This Time, We’ll Do It The Right Way

New U.S. P/C Insurers Learn from Sins of Their Predecessors

In the summer of 2001, the hard cycle had already arrived for the U.S. property/casualty marketplace for all lines of coverage. Prices were trending up as experts predicted the long-awaited return of the hard market, a state the insurance industry had not seen in over ten years.

Then the 9/11 tragedy struck, and all bets were off as capacity disappeared, prices skyrocketed and some insurers showed signs of ultimate failure. In the midst of this tumultuous underwriting environment, Bob Clements, former president of Marsh & McLennan Companies—responsible for their insurance brokerage operations for many years—was quickly raising capital for Arch Capital Group, the insurance company he had been chairman of since 1995.

He launched an underwriting initiative to be positioned as a provider of insurance and reinsurance capacity in an environment where it was quickly drying up. In relatively short order, he raised $1 billion with half coming from Warburg Pincus, and then brought Paul Ingrey, founder and former chairman of F&G Re, out of retirement to run the company as chairman. The company added management staff and developed a focused underwriting strategy while emphasizing its unencumbered capital as well as the advantage of not being faced with underwriting sins of the past to restore balance sheets. Today, with capitalization of approximately $2.1 billion, Arch is enjoying the results. In February 2004, Arch Capital Group Ltd. announced their profits more than quadrupled in 2003 to $280 million.

In the wake of all the recent insurer downgrades, insolvencies and failures, coupled by the 9/11 tragedy, Arch represents one of a new crop of insurers that have established significant U.S. P/C market share fairly quickly. Typically capitalized in Bermuda, Arch, in addition to Ace, Axis, XL, Alea and others are using sensible strategies to succeed without the burden of asbestos liabilities, corporate scandals and other legacies that their more established competitors are trying to atone for. The strategies they are employing are sound—putting in place experienced, successful senior management, getting backed by a lot of capital, as well as disciplined underwriting.

During the ’90s, insurance companies were more concerned with writing volumes of business and establishing market share—at what seems like ridiculously low premium levels today—in anticipation of the hard market’s return. The new companies, rather than having broad underwriting guidelines, are targeting specific classes of business and niches. They are also participating in intelligently underwritten programs for agents and brokers on both a retail and wholesale basis. Most importantly, they are trying to eliminate the bad underwriting habits of the more established insurers. Operating with a clean slate and money in the bank, the new companies have one thing in common—annual incremental increases in profitability.

Tom Kaiser, executive vice president of Arch Insurance Group, described a three-stage process his company utilized in seizing the opportunity to develop a new successful insurer.

“First, we raised significant capital from a variety of sources. Second, we recruited good people. And third, we adhere to what we call the Arch experience: be responsive, develop the right products and be good at everything right on down to policy issuance,” Kaiser said.

Kaiser said Arch has been focusing on specialty underwriting niches such as surety, construction all risk, “and other compelling areas where we can do a good job.” He also said Arch is not just focusing on the jumbo retail brokers as sources of business.

“We’re set up in four regions in the U.S. Each of the regional managers are charged with developing a sound producer strategy for their region, so regional brokers are important to us as well as the big three or four. As part of our multiple distribution strategy we also consider wholesale business important—40 percent of our business is placed through wholesalers,” Kaiser said.

Axis Capital Holdings Ltd., incorporated in November 2001, has followed Arch’s example of recruiting good people and underwriting intelligently. Axis, which was first listed on the New York Stock Exchange in July 2003, currently has almost 100 years of Marsh senior management experience represented by three members of their senior management team. For the quarter ended March 31, 2004, Axis generated a combined ratio of 72.5 percent, comprised of a loss ratio of 51.5 percent and an expense ratio of 21 percent. The same fiscal quarter Axis saw an increase of 56 percent in net income compared to the same quarter last year, bringing it to $166.8 million, and loss reserves from the prior period went down—all signs of sound underwriting and management. Total gross premiums almost doubled to $1.044 billion. When the results were announced, John Charman, president and COO of Axis, commented that “Axis’ diversity of operations, strong balance sheet and highly skilled and well regarded underwriting professionals continue to attract quality business and drive long-term real value for our shareholders.” Like Arch, Axis is targeting diverse yet specific underwriting segments. In April 2004, they announced expansion of their underwriting offerings to builder’s risk as well as professional lines.

