I am sure we are all familiar with the Intel slogan, “Intel inside.” This has been a very powerful tagline and one that has helped Intel become the dominant PC chip supplier. (I know I was very influenced by the slogan and very rarely bought a non-Intel PC as a consequence.) But I believe that this slogan will be rapidly replaced by “AI inside” because I believe we are almost at the point when ALL future apps will include elements of AI. I also believe there is a very good chance that Amazon's Alexa might become the de facto automatic speech recognition platform that will sit in front of (outside) every single app in the future.  (My rationale is here.) Why do I say this? First, you need to recognize that AI is not one singular, all-embracing technology. Rather, it is a set of technologies that hope to emulate the way a human interprets and acts upon information — albeit at the speed of light and (we hope) without error, on a 24/7 basis. As such, AI includes technologies such as natural language (voice) processing (NLP), semantic analysis and cognitive processing. Second, these technologies have become pervasive. The CEO of IBM recently announced at Davos that Watson (a supercomputer and a collection of AI APIs) is now having a (positive) impact on the lives of some billion people (about 1/7th of the world's  population). I don’t know how many Echo and Dot units have been sold by Amazon (it must be tens of millions, at least) but each unit gives you access to Alexa, which uses both voice recognition and processing. See also: 10 Questions That Reveal AI’s Limits   Third — and most important — you don’t need to have a degree in AI (any more) to deploy AI. AI was notionally conceived by Alan Turing in 1936 (but, in one sense, you can trace the origins of AI all the way back to Archimedes!). I was taught elements of AI at university in the early 1970s, but I didn’t have a chance to develop an AI app until the mid-1990s when I was a consultant for the Nationwide Building Society. We had just finished a ground-breaking piece of work that involved the development and deployment of the world’s first touch-screen-driven, customer self-service system. This system was a huge success on all measures, so the client I was working for at the time asked me: “How far can you take this idea? Could you, for example, develop a system that’s as good as — or even better than — our best sales person?” Without knowing it at the time, he was asking me to develop our first AI system. Fortunately for me (because I am certainly not an AI expert), Accenture had just hired an authority on the subject. He was swiftly assigned to my project team, and we stepped once more into the unknown world of innovation. We started by gathering a team of the client’s top sales people. We then sat them down with our AI expert, who had been carefully briefed on the rules governing the sale of regulated products. We also called in the services of a user experience designer to obtain a better understanding of people’s risk appetites and option requirements. Last, but certainly not least, we asked a group of customers to help us develop the system that would be designed for their stand-alone use. The result blew everyone away. It even won the support of the U.K. Financial Services Authority (FSA), which agreed to assess the system for compliance. The FSA tested and analyzed every aspect of the new application — and then signed off. It was the first time the FSA had ever approved a sales platform that removed the need for a sales person. Remember, this happened in the early '90s — long before Java, Windows 95 and the first PlayStation were launched. Our system is a tribute to a client who not only had the vision to see the possibilities but also had the courage to take on the challenge — as well as the very real risk of failure. However, there is a sad but rather revealing postscript to this story. What happened to this ground-breaking system? Well, it was lauded, feted and widely acclaimed — and then quietly shelved. The building society decided to focus on building its Systems of Record (SoR) rather than its Systems of Engagement (SoE). And, sad to say, that was not an uncommon fate back then. Real innovation is often too radical for most risk-averse management to stomach. Sometimes it takes time to build an appetite for the truly ground-breaking. And maybe — just maybe — 20 years later, that time has come. There was another problem: I only had one AI programmer at my disposal, and there weren’t that many more in the U.K. at the time. Given this, it would have taken a considerable amount of time to build an industrial-strength application that could have been put into the hands of any customer. But now we don’t have that problem. One of the firms we at Clustre represent is an AI consultancy that is AI-technology-agnostic. It conceives, designs and builds AI-driven customer and employee apps that use a variety of AI technologies — as appropriate. It was recently asked by a loyalty card operator to show how AI could be used to allow a card holder to get an answer to a query without talking to a human or having to scour through FAQs (which I think are generally pretty useless). The firm created a web-based chat bot that used Watson to help recognize and understand the question and used another product to drive the Q&A process and, ultimately, answer the question. So clever is the bot that it can easily handle misspellings and allow the questions to be phrased in a variety of ways and still operate properly. I would hazard a guess that this tool could handle at least 50% of all customer queries (the rest would be handed off to a human to resolve). That’s a lot fewer calls that need to be routed through to a human. See also: Why 2017 Is the Year of the Bot   So, you may ask, how many days did it take our AI consultancy to design and build this AI-driven chat bot? Just five. Five days to design and build a tool that could potentially reduce call center volumes by around 50%!!! AI has truly arrived, and everyone should be looking at how you are going to deploy it NOW!

The vastness of the opioid crisis is all around us:

• 259 million opioid prescriptions are made every year.
• 91 Americans die every day of opioid overdose.
• Workplace costs of prescription opioid use are more than $25 billion, driven by lost earnings from premature death, reduced compensation or lost employment and healthcare costs.

