Performing a directors and officers (D&O) insurance audit is a complex exercise that is made more difficult by constantly shifting language, new rulings and claim trends. While much of the policies’ language and terms have remained fairly constant over the years, here are six areas of new or renewed interest that buyers and their brokers will want to pay attention to. See also: The Need to Educate on General Liability   Cyber Exclusions: Because cyber-related litigation has been quiet, there is little case law at the moment testing courts’ interpretations of D&O policies, so it is difficult to determine the adequacy of coverage provided by existing policy language. Generally speaking, D&O policies are not crafted with cyber risks in mind, so many policies may contain problematic language, such as the definition of “wrongful acts.” However, some carriers are going in the opposite direction and are purposefully applying specific cyber-related exclusions to their policies with the intent of pushing the exposures to more appropriate cyber policies. Cyber policies have still not quite adjusted entirely to modern cyber risk, and these exclusions are not yet industry standards, so buyers should — when able — avoid D&O policies that contain cyber exclusions. While most policies are absent of such language, many carriers have included somewhat watered down wording by adding “privacy events and/or invasion of privacy” within the broad bodily injury exclusions. While this language is not as crippling as an explicit cyber exclusion, buyers should still attempt to negotiate its removal. Many professional liability experts also believe broadly worded terrorism exclusions may have the ability to negate coverage for cyber events with the belief that they will be classified as cyber-terrorism. To address the terrorism exclusion, buyers should ask the carriers to “except” (thus, carving back) cyber-related claims. Lastly, while it may be obvious, brokers should advise buyers on the importance of placing separate cyber insurance while also highlighting the intricate coverage differences among them. The same level of attention that is given to grooming D&O coverage should be given to grooming cyber proposals/policies. This includes careful review of policy definitions, terms, conditions, exclusions, etc. Professional Services Exclusion: Along with the contractual exclusion, the professional services exclusion is consistently cited as one of the most sweeping and problematic exclusions for insureds. Broad professional service exclusions typically preclude coverage for claims “for, based upon, arising from or related to” errors, acts and omissions while providing professional services. This exclusion is particularly problematic for service firms because almost any claim can be “related to” their providing of professional services. However, this exclusion is also becoming increasingly problematic for many businesses because so many businesses today provide some level of services (from consulting to technology services). For tech companies, in particular, this exclusion has the potential to preclude coverage for cyber-related claims, as many of the tech services provided may be considered “professional services” by the carrier. When negotiating this exclusion, buyers should ask the carriers to replace the term “for, based upon, arising from or related to,” with, simply, “for.” Such an amendment effectively carves out the errors and omissions exposure the carrier intends to exclude while still preserving coverage for “true” D&O claims. Conduct Exclusion: The conduct exclusions are one of the (if not the) most visited exclusions within D&O policies. While not much has changed in terms of recommendations to D&O buyers, we have noticed a number of carriers that still contain less-than-preferred language. To avoid coverage being denied for unintentional wrongdoing, the conduct should be specifically stated as “deliberate, willful and intentional.” Sufficient severability language should also be included to protect innocent directors. The area where we still see many carriers lacking is in the “ruling language.” For purposes of providing coverage for innocent actors and claims without merit, the carrier should agree to provide defense costs until a final determination is made. More specifically, though, that final “determination” should be in the form of a “final adjudication in the underlying action.” While much of it may seem like a matter of semantics, final rulings/judgments are NOT the same as “final adjudication,” which is required by the courts. In addition, the language should specifically state that that determination be made in the underlying action to prevent the carrier from arguing that wrongdoing found by those outside the courts (such as regulators) nullifies coverage. JOBS Act/Securities Exclusion: Startups and companies looking to raise equity have a new reason to be excited. The JOBS Act provides an avenue for significant growth without all of the time and compliance costs imposed by the strict reporting and disclosure obligations that come with an IPO. And with the new regulation A+, the ceiling has been lifted, allowing a significant capital raise while still remaining private. Those same attractive features, however, also carry some increased risk. The potential for fraud (and accusations of fraud) is considerably higher because of the lack of transparency. Additionally, private companies purchasing D&O may find a somewhat hidden surprise in the broad securities exclusions that almost entirely eliminate coverage for crowdfunding-related claims. While many insurers have been somewhat slow to react, many others responded expeditiously by either adding a separate endorsement or revising their exclusion to carve back coverage for claims that are related to securities and qualify under the JOBS Act. Any companies considering a crowdfunding campaign or raising any equity under crowdfunding regulations should exercise extra diligence when reviewing their D&O insurance to ensure the carrier has appropriately provided coverage for such claims. Without question, this includes smaller companies that may believe they are less prone to crowdfunding claims, which is false. The case against Quest from 2011 demonstrates that these claims can arise over seemingly simple fee disputes. Lastly, organizations should also avoid any carrier-imposed sub-limits for crowdfunding-related claims, paying close attention to the adequacy of such limits when they are unavoidable. Entity vs. Insured Exclusion: The insured vs. insured exclusion is almost as old as D&O itself. To alleviate some of the concerns related to the “I vs I” exclusion, many carriers today have adopted a more modern alternative replacing it with an “entity vs. insured” exclusion. While this substitution is preferred and does seem to solve many of the unintended consequences, it still deserves careful review. The most obvious carve-back that buyers and their brokers should seek is coverage for derivative claims brought on behalf of the organization. Because of their derivative nature, insureds should also negotiate a carve-back for bankruptcy claims brought by trustees and debtors in possession. Additionally, buyers should review the definitions of insured and organization/entity to ensure bankruptcy trustees and debtor-in-possession are also included as insureds. Regulatory Proceedings and Investigations: Coverage for regulatory/administrative proceedings and investigations has always been of interest for buyers but remains difficult to obtain. Informal regulatory proceedings and investigations against the entity itself are the most difficult to insure against. With cyber whistleblower claims beginning, regulators are capitalizing on their success with more “traditional” whistleblower claims, and coverage for government investigations is quickly becoming a topic of renewed interest. Over the past few years, many carriers have begun to provide coverage for informal investigations and regulatory/administrative proceedings against individual directors and officers. Additionally, private companies may be able to obtain coverage for formal investigations and proceedings against the entity itself. It should be noted that, for purposes of reviewing and grooming coverage, administrative/regulatory proceedings and investigations are not synonymous. Some carriers have also been implementing standard coverage for FCPA fines/penalties against individuals. The ability to obtain a policy with such language does not necessarily mean the policy will respond, though. There are a number of additional items that require review, such as claim definitions that require “wrongful act” accusations to trigger the regulatory coverage (which should be avoided). See also: What to Expect on Management Liability  

