Buyers’ Market for D&O
Overall, pricing for directors and officers insurance programs are down, thanks to increased carrier competition for excess lines, according to brokerage firms. But rates are higher for some sectors such as health care and life science organizations.
According to the “Aon Financial Services Group D&O Pricing Index” for the fourth quarter of 2014, the average price for $1 million in limits for Aon clients increased 10.3 percent from the third quarter of 2014, due mainly to the change in the mix of business from one quarter to the next.
Comparing the current quarter with the prior year quarter, the average price fell 12.2 percent.
For those programs that renewed in both Q4 2014 and Q4 2013, pricing fell 7.4 percent.
“We are entering a buyers’ market, as pricing is starting to come down in totality for these D&O programs,” said Brian Wanat, chief executive officer of Aon’s financial services group in New York City.
“We are entering a buyers’ market, as pricing is starting to come down in totality for these D&O programs.” — Brian Wanat, chief executive officer, Aon’s financial services group
While pricing for primary D&O policies is relatively flat, increased competition within the excess market is lowering prices, resulting in a net reduction for overall programs, Wanat said. As carriers such as Allianz SE in Munich enter the excess market, it creates a better supply environment, lowering prices.
“D&O has been profitable with no real increase in claims frequency or severity,” he said. “In many instances, only the primary layer comes into play, given dismissal rates where defense costs are contained and paid by the primary layer of D&O only, with the excess unscathed.”
Moreover, reinsurance, which has even softer prices, has been “ample and a good proposition for insurance companies,” Wanat said.
For Arthur J. Gallagher & Co., smaller private clients in particular are paying firmer prices because most only purchase primary policies and not excess policies, said Phil Norton, president of the company’s professional liability division in Chicago.
They are also getting larger percentage increases because of their mix of covered claims, including entity claim allegations such as antitrust and deceptive trade practices, which are more expensive because they are the leading cause of the higher loss ratios.
On the other hand, many larger firms are getting an overall decrease when they add excess, particularly if they are in the right industry, such as manufacturing, Norton said.
“Most manufacturers don’t have any unique risks and they tend to flow with the economy,” he said. “They don’t even have to be making extraordinary profit to be considered a very good risk – they just need to be stable.”
“When things are high, they can fall farther and if there are big stock drops, companies can pretty much count on getting D&O claims.” — Rob Yellen, executive vice president, FINEX North America, Willis
Overall, AJG’s private clients saw an 8 percent to 10 percent price increase in 2014, which has relaxed to 5 to 8 percent increases in 2015 to date, Norton said.
Brenda Shelly, Marsh’s U.S. D&O product leader in New York City, said that, while excess rates for Marsh’s public company D&O polices have been declining since their peak in the fourth quarter of 2012, primary ABC rates are firming.
However, since lower excess prices offset primary market increases, companies with good risk profiles were still able to achieve overall program decreases each year, she said.
“In the private and nonprofit spaces, we continue to see rate and retention pressure, which we expect to continue for the next few quarters due to very broad coverage and historical low rates at the same time they were experiencing serious claims for the past few years,” Shelly said.
Jeffrey R. Lattmann, executive managing director, executive liability at Beecher Carlson in New York City, said that the clients that have had flat pricing on primary have had consistently well-managed, good financials, while the clients that have seen increased premiums have had material changes in risk, adverse development in their financials and claims paid.
Smaller companies, which have employment practices liability built into their D&O policies, are facing headwinds if they operate in California, Lattmann said. “If they have any employees in California, they are experiencing higher pricing and higher retentions, as it’s the toughest state to underwrite with all of the employment litigation.”
According to Willis data, public companies have seen less upward pressure on rates, although rate increases are likely for health care companies, homeowner/condominium associations, educational institutions and nonprofit entities.
For financial institutions, Willis is seeing small decreases on primary coverage, with slightly greater savings on excess. For companies that have yet to see relief from credit crisis increases, particularly financial guarantee companies, rate decreases could be as large as 25 percent.
“In the end, I don’t think the financial crisis was as scary from a D&O insurer perspective as many expected,” said Rob Yellen, executive vice president, FINEX North America, Willis in New York City. “While we’re still seeing bankers get sued when their banks failed, the amount of claims were not nearly as bad as many thought they were going to be.”
Looking forward, Yellen said, the D&O market is “at a crossroads.”
“We’ve had a relatively stable slow-growth economy and now have a pretty high stock market at or near 52-week highs,” he said. “When things are high, they can fall farther and if there are big stock drops, companies can pretty much count on getting D&O claims.”
Those companies are also facing challenges as the Federal Reserve appears ready to raise rates at any time, and a strong dollar is making it harder for U.S. companies to make money outside the U.S., Yellen said.