It’s time to take action. See also: Opioids: A Stumbling Block to WC Outcomes   As with any large-scale, complex phenomenon, there is no silver bullet. But a framework from the Johns Hopkins Bloomberg School of Public Health suggests three areas where we should focus our efforts: preventing new cases of opioid addiction, identifying opioid-addicted individuals early and ensuring access to effective opioid addiction treatment. We believe these areas must be attacked from a variety of clinical and operational angles. From the clinical side, the emphasis has to be largely around better clinical training and urinary drug testing (UDT). A generation of doctors has been raised based on a curriculum emphasizing the need to manage pain aggressively. Retraining physicians on best practices is needed to reinforce safe opioid prescribing patterns. Research from Utah has shown that physician education on recommended opioid prescribing practices was associated with improved prescription patterns, including 60% to 80% fewer prescriptions for long-acting opioids for acute pain. When an opioid is prescribed, the use of UDT is a cost-effective way to monitor treatment compliance and drug misuse. To address from the operational side, we need evidence-based opioid prescription guidelines in place and systems to track opioid prescriptions and adherence to guidelines. Further, we must ensure access to effective opioid addiction treatment. Many health organizations and state health systems are aggressively adopting pain treatment guidelines that clearly lay out when opioids should and should not be used. And the preliminary results of implementing these guidelines are promising. For example, the introduction of opioid prescribing guidelines in the Washington state workers’ compensation system was associated with a decline in opioid prescriptions, the average morphine equivalent doses prescribed and the number of opioid-related deaths. Prescription drug monitoring programs (PDMP) allow for health systems to analyze opioid prescribing data to find potentially inappropriate prescribing behavior and illegal activity. For example, using its PDMP, New York City found that 1% of prescribers wrote 31% of the opioid prescriptions. While prevention of initial opioid exposure is important, the treatment of opioid addiction is an important safety net when prevention fails. Pharmacotherapies including methadone, buprenorphine and naltrexone are options for routine care of opioid dependence, but they are still in the early stages of the adoption cycle. See also: Potential Key to Tackling Opioid Issues   The foundation to address the clinical and operational approaches to opioid epidemic is two-fold:

1. A strong system to determine what’s acceptable through well-defined, evidence-based guidelines; and
2. A system to use these guidelines and trigger the right actions through processes and technology.

The next article will address the nature of these two systems.

If you feel like insurance is changing faster every day, you’re not alone. According to our most recent research, published in 2017 Insurance Technology Priorities and Spending, 37% of insurers reported that the pace of change is keeping them up at night. Insurers find themselves facing two very different challenges: the accelerating pace of change and the need to transform and modernize their business. Our industry stands at their intersection, and these two imperatives can seem very much at odds. We are driven to become highly responsive to market opportunities, personalized to customers’ evolving needs and in sync with the changing insurance ecosystem as well as the technology landscape that supports it. The flexibility necessary to take on these new roles is a challenge to any insurer’s organization — and their infrastructure must be aligned to meet these business needs. See also: 3 Reasons Insurance Is Changed Forever   Of course, this is much easier said than done. The sheer scale of core modernization projects can be daunting, but legacy systems simply cannot provide the adaptability that insurers need to thrive in this new environment. Today, insurers are well aware of this quandary. In SMA’s annual research on IT strategic initiatives, core systems have always been a high priority for insurers. This year, however, the picture has changed. In our research on IT priorities and spending, we found that the No. 1 business project for all lines of business — personal, commercial, life, you name it — is policy administration systems. We have been tracking this data for years, and policy admin has never been insurers’ top priority. Much of the focus this year is on the enhancement of the current systems in place, rather than on full replacement. This finding could either be a good sign or reflect one of the fundamental challenges of our industry. If these policy admin projects are focused on implementing new coverages, products and services and on adapting to the digital needs that require access to transaction capabilities — and in a time frame that meets the business needs — then there is great alignment with the greater direction of the industry. But if the effort is mired in multiyear implementations of modern systems or the struggle to enhance the systems to meet today’s standards, then there is an issue that needs to be addressed. Can the whole insurance ecosystem embrace fast implementations, the flexibility to change products on the fly as new opportunities arise and accessible integrations as well as APIs to be able to leverage advancing technologies? That will require a new mindset for both insurers and solution providers. Insurers must rethink their approaches to core projects to meet the needs of the pace of change and the shifting market. Solution providers must ensure that their solutions support the speed at which insurers need to move. See also: How to Lead Change in an Organization   Share your core modernization experiences with us by participating in our latest research study on the state of the insurers’ core environments. Reflect on how you and your company are contributing to a more responsive industry, regardless of your role in the insurance ecosystem. What can you do to adapt to this new norm? We all have to accept this new world order as quickly as we can — the clock is ticking.

