Tag Archives: governance

Modernization: Actuaries Must, Too

To effectively produce a variety of new financial reporting, reserving and risk metrics, actuarial departments will need to modernize with new tools, hardware, processes and skills. This will be a significant undertaking, especially considering how most organizations and regulatory environments are constantly changing. Re-engineering projects will require careful planning and will affect people, processes and technology. Developing a modernization strategy that provides a path to real change includes visualizing a compelling future state, articulating and communicating expectations, defining a roadmap with achievable goals and avoiding overreach during the implementation.

Case for change

The insurance market has changed significantly in recent years, which has had a particularly pronounced effect on how companies operate, meet internal and external demands, report externally and comply with regulations. However, many insurers have not modernized their actuarial functions to keep pace with these changes and are struggling to effectively meet not just existing demands but also impending ones.

Specifically, drivers of actuarial modernization include:

  • Internal drivers – The audit committee seeks assurance that reserves and risk-based capital are sufficient and being determined in a well-controlled environment. Senior management wants actuarial departments that work toward the same strategic goals as the rest of the company. Business units are looking for trusted actuarial advisers who can collaborate effectively with them, as well as develop practical solutions to complex problems to help them meet their business objectives. Lastly, the finance department needs timely insight into how the reserve movements affect earnings and equity.
  • External drivers – The need to issue financial reports under multiple accounting bases necessitates the adoption of new processes as well as the collection of additional data. Similarly, regulatory requirements have mandated additional analyses, various views of the book of business and a push toward more forward-looking information. Other external parties, including investors and rating agencies, demand more information with a greater degree of transparency than ever before.

The modernized actuarial function

In a modernized company, the actuarial, finance, risk and IT functions have clearly defined, collective expectations and utilize common, efficient processes. More specifically, the following characterizes a modernized actuarial function:

  • Data – The organization, with significant actuarial input, clearly defines its data strategy via integrated information from commonly recognized sources. The goal of this strategy is information that users can extract and manipulate with minimal manual intervention at a sufficient level of detail to allow for on-demand analysis.
  • Tools and technology – Tools and technology enhance the effectiveness of the actuarial department by delivering information faster, more accurately and more transparently vs. the traditional, ad hoc computing done by end users. Specifically, tools that use data visualization can more effectively convey trends and results to management. Algorithms can be programmed to automate first-cut reserving and other actuarial analyses each reporting period based on rules that can help point staff to business segments that may require deeper analysis in the quarter.
  • Methods and analysis – Modernized actuarial organizations enhance traditional actuarial methodologies with additional cutting-edge methods that yield superior insights (e.g., predictive analytics, which have transformed personal lines pricing and are being adopted in the commercial arena). Another example is stochastic analysis, which enhances deterministic approaches with statistical rigor, helps actuaries prepare transparent reserve range indications and enables management to better understand uncertainties.
  • Processes – Operations are reviewed from the top down and well-defined in terms of controls, responsibilities, timing,and outputs, particularly in the quarter-close procedures for reserves. Automation of key processes is a primary organizational objective. Modernized actuarial organizations have streamlined processes that eliminate unnecessary or excessive evaluation.
  • Organizational structure – The ability to deliver superior business intelligence to management often depends on how an organization uses its actuarial resources. Many companies are debating the merits of centralized, decentralized or hybrid organizational structures. While each structure has its own set of advantages and disadvantages, organizational structure is not the most vital factor in a function’s success. Rather, it is much more important that actuaries serve as trusted advisers to company stakeholders while fostering a culture of innovative thinking that identifies new information and opportunities to test, learn and scale.
  • Reporting and governance – Strong governance, particularly around data, analysis review, challenge, issue escalation and resolution and reporting are cornerstones of a modernized actuarial function. Actuarial functions solicit stakeholder input on information demands and provides consistent, quarterly reporting packs that satisfy these stakeholders’ reporting demands. Additionally, modernized actuarial functions have formal policies and procedures that clarify the roles and responsibilities of management, reserve committees and the audit committee.
  • Business intelligence – Modernized actuarial functions focus on providing operational metrics that meet individual stakeholder needs and objectively relate business performance. For example, senior managers often desire corporate dashboards that provide them access to real-time information on business performance to help them make strategic decisions.

Benefits of insurance modernization

A modernized actuarial function produces insightful, strategic information and allows the actuarial function to deliver the value management desires while meeting external stakeholders’ regulations and demands. Modernized actuarial functions have robust feedback loops within pricing, reserving and capital management.  Additionally, the modernized actuarial function understands the business’ fundamental performance and takes an active role in helping management define the company’s future direction.

