Current issues mandate new approaches to writing business
By Phil Zinkewicz
The insurance industry has certainly been affected by September 11, not just because of the billions of dollars that are being paid out in claims, but also because the industry has been forced to reexamine some of the potential terrorism exposures that are out there. Certainly, one of the affected areas is workers compensation.
Of necessity, workers compensation insurance companies are reexamining their approaches to writing the business. Some are pulling back drastically and others are pulling out of the market altogether. This isn't just because of the World Trade Center attacks, however. The workers compensation industry was in trouble way before September 11.
For example, recently the Pasadena, California-based PAULA Financial announced that its underwriting subsidiary, PAULA Insurance Company, has voluntarily ceased writing workers compensation business. Debbie Maddox, vice president of investor relations for the insurer, says that the company will no longer write the coverage in the nine states in which it had been operating-- Alaska, Arizona, California, Florida, Idaho, New Mexico, Nevada, Oregon and Texas. However, she states emphatically that the decision to cease writing business was more a function of conditions in the California marketplace than of the effects of September 11.
In making the announcement, Jeff Snider, chairman and chief executive officer, says quite frankly that the decision to exit workers compensation came as a result of claims reserve developments, primarily from claims relating to accident years 1997-1999, on California's workers compensation business. "PAULA Insurance would be a remarkable platform to complement the company's agency and IPA businesses, save for its small capital base," he explains. "Steps taken in recent years to work with quota share reinsurance partners have been very effective, reducing leverage and protecting infrastructure as pricing normalizes and underwriting margins return to positive territory."
The PAULA Insurance Co. CEO says that the company began actively seeking new financing in late summer 2001, anticipating sustainable improvements in underwriting trends, particularly in California. "Our poor underwriting results for prior periods, not surprisingly, have had the effect of reducing outside confidence levels in what we believe to be exciting current and prospective patterns in core underwriting classifications," Snider says. But here's where the latest developments come into the picture. "Reinsurance instability following September 11, uncertainty about the California environment and its largest writer of workers compensation--the State Fund--the apparent ripple effect of Enron on actuarial conservatism, and a significant change in legislated benefits for injured workers in California, all equate to very expensive, scarce, new capital.
"We have worked hard to maintain a great deal of transparency regarding the condition of the insurance company with regulators in California, rating agencies and our reinsurers," continues Snider. Nevertheless, the company has decided "to exit underwriting."
The PAULA Insurance Co. scenario reflects in microcosm what had been happening to the workers compensation industry across the country prior to September 11. "Three years ago, California had a thriving workers compensation insurance marketplace," says Maddox. "Competition was fierce among voluntary market insurance companies. Today, there are only two or three insurers actively writing workers compensation insurance in the state, and workers compensation risks are swelling the state fund residual market." This swelling, she says, is not directly related to September 11.
The retrenchment of the workers compensation insurance industry can be seen clearly in the increase in business flowing into residual market mechanisms in various parts of the country. Peter Burton, of the National Council on Compensation Insurance (NCCI), says that since September 11, the NCCI has been monitoring weekly residual market activity in the 20 states where the Council manages residual markets.
"In the first three quarters of 2001, prior to September 11, the premium bound in the residual markets that we manage grew by 90%," says Burton. He added, however, that the "pattern continued in the three months after the September 11 terrorist attacks. "A significant increase is now becoming apparent in the premium bound for coverage from applications submitted on and after January 1, 2002. In six out of the first eight weeks of 2002, NCCI has bound more than $10 million in assigned risk premium each week. In 2001, NCCI bound more than $10 million in one week only once during the entire year, including the time after September 11. This premium increase is being funded by larger accounts seeing coverage in the residual market," says Burton.
So the problems in the workers compensation arena really started two years ago, out of general market conditions and because the industry overall was and is horribly under-reserved. September 11 only exacerbated that situation.
For one thing, September 11 has brought home to workers compensation insurers the reality of having a significant number of workers in a given area. The industry is not only receiving workers compensation claims from people injured in the World Trade Center attack, but also from people in surrounding places of employment. Many of the claims being submitted cite extreme trauma as the complaint, which is extremely hard to disprove, even if insurers wanted to risk the wrath of an emotional public.
