Once neatly shunted to one side as an IT issue, legacy now casts a long, darkening shadow across the insurance industry
Legacy issues reach into every aspect of the business, from a firm’s processes, to its relationship with customers, from how an insurer manages claims to its investment policies, all the way through to the vast reservoirs of data companies manage and the people who work for them.
Facing up to this myriad of challenges is not just about taking some costs out here, improving some margins there and adding the odd million to the bottom line: it is now about business survival. Disruption surrounds the insurance industry in the guise of insurtech, artificial intelligence, robotics, machine learning and the ever-present and ever-growing demands of regulators. These pressures can suddenly condemn once vibrant businesses to the scrapheap, lending a fresh urgency to tackling those legacy issues – cultural as well as technological.
Speed of change
Firms can no longer run away from these issues, says Doug Turk, chief marketing officer for JLT Group. “The speed of change is only going to get faster. We have to take advantage of that because the alternative could be very uncomfortable.”
He holds up the chilling example of Kodak, once the leading brand in the world of photography but now a classic study in corporate ineptitude in the face of digital disruption.
“In the early days of smartphones, which are only really 10 years old, Kodak owned consumer film and photos. It was synonymous with photos. If Kodak had embraced the digital change, jumped into it and said ‘let’s figure out the next step’, there would have been a different outcome for it.
“No one went to Kodak and said ‘you are going to lose your consumer film business’ or anything like that. It wasn’t that threatening to start with because we didn’t know where it was going. But look where it is today. There was a whole business of consumer cameras and film – and it has gone. For a brand like Kodak to virtually disappear in a massive segment in just two to three years is amazing. It shows that there can be extremely rapid change and that it can creep up on you.”
In this era of unprecedented change, especially technological, IT legacy systems can be the major inhibitor to developing new ways of doing business. One of the commonly accepted definitions of what constitutes a legacy system sums up why that is: “A computer system or application program which continues to be used because of the cost of replacing or redesigning it and often despite its poor competitiveness and compatibility with modern equivalents. The implication is that the system is large, monolithic and difficult to modify.”
Too often these large, complex systems have been built over many years with new iterations of software and new systems layered on top of old ones. Any incompatibility has been addressed with workarounds, some manual, and many leaving key data trapped in old systems, says Jane Disney, financial services industry value engineer at SAP.
“They have created hugely complicated environments, which they are now trying to innovate on. It is an impossible task. They really need to start again and leave the old platforms behind.”
There has been a cultural obsession among senior managements across the industry with pursuing big-ticket, best-of-breed solutions to IT and data management challenges in the belief that this was the best way to squeeze out that vital competitive advantage. It is that obsession that has brought them to the legacy impasse they face today, Disney argues.
“They have taken the best of breed and customised the hell out of those solutions in the belief that is the way to achieve differentiation. But the best-of-breed approach creates a very complex environment because each solution holds and processes data in different ways. In the end, there is very little differentiation because they are all buying the same solutions.
“Now they are in danger of spending money on what they call innovation but it isn’t digital. You can’t just put innovation on the front end when the organisation is still working in the old way with old systems.
“A lot of money is being spent in trying to improve the current processes but it is just patching it up and not really moving it to something fundamentally different.”
She says the big prize in terms of differentiation is to go beyond improving processes and to use the new connectivity, sources of data and digital interfaces to create integrated products that manage and mitigate risk as much as insure it.
Tangible benefits of tackling TPA legacy issues
One legacy issue that could be tackled easily and could quickly bring a helpful boost to the bottom line of many insurers is to track down money allocated to third-party administrators, says Andrew Collery, director of Ambant, a specialist insurance and professional services provider.
“TPAs are very good at administration when claims and the administration costs have to be paid but not so good at managing the balances and returning them,” he says.
When his firm started looking into the issue, “we quickly discovered that there is a lot of money that could come back to the market,” he adds.
In total, Collery estimates that as much as £200m could be sitting in accounts allocated to claims that have already been fully paid by TPAs.
“It is nobody’s fault. People move on, they are busy and the responsibilities are not always clear between underwriting and accounts. TPAs would argue that they are in the business of administering claims and just draw down when necessary,” he explains.
Starting with risk
This objective has to be key, says Turk: “Insurtech starts with the risk. It is about enabling better risk management, risk mitigation and risk transfer using technology and data. The big opportunity is to change behaviour and improve risk.”
Also key is getting closer to the customer, says Disney: “It is how firms price, how they service and how they deal with the customer that is where the differentiation needs to be.”
This could bring insurers face-to-face with another awkward legacy: the major investment in call centres over the last 20 years. These are not liked by the public and the digital generation doesn’t want to use them to buy insurance or to make a claim.
“Customers don’t want to talk to somebody to have a good experience. It is a fallacy,” says Disney.
