A major insurer recently issued an internal note advising staff that the company's current priority was cutting costs – customer service would come second place. This seemed a terrible indictment of its strategy but was it just being realistic?
In the 1990s, customer service was the management consultant's fad. “In Search of Excellence”, the US business book by Thomas Peters and Robert H Waterman, was the Bible. Those that invested heavily in high-quality customer service were the success stories of the early part of the decade. Strangely, all the companies that were hailed as the models of excellence are no longer the beacons of success and instead are treated as victims of the old economy. One example is Marks & Spencer. Customer service is no longer the vogue, now it is: “Big is beautiful – sod the customer.”
The banks were the first to recognise this, as it was evident that many customers did not appreciate local banking and preferred telephone and internet servicing. Customers wanted 24-hour access and high saving rates. The banks' priorities were to cut costs and customer services in order to be competitive. If the customer was not prepared to pay for service why should the banks provide it?
Insurers decided in many ways to follow suit and promised shareholders huge cost-savings with their “big is beautiful” strategy. However, insurance is different. What it offers to the public is an intangible product that is not accurately priced. On a UK premium income of £26m, the profit is miniscule and strangely, in spite of all the expense saving initiatives and job cuts, costs have in fact increased since 1993. The key to profitability in insurance is not expenses, a 1% saving is £250m, but it is underwriting and claims expertise.
Wiping the flaw
If this expertise is lost, processes get behind, claims recoveries are not pursued, reserving is inaccurate, underwriting becomes hit and miss, and decision-making becomes flawed. The potential cost-savings, even if realised, can be dwarfed by increases on the other side. In 1995, the industry made an underwriting profit of £22m and started its period of consolidation. In 1999 it made a loss of £2.3bn. Total expenses went up. Obviously “big is beautiful” means big losses, not profits.
The strategy seems at its best flawed and at its worst a disaster. Rather than promise shareholders savings at a time when logically expenditure should increase to deal with the mergers, insurers should be offering underwriting and claims excellence, which is where the real profits are made.
There are many other examples of flawed strategies:
Insurers often have a knee-jerk reaction to losses and competition by changing prices erratically. Premiums for claims-free risks can be doubled or halved depending on the cycle. However in the end, only the market price can be obtained. High increases are only on paper as often the business moves. Only poor risks or those with hidden exposures remain. Improvement therefore takes a long time to happen, but perhaps more damaging is the impact that pricing does to the image of the industry. Customers cannot understand wild price fluctuat-ions, it destroys their confidence and encourages them to shop around and buy on price.
Overall, it destroys long-term profitability, not enhances it. A similar situation applies if direct rates are substantially different from those
of brokers. A sensible consistent long-term pricing policy is a key to sustainable profits.
Smaller brokers are being squeezed by reductions in commissions, withdrawal of personal service, loss of agency and tightening of credit. The strategy is to promote consolidation of the broking sector.
The small broking sector is worth around £5bn and is the most profitable part of the intermediary-controlled business. Loss ratios seem to operate in reverse proportion to size. The nationals have the highest and the small independents the lowest loss ratios.
This is understandable as small brokers have no leverage in the marketplace. Expenses are no higher and often the payment patterns are actually much better.
Who in their right mind would seek to put out of business some 20% of the market and force it to be acquired by less profitable suppliers? The supermarket supplier must think the insurance industry is mad.
Time and time again, insurers try to influence brokers' technology. Over the past decade insurance companies have spent millions of pounds on broker technology and another major initiative has just been announced.
They have all failed. Expenses for motor insurance were 24% in 1999 and 24% in 1989. So much for EDI savings. The claims ratio was 90% in 1999 and 70% in 1989. Bring back the quill pen.
With all their own problems with IT integration, insurers should leave brokers' technology alone and let them develop it for their own use.
Interference has not been successful.
Royal & Sunalliance (RSA) has announced a shareholding in a broker and there are a growing number of insurers taking an interest in their distributors – like cuckoos in the nest.
This seems to be another flawed strategy. What do insurers know about running small businesses? Their own has not been particularly successful. How do they manage conflict? What are other insurers' attitudes to this interest in a supplier? What are the views of the General Insurance Standards Council (GISC) on disclosure? Shouldn't the directors be running their own mega-businesses rather than dabbling in smaller operations?
Broker ownerships or interests seem another example of ill thought-out strategies especially as they have to remain independent and deal with the rest of the market.