Modernization represents a fundamental shift in the actuarial function priorities. Traditionally, the actuarial function has provided a retrospective look at business performance despite various data, technology, process and personnel limitations. However, modernization seeks to address these limitations and allow the actuarial function the freedom to innovate, dig deeper into the business, provide forward-looking insights and have a strategic partnership with management.

At modernized insurers, tailored reports direct actuaries’ attention to portfolios with unusual characteristics. Automated programs quickly populate various templates for additional ad hoc analyses and drill-down investigation. Data visualization tools provide management comfort with findings and remediation recommendations. Cross- functional reporting and implementation teams fluidly improve on-the-ground results. Research features exploratory environments (“sandboxes”) and widespread data access that helps innovators discover emerging trends early, leading to potential differentiators. As an added benefit, actuarially modernized functions operate at a much higher level of efficiency, with greatly reduced levels of time needed for manual processing and data manipulation.

Factors for successful modernization/ key considerations

The thought of overhauling entire systems, processes and functional areas may feel overwhelming for company executives. This is understandable, as comprehensive modernization is a long journey that likely will have a significant price tag. As a result, many companies address modernization in steps. Although, in an ideal world with limitless resources, modernization could occur in a “big bang,” there is significant value in first addressing the areas in most need of modernization (while maintaining an overarching focus on holistic modernization). As one area becomes more streamlined and efficient, other areas will start to reap the benefits.

Regardless of the breadth of modernization initiatives, modernization strategies will require a holistic consideration of data, methods and analyses, tools and technology, actuarial processes and human capital requirements.  These strategies will also need to address the business and operational changes necessary to deliver new business intelligence metrics. Any weak links between these closely connected components will limit the realization of actuarial modernization.

Although a modernization strategy should be holistic to avoid “digging up the road multiple times,” it is possible to tackle modernization issues in logical, progressive ways.

Achieving the vision

The first step is a comprehensive assessment of current processes and identifying the areas in greatest need of modernization. If we consider each modernization dimension (e.g., data, processes, technology, etc.) as a gear in motion, the first step to modernization  involves identifying which gear in the function does not work in concert with the others. Stakeholders should collaborate on creating a comprehensive plan of action with an objective view of the dimensions that require immediate attention, while keeping in mind how each gear affects the organization as a whole.

The Case for Modernizing Insurance

Several drivers of change are compelling insurance companies to re-evaluate and modernize all aspects of their business model and operations. These drivers include new and rigorous expectations from regulators and standards, increasing demands for more relevant and useful information, improvements in analytics and the need for operational transformation.

The modernization creates considerable expectations for finance, risk and actuarial functions, and potentially significant impacts to business strategy, investor education, internal controls, valuation models and the processes and systems underlying each – as well as other fundamental aspects of the insurance business. Accordingly, insurers need more sophisticated financial reporting, risk management and actuarial analysis to address complex measurement and disclosure changes, regulatory requirements and market expectations.

Three key areas to look at:

Regulation and reporting

Changes in regulatory and reporting requirements will place greater demands on finance, risk and actuarial functions. Issues include:

  • Changing global and federal regulation (e.g., Federal Insurance Office, Federal Reserve oversight)
  • ComFrame, a common framework for international supervision.
  • Principle-based reserving
  • Own Risk and Solvency Assessment (ORSA), the Solvency II initiative that defines a set of processes for decision-making and strategic analysis
  • Solvency reporting measures
  • Insurance contract accounting

Information and analytics

Stakeholders are demanding more information, and boards and the C-suite need new and more relevant metrics to manage their businesses. Issues include:

  • Economic capital
  • Embedded value
  • Customer analysis and behavioral simulation
  • New product and changing underwriting parameters

Operational transformation

Those in charge of governance are demanding that the data they use to manage risk and make decisions be more reliable and economical. Issues include:

  • Updated target operating models
  • Centers of excellence
  • Enterprise risk management (ERM), model risk management and governance
  • New framework from the Committee of Sponsoring Organizations (COSO), a joint initiative of five private-sector organizations that provides thought leadership on ERM, internal controls and fraud deterrence
  • Optimization of controls, and efficiency studies

These drivers of change, which affect every facet of the business — from processes, systems and controls to employees and investor relations — have significant overlaps, and insurers cannot deal with them in isolation. To meet emerging challenges and requirements, simply adding processes or making one-off, isolated changes will not work.

