Finding leverage in the soft market

Nowadays it seems as though every independent insurance broker in the country is a target. Whether it’s a network, a consolidator, an insurance company or even a competitor, brokers confirm that barely a week goes by without someone knocking on the door and asking if the business is up for sale. Some would-be predators even employ dedicated teams to identify and pursue potential targets.

In recent months a number of deals have delivered control of significant chunks of distribution to a variety of purchasers.

For a host of reasons, some organisations now see it as essential that their share of the available market grows rapidly. Deep into arguably the softest market in living memory, insurers’ revenues have been suffering irresistible downward pressure, at a time when claims inflation and overheads continue to head in the opposite direction.

What can be done to counter this? The very nature of the underwriting cycle makes it virtually impossible for any individual carrier to go it alone, buck the trend and increase rates to improve combined ratios.

The reserves can be raided, but at best this is a short term fix; in the end, the money runs out if the market does not turn in time.

Many observers are now predicting another 12 to 24 months of soft conditions before the pain becomes unbearable and some sanity returns to a market seemingly bereft of underwriting discipline.

Brokers in the professional indemnity sector shake their heads to a man when asked if the market is yet even bumping along the bottom. One says that total premiums in the solicitors’ sector are lower now than they were when the Solicitors’ Professional Indemnity Fund was wound up seven years ago (in August 2000) – and that does not take into account inflation or the increase in claims costs.

For intermediaries, the situation has become even more serious. Faced with year-on-year across the board reductions in premiums (and therefore in their commissions) it has become a case of running ever harder just to stand still.

For most of their bread-and-butter business, it is simply not possible to change from a commission to a fee-based remuneration model. There is always someone, somewhere, willing to undercut a price in a soft market, so that persuading a client to pay more for the broker’s services is seen as next to impossible.

So the broker does the same (or more) work just to hold on to a reducing revenue stream.

Something has to give. For larger brokers this has meant leveraging the size of their accounts to squeeze ever higher revenues from insurers. Commissions have increasingly become only one element of the total remuneration package – there are growth incentives, profit shares, rollover deals, marketing contributions, soft loans, performance related bonuses and many other variants on a theme.

This places huge pressures on both the insurer and the intermediary. For the insurer, there is a growing dependency on fewer producers of business. The balance of power has shifted. A smaller share of the premium paid by the policyholder ends up in the underwriters’ pockets, with implications for underwriting results and the health of the insurers’ accounts in the medium to long term.

For these intermediaries, large volumes of business have to be placed with a few favoured insurer partners – and in the soft market, this means either huge quantities of new business (increasingly difficult to win when the competition is determined to hold on to its existing accounts) or buying books of business – in other words, controlling distribution.

There are signs that in some cases the tap may be running dry, with increasingly desperate would be buyers offering all time high prices to acquire books of business.

Is there a downside to what is, after all, simply the product of factors which are arguably beyond the control of the market practitioners?

The FSA questioned earlier this month whether product providers having financial interests in distributor firms is consistent with the principles of independence.

Brokers will have to consider this seriously when asked to demonstrate precisely how they treat customers fairly. There can be no criticism of brokers who show that the strong relationships they maintain with a (sometimes limited) number of insurers always work to the benefit of their clients.

Problems may arise, however, because the FSA has also hinted that it regards access to the ‘whole of market’ a benefit to the customer.

Paradoxically, many smaller independent brokers may offer greater choice to their clients than mega-brokers. They do not have difficult promises to keep (other than to their clients) and they often see no reason to restrict the number of insurers with whom they trade.

Many of the insurers are happy to write (hopefully) profitable business irrespective of its source. In reality, as ever, the best solution probably lies somewhere between two apparent extremes.

The larger brokers may have to be seen to pay more attention to client needs than appears to be the case at present. Smaller brokers, determined to retain their independence, might just realise that some insurers, at least, now understand the true long term value they deliver.

What an opportunity to exercise their own brand of leverage. If that happens, everyone wins