"September 11 will result in a significant number of workers compensation claims for both death and injuries incurred in this catastrophe," says Burton. "It is estimated that workers compensation losses directly attributable to September 11 range from $3 billion to $5 billion. The scope of this catastrophe impacts the entire workers compensation system, including workers compensation bureaus and insurance providers worldwide. These attacks, including the recent anthrax biochemical incidents, raise many issues which are not yet resolved."
In addition, both large and small workers compensation insurance companies are experiencing unsettling challenges to their business, thanks to the lack of reinsurance coverage in the wake of September 11. The National Association of Independent Insurers (NAII) has warned that the lack of reinsurance and the fact that workers compensation policies are not permitted by state law to have terrorist exclusions could lead many companies to re-evaluate their strategies for workers compensation, causing some to drop the business altogether.
"Without federal backstop legislation, all insurers are facing the problem of reinsurance unavailability, and smaller and medium-sized companies certainly face the same problem" says Nancy Schroeder, NAII assistant vice president, workers compensation. "A major chemical, nuclear or biochemical attack could put any company in financial jeopardy without the protection of reinsurance."
Schroeder added that other "twists" in assessing new risks have emerged since the war on terrorism began. "Before September 11, most people thought of employees in factories or on construction sites as the most likely workforce to sustain injuries, and therefore generate losses," she says. "Today, the major concern is about white-collar office workers in large urban areas where a terrorist attack would have the greatest impact."
So, many insurers are retrenching from the workers compensation marketplace. But--some are not. John Stites, vice president in national accounts for Travelers, allows that there will be some market dislocations, but says that there is not an availability crisis--yet. "For smaller employers, if availability does become a problem, then the only alternative may be the involuntary market--pools and state funds," he says. "But for the larger companies, where the cost of workers compensation risk is $1 million or more, there are alternatives. There are captives, large deductibles and retros--vehicles that allow customers to retain an increasing portion of the risk, perhaps as high as $500,000 or even $1 million, per occurrence. There are qualified self-insurance plans for individual states with large exposures. Companies can self-insure workers compensation in some states and buy the coverage in others.
"Many companies, which have captives that have been relatively dormant during the long, soft market years, are reviving them," continues Stites. "Some companies continue to pay losses as they go. But, many will explore options to formally fund their retained losses, particularly as they increase retentions."
Stites says that, for smaller accounts, look for further growth of the "rent-a-captive" concept. Asked whether the "risk retention group" concept might be adapted to fit workers compensation risks, Stites says that when the concept was first introduced, it was intended for general liability and products liability exposures. He says that self-insurance groups (SIGs), safety groups and other mechanisms enabled by individual state legislation may see resurgence.
Vincent Armentano, vice president for workers compensation at Travelers, looks at the situation a bit differently. "My focus is claims," says Armentano. "What can an employer do to avoid claims?" Noting that the current hard market began before September 11, Armentano says that in these difficult times, employers should take a proactive legislative approach to eliminate fraud in the workers compensation system. "There is no positive cost containment legislation out there," he says. "So, employers should work internally on serious loss prevention issues. We're not talking about a silver bullet approach here, but just a return to basics. The lower premiums and soft market that preceded this one have kept workers compensation loss prevention off the radar screen for some time. Now, we need a new focus."
Armentano says that employers have to consider what insurers are looking at in the new hard market, especially in light of September 11. "If employers are considering expanding, they should look at where they are locating their new plant. Will the new operations be on a high floor, versus a low floor? Will it be in the suburbs versus the city?"
In addition, Armentano says that the insurance industry has to make use of the latest technology, so that injured workers can communicate more easily with insurance companies and so that physicians can communicate with insurers and insureds, all to control loss. "I think that since September 11, many insurance companies are beginning to look at themselves not so much as vendors of insurance products, but more as partners with insureds and their agents. Travelers certainly is. We are more concerned than ever about the ways we can work together with insureds to curtail losses."
In the new workers compensation market, this "wave of the past" may very well be the wave of the future. *