The origins of life insurance show up at least as long ago as the Middle Ages, when the notion of providing mutual aid emerged in organized structures. People came together via benefit societies for those in need and for the good of all. Similarly, modern-day carriers originated with mutual ownership – a construct that prioritized maintaining an asset pool to cover claims at any time, including ones that might occur decades in the future. A lot has changed. The top 25 life insurance carriers, which control 72% of the market, are largely public companies, so they must serve the demands of shareholders, not just policyholders. State, federal and global regulatory authorities watch over insurers’ moves with many goals – a big one being financial stability of carriers. But these efforts do not solve a problem highlighted in this year’s Insurance Barometer Study: One-third of American households would have an immediate problem paying basic living expenses if the primary breadwinner died. And an additional one-third has no idea what they would do should they find themselves in this situation. See also: What’s Next for Life Insurance Industry?   Ask people inside the sector the question, “Why doesn’t everyone buy the coverage they need, and may even know they need?” Responses are variations on three themes: (1) potential buyers perceive the products as too expensive; (2) they don’t understand how insurance works and what its value is; and (3) they put it low on the priority list relative to other financial commitments. None of these explanations is flat out wrong. But settling for them risks derailing innovators from solving a problem that will continue to affect people in need and the rest of us, too. It is a problem worth solving. Insurtech has become a hot sector, but life insurance gets relatively limited focus from either startups or investors. Why? Experts offer a few theories: It is complex -- loss curves run for decades. Unlike auto and home insurance, there’s no requirement to own life insurance -- so there is no definite group of buyers. Asset growth in this economic and regulatory environment has become trickier. Capital requirements are tougher. And maybe founders and funders themselves don’t want to look death or the greatest personal catastrophe in the eye. While these reasons sound plausible, there is a way to think about how to uncover sources of value and solve a marketplace and social problem hiding in plain site. Here is a proposed three-part plan: 1. Reframe the problem. Life insurance has historically addressed the problem, “What if I die too soon?” The questions asked now about financial health sound more like, “How can I be sure I’ll cover my monthly expenses given my earnings?” “How will I ever retire?” And, “What if I live too long?” Fears about dying too soon have been pushed down the priority list. In an era of longer life expectancy and lower inflation-adjusted income for many Americans, the new priorities are smart. Consider, therefore, how to solve these problems. Listen to people’s desire for products that pay the living, provide coverage for long-term care and medical expenses and are designed with far greater transparency than today’s living benefit products. (Try to read an annuity contract, and you will get the point.) 2. Understand what motivates people. Loss aversion theory, first proven by Nobel Laureate Daniel Kahneman and colleague Amos Tversky, demonstrates that people prefer to avoid loss rather than pursue the opportunity to realize an equivalent gain. No surprise, then, that confronting one’s mortality is a topic to be avoided -- it is the ultimate loss. This is especially the case given that many see no upside to buying a life policy: “When I win, I lose.” There will be traction for those innovators who can get to a nuanced definition of “trigger events,” beyond the tired and obvious ones. Trigger moments are when people will be more likely to evaluate the loss/gain relationship in a new light. See also: 8 Start-ups Aiming to Revive Life Insurance   3. Don't just play around the margins of what already exists. Be open to the possibilities that: (1) Potential buyers who say your product is too expensive are trying to tell you that the price/value relationship is weak. (2) People don’t understand the value of many life insurance products because these products are too complex. (3) In a world, where people fear the consequences of living too long, a product that focuses on one’s death seems out of step. Test the receptivity for product concepts that include living benefits and allow people to make tradeoffs among features. On the critical path: (1) cracking the code to combine delivering value to the buyer and financial feasibility all the way through claims payment, (2) executing with minimal fine print and (3) creating products that can be distributed through a cost-effective, multi-channel platform that leans digital/call center, innovates on commission structures and defines a new agent archetype.

