“The smart money bets against tax reform — always and everywhere. But every once in a while — usually a long while — the smart money is wrong.” –Joseph Thorndike, noted tax scholar. On Nov. 2, the House Ways and Means Committee released the “Tax Cuts and Jobs Act,” a major overhaul of the U.S. tax system. The proposal is a significant step forward in a years-long effort to reform our nation’s outdated tax code. While the House legislation is only the beginning of the proverbial “sausage-making” process, it is important to understand the bill’s effect on the insurance industry, because (1) the effect is significant; and (2) the chances of tax reform actually happening are as high as they’ve been in many years. Summary Tax reform is always an exercise in trade-offs, and this time is no different. At a high level, the House proposal would lower the maximum corporate tax rate to 20% and move the U.S. to a territorial tax system. Pass-through entities such as partnerships would be subject to a maximum tax rate of 25%. While the most significant provisions in the bill apply to businesses, the proposal also consolidates the seven tax brackets for individuals down to four, maintains the highest individual rate of 39.6%, doubles the standard deduction and curtails popular individual deductions such as the state and local tax deduction and the mortgage interest deduction. As with every previous tax reform proposal, the House legislation creates, or is perceived to create, winners and losers. At the highest level, the legislation poses a trade-off between lower corporate tax rates and a more globally competitive tax regime for U.S. businesses and the elimination or reduction of popular tax breaks on both the individual and the corporate side. The House bill costs $1.5 trillion in foregone revenue over 10 years. This is likely the outer limit of the deficit spending to fund tax reform. In other words, the need to identify “pay-for” provisions that increase taxes on one group to pay for cuts in another area will only grow as the bill moves through the legislative process. As detailed below, the tax bill raises almost $40 billion in revenue from the insurance industry via changes to its corporate tax treatment. This basic approach is not likely to change significantly during the legislation process. Insurance CEOs considering whether to support this effort will ultimately need to answer the question of whether a 20% corporate rate and territorial tax system is worth the trade-off in terms of changes to key insurance corporate tax provisions. Life Insurance The current tax treatment of insurance companies reflects their unique business model and state regulatory regime. Perhaps owing to the complexity of life insurance product and corporate taxation, life insurers have sometimes been subject to a misperception of being too lightly taxed. The current House proposal arguably reflects that perception. On balance, life insurers (and insurers in general) were affected to a larger degree than other sectors through negative changes to their corporate tax treatment. In fact, with the exception of a single provision hitting banks' deductions of their FDIC premiums, insurers were the only segment of the financial services industry specifically singled out via pay-fors to finance the proposal’s tax reductions. To provide a glass-half-full perspective, prior tax reform proposals included negative changes to certain life insurance and retirement products. In a win for the life insurance industry, the current House legislation does not reflect those prior proposals and makes no change to inside buildup, the tax treatment of corporate-owned life insurance or the tax treatment of retirement plans and products. Having said that, the corporate tax changes specifically targeting life insurers raise significant revenue (almost $25 billion in total) and bear close watching. See also: Why Fairness Matters in Federal Reforms   Most notably, the House bill would clip the life insurance reserve deduction by requiring that life insurers take into account a prescribed percentage of the increase or decrease in reserves for future un-accrued claims when calculating taxable income. This provision alone is estimated to increase the taxes life insurers would pay by $14.9 billion over 10 years. In fact, this estimate may dramatically understate the true effect of this provision on the industry. In a provision that raises $7 billion, the bill would change the expensing rules for life insurance policy acquisition costs. The bill would also restrict the timing of when reserve increases or decreases are taken into account and would limit the dividends-received deduction by prescribing a flat 40 % company share. The proposal would change the net operating loss rules to restrict the number of years that life insurers’ losses can be carried back (from three to two) and forward (from 20 to 15). The legislation would also repeal the special tax rules for distributions to shareholders from pre-1984 policyholder surplus accounts. Congressional revenue estimators believe that these life insurance company taxation provisions would raise more than $24 billion in additional tax revenue over 10 years, and, as noted above, the reserve deduction restriction alone would raise $14.9 billion, and the expensing rule change would raise $7 billion. This revenue estimate, while inherently inexact, indicates the magnitude of the effect on the industry. Property and Casualty The draft legislation also targets property and casualty corporate tax. The proposal modifies the discounting rules for P/C companies, reducing the tax value of unpaid losses. It also restricts the reserve deduction by modifying proration rules. The change to discounting rules alone raises $13.2 billion over 10 years, and, in total, the P/C corporate tax changes raise over $15 billion in the budget window. All in all, the corporate tax changes specific to insurers would raise almost $40 billion. It’s clear that insurance has been identified broadly as a source of pay-fors to fund tax reductions in other parts of the overall package. International Provisions Much of the animus behind the tax reform proposal lies in the drive to make the U.S. tax system more globally competitive. While all multinational insurers would be affected by the bill’s international tax provisions, two provisions in particular would specifically affect insurers and reinsurers. First, the bill would impose a 20% excise tax on U.S. domestic corporation payments to foreign affiliates. Importantly, the purchase of reinsurance by U.S. insurers from foreign reinsurance affiliates would be subject to this tax, which is being interpreted as partly a shot across the bow at offshore reinsurers. In addition to the 20% excise tax, the House bill would restrict the insurance business exception to the passive foreign investment company (“PFIC”) rules. The PFIC exception would apply only if the foreign corporation would be taxed as an insurance company were it a U.S. corporation and if certain other company-specific conditions were met. The 20% excise tax provision raises a whopping $154.5 billion over 10 years, and while it’s being discussed a great deal in the reinsurance world, it is not specific to reinsurance transactions and would have significant implications for many non-insurance multinational corporations. The PFIC provision, which obviously is specific to insurance, raises a much more modest $1.1 billion in the budget window. Lastly, multinational insurance companies should watch the “deemed repatriation” provision, which would subject foreign earnings to a one-time U.S. tax. Prognosis As this legislation winds its way through the House and the Senate, we can expect some changes as a result of the inevitable onslaught of lobbying and strong policymaker preferences. However, the basic approach this bill takes to reform is not likely to change. In terms of timing, the House, with its comfortable Republican majority, is likely to pass some version of the current bill this year with fairly modest changes during committee consideration but likely no amendments permitted during the full House vote. In other words, there is a very narrow window (weeks, not months) to change the provisions in the House bill before it gets voted out of committee, passed by the full House and kicked over to the Senate. See also: Outlook for Taxation in Insurance   The prognosis in the Senate is murkier, because even under the expedited 51-vote process Republicans will use pass tax reform, the GOP can only afford to lose two votes. To get there, leadership has to satisfy divergent voices within the party in what is almost a Goldilocks (“not too hot, not too cold”) exercise. Any “just right” legislation, to garner 51 votes, must placate deficit hawks (McCain, Corker, Flake), moderates (Susan Collins, Lisa Murkowski) and staunch conservatives (Mike Lee, Tom Cotton, Ted Cruz) — not a group that typically treads on common ground in tax reform. Another wild card to watch is Roy Moore, who won the Republican primary for the special election in Alabama to replace Sen. Jeff Sessions. Moore is widely expected to win the December 12 election and, once elected, will be the most far-right member of the Senate and a true wild card vote in tax reform. To sum it up, the path is clear, but the margins are slim. Most insiders believe that the legislation must pass both chambers by June of next year — at the latest — lest the effort collapse under its own weight. So, the billion-dollar question: Will it happen? Prognosticating about tax reform prospects has long been a favorite parlor game in Washington, and, as Joseph Thorndike said, smart money almost always bets against it. This time, it’s a close call, but the desire among Republicans to get tax reform done is at a near all-time-high, particularly after the failure of health care reform. My money (smart or not) is on the passage of a tax bill — with significant reform elements. In short, insurers should watch this space.