Systems, data and modeling will have to improve, and the finance, actuarial and risk functions will need to work together more closely and effectively than they ever have before to meet new demands both individually and as a whole.

Moreover, all of this change is imminent: Over the next five years, leading companies will separate themselves from their competitors by fully developing and implementing consistent data, process, technology and human resource strategies that enable them to meet these new requirements and better adapt to changing market conditions.

The insurers that wind up ahead of the game will excel at creating timely, relevant and reliable management information that will provide them a strategic advantage. Legacy processes and systems will not be sufficient to address pending regulatory and reporting changes or respond to market opportunities, competitive threats, economic pressures and stakeholder expectations. Companies that do not respond effectively will struggle with sub-par operating models, higher capital costs, compliance challenges and an overall lack of competitiveness.

In subsequent articles, we will take a closer look at those leaders/business units that need to modernize.

 Eric Trowbridge, a senior manager, contributed to this article.

Overcoming Newton's Laws

Like many companies in many industries, and practically every human being I know, the insurance world can be change-resistant. We fight natural laws even as we recognize the very need to adapt and grow. When it comes to adopting technology — a topic I hope to explore in future contributions here — change is particularly difficult.

So how do you get your organization to change, to adjust, to transform? How can you promote and ensure a change in direction or propel a faster change? A few key lessons found in Newton's Laws can shed light on some good answers.

In 1687 Sir Isaac Newton published his work, Philosophiæ Naturalis Principia Mathematica, what we commonly call Newton's laws of motion. I am sure you remember Newton's laws of motion? Here's a layman's version (with apologies to Sir Isaac):

  1. First law: A body (mass m) in motion stays in motion unless it is acted upon by an external force (F). Picture a big boulder rolling down a shallow slope, just enough slope to keep the boulder rolling but not enough for the boulder to gain speed.
  2. Second law: A body will accelerate if pushed in the same direction as it is moving, i.e., F = ma (we'll need the formula later; I know, you were told there would be no math). Same boulder, now rolling slowly so you catch up to it and push it from behind, causing it to go faster.
  3. Third law: The forces of action and reaction between two bodies are equal and opposite. This means that whenever a first body exerts a force F on a second body, the second body exerts a force -F on the first body. F and -F are equal in magnitude and opposite in direction. Our boulder example again, only this time it runs into another boulder, which causes the first boulder to slow or stop and the one it hit to steer off in the opposite direction of the hit.

So that's what you already knew. What I bet you didn't know is that Sir Isaac Newton spent a lot of time at Edward Lloyd's coffee shop in London (Lloyd's of London). Sir Isaac was a professor, after all, and was nothing if not observant. For years he listened in on the conversations of insurance professionals as they talked about their businesses while sipping his nonfat vanilla lattes. He soon postulated the three laws of business:

  1. First law: A business (mass m) will remain on its course, good or bad, profitable or unprofitable, forever if no new forces act upon it.
  2. Second law: The larger or older a business is (big mass m), the more force (change agent F) it will take to accelerate its course.
  3. Third law: If a force (F) is exerted on a business (mass m) to try to change its course, expect some pushback (-F).

Sound familiar? Think about your own organization. Now do these “laws” ring a bell?

It is important to note that I love the insurance business and have been studying the industry from the inside for 34 years. That said, I do think Newton's laws of business have a stranglehold on our industry. While there are exceptions, many companies are in a “state of uniform motion,” and too many companies struggle to change course. Still others try but are forced to give up when change is not well received by those affected.

So what can an organization do to overcome Newton's laws or, in reality, use the laws to their advantage? Let's tackle them one at a time.

First Law in Action
Insurance is cyclical: soft and hard markets, profitable and unprofitable cycles. The common response is, “That's just the way it is, and we can't do anything about it.” To change speed or course requires a strong desire and some planning. It also requires an understanding of your mass m (your “boulder”, i.e., your company).

As Davenport and Harris state in Competing on Analytics: The New Science of Winning, you must know what you are really good at; that is, you must know your distinctive capability. So how do you get a deeper understanding of who you are as a company? How do you discover what you are really good at? You do the analysis — identify your team's talents and limitations; understand what your profitable and unprofitable clients “look like”; determine how and where you make money (or not); pin down your processes; know what additional corporate assets you have to work with; and so on.

Use all the technology tools available, including data analytics, descriptive and predictive modeling, and sometimes, outside help. You really need to understand the composition of your “boulder” and the nature of the landscape it is rolling down, including the other boulders (competition) that you may run into.