There’s politics, then there’s governing. As former New York Gov. Mario Cuomo put it, “You campaign in poetry. You govern in prose.” Republicans have been campaigning against the Affordable Care Act since its enactment with rhetorical flourishes along the lines of “repeal and replace” and “end Obamacare on Day One.” That is poetry (or at least what passes for poetry in politics). Come January, Republicans will need to prove they can handle the prose part. As discussed in my previous post, that won’t be easy. Repealing the law outright would cause chaos in the health insurance marketplace and take medical coverage away from millions of consumers. However, doing nothing would break a promise central to the GOP’s electoral successes in the past four congressional elections, not to mention the most recent presidential campaign. Either path could lead to voter retribution that would be devastating to the short- and long-term interests of the Republican party. See also: What Caused the ACA Rate Surge?   A GOP strategy may be emerging that aims to avoid this rock and that hard place. The idea involves passing repeal legislation as close to President Trump’s first day in office as is legislatively possible, but delaying the effective date of that legislation by a year or two. This enables Republicans to keep their promise to repeal Obamacare “on day one,” yet gives them time for the more difficult task of working out a replacement to the ACA. It’s a political two-step that Joanne Kenen has dubbed “TBDCare.” Yes, this would cast a dark cloud over the health insurance market for some considerable time and raises a host of questions: Is Congress capable of passing workable and meaningful healthcare reform? What happens if it doesn't? What would those reforms look like? Who would the winners and losers be under Republican-style reform?  Not knowing the answers to these questions is terrifying. For GOP leaders trying to avoid the wrath of voters, however, living under a frightening dark cloud for a couple of years might look better than ushering in the healthcare reform apocalypse. The repeal part of this two-step strategy is simple: Republicans in Congress eviscerate the financial mechanisms critical to the ACA through the budget reconciliation process. This type of bill requires only 51 votes in the Senate, which means no Democratic support is needed. Meanwhile, President Trump dismantles other elements of the law by either revoking President Barack Obama’s executive orders or issuing new ones. Both the legislation and executive orders become effective at the end of either 2017 or 2018 to allow for a “smooth transition.” Then the replace portion of the program would begin. Much of any new healthcare reform legislation would need to go through the normal legislative process and be completed before the effective date of the repeal. Given the Senate’s filibuster rules, this means securing at least eight Democratic votes in the upper chamber. (Here’s a list of the Democratic senators most likely to be recruited by Republicans). Both Jennifer Haberkorn on Politico.com and Albert Hunt on Bloomberg.com do a great job in reporting on this evolving strategy.  Meanwhile, opposition to TBDCare is already building, as evidenced by this editorial in the Denver Post. What should not be overlooked in all this pain aversion is that the Affordable Care Act was neither the cause nor the solution to America’s deep-seated healthcare problems. Long before Sen. Obama became President Obama, everyone knew that the key to successful healthcare reform was reducing medical costs. A few provisions in the Affordable Care Act address costs, but the legislation focused primarily on health insurance reforms because, well, reforming the health insurance market is a lot easier than reducing healthcare costs. If you were a politician, who would you rather take on, insurance companies or doctors, hospitals and pharmacy companies? See also: Obamacare: Where Do We Stand Today? Whether using poetry or prose, then, it would be nice if, once they get past the politics of health care reform, Congress and the new administration addressed the substance of healthcare reform. Let’s hope that’s not asking too much.

Technology is something of a double-edged sword for insurance brokers. It provides us with the perfect tools to offer accurate field underwriting, efficient claims and policy processing, thorough record-keeping and faster issuing of policies. But that’s just one side of the story. On the other side—the darker, far uglier underside—technology has opened us up to liabilities and compliance nightmares through data breaches, hackers and other cybersecurity risks. See also: How Safe Is Your Data?   While these cybersecurity threats should keep brokers on their toes, they don’t have to transform you into a tech-fearing Luddite. Here are six tips to help you avoid cybersecurity threats while still embracing technology: 1. Stay aware of the threats. From Trojans to worms, viruses to hackers, disgruntled employees to simple mistakes, potential data breaches lurk around every corner. You can stay aware of the changing threat environment and protect yourself with a system such as McAfee or AVG, but you also need to occasionally read tech blogs to understand what new threats are emerging. 2. Control your user permissions. With employees coming and going, people working remotely and more smartphones accessing company networks, it’s more important than ever to tightly control user permissions within your brokerage. Limit the access that offsite employees have and make sure to revoke unnecessary permissions when employees leave or change positions. Software such as Varonis can assist you. 3. Update passwords regularly and frequently. One of the easiest ways for a hacker to breach your system is by cracking your password—which is increasingly easy to do when the most popular passwords include “password” and “123456.” Make sure you and each of your employees changes passwords several times a year. You can use programs such as Dashlane Business to manage passwords, generate unique passwords and create two-factor sign-in authentication for device access. 4. Stay safe in the cloud. Brokers are increasingly relying on cloud-based data storage solutions, but not every cloud is created equal. Make sure the clouds you use have features such as encryption when files are being transferred as well as when they’re not. Secure clouds use data file “sharding”—a process in which data is broken up into several different portions, each of which is encrypted separately. See also: New Channels, New Data for Innovation   5. Create a post-breach action plan. None of us ever intends to be breached, but even if we do all we can to avoid it we could still become victims. If we do, we need to act quickly. That’s why it’s good to have a post-breach action plan as part of your general disaster planning. 6. Choose the right collaborative software. Whether you have employees working remotely or you have online meetings and webinars, you need to choose collaborative software that minimizes your risk of data breach. Choose tools that encrypt messages and have two-factor authentication at sign-in. There are many options, including HighQ and Syncplicity.