Moreover, the SEC is now focused again on accounting fraud, which typically hits D&O harder than insider trading.
“So while clients may see a bit of price relief this year due to competition, D&O exposure seems to be getting worse,” he said.
Cyber Cover in Demand
At Marsh, the number of U.S. based clients purchasing stand-alone cyber insurance increased 32 percent in 2014 over 2013, according to a report released last week. The cyber take-up rate — the percentage of existing Marsh financial and professional liability clients that purchased cyber insurance — rose to 16 percent. Early evidence in 2015 suggests a continued acceleration in the demand for cyber insurance.
“Cyberattacks are inevitable, and no amount in the IT budget is going to take that risk to zero,” Thomas Reagan, cyber practice leader at Marsh in New York City said in an interview.
“Businesses are already going to have some exposure, which requires good risk management that is more than just IT and prevention. It’s like defending castles and bank vaults – businesses have to defend against everything, but thieves only have to find one way to attack.”
“Cyberattacks are inevitable, and no amount in the IT budget is going to take that risk to zero.” — Thomas Reagan, cyber practice leader, Marsh
Good risk management should include risk transfer as one of the main ways to approach cyber risk, and risk managers need to recognize when existing insurance programs are not going to be sufficient enough to protect their systems, Reagan said.
Marsh’s health care and education clients — organizations with vast amounts of personal information in their databases — had the highest cyber insurance take-up rates in 2014 at 50 percent and 32 respectively, respectively, followed by hospitality and gaming (26 percent) and services (22 percent), according to the report. Nearly half (47 percent) of Marsh’s power and utilities sector bought standalone cyber coverage.
Marsh clients with more than $1 billion in annual revenues purchased 22 percent higher limits on average in 2014, at $34.1 million compared to $27.8 million in 2013.
Very large financial institutions continue to buy the highest average limits, followed by power and utilities firms and communications, media and technology companies. For all sized firms, power and utilities companies had the highest percentage increase in average limits, at 59 percent.
Premiums were volatile due to increases in the frequency and severity of losses and “near-constant headlines about attacks and outages,” with renewal rates for retailers rising on average 5 percent, and as much as 10 percent for some Marsh clients.
Most industries were able to secure cyber coverage with aggregate limits in excess of $200 million, while the most targeted industries, like retailers and financial institutions, faced a challenging market, the Marsh report said.
For Beecher Carlson’s Fortune 1,000 companies, well over 50 percent in certain industries are buying cyber insurance, said Christopher Keegan, senior managing director, cyber and technology national practice leader in New York City.
Some sectors are buying more, such as health care insurance firms and their nonprofit equivalents; more 70 percent of those groups are buying cyber insurance, Keegan said. On the flip side, less than 10 percent of Beecher Carlson’s hedge fund and private equity clients are buying cyber insurance.
“More than half of the top 20 retailers are buying, but not some of the very largest retailers because they think that the insurance market really doesn’t have the capacity to give them the amount of limits which would be meaningful for them,” he said.
“But last year a $500 million cyber tower was put together for a very large tech company, so there is capacity but only for the best companies. To make the purchase worthwhile for these very very large companies, they really need large capacity in order for the size of transaction to make sense to them.”
Beecher Carlson’s Fortune 500 to 1,000 clients are buying at a “relatively fast clip,” but middle-market companies with $500 million in annual revenues or less are just starting to buy in volume the several years, Keegan said.
“That is the big growth area for cyber insurance.”
Many of the firm’s clients are seeking significantly higher limits, particularly those in health care, retail, energy and utilities, he said. Energy and utilities have been able to get some significantly higher capacity, but for retail, it’s been especially difficult because of all of the data breaches.
As such, the pricing of cyber insurance over the last year has changed, depending on the industry. For example, for retail, especially large retail — sometimes premiums have increased by multiples of two, three or more.
“The way the market is looking at retail is something like a property cat program, because if they have a breach, the whole tower is going to go,” Keegan said.
“But in other parts of the market, such as health care, the premiums have stayed relatively flat and in some cases, we’ve been able to broaden the policy terms.”
“We’re seeing more clients, especially those with $1 billion or more in annual sales that we call ‘risk management clients,’ buy even higher limits than before because of the costs of breaches.” — Adam Cottini, managing director, cyber liability practice, Arthur J. Gallagher Risk Management Services Inc.
Adam Cottini, managing director, cyber liability practice at Arthur J. Gallagher Risk Management Services Inc. in New York City, says his firm has seen 40 percent growth in the purchase of cyber insurance from 2013 to 2014, year-over-year.