Artificial intelligence is booming in insurance. In a recent report, Celent identified AI use cases around the globe and across the insurance value chain. Uses include customer engagement (USAA’s Nina); product optimization (Celina Insurance Group, Protektr); marketing and sales (Usecover, Insurify, Optimal Global Health, Ping An); underwriting (ZestFinance, SynerScope, Intellect SEEC, Swiss Re); claims (Tractable, Ant Financial, Gaffey Healthcare); fraud detection (Ant Financial, USAA); risk management (Achemea); and business operations (Ping An Direct, Union Life). Insurers are wise to innovate with AI technologies. Early adopters will face challenges but will also have the potential to reap greater rewards by improving efficiency and customer engagement. Here are five challenges for carriers to consider when innovating with AI: 1. What technology to use when. When embarking on a digital transformation, there may be a number of solutions available for a given problem, one of which could be AI. But while AI may resolve an issue, it is important to examine all the potential solutions and decide which one is the best fit. Perhaps robotic process automation (RPA), application programming interface (API) or another automated solution is best suited. Can an existing technology be leveraged? Deciding what solution to apply when requires you to look at the whole organization and all the issues upfront. This allows CIOs and CEOs to examine each problem, decide on the right technology solution and make sure it complements the overall strategy and budget. See also: Strategist’s Guide to Artificial Intelligence   2. Big data + AI = big strategy. A second challenge surrounds the management of big data obtained from customers, core systems, brokers/agents and insurance exchanges. Add to that the varied types of data that AI is managing, analyzing, communicating and learning from and things get a little more complicated. Here’s a list of the different data types AI may be working with:

• Structured, semi-structured and unstructured data
• Text
• Voice
• Video
• Images
• Sensors (IoT)
• Augmented/virtual reality

Data is also classified as real-time, historical or third-party — yet another dimension to consider. Make sure your strategy takes the necessary data variables into account: where data will come from, where it will flow to and how it will be handled at various points in the customer journey. 3. Managing customers across swim lanes. This leads us to challenge No. 3: the ability of AI to engage with customer data at key touchpoints during the customer lifecycle. For example, if Lucy has group benefits as well as voluntary products, car and house insurance, how will her data be managed and optimized across swim lanes? What will be the touch points for AI? When will other insurtech solutions be present? When is human intervention required? And how will this data be used to inform future risk decisions? 4. Harnessing AI’s multidisciplinary capabilities. AI encompasses machine learning, deep learning, natural-language processing, robotics and cognitive computing, to name a few. You can read my blog post here to learn more. Deciding what technical abilities will be required to solve your problem could present challenges as the lines between disciplines blur. Additionally, the next wave of AI could come from entirely different industries, such as aerospace, environmental science or health — but  it will still have applications for insurance. The best way to overcome this is to examine your AI needs across solutions and select vendors with the right capabilities to execute them. See also: The Insurer of the Future – Part 3   5. Communicating past tech speak. As AI becomes mainstream, the challenge of helping non-technical business professionals understand these complex applications is real. AI systems can require a level of technical expertise beyond the everyday scope of business. True digital transformation, regardless of technical complexity, affects everyone in the organization. Ensuring the vision is shared will matter as day to-day operations, tasks and activities change. Find someone who can break down the benefits of these new solutions into bite-sized pieces that everyone understands to ensure buy-in and ultimate success. The question of whether AI will indeed disrupt the industry or simply enable its full digitization is still not known. It will not be the solution to every problem. However, if implemented strategically, it may hold the capacity to create an entirely new way of insuring — and delighting — customers in a rapidly changing landscape.

To say that the insurance industry is undergoing change is a profound understatement. And the change is not limited to one operational area or role. An important tool to help insurance companies keep pace with constant disruption is robotic process automation (RPA) — a digital technology that automates rules-based, deterministic processes across many areas within an organization. RPA offers a wide range of benefits, including: the elimination of human errors; improved compliance; time reduction and enhanced productivity; cost reduction; and the enablement of staff to focus on more valuable work. As the insurance industry grapples with how to best balance the increasing role of automation with the human workforce, a couple of questions come to mind: How can this technology help organizations meet clients’ increasing expectations? And, more broadly, what kind of impact will RPA and automation have on operational processes in such areas as customer experience, insurance policies and risk assessment, pricing and management? While the applications of these technologies create some uncertainty, the upside is tremendous — both from an operations and workforce perspective. RPA, like other digital technologies, functions as a digital asset that enhances the workforce, drives productivity and generates efficiencies — like the excel macro did for spreadsheets and the calculator did for manual computation before it. To better understand the context in which these changes are taking place, it is important to move from the abstract to the concrete. RPA benefits insurance companies in a number of ways. A few practical examples include:

• Customer experience
• Policy and data conversions
• Risk assessment, pricing and management

