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Will Goliaths defeat David? Conning study postulates that giant insurers (Allstate, Progressive, Geico and USAA) will drive smaller carriers out of the auto market By Phil Zinkewicz
In a recently released Conning & Company study titled The Emerging Shakeout in Personal Lines, the study’s author, Conning analyst Bruce Hale, describes this predicted shakeout as “Goliath driving David out of the personal lines business” over the next few years. The “Goliath” in the metaphor includes what Hale describes as the current leaders in the personal lines marketplace—Allstate, Progressive, Geico and USAA. The “David” represents what Hale calls “lagging” insurers and that means all other insurers ranging from those “on the cusp” of excellence to the most troubled companies. Not all lagging insurers will navigate the coming years in the same manner, Hale’s study notes. Rough Notes magazine spoke with Hale to determine: a) how he made the distinction between leaders and laggers; b) why he believes that certain laggers (in the dozens, he says) will exit the personal lines market completely; and c) what the options are for those laggers that have excellence within their reach. Hale said that Conning chose the four insurers already mentioned as “leaders” because of their superior recent performance and competitive advantages that bode well for the coming years. “Superior performance is defined as positive growth, with an underwriting profit of at least 4%,” Hale told Rough Notes. Based on a review of 2002, 2003, and 2004, results and strengths in branding, expenses and pricing methodology, we identified the four leaders,” he said. Hale said that Conning took five views of the industry to discern characteristics of leaders and lagging insurers. Those views were: • Size of personal automobile premium volume. “We found that larger insurers tended to achieve better underwriting profit margins,” Hale said. “Much of the advantage was centered in the four big market leaders already named.” • Mix of personal automobile and homeowners premiums. “The four large market leaders have a variety of automobile mix percentages between 70% and 100%. Excluding those insurers, there is no clear pattern relating mix to automobile profitability. Insurers with a heavy mix of homeowners business tended to fare not as well as more automobile-dominated insurers with regard to homeowners profit margin.” • Mix of personal lines and commercial lines premiums. “We found that insurers with more than half of their volume in commercial lines performed worse as a group than personal lines-dominated companies. Within the personal lines-dominated group, there was no apparent relationship between magnitude of personal/commercial mix and profitability.” • Distribution channel for personal automobile. “We found no clear relationship between commission level and profit margin.” • Degree of geographic concentration as measured by percentage of personal automobile premium in two largest premium states. “We found that market leaders tend to be large insurers with great dispersion or small-to-medium insurers with tighter concentration.” Hale said that a number of marketplace developments promise a shakeout of the personal lines industry. First, he said, if credit scoring becomes disrupted by the outcome of the federal disparate impact study, this will hurt lagging insurers more than large market leaders. “Leaders have the databases and personnel to create and deploy effective responses to a variety of potential scenarios,” said Hale. “Lagging companies risk adverse selection and poor growth outlooks if credit scoring is significantly curtailed.” The Conning analyst said also that three major interwoven marketplace developments will drive market share toward large market leaders. “Aggressive, well-funded and well-executed ad campaigns are building and supporting a handful of powerful brands,” said Hale. “These brands have become especially important as more and more consumers gain the technological ability and comfort to shop for insurance on their own. Broadband Internet connectivity is the linchpin. The emerging Generation Y will be even more disposed to buy top brands through direct response channels, including the Internet.” Continued Hale: “States with slow loss growth for personal automobile could see intense competition, especially where geographically concentrated insurers have substantial market share. States that have escaped catastrophes in recent years could experience heightened homeowners competition, probably more so in 2008 and beyond. The intense competition would diminish margins for most insurers. Market leaders would have a greater ability to absorb the hit.” Hale also said that there is great uncertainty as to future catastrophe levels, but that a series of additional bad catastrophes is a bona fide threat. This creates disproportionate problems for market followers and disproportionate opportunities for market leaders, as insurers take prudent steps to manage their perceived exposures, he said. There are eight strategies for exiting the marketplace, for those that choose to do so, according to the Conning study. They are: sale to a market leader; sale to a foreign insurer; sale to distributors, such as independent agents; sale to a bank; sale to a non-property/casualty entity, other than a bank; and insolvency. “The most likely scenarios are a sale to another lagging insurer and sale to a market leader. Challenges exist in successfully executing any of the eight approaches,” said Hale. For those insurers that are “on the cusp of excellence,” Hale said they could benefit by picking up personal lines business from those insurers that choose a sales approach towards exiting the personal lines market. Hale concluded: “A shakeout in personal lines will touch many interests, with risks and opportunities for all. These interests include commercial lines executives, regulators, distributors, policyholders and vendors to insurers. Stakeholders can benefit from anticipating how conditions conducive to a shakeout could bear directly on them and take preparatory actions.”
