PAMIC – CEO ROUNDTABLES
JUNE 3, 2015
WHY ARE WE HERE?
• ERM for Mutual Insurance Companies
• The New World Order in Insurance Regulation
• The Board and Risk Oversight
• Boards and Their Focus on Enterprise Risk Management
• Keys to an Effective Board: Education, Selection & Succession
• Emerging Trends and Boards
INDUSTRY TRENDS AND STRATEGIC THOUGHTS
1.
2.
3.
4.
5.
The rate of change is accelerating
Competition is more evolving – big data is king
Regulation is becoming more stringent and complex
Demographics are creating new challenges
Distribution channels are changing
This is an expensive time to be in the insurance industry and some players will not
survive.
WHAT ARE THE RISKS TO YOUR COMPANY?
Why do insurance companies fail?
AM BEST - WHY COMPANIES FAIL*
38.1% - Deficient Loss Reserves/Inadequate Pricing
14.3% - Rapid Growth
9.1% - Misc
8.1% - Alleged Fraud
7.9% - Affiliate Impairment
7.6% - Catastrophe Losses
7.0% - Investment Problems
4.2% - Significant Change in Business
3.7% - Reinsurance Failure
Source: AM Best 1969 – 2008 Impairment Review, April 6, 2008
CHANGE OR DIE
8 Fundamental Changes in the Insurance Industry
• The Rate of Change
• Market Segmentation by Competition and Associate IT Expenses to Keep
Up
• Changes in the Marketplace
• Potential Change to the Independent Agency System
• Need for Different Workforce and Board Composition
• Changes in the Reinsurance Market
• Need for Sophistication in ERM
• Regulation and Legislation
RATE OF CHANGE
1ST FUNDAMENTAL CHANGE
THE RATE OF CHANGE – HISTORY’S TIMELINE
• 2-4 Million to 50,000 BC - Old Stone Age
• Fire, spoken language, burial of the dead
• 50,000 - 10,000 BC - Middle Stone Age
• art in caves, more sophisticated stone tools
• 10,000 - 4000 BC - New Stone Age
• agriculture, settled villages, pottery, Stonehenge
• 4000 - 750 BC - Bronze Age
• 750BC - AD43 - Iron Age
• AD43 – 1950 – Middle Ages, Early Modern Period, Industrial Revolution
• 1950 – Today – DATA!!!! Computing Power!!!
TERMS AND TECHNOLOGIES THAT DIDN’T EXIST 20
YEARS AGO
Digital Cameras
Blogs
DVDs
Google
Mobile Phones
Cyberstalking
Texting
Staycations
Touch Screens
E-Books
Reality TV
The Euro
Amazon
Wikipedia
Facebook
Twitter
iPhones
Skype/VOIP
YouTube
LARGE COMPANIES THAT DIDN’T MAKE IT
Blockbuster
Lucent
Pan American
Xerox
Motorola
Child World
Boarders Books
IBM
Orion Pictures
Polaroid
Commodore
Schwinn Bicycle
Hostess (as in Twinkies)
Palm (as in Palm Pilots)
Wang Laboratories
Publishing
HP
Caldor
Nokia
Eastern Airlines
Fruit of the Loom
ADOPTION RATES
• The rate of adoption of new technologies has increased dramatically.
Older
technologies such as electricity, automobiles and telephone took 50 years to
achieve 50% adoption which newer technologies such as the Internet, PCs,
smartphones, tablets, IPods, etc. are being adapted much faster…
WILL YOUR COMPANY ADJUST TO FAST CHANGE?
Or will you be added to the list of companies that don’t
exist anymore?
MARKET SEGMENTATION
2ND FUNDAMENTAL CHANGE
ADVERSE SELECTION
Original market – price for policy - $100
New entrant observes that loss ratios are worse for younger drivers and
introduces two tiered rates - $110 for drivers 16 to 24 and $90 for drivers 25
and over
What happened???
RULES TO REMEMBER
• If another carrier has a higher price than you do on a given segment of
business, you are likely the victim of adverse selection (you are writing
business at a lower rate than you should be and you will get more of it over
time)
• If another carrier has identified a segment that can be priced differently than
you do, you are in trouble (They will price this segment so that they can obtain
or discourage this business)
• If another carrier identifies a segment which it prices below your rates, you
are going to lose VERY profitable business (They will take this profitable
business and you will end up with what is perhaps your most unprofitable
business with nothing to shore it up)
THE PROBLEM WITH BIG DATA
•
Companies are now rating based on huge amounts of data. Progressive found that
red cars are more prone to accidents than other colors…a new segment. These
segments are teased out of the data by sophisticated actuarial software which
requires huge amounts of computer power and data
•
Companies are finding new and innovative segments such as census tract data – for
example if one census tract has more stay at home Moms, is theft loss lower? It
takes a very sophisticated IT system to be able to rate on multiple levels of factors.