Customer experience Customer service is a cornerstone of the insurance industry. Having knowledgeable people paired with the right technologies helps improve the customer experience significantly. RPA, integrated into digital portals, can enhance customer experience by capturing, manipulating and processing data into legacy systems of record directly from client and marketing channels. See also: Much Higher Bar for Customer Service   Traditionally when onboarding new customers, data moves into queues processed individually by humans. This approach requires humans to flag missing data, gauge the completeness of the request and then move this information from “one side of the desk to the other,” so to speak. Providing a prospect with a quote could take days of back-and-forth to flag and gather the right data. For example, a life carrier seeking to speed up response times can use RPA to remove the too-long, manual processing of broker requests, which often are unclear or lack necessary details. Today, requests could wait in a queue for human review only to be then passed on to another group to rectify issues before the carrier could respond. The process could take days. Insurers are now using RPA to evaluate requests upon arrival, immediately flag inaccurate or missing information and initiate follow-up requests. Response times are reduced from a couple of days to minutes. This automated process benefits customers, the workforce and business growth. Policy and data conversions The global insurance industry handles hundreds of millions of policies. Combining those with the sheer amount of data insurance companies need to process and crunch can make one’s eyes glaze over. To make matters more challenging, a tremendous amount of policy data still resides in legacy systems. And when insurers need to migrate to a new/different system, the process is manual, time-consuming and resource-intensive. What is the answer? Using RPA to digitize conversion processes. Consider a life insurer that implements robotics to migrate legacy life insurance and annuity policies from a newly acquired portfolio of business. Instead of allocating 50-70 people to manually rekey the information, that company can now move policy and annuity data — some of which was unstructured — from the acquired company’s system into the acquiring company’s system. RPA can perform these tasks for millions of policies, eliminating the manual, error-prone aspects of the work. RPA can operate 24 hours a day, seven days a week. This process allows for an alternative approach, one which could be more efficient, accurate and audit-able. It also allows employees to focus on more strategic, higher-value work like product development. Risk assessment, pricing and management Actuaries are typically inundated with an immense amount of claims data to sift through to help inform risk assessments. To help drive efficiency, RPA helps actuaries solve these challenges by reducing manual input and rekeying, reading disparate types of data (structured and unstructured) and identifying omissions and errors. Access to more accurate and insightful data enables actuaries to improve risk modeling and pricing. Ultimately, this frees up high-value actuaries' time to focus on better risk assessments with a higher degree of accuracy. What’s next? The rapid pace of disruption shows no signs of abating. While it is easy to get sucked into the hype around RPA and broader automation applications, it is important to approach this process with a thoughtful purpose in mind — one that is targeted and deliberate. RPA is a game-changer. The insurance industry is automating manual, repetitive and tedious tasks, allowing employees to focus on more valuable, strategic work. This helps not only with efficiency but can drive a greater level of engagement and fulfillment. See also: The Current State of Risk Management   The future of work will involve machine and human collaboration. RPA will be a critical part of that evolution and will work in conjunction with other disruptive technologies, such as artificial intelligence, to continually improve the quality and consistency of the service insurers deliver to their customers. Digital resources will function as critical assets to drive stronger organizational efficiency and performance. Companies that are best able to balance the intangibles of human ingenuity, with the efficiencies of RPA and other forms of automation, will be best positioned to reap the benefits. This material has been prepared for general informational purposes only and is not intended to be relied upon as accounting, tax, or other professional advice. Please refer to your advisors for specific advice.

The first day at a new job means a new company, new responsibilities, new co-workers, a new commute--a whole new routine. Employers have a lot at stake, too. Many people put a lot of time and energy into picking this new hire. They're counting on that person to get up to speed quickly and start contributing. They need the new employee to be a good fit. But according to researchers, new hires aren't focused just on fitting in, they're thinking about reinventing themselves. A new job and a new social setting represent a rare opportunity for people to show their authentic selves or even to reshape their personalities. It's like the first day at a new school--a clean slate and a chance to be somebody new. Given this motivation, researchers argue that most organizations focus way too much attention on getting new hires to fit in. There's certainly a lot for a new employee to learn, and the sooner they get up to speed, the sooner they can have a positive impact. As many of us have seen from our own careers, it's tough to do a lot of actual work on your first day. It's much more about learning about the organization and the role you're going to play. See also: How to Shrink Employees’ Waistlines   Take a look at the top three reasons people quit their jobs within six months, according to a survey by BambooHR:

• They decided that the work was something they didn't want to do any more.
• They felt that they were given different work from what they expected based on their interview.
• The boss was a jerk.