Rough Notes spoke with Jonathan Bennett, executive vice president of personal lines and small business for The Hartford, to elicit his response to the Conning study. Hale specifically referred to The Hartford as one of the companies that is “on the cusp” of moving into a leadership role in personal lines. “Conning is well known as a research firm that monitors important trends in the insurance industry,” said Bennett. “We have been observers of Conning reports for several years. As to this particular report, we agree that scale in a company’s ability to invest in product and technology is important. The fact of the matter is that larger companies have the money to invest. We also agree with the Conning study in its predictions that there will be a considerable consolidation in the personal lines market. We at The Hartford were discussing this prospect four years ago. Our intention is to grow in the personal lines arena. We are looking at organic growth, yet also watch for acquisition opportunities in the marketplace. We have a sizeable base and are well positioned for growth even in a soft market.”
St. Paul Travelers is yet another company that was mentioned by Hale as being “on the cusp” of excellence. Joe Lacher, executive vice president, personal lines for St. Paul Travelers, said that he found the Conning study “very interesting,” adding that the study takes on a wide variety of issues that need to be considered. “We believe we are well positioned to move into a leadership role in the personal lines business,” he said. “We have made significant investments in our core capabilities—underwriting, claims handling, technology, infrastructure, etc. We have the financial strength to execute acquisitions when appropriate. There are a good many large companies out there and a good many small companies. I think Conning is right when they say that the trend towards further consolidation in the personal lines industry will continue.”
Rough Notes also spoke with Frederick H. Eppinger, president and chief executive officer of The Hanover Insurance Group, the holding company for two leading independent agent companies—The Hanover Insurance Company and Citizens Insurance Company. Eppinger describes The Hanover Group as “one of a handful of ‘super regional’ companies—those big enough to bring to bear significant financial and operational resources, the products and service capabilities and talent of the nationals and, at the same time, small enough to be responsive in the marketplace.” Eppinger said he agrees with the Conning study in terms of the effects of insurer scale on performance. “The problem is that people often become confused as to what scale is,” said Eppinger. “We write $3 billion in personal lines revenues, so in that sense we are bigger than The Hartford. Scale depends on four things: the ability to price the product properly, the ability and the money to implement new technologies, spread of risk and claims turnaround. We believe there will be more mergers in the insurance business and, as a result, there will be the emergence of what I call ‘super regionals.’ I don’t believe there will be just four ‘leaders’ that will dominate the personal lines market in years to come. Nevertheless, I hope people will take a step back and look at the Conning study.” Finally, Rough Notes asked Joseph Annotti, vice president of public affairs for the Property Casualty Insurers Association of America (PCI) to comment on the Conning study. He said: “Predictions of dramatic consolidation in the insurance industry—particularly in the personal lines segment of the business—have been made for years. But still, in most states that allow insurers to compete on price, product and service, the auto insurance market remains very competitive with ample room for large, mid-sized and smaller or niche-market insurers. “Frankly, we don’t agree with the Conning assertion that the auto insurance market will be dominated by a few large companies in the near future, and we doubt that large companies would want that to happen. Certainly, companies will continue to consolidate and some small companies will leave the business, especially in markets where increasing regulatory costs stifle competition, and exposure to catastrophic losses may threaten a company’s solvency,” Annotti explains. “However, a lack of competition would not be in the best interests of consumers or the few remaining companies in a particular market. Without competition, it’s a sure bet that the companies would be subject to more regulation, would not be able to underwrite their business accurately and would not be able to adequately spread their risk. There will always be a market for small insurers. Consumers welcome a choice, and a healthy and well-regulated insurance market will provide consumers with greater options.” * |
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