Nik Vargas, chief technology officer of specialist consultancy Switchfast, which is based in Chicago, says creating a simple, digital interface for customers is essential: “The idea that customers should be able to easily access information should go without saying. When a customer finds that this isn’t the case and that they need to jump through hoops to get what they want, problems arise.
“One way insurers are leaving customers frustrated is by not providing digital portals for accessing their account information. Simple touches that we take for granted in many other industries are still not as common as they should be within insurance. Creating a simple customer experience isn’t just a good idea; it’s necessary if you want your organisation to thrive.”
Just as customers are challenging insurers to throw away a generation of conventional wisdom on how they want to be dealt with, new accounting standards are exposing other legacy problems. Coming hard on the heels of Solvency II, a new international financial reporting standard, IFRS 17, was issued in May and will apply to insurance contracts from 2021.
The data challenge
Both regulations require the collection and input of large amounts of data, new internal models and a robust actuarial calculation engine. Insurers that have developed internal models for Solvency II at least have some of the key tools for coping with IFRS 17 already in place. The challenge lies in the vast scale of the data required for IFRS 17, much of it difficult to source. It needs historic data that in the case of some policies might be a quarter of a century old. Sourcing this data in firms that have merged several times since policies were issued could be challenging enough. Getting it into a format where it can be manipulated to produce the view of the business demanded by IFRS 17 is proving to be even tougher.
“Data is a big, big challenge for the industry at the moment,” says Disney. “These new regulatory requirements have started to put the spotlight on the underinvestment in some key systems in the last 20 years.
“They haven’t got real end-to-end flow of data. There is a lot of manual reconciliation going on. There are unnecessary costs in most insurers.
“If insurers are sensible they will use the need to respond to Solvency II and IFRS 17 as a business improvement tool rather than just do something dirty and tactical. It could help across the whole business and not just the finance function,” she says.
Solvency II and the constant questioning by the pan-European regulator, the European Insurance and Occupational Pensions Authority, of the strength of insurers’ assets has highlighted issues around potentially illiquid assets acquired in the past by some insurers that are now not sure what to do with them.
Two asset classes in particular – private equity funds and commercial real estate – have the potential to cause problems, says Eugene Dimitriou, head of insurance solutions for Columbia Threadneedle Asset Management.
“Typically what has happened is that someone, some time ago, got infatuated with private equity and put some money into a fund. That person has moved on and 10 years later, the insurer can be left with a mixture of smaller assets that may not have performed so well. They then find out it is difficult to sell down a legacy private equity asset.
“Because this might only be 1% or less of a balance sheet, it is hard to justify doing a lot of research work in that situation. What you are left with becomes hard to liquidate without taking a hit.”
Similar problems arise with property that may have seemed an appealing investment in the past. It “doesn’t naturally sit on the balance sheet anymore but where you find you no longer have the expertise to sell a complex commercial property portfolio.”
The lesson is simple, says Dimitriou: “If you don’t have a plan at the outset to get close enough to the company to understand what is going on, you probably shouldn’t invest in it. Caution is required as it becomes a very specialist area very quickly. It is easy to put your money in but not always easy to get it out.”
He fears that the current government pressure on insurers to invest in infrastructure – another notoriously illiquid asset – could be storing up a legacy challenge for the future: “Then it could be 3%, 5% or 10% of assets that are illiquid. I would question whether insurers should be making such big moves in that direction.”
Definition of legacy
“A computer system or application program that continues to be used because of the cost of replacing or redesigning it and often despite its poor competitiveness and compatibility with modern equivalents. The implication is that the system is large, monolithic and difficult to modify.”
Source: Blackie’s Dictionary of Computer Science
Imagination and investment
Tackling this vast range of legacy issues is going to require imagination as well as investment and that means rapid cultural change, attracting new skill sets and fresh thinking into the industry. This has become a top priority for many firms as they acknowledge the need to attract talent into a sector that hasn’t always had the best reputation as a dynamic industry. It is one of the reasons why the recent Lloyd’s of London Dive In festival for inclusion and diversity in insurance has attracted support around the world since its launch in London just two years ago.
Nicolas Aubert, chair of the London Market Group, explained at the launch of the September 2017 festival why diversity has become a key business objective: “Building a diverse, dynamic workforce is critical for the global insurance market to enable us to remain relevant in a rapidly changing world. As the London Market Group highlighted in our recent London Matters 2017 report – it is only by acknowledging the importance of an inclusive and diverse workforce that we can ensure we drive change in our industry.”
In some parts of the world, the challenge is very acute and will require a radical overhaul of the way the industry operates, says Turk: “In the US we have forecast there will be 400,000 job vacancies over the course of the next 10 years. The average age of a person in insurance in the US is 54. What is going to happen is that we are going to have to do more with less. And the way we do less is to change some of the business models and think about the way we use data differently.”
The common thread with these lengthening legacy shadows is a consistent past failure to address the issues behind them, almost sweeping them under the proverbial carpet. That is simply no longer an option if insurers and brokers want to secure a place for themselves in the digital world.
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