“We’re seeing more clients, especially those with $1 billion or more in annual sales that we call ‘risk management clients,’ buy even higher limits than before because of the costs of breaches — for some large risk management clients, in excess of $100 million,” Cottini said.
Smaller companies that are in specific data-sensitive industries, such as health care, education, financial institutions, public entities and retail, are also asking for higher limits, he said.
“Organizations who have evaluated cyber insurance and rejected purchasing the coverage will need to absorb the cost of a breach through their own balance sheet,” Cottini said.
“Also, with or without cyber insurance there is a need to continue to investment in network security to maintain a robust security profile.”
Some middle-market companies are buying, but some are “struggling” to determine whether it is a good deal for them and a good use of their dollars for IT services, he said. For smaller companies where premium pricing is aggressive, the uptake is massive, just like it is for the larger companies.
Aon tracks purchasing data on a global basis, breaking it down by region, industry and size of insured, said Kevin Kalinich, global practice leader, cyber risk in Chicago. Purchases of cyber liability policies worldwide rose 50.3 percent in 2014, and the number of cyber policies placed by Aon in the U.S. rose 38.7 percent. The percentage increase in EMEA and Asia were much greater, because they were father behind the U.S. in purchasing prior to 2014.
Premium price per million, for both the median and mode, fell 4.1 percent for Aon clients in the middle market, Kalinich said. More cyber insurance carriers are now going after the middle market than are pursing larger insureds following a few large insured claims.
“But some alternative thinking insurers are taking advantage of the relatively big hard market opportunity in the large limit programs, with excess of up to $500 million attachments for higher price-per-million,” he said.
“Aon’s brokerage and reinsurance groups are now co-developing solutions that include reinsurance, either through captives or directly with reinsurance markets that typically haven’t been tapped for cyber insurance.”
Professional services clients, such as consultants and technology related industries of all brokerage firms typically do not buy stand-alone third party cyber policies, but rather address third party cyber exposures through their professional liability policies to ensure more coordinated coverage, Kalinich said.
“For all types of cyber insurance purchases, trends are changing dramatically in the wake of breaches at Home Depot, Sony and Anthem,” he said.
“The complete fallout of that for insureds is to be determined.”
More Accountable Care
More physicians are selling their practices and becoming employees of larger entities, as the Affordable Care Act encourages the creation of expanded accountable care organizations.
So far, underwriters are viewing the trend as a positive, with improved risk management practices and less “finger-pointing” between hospitals and doctors during the claims resolution process, as all parties are now covered under the employers’ professional liability policies (physicians working as employees typically no longer buy medical malpractice insurance.)
But as more patients are served under this model, experts said, certain issues need to be ironed out, such as whether health care organizations can meet new “pay-for-performance” metrics and whether they are buying as much limits as they should to adequately handle jury awards.
Berkshire Hathaway Specialty Insurance views the ongoing migration of physicians toward institutional employment as a favorable trend, both for the individual practitioner as well as for the institution employing them, said Leo Carroll, head of healthcare professional liability.
“Physicians are less distracted and burdened by some of the administrative responsibilities of running a practice, by handing that over to the institution to manage,” Carroll said.
Physicians benefit when they join an institution’s risk management program, in part by being able to use a common medical record system, usually electronic, to help to optimize technological efficiencies and promote consistent communication, he said.
Moreover, communication between physicians and institutions within the employment model generally is “a little tighter and more efficient,” as comprehensive treatment plans can be shared more effectively across a unified team.
Physicians are also integrated into a larger insurance program overseen by the institution, which allows them access to broader risk management training and promotes more time with patients, Carroll said.
Claims can also be resolved more efficiently because the “finger-pointing” between doctors and hospitals under separate insurance policies has been eliminated, and the cost of a coordinated defense using one law firm is typically much lower.
Still, a unified approach to resolving conflict “does come with compromise for all involved,” so that claims can be resolved in the best interests of all parties, Carroll said.
“The future is a pay-for-performance environment.” — Bob Allen, president, Pro-Praxis Insurance
“It’s really important for physicians to be open and well-informed about the culture of the institution they are joining,” he said.
“They need to make sure to understand that there may be differences in the way that care is delivered and what the expectations are of the physicians by the institutions.”
Medical specialists are also making the switch, said Mary Ursul, executive vice president at Coverys, a Boston-based provider of medical professional liability insurance.
In recent years, Coverys has seen instances where independent cardiologists in a community all become employed by a health system, Ursul said.
“Whether it is the push to upgrade equipment, implement electronic medical records, the uncertainty of future private payer and government reimbursement, or the predicted shortage of health care providers, the shift away from independence seems to be heavily weighted towards financial concerns,” she said.