While these may look like problems with the work and responsibilities at first glance, they may actually have more to do with cultural issues like incompatible management styles and unclear expectations. With a few tweaks, you can shift your organization's approach to an employee's first day and help employees define themselves within your organization rather than feeling like they have to change to fit in. That shift, coupled with some other first-day best practices, can get employees up to speed and productive much more quickly. Here are some ideas to get you started: 1. Keep paperwork to a minimum New hires walk through the doors on their first day ready to hit the ground running and prove their value. They want to define their identities, and that usually includes being seen as a hard worker. But at too many organizations, that zeal is squandered on administrative activities like filling out HR forms. The result is a notable dip in spirit and some paperwork that's filled out really, really well. As much as possible, keep administrative tasks to a minimum on an employee's first day. Ideally, new hires will fill out all or most of the forms before their first day. Here's a great way to communicate a little culture--send an email that says, "We can't wait for you to dig right in on your first day, so please complete this paperwork and bring it with you." 2. Prepare for downtime No matter how prepared you are to welcome a new employee, he or she is going to have some downtime on day one. Inevitably, a meet-and-greet will get rescheduled or something unexpected will crop up, leaving the new hire having an hour to kill. Even after day one, new hires aren't likely to accelerate to full throttle right away. It will take some time--days, weeks or months, depending on the complexity of the job--before a new hire hits full stride. Continuing engagement and coaching is critical during this onboarding phase. Have a plan in place that goes beyond just sending the employee back to her desk to, say, fill out paperwork. Instead, give new employees a chance to express some of their personality with an introductory email. Encourage them to be a little less formal, to share a bit of their personal lives and why they're excited to join the team. A better option is to set them up with a learning list: online courses, books, articles, webinars and podcasts to help them learn how your organization sees the industry and to show that lifelong learning is a top priority. Ideally, this list would be created internally as one more way to demonstrate your culture. But there are plenty of external sources, including The Community and other collections of resources. 3. Show your culture One of the best ways to help new hires find their niche within your organization is to give them a glimpse into your culture from day one. Make a point to include the new hire in social activities in your office--a group lunch, an afternoon trivia challenge, chats about popular TV shows, etc. New employees will feel like part of the team and get a chance to show a little personality. Demonstrating your culture doesn't require fun distractions. Bringing the new hire in on a brainstorm session or setting up an informal meeting with a company leader can also showcase the attitudes and behaviors your organization values most. Or it could be as simple as sneaking a little bit of your company perspective into your welcome letter. Here's how Apple, for example, welcomes new employees. See also: The Era of Free Agent Employees   4. Start your formal onboarding process Don't forget to incorporate your employee's first day into your formal onboarding process. As you work to make the first day engaging and culture-focused, also set the new hire up with a clear path to success over the first several months on the job. Help the new employee develop a support network, including a mentor, and be sure that new employees know where to turn for the resources they need to do their job successfully. Peer-to-peer learning is a powerful tool that gives employees a certain sense of independence and belonging, which are important attributes to success. Connecting new hires to others who have recently been in the same situation can also help ease new hires into their role and help keep them on track to success. If you choose to assign new hires a mentor (and you absolutely should), that mentor can take the lead on a lot of these day-one activities, from organizing a company lunch to making the most of downtime. Be sure to schedule periodic meetings to catch up with new hires. These scheduled meetings give both the hiring manager and the new hire some dedicated time to review progress, answer questions and stay engaged with one another. Like many things in life, you will get out of new hire onboarding process only what you put into it. While it takes precious time and effort, the cost of not successfully onboarding your new hire is even greater, and a failed hire will put you right back to the beginning of the hiring process and further from realizing the organization's goals. Want to bring new employees up to speed in the rapidly changing insurance industry? An AINS designation is a good place to start.

The previous articles in this series can be found here. The Insurer of the Future will be class-leading in customer relationship management (CRM) and marketing. CRM was always a challenge in the past because, unlike banks and retailers, insurers had only small numbers of interactions with their end customers. That made it hard to gather data on the customers’ needs and wants, and limited the ability to build relationships. See also: The New Agent-Customer Relationship   But the Insurer of the Future has access to enormous quantities of data about its customers, available from a wide range of external sources. So it ports this data into its own systems, fueling more powerful and accurate analytics. It uses the insights gleaned to reach out to customers -- not just to sell them products but to provide genuine value-adds. Providing value adds to customers, free of charge, enhances customer relationships. So when the Insurer of the Future makes an occasional offer to a customer, it’s the right offer, at the right time, through the channel and device of the customer’s choice. As a result of the Insurer of the Future’s expertise, the customer is significantly more likely to buy. Compared with its predecessors, the Insurer of the Future has a loyal customer base -- driving lower lapse/churn rates, a greater share of wallet and higher Net Promoter Scores.