The Herald Tribune in Sarasota, FL, Nov, 14, 2016 stated a number of actions that employers need to take in the light of new workers' compensation regulations in Florida: “Effective claims advocacy, management and communication, along with robust risk management and work safety programs,” are required to follow regulations and run profitable businesses. Regardless of jurisdiction, implementing regulations is never as simple as it sounds, and they create challenges for both employers and insurers. The primary challenges are typically cost and resources. For Business: Workers' compensation is viewed as a regulatory and financial burden, with claims management being the major focus. Actively managing workers' compensation and the associated risk is good business practice, yet the majority of businesses (particularly small businesses) just can’t afford current risk management tools and methodologies. Internal resources are stretched, and, despite best intentions, it can be a difficult task to wade through a plethora of information to translate, implement and monitor regulatory compliance and risk management. As a result, there is often a reliance on consultants, at significant cost to businesses. See also: Does a Safe Workplace Create Large Profits?   For Insurers: It is not physically possible or economically feasible to conduct risk surveys, analysis and assessments on all of the employers in your portfolio, particularly in the small- and medium-sized sector. It is also not financially feasible to offer consulting services to assist in the risk management process. So what are your differentiators? How can you add value, ensure quality of service and further engage your clients without massive additional investment? If a simple risk profiling tool was offered by insurers, it would significantly boost their ability to assist employers in better managing their workers' compensation costs and impacts. RiskAdvisor has developed such a tool, which allows a business to:

• Assess the current status of health and safety risk;
• Benchmark performance within its industry using global A.M. Best data;
• Identify gaps in health and safety business processes;
• Prioritize resources;
• Offer specific solutions to better manage health and safety risk; and
• Facilitate continuous improvement.

The simple-to-use system highlights known industry hazards, good work/health/safety/injury management practice and what risk management controls are (or could be) in place. It delivers performance benchmarks and the ability for employers to provide their own risk ratings. Employers seeking to understand their broader risks can even use the RiskAdvisor system to profile industry-specific insurable and business risks. See also: Avoiding Workplace Disaster And Workers' Compensation Costs   This type of tool will help an employer prioritize its activities and means insurers can drive increased client engagement and deploy support more cost-effectively. Even more importantly, the tool shifts the focus away from purely reducing claims costs to actively minimizing injuries — a win/win for insurers, employers and employees. Here's a sample of a checklist from the RiskAdvisor system:

If you own or rent property; drive a car; or have cherished valuables, you are no doubt familiar with the intricacies — and, often, maddening complexities — of property and casualty (P&C) insurance. Nevertheless, most policyholders regard the purchase of insurance to be a necessary and prudent expense; however, many buyers do not appreciate how the structure of an insurer can be an important consideration in the buyers' purchasing decision and, ultimately, financial well-being.

Conventional insurance companies are typically organized around two common business structures: stock companies, which are owned by shareholders, and mutual companies, which are owned by policyholders. A third variant, the so-called reciprocal inter-insurance exchanges, or "reciprocals" for short, retain attributes of both.

A reciprocal is an unincorporated risk-pooling alternative to stock or mutual insurance companies where the members, known as "subscribers," agree to an exchange of contracts of insurance among themselves — thereby attaining a preferred level of risk pooling and diversification to indemnify the other members. The subscribers are part of an association in which the amalgamated risks are exchanged to cross-insure each other. A reciprocal is often likened to a partnership where each member is individually and severally liable, but, as is the case in — for example — a law firm, not jointly liable.

Organizational Structure of Reciprocals

A reciprocal, like a mutual insurer, is policyholder-owned but is typically administered by an independently owned managing agent called an "attorney-in-fact" (AIF). The AIF is a necessary aide-de-camp to a reciprocal and administers — in return for fees and commissions — its day-to-day operations, which include the signing of individual contracts, settling claims, establishing deposits and investing funds. The subscribers, through power of attorney or subscribers’ agreement (commonly contained in the same document) confer the authority, responsibilities and prerogatives to act on behalf of the subscribers. The AIF, while expected to maintain all and any underwriting standards, performs the role of an unbiased mediator to simplify and expedite transactions and may be an individual, partnership or corporation.

