As climate change adds to the pressure on insurers, can examining more detailed geographic data help turn things around? Graham Wallace looks at whether competitive advantage could be secured by putting geographic analysis and mapping at the centre of company operations
From the outset the UK has been a dominant force in the world of insurance. However, the climate in which the world's major insurers are operating is changing. The impact of shifts in environmental conditions, the growth of offshoring, turbulence in the credit markets and the need for new capital management disciplines - not to mention new market entrants - are set to transform the insurance landscape over the next five years. What is it going to take not only to survive but positively thrive in such conditions?
Traditionally the insurance industry has been tightly focused on what it does well - building excellent client relationships and leveraging long-standing arrangements to consistently bring in business through all phases of the insurance cycle. However, corporate and domestic clients alike are not immune to the shift in market conditions. For example, the trend towards commoditised insurance, which has gradually taken shape over the past 10 to 15 years in the domestic market, is already eating into the profitability of corporate accounts. Recent market conditions will only accelerate this trend.
Similarly, as long run rates of return on capital are assessed more stringently by investors, many sectors of the insurance business will be found wanting - particularly when hedge funds have consistently returned 15% annual rates of return, even in current market conditions.
Something needs to change, but what? Fortunately, the problems that the insurance industry faces are not unique; more pronounced perhaps than in other markets, but not unique.
The appearance of profitable sector specialists provides the key to understanding how things will unfold. Greater specialisation, more expertise in assessing specific types of risk, more effective pricing models and greater focus on profitability are the way forward. This approach builds on traditional customer relationships, but adds greater value; it provides clients with more comprehensive advice, spanning business continuity planning, input to capital investment plans and advice on currency exposures and portfolio management. Value-added services justify premium pricing, but services and value need to be sold and justified.
The lessons for the traditional multi-core insurers are already clear. Dedicated business units must behave like specialists. Cumulative annual growth rates of 6% to 7% are not going to excite investors with inflation running at 3% to 4%, depending on which index is used. Multi-core businesses need to invest and upgrade their capabilities in their chosen markets to survive.
But investment in what? The answer is very simple. Insurance is all about evaluating risk. To do this effectively insurers need complete and accurate data covering the risks that are being assumed, location by location, contract by contract.
The role of brokers is fundamental in this process but as services become more commoditised the intelligence that traditionally informed the market is being increasingly built in the systems that underpin core business processes.
In the face of offshore competition and increased focus on profitability, investment in world-class systems and processes is not a luxury, it is a necessity. A necessity to drive costs out of the business, to increase the productivity of staff by focusing more effectively on exception management and to ensure that capital is being allocated effectively across a balanced portfolio of client risks.
It is also a necessity because the world of insurance is not going to stand still. As a reinsurer being given the choice between allocating scarce capital between two insurance companies, one of which can locate the risk it has assumed accurately and precisely, and the other which runs a traditional client portfolio that may or may not be profitable depending on the machinations of the insurance cycle, which one would you chose?
Every facet of the traditional insurance business is going to come under the microscope. The net result will be streamlined processes for targeting new prospects, better methods of pricing risk, based on location-specific information, improved claims management and tighter processes for securing reinsurance. Both customers and shareholders are going to demand it, and increasingly they have offshore alternatives available to them if the existing market doesn't meet their needs and expectations.
The business model needed to support this activity will necessitate substantial investment in enterprise systems. These will include more finely tuned methods of assessing risk and more precision in the basis on which risk is assumed and priced. One of the main components that will underpin this transition will be a new breed of powerful geographic information systems used to integrate location-based information into the core business processes to identify, price and assume risk. The progressive application of these techniques will ensure that the processes used to allocate capital to different sectors of the risk portfolio will become more focused on profitability.
The advantage of such investment is that not only does it streamline an insurer's cost base but it lays the foundations to create precisely the sort of value-added services that clients are increasingly demanding. Options to reduce carbon footprints and to target investment to protect shareholder value are but two potential routes to add value to client businesses. Value-added services will enable leading insurers to build and sustain market share growth in the face of increasing cost pressures and the commoditisation of insurance.
The net result will be core business processes that use location and geography to underpin the pricing and assumption of risk; to track geographic accumulations and to identify proximate risks; to structure capital allocation and capital management; and to streamline claims handling as well as lowering costs by automation.
Geography and mapping is a logical way to link all the components of an insurer's business, creating integrated core processes. The commercial benefits of embracing a geographic approach and the benefits of integrating core processes will ensure the UK maintains the global lead in this sector.
The reality is that geography is the heart of every insurer's business.
- Graham Wallace is senior business strategist at ESRI (UK).
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