Attend any insurance-focused conference, and you will undoubtedly hear about the high volume of angel and venture capital currently chasing the next unicorn in insurance – the industry equivalent of Facebook or Amazon. In the search for value, investors are first asking questions about how long it will take for innovation to transform the industry’s business model or who will be the major disrupters. Is it the new approach to distribution that will render the current ecosystem extinct? Is it a different approach to underwriting courtesy of new advancements in data and analytics? These are legitimate questions – but what if we are looking in all the wrong places? What if the next Uber of insurance has already arrived? An important component of the value chain in consumer-facing markets is access to the customer. Creating a user-friendly application drives user engagement, and therefore retention. The critical difference in the insurance industry, however, is the lack of engagement. Insurers are challenged with a product that does not lend itself to a frequent interaction with clients. There are typically only two points of contact: sale and claim payment. Though both present opportunities to build customer relationships, this number is orders of magnitude lower than for consumer technology applications. This means insurers need a better solution to work around the value chain to gain control of the customer, one that involves driving down costs. Herein lies an unexpected solution – alternative capital. Alternative capital refers to pools of capital available for the transfer of risk from an insurer to the capital markets, typically in the form of insurance-linked securities (ILS) or special purpose vehicles (SPVs). The impact of alternative (or third party) capital is well understood in the reinsurance world today as global risks have been packaged, turned into portfolios and offered to the very largest providers of capital in the world as an alternative, risk-bearing asset class. The size of the market has grown considerably in recent years, with alternative capacity reaching $86 billion, or 14% of global reinsurance capital, as of the first quarter end of 2017, according to Aon. [caption id="attachment_28547" align="alignnone" width="500"] Alternative capital represents 14% of global reinsurance capital[/caption] The question, though, that investors should be asking is: Who has access to the cheapest capital? The answer to this question, the authors believe, will yield important insights as capital efficiency enables players in this space to get closer to the clients and, more specifically, the source of risk. After providing appropriate scale for disruption in the industry, along with an important framework to understand industry cost of capital, we consider evidence from the banking sector and anecdotal data from current trends in the market to argue that the Uber of insurance is already here. See also: Preparing for Future Disruption…   Disruption at Scale In an era of rampant overcapacity, it is sometimes easy to forget the historical significance of access to risk-based capital. The explosion of new technology applications to challenge the gatekeepers in the industry, funded by a dramatic rise in venture capital for Insurtech startups, has taken a lot of interest among industry participants. Insurance and reinsurance applicants are still, though, fundamentally sending submissions and applications to be accepted as insureds and cedants. There is an offer of risk transfer for premium. Unless platforms that control the customer also start retaining the risk with an equal to or lower cost of capital, the incumbents are still likely to control the system. Until this happens, those who build the best capital platform can offer the best products to attract customers, with the lowest-cost capital translating to lower prices for consumers – a reality supported by the scale of alternative capital disruption. [caption id="attachment_28548" align="alignnone" width="500"] Alternative capital currently on risk in 2016 dwarfs VC funding in Insurtech[/caption] While the scale of insurtech investment itself is enough to make serious people sit up and take notice, it is the speed, velocity, sources and efficiency of capital that will drive the future direction of the industry. To assess the long-term impact to the industry of these dueling solutions to disruption, an understanding of the drivers of industry cost of capital is required. Insurance Company Cost of Capital While ILS as a practice is nearly 20 years old, we are still in the first inning of how this once-niche part of the global reinsurance and risk transfer market will expand its influence. The current problem the industry is facing is that it does not do a good job of differentiating capital sources with specific levels of risk. Investors looking for a 5% or 7% or 11% return all fund risk whether at the 1-in-50 return period or 1-in-250 return period. This capital inefficiency not only lowers margins but also increases the cost of capital and perpetuates a system that hinders new product development at the expense of the end consumer. The use of third party capital gives underwriters the ability to cede remote, capital-intensive risk off their books and onto a lower-cost balance sheet. This matching of different types of risk with different pools of capital produces a leaner, more customer-focused, lower-priced risk transfer market, ultimately benefitting the end consumer from cheaper reinsurance products. The industry also cares about returns. Meeting analyst expectations has become increasingly difficult as pricing and investment yields have declined. Because insurance companies operate in a market that is becoming more commoditized, insurers and reinsurers need to either find another way to increase returns or figure out a way to lower their cost of capital. Alternative capital providers have a fundamental advantage in this respect, as “…pension fund investors are able to accept lower returns for taking Florida hurricane risk than rated reinsurers, for whom the business has a high cost of capital.” Similarly, the opportunity cost of capital for a typical venture capital fund (17% before management fees and carried interest) outstrips the hurdle rate for pension fund investors who turn to catastrophe risk as a diversifying source of return. Similarities to the Banking Sector The importance of cost of capital in determining winners and losers in capital-intensive industries can be clearly seen in the banking sector. When banks accessed lower-cost capital through capital market participants, their balance sheets were essentially disintermediated as they no longer had to finance the bank’s capital charges. By going straight from the issuer to capital and removing the need to finance these expensive capital costs, the aggregate cost of the system (value chain) was reduced. This benefitted consumers and drove retention in the same way we normally associate technology disintermediating distribution in other industries to drive down costs. Just as loan securitization transformed the banking industry, so, too, can risk securitization change the economics and value proposition of insurance for the end consumer. Capital disintermediation offers new operating models that connect the structurers of risk with the pricers of risk, until disrupters prove they can do this better. Because insurance underwriters and mortgage loan originators retain differing levels of risk ceded to the capital markets, gaining access to the most efficient forms of financing is an increasingly important battleground for players in the insurance space. When investors no longer tolerate capital inefficiency and increasing returns proves challenging, value chain disruption is a real threat because the lack of client proximity and customer engagement provides no competitive moat. A comparison between the recent growth in U.S. P&C industry direct written premiums and growth in U.S. P&C industry surpluses shows just why capital efficiency is so important. [caption id="attachment_28549" align="alignnone" width="500"] Renewed focus on capital efficiency as industry surpluses overtake industry premiums[/caption] Industry surpluses have increased at a rate more than double that of industry premiums ($418 billion increase vs. $200 billion increase) since 2002. The surplus growth relative to premiums highlights the steep drop in capital leverage from 1.4 in 2002 to 0.8 in 2016. As insurers sit on larger stockpiles of capital, they are relying less on underwriting leverage to juice up returns to meet their cost of capital. Hence, pricing power and cost controls have taken on increased importance. The Current Fall-out The growth of alternative capital has fostered innovation, both directly and indirectly, among industry participants across the value chain. Under the weight of efficient capital, industry players can take a step beyond leveraging insurtech to create value within the system – they can collapse it. In fact, we are seeing this happen right now. ILS funds such as Nephila are bypassing the entire value chain by targeting primary risk directly. Nephila’s Velocity Risk Underwriters insurance platform enables the ILS manager to source risk directly from the ultimate buyer of insurance. From consumer to agent to the Nephila plumbing system, homeowners’ risk in Florida can be funded directly by a pension fund in another part of the world. See also: Innovation: ‘Where Do We Start?’   Innovation is a healthy response, and this evolution of the reinsurance business model, while producing losers, will produce a leaner, more customer-focused, lower-priced risk transfer market in the end, ultimately benefitting everyone. The opportunity set for alternative capital to benefit the industry is not just limited to retrocession and access to efficient capital. Leveraging third party capital to provide better products and services to clients allows insurance companies to not only expand their current product offerings but also extend the value proposition beyond price alone, with different capital sources offering different structural product designs, terms, durations and levels of collaterization. Consider solar. The insurtech solution to creating a product that will provide protection for this emerging risk might include distribution and analytics. In contrast, partnering with third party capital providers can allow an insurance company to create a product with unique features such as parametric triggers that could solve a problem the traditional reinsurance industry, with its complicated and long casualty forms, has long struggled with. In doing so, third party capital can help grow the market for insurance in a way that insurtech has not yet achieved. Conclusion Two of the most common counterarguments for alternative capital’s Uber-like impact on the industry are that it remains largely untested capital in the face of a significant event and that we’ve hit a ceiling on the limit of third party capital in the traditional reinsurance market. On the first point, as of this writing, it is still too early to assess how existing and new potential third party capital investors will respond to hurricanes Harvey and Irma in coming renewals. However, the combination of the ILS market’s established track record, experience paying claims and fund managers staffed by people who have long experience as reinsurers provides support that investor interest post-event will remain strong. As for the second, in a static world, that claim may be true. But we believe there is plenty of room to grow in this market from both a supply and demand perspective. On the supply side, ILS accounts for only 0.6% of the global alternative investments market, with ample room to increase assets under management, according to the latest survey on alternative assets from Willis Towers Watson. On the demand side, around 70% of global natural catastrophe losses remain uninsured, and these risks are only growing. Insurers will require protection against aggregation and accumulation risk, and increasingly see the natural home for the tail risk in the capital markets and ILS. We have witnessed alternative capital’s ability to attract risk to capital and lower aggregate cost of the entire value chain. Many in the industry are monitoring how insurtech will sustainably attract risk and attract customers over the long term. In the meantime, the companies that have used their time wisely in the soft market by increasing capital efficiency to source, return and attract new forms of capital the quickest will be well-positioned in the space and can happily partner with great distribution partners of their choice. Even so, the players with the lowest cost of capital can accept risk more quickly and easily and can develop products more cheaply and with unique technological features for consumers. Insurtech will still play a pivotal role in shaping the future of the industry. Most of the participants in the insurtech space are in the early stages of capital formation. As investment scales and business models mature, insurtech should help leverage the proliferation of new sources of information and data pools to advance the securitization of different types of risk. Access to enhanced analytics helps make the underwriting and funding of more intangible risks, such as reputation and contingent business interruption, more sustainable, thereby increasing the participation of third party capital in lines of business outside property catastrophe. In the mid-1990s, far less than 1% of global reinsurance capacity was alternative capital; by 2016, its influence had grown to nearly 15%. Here is our question for the next industry conference: What will alternative capital look like in 2030?