Over the last decade, economic capital has captured the risk management spotlight. Recognizing its merits, insurers have deployed economic capital for many uses. Regulators now rely on it, too — especially internationally — and have put it at the center of their prudential regulatory agenda. Economic capital (defined as value at risk over a year) has two unique and extremely useful characteristics. First, the concept can be applied to any event with an uncertain outcome where a probability distribution of the outcomes can be postulated. Thus, insurers can value, in a consistent and comparable manner, very different risky events — such as mortality claims, credit losses and catastrophic property damages. Second, economic capital calculated for a portfolio of risks can be readily subdivided into the economic capital attributable to each risk in that portfolio. Or, alternatively, economic capital calculated at the individual risk level can be aggregated to economic capital at the portfolio level and beyond, across portfolios to the enterprise level. However, there are four critical enterprise risk management (ERM) tasks for which economic capital is not an effective tool; unfortunately, because of this, we have observed a tendency for risk managers to de-emphasize those tasks and sometimes ignore them altogether. We believe this should change. See also: How to Improve Stress Testing   In response to these shortcomings, insurers should take full advantage of stress testing, a valuable risk management tool that is on par with economic capital in terms of its potential to help solve problems and improve performance. And, because stress testing enables insurers to tackle many of the important tasks that economic capital cannot, it gives insurers the opportunity to double the size of their risk management tool kit and thereby double their ERM output. Liquidity By design, economic capital assumes assets and liabilities can be monetized at their formulaic values — that is, at the values derived from the probability distributions’ assumptions. But, as we saw in the credit crisis of 2008-09, credit markets can seize up under extreme stress. When that happens, many assets — regardless of their formulaic value — cannot be sold at any price. Because of this, economic capital is not an effective tool to understand and manage liquidity risk. To address the risks posed by insufficient liquidity, insurers need to play out meaningful stress events and postulate how they might affect both the ability to monetize assets and the asset’s price if they can be monetized, as well as critically assess the ability to actually access pre-arranged credit in the event these stress events unfold. Then, with an understanding of the likely challenges these stresses may impose, insurers can test the effectiveness of the potential mitigating strategies that they can deploy immediately or when stress events begin to unfold. Selecting and documenting the most effective options can become the insurer’s liquidity risk management game plan. Diversification Diversification is a cornerstone of effective insurance underwriting and risk management. The industry acknowledges the benefit of diversification across similar, independent risks and is able to apply considerable mathematical rigor to measuring this benefit. However, matters become less certain when attempting to quantify diversification across dissimilar risks such as mortality, credit and catastrophe. Extending the benefits of economic capital across risks requires that the capital amounts assigned to different risk types be combined. Recognizing that extreme outcomes for each risk type are not likely to occur simultaneously, the combined capital requirement is typically calculated as the sum across risk types, with a credit given for diversification. Deciding how much credit should be assigned for diversification is a critical question in establishing the enterprise’s total required capital. Unfortunately, historical information about the precise interaction of disparate extreme events is sparse. Empirically, establishing diversification credits is difficult at best and is largely impossible for some combinations. For enterprise risk capital, a best guess may have to suffice. But, just because such a guess is sufficient for the purpose of ascribing required capital, it does not follow that it is sufficient for other purposes — particularly for charting a course of action across all risk types in the event of an extreme risk occurrence. Stress testing is useful for this purpose. Playing out the series of interactions and events that could follow from a catastrophe such as an epidemic will yield much more actionable information than guessing the magnitude of the diversification credit. Constructing a future scenario that thoughtfully considers how an extreme event in one risk type will have an impact on others is key. These impacts occasionally are asymmetric and not easily accommodated in a standard diversification credit matrix. For example, we can be fairly certain that an extreme drop in equity values will not have significant impact on mortality rates. Conversely, it would seem imprudent to assume that an extreme pandemic would not have any impact on equity values. Business risks In a survey of insurance company board members and CROs that PwC conducted in June, the area where board members felt more attention would be most beneficial was “searching for, understanding and finding ways to address new risks” — meaning risks outside of traditional insurance, credit and market. Upon further discussion with the survey respondents, it became clear that they are not as interested in esoteric dialogues on black swans or unknown unknowns as they are in addressing more practical questions about currently evident business risks. In particular, survey respondents want to understand how those risks could materialize in ways that have an impact on their companies and how to mitigate those impacts. Using stress testing to map out the impact of these business risks will help insurers assess how serious the risks are. The stress projection can measure the impact on their future financial condition after a risk event. And if the impact is significant, they can further deploy stress testing to map out potential management actions to reduce the risk’s likelihood of impact or mitigate damage if the impact occurs. Having an effective course of action is far better than hoping black swans won’t materialize. Excessive capital If insurers use only the economic capital tool, then there is a real risk that it will become a hammer, rendering everything in its path a nail. On discovering a new risk, the most likely reaction will be to call for more required capital. However, in the case of, for example, liquidity and business risk, a more effective approach is to use stress testing to create a plan for reducing or eliminating the risk’s impact. Likewise, seeing economic capital as the sole means of addressing insurer insolvency can lead to an overly restrictive regulatory agenda that focuses only on the economic capital formula. This unfortunately appears to be the case in the development of some required capital standards. We think a more productive approach would be to recognize that no economic capital formula will ever be perfect, nor can one formula fit all business and regulatory needs around the world. Instead, a simpler formula augmented with stress testing can form a more effective, globally consistent solvency management framework. Moving to the next level In the paper we published earlier this year about the results of our stress testing survey, we noted that stress testing is well established in the insurance industry. Insurers use it for many purposes, and it has had significant impact. In fact, 36% of survey respondents indicated they have made key decisions markedly differently than prior to or without stress testing. A further 29% indicate stress testing has had a measurable influence (though no single key decision came to mind). The paper also identifies areas where only a little more effort can yield substantial benefit: through a clear definition of stress testing, through more thoughtful stress construction and through building a more robust stress testing platform. See also: Risk Management: Off the Rails?   To get the most advantage from stress testing, we have two further suggestions: 1) Insurers should apply a governance framework commensurate with stress testing’s status, and 2) insurers should advocate its use in new areas. A good governance framework should include policies and procedures, documentation, model validation and independent review, as well as review by internal audit. Board and senior management oversight is also important. While our survey report notes that boards usually receive stress testing results from management, we recommend that management engage the board more in the stress selection process. While stress testing certainly can add additional insight to insurance, credit and market risk analysis, economic capital already provides a good foundation in these areas. We recommend that insurers use stress testing, in particular, to tackle business risks where economic capital is not an effective tool. This includes new threats like cyberterrorism and their reputational impact. Stress testing can also be useful for understanding the risk of missed business opportunities, such as the failure to address how emerging trends in technology and customer behavior may have an impact on future sales and earnings potential. We believe that the scope for the application of stress testing is as significant as for economic capital. And as with economic capital, once an effective tool comes into use, many more useful risk and business management applications will ensue.

