On Sept. 20, 1977, Happy Days broadcast its season five premiere. The central characters visited Los Angeles and, having had his bravery questioned, Fonzie took to the water (still wearing his leather jacket, of course) on water skis. And jumped over a shark. Even at the time, the scene was immediately seen for what it was — a credulity-stretching ratings ploy that revealed the network’s desperation to win back an audience for a show that had run out of ideas. Over the years, the concept of “jumping the shark” evolved into an idiom to describe that moment when any idea, brand, design or franchise demonstrably loses its way. Could it be applied to the Insurtech industry today, I wonder?
Certainly, the numbers seem to be pointing in the wrong direction. Insurtech investment was down 35% in 2016 vs. 2015, from $2.6 billion to $1.9 billion, according to CB Insights. The trend accelerated in the first quarter of 2017, with insurtech funding down 64% vs. 2016 to $283 million. The market’s collective pulse can hardly be said to be racing.
For those of us who lived through the dot-com boom (and bust), there is also a depressingly familiar echo between how corporates reacted to the emergence of the internet then and what is happening now. Hardly a day goes by, it seems, without yet another corporate incubator or venture fund being announced or newly minted chief digital officer (whatever they are) being appointed. And while the (often dumb) money continues to pour in to ever more outlandishly named startups, the media is falling over itself to write the incumbents’ obituaries and crown their sneaker-wearing young pretenders. If we haven’t reached peak-hype yet, then we surely can’t be that far off.
Of course, we shouldn’t ignore the insurance industry’s ability to remain resolutely analog in a digital world, insulated from reality thanks to the formidable barriers to disruption that are regulation, brand, customer base and balance sheet. I am reliably told that two trucks a day still leave Lloyd’s for an offsite document storage facility, loaded to the gunwales with paper, while another comes back the other way…
Dig a little deeper, however, and a different picture emerges. The 2015 numbers were arguably distorted by two huge one-off investments (totaling $1.4 billion) in Zenefits and Zhong-An. Ignore those, and the underlying growth story remains compelling, with insurtech investments between 2010 and 2016 growing at a CAGR of more than 50%.
Importantly, insurtech, for so long fintech’s poor relation, is closing the investment gap. Analysis by CB Insights shows that the ratio of total fintech to insurtech investments has more than halved from 9.1 to 1 in 2014 to 4.5 to 1 in 2016 as investors wake up to the opportunities on offer.
Also encouraging is where that insurtech investment is being made. While 67% of insurtech investments between 2012 and 2016 have been in the U.S., that proportion shrank to 47% in the first quarter of 2017. A swallow does not a summer make, but other data suggests that this is consistent with a growing diversification of insurtech investment away from the U.S. to other insurance markets, in particular Europe.
Of course, investment is only one window on the insurtech story. And if there is a surprise, it is perhaps that the numbers are not much, much larger, given the size of the industry, the opportunities on offer for new entrants and the stakes at play for the incumbents.
There is some confusion, however, as to exactly what the nature of the insurtech opportunity is, particularly on the P&C side of the industry, which is arguably where the most immediate focus should be.
Some talk of the potential for robotics to drive operational efficiency, particularly in the claims process. This may well be true, but to my mind isn’t really insurtech. This is just the insurance industry waking up to the potential of process automation. Most other parts of the financial services industry got there at least 10 years ago.
Others talk of the impact of driverless cars and how this will slash motor premiums, as vehicles become inherently less prone to crash and the liability burden shifts to software manufacturers. Or how 3D printing will decimate the trade indemnity market as products are printed locally rather than shipped internationally. This may well be true, but isn’t insurtech. This is simply the impact of new technologies on different parts of the global insurance premium pool.
Some talk of the rise of cyber risk and drones and how this will create new categories of risk. Again, this may well be true, but isn’t insurtech. This is just the emergence of new classes of risk that the market will assess, price and refine over time, as it has always done.
To understand what the P&C insurtech opportunity truly represents, you have to strip the insurance industry back to its fundamentals. On this basis, insurance, at its core, could be said to be simply the flow of money and data. Money to pay premiums and pay claims. Data to price risk and analyze claims.
Accept this, and the beating heart of the insurtech opportunity lies in three main areas: distribution, underwriting and claims.
- Distribution in terms of i) using technology to identify, attract and convert clients far more effectively than before and ii) in terms of delivering a far better customer experience that more closely matches expectations of convenience, access and transparency formed through people’s interactions with leading online brands and services. Look at the rise of peer-to-peer insurance platforms such as Lemonade or Guevara, for example, and the emergence of products based on actual usage rather than an annual policy, such as sold by Trov and Metro Mile. The change in distribution will be marked by an increasing shift from insurance being viewed as a grudge purchase to being truly optional.
- Underwriting in terms of a revolution in the way that data is used to accurately price risk at the individual level, using not just historic information but a continuous stream of data that enables live pricing based on actual risk and usage. Gone are the days when a risk might be underwritten based on five data points and a couple of tickets to Wimbledon. An MGA I met the other day is using more than 1,000 data points in its rating engine, sourced for free through public information, to make tens of thousands of individual underwriting decisions in milliseconds.
- Claims in terms of using technology to deliver significant efficiencies in how quickly claims are handled and resolved and through the application of advanced analytics to reduce fraud. And of course if you underwrite better, you will in any case have fewer claims!
