Fuel for Innovation
The pressure on excess and surplus (E&S) lines brokers’ and insurers’ top lines has never been greater, say industry experts.
Increasing competition, mergers and acquisitions activity, and available capital, not to mention declining rates, have all resulted in many companies being squeezed out of the market.
However, the E&S industry continues to outperform the overall property/casualty market, reporting profitable results for the second straight year in 2014, according to A.M. Best. The report on performance in 2015 is due in September.
Total surplus lines direct written premiums also increased by 6.7 percent during the same period in 2014, compared to 4.5 percent for the total P&C market, the ratings agency said.
“The market is a very competitive place right now.” — Wyeth Coburn, wholesale broker and producer, Risk Placement Services Inc.
Added to that, ahead of the National Association of Professional Surplus Lines Offices (NAPSLO) annual convention in Atlanta this month, companies have become increasingly focused on customizing and innovating their products and services in order to stay ahead of the competition.
As a result, many have invested heavily in cutting-edge technology as well as employing ever more sophisticated underwriting and risk mitigation strategies.
“The market is a very competitive place right now,” said Wyeth Coburn, a wholesale broker and producer at Risk Placement Services Inc.
“Most of the major brokers all have the same product so it’s really about differentiating yourself through innovation and the quality of service you can provide.”
Scott Culler, regional president at Markel, said one of the biggest challenges facing E&S brokers and insurers is the continued increase in competition and capital availability, particularly in property.
“There are new players coming into the market all the time, which can be a big challenge for brokers when they have 50 companies knocking on their door all looking for business,” he said.
In terms of premiums, on average, property decreased by 10 percent and professional lines by at least 5 percent, while casualty and management liability were also under pressure, experts said.
Jeremy Johnson, president and CEO of Lexington Insurance Co., went as far as to say that the property market had become competitive to the “point of irresponsibility” in terms of its pricing and terms.
“There’s no doubt that the market is a lot more competitive than it was a year ago,” he said.
A key driver for increased competition has been the acceleration in M&A activity over the last year.
Among the biggest deals was Hartford Financial Services Group’s $170 million takeover of Northern Homelands.
James Drinkwater, president of AmWINS brokerage and one of NAPSLO’s wholesale broker directors, said that companies increasingly face competition both from within the E&S industry and the wider P&C market.
“The biggest challenge for us is the traditional market’s creep into the E&S space,” he said.
“Competition is fierce, with new insurers and MGAs entering the space on an almost daily basis.”
David Bresnahan, executive vice president at Berkshire Hathaway Specialty Insurance, said the increased competition resulted in “too much supply chasing too little demand.”
“It’s a really difficult underwriting environment at the moment, but that could all change with one big event,” he said.
“Property is certainly the biggest outlier — it’s the area where the market is down much more than any other this year, fueled by an aggressive reinsurance industry flooding the market with capital.”
Robert Raber, a senior financial analyst at A.M. Best, however, said that despite added competition, he expects premiums to be slightly up this year because of insurers’ pricing power.
Underwriting and Risk Mitigation Strategies
Johnson said the biggest challenge to the industry was to make sure that it remained relevant to its customers in an ever-changing environment.
“At a time when our business models and those of our customers are changing, and technology and computer power is creating a paradigm shift, we need to be able to deliver to them — not only in terms of product, but also the expertise to help them reduce their total cost of risk,” he said.
“In order to do this, we need to differentiate ourselves not only in terms of pricing, but also our value proposition to the customer through the use of our underwriting and risk mitigation strategies.”
Drinkwater said that there was a loosening of underwriting guidelines, with insurers considering risks they hadn’t previously, as well as expanding their terms and conditions.
However, he added, this was tempered to some extent by companies cutting their distribution costs and outsourcing specialist underwriting.
Meanwhile, others have been more proactive in terms of risk mitigation.
Scott Lockman, director of commercial insurance at Clements Worldwide, said that being small enabled his company to come up with new strategies and to create new products more readily than its larger competitors.
“Most of the smaller companies in the E&S space, ourselves included, are very innovative on the pre-loss side and in the analysis of their exposures in order to find ways to mitigate against them,” he said.
Investment in Technology
Raber said that companies were continuing to invest in their technology platforms in order to bind policies more quickly and effectively, as well as to control costs.