As I write this article, I hear the lilting melody of Alicia Keys’ tribute to New York City:

“Hail a gypsy cab, take me down from Harlem to the Brooklyn Bri-i-i-i-idge…”

Can you hear it? There are just certain things that jump to our minds when we think of New York. I think of hot dogs, Central Park, awesome shopping, coffee shops, marquee lights on Broadway and “bouquets of sharpened pencils” (yet another New York reference for you movie buffs). What else comes to mind? Taxis… lots and lots of yellow taxis. In the era of the sharing economy, that also means lots and lots of Uber and Lyft drivers. But did you know that an outdated law is keeping New York consumers from taking advantage of a convenience that millions of drivers in other states already enjoy? In New York, a law requires consumers wanting to sign up for new auto insurance coverage to first have their vehicles inspected by their insurance companies. The law was enacted in the 1970s and was designed to protect against insurance fraud. These days, instead of preventing fraud, the law mostly produces frustration. Individuals must have their vehicles physically inspected by a licensed insurance agent or bring them to an inspection site before they can activate their auto insurance coverage. This inspection requirement is ON TOP of the annual inspection required for all New York vehicles. So, someone who owns multiple vehicles could potentially be required to do multiple inspections throughout the year! See also: On-Demand Workers: the Implications   What else does this mean exactly? Old Technology for New Times Well, for starters, a lot of headaches, hassles and inefficiency for consumers. They frequently report:

• Insurance coverage lapsing due to failure to complete the inspection
• Missing work to complete the inspection
• Long wait times at inspection sites
• Inconvenient hours at inspection sites
• Inspection sites with inconvenient locations
• Students at out-of-state colleges needing to drive their cars all the way back to New York to complete the inspection OR re-register their vehicles in another state
• Insurance companies receiving inaccurate information about inspected vehicles

That’s a lot to deal with for the average car owner, who may be balancing a full-time job, college courses and a family and has precious little time in which to get an inspection done. But what choice do they have? For now, none. Mobile Innovation Changes Everything But advances in mobile technology are radically changing the world we live in, empowering consumers to get work done conveniently and efficiently. Smartphones are at the core of this radical change. In fact, according to recent statistics by GO-Global, not only are smartphones being used by more people than ever, but those people are spending 52% of their time on those smartphones using mobile apps. That’s incredible! Statistics also indicate that 18- to 24-year-olds use more mobile apps than any other age group. See also: How to Embrace Workforce Flexibility   It’s no wonder that the global revenue from mobile apps has risen dramatically over the last few years from $35 billion in 2014 to $58 billion in 2016, and in 2017 is expected to hit $77 billion. Why Are Mobile Apps so Popular? 1. Mobility comes in all shapes and sizes Almost 80% of consumers around the world have smartphones, 50%-plus have tablets, nearly 10% have wearable mobile devices and 7% own all three. That high level of usage has had a significant effect on business practices around the world. 2. Location-Based Services (LBS) Most devices currently have GPS capabilities that empower users to get real-time information, right here, right now. 3. Internet of Things (IoT) Again, this advancement in technology provides users with real-time control and information, regardless of where they are. Forgot to turn your lights off at home? No problem. Just log into your smart home app and do it from the comfort of your office. 4. Virtual and Augmented Reality (VR and AR) This technology is revolutionizing how we interact with each other and with other software systems. Mobile app developers are expecting tremendous growth in this area. In short, these mobile apps allow people to find the goods and services that they need quickly, easily and cost-effectively. In other words, the middlemen and gatekeepers have been all but eliminated. Combining Mobility With Manpower So, let's apply those capabilities to the New York, with its outdated law that requires drivers to obtain a vehicle inspection before they can activate their insurance coverage. With today's technology, the answer just isn't that hard. Drivers in other states already have an alternative: smartphone-based vehicle inspection. WeGoLook has developed mobile technology that puts a large mobile workforce at the fingertips of consumers who are too busy or simply too far away to obtain in-person inspections. Others may have their own solutions; ours looks like this:

1. A client needs an inspection, and orders a vehicle inspection report from WeGoLook via the website or mobile app.
2. A “Looker” is dispatched to perform the inspection. (The number of Lookers has grown from 7,400 in 2012 to more than 30,000 in 2016.)
3. The Looker manages all aspects of the inspection from scheduling to coordinating the different parties to preparing the final report.
4. Throughout this process, the client can monitor real-time progress on the inspection via the mobile app’s online dashboard.
5. The WeGoLook app also has photo and text support so that clients can capture the right angles and desired information needed for the report.
6. A management team reviews the report for quality assurance and accuracy.
7. The client receives the detailed report, quickly and conveniently and can download it directly from the app.

Given the power behind mobile technology and flexible workers, like WeGoLook’s Lookers, there is no reason consumers should be locked into doing their inspections at traditional inspection sites. The use of flexible mobile inspectors can solve the problem of drivers having to physically take their vehicles to an inspection site. Mobile apps like WeGoLook’s also allow for "app consistency" -- that is, if a policyholder, insurance carrier and third-party inspector are all using the same platform, there is a better chance of a successful transaction. For savvier consumers, technology like WeGoLook’s app even opens the door for the consumer to self-inspect the vehicle. Certain states already allow self-inspection via smartphone for home inspections and claim inspections after an auto accident. See also: A New Way of Thinking on Assets   In New York, however, for the pre-insurance inspection requirement, a new law would need to be enacted to empower consumers to self-inspect their vehicles using a smartphone app. This dream scenario would give consumers the option of using a WeGoLook Looker to complete their inspection, of self-inspecting the vehicle using WeGoLook’s app or of completing the inspection via the traditional route. WeGoLook: On-Demand Solutions That Save Time and Energy! The beautiful thing about a mobile app service like WeGoLook is that it will offer consistent and trustworthy results regardless of who requests the report -- the policyholder, a third party or the insurance carrier. So, if you’re a busy and productive citizen of New York state, why not save yourself a heap of time and energy? Smart use of technology benefits everyone involved. So, this spring, I urge Albany lawmakers to enact a new law that would help consumers put today’s smartphone technology to better use. Let’s give New Yorkers smartphone-based options for their pre-insurance vehicle inspections.