Mobile has drastically changed the way we shop, travel, pay our bills and even pay each other. But there’s one area of our lives that it hasn’t changed enough: the way we manage our health. Mobile-focused health represents one of the biggest challenges – and opportunities – facing the healthcare industry. As more consumers connect their homes and lives across devices, particularly their phones, healthcare professionals must harness mobile health technologies and move toward a complete, mobile-optimized user experience. While most insurers already offer mobile apps, they often fail to create an experience that is both functional and intuitive. As our 2016 Digital Healthcare Survey revealed, digital health resources have been embraced by Americans of all ages, especially by younger Americans, with 82% of Gen Y and 67% of Gen X having accessed at least one digital health resource in the past 12 months. Of the digital resources offered by health insurers, mobile apps have the greatest potential to enhance Gen Y and Gen X member understanding and autonomy, but awareness of the apps and their functionality is low. Many Gen Y and Gen X members consider mobile access to their insurance a key resource, but only one-third (32%) are actually aware of whether their insurer even offers a mobile app. This represents a significant missed opportunity, for insurers and consumers alike. See also: A Road Map for Health Insurance   Fortunately for insurers, creating a mobile app doesn’t need to be overly complicated. The fundamental function of a health plan app is to provide members with access to the resources that are applicable to and useful for the mobile experience. However, many apps present far more than this – plan information, including balances, claims data and ID card information as well as coverage and benefits rates for health services, profile and account management options and customer service centers. For most customers, mobile apps don’t need all the resources and attributes of full sites – customers just want a mobile health experience that is intuitive, functional and fits in with their daily routine. So, what functionalities should insurers be looking to include in their latest mobile app versions? Take a page from financial apps, such as PayPal and Venmo, and offer a way for consumers to pay with ease. Incorporating payment features for claims and premiums, as well as push notifications alerting members to coming bills, would likely lead to more timely payments. UnitedHealthcare is one of the few providers that allow members to pay for a claim on its app directly by entering bank account information and then pre-filling most other important information, such as amount and payment recipient. Create visual representations, such as charts, graphs and progress meters, to help consumers better understand aspects of their plans like deductibles and coinsurance. Presenting plan balances and claims data not only improves the aesthetics of a page, but also provides members with a summary of data that may be easier to process. For example, rather than displaying how much of the plan’s deductible and out-of-pocket maximum the member has met, has remaining and has in total within a list format, use an interactive chart or graph to provide expedient summaries of data without sacrificing any detail – a particularly important feature on a mobile app given the limited space. Integrate health data from wearables to mobile apps (and vice versa) to encourage consumers to exercise regularly or eat healthy. Health assessments and connecting fitness apps to track movement are the most commonly rewarded activities, currently recognized by a majority of insurance platforms. Some insurers, such as UnitedHealthcare and Humana, are ahead of the curve, offering separate health and wellness reward program apps that employ push notifications to remind members to keep up with goals, such as “remember to get between seven and eight hours of sleep tonight" and "you have 2,000 more steps until you reach your goal for today.” See also: A Road Map for Health Insurance   While the healthcare industry overall still has a long way to go, digital health companies and startups have leveraged advancements in technology to enhance the mobile health experience for consumers. As functionality continues to improve and usage increases among younger members, the need for effective member support will become critical. Insurers should take note and make mobile health a priority – including functionalities and resources to help members better manage their health. We’ll all be better off as a result.