Second Law in Action
“We have always done it this way.” It pains me to even write that statement. In a young organization, you don't hear this statement that often, if at all; everything is new. There are no “habits.” Brand new companies are more like a handful of pebbles thrown down the hill than they are boulders. The smaller the mass m (the company), the less force required to change its course; Newton's second law of business.

And generally the larger and/or older the company, the greater the mass m = greater force required to change course. So if you hear, “We have 2,000 claims people scattered across the country; changing will be impossible,” ask yourself, will it really? Sure, change will be hard, maybe really hard. Therefore, F just needs to be larger, making the achievement that much more rewarding.

Here is where talented leadership is very important. Gain a following first (a big part of being a leader), paint a clear picture of where and how fast you want your boulder to roll, and people will get behind and push. Once the momentum picks up, you may encounter many competing forces; therefore, put some governance in place so the most important projects get everyone's attention. And have strong project management to keep the force applied in the right direction. Strive for quick, small successes so people “see” progress. People in IT will help you; they are trained in the discipline of managing projects and portfolios of projects.

Third Law in Action
You have taken a good assessment of your company, you have good leadership in place, and you have charted a new course and speed. You initiated projects with governance in place to assure they are the “right” projects. Everything is rolling along, but Newton's laws are still present. Now the troops start pushing back.

People tend to know the third law best. Proactive collaboration with your teams goes a long way to overcoming human pushback. When people participate in the process and know what they are doing, -F is minimized. Business intelligence and analytics can help here, too — even something as simple as who is using what technology and how often. Metrics on adoption are great.

Eight Steps For Leveraging Newton's Laws Toward Positive Change
Changing course isn't easy. The larger or older an organization is, the harder the course change. Quality change management is worth its weight in gold (even at today's price), and these eight steps can help.

Step 1 — Understand your “boulder.” Get outside help if you aren't really good at introspection. Analyze past history. If you buy into Newton's laws, your history will repeat itself unless acted upon by an “external, unbalanced force.” Today's technology provides unprecedented capabilities to study historical data in ways that were not possible (or at least were really hard to accomplish) just a few short years ago. There are so many ways to gather data and analyze the buyers of your products. Make sure you know your current business and your market.

Step 2 — Recognize that Newton's first law of business exists and that change requires hard work and good, strong leadership. It fact, leadership is the most important aspect needed for changing course. Effective leadership at the top is a must, but it's also a required factor of others who lead people in your company.

Step 3 — Determine your new direction. Use what you learned in Step 1 to establish the speed you want your boulder to go and in what direction. Once you know in which direction to head, you must figure out how to shove your boulder with the right amount of force. Typically, you must shove it hard to get it to change course, pick up speed, or both.

Step 4 — Recognize that talented leadership can exert a significant force. Talented leadership involves cultivating a following of believers, so that the third law is minimized and your team will eagerly follow the new course. It means painting a clear picture of where you want your boulder to roll. Your team must know the “destination” so they can help move your team, department, and company toward it.

Step 5 — Get governance in place. When an organization has bought into change, really bought into it, then there can be many competing forces. Governance must be strong so the “right” forces affect the direction of the company. Governance helps by identifying which way to “push” and ensuring the right amount of force. Remember the first real law: the force has to be unbalanced. If competing projects cancel each other out, the boulder will keep rolling in the same ol' direction, at the same constant (probably slow) speed.

Step 6 — Establish strong project management. A new course is set; the proper force is applied, and is applied in the right direction. Now the change must be monitored. Leadership should be kept informed. Course corrections may be required. It's all part of good project management. At my firm, we are huge Agile Methodology zealots (that's redundant). Breaking the work into manageable chunks and keeping people informed are great ways to accomplish what needs doing. It also helps to address the third law. People like to “see” progress and feel a sense of accomplishment.

Step 7 — Don't forget your people. People are subject to Newton's Laws too. Make sure you have human change management in place. Proactive collaboration with your teams goes a long way to overcoming human pushback. Train early and train often. When people participate in the process, know what they're doing, and understand what's expected, then -F is minimized.

Step 8 — Assess and amend. It is so easy to get off course, since there are many forces F and -F exerting influence on your company, both internally and externally. As you work to change or accelerate course, Newton's Laws will always be in play. Making adjustments as you go is critical to success.

Change is inevitable, whether you're changing your boulder's course or letting your competitors' boulders get in the way. But change can also be fun.

Over the course of 34 years, I have been called many things; one of the good ones is a change agent. I hope this article will help you change your organization in many positive ways. When you think about change, remember Newton's Laws and let them guide your actions. Embrace change. You can make it happen.