Business mitigation techniques not only help manage run-off, but can easily pay for themselves
We've all heard the maxim that unlike fine wine, run-off does not improve with age. This might be because unlike fine wine, discontinued lines of business are not generally perceived as an investment worthy of the resources to maintain them in the optimum conditions. This is despite the fact that properly managed assets can realise significant returns from a book of discontinued business. For example, reducing reserves, eliminating liabilities and increasing reinsurance recoveries are all ways to increase shareholder value, with the added benefits of stabilising the book and achieving a lower premium for a variety of exit strategies.These benefits can be achieved through proven 'business mitigation' techniques, including commutations and inspections of records, and can far exceed the value of a cellar full of Chateau Lafite-Rothschild. And often, the experienced and dedicated resources required to implement a business mitigation strategy can be funded through the savings achieved.The concept of run-off in the live underwriting market has always been around; it's what happens when an underwriter decides to stop writing a particular line or lines of business, and is a normal practice. Traditionally, the claims and reinsurance administration of this discontinued business would be absorbed in-house, and might naturally receive less attention than on-going, profitable lines of business, particularly in times of limited resources. In the past two decades, the industry has seen run-off greatly expand to include entire companies and syndicates. A recent study of the UK market by KPMG, excluding Lloyd's business written from 1993 and UK company branches based in other European Union states, valued total UK run-off liabilities at £33.3bn or 28% of the UK non-life insurance market. Other large volumes of European run-off liabilities are located in Germany and France. The US run-off market, while difficult to quantify, is undoubtedly the largest.
Run-off maintenanceUsually, the run-off is either maintained by the parent company, often with the same staff continuing to administer the business, or is outsourced to a professional run-off service provider. Nowadays, there are dozens of specialised service providers in this market sector, and firms of accountants and lawyers have adapted their practices to deal with the issues and concerns common to insolvent and solvent run-offs. Who would have imagined the defence of time bar, the controversy over brokers' claims performances, and solvent schemes of arrangement even ten years ago? Specialised methods to manage and mitigate run-off and discontinued lines of business, like dormant claims reviews, commutations, audits and inspections, and broker account reconciliations, have all been tried and tested. But the questions remain: with all these proven and effective tools, why aren't run-offs more efficient and more profitable, and why don't more companies and syndicates apply some of these mitigation techniques to their live books in order to keep them from going into run-off in the first place?The answer lies in the fact that dealing with run-off requires a very different mindset from that needed for live business. The business focus shifts from underwriting and premium income as the main asset to claims management and reinsurance recoveries. Claims practices must be re-examined and inwards claims freshly scrutinised now that it is no longer commercially viable to agree claims either giving the benefit of the doubt or in response to underwriting pressure for next year's renewal. Reinsurance identification, billing and collection efforts must be emphasised, although they can be thwarted by the lack of clean and/or historical data. Original staff often find themselves continuing their work with a new business attitude, while simultaneously engaged in myriad special projects to cope with the liabilities that now drive their business. This can result in a huge administrative burden which requires a very labour-intensive response.Outsourcing the management of this business to a professional service provider often appears to be the most sensible option. However, the competition to win run-off contracts is fierce, driving profit margins to rock bottom, and often this leads to basic service levels. These service providers often claim to provide more specialised services like commutation negotiations, audits and inspections, broker replacement reinsurance claims activity, bad debt recovery, and litigation or arbitration support, but the inefficiencies in the run-off industry evident today after 20 years or more of history indicate that these highly effective business mitigation services are not being aggressively and proactively applied as a matter of course.