In comments made at this year’s RIMS conference in San Diego, Brian O’Hara, president and CEO of XL Capital Ltd., also said effective recruiting is key. “If you have a veteran staff, solid relationships, then you’re going to have the greater staying power,” he said. XL’s first quarter profit nearly doubled this year, from $239 million to $452 million. The combined ratio from general operations was 88.8 percent.

Another Bermuda-capitalized new player, Quanta Capital Holdings Ltd., filed its S-1 in May 2004 to be traded on NASDAQ. Many of Quanta’s senior managers previously worked at Chubb Financial Holdings. Alea North America, originally financially backed by Kohlberg Kravis Roberts & Company (KKR), has been targeting participation on program business in the United States.

All these insurers have common elements: experienced management (not always from Marsh) who demonstrated success elsewhere, significant capitalization and no decades-long legacies of poor underwriting results.

Bill Kable, a managing director at Baltimore retailer Riggs, Counselman, Michael & Downes, said he views these markets as creative underwriting units bringing new capital and expertise to the insurance marketplace.

“Many of the markets have built quality staffs with broad insurance experience from the older more established companies. Some underwriting units from other (and former) insurers have had talented insurance business units put out of business due to unprofitable or non-performing underwriting results from their older counterparts. Overall, results may have forced that insurer to stop writing business with these other units, creating the ability for these new insurers to obtain that business at today’s rate and premium levels. These new carriers are also hiring underwriters with key relationships with brokers and agents in order to attract flow of business,” Kable said. Based on his experience, Kable said the new insurers are focusing on specialty lines and niches, staying away from the premium-sensitive middle market sector other than for specialty lines such as umbrella, pollution and directors & officers liability.

Greg Belton, president of Toronto-based broker Hunter Kielty Muntz & Beatty, said he is impressed that new companies were able to stand up and raise capital “in the midst of the hardest market, at least in Canada, in the 300-year history of the property/casualty market.” He added, “they are unencumbered by the legacy of asbestos and D&O suits arising from recent corporate scandals. The combination of entering the market in a high rate environment with the absence of legacy claims, which other insurers are forced to price into their renewal premiums, places these markets in a position to build market share very quickly.” However, Belton cautioned the new players may eventually become the mainstream markets, subject to all the pitfalls of their predecessors.

While strategy is important, good reviews by rating agencies are also critical for new insurers, and A.M. Best is not always the best prognosticator of insurer solvency. This is one of the edges more established insurers have against the newcomers.

David Perez, president of AIG Excess Casualty, pointed out that according to a 2003 A.M. Best study, 218 P/C companies became insolvent from 1993 to 2002, including 41 that had been rated “A” or “A-” at least two years prior to insolvency. And 29 were rated “A” or “A-” at least one year before they became insolvent.

“Risk managers are often shocked to learn that many insurers that hold financial strength ratings of “A-” hold long-term debt ratings of “BBB-” just one step away from non-investment grade,” Perez said. “Many risk managers now view credit ratings as one of the more important indicators of a carrier’s fortunes.” He advised that “the behavior of the carriers should be carefully viewed. The verdict will not be in until decades from now” for the new insurers.

Arch’s Kaiser said that the most important part of a carrier’s strategy must be not only to develop a sound plan but to also execute it. “Be open with the marketplace. Listen to what insurance brokers and buyers are saying and take appropriate actions.”

It is expected more “new” insurers will emerge, as insurance company consolidation and insolvency continues to reduce the number of choices available to agents and brokers marketing their clients’ business. Hopefully the new players will learn from the sins of their predecessors in developing strategies to succeed.

Robert Meder is director of marketing at Hagedorn & Company. Hagedorn, founded in 1869, is a privately-held retail insurance brokerage with offices in Manhattan and Ossining, New York.

Topics Carriers USA Agencies Underwriting Market Property Casualty