Julian Jackman on why the industry should drop its obsession with costs.
Falling profits have dealt insurance companies a severe blow. Surplus owned by the UK insurance industry has, according to Cazalet financial Consulting, withered from £130 billion at the end of 1999 to £40 billion during 2001.
This fiercely competitive environment, coupled with regulatory and compliance issues, has exerted heavy pressure on UK insurers. One of the questions currently on every insurers lips is how can it increase revenue?
An industry in a state of flux
The insurance sector is in a state of flux created by acute short-term pressures which are consuming the industry's energies. Insurers are facing continued pressure on the combined ratio, an aggressive realignment of claims and loss profiles and now must also cope with the impact of a sea of regulatory change in preparation for the FSA's new position as regulator of general insurance from 2005.
The sheer cost of becoming or remaining compliant with impending regulation is an issue that has reached board level within insurance companies.
To deal with the immediate impact of each of these pressures, insurance companies are taking a variety of routes to emerge on the other side relatively unscathed and competitive.
The choices insurance companies take now will dictate who are the winners and losers in the years to come as the industry grows in its new environment.
Many insurance companies are opting for cost reduction. Indeed this has been the primary driver in over 75% of Compass Performance Improvement studies over the last 12 months.
Insurers, while not immune to the cost reduction drive, have seen business focus shift to the heart of the industry - underwriting and claims - particularly how to make a profit from the ingredients of rising claims costs and lower investment returns.
The shift from cost reduction to increased revenue
given the picture painted above one could be forgiven for thinking the insurance industry is trapped in a cycle of survival-critical cost cutting, and for some players this is undoubtedly true. However it is essential to realise that the simple profit equation actually has two variables: cost and revenue. If revenues are allowed to tail off or, are left static, then the pressure to cut costs will only increase.
Observing the market, it is interesting to see that insurers have proactively focused upon cost reduction yet have remained reactive when it comes to revenue enhancement. Too often the sales and distribution strategy is informed by past performance or emergent trends at an industry level.
In the past, cost reduction has been conducted in selected parts of the business such as the IT or claims department. Revenue generation is typically applied to the same departments undergoing a cost reduction review. The issue in planning revenue generation in this way is that often the bigger picture and the impact on the rest of the organisation can be ignored.
The focus now needs to shift from cost reduction to revenue generation and enhancement. While cost reduction is important, it is not a strategy in its own right.
Conclusion
There is a silver lining to the insurance cloud provided the same energy applied to cost reduction is channelled into revenue generation.
Insurance companies now have the chance to get ahead of the game and create a competitive edge through an increased focus on customers.
Those who display these attributes and take the right revenue driven approach will be the winners.