Despite awareness that hackers are relentlessly launching cyber attacks, according to a new survey, most companies say they don’t have a clearly defined risk strategy or one that applies to the entire company. The survey, conducted by the Ponemon Institute and sponsored by RiskVision, polled 641 individuals involved in risk management within their organizations. More than half held executive and management positions. “There is a big disparity between awareness and implementation of risk management practices,” says Joe Fantuzzi, CEO of RiskVision, a Sunnyvale, CA, enterprise risk intelligence company formerly known as Agiliance. Eighty-three percent of those surveyed say managing risk is a “significant’ or “very significant” commitment for them, but 76% say their organizations lack a clearly defined risk management strategy or one applicable to the entire enterprise. Only 14% of survey respondents thought their organization’s risk management processes were truly effective. Other survey findings:

• More than half of organizations lack a formal budget for enterprise risk management. Organizations with a formal budget have allocated an average of $2.3 million for investment in risk management automation in the next fiscal year.

• Four of every 10 respondents say “complexity of technologies” that support risk management objectives are a “top barrier.” Roughly the same number says other challenges are an “inability to get started” and difficulty hiring skilled workers.

• Sixty-three percent of respondents fear a poorly executed risk management program will damage their company's reputation. Other top concerns are security breaches and business disruption.

• More than half of respondents say there is little collaboration in managing risk among their finance, operations, compliance, legal and IT departments. They complain of “operating in silos.”

• Sixty-nine percent of respondents say their organizations don’t rate assets based on how critical they are. The same percentage says their enterprises either don’t have — or the respondents are unsure if they do have — metrics for determining risk intelligence effectiveness.

More respondents (19%) work in financial services than any other industry. Respondents in the public sector were next (11%), followed by healthcare (10%) and industrial/manufacturing (10%). See also: Urgent Need on ‘Silent’ Cyber Risks   Reputations at stake The survey’s most surprising finding, Fantuzzi says, is companies’ concern about their reputations. “We often get caught up with headlines about breaches, but what stood out the most was the overwhelming majority of organizations that fear long-term brand damage above all else,” he says. Fantuzzi says data breaches or disruptions to business are still major concerns for organizations. “But if you asked these same organizations just a couple years ago when major brands were making headlines for record-breaking breaches, I would argue that was the top fear of executives and board members across every industry.” There are “dozens of reasons,” Fantuzzi says, about why three-quarters of organizations lack a comprehensive risk management strategy. “Critical roadblocks,” he says, include “the complexity of technologies or not knowing how to identify the appropriate solution for your environment, the lack of resources from a financial or personnel perspective or the basics of not knowing where to start when putting together a strategy.” Automation and awareness improve The study concludes, however, that organizations “are slowly improving the maturity level of their risk management program.” Eighteen months ago, only 21% of organizations represented in the study measured their risk appetites in real time using automated business unit decision-making, board-level risk analytics and metrics trending. Today, 32% say these activities are part of their risk management program. See also: First Line of Defense on Cyber Risk   The study also concludes that an increasing number of companies are automating risk management programs. Eighteen months ago, 53% of organizations represented in the study used “top-down, assessment driven, reactive, manual processes, spreadsheets and siloed information.” Now, 33% have advanced to a bottom-up, process automation, “effective with limited efficiency, centralization and analytics.” Thirty-five percent have advanced to top-down, bottom-up optimization “with real-time enterprise risk intelligence analytics for actionable business decisions.” This article originally appeared on ThirdCertainty. It was written by Gary Stoller.

There is a growing energy around trying to predict the future of the insurance industry. Much of that energy is aimed at the use of technology and seeing what’s possible when we apply new stuff to our current approach to handling risk. I’m more interested in the future of handling risk, as that topic gets to the purpose of our industry. When you look at many of the startup companies attempting to disrupt or reinvent insurance, at the end of the “ultimate” experience, we are still delivering a policy … a hunk of money to replace the financial loss from a seemingly random event. So what might that future look like? Here are a few possible frames for that answer: Finding new, emerging risks Risks are both great and small. Loss of life, health and home are financially catastrophic to most people, and the insurance industry has been keenly focused on these risks for decades or centuries. Smaller risks, like the loss or theft of a phone or credit card, interrupt the continuity of one’s lifestyle but are perhaps not a catastrophe; however, they are a nuisance that insurance can ease. And then there are new, emerging risks that the industry is and should be serving, such as cybersecurity and “overliving” one’s assets. See also: Shaping the Future of Insurance Prediction and prevention of risk There is also a school of thought that suggests the insurance industry should enter the space of prediction and thereby prevention of certain risks. Data is critical to the underwriting of all kinds of insurance and is traditionally used to set rates. This includes weather patterns, health statistics and lifestyle information. Why not turn this data outward and offer products and services that let consumers in on the patterns, perhaps helping them to avoid risk in the first place? This is smart; however, I am not sure the insurance industry is wired to provide services vs. products. What about power? Where does the power from the current insurance model come from? While we have many experts who know a lot about the numbers, stats and so forth, the power really comes from the raw material that makes insurance: people and their money. While the thought of people being the raw material for insurance may conjure up science fiction scenes akin to the classic film “Soylent Green,” it’s actually true. Getting people to pool their money together for common good is a powerful thing. It gives people with few resources the ability to financially hedge against risk even though they are not wealthy enough to replace their own losses. Where else does similar power exist? One example is utilities. We love to hate our energy companies, water providers, phone service companies and internet providers. But, really, they are doing the same thing — pooling people’s money together to create access to something we couldn't do individually. You can say the same thing about toll roads, trains and other services we share with strangers every day. We tend to see these commonly shared amenities as basic human entitlements — civilization, the thing that separates us from the wild. So in that frame, what is the next “basic” human entitlement going to be relative to risk? Here’s an idea: We know technology is proliferating at an accelerated pace, and  there will be new ways to extend and improve our lives in the future that we can’t conceive of yet. What if the cure for cancer or Alzheimer’s disease or the ability to control the weather is owned by a private company? Will average people have any right of access? The recent story about the EpiPen made my blood boil. Mylan, the company that owns the EpiPen, has recently increased its prices more than 400%, shifting the burden to insurers, which then need to push the cost on the consumer -- because Mylan can. See also: The Future of Insurance Is Insurtech   An August 2016 Forbes article said: “The coup de grâce … [is] that … [this] … will divide the ‘have intervention for anaphylaxis’ from the ‘have nots’ and might die as a result.” Can insurance companies use their inherent superpower of pooling to create a product that acts like a futures option to access technologies that have not been invented yet? Perhaps to place bets on the right companies that are working hard to figure them out, and designing an investment product that gives them research funding now, for the right to access it at a fair price in the future? This, I believe, should be the real future of insurance.

