When a series of killer hurricanes walloped the Gulf Coast in 2005, costing Allstate Corp. a record quarterly loss of $1.55 billion, the company tried to make sure its bottom line would never be hit so hard again.
The nation’s largest publicly traded personal lines insurer pulled back aggressively from areas susceptible to expensive storms. It did not renew many homeowners’ policies. It dramatically increased its own insurance, or reinsurance.
Two years later, despite the continuing risk of a consumer and regulatory backlash, the strategy is paying off: Allstate, which reports third-quarter earnings this week, is on a pace to exceed last year’s record annual profit of $5 billion.
Not only has the company reduced its exposure to catastrophic events, it is benefiting from a calculated shift away from the riskier homeowners’ business into the increasingly profitable auto line. Automobile insurance now accounts for 67 percent of its property-liability premiums and more than double the revenue from homeowners.
“Allstate has come a long way in becoming more sophisticated in understanding the risks that it underwrites, and it’s had very, very good financial results because of that,” said Donald Light, an analyst at research and consulting firm Celent. “They’ve clearly made a management judgment that they’ll take the lumps that they have to take, public relations-wise, in order to insulate themselves from the shock losses.”
Criticism has been harsh.
The Consumer Federation of America says the Northbrook, Ill.-based company favors investors at the expense of consumers and has engaged in price-gouging. Sen. Trent Lott, R-Miss., has repeatedly assailed Allstate and other big insurers for what he claims is negligence since Katrina and even sued State Farm for related claims, ultimately settling the lawsuit. He is pushing to crack down on the industry through various legislative initiatives.
“It’s OK to make a profit, but they are ripping people off,” said J. Robert Hunter, the consumer group’s insurance director. “Why are they so risk-averse? If they’re not going to take on risk, what do we need insurance companies for?”
Allstate declined to make an executive available for this story, citing the mandated quiet period before its earnings announcement. But the company has been very public, if not blunt, about its intentions.
Less than two months after Hurricane Katrina devastated the Louisiana and Mississippi coasts and four weeks after Rita struck along the Texas-Louisiana border, Allstate executives told analysts the more than $3 billion in catastrophe losses in the third quarter of 2005 were “unacceptable.”
“We will continue to take our (homeowners’) coverage and exposure down because we have no moral or legal obligation to provide this kind of coverage to people,” current CEO Thomas Wilson, then president and chief operating officer, said on an Oct. 20, 2005, conference call.
That strategy accelerated with Katrina but it reflects a more hard-nosed approach toward pricing that began years earlier.
The insurance industry began re-examining its pricing after Hurricane Andrew devastated Florida in 1992. Allstate developed a sophisticated new underwriting and pricing system that it began using in 2000 to manage its risk better and minimize losses.
The company boosted homeowners’ rates by double digits for the following two years to revive a line that had suffered losses, and big increases continue in select coastal states today. Allstate Floridian Insurance Co., for example, is currently asking regulators for a 41.9 percent rate increase, and some premiums in other states along the Gulf Coast have doubled or tripled since 2005.
Allstate also has shed hundreds of thousands of homeowner policies by non-renewal in Florida and taken a similar approach in other coastal states.
Banc of America Securities analyst Alain Karaoglan said in a research note last week that heavy exposure to catastrophes in its homeowners’ business has long been Allstate’s Achilles’ heel.
He applauded the company’s increased pricing discipline, reflecting the prevailing view on Wall Street.
“It’s purely model-driven, it’s purely risk-driven — it’s not like they hate Florida or anything,” said Morningstar analyst Matt Nellans. “What people don’t see is that for 10 years they were writing underpriced insurance and nobody complained about that.”
Allstate, which also bought about $800 million of reinsurance in 2006 and again this year to further protect itself, says changing weather patterns are the real villain. It has shifted business increasingly to auto, which has become more profitable due to a decline in accidents in recent years, and now claims nearly 12 percent of the U.S. market, trailing only State Farm.
Allstate’s Your Choice auto insurance, which gives customers benefits such as a lowered deductible based on how long the covered driver goes without an accident, is a top priority. Wilson said in an Oct. 4 speech in Chicago the company has sold more than 2.7 million policies since it launched the program in late 2005.
“In a sense they’re already a heavy auto company,” Light said. “I think over three to five years you’ll see much more evidence of the shift.”
Allstate on Wednesday is forecast to report earnings of $1.67 per share from a third quarter that had few major storms, based on estimates of analysts surveyed by Thomson Financial. That would push profits for 2007 over $3.8 billion, slightly ahead of last year’s record pace.
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