The commercial property and casualty (P&C) insurance industry has a classification problem. The overlapping use of standard industrial codes (SIC), Insurance Services Office (ISO), National Council on Compensation Insurance (NCCI), North American Industry Classification System (NAICS) and a dozen or so other carrier-imagined coding systems are creating a growing number of problems for insurance companies and agents alike. Ambiguity, misuse, line of business (LOB) specificity, misunderstanding and straight-up miscategorization leads to missed sales opportunities, higher underwriting costs and unexpected exposure to risk down the road. It’s time for the industry to examine risk categorization and take a fresh shot at solving the classification problem. The problem is, many of the fundamental issues stem from limitations of the underlying classification systems themselves. Dude, SIC Standard Industrial Classification (SIC) is like the mainframe computer of classification systems. Wildly out of sync with the modern world, it somehow is still extraordinarily prevalent in the wonderful world of insurance. SIC was first established in the 1930s as a way for government agencies to speak the same language with one another. Obviously, American businesses of the '30s, '40s, '50s and '60s looked very different than the business of today. SIC was developed mostly as a taxonomy for an industrial economy. Attempt to look up the SIC for web developers, for example, and you won’t find it. Many other modern businesses are also missing, because the SIC system itself was retired in 1997. SIC includes broad classifications and generalities, which are largely too unspecific to be of much use in classifying risk. Consider a fairly common code: 5812: Eating Places. Naturally, one would think immediately of “restaurants,” right? Unfortunately, that code also encapsulates industrial feeding, dinner theaters and sports arena concessions. While many insurers would likely write the GL on a restaurant down the street, few would be inclined to touch industrial feeding (whatever that is). What’s good about SIC is that it’s insurance agnostic and has applicability to all lines of business. What’s bad about SIC is that it’s too broad and, perhaps even more of a deal breaker, it stopped being updated two decades ago. See also: Future of Securities Class Actions   The Last DJ There’s a line in a song by Tom Petty & the Heartbreakers that wonders, “the boys upstairs want to see how much you'll pay for what you used to get for free.” This comes to mind anytime anyone advocates for a proprietary classification system. Setting aside the often-high licensing cost, these schemes are also almost always hardwired to the insurance industry, often because they have roots in rating. There are at least two significant consequences to this hardwiring. First, it creates a user experience challenge. This manifests itself to the policyholder, be it on an insurance form or a website. For an industry outsider, categorizing a business using an insurance code is just plain hard. This user experience deficiency also extends to the agent or CSR who must first be trained in the codes themselves before being able to begin to apply them. Second, and of increasing consequence, these values are not found in publicly available data. As insurers and intermediaries continue to integrate with any and all available public data to improve underwriting and reduce sales friction, proprietary, industry-specific classification is always something that will have to be derived after the fact, creating an exposure for error. With the continued use of proprietary classification schemes, industry participants are paying a bundle to speak a language that’s foreign to the rest of the economy. LOB-Specific Systems Workers’ compensation (workers’ comp) is perhaps the best example of a LOB with a classification system developed for pricing. Workers’ comp codes are exceptional for pricing workers’ comp. These codes do the job perfectly, but a coding system designed to attribute premium to payroll classes is not the same thing as a classification system to categorize the aggregate risk associated with the operation of the business. As an example, any insurer that has ever written workers’ comp will know that two of the top “classes” are clerical and outside sales. But what does that business with those exposures actually do? Is a business with clerical exposure an office full of desk workers, or is it a couple of managers at an industrial chemicals factory? The problem with workers’ comp codes, in particular, is that they describe what specific employees at the business do, not what the business itself does in the big picture. Expressing risk appetite is challenging, if not impossible, using payroll codes as a basis, and it’s difficult to convert these codes into eligibility for other LOBs for cross-selling other lines. A higher-level description of what the business actually does is required for portfolio underwriting — payroll codes are not sufficient. The case for NAICS NAICS is provided for free by the U.S. Census Bureau. NAICS classification provides very detailed descriptions of what it is that the business actually does, and, thusly, what exposures come with its operation. NAICS replaced SIC in the late ‘90s. In terms of detail, SIC codes are like on old tube TV, and NAICS is like a 4K flat panel. This high-definition classification has been updated to reflect the service economy and has a much lower level of detail describing exactly what a business does. The eating places conundrum discussed earlier in the context of SIC is a great example. With NAICS, it’s actually possible to code the restaurant down the street differently than a snack vendor at a stadium. As an insurer responsible for underwriting such risks, a high-definition description of the business operations is tremendously useful for pricing and underwriting. Clearly, not all eating places have the same exposures, so NAICS is a fantastic way for commercial insurers to express appetite. (Cafes, yes. Dinner theaters, no.) NAICS is also updated on a five-year rotation, most recently in 2017. Each revision builds on the last, incorporating new and emerging business types. Furthering the case for NAICS, the U.S. government has incorporated it as the go-to system for business classification, meaning that publicly-available data sources can and do provide these codes. See also: Chatbots and the Future of Interaction   A Call for Class Action Adoption of NAICS as as a standard for commercial P&C risk classification benefits the industry in all phases of the policy life-cycle — from reducing friction in how products are distributed; to reducing exposure to mis-categorized risk; and to enabling portfolio underwriting, all while supporting the new businesses being created in the modern economy. It’s long past time we all got on the same page.

We have all become totally wrapped up in the “Innovation Theater.” Some have complained of song and dance routines; others, like Steve Blank, have described their view of “innovation theater” based on the current obsession of setting up outposts, mostly in Silicon Valley. We seem to be layering on more and more activities to grab the attention and spread out our innovation resources. This exploring of different innovating activities includes a growing number of many of our larger companies (perhaps with deeper pockets) trying a variety of creative thinking concepts. At first, they try to imitate startups — going to Silicon Valley, taking organized bus tours, guiding money to accelerators, attending the latest “fashion show”/conference/workshop, hiring a prophet or innovation guru, setting up offices/layouts/hot desks/open formats with creative areas, encouraging the “casual” and changing the environment to how they think innovation will work and thrive. Honestly, the list gets longer by the day. Is this for excitement and buzz, trying to show that large organizations are hip, reacting to market and shareholder pressure? Or is there a real underlying purpose of building innovation capabilities in well-thought-through ways? All this activity shows that innovation should be treated as different I have absolutely no problem at all with any of these activities. They are creating and changing the innovation environment, climate and culture. But to draw out some of the necessary differences that are required to create a clearer innovation environment, let’s start with the need for different attention, different attitudes and different treatment to connect it all. Innovation needs to be treated for what it is: emerging in design, not established in its routine and maintenance of what has been achieved to date. Innovation holds the future, and that is always uncertain, unpredictable and uncomfortable. Yet, is the sum of all these efforts actually moving that innovation needle forward? Are we seeing an accelerating growth from our innovation efforts, especially from large corporations? It is highly questionable when most of our larger organizations are mostly short-term-focused and highly risk-adverse. Innovation simply struggles to sit alongside( or even within) the business when there is this overriding need to be cautious and horizon-one-driven. We often end up with better incremental innovation, whereas the radical or distinctive innovations still seems to remain elusive. Step back before we take on more of the innovation theater Perhaps we need to step back before we keep investing in all this worthwhile “innovation theater” and restate some of the very basic needs on what innovation needs to achieve. There are some basic tenants for innovation.

1. In all our activity and pursuit of innovation, we need to maximize the value. We need to learn how to make better investment decisions. This is not to drown ourselves in even more metrics that are aligned far more to the mature organization. Most of these don’t even work in innovation exploratory work. It is the art of constructing better investment decisions that simply increases the return on innovation investment with better value outcomes.
2. We need to find sustaining ways to balance our investments. All the initiatives that require innovation investment need to be managed effectively. You can’t hide from this fact, otherwise innovation remains ad hoc, often discovered by chance or simply copying others to keep growth moving along. Balanced portfolio’s and healthy pipelines are essential to deliver the best message to the ones supplying the money of “we are focused, back us.”
3. We continue to fall into those easy traps of not aligning innovation to the business strategy. We fail to have a robust understanding of alignment and often get caught up in the excitement of a discovery that is totally disconnected from this alignment but was a wonderful experience to work upon. We do need to align innovation to corporate need.
4. We fail to establish different time horizons of innovation need. Finished innovation outcomes do not neatly fit into the calendar year; they need to be seen and evaluated differently, based on their complexity, newness to the world and value potential. The three frames of thought, referred to as the three-horizon framework, break innovation down into three horizons. Horizon 1: goals or outcomes that contribute to the immediate plan and can be budgeted in good, granular ways with solid detail. Horizon 2: goal objectives that move concepts or ideas forward but have longer-term horizons before they yield a outcome return, where some actual spending gets accounted for in multiple years where you can provide reasonable forecasts or milestones towards validation. Horizon 3: ideas that offer the potential for a new state of innovation that explore many unknowns but are working toward a new future state. This final horizon is where pilot money is allocated and projected out over learning activities and agreed milestones; where understanding and recognizing investigation may involve years of exploration, connecting up multiple dots and growing recognition of different degrees of failure. Planning and acknowledgement of each horizon need must be recognized as distinct, accounted for in their differences and laid out in some form on innovation roadmap to cover all three for balanced progression.