One of President Trump’s stated goals is to initiate significant investment in U.S. infrastructure — bridges, roads, airports, seaports, pipelines, fiber optic cables and water projects. As with any major spending measure — and the most common number being tossed around for this one is $1 trillion — there will be political hurdles. However, the U.S. House of Representatives Transportation and Infrastructure Committee just launched its #building21 campaign effort to promote its vision for 21st Century American infrastructure, calling for significant investment. Infrastructure spending of such magnitude will bring many opportunities for construction and infrastructure companies. Organizations need to be strategically positioned to capitalize on the opportunity, well-prepared to engage in the heightened competition facing the industry and flexible enough to absorb an increasing level of risk. Infrastructure Plans In December 2015, Congress passed and President Obama signed the Fixing America’s Surface Transportation Act (the FAST Act), which increased the collection of gasoline taxes to pay for transportation infrastructure projects. The FAST Act authorized $305 billion for highway and motor vehicle safety, public transportation, motor carrier safety, hazardous materials safety, rail and research, technology and statistics programs. Although FAST Act funds are to be allocated to rehabilitate the country’s transportation network, there remains a significant infrastructure deficit in the country. During his campaign, Trump called for $1 trillion in infrastructure investment in transportation, telecommunications, water, power and energy. Before his inauguration, Trump’s transition team circulated a list of 50 priority emergency and national security projects. Since then, Trump has given every indication that he plans to continue pushing to enhance infrastructure. For example, on Jan. 25, he signed an executive action related to one of the more controversial project proposals, a wall along the U.S.-Mexican border that many experts suggest would cost $15 billion to $25 billion. See also: Insurtech Investment to Flourish in 2017   Against the same funding challenges the Obama administration faced, Trump’s plan calls for much of the infrastructure investment to be driven by the private sector through a series of tax credits and private funding as a means to encourage infrastructure investment in a revenue-neutral fashion. Trump’s plan also calls for the relaxation of various regulations to accelerate project delivery times and reduce cost. Challenges and Headwinds Most Democrats and Republicans agree on the need to improve this country’s infrastructure. A key difference, however, is how to pay for the upgrades. On Jan. 24, Senate Minority Leader Charles Schumer introduced a $1 trillion infrastructure plan that relies heavily on direct government funding rather than on tax credits and private investment. Democrats generally argue that, although tax breaks may encourage investment, they will not necessarily bring about those infrastructure projects that are most needed, because the underlying economics may not make such projects profitable. Despite these political differences, it is likely that some form of Trump’s plan will secure support as infrastructure renewal is a common interest. If an infrastructure spending bill is passed by Congress, organizations in the construction and infrastructure industries will be affected in a number of ways, including:

• Increased competition: With an economic slowdown in some areas of the world and with increasing volatility, a large inflow of foreign capital will likely occur as international contractors seek opportunities to invest in and build U.S. infrastructure projects. Consolidation of market share in the sector is also likely.
• Talent and labor shortage: Already facing a shortage of skilled professionals, the construction industry will need to compete with other industries to attract and retain talent.
• Private investment: Regardless of which infrastructure plan takes hold, public-private partnerships will be a pivotal model to deliver infrastructure in the immediate future. Consider that more than 30 states have enabling legislation in place and are poised to act immediately on already-identified projects.
• Increased risk: We are witnessing an ever-increasing trend of infrastructure projects being delivered through complex delivery methods, including design-build; design, build, operate and maintain; and integrated delivery. All such contracts result in increased risk being assumed by contractors. With competition expected to heat up, contractors will be expected to have greater risk-bearing capacity. Another consideration is that infrastructure and construction companies are increasingly tied to the “Internet of Things” through operational technology, electronics, software and network connections; this brings significant cyber exposures. And infrastructure itself is increasingly a target of cyber criminals.
• Risk financing: Insurers and others continue to develop new risk consulting and risk transfer products and services. Not only do insurers absorb performance and hazard risks associated with infrastructure development, they are increasingly becoming infrastructure investors, as well. It remains to be seen how this level of infrastructure exposure will lead to new products and services or new alternative risk structures.

See also: New Wellness Scam: Value on Investment   The American Society of Civil Engineers (ASCE) estimates that the U.S. will face a $1.6 trillion infrastructure deficit in 2020. Although it is too early to know exactly how the new Congress and the Trump administration will proceed, we believe it’s safe to expect that infrastructure and development will be a hot topic this year and for many to come. If you’re not doing so already, now is the time to discuss with your advisers the risk and insurance considerations at the advent of a likely major U.S. infrastructure investment initiative.

