Insured Tort Costs*
$180
Commercial Lines
Personal Lines
Total = $157.7 Billion
$160
$29.6
$140
Billions
Self (Un)Insured
Total = $120.2 Billion
$120
$20.1
$100
$70.9
$80
$51.0
$60
Total = $39.5 Billion
$40
$5.4
$17.1
$20
$0
$49.1
$57.2
1990
2000
$17.0
1980
*Excludes medical malpractice
Source: Tillinghast-Towers Perrin
Medical Malpractice:
Tort Cost Growth is Skyrocketing
$2.3
$1.9
$2
$1.5
$4
$1.2
$4.4
$6
$2.9
$3.6
$8.7
$7.9
$7.2
$7.1
$6.8
$7.0
$6.5
$8
$5.4
$10
$7.1
$12
$16.2
$14.6
$13.5
$14
$12.4
$16
•Over the period from 1975 through 2000, medical
malpractice tort costs skyrocketed by 1,642% while
medical costs generally rose 449%, nearly 4 times as fast!
$11.6
$18
$10.8
$20.9
$19.4
$20
$9.4
$22
•Over the period from 1990 through 2000, medical
malpractice tort costs rose 140%, more than double the
60% increase in medical costs generally over the same
period!
$17.6
$ Billions
$0
75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00
Sources: Tillinghast-Towers Perrin, US Bureau of Labor Statistics, Insurance Information Institute
Frequency of $1 Million + Jury Verdicts
(Per 1,000 Doctors)
4.0
CA’s Medical Injury Compensation
Reform Act, passed in 1975, has
helped to contain jumbo jury awards,
keeping med mal premiums
affordable and health care available.
3.71
3.5
3.10
3.0
2.40
2.5
2.14
1.93
2.0
1.5
1.31
1.0
0.5
The frequency of awards for $1 million and
up in CA is 32% below the national average.
0.0
NY
NJ
OH
FL
US Avg.
CA
Source: Jury Verdict Research, American Medical Association, Insurance Information Institute.
‘TOXIC’ MOLD
Great Pyramid of Mold
Source: Insurance Information Institute
U.S.: Documented Toxic Mold Suits
Former
Owners of
Sold Homes
10%
Builder for
Construction
Defects
20%
Bad Faith
Against
Insurers
50%
1,000
Cases
5,000
Cases
2,000
Cases
2,000
Cases
HO
Associations
for Improper
Maintenance
20%
Source: www.toxlaw.com; Guy Carpenter
Texas Accounted for the Vast
Majority of New Mold Cases in 2001
Claims
Arising
Outside TX
30%
Source: Insurance Information Institute
Claims
Arising Inside
TX
70%
Texas: Estimated Total Number
of Mold Claims, 1999-2002E*
237,299
250,000
The number of mold claims rose 106%
between 1999 and 2002
200,000
169,982
150,000
128,271
115,182
100,000
1999
2000
2001
2002E
Source: Texas Department of Insurance;
*2002 III estimate is annualized figure based on data through September 2002.
TX: Annual Losses from Mold Claims*
$ Millions
$2,279
$2,500
$2,000
Mold claim costs rose 612%
between 1999 and 2002
$1,500
$1,002
$1,000
$417
$500
$0
$320
1999
2000
20001
Source: Texas Department of Insurance;
*2002 III estimate is annualized figure based on data through September 2002.
2002E
California: Surging Water Claim
Frequency and Costs:
Symptom of Growing Mold Problem
$450
$430.6
•Water losses paid rose 109% from 1997 to 2001 and
$400 50% since 1999
•Water claims accounted for less than 1/4 of all HO
$350 claims in 1997, now they account for nearly 1/3.
$383.7
32%
34%
32%
31%
30%
29%
$300
$276.5
$286.6
28%
27%
$250
26%
California may be
in a drought, but
homeowners say
they’re drowning
$206.1
$200
24%
$150
$100
24%
22%
20%
1997
1998
Paid Water Losses ($ Mill)
1999
2000
Water Claims as % of All Homeowners Claims
Source: Insurance Information Network of California; Insurance Information Institute
2001
Sharply Rising Average Water
Claim Cost: Mold Symptom
$5,000
The cost of the average water loss in CA
surged 27% in 2001 and 80% since 1998
$4,000
$4,730
$3,719
$3,339
$3,000
$2,537
$2,631
$2,000
1997
1998
1999
2000
2001
Source: Insurance Information Institute based on data from the Insurance Information Network of California;
Where are the Next
Battlefields for Mold?
• Homeowners issue probably crested in 2003
• Migration to commercial area affects many lines:
Commercial Property
Products Liability
Workers Comp…
Commercial Liability
Builders Risk/Construction Defects
• Hot Spots:
 Apartments/Condos/Co-ops
 Schools
Cars? (GM case in NC)
Office Structures
Municipal Buildings
• Trend toward class actions since science doesn’t
support massive individual non-economic damages
Much more lucrative for trial lawyers to form class
Source: Insurance Information Institute.
INSURANCE
SCORING
Credit in Personal Lines
Underwriting
Why Insurers Use Credit Information
in Insurance Underwriting
1. There is a strong correlation between credit standing
and loss ratios in both auto and homeowners insurance.