The organizational structure also includes a committee, known as a "subscribers advisory committee," (SAC) which represents all subscribers; supervises the AIF and the reciprocal's finances and operations; and acts in the subscribers' stead — except as limited by the power of attorney.

Many reciprocals are organized without any organic act other than power of attorney, which is used to set forth rights and obligations of the members, as well as the duties and powers of attorney.

Origin, Objectives and Definition of Reciprocals

The reciprocal insurance exchange can track its genesis to 1881, when six dry-good merchants in New York agreed to indemnify each other because of discontent with insurance companies. These merchants had buildings of superior construction and maintained them in good repair, but were charged premiums that did not mirror the potential losses for similar commercial buildings. Insurance companies of the time applied a broad brush in their classification of risk because sophisticated rate-setting techniques were only in their infancy. Being moreover well-capitalized to absorb certain losses, the merchants had the incentive -- and ability -- to "self-insure" to lower costs.

Reciprocals thus operate on the supposition that similarities and qualities within a specific grouping class establish a framework to achieve cost-saving for insuring specific risks that might otherwise not be properly rated by, for example, mutual insurance companies. The inherent homogeneity of reciprocals allows for an avoidance of being plodded together with a general underwritten community with uneven requirements and risk profiles, increasing the overall risk profile, premiums and profitability of traditional underwriters. Distinct groups of individuals or businesses generally have associated incentives to lower their exposure and increase their safety, thus producing a superior loss ratio. Although a reciprocal can lower the total cost of insurance over time, the structure can also create unique conflicts of interest between policyholders and the AIF.

Fundamentally, like any successful insurance company, premiums charged must cover all claims and expenses. A reciprocal is, therefore, a homogeneous association of individuals, partnerships or corporations with well-aligned interested and insurance requirements, vested under the terms of a common written agreement that is signed by each of the subscribers. The agreement provides that each subscriber, being a co-insured member, is protected by the other members; the purpose is to make each member whole at a cost, wherein no additional modifications within the association can reduce the total cost to the individual members over the period of their membership.

What you need to know

Like stock and mutual insurance companies, successful reciprocals pledge to be around for the long run, to process and pay claims and to provide affordable and consistent insurance coverage to their affinity groups. However, not all reciprocal insurers can keep their promises. When looking to sign up for a policy with a reciprocal insurer, you might want to ensure it meets some basic criteria:

1. Who owns the AIF, and are risk and reward aligned appropriately with members?

Reciprocals are often marketed as "policyholder owned," but their commercial mindset and culture will most likely reflect the owners of the AIF. For instance, if the AIF is owned by a stock insurance company, it will most likely have underwriting capabilities and return hurdles in line with the insurance industry. AIFs backed by private equity are likely to have the most aggressive return expectations for their investors with the shortest investment horizons, creating uncertainty related to possible material changes in control when a PE firm eventually unwinds its investment. Publicly traded AIFs are typically obliged to provide transparent disclosures and have return expectations commensurate with investors of insurance brokers and service companies.

A separately owned management company creates a conflict of interest as profitable fees are generated at the expense of exchange members. A study by Emilio Venezian of Rutgers University, which examined the arrangement and practical implications of AIF management firms, confirmed this. Venezian concluded that serious problems might arise in the management of reciprocals if the AIF holds direct sway over the managers' own remuneration rates, because the incentive to increase their own private welfare may become a priority above —and at the expense of — the subscribers'.

This potential conflict has resulted in several lawsuits brought by reciprocal members against AIFs, claiming a lapse of their fiduciary duties by mismanagement or excessive fees being paid to the AIF. This conflict is even more apparent when the AIF or its shareholders generate interest income through debt provided to the reciprocal or when reciprocal assets are used to invest in affiliates of the AIF or its shareholders. Prospective subscribers are to ensure the AIF has clearly disclosed and quantified all related party transactions when considering the credibility of an AIF.

2. Does the reciprocal make a profit?

The most important requirement for any insurance entity is that the premiums charged are adequate to cover claims and expenses. For reciprocals, this includes AIF fees, reinsurance and interest. A prudently managed reciprocal will generate a profit that can either be retained or returned to policyholders depending on capital needs.

Net income and return on members' capital is the ultimate indication of how efficiently members' capital is managed by the AIF, because poor underwriting or investment performance will erode member capital over time. A high expense ratio may indicate the charging of excessive fees by the AIF or a failure in operating the exchange efficiently. Premium growth should never be at the expense of sensible underwriting because high growth combined with poor underwriting is unsustainable. If investment yield is low or negative, the AIF is likely taking excessive investment risk, or interest payments are placing a burden on investment returns.

3. How well is the reciprocal exchange capitalized?

As owners of the reciprocal exchange, members should always consider its standalone financial strength. Subscribers should be aware of financials that consolidate non-member-owned entities and reports to members that are marketing-focused, and they should omit key financial information such as the reciprocal's net income. Low levels of capital leave policyholders exposed to claims not being paid, and a high percentage of debt signals additional financial risks. Reinsurance is typically required to protect a portfolio of insurance risks but an over-reliance on reinsurance is expensive for members and may indicate an AIF that is overstretched.  