See also: Innovation Maturing Into Major Impacts Speeding up innovation comes in thoughtful ways There is this missing element of knowing the best speed of innovation, and, surprisingly, this can come through managing a robust portfolio management system to speed acceleration and acceptance. If we don't have this clearly defined pathway or roadmap, we can't create the culture of innovation that is required to offer a sustaining route. A route where people, ideas, concepts, processes and tools can be developed, refined and improved to sync on a sustaining basis. If we allow innovation to disconnect and remain fuzzy, we enter the world of guesswork, lowering the identification of leadership buy-in. Getting this pathway established takes lots of hard work, and it needs a broad governance understanding and a combination of piloting and shepherding of all its areas across the parties that have a vested interest. I have continually recommended an overarching integrated innovation framework approach (a work mat methodology) to work through as it clarifies and communicates the innovation intent throughout the company. It is the “combination effect” of strategic alignment, with innovation investment providing thoughtful resource allocation and accessing good information and data that progressively reveals itself as the innovation potential we are in search off. This requires high levels of visibility across all parties or stakeholders to deeply appreciate how innovation is contributing into the total corporate picture. Many often argue that by having a structured innovation process, this portfolio management approach slows down the process. Established and accepted tools inhibit freedom of selection, and established processes often take away essential decisions and flexibility. Perhaps. Regretfully, in large companies you do need to optimize. It's engrained in the way business is done. Operationalizing innovation simply doesn't crush creativity or entrepreneurial spirit; it helps provide checks and balances and assess risk if it is more visible or structured for the multiple voices to relate to. The coordination of this is hard work, often trapped within the stage-gate process, which can, if allowed, be a pity if it becomes too overbearing in its process evaluation needs. I liked the “What’s Next? After Stage-Gate” provided by Dr. Robert Cooper, the creator of the Stage-Gate, that suggests taking a triple-A approach (adaptive, agile and accelerated) toward modernizing the gate-process. The table of the next-generation system — alongside the established, well-known Stage Gate method within this document — offers a view on am ideas-to-launch methodology that reflects more of today’s reality. Look a little deeper into the portfolio management system Firstly, managing the portfolio management system is a skill. It needs to account for this balanced investment in innovation to achieve different horizon objectives of business need. These innovation investments need funding, resourcing and tracking as they progress to move toward those business objectives. It is made up of desired business objectives and the concepts that contribute to this. The portfolio is dynamic and should be evolving and optimizing. It needs to be visible, and it really requires a robust software solution to allow traceability, tracking and monitoring — meaning the portfolio needs to be structured and repeatable. To invest in such a system, you can assess its return through different criteria. You can check the work undertaken if it aligns into the company strategy. Decisions can be tracked, traced and measured for time. You can look at things based on resources to bear and development decisions to be made. You can be alerted to slippage and delve into the reasons why. Additionally, the system can visualize the dynamics within the product portfolio to allow for better decisions and recognition of innovation’s contributions. One critical point of any portfolio management system is setting the right investment criteria It's not simply ideas that need to be within the PPM. Concepts, development initiatives and in-market products need to be included if you want a clear line of sight into your innovation portfolio. There are multiple perspectives to determine their level of fit and importance. For example, you have the expected financial value (revenue, achieved and projected — ROI, NPV, IRR, RONA, etc.) that constantly change as data and information change; they are highly dynamic and valuable if they are constantly updated. Then there’s the need to establish the customer/consumer value, the strategic value, the degree of alignment and the outline of feasibility and the ongoing indication of resource demands. There also needs to be a note made of dangers to be flagged if there are signs of slippage or changes in key criteria that require collective management attention. CISCO has developed a “Value at Stake” that looks at the value often left on the table because of a lack of digital investment or thinking in broader value generating ways. This investment criteria takes on a whole forward-looking assessment when you look through this type of value-by-the-stake concept. Establish a basic but critical set of criteria for a good product portfolio assessment We must establish a consistent set of messages to guide the conversation and assessment for those to recognize the innovation contribution value. So often we fight shy of attempting these, and this is even more often the reason why innovation fails. Of course, finding, validating and explaining these in clear factual ways is hard, because much in innovation is unknown. Avoiding the attempt to quantify simply relegates innovation to a side show. Management is sensible enough, in most cases, to recognize much can be open to interpretation and still needs clarifying. We must accept we don’t live in a perfect world and that innovation is balancing emerging ideas within a set of risk judgements. I would suggest embracing this part of any discussion robustly and taking it as essential — it prepares you for strategic management. Strategic criteria in any assessment You have to show the rate of change, risk and transformation that everything is undergoing — your markets, your competitors, etc., anywhere technology changes. Get a good handle on your competitors' perception, directions of travel and strengths/weaknesses. You need to be ready to highlight competitors' specific initiatives or recent patent activities that show emerging hotspots and might even point to emerging opportunities. Know and be able to clarify your position in the industry, across markets and in customer perceptions. There needs to be a healthy discussion on the appetite of risk, experimentation, learning and impact of technology. See also: Innovation Pivots: 10 Lessons Learned   The specific innovation criteria assessment The specific innovation criteria assessment includes the uniqueness of the idea or concept, probabilities of success from different perspectives of technical and commercial challenge, the current and predicted cost to completion and the timing and any next decision points where investment is required. Then you need to discuss the barriers or potential of ease of copying by others and the forecasted durability of any competitive advantage or new emerging ones. These need evaluating and rating within the portfolio to provide a clear understanding of the value of innovation. Summary If you don’t have a good, robust portfolio management system in place for innovation, you will struggle. No amount of innovation theater will make up for this basic need. Portfolio management is a cost that it requires dedicated resource commitment and investments (in specialized software and dedicated people schooled in project management and strategic and tactical evaluations). A good management portfolio has a central role to play in contributing to your innovation activities. If the innovation theaters generate sound and excitement, how you house and capture the value will determine if the efforts are well-directed, well-centered and fit for purpose. The article was originally published on Hype.