•
Predictive modeling is on the rise
•
The cost of having IT that can do all this is very high – and the smaller the company,
the bigger the impact
CHANGES IN THE MARKETPLACE
3RD FUNDAMENTAL CHANGE
JUST A FEW MARKETPLACE CHANGES
•
•
Internet Sales are on the rise in our industry
Companies are finding innovative ways to market insurance
•
•
•
•
•
Insurance as part of the price of the vehicle for the first year – loss leader but hope for
retention
Pay at the pump?
Telematics – Usage-Based Insurance (UBI - yet another new segment)
Retail grocery changes such as Tesco in the UK and Kroger in the US have implemented the
distribution of insurance products via their stores
Megatrends in Demographics
•
•
•
•
Fewer homeowners – more rental insurance?
Self driving cars – will the days of accidents be over?
Immigration
Purchasing Behavior of younger consumers
CHANGES TO THE INDEPENDENT
AGENCY SYSTEM
4TH FUNDAMENTAL CHANGE
INTERMEDIARIES THAT HAVE CHANGED DUE TO THE
INTERNET
• On-line Retailing – think Amazon
• On-line Banking
• On-line Music Distribution – think Apple
• Book publishing and distribution
• Car buying
• House buying
• News
Global Online Sales grew from $680 Trillion in 2010 to $1.250 Trillion in 2013
AN EXAMPLE OF CHANGE IN INTERMEDIARIES
-
TRAVEL AGENTS
• Old Way – One called the travel agent to discuss options for flights, picked
up the ticket at the agent’s office and obtained thoughts on hotels, rental cars
etc. from the agent
• New Way – Check out Expeida on a smartphone, make a selection, book a
seat, check in and flash a boarding pass at the gate. Reserve hotels, rental
cars, amusement park tickets and restaurant seating on your tablet or phone
TRAVEL WEEKLY, DECEMBER 2, 2013
• According to Shelly Younger, manager of settlement services for ARC, that
number (number of Travel Agencies) has dwindled to 13,000 from a peak of
46,000 in the early 1980s. It began falling in the mid-’90s, when airlines
capped and then cut the commissions that had been the foundation of the
retail travel model. (ARC is the Airlines Reporting Corp which handles
accreditation of travel agencies that issue airline tickets)
• John Pittman, ASTA’s vice president of industry affairs, consumer affairs and
research, suggests that the best measure of agent numbers is probably
Bureau of Labor Statistics (BLS) data. By that measure, the number of full-time
agency employees in the U.S. has fallen from a peak of 124,000 in 2000 to
64,000 in 2012. (ASTA is an association of travel professionals)
CHANGE HAPPENED VERY QUICKLY
• While travel agents are still in use, they are not on every corner, there was a
huge amount of consolidation and travel agents often specialize in niche
markets
• Will there be a rapid period of change in our industry? Will your company
be able to adapt and survive or will it go the way of Buggie Whip
manufacturers?
• Michael Jans – CEO Agency Revolution – Regarding Insurance Agents :
• Local Agents wrote 80% of new PPA in 2003. They only wrote 63% in 2010
• Since 2005 the Independent Channel’s PPA market share decreased from 34% to 31%
while the Direct Channel increased from 21% to 28%
• In 2010, 22% more quote requests were bound online than the previous year
THEIR (BIG CARRIERS WHO ADVERTISE) WILLINGNESS TO BYPASS THE LOCAL
AGENT IS EVIDENCED BY THE FACT THAT P&C CARRIERS WENT FROM
SPENDING $1.7N IN ADVERTISING IN 2002 TO $5.9B IN 2001 MICHAEL
JANS – CEO AGENCY REVOLUTION
IMPACT OF ADVERTISING ON BIG SPENDERS
NEED FOR A NEW WORKFORCE
AND PERHAPS BOARD
COMPOSITION
5TH FUNDAMENTAL CHANGE
CHANGES TO OUR INDUSTRY
1.
Changes to the Way we do business:
The Insurance Industry has moved from:
Armies of clerical workers searching for lost files, coding, rating,
performing data entry and participating in typing pools
To:
Imaging, on-line capture, big data, predictive modeling, etc.
2.