Summary

A cursory look at the main players in the reciprocal market illustrates a disconnect between legacy brands such as ERIE (NASDAQ:ERIE), Farmers or USAA and new players such as PURE. While the first group boasts a solid customer base and a sturdy balance sheet (exceeding $5 billion equity), PURE appears to be a riskier choice.

This article first appeared at Seeking Alpha.

I/we have no positions in any stocks mentioned and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Is there anything more emblematic of the largely antediluvian state of the insurance market than the concept of the annual policy? Admittedly, there is a certain convenience for the customer only having to worry about his or her insurance once a year and for the insurer only having to process the relevant paperwork every 12 months. And for years, of course, insurer returns were almost entirely built off the back of the profits to be gained from investing up-front premiums -- as in, not on serving the customer. But haven't things moved on? Certainly, today's low interest-rate environment (nothing lasts forever, but it is hard to envision what might shift this dynamic in the short- to medium-term) means insurers have to focus far more on correctly pricing risk rather than on yield arbitrage. And our increasingly technically sophisticated and connected world surely raises questions regarding whether market practices essentially inherited from the 17th century are still appropriate. See also: The Most Effective Insurance Policy   Consider the humble motor policy. At the risk of gross over-simplification, the market is currently centered on selling an annual policy with pricing essentially dictated by a number of important risk factors (such as the value of the vehicle, driver age, anticipated annual mileage, where the car is kept at night, previous convictions, etc.) But the price you pay reflects little about the environmental factors that really drive risk when you are behind — or not behind — the wheel. While the industry is far more sophisticated than it was 20 years ago, pricing is typically set according to statistical averages for whatever broad risk grouping you happen to fall into — with all the imperfections this implies — to the inevitable detriment of lower-risk drivers within each of those categories. Today's technology — of which telematics is a pretty rudimentary example — enables a different approach. Rather than an annual policy, why not specify a daily standing charge that reflects the true risk to the insurer of the car sitting in your garage, say, where the risk of accident or personal injury or theft is extremely low? Think of it as a standing charge. However, as soon as you take your car out of the garage, an additional cost would apply — think of the Uber surcharge — but this additional cost would vary depending on the time of day or the driving conditions. Taking the car out in the rain or when it is icy would be more expensive than when the sun is shining. Driving in the middle of the night when there is less traffic is inherently less risky than battling your way through rush hour. Far fewer accidents occur on the motorway per mile driven than on crowded urban streets. And geo-location software could confirm whether you are, in fact, parking your car at home at night as you have claimed or whether you have left it for a few nights at the airport while you fly off to Rome or Miami for the weekend. This approach starts to suggest some interesting outcomes. First, it allows insurance companies to price far more accurately for the actual risk they face, based not on relatively blunt risk category averages but for each individual driver down to each specific trip. Second, it ensures that drivers pay the true costs of the risk they represent rather than subsidizing their higher-risk fellow drivers. For most drivers, this is likely to result in a lower price because the average is hugely skewed by the tail risk. Perhaps most interestingly, the approach also enables the driver to better understand the relationship between how and when she drives and the cost of insurance; thus, it potentially acts as a spur for drivers to moderate or modulate their behaviors accordingly, which is where you start to drive some real alignment of interests and benefits for both drivers and insurers. The good news is that the necessary technology essentially exists today in the mobile device you are probably reading this post on. The various data feeds — weather, time of day, geo-location, etc. — are already there. Even today, my iPhone varies the time at which I need to leave one meeting to make the next depending on traffic and weather. Of course, as with any radical change to established operating models, there are some important practical issues to be overcome in terms of the customer interface, billing and mechanisms through which customers would physically agree to a surcharge before, during or after a journey, etc. Insurers would need to work through the change in their cash flow profile and may also feel that the complexity of some of the larger risk classes continues to favor an annual cycle. And the impenetrability of pricing in the mobile phone industry, which marches under the banner of increased customer transparency and choice, stands as a stark warning to how the best intentions can lead to utter confusion. See also: Insurance Disruption? Evolution Is Better   There are some broader potential social concerns, too, around third party tracking of your movements. There are also implications for higher-risk drivers who find themselves priced out of the market where, today, their costs are essentially subsidized by the rest (particularly in circumstances where the constraints of people's day-to-day lives and jobs may not give them a huge amount of choice regarding the conditions under which they choose to drive), although that particular genie is probably halfway out of the bottle, anyway. The question, as ever, is whether the inevitable change will come from the incumbents that are weighed down by their legacy positions or from some new entrant that has the freedom of movement but lacks the scale, brand and capital to compete in a meaningful way. One thing is certain: In a world where one of the world's largest hotel companies doesn't own any rooms (Airbnb), one of the world's largest car hire companies doesn't own any cars (Uber) and one of the world's largest retailers doesn't own any merchandise (Ebay), the insurance industry's continued attachment to the annual policy feels increasingly like a relic from a bygone age of quill and parchment.

