P&C Super Summit 2003: Sins of the Past

As insurers and reinsurers joined for the annual Strategy Institute P&C Super Summit, “super” is likely the last word to describe their frame of mind. “I don’t know how we [as an industry] are making a go of it,” is how the industry’s current financial picture was summed up by conference chair Glenn McGillivray, assistant vice president, corporate communications at Swiss Reinsurance Co.

While the industry achieved growth in premiums from $20 billion in 2001 to $30 billion for last year on the back of rate increases, insurers still managed to turn in a “pathetic” ROE of 1.8% (no better than the average return on a savings account) last year. And, in 2002, a year without any major catastrophes, the combined ratio remained unacceptably high at 105.9%. The net result was industry profit of $361 million, dismal when compared to even the smallest of the big five banks seeing profits of more than $1 billion, McGillivray points out (see chart 1).

But, the biggest concern is adverse reserve development. Overall, this stood at $892.3 million for 2002, with $622.9 million of this in auto, and $247.9 million in liability (see chart 2). “This is an all-time record by far for the Canadian industry,” McGillivray says. “The sins of the past will kill us if we don’t get them under control.”

Canada’s reinsurers are in slightly better shape, but four years after the 1998 ice storm, their underwriting result is still in the negative by more than $200 million, on a combined ratio of 110%. Despite price increases, rate levels on property catastrophe have barely reached levels seen a decade ago. There is now only one reinsurer left with a AAA-rating, GeneralCologne Re, and this is on the strength of parent company Berkshire Hathaway’s explicit capital support. “Buyers of reinsurance [have] become more concerned about [financial] ratings [of companies],” says McGillvray. “A company that’s under an A-rating probably won’t get the time of day.” Reinsurers, in turn, are also looking hard at primary company ratings when it comes to their willingness to take on risk.

More than talk

The necessary response to the problems plaguing the industry is no mystery, speakers agree. Underwriting has to be the basis for profits, in the absence of investment gains. It is a task, however, that has proven easier said than done. “Underwriting discipline – I’ve heard that for 25 years – we’re still in the same position we were in 25 years ago…the only difference is, shareholders have taken notice,” observes Henry Klecan, president of SCOR Canada. “What we have learned through the 1990s is not disciplined underwriting. We never think ‘technical profit’. It’s not even in the vocabulary.”

“Companies have to start to focus on what they do best,” agrees Bob Tisdale, president and CEO of Pembridge Insurance Co. “GM [General Motors] doesn’t sell you a car for cost and hope to make it [profit] up on service…” The industry has engaged in a vicious cycle of knee-jerk reserving, followed by under-reserving, then price increases and back again. Company boards should be holding senior management accountable to make a profit on the core business of underwriting, Tisdale asserts.

The situation has been no more stable in the reinsurance market, notes Chris Robey, chairman of AON Re Canada Inc. As reinsurers have reduced capacity and raised rates, this has forced primary insurers to take higher retentions, and overall increased the volatility of risk. He is also concerned with a trend to excluding risks, rather than finding an appropriate price. “We should be asking ‘how do we insure it’, not ‘how do we exclude it’.”

Robey does, however, think the industry, and its investors, may have learned some lessons from this latest cycle turn. He expects the next soft market is at least three years away, and even when it comes, prices will not drop back to previous levels. “I don’t think we’ll see the same type of silliness [in terms of rate inadequacy] because shareholders are not inclined to let capital accumulate in Canada as it has in the past.”

Risky roads

Nowhere has the underwriting crunch been more heavily felt than in the business of auto insurance. Rising claims and inadequate pricing have left the industry bleeding heavily, particularly in Ontario, which represents the lion’s share of the market.

While rates have risen, speakers agree that this is not the real solution – claims costs are the prime target. Industry premiums are up to $30 billion overall, but insurers are still incurring an underwriting loss, notes McGillivray. “Premiums are not the only solution.”

The industry is losing money on auto, specifically on healthcare costs associated with auto accidents, and they have responded with rate increases that are making headlines. The result has been intense public displeasure at both rates and a lack of availability in some regions. With public displeasure comes government involvement.

“The minority in society takes advantage of that product [Ontario auto], the majority complain about it. Who are we asking to fix it – the government,” says Tisdale. “By the time the government gets involved in fixing something, it doesn’t fix it well…We have to make sure as an industry that we don’t allow ourselves to get into this position again.”

Robey concurs: “The biggest risk is not on the roads, but in the legislature.” At the time of the conference, the industry was still awaiting regulations in support of Ontario’s Bill-198, which would address some of their concerns about the rise in healthcare costs associated with auto accidents and concerns over the growing problem of fraud.

MPP and Ontario government caucus chair Rob Sampson, one of the leaders in the move to reform Ontario auto, says the government recognizes that bodily injury costs have risen, and that not enough of this money is making its way to actual victims. “We have a lot of [medical] assessments, not producing a lot. There was an assessment war going on and nobody [accident victims] was getting any better.” Sampson admits that the government should have revisited the auto insurance issue sooner, as promised when Bill-59 was implemented in 1996. “You can’t design a product, put it on the shelf and say ‘it’s fine, we never have to touch it again’.”

Sampson wants to see more companies and more competition in Ontario, expecting this kind of market will lead to lower rates. As for the impending new regulations, he says, “they’re not perfect”. While many of the new regulations focus on fighting fraud, he notes that there will always be people who try to subvert the system.

Crackdown

At least one insurer is taking its own stand against fraud and trying to tackle Ontario auto woes even before government action is taken. Kingsway General Insurance Co. has been cracking down on fraudulent claims, specifically refusing to deal with clinics it suspects of fraud and bypassing paralegals by paying claims directly to policyholders. These, along with other measures, have caused a 30-point drop in the company’s Ontario auto loss ratio over the past year, says Kingsway executive vice president Steve Smith.

He notes that despite a decrease in the number of claims, companies are paying out more and more, particularly for fees and assessments. In fact, a review of Kingsway’s own claims files showed that 75 cents of every dollar was going to these costs, rather than to accident victims.

Another area insurers must address, Smith says, is the proper training of claims staff. “The training of adjusting staff has really deteriorated.” Companies are viewing investment in claims staff as an expense they can cut, and with the average adjuster staying with a company for only five years, companies may view investing in their training as a waste.

The adjusting community must serve increasingly demanding customers, and senior management desires to cut costs and reduce losses, and increasing pressure to reserve properly as part of the push for corporate governance, Smith notes. Companies need to “look at the [loss adjustment] expense as an investment…proper claims managemen
t has the ability to control [loss] development.”

Even more pressure on adjusting staff will come with the new auto regulations, adds Dan Watchorn, vice president of operations and claims at HB Insurance Management Ltd. Claims departments are now trying to determine just what the impact will be, including how to reserve for future losses under the new system. “Now we’re into the guessing game of how much is this going to cost us.”