“Increasingly companies are seeking to customize their product and provide the insured with the exact coverage that they need,” he said.
“That also helps them with their rate structure, and to correctly price for a particular product.”
Bryan Salvatore, president of Zurich North America Commercial’s specialty products business unit, said that data and analytics are increasingly being used to better understand risks and to focus on more profitable business.
“That in turn improves not only the service for the customer, but also makes the risk selection and underwriting process more efficient,” he said.
Johnson said that AIG had invested heavily in technology to help its customers understand their key risk drivers and leverage data, including the use of unmanned aerial vehicles for building and pipeline inspections, and personal sensor devices for employees to improve workplace safety.
“The name of the game is to try to out-risk-select the competition at a time when more and more markets are moving towards big data and black box technologies,” Bresnahan said.
Aside from the daily financial challenges for E&S companies, there are still a host of regulatory hurdles that need to be overcome.
Brady Kelley, executive director at NAPSLO, testified before the House Financial Services Subcommittee on Housing and Insurance in January about the Flood Insurance Market Parity and Modernization Act.
The bill was subsequently passed by the committee in March and then the full House in April.
If passed by the Senate at the end of this year, Kelley said the bill would endorse private flood insurance issued by nonadmitted insurers.
“This bill, in effect, changes the current federal definition of private flood insurance to ensure that surplus lines insurers are eligible to offer private market solutions to consumers with flood risks that fall outside of the national flood insurance program or the traditional market,” he said.
New Areas of Opportunity
Despite its many challenges, the E&S market remains well placed to capitalize on new opportunities and risks that the traditional market doesn’t typically cover.
Drinkwater said that cyber liability remained the No. 1 emerging risk for the market.
“One of the biggest emerging risks is poorly handled cyber breaches, which ultimately cost companies a lot of money and CEOs their jobs,” he said.
Other areas, he said, included health care, logistics and private flood.
Lockman said that the biggest areas of opportunity were in higher risk categories such as kidnap and ransom, political violence and evacuation coverage.
“The increase in the number of humanitarian companies being deployed in high risk areas around the world has presented big opportunities for growth and we don’t see that slowing down at any point,” he said.
Culler added: “What’s exciting is that despite all the competition and challenges in the marketplace, the E&S industry continues to grow.” &
Keep the Dialogue Open
A shut-down, or even a partial disruption, is the stuff of nightmares for risk managers and C-suites. Business interruption (BI) and contingent business interruption (CBI) policies can help organizations weather those kind of crises, but the coverage is complex, and has only become more so since cyber exposures came to the fore.
In order to help minimize BI and CBI losses, risk managers must establish and maintain an open dialogue with C-suite executives on a continuous basis.
Open communication will give companies the agility to respond quickly if a business is shut down or production is halted by a cyber attack, determine the best way to assess income loss, and also to protect the company’s reputation.
Prior to a loss, that open dialogue will also help everyone reach a consensus about coverage needs and whether sufficient limits are in place.
Traditional property and BI policies will typically insure against a physical loss or damage to property, however many exclude cyber attacks, even if the cyber attack causes property damage.
As cyber threats become more sophisticated, risk managers and their companies need to better understand and assess these evolving exposures, and to devise an appropriate mitigation strategy and emergency response plan.
Understanding and Measuring the Claim
Al Gier, director of global risk management and insurance at General Motors, said that BI and CBI are often the most complex form of property losses when trying to quantify the actual loss.
“They require a significant marshaling of the risk management, supply chain, finance, marketing, purchasing and distribution functions, in order to support the claim,” he said. “Added to that is the work that people are already doing behind the scenes to bring their company back on line.”
He added that one way of assessing loss is by using pre-loss production schedules, sales and growth projections, and budgets.
Rick Roberts, president and director of risk management and employee benefits for Ensign-Bickford Industries and immediate past president of RIMS, said there is often a sizeable difference between a company’s loss estimate and the actual loss.
“There are two approaches to BI claims — the first is a top-down approach and the second is bottom-up,” he said.
“I prefer the bottom-up approach that measures lost income plus any continuing expenses as it’s easier to understand.”
Dan Holden, manager of corporate risk and insurance for Daimler Trucks North America, said that risk managers need to explain to the C-suite how BI or CBI coverage would be triggered, what it would cover and for how long.
That allows management to focus on potential events in order to mitigate against any revenue interruption, he said.