The interesting thing is how little the industry still appears to have shifted its ways of working in reaction/anticipation, outside of the well-publicized activities of some of the larger players such as Axa, Munich Re, Allianz and Mass Mutual. There are many potential explanations for this corporate heel-dragging: leadership teams who are the wrong side of the digital divide and who therefore simply don’t get it, a lack of organizational agility, a fear of upsetting existing distribution channels/cannibalization or upsetting staff, the difficulty in running a traditional model alongside a new one, network dependency (i.e. you can only go at the speed of the slowest), a lack of investment capital and the uncertain ROI of any technology investment. After all, why invest in a speculative digital strategy when you can hire a couple of extra brokers and almost guarantee a few hundred thousand of extra commission?
Further, those that are taking action are arguably placing a disproportionate amount of effort into leveraging technology to improve their internal efficiency and reduce costs. The problem is that, while easier and more tangible for them to tackle, internal operations only represent about 10% of the average insurer’s cost base. Compare that with 20% to 40% for distribution and 40% to 60% for claims, and companies appear to be fishing in the wrong pond.
This observation hasn’t been lost on the PE/venture industry, or on the more progressive corporate venture funds. But even here, a disproportionate amount of investment capital appears to have gone toward distribution alone. McKinsey’s Panorama Insurtech Database suggests that 17% of P&C startups are focused on distribution, vs. 10% on pricing and only 7% on claims. At one level this is understandable: Data is boring and incremental, while distribution is higher-profile, easier to target and quicker to monetize. But, by the same token, this means that more and more players are trying to disrupt the same, increasingly crowded part of the value chain, in slightly different ways. They can’t, and won’t, all survive.
A few big winners will no doubt emerge from this feeding frenzy. However, the vast majority of today’s media darlings will fail or find themselves overtaken (or perhaps taken over if they are lucky) by incumbents informed (at their and others’ expense) by the success or otherwise of all these live “pilots” and armed with deeper pockets, a balance sheet, a trusted brand and actual customers. Students of history will again see a clear parallel to the winners and losers of the dot com years. Anyone else remember clickmango.com and its pink inflatable boardroom?
What conclusions to draw from all this?
Well, firstly that the real, lasting disruptive opportunity for the P&C insurance industry is far more likely to be within underwriting and claims. It may be unsexy, but it is where the bulk of the cost is and is the hardest to get at. It is also, therefore, where there is a real opportunity for new entrants to build something of meaningful, differentiated and sustainable value, rather than on the distribution side, where the barriers to entry are far lower and it is far easier for incumbents to simply adapt their offerings and compete away efficiency savings in the form of price reductions.
Secondly, if the above is true, then whoever has the most data wins. This favors incumbents, in particular scale players (on both the broking and the insurer side) or medium-sized players willing to work collaboratively with others to pool resources and know-how and access third-party services. But it also creates opportunities for players (hardware (e.g. telematics), software or consulting) that are supplying, enriching or analyzing data on a partnership basis with players who would not otherwise have the resources to go it alone. Those unable or unwilling to be part of these collaborative networks will fail or have to sell out.
Thirdly, as a consequence of the above, the real risk to incumbents is perhaps less from disruptive new entrants that in many cases will be more interested in partnering with them than eating their lunch, than it is from their traditional competitors stealing a decisive march on them. In today’s kinetic world, being a fast follower may no longer be good enough. Hence the logic of all these corporate incubators and venture funds (as long as they are investing in the right things, of course).
Fourthly, much of what we read about in the media in terms of the incubator/venture activities of the major players should be seen for what it is — noise that more than likely is designed to conceal their real focus: investing in machine learning and advanced analytics that promises to utterly transform their ability to accurately price and distribute risk. This smoke screen is hardly surprising given the potentially seismic implications for their existing broker relationships and staff, not to mention their customers. Indeed, the potential consequences for those no longer able to secure coverage, or only able to do so at rates far beyond what they pay today, are serious and will surely trigger regulation to avoid vast societal imbalances.
Finally, partly as a result of the above as well as related technological innovation, the one thing that is absolutely certain is that the size of the overall insurance revenue pool will shrink significantly. Driverless cars and sensor/IoT technology mean that there will simply be far fewer losses than before. McKinsey’s base case scenario sees a 30% drop in global motor premiums and as much as a 70% fall under some conditions. What’s more, better data doesn’t just lead to better underwriting but also enables better risk prevention and avoidance. Wearable tech, for example, drives healthier living, telematics safer driving. This promises to drive further consolidation across every part of the value chain toward truly value-added players, shift fundamentally the role of the broker (and arguably the insurer too) toward risk consultancy and trigger the rise of a range of complementary services, platforms and product offerings to fuel and profit from this trend.
See also: Insurtech Is Ignoring 2/3 of Opportunity
For an industry already reeling under the combined impact of increasing regulation, an unrelentingly soft rating cycle, over-capacity, terminally low interest rates and vicious competition, the rise of insurtech could perhaps not come at a worse time. And yet ironically it is precisely this combination of factors that means that the industry has finally come round to the realization that, if it doesn’t change soon, the world will change around it. Or, as Chinese philosopher Lao Tzu said, “If you do not change direction, you may end up where you are heading.”
Global insurance premiums stood at around $3.6 trillion last year, according to Swiss Re. This is a huge, unreformed global market crying out for change. Forget jumping the shark. Now is the time to grab the insurtech bull by the horns. And hold on if you can.