The ACA’s call for more integrated care delivery is also prompting the move toward employment — as well as the increasing trend of hospitals and health care organizations to also acquire acute care, post-care, rehabilitation facilities and other entities across the health care delivery system, Ursul said.
As larger entities acquire physician practices, there are certain training protocols that should be considered to minimize risk exposure, she said.
“For example, something as simple but important as a new patient intake process within an unfamiliar electronic medical record can create situations where risk exposure can increase without sufficient training,” Ursul said.
“That could be a steep learning curve for staff in a physician’s medical office, therefore, time, training and appropriate resources are all important to make the transition smooth and to ensure that clinical information is handled appropriately so that risk can be reduced.”
While Coverys offers comprehensive clinical risk management services to its insured independent physicians, the carrier finds that not all physicians have access to such services, she said.
Coverys advises hospitals acquiring physician practices to conduct risk management assessments as soon as practical, a service that the carrier provides to insured hospitals.
“These assessments can provide a baseline of data on processes, possible gaps in best practices, and assist in determining what type of education and training staff may need,” Ursul said.
One benefit to being acquired is often access to professional clinical risk management resources through the hospital’s risk management department.
“This may not actually be viewed as a benefit from the physician side of the transition as physician practices are largely unregulated, so the level of oversight may be viewed as burdensome,” she said.
As hospitals and health care organizations acquire more physician practices and other entities throughout the health care spectrum, the risk in maintaining “the health of the community” becomes the new issue, said Bob Allen, president of Pro-Praxis Insurance in New York.
The Importance of Care Coordination
To manage the health within a patient population, there has to be coordinated care across physicians, hospitals and rehab services, Allen said.
“For example, one entity says that it can take care of all of the diabetes cases in its region for x number of dollars, and so the ‘risk’ is being able to have the hospital and the doctors on the same page to be able to take care of those cases at or under that targeted dollar amount,” he said.
That exposure is also translated into the financial risk of taking a flat fee for a particular type of care, what is known in the industry as a “capitated risk,” Allen said.
If a health insurer agrees to give a hospital and its physician network a flat fee to treat 1 million people in its area, the insurer may pay for office visits, including annual checkups, but it likely won’t pay if the network provides poor quality of care.
Insurers are now measuring that by “quality indicators,” he said. Insurers are increasingly reviewing the number of surgical infections or falls during hospital stays that occurred due to poor quality treatment or follow-up after surgeries, and determining whether the rates are too low, high enough or whether not to pay.
“The future is a pay-for-performance environment,” Allen said.
“If the network doesn’t perform well, it doesn’t get paid for services rendered — that’s the risk. It’s more of a business risk than a typical malpractice risk.”
To mitigate this financial risk, hospitals and physicians have to be on the same page, have greater collaboration, and “probably” the best way to do that is within an employer/employee structure, he said. Historically physicians had hospital privileges as independent contractors, but now as employees, there is better management of making sure doctors do checklists before performing surgery.
“As an integrated group, there are resources and rules for who will do the follow-up calls after surgery to make sure stitches are not going to be ripped open,” Allen said.
Pro-Praxis offers a professional liability program that covers every entity within the network — hospital, physicians and other employees such as certified nurse assistants, as well as other entities that hospitals have been acquiring such as nursing homes and outpatient surgery centers, as part of providing a continuum of care, he said.
Professional liability has taken the place of medical malpractice for individual physicians, Allen added.
For example, a hospital may pay $1 million in premiums, but after it brought a physician group of five doctors who each used to pay $100,000 in premiums for medical malpractice insurance, the hospital would now pay a total of less than $1.1 million in premiums.
In addition to less “finger-pointing” with a joint defense, typically the new employer/employee structure can result in “behavioral changes.”
“That is not to say that physicians didn’t behave well before, but now the hospital can better manage treatment and follow-up, and the workflow of all of its employees,” he said.
For insurers, the biggest challenge with the new structure pertains to policy limits, Allen said. Under the traditional structure, hospitals typically have a $2 million limit for professional liability and physician groups have a $1 million limit for malpractice. If they were sued and the jury awarded $3 million, the two entities could cover it with their respective limits.
“But now that there is no more sharing and just one health system that has to pay that $3 million jury award, the hospital would now have to pay $1 million out of pocket because its limit is still $2 million,” he said.
“This hasn’t happened yet, but from an underwriter’s perspective, we are concerned about loss allocation.”
Some health care organizations have been buying more limits and have been paying more in premiums, so they won’t have to pay out-of-pocket, something the insurers are hoping more will do as their exposure to losses increases.
“They have to be careful now that they’ve brought on all of those physicians as employees,” Allen said.
“Our job is to figure the impact of losses on how much limits they should get, and there is no hard data on that, yet.”