2. There is a distinct and consistent decline in relative loss
ratios (which are a function of both claim frequency and
cost) as credit standing improves.
3. The relationship between credit standing and relative
loss ratios is statistically irrefutable.
4. The odds that such a relationship does not exist in a
given random sample of policyholders are usually
between 500, 1,000 or even 10,000 to one.
Source: Insurance Information Institute.
Credit Quality &
Auto Insurance*
Interpretation
2.0
Relative Performance
Individuals with the lowest scores have losses that are 32.4% above average;
those with the best scores have losses that are 33.3% below average.
1.5
Should those who impose less cost on the system be forced to
subsidize those who impose more?
1.324
1.122
1.107
1.070
1.0
0.978
0.922
0.969
0.859
0.798
0.767
0.5
Score Range
Source: Tillinghast Towers-Perrin
75
5+
73
275
4
71
473
1
69
871
3
68
269
7
66
668
1
64
766
5
62
564
6
59
262
4
>5
91
0.0
*Actual data from sampled company. More
examples are given later in this presentation.
Involvement Rate per 100,000 Licensed Drivers
Age of Drivers Involved in
Auto Accidents, 2000
Interpretation:
70
Drivers age 16-20 are 2 to 3 times more likely
to be involved in auto accidents. Should this
be ignored with better, more experienced
drivers subsidizing teenagers?
61.88
60
45.96
50
OF COURSE NOT!
40
31.65
26.19
30
29.95
22.59
20.81
45-54
55-64
18.3
20
10
0
16-20
21-24
25-34
35-44
65-69 Overall
Source: National Highway Traffic Safety Administration, Traffic Safety Facts 2000.
No. Drivers in Fatal Accidents/billion miles driven
Gender of Drivers Involved in
Fatal Auto Accidents, 2000
Interpretation:
Males are 69% more likely to be driving in fatal auto accidents.
Should this be ignored and females be forced to subsidize males?
OF COURSE NOT!
30
27
20
16
10
0
Source: National Safety Council
Male
Female
Credit Quality & Homeowners
Insurance (Sample Company)
2.0
Probability that Correlation Exists: 99.32%
Relative Performance
1.593
1.5
1.066
0.911
1.0
0.795
0.656
0.5
Score Range
Source: Tillinghast Towers-Perrin
81
0+
76
580
9
71
576
4
64
571
4
>6
45
0.0
Intuition Behind
Insurance Scoring*
1. Personal Responsibility
 Responsibility is a personality trait that carries over into many
aspects of a person’s life
 It is intuitive and reasonable to believe that the responsibility
required to prudently manage one’s finances is associated with
other types of responsible and prudent behaviors, for example:


Proper maintenance of homes and automobiles
Safe operation of cars
2. Stability
 It is intuitive and reasonable to believe that financially stable
individuals are like to exhibit stability in many other aspects of
their lives.
3. Stress/Distraction
 Financial stress could lead to stress, distractions or other
behaviors that produce more losses (e.g., deferral of car/home
maintenance).
*This list is neither exhaustive nor is it intended to characterize the behavior of any specific individual.
Source: Insurance Information Institute
Consequences of Banning Use of
Credit in Insurance Underwriting
Banning the use of credit information will:
•
•
•
•
•
•
Force good drivers and responsible homeowners to
subsidize those with poor loss histories by hundreds of
millions of dollars each year.
Decrease incentives to drive safely
Decrease incentives to properly maintain cars and homes
Force insurers to rely on less accurate types of
information, such as DMV records.
Make non-standard risks more difficult to place
Increase size of residual market pools/plans
11.8% 10.0%
Source: Insurance Research Council, Accuracy of Motor Vehicle Records (2002).
Sp
ee
di
ng
t/
S
U
ig
n
I
16.0% 15.0% 14.8%
D
21.0% 21.0% 20.0% 19.3%
Li
gh
eg
l/R
N
28.5%
ec
kl
es
N
o
s
In
su
ra
U
nc
ns
e
af
e
Dr
iv
Li
in
ce
g
ns
e/
R
eg
is
Ill
D
.
eg
ef
ec
al
tiv
Tu
e/
rn
Im
p
In
Eq
sp
ui
ec
p.
tio
n/
Pl
at
es
30%
25%
20%
15%
10%
5%
0%
St
op
% Convictions Missing from DMV Records
Average Omission Rate for
Selected Convictions
Some Groups Want to Ban
C.L.U.E. Too!
Ad run by realtors in AZ in January
2003: But how would homeowners be
helped if CLUE is banned?
CLUE helps protect homebuyers by
letting them see what problems a house
has had before they buy it
A house without problems or that has
been properly repaired will command a
premium, benefiting sellers
A house can be made safer and less
expensive to insure if repairs have
been made properly
Don’t YOU want to know what
you’re buying before you make the
biggest investment of your life???
Summary
• Economics of the industry suggest hard market should
continue into 2004
 If it doesn’t, it will end badly for some insurers
 Combined ratio remains unacceptably high given current
investment environment
 Top line improvement outpacing bottom line improvement
 Reserve hangover still enormous
• US courts still out of control
 Hopes for significant tort reform probably too high
• Regulatory zealotry making a come back
• Many challenges to deal with today, more tomorrow!
Insurance Information
Institute On-Line
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