Robert Reeves, partner at EY’s Fraud Investigation and Dispute Services (FIDS) practice, said that should a loss occur, risk managers need to help senior management understand the claim, as well as the claims process and the potential range of the claim.
“[BI and CBI] require a significant marshaling of the risk management, supply chain, finance, marketing, purchasing and distribution functions, in order to support the claim.” — Al Gier, director of global risk management and insurance, General Motors
He added that when assessing a loss, it’s also important to take into account both sales and production.
“Sales is really focused on demand and production is focused on capacity,” he said. “So no matter what industry you are in, you have to look at both factors.”
Selecting the Right Policy
Dave Finnis, executive vice president and national property practice leader at Willis Towers Watson, said that most property insurance policies won’t provide coverage as standard in the event of a cyber attack unless there was evidence of physical damage.
“I am seeing a lot more instances where these kinds of occurrences are becoming a reality,” he said. “In the last year, a German power plant had a cyber attack and suffered physical damage when the hackers accessed one of their furnaces, but fortunately they were covered under their property policy.”
Reeves said that it is important to read the policy’s wording first as most cyber insurance will provide coverage for a BI claim, but won’t necessarily cover a CBI claim.
Josh Gold, a cyber insurance attorney at Anderson Kill’s New York office, said that BI or CBI coverage should provide for loss of business income at a minimum, covering both lost profits and continuing expenses.
He added that it was important to build in coverage for extra expenses, such as the cost of using other facilities while your operations are down, bringing consultants in, or moving your system to a new cloud platform.
Doug Backes, FM Global’s claims manager, said that it is also important to match the coverage to the loss.
“From our perspective, we have always approached data as property and it needs to be covered as such,” he said. “Whether data is damaged in a fire or as a result of a cyber attack, there needs to be cover for that.”
Impact on Reputation
Reeves said that an often-overlooked impact of a BI or CBI claim is on a company’s reputation with its customers, employees and shareholders.
“Once the physical loss has gone away, then you have got to make sure that you manage your reputation,” he said. “So you need to let your customers know what is happening, how long you are going to be down and what your mitigation strategy is.”
Citing the example of Target’s major data breach, which has cost the company $300 million to date, Gold said that the impact of a cyber attack often runs much deeper than the initial loss, and it can damage reputation in terms of customer privacy and payment details.
“From a loss mitigation 101 standpoint, you wouldn’t want to exacerbate the problem by being less than candid about what is going on,” he said.
“Of course, a lot of risk mitigation can be done before a breach occurs, to ensure that you have the appropriate plan and insurance policy in place.”
Gier said that the impact of a BI or CBI loss on a business’ reputation depended largely on the cause of the loss, as well as the company’s response time.
“Companies can do a lot to minimize the risk of BI or CBI losses on their reputation by maintaining ultimate sources of supply, keeping extra inventory and having a thorough understanding of the financial impact of BI in protecting the most valuable parts of the business,” he said.
Working in Partnership
Reeves said that risk managers need to explain to senior managers how their BI and CBI policies work and to identify key areas that need to be written into the coverage based on previous claims experience.
“The C-suite needs to make sure that those resources are available and the risk manager needs to make sure that everyone has realistic expectations about the time frame for the claims process.” — Jill Dalton, managing director, Aon Global Risk Consulting
He added that it was also important to help them understand the interdependencies between the different parts of their business in the supply chain.
“We had a client with a very small site in the south that got hit by a tornado,” he said.
Initially they thought it wouldn’t have much of a financial impact, but they soon realized that it was the only plant that produced a small component used in all of their products.
“They dodged a real bullet, because fortunately they were able to get alternative sourcing, otherwise they would have been facing a $1 billion loss,” Reeves said.
Jill Dalton, managing director of Aon Global Risk Consulting, said that C-suites and risk managers need to work in unison.
“The C-suite needs to make sure that those resources are available and the risk manager needs to make sure that everyone has realistic expectations about the time frame for the claims process,” she said.
Carlos Moran, director of claims at Aon Global Risk Consulting, added that businesses need to develop a contingency plan in order to maintain critical operations in the event of a loss.
“Risk managers have a very difficult job,” FM Global’s Backes said. “Sometimes it’s very difficult for them at times to get the attention and buy-in from the C-suite.