The use of urine drug testing (UDT) for injured workers raises challenges and questions for workers’ compensation stakeholders. Who should be tested? How many tests are too many? Too few? How often should the tests be performed? And, perhaps most importantly, what — if any — action should be taken in response to test results? These questions have been brought to the forefront with the rise of opioid-related challenges — the same challenges that led a large workers’ compensation insurer to turn to experts for help. The carrier saw a significant increase in opioid use among injured workers. Claims adjusters did not have the expertise on their own to aid in the problem. See also: Opioids Are the Opiates of the Masses Over the past several years, the insurer has aligned with Optum (its pharmacy benefit manager) and Millennium Health (a health solutions company that specializes in medication monitoring) to create a program that identifies and works with injured workers who are potentially at risk for poor recoveries. The insurer has reported impressive results, with reductions on spending for opioid analgesics and decreases in the number of supply days of the medications. Using the clinical experts and toxicologists of Millennium to help interpret test results has helped the clinical pharmacists at Optum provide recommendations to the adjusters and providers. Medical treatment guidelines increasingly include UDTs for injured workers who are prescribed opioids; however, the decision of how often to test is largely left to the medical provider’s discretion. Experts say UDT, used in conjunction with other tools, can provide objective information regarding current medication, as well as illicit substance use. The results can help identify injured workers who may be abusing, misusing or diverting prescribed opioids. “The clinical utility of UDT has been well established and is promoted in several medical guidelines. However, in some segments, there is still an underutilization for various reasons,” said Maria Chianta, director for clinical affairs and managed markets at Millennium Health. “It could be a lack of awareness or a lack of time — it takes time to perform the tests and interpret them.” (Chianta will lead a discussion at the National Workers’ Compensation and Disability Conference & Expo on Dec. 2 in New Orleans. The discussion will cover the use of UDT in workers’ compensation; explain what led the insurer to enlist the help of its pharmacy benefit manager and Millennium Health; and show the results the company has achieved.) Non-adherence to guidelines The latest research from the Workers’ Compensation Research Institute bears out the inconsistent use of UDTs in workers’ compensation. A study of 25 states showed that the percentage of injured workers with longer-term use of opioids receiving drug testing was lower than recommended by treatment guidelines. At the same time, however, the frequency of drug tests was unusually high among the top 5% of injured workers who received opioids on a longer-term basis and had drug testing. A lack of understanding of what actions to take based on UDT results is perhaps one of the major barriers. “It takes time to walk through those results," Chianta said. “If you get something unexpected, you have to try to get to the cause of that, which takes time. Some providers may not know the best ways to respond to the test results.” Follow-up is among the key issues for the effective use of UDT. Depending on the results of the tests, the insurer, for example, may engage the services of a telephonic case manager or conduct a pain management program review. See also: Urine Drug Testing Must Get Smarter Another area of confusion over UDTs concerns the types of tests available. “Primarily, there is immunoassay technology and mass spectrometry,” Chianta said. “Immunoassay is a presumptive screening, and mass spectrometry is a definitive or confirmation test.” Chianta will discuss the types of tests in more detail. Some people on the health plan side may be seeing drug tests coming in and paying for them — and that’s the end of the process. The speakers aim to give session attendees an appreciation of the value of becoming more involved with the outcomes of the tests and follow-up actions that are necessary.

