The End of Insurance as We Know It

by Rob Galbraith

  Product managers at insurance carriers need to look beyond their immediate focus on meeting product, revenue and profitability goals for the year to the long-term threats on the horizon and react accordingly. While short-term growth and profitability remain as important as ever, finding ways to boost the long-term competitiveness of the enterprise is essential. Basic investments in systems modernization efforts may not look great on a 3-year cost-benefit analysis (CBA). However, systems modernization efforts are vital for unlocking the ability to quickly develop new products, introduce new value-added services and a leaner organization ready to take advantage of smaller windows of opportunity. Maximizing your organization’s agility, flexibility and ability to adapt quickly to the accelerating pace of change should be top priorities regardless of where you sit in the insurance ecosystem.

  What is the best way for traditional players to innovate? For insurtech startups founded by serial entrepreneurs and young professionals, innovative is baked into their DNA. These “technology native” firms are quick to understand the power of new technologies, embrace change and adapt to shifting market forces. By contrast, traditional entities in the insurance space tend to be “technology immigrants” who aren’t as nimble by nature. The next chapter will examine the unique challenges that face established organizations looking to incubate a culture of innovation.

  1

  CHAPTER 13 - INNOVATOR'S DILEMMA REDUX

  A TRADITION UNLIKE ANY OTHER

  Change is hard. We as humans are driven by our habits. Changing your habits takes conscious effort and dedication, and it is very easy to slip back into old habits if you do not remain hypervigilant.[89] Fostering disruptive change and radically upending your personal habits and having an “extreme makeover” change in your life is even harder. Studies have shown that 70% of lottery winners eventually go broke in a few years.[90]

  Another study of 14 contestants on “The Biggest Loser” reality show featuring extreme weight loss reduction found that half of the contestants were able to maintain an average weight loss of 81 pounds even 6 years later, while the other half regained all of their pre-show weight plus 5 pounds on average.[91] The difference? Contestants that stuck with a robust exercise routine - maintaining those habits from the show - were able to keep the weight off, while the other group that did not exercise as vigorously and relied more on managing their diet tended to slip back as their metabolism was generally slower and burned 500 less calories than the average person.

  Traditional players in the insurance ecosystem have massive needs for improved technology that can help alleviate major pain points. The vast majority of these opportunities reinforce the current insurance paradigm. True disruption - the kind that threatens the existing “world order” of insurance - is highly unlikely to come from the inside.

  Why is this so? Because all traditional players have a vested interest in maintaining most aspects of the status quo. These are the “winners” of today’s world! Incumbents at the top of the heap actively seek out opportunities to offer enhanced products and services, streamline processes, reduce or eliminate non-value-added tasks and exceed rising customer expectations. Those less successful in today’s world may be satisfied with less evolution of their businesses and those at the bottom may be content to maintain the status quo as much as possible and ride the wave into retirement. Nobody in the existing order is particularly inclined to “move the cheese” in the same way that outsiders do.

  This understandable motivation to not innovative in spaces that disrupt existing revenue streams leads to the classic “innovator’s dilemma” first articulated by Clayton Christensen in his book by the same title in 1997. The examples are a bit dated in today’s world but the underlying principle remains highly relevant. In a nutshell, if you only ever innovate to improve your existing products or create complementary offerings, generally to attract higher margin business, then you are at risk of being disrupted. Firms do not have an incentive to create a competing product that undercuts their own successful products and produces a lower profit margin. Rather, firms look to innovate by enhancing current product offerings to add bells and whistles to upsell them at higher margins in an attempt to raise the profitability of the entire product line.

  It is exceedingly rare for top companies to be able to pull off continued metamorphosis time and time again to stay on top. Apple is a terrific example of a company that has successfully reinvented itself time and again to stay relevant for over 30 years. Much of the credit is due to the singular genius of its founder Steve Jobs, who went through his own metamorphosis in getting let go by his own board of directors, moving on to NeXT and Pixar and then returning to Apple.[92] Even so, it took a series of steps and some tremendous fortune to bring back Apple from the brink of irrelevance and rebuild it into the world’s most valuable company based on market capitalization. It was not easy, it was not guaranteed, and Apple is an exception that proves the rule.

  TO DISRUPT OR NOT TO DISRUPT?

  It should be evident by now that technology is a critical enabler for agents, brokers, and call centers to generate leads, provide quotes, and issue policies. Can you cut out these intermediaries and go direct to the consumer following a strategy of digital disruption? Yes, you can (as successful direct writers have proven). Be cautious though: it is far from simple.