If you'll allow me to be parochial for a moment, I'll start this week with the Oroville Dam, which is 75 miles due north of me. You've probably seen or heard some reference to the dam over the past few days because a series of severe storms in California has caused serious structural problems at what is the tallest dam in the U.S. and forced the evacuation of almost 200,000 people. You may hear more about the dam, too, because California is expecting another major series of storms. While dam operators are now letting water out as fast as they can -- faster than the average flow at Niagara Falls -- they felt for a time that they had to slow because erosion has split the main spillway, and they worried that further erosion would be catastrophic. Water has already "overtopped" a section of the dam and cascaded down a heavily forested area designated as the emergency spillway. If the water level continues to rise, so much will pour down the mountainside that the Feather River may wash out downstream dams and levees and a major highway that serves Northern California.

I'm far enough away that I'm in no danger of having a wave wash through my living room window, but I'm still concerned. The U.S. has let infrastructure investment languish for so long that some 50,000 dams are now past their designated lifespans, roughly two-thirds of those in operation in the country. One of those past its expiration date is -- you guessed it -- the Oroville Dam. Environmental groups and local officials warned about potential problems a dozen years ago, but dam managers dismissed the worries. 

As the problem upriver developed, I was delighted to receive a really insightful article about why so many people and organizations don't prepare adequately for possible disasters. I hope you'll read it here. I also hope you'll take it to heart, because I believe we need to start really thinking about the catastrophes that can occur because of, among other things, crumbling infrastructure and climate change.

The article shows all the psychological mechanisms that encourage people to defer preparation -- we've had years and years of drought in California, so why worry about a really wet winter last year and a crazy-severe winter this year? But we in the world of risk management and insurance are supposed to have the data, the experience and the discipline to help others prepare -- so that hundreds of thousands more people, like my poor neighbors to the north, don't wind up in camps in winter while they wait to find if their homes will be washed away. I hope we rise to the occasion.

Cheers,

Paul Carroll, Editor-in-Chief

2015 was a record year for announced insurance deals, as long-anticipated industry consolidation finally started to occur. Several factors have driven consolidation, notably slow economic growth and persistently low interest rates, both of which have limited opportunities for organic growth and forced insurers to reconsider their long-term competitive strategies. Combined with record levels of corporate capital and private equity funding, these pressures have created the perfect opportunity for both buyers and sellers. Historically, regulatory or financial pressures have driven insurance carve-outs. [An insurance carve-out is a transaction in which a seller divests part of its business (e.g., a particular customer group, product line or geographic area) rather than an acquirer buying the entire enterprise. The seller typically benefits from exiting sub-scale or unprofitable lines, while the acquirer is able to increase scale or geographic reach.] These pressures typically have included repayment of emergency funding received during the financial crisis, fulfillment of regulatory conditions for receiving state aid, divestment to free up capital and improve solvency ratios in preparation for Solvency II, or the shoring up of capital via asset sales following losses. In recent years, we have seen the industry move away from complex multi-line business models. Insurers are exiting sub-scale business lines to improve returns and compete in an environment in which technology is disrupting tradition business drivers. There are many insurers considering carve-out transactions or IPOs as sellers, and there are even more looking to build market share by acquiring and consolidating businesses with their existing operations. See also: Insurance M&A Stays Active in 2016   However, insurance carve-outs tend to be more complex in both transaction structure and post-merger integration than an acquisition of an entire insurance enterprise, and require careful planning and execution to successfully separate the acquired business (“SpinCo”) from its former parent (“RemainCo”). What should executives be aware of when they consider these types of transactions?

• Planning and Organization
  • Confidentiality, maintaining optionality and speed of execution are critical to maximizing deal value.
  • The flexibility to execute deals via alternative structures (described below) helps maintain optionality. In addition, a thorough understanding of the M&A landscape is necessary for sellers to run a competitive sales process and for buyers to understand how to properly position themselves for success.
  • To facilitate speed of execution, executives need to simultaneously focus on multiple priorities, including deal execution, separation planning and negotiation of transitional service agreements (TSAs). Leading practices include having a transaction committee that can rapidly make decisions and a project office that guides the planning effort.
• Transaction Structures
  • Acquisitions of an entire insurance enterprise typically involve the purchase of all of a holding company’s issued stock. The holding company, its subsidiary legal entities, assets and liabilities, products and licenses, people, technology and infrastructure transfer to the control of the acquirer at close. A carve-out requires a different approach. It is rare that the business being sold is fully contained within a single subsidiary legal entity. More frequently, the business being disposed of is written across numerous legal entities and is mingled with business that is core to, and remains with, the vendor. Therefore, carve-outs typically use a mix of strategies to separate the insurance business of SpinCo from RemainCo:
  • Renewal rights – The acquirer receives an option or obligation to renew the acquired business in its own legal entities.
  • Reinsurance – Renewal rights may be accompanied by reinsurance transferring the economics of the historical book either to the acquirer, to other entities owned by the vendor or to a third party.
  • Fronting – Certain domiciles, such as Japan and the U.S., require regulatory authorization of products or rates prior to their availability to policyholders, and such product approval frequently takes longer than regulatory approval for a change of control. When an acquirer doesn’t have regulatory approval to immediately write the business in its own legal entities, the transaction structure typically allows an acquirer to:
    • Continue to issue and renew policies using the vendor’s legal entities for a defined period of time, and
    • Assume the economics of the business via reinsurance. The acquirer frequently is responsible for administering the business (which is still the legal and regulatory responsibility of the vendor’s legal entities) via a servicing agreement.
  • Stock transactions – These are used when assets and liabilities can be segregated into legal entities (e.g. using the European Economic Area’s (EEA) insurance business transfer mechanisms), or when a legal entity, such as a specialist underwriting agency, specifically supports the business being sold.
    • Transfer of assets and contracts/TSAs – Just as the insurance business being sold may be diffused across the vendor’s legal entities, the same may also apply to the people, facilities, technology and contracts with sellers that support the business. While a certain portion of these will clearly align either to SpinCo (and will transfer at close) or RemainCo, there will be a significant subset (particularly in IT and corporate services) that support both and are not easily divisible. For such functions where SpinCo is heavily reliant on the resources of its former parent and it is not possible for the acquirer to fully replace such services prior to the transaction closing, a TSA provides the acquirer and SpinCo with continuing access to and support from RemainCo’s resources after close.