Who can forget Don McLean’s iconic “American Pie”? Released in 1971, it was a four-week No. 1 hit in the U.S. It is listed as the No. 5 song of the century by the Recording Industry Association of America (RIAA) and the National Endowment for the Arts. The original 16-page manuscript sold for $1.2 million last year. For me, the most memorable line in the nearly 800-word, eight-and-a-half-minute song is: “The day the music died.” It marks Feb. 3, 1959, where there was a seismic shift in music. The senseless and untimely deaths of rock-and-roll legends Buddy Holly and the Big Bopper (J.P. Richardson) are interpreted in highly symbolic and blurry verbal pictures. After the recent presidential election, the question before us is whether Tuesday, Nov. 8, 2016, will become known as “the day the data died.” No matter your political or ideological viewpoint, no one predicted what happened at the polls. Even with mountains of data and 21st century technology, mainstream media and academia completely missed the mark — and not by a little. We now know that the data wasn’t just slightly off track; it was a couple of interstate exits away from reality. See also: Some Things Are Too Important for Paper To try to figure out where we in the insurance industry should go from here in terms of thinking about how to use data and of projecting trends, I revisited a number of new technologies that either did not live up to the hype or just never achieved the projected dominance. Here are some of my favorites and their potential insurtech applications: Quadrophonic Sound Debuting in 1971, it had four-track sound instead of a stereo’s two. And everyone knows more is always better. Quadrophonic sound was portrayed as not just sitting in front of musicians but sitting in the middle of them. I actually bought a quad system with four speakers and some tapes. The problem was that there are about a billion ways to produce recordings, and no single format was ever agreed on. Implications for Insurtech Standards are vitally important for insurance data exchange and widespread blockchain deployment and success. But, as a McKinsey report noted, the insurance industry is not known for its cooperation, its creation of standards, its adoption or its enforcement of standards. The Segway Steve Jobs said it would be bigger than the PC. Time magazine called it “reinventing the wheel.” Venture capitalist John Doerr (who backed Netscape and Amazon) said it would be bigger than the internet. Jeff Bezos spurred huge hype, saying the Segway “is one of the most famous and anticipated product introductions of all time.” With pre-orders from the National Park Service and the U.S. Postal Service and with more than $90 million in venture capital funds, the Segway’s inventor, Dean Kamen, said it would be to the car what “the car was to the horse and buggy.” All original 6,000 Segways were rapidly recalled because of customer injuries when the battery was low. While it has bounced back a little bit, the Segway never lived up to its hype. Implications If you Google "insurtech," you get more than half a billion hits. With more than 800 insurtech startups and almost 150 deals worth $3.5 billion of investment since 2015, insurtech is a force to be reckoned with. There is more than enough hype to go around. Remember that just because an analyst, consultant or media outlet writes about a company or technology does not mean it is destined to take over the world — or even survive. Microwave Ovens Everyone reading these words probably just about blew a gasket when they saw microwave ovens on this list of technologies that have not lived up to their promise. With more than 100 million units shipped in the past 10 years, how could microwave ovens be declared a failure? Well, microwaves were originally advertised as the death knell of traditional ovens. It’s not that microwaves are a failure, per se, it is that they never lived up to the hype. More than three million traditional ovens are still being sold annually, with a full 33% increase in sales over the past five years. As microwave radiation (yes, radiation) is used to heat water inside of food, it cooks from the inside-out. While microwave ovens are great for popcorn and reheating, they still cannot brown or fry, nor are they terrific for baking. I once caused a minor event (a fire) at work when I reheated some chicken in the microwave. I had failed to notice that the paper wrapping from the grocery store where I bought the chicken was lined with foil. While the ensuing fireworks and smoke were entertaining, my coworkers were less than thrilled. Implications While I keep count of the number of times I’ve ridden Pirates of the Caribbean in Walt Disney World (42 as of this article), I have completely lost count of the number of times the death of the mainframe was pronounced with great fanfare and assurance. The tablet was supposed to replace the PC, but, like the microwave, it has become a complementary device. We all need to exercise patience and caution whenever the next “bright shiny object” is set forth. Razor Phone No, this is not a spelling error or an April Fools’ prank. Not only did someone actually think it was a good idea to combine two wildly different technologies in a single device, someone else approved and financed it. I find it hard to understand what a cell phone and electric razor have in common other than they are both battery powered and operate next to your face. Having a similar name to Motorola’s Razr phone turned out to create colossal confusion; the bottom line is that consumers were not at all attracted to this “cutting edge” device. Implications Putting together different technologies may make some sense or add value on the surface, but it may also have unintended consequences. I once worked for an insurance company that built a 40-story headquarters. It aggressively employed all the latest safety designs and technologies. One Monday morning, I woke up to discover that I could not go to work because of a significant fire on the fourth floor. It was later discovered that an office machine caught fire and burned undetected for about eight hours, causing considerable damage and disruption to the company. How could a fire burn that long without being detected, you may ask? The problem was the same as the Razr Phone: two technologies that seemed to make sense but had results that were problematic (at best). Smoke detectors were imbedded into the ventilation system and, to conserve electricity, the ventilation system had been turned off over the weekend, disabling the smoke detectors' sensors. With no smoke detectors, the fire was allowed to burn until an overnight computer operator happened to open the door to the 25th floor stairway. With smoke billowing out, the operator manually pulled the fire alarm. One other note: With its reliance on all the latest technology and fire resistant materials, the building did not have sprinklers, much to the chagrin of the insurance company, the architect and city officials who approved the plans. A state-of-the-art sprinkler system was retrofitted, costing much more than if it had been installed during the original construction. See also: The End of Leadership as We Know It?   While no one should boast about the outcome of the recent elections, we all should question what is going on when it comes to the media and “the experts” who proudly boast they know the truth because they have the data. In these cases, their feet were firmly planted in the air.

Just as the industrial era changed every aspect of life, the digital economy era will bring tremendous change to the insurance industry. With the rise of the Internet of Things and the wealth of data it could potentially produce about the lives and assets of the insured, carriers need to consider where they might face new competition so they can take a defensive position. Platform-based ecosystems can provide insurers access to the data and customer interaction points that will enable them to offer personalized, real-time outcomes—including offerings beyond insurance—on a massive scale. But to take advantage of these new ecosystems, insurers will need to improve their capabilities in areas such as big data, analytics, service design, personalization and the customer experience. See also: The Formula for Getting Growth Results   Watch this Insurance Insight of the Week video to learn how platform business models will bring a profound disruptive change to insurance. The platform economy is transforming every dimension of life—and the insurance business   Whether the insurer “owns” a platform ecosystem or is plugging into another company’s, what matters is having a platform strategy and the business know-how to exploit it. Progress will start from a clear understanding of those parts of the business that are primed for platform business models, and those that are most vulnerable to unforeseen attacks from other platforms. Learn more:

• Register to download Accenture Technology Vision for Insurance 2016 (PDF).
• View other Insurance Insight of the Week videos.
• Email me to discuss how Accenture can help insurers take advantage of the platform economy.