More Is Always Better! Right?
By Larry Bray, Vice President of Mutual Assistance (Retired)
The “more is better” mentality is something that we learn early in our lives. Unfortunately, that does not hold true in all cases. I have found in working with companies that one of the main reasons some of them struggle is uncontrolled growth. Growth needs to be handled correctly to be a good thing.
An athlete improves their body by eating the right kinds of food in the proper quantities, exercising to improve their body mass index and build muscle, and then continuing to monitor behaviors to maintain their health. This concept was the basis for a presentation I did recently for the South Dakota Association of Mutual Insurance Companies’ 100th convention, and a similar FMDC program I did for a Wisconsin Association of Mutual Insurance Companies’ director seminar.
Premium growth can happen quickly and can have an adverse effect on its balance relative to surplus. Surplus grows slowly by its nature and rapid growth can cause a company to become undercapitalized.
Premium is earned over time. If a policy is written today and there is a total loss tomorrow, the policyholder is paid for their loss and all but one day of premium is returned as well. When an annual premium is paid, it is essentially held in trust for the policyholder until the company earns it over the course of a year.
New policies are less profitable. There are costs of acquisition including policy processing, inspections and underwriting efforts. New policyholders may have been cancelled by a prior carrier for claims frequency or some other reason that the former carrier deemed to be a problem. New business is an unknown entity and historically has higher loss ratios. A company needs to be very cautious if healthy growth through new policies is a goal.
There are other ways to obtain premium growth and they have different impacts on company results.
Ways to grow premium
A rate increase on current business still may impact surplus, but it tends to be a relatively small change. One very good thing for the company is that a rate increase brings in more premium to pay the same claims.
Getting property insured to value is another way to create healthy premium growth. I sometimes refer to this as “mining” your own business. If property is undervalued, a company is leaving premium dollars on the table. Most claims will not be total claims, so the company is not getting adequate premium for partial claims. The policyholder is underinsured in the case of a total loss. The agent is not getting the commission they would get if they were getting buildings adequately insured. Insuring to value is a win for everyone.
Merger is another way to grow. A great advantage of this method of growth is that unearned premium has already been accounted for. A merger can be effective, but it needs to be a positive move for both companies.
There may come a time when a company needs to reduce premium to create a better balance between premium and surplus. Like a person on a diet, the appetite needs to be curbed and some things need to be eliminated. Judicious decisions can get a company on the road to recovery quickly. Another axiom comes to mind: “Sometimes less is more.”
I often hear companies talk about spread of risk and wanting to add counties to their territory to accomplish that. True spread of risk is difficult for small mutuals. The devastating storms that recently blew through Wisconsin on successive days are evidence of that. Our companies can avoid some concentration of risk by limiting how many units can be insured in a concentrated area such as a mobile home park.
Growth is not inherently bad. However, it needs to be undertaken carefully with proper attention to potential impacts.