Negotiating the TSA TSAs provide access to the resources and infrastructure of the former parent for a defined period. While in certain simpler transactions, TSAs can be for as little as three months and require only that the support provided previously be maintained at the same service levels and at the same cost basis, it is more common that acquirer and vendor during the months prior to close:

• Understand and define the reliance of the business being sold on its parent (and vice versa);
• Set the duration post-close for each service required under the TSA;
• Agree on the charging basis e.g. fixed monthly fee, usage, hourly rates (for tax efficiency, each service is usually priced individually);
• Establish service levels and post-close governance processes.

The acquirer should set realistic timeframes for exiting from individual services. The complexity of insurance policy administration systems, the frequent integration of certain capabilities (such as billing, commissions, and contact centers) across products and the need to separate networks, migrate data centers and implement replacement mainframes frequently require TSAs of 24 to 36 months. TSAs also may cover centrally provided non-IT services, including HR/payroll/benefits administration, facilities management, procurement, compliance or financial and management and regulatory reporting. However, the duration of these TSAs tend to be shorter – usually a few months, or sufficient to support regulatory and financial reporting for the period following close. Ideally, the acquirer should seek as much flexibility as possible with the duration of the TSA. It should have the right to terminate the TSA early, the option to extend it at pre-agreed rates and the inclusion of force majeure clauses (a natural catastrophe can significantly affect exiting from a TSA). Contract assignment and access to shared reinsurance An area of often-underestimated complexity in carve-outs is the need to ensure that the separated business can continue to receive the benefit of third-party contracts with suppliers, distributors and reinsurers. In most jurisdictions, contracts cannot simply be novated (the insurance business transfer mechanisms of the EEA provide certain exceptions), but instead each contract must be evaluated to determine if assignment simply requires notification to the counterparty or its express consent. The challenges that arise in contract transfer are both:

• Logistical – 85% of counterparties contacted typically respond at first instance. However, a recent carve-out had more than 50,000 contracts that needed to be assessed, prioritized and migrated. In this instance, chasing down the remaining 15% was a real challenge.
• Commercial – Certain experienced counterparties, knowing the tight timeframe for most transactions, may try to renegotiate better terms either prior to the contract being assigned to the acquirer, or prior to permitting the vendor to use the contract to provide services under the TSA.

Also important in a carve-out is a clear apportionment of access to historic reinsurance programs shared between the vendor’s continuing business and the business being sold, as well as definition of the resolution process for any post-close disputes. Executing close Transaction close for virtually all insurance carve-outs is triggered by the receipt of one or more regulatory consents enabling the execution of fronting, reinsurance and stock transfer agreements. When migrating staff and assets supporting SpinCo to the acquirer, supporting staff and assets are moved into a legal entity, the ownership of which transfers at close in certain cases. However, when the relevant staff are not employed or supporting assets are not owned by legal entities transferring to the acquirer at close, there will need to be arrangements for the valuation and transfer of both tangible and intangible assets (e.g. trademarks) and the offering of employment and enrollment in benefits to selected staff by the acquirer. This is a significant logistical exercise for an HR function. See also: Group Insurance: On the Path to Maturity   Insurance carve-outs are also particularly challenging for finance functions:

• The combination of renewal, reinsurance and legal entity acquisition in the transaction structure complicates accounting immediately post-close.
• Cross-border acquisitions can include acquirers and sellers with different accounting standards (e.g. IFRS, U.S. GAAP, statutory and JGAAP) that often have very different rules on the treatment of assets and liabilities.
• The practice of closing at a month or quarter end – which in some ways can simplify the transition – may also introduce a tight and immovable timeframe for external financial and regulatory reporting.

Lastly, although there typically will be several months between the deal being agreed upon and the close, this may not be sufficient time – particularly in larger acquisitions across multiple locations – to roll out the acquirer’s networks and desktop technology prior to close. Therefore, full access to the acquirer’s IT capabilities may need to wait until later in the integration. Post carve-out integration While an acquisition of an entire enterprise provides a pre-existing governance structure, an insurance carve-out typically includes fewer members of senior management and requires rapid integration of functional management within the acquirer’s existing structure, the expansion of governance and compliance structures to include the acquired operations and the establishment and communication of delegations of authority and decision-making rights. Due diligence should have provided the acquirer with initial hypotheses as to the organizational capabilities required by the combined organization, interim and end-state operating models, and opportunities for synergies. As with any insurance acquisition, synergies in carve outs are typically realized through:

• Functional consolidation.
• Platform consolidation and process standardization, which enhances productivity and enables staffing efficiencies.
• Facilities and infrastructure reduction, and
• Reduced costs through more efficient third-party vendor selection.

PwC’s research indicates that the most successful acquisitions are those that develop momentum by demonstrating tangible integration benefits in the first 100 days. Accordingly, the acquirer should act fast but should also be prepared to revisit pre-deal assumptions and revise its integration roadmap as the two organizations integrate and new information becomes available. Conclusion Based on what we see in the market, notably a recent succession of P&C and reinsurance megadeals, we predict that insurance industry consolidation will continue apace. Multi-line insurers have divested themselves of numerous franchises and this trend seems likely to continue. Because these types of transactions are complex and depend on many internal and external factors, companies that are considering such moves will need to be aware of and address the many challenges and issues we describe above. This article was written by John Marra, Mark Shepherd, Michael Mariani, and Tucker Matheson.