  With an intermediary, you have a human that can bridge any gaps you may have in technology or business processes. In a strictly digital channel, you don’t have this luxury - you sink or swim based on how good your technology is. Consumers today are very comfortable in digital channels today to conduct a wide array of tasks. However, they tend to be tasks they perform often (like ordering from Amazon) or are fairly straightforward (like renting a car) where the variables are limited and well understood. These are the digital experiences that insurance is being subconsciously compared to - they are simpler and shorter and usually result in some tangible outcome. Insurance is much more complex than oft-cited parallels like booking travel, hotels, and primary banking. Even investments, which can be quite complex particularly if you have meaningful goals such as saving for college or retirement (versus day trading for enjoyment), are not as complicated as insurance because the “usage” of the product is a bit more straightforward. Consumers want to save for these objectives and are looking for ways to achieve those goals, not seeking to issue an insurance policy because they are required to.

  Additionally, even the best digital channels available today are not perfect for all customers and scenarios. Instead of going strictly digital when your customers are used to the current ways of doing business with you, it makes sense to focusing on an omni-channel distribution strategy that incorporates the use of multiple channels to help customers. Keep in mind that consumer confidence in their ability to successfully acquire a product, report a claim or service their policy in a digital channel is essential. Companies can assist by seamlessly weaving in help text, flyouts, videos, and “click to chat” or “click to call” functionality to provide multiple outlets of assistance to answer customer questions and build confidence.

  TOO MUCH OF A GOOD THING

  Most carriers are also very interested in technologies that help them reduce paid losses, which in isolation leads to increased profitability. There should be a warning sign to accompany this strategy however. When losses are reduced or eliminated, premiums by definition must go down as well. Why? Because the actuarial pricing indications that are the basis for rating rely on historical losses and future trends to determine the appropriate rate level and provide justification when filing rate changes with state DOIs. If losses are reduced, this will cause negative pricing indications and likely lead to rate decreases and reduced premiums (revenue).

  Today’s auto insurance market is potentially getting a preview of what this new world could look like. Vehicle manufacturers have incorporated an array of new technologies that help avoid crashes, such as backup cameras, front-end and back-end sensors that enab
le autonomous braking to avoid fender benders, lane departure warnings that notify drivers if they are drifting as well as surrounding vehicles that may be in their blind spot and alerts that trigger if they sense drivers are getting drowsy or distracted. The loss reduction benefits from these new technologies have been partially offset by two mitigation factors that have led to an increase (not decrease) in auto losses over the past few years:

  1.Increased severity to repair these new technologies as cars are more fragile and costly when they do in fact get damaged

  2.An increase in distracted driving (and pedestrians) mainly from smart phones, which caused a spike in frequency trends in the mid-2010s

  Despite the short-term worsening in auto loss trends, the widespread adoption of these crash avoidance technologies in most new vehicles hold long-term promise for preventing accidents and the resulting property damage and injuries.

  On the property side, the recent plethora of smart home devices, part of a broader category of what is known as the Internet of Things (IoT), hold a similar promise for loss reduction. For example, a wide array of water detection devices are available that go from simply sounding an audible alarm when water is detected all the way to shutting off the main water value to the home or business. Similar to crash avoidance technologies, IoT holds great promise for reducing claims and the resulting losses, particularly in the commercial sector where exposures are larger and loss control activities are more common. For businesses who are early adopters of this technology, the result could be a reduction in losses and substantial premium savings in the form of discounts.

  WIth the great potential for sensors of all kinds to reduce losses, if these technologies become wildly successful, it could quickly turn from a positive to a negative for insurers. Why? Because this will lead to a decrease - possibly a large one - in revenues from the rate decreases that would be indicated. Revenues drive a lot of financial metrics for businesses. They are the “top” in top line growth and are a key part of profitability, and they also drive a variety of other key metrics, such as loss ratio, expense ratio, combined ratio, labor productivity, etc. Perhaps the most obvious is the expense ratio, or all expenses divided by earned premium (revenue). As revenue declines, the expense ratio increases unless expenses decline by the same percentage as revenue. That means cutting expenses - and that is painful, especially if a large reduction in labor expenses is needed. Carriers need to be cautious about inadvertently destroying their current revenue streams through over-investments in loss prevention technologies. This may occur anyway, but carriers do not necessarily have to actively participate in their own demise.

  Are there signs that this is occurring now in the insurance industry? A plethora of studies abound including one by KPMG that predicts the auto insurance market will shrink 60% by the year 2040.[93] However, the signs are more mixed today. Given the benefit of hindsight, we may see clearly the critical turning points occurring today that lead to major disruption tomorrow. True disruption - more than a large but incremental change - by definition should result in an outright reinvention of the way risk is transferred that fundamentally changes the entire insurance paradigm. This type of massive disruption will be bad news for existing players in the insurance ecosystem who have an incentive to maintain more of the status quo with smaller, incremental changes.

  GET ORGANIZED

  One of the most common debates today within incumbents is how to foster innovation within their organization. A fundamental choice is what approach to take strategically and how that translates into organizational teams. Key questions to consider include:

  •Should innovation be the responsibility of a dedicated area that should be far removed from the day-to-day pressures of the home office (a setup often referred to as “skunkworks”)?

  •Alternatively, should innovation occur within the product development function or another team that is closely aligned with the business to ensure against being a solution in search of a problem?