Insurance training was once conducted by the “big” companies and they turned out
underwriters, adjusters, premium auditors and actuaries by the thousands. Now –
not so much.
3.
Demographics guarantee problems as our skilled employees age and retire
INSURANCE TRAINING, ONCE THE PROVINCE OF
THE “BIG CARRIERS” IS NOW DIFFICULT TO FIND
• The profession of claims adjuster is facing its own circumstances. These
individuals already face enormous workloads and stressful employment
conditions. The expertise that insurers require comes from experience – and
that quality is rapidly being depleted and not replaced. Approximately 70
percent of claims adjusters in the United States are now over 40 years of age
and similar numbers apply in Europe.
IBM Global Business Services – Insurance 2020
BOSTON GLOBE - DEC 07, 2014
• About half of all insurance workers are older than 45
• According to the Institutes (a Pennsylvania professional development
organization for the industry):
• By 2020, insurers will have an estimated 400,000 job openings
• There are about 2.5 million insurance workers in the county; half will retire within the
decade
US LABOR FORCE CHANGES
EDUCATION IS CHANGING – QUICKLY ENOUGH?
WHAT DOES THIS MEAN IN TERMS OF EMPLOYEES?
• Insurance carriers increasingly require high levels of technical skills in their
employees
• There are fewer trained insurance professionals to be hired
WHAT ABOUT BOARD COMPOSITION?
• Originally boards of mutual insurance companies, like banks, were expected
to bring in business from the area and the skills required to be a board
member involved general business knowledge and contacts with others in the
marketing area
• Today, boards are expected to have a deep understanding of the property
casualty business and all aspects of the ever increasingly technical business.
• New regulations will up the ante in this area (look at the new Corporate
Governance Annual Disclosure Model Act (CGAD))
A NEW ERA IN MANAGEMENT KNOWLEDGECAPTURED BOARDS?
“A recent survey by PwC and a joint survey by Deloitte and the Society of
Corporate Secretaries & Governance Professionals found that the most sought
after new director attribute is industry expertise.”
Ann C. Mule and Charles M. Elson – Director Evaluation
CHANGES TO THE REINSURANCE
MARKET
6TH FUNDAMENTAL CHANGE
MCKINSEY & COMPANY, NOV 27, 2015
The influx of third-party capital into reinsurance markets has increased significantly
in recent years. Primary carriers are turning to capital markets instead
of traditional reinsurance companies to provide protection,
particularly for property catastrophe coverage. Pension funds and asset
managers are increasingly investing in this space, along with the dedicated
funds that specialize in this type of investment. These investors are attracted
to the property catastrophe market’s uncorrelated returns and historically
attractive yields, especially in today’s low-rate environment.
PROS
For cedents in both personal and commercial lines the main benefit of third
party capital is that it provides another source of reinsurance protection. This, in
turn, gives carriers more negotiating leverage in the reinsurance market. Apart
from more pricing power, third-party capital offers carriers other benefits
relative to traditional reinsurance (Exhibit 3, page 4):
• Reduced counterparty credit risk (particularly when third-party vehicles are backed by
collateral)
• Greater diversification, as coverage becomes less concentrated with a few reinsurers that
are often interconnected through the retrocessional market
• The ability to lock in rates with multiyear structures, as catastrophe bonds have durations
of two to three years or longer. This helps to prevent significant pricing shifts after a large
catastrophic event (such as the75 percent rate increase after Hurricane Katrina)
CONS
The main drawback of third-party capital is concern over its long-term availability, as well as its
inability to replicate traditional reinsurance structures:
• Third-party capital may not be as permanent as traditional capital. If the provider of thirdparty capital withdraws (or fails to reissue) due to a large catastrophic event or a more
favorable interest rate environment, primary carriers will be compelled to turn back to
traditional reinsurers to purchase protection—and they will do so with a weakened
negotiating position. Currently, even with softening conditions, these investments remain
attractive to capital markets, given the arbitrage between the cost of equity for reinsurers
(recently rising) and expected returns required by institutional investors (recently falling in the
low-rate environment). However, this attractiveness will diminish with the inevitable rise in
rates.
• Alternative third-party vehicles often lack critical provisions included in reinsurance contracts
(such as reinstatements), and providers lack the value-added expertise that reinsurers offer.
AND…..
As these new vehicles become more available, cedents will
need to develop new internal capabilities to actively
manage them.
Before – everyone paid pretty much the same rates for
their coverages and bought the same basic programs….