“But when they can do that successfully, they can build out greater resiliency and redundancy into the company’s practices and procedures.” &
Hailstorms Grow Less Predictable and More Expensive
Hailstorms increased in frequency and severity over the last 20 years, largely a result of climate change and more extreme weather conditions. Insurance costs are spiking as a result, too.
Hail causes about $1 billion in damage to crops and property in the United States every year, according to the National Oceanic Atmospheric Administration (NOAA).
In 2015, NOAA’s Severe Storms database recorded 5,411 major hailstorms. The worst affected area was Texas, with 783 hailstorms.
“The hardest part for some customers has been that there have been successive hailstorms.” — Jill Dalton, managing director, Aon Global Risk Consulting
This year, hailstorms in late March and April are expected to result in total losses to vehicles, homes and businesses in north San Antonio and Bexar County of more than $2 billion, according to the Insurance Council of Texas.
San Antonio’s first hailstorm on April 12 became the costliest hailstorm in Texas history, the council said.
Between 2000 and 2013, U.S. insurers paid out almost $54 billion in claims from hail losses, and 70 percent of the losses occurred in just the last six years, said a report by Verisk Insurance Solutions.
The average claim severity was also 65 percent higher during that period, than from 2000 to 2007, the report said. Most losses were from broken windows and roof damage.
Added to that, hailstorms are increasingly harder to forecast and are occurring in unlikely places, with reports of hail this year in warmer climates such as South Florida.
Trying to Better Understand How Hail is Produced
Now, insurers and scientists are trying to better understand how hail is produced and take steps to mitigate damage.
“The hardest part for some customers has been that there have been successive hailstorms,” Jill Dalton, managing director at Aon Global Risk Consulting.
“When it happens over such a short period of time, as in the case of the recent Texas hailstorms, it’s hard to deduce what was damage from the first storm versus the third or fourth storm.”
Steve Bowen, director at Aon Benfield’s Impact Forecasting team, said that the location and intensity of the hailstorm were the most important factors in determining the magnitude of hail damage.
For example, if a hailstorm hits a more densely populated area it is likely to cause more damage.
“It is really important to emphasize that the total number of hail reports does not necessarily correlate to either higher or lower level of losses,” he said.
He said that, overall, insurable damage resulting from severe convective storms in the United States increased by 6.5 percent above the rate of inflation annually since 1980, most of which was attributed to hailstorms.
“The research done will also enable us to characterize the event in order to forecast future storms more effectively.” — Ian Giammanco, lead research meteorologist, IBHS Research Center
The Insurance Institute of Business & Home Safety (IBHS), a consortium of insurers, has been working with the National Center for Atmospheric Research in Boulder, Colo., to find ways to strengthen homes and businesses against hail damage.
“Overall hail losses are going up and a lot of it is to do with that fact that we are simply putting a lot more stuff in the path of storms nowadays,” said Ian Giammanco, lead research meteorologist at the IBHS Research Center.
“So, moving forward now, risk mitigation strategies are going to become much more important and that can be achieved with improved product and testing to ensure that they are properly hail resistant.
“The research done will also enable us to characterize the event in order to forecast future storms more effectively.”
Take Steps to Reduce Losses
Lynne McChristian, Florida representative for the Insurance Information Institute, said that given the difference in quality of roofing materials in terms of impact resistance, it was paramount to invest in the proper type of covering.
Others steps include making sure that the roof is fully secured.
The insurance industry has an Underwriters Laboratory standard for roofing material with four classes of impact level. Class 4 is the most resistant. In some cases, insurers will provide a discount for roofs made with hail resistant materials.
After the event, it is important to assess any damage and protect property against further damage by covering broken windows and plugging holes in the roof.
Most property insurance policies will cover against hail damage, as will comprehensive auto coverage.
“A hailstorm is a typically covered loss included as a named peril,” said Dalton.
She added that usually there are no policy limits on hail and most coverage is subject to a deductible.
In hail prone areas, such as Texas and South Carolina, the deductible is higher than for other perils. However, both states have a fund to provide hail coverage in areas where it is not available in the private market.
After the event, it is important to assess any damage and protect property against further damage by covering broken windows and plugging holes in the roof.
It is also key to file claims as soon as possible and to keep any receipts for purchases made for immediate repairs and to then submit them to your insurer.