Complete solutions?The real innovation in dealing with run-off business and discontinued lines lies not in deciding whether the run-off is to be managed internally or outsourced to a professional service provider, but in recognising that no one entity operating in the run-off service industry today can truly provide the complete solution from beginning to end, particularly for a large, complex run-off. The basic administration of a run-off account, no matter how well performed, will still not approach the value brought to the account through specialist high-end services like audits and inspections, complex commutation negotiations, reinsurance recovery work, and arbitration/litigation dispute management, as provided by a short-term task force of experienced professional consultants. The innovative solution is to apply a simultaneous approach to the transactional run-off administration and the strategic business mitigation services which can produce an immediate and substantial impact. These business mitigation and liability reduction services can be applied in a selective manner to specific cedants or types of contracts or lines of business in accordance with a strategy designed in conjunction with the run-off management team. This plan can be implemented at any stage, perhaps as a means to cleanse and prepare the account, that should result in a more efficient and less costly transition to a third party service provider, or as a means to continue to service the account internally.The main challenges to dealing with a run-off are coping with the administrative, processing and reporting aspects while proactively identifying and managing the key liabilities that are driving the account. It is often difficult to achieve these objectives simultaneously, particularly with accounts characterised by complex claims, large transaction volumes, and reinsurance processing systems that do not contain adequate levels of information.It is easy to become mired down in data migration and operational matters that may ensure day-to-day claims and accounting tasks are completed but do not allow a proactive assessment of the account and exposure blocks that should be mitigated or eliminated.The concept of business mitigation involves an holistic approach to the account in question. The objective is to assess the exposures and formulate a strategic plan that encompasses reserve verification and correction, commutation supported by inspections and audits where appropriate, and outward reinsurance collections all leading to the appropriate exit strategy suitable for the newly stabilised and cleansed account.The process begins with a portfolio evaluation of the account by, for example, top exposures by value, or volume of small losses, or losses by cedant, class of business or underwriting year. The idea is to triage the account into groups of similar characteristics to be handled by employing a particular strategy at the group level. This is followed by a mitigation and cleansing exercise focused on removing aged and inaccurate reserves, clarifying losses that could be bundled and ceded to common account excess of loss contracts, and verifying missing slips and wordings that will be needed for future claims, commutations and audit activity.Once the account has been broken down and analysed by key exposures and information, it is possible to sort liabilities into a commutation strategy.This is generally a high value, complex commutation plan requiring extensive data preparation and negotiation, and a low-value or short-tail commutation plan in which commutation deals can be offered by letter with minimal preparation. An audit and inspection strategy is also very helpful in facilitating commutations in terms of evaluating reserves and the proper operation of the account. Audits verify that inwards losses are being paid and have been ceded properly to outwards. There are a number of tangible and intangible benefits to audits and inspections including support for commutation negotiations, maximisation of recoveries on outwards excess of loss reinsurance, and identification of incorrect reserves.On the outwards side, it is essential to ensure that all inuring reinsurances are being applied properly and that common account protections are being used to the fullest. This can often be achieved simply by increasing the loss information supplied by the inwards brokers. Reinsurance is the main asset of a run-off company, so collections are of major importance, and this is a time-intensive area which can be easily outsourced for remuneration tied to success.Effective business mitigation techniques will likely result in high-impact, short-term visible results to the book, and best of all, these services pay for themselves as the fees often are significantly lower than the savings achieved on reserve reductions. Payment on a contingency basis with a clear project management plan for services to be provided against specified dates is an approach that often works well, and it can be worth considering a cap on the percentages to control the fees paid to consultants.
Methodical preparationThe ultimate goal of a business mitigation plan is to prepare methodically the account for finality, which includes several avenues such as reinsurance to close, various alternative reinsurance strategies, schemes of arrangement, sale, or even simply run-off to expiry. The steps taken to finality begin on the very first day that underwriting ceases, and the time and effort spent on analysing the true position of the account and creating tried and tested strategies to deal with particular types of issues should result in a strong position for selecting the most appropriate finality option.After the account is stabilised through the business mitigation techniques and strategies, it will benefit from a more accurate risk premium, for example, or simply may be able to be run through to natural expiry with less specialised involvement once top exposures driving the account are settled or commuted.Without a clear business mitigation strategy, one is simply reacting to a run-off and not managing it. Whether a company or syndicate decides to outsource the management of its discontinued lines or retain that function internally with existing staff, the key to a quicker, more profitable solution lies in establishing the right combination of skills and experience to allow the business to be administered, while creating and executing a strategy to deal with the more challenging exposures. Approaching this in partnership with an experienced business mitigation consultant, the run-off management team instantly obtains skilled staff on a short-term basis and motivated to deliver high-impact, high-return results through commutations, audits and inspections, reinsurance recoveries and claims dispute resolution.Cheryl Sheridan is Director of Marketing and Product Development at Global Resource Managers, London.