THEREFORE…
Companies that successfully navigate the new realities of
the reinsurance market will have a distinct advantage over
those who do not adapt
NEED FOR SOPHISTICATION IN
ERM
7TH FUNDAMENTAL CHANGE
ERM HISTORY
• Initially, ERM was driven by rating agencies
• AM Best –Capital Adequacy Ratio - BCAR
• S&P – Capital Adequacy Ratio – CAR
• Moody’s – Risk Adjusted Capital Model (MRAC)
• As ERM evolved, regulators began to develop new methods of
regulating:
• NAIC - Risk Based Capital (RBC)
• European Union - Solvency I & II
• Financial Services Authority - UK
ERM HISTORY
• Politicians added their own touches
• Sarbanes Oxley – July 30, 2002 - Public Company
Accounting Reform and Investor Protection Act
• Enacted as a reaction to corporate and accounting
scandals – Enron, Tyco, Adelphia, WorldCom
• Set new or enhanced standards for all U.S. public
company boards
• New reforms are still being discussed as a result of the
2008 financial meltdown
WHAT DO CARRIERS NEED TO DO?
• As these entities continue to develop their rules,
regulations, guidelines, etc., ERM will continue to evolve
• Companies need to remain vigilant to ensure that new
developments are appropriately considered and adopted
• Companies will need to develop more sophisticated tools
such as internal BCAR, capital and catastrophe models
REGULATION AND LEGISLATION
8TH FUNDAMENTAL CHANGE
INSURANCE REGULATION – OUT-REGULATING THE
REGULATORS?
• State regulation has been a mainstay of insurance regulation since the
inception of the industry
• Post financial crisis movements toward federal regulation have initiated
protracted discussion on state vs federal regulation
• The state insurance commissioners dusted off an 1871 entity, the NAIC, and
have exuberantly attempted to prove that they are up to the job and don’t
need federal help
NEW COMPETITION TO CONSIDER
• As globalization increased, foreign companies and multi-state carriers have
raised a warning about the difficulties of dealing with 51 state regulators
which they contend have a negative impact on consumer choice and
competition.
• After the financial crisis, with AIG’s non-insurance arm causing huge problems
in the “too big to fail” category, there have been demands for integrated
regulation of the financial services industry – banking, securities and insurance
LEGISLATION
While some states are more or less “pro business” and/or “pro insurance”,
inevitably, legislation which affects insurance companies either by creating rules
by which carriers operate or by raising fees and taxes end up increasing
expenses.
Some states also seem to react to one-off issues by passing legislation which is
sometimes subject to the laws of unintended consequences
COST OF REGULATION
Do high levels of insurance regulations benefit consumers? This ConsumerGram provides
new empirical evidence showing that increased state insurance regulation is strongly
correlated with higher consumer insurance premiums. Our statistical analysis finds that the
average household pays about $300 more for property and casualty insurance in heavily
regulated states, compared to the least regulated states. This means that, across the U.S.,
high regulations push up consumer property and casualty insurance premiums by
approximately $13.7 billion each year. In other words, when it comes to excessive state
regulations, consumers are the biggest losers.
The American Consumer.Org, March 27, 2008
COST OF REGULATION AND LEGISLATION
While some costs of regulation may be passed on through higher rates, the
impact of these rules and regulations is felt differently by various companies
and even though smaller companies may have a larger relative cost,
competition may dictate that not all expenses end up adequately passed on.
i.e., some companies will have higher impacts on their expense ratios than
others.
IN CONCLUSION
The insurance business is a strange one:
• We don’t know the cost of goods sold for many years
(if ever)
• When we make changes to our business (rate, product,
reserving changes), we are like a barge in a channel
Unless we keep up with change we risk joining a long
list of carriers who have disappeared…
What needs to be done?
WHAT TO DO
• Develop appropriate strategic plans – have a serious idea of what change
may affect you
• Develop energetic, dynamic ERM programs – know your risks
• Think strategically – don’t be a slow motion train wreck – employ change
agents
• Consider innovation reactions to major change – alternate sources of capital,
innovative reinsurance programs, affiliations, strategic alliances, etc.
• Attend PAMIC, NAMIC and other educational programs – know what you
don’t know
WHAT TO DO
• Make certain that your management is thinking strategically and is willing to
do the difficult work of being an agent of change
• Review your governance practices and determine if your current board can
support what needs to be done
• Consider your staff – do you have highly skilled and talented technicians in
underwriting, claims, finance, statistics, actuarial, IT?
• Make sure someone is watching what is actually changing so that you are not
surprised if insurance experiences a “travel agent transition”
THANK YOU!!!!!!!!!!!!!!