  •Is a single team responsible for innovation or should a culture of innovation be fostered throughout the enterprise?

  •How generously should whichever team(s) are tapped to lead innovation efforts at their organization be funded?

  •Should teams be provided limited seed capital and “earn their keep” or their funding maintained as part of important research and development (R&D) efforts that are critical to the long-term success of the organization, irrespectively of whether short-term deliverables pan out?

  •What are the KPIs that will be used to judge their success or failure?

  •When is it time to abandon current efforts and take a new approach?

  In addition to answering these difficult questions about which area(s) is/are responsible and accountable for innovation, another set of important considerations involve the type of innovation the organization is looking for and where to look for the sources of ideas. Is the organization seeking incremental innovation that looks to the adjacent possible? Employees are a great source for these ideas as they are the closest to the day-to-day operations of running the business and know intimately where their pain points are. Fostering dialogue is critical as well, as often one set of employees can clearly define a problem statement and another set can come up with new ideas for solutions. This dialogue can be at a team meeting, an innovation exercise at the department level, or a dedicated session that brings together a diverse group of employees from the business areas, IT and support functions in a room with expert facilitators. The dialogue can also take place over internal online collaboration forums and even IM group chats.

  Regardless of how tapping into employee perspectives is ultimately accomplished, it is important to gather the perspective of employees at all levels of the organization with a wide range of employment tenure. Newer employees can be just as valuable a source for ideas as seasoned employees as they are seeing processes fresh rather than becoming used to the status quo. At the same time, seasoned employees can often come up with robust suggestions for potential solutions as they have likely seen prior attempts at innovation come and go and have a better sense of which solutions have a greater likelihood of success. A wide range of diverse perspectives from across the organization is best. Effectively synthesizing these insights, identifying opportunities, prioritizing initiatives and executing are also critical steps to translate ideas into action.

  In addition to employees, customers can also be an important source for product improvement ideas since they have the most interaction with your products and services. This is more challenging for insurance products and services which tend to have less engagement than other industries. In particular, having an open mind in treating customer complaints as valuable feedback is essential for being aware of leading indicators to help you evolve.

  For organizations that are looking to go beyond incremental innovation and seek the Holy Grail of true industry disruption, you will need to go beyond those in your own organization and your existing customer base to find the path to insurance utopia. Setting up a corporate venture capital (CVC) arm that works with insurtech accelerators and provides seed capital for promising startups is now almost standard for larger carriers. There is a healthy debate about the benefits of CVC vs. traditional VCs but the impact of CVCs in insurtech is undeniable.[94] The following statistics from CB Insights shows how much impact CVCs have had on the insurtech landscape in the past five years.

  Source: CB Insights 2017 Global CVC Report[95]

  One key to success for CVCs is ensuring that they have a mix of tech and business people to ensure that the new “disruptive” products and services will actually add value to end consumers and not be simply a collection of “bright shiny objects” that make for slick demos but cannot be operationalized. Another important consideration for CVCs is what their primary mission is. These goals are not necessarily incompatible, but it is important to have clarity on this point to avoid “ready, fire, aim” scenarios. Is the mission to:

 
•make an investment to earn a financial return for the enterprise?

  or

  •help provide a pipeline of products and/or services to help your enterprise stay relevant in 5-10 years?

  Other approaches to radical innovation are exploring co-development ventures, taking equity positions in promising startups and looking to acquire new entrants when they show enough promise that you are confident in the long-term value that your business will receive. In the case of co-development, negotiating intellectual property (IP) rights ahead of time can quickly become a thorny issue. Although difficult, it is important to find the right balance of gaining clarity on IP rights up front before your innovation becomes a huge success while not spending months haggling over rights to something that has a low probability of massive success, destroying your speed-to-market as well as reputation for being a desired co-development partner in the process. One opportunity that exists more and more in today’s world is that insurance firms from all over the globe are flocking to places like London and Silicon Valley to explore and invest in the most promising startups. Building connections with other industry leaders from countries where you do not compete can allow for valuable comparison of notes, thoughts, ideas and market intelligence that simply is not possible with direct competitors.

  What about if you work at a smaller carrier, agency or broker that cannot afford the luxury of standing up your own venture capital arm or even co-development agreements? Smaller operations certainly do not have the same resources at their disposal that large corporations do. Nevertheless, you do have other advantages at your disposal. A smaller organization is going to find it much easier to bring a diverse group of employees together and clearly document known pain points. This will in turn make it easier to focus innovative efforts to solving those vexing problems rather than a scatter shot approach that will likely have more misses than hits. For those seeking to be on the more disruptive end, look the millennials and Gen Z members of your organization who are likely full of radical ideas on how to transform your business into one ready to compete in the digital economy. Once an exhaustive list of potential ideas are captured, use a pre-established criteria for scoring the worthiness of ideas to rank them based on what is most valuable to you and prioritize accordingly. Once ideas are selected, look to include the person or people who originated the idea along with experts inside (and possibly outside) your organization that can make it a reality.