A four-year look at how the life and annuity industry functions reveals some consistency in the key issues facing the sector, yet response to those issues varies, according to survey findings from “An Industry in Transition,” published by Robert E. Nolan Co.
The management consulting firm, which conducted a similar survey in 2006, compares and contrasts results on topics such as a shift in demographics, ways to manage risk, technology advancements, and leveraging growth strategies.
The insurance companies that participated in this survey represent a cross-section of the industry, with 35% mutual and 65% stock companies. Respondents also represented a composite of companies by size: 27% have fewer than 500 employees; 20% are mid-size, with between 500 and 1500 employees; and 53% are larger companies with more than 1500 employees. Nolan says an interesting turn in the market has been the findings by Moody’s and A.M. Best that mutual insurers have become better capitalized as well as more resilient to market swings—despite the governance created by SOX required for publicly traded companies, which is intended to help manage some of the risks of these last few years.
“As we developed our findings, the consistency of issues and observations relative to the previous survey was striking, especially regarding the areas of opportunity that exist for companies today” notes the Nolan report. “While the fundamentals of the business remain largely the same, the economic turmoil of the past few years has amplified the payoff for those who act on these opportunities, and likewise amplified the price to be paid by those who don’t. As each dollar of revenue and expense has become more precious, one might say that any remaining slack has been taken out of the operational “rope.” A comparison of 2006 and 2010 observations clearly profiles the consistency in theme but variation in implementation of key strategic issues.”
The Nolan survey findings reiterate the need to re-examine the way companies think about and manage risk. In fact, an overall increase in focus on risk management has been the clear, self-selected outcome of the recent difficulties. Insurers’ management of traditional risks (credit exposures, regulatory capital levels, hedging techniques, etc.) remain fundamental, but, notes the report, insurers are facing new examples of less obvious but nonetheless important risk dimensions, such as the risk of not addressing the cost of a product portfolio overburdened with features in which investment cannot be justified; the cost of excessive underwriting of risks, where the expense does not match the benefit in mortality or morbidity improvement; or the cost of not eliminating paper when cheaper electronic alternatives are available.
In technology, life and annuity providers are faced with the emergence of the functional data warehouse, straight-through processing, and a sharper focus on how customers view service outcomes. This, notes Nolan, has led to new and innovative performance metrics.
“Many insurance companies like to describe themselves as “fast followers” who let others innovate; they intend to pounce on the value identified by the innovator while avoiding innovation’s cost. In reality, this leads to a circular outcome that never introduces anything truly original, as each company waits for another to break new ground. Once again, this amplifies the opportunity for reward for those bold enough to innovate.”
During the survey’s four year span, the way life and annuity carriers view growth appears to be determined by exogenous factors, such as a sagging economy. “From the carrier’s viewpoint, with the dramatic drop in the S&P from its highs—and with interest rates remaining at historically low levels—the appeal for variable products, both annuities and life, dried up as buyers shifted to whole life and term to preserve their assets. Hedging and risk management techniques, combined with unexpectedly underpriced guarantees linked to variable products, put many insurers at an extremely high exposure level. This will continue to wash out over the coming year and beyond,” notes the report.
This means the advisor will continue to be important to the client— at least for the foreseeable future, says Nolan.
Nolan predicts that changes will occur in the structural elements of the channels themselves, the blend of products offered and methods for offering them, and how that expertise will be accessed, used, and compensated. “Due to channel aging, there is a potential for a void as top producers retire and aren’t replaced in like numbers by new agents entering the system.”
Based on survey results, Nolan offers the following projections:
• Cost of compliance will increase;
• A change in tax treatments—especially estate taxes—will have a major industry impact.
• Mergers & acquisitions in the industry will increase;
• Niche companies will be more successful than full-service financial institutions. The number of respondents dropped from 60% in 2006 to 53% in 2010, which Nolan attributes to the advantages of being smaller and quicker being overshadowed by the advantages of brand recognition and economies of scale;
• Growth in the U.S. market will probably come from deeper penetration into existing markets or expanding distribution methods;
• Growth will likely come from greater demographic and/or behavior segmentation (63% and 60%). About evenly split, growth may come from acquisitions (58%) or expansion into new markets (54%).