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ESG Means ‘Extremely Strong Gains’

Global institutional investment is increasingly influenced by environmental, social and corporate governance (ESG) considerations, with sustainable investment now exceeding $30 trillion. That’s up almost 70% since just 2014 and up 10X since 2004; within these figures, the insurance sector forms a significant share of overall investments.

Further, sustainable investing’s market share has also grown globally and now commands a notable share of professionally managed assets in each geographical region, ranging from 18% in Japan to 63% in Australia and New Zealand, according to the Global Sustainable Investment Alliance (GSIA). Clearly, sustainable investing constitutes a major force across global financial markets.

While dedicated ESG funds remain a small part of the global stock market, the broader trend is toward all asset managers becoming more focused on these issues. ESG-focused equity funds have taken in nearly $70 billion of assets just over the past year, according to EPFR, while traditional equity funds have suffered almost $200 billion of outflows over the same period. 

This enormous swing in investor focus can be attributed to better awareness and consequent commitment on the part of companies and investors. Companies have come to appreciate how socially responsible investing can protect their long-term futures through sustainability. 

Out with the old, in with the new

Investors have seen these investments gain traction and allocated a part of their portfolio to them. Society, too, has collectively decided that it’s tired of the old “exploit to the max and then discard” model and has demanded a paradigm shift toward the “people, planet and profit” model.

These beliefs seem to have become stronger still during the COVID-19 pandemic, with people having more time to reflect. So, the impact goes beyond the balance sheet to include customers’ buying habits and employees’ attraction to work for companies that share their values. 

Don’t think, however, that these huge asset allocations to ESG investments are driven solely by some sort of macro-level conscience shift, with megafunds piling cash into them to salve their conscience, or that the investment community is buying into these funds purely on the basis of some kind of karmic compensation. 

The reality is quite the opposite. So much so that we could reasonably start interpreting ESG as “extremely strong gains.” 

See also: Crisis Mitigation Beyond COVID-19

A recent McKinsey report has digested more than 2,000 studies of the impact that ESG propositions have on overall equity returns and has found that 63% of the studies concluded with positive findings.

Many healthy, stable and profitable firms with poor cash flow management can struggle to survive an unforeseen dry spell with little or no cash coming in, as we have witnessed through the forced lockdown and consequent shuttering of businesses around the world as a result of the COVID-19 pandemic. McKinsey’s years-long research on the subject reveals that ESG drives cash flow in five significant ways.

Driving top-line growth

ESG-focused companies stand in good stead with both consumers and governments. On the consumer side, that means it’s easier to consolidate market share, ward off competitive advances and launch products. The companies’ good social standing also favors more rapid approval from governments in terms of regulatory approval and licenses, making it easier to expand into new territories, thereby expanding their global footprint and further diversifying their revenue streams.

Reducing costs

Effectively harnessing the “E” (environmental) in ESG can reduce a company’s operating costs, with the savings going straight to the bottom line. Clearly, newcomers to the ESG party are likely going to have to swallow some significant one-off adaptation and business process reengineering costs, but the long-time converts are already seeing the benefits. As McKinsey notes, FedEx is making a determined push to have its entire vehicle fleet running on electric or hybrid engines, and the 20% that have already been reconfigured are delivering savings of 190 million liters of fuel annually.

More nimble legal and regulatory approvals

Strong and meaningful ESG engagement enhances a company’s public image, and this can help grease the administrative wheels when entering new markets or applying for operating licenses in sensitive or highly regulated sectors. And governments looking for allies in public-private partnerships are logically going to get into bed with organizations of good social standing ahead of their less transparent and committed competitors. Supervision or intervention by governments in critical industries is less likely to affect companies that focus on the “G” (governance) in ESG, and poor relations with governments can ultimately cost millions in terms of legal appeals, rejected takeover approvals and corporate reputation.

Engaged workforces

People want to feel good about the companies they work for. Organizations that deliver on the “S” (social) in ESG enjoy higher productivity, and higher productivity translates directly into higher earnings. Not to mention talent retention and acquisition, which is critically important to those companies seeking in-demand profiles to spearhead their digital transformation strategies. 

Conversely, organizations that leave the social dimension aside in the ruthless pursuit of profit will trip themselves somewhere along the way: Weak relations with staff will potentially lead to more strikes; poor supervision of outsourcing collaborators can disrupt supply chains; and consumer sentiment can wane quickly in an economic slowdown.

Better investment frameworks

A solid ESG proposition can boost a company’s investment return by directing capital to promising opportunities that can offer outsized yields as a result of getting in on the ground floor. Refreshing investment capital allocation can also help prevent expensive write-downs on historic investments that have reached the end of their useful life. Better to adapt and spend now than run the risk of having to play catch-up later down the line.

MAPFRE’s commitment 

At MAPFRE, we have committed to stop investing in electricity companies in which more than 30% of its income comes from energy produced from coal, nor are we going to insure new coal mines or the construction of new coal-fired power generation plants.

MAPFRE also has a mutual fund, Capital Responsable (“Responsible Capital”), which follows on from the existing Good Governance Fund and is complemented by a pension scheme and a mutual society (EPSV). The fund is the first of its kind to be launched in Spain and will invest in the shares and fixed income securities of European companies selected on the basis of their ESG attributes.

The Mapfre Inclusion Responsable fund invests in profitable European companies that pursue the inclusion of people with disabilities in their workforce. The goal is to demonstrate that, in the long term, companies that take these factors into account are much more sustainable and profitable than those that do not.

MAPFRE and, we believe, increasingly others, too, will continue to invest in ESG for the good of society but also for the extremely strong gains that will surely follow.

Why Southeast Asia Is Ready for Disruption

The Southeast Asian insurance market is ripe for disruption. With a growing middle class, rising incomes and a propensity to use digital technology for real-time purchases, the market is now looking for innovative, real-time solutions for growing insurance needs.

The past 15 years have truly been disruptive in SE Asia, with real regional GDP growing at an average rate of 6.5 per annum and household incomes growing to $38,000. Technology development and dissemination is equally impressive. Internet penetration is expected to grow from 260 million users today to 400 million by 2020. The overall SE Asia internet economy is expected to grow to $200 billion by 2025.

Growing economic prosperity is translating directly into rapid and sustained growth in the SE Asia insurance market. Munich Re Economic Research is forecasting overall premiums to increase more than 9.5% in 2017. Life products are expected to do even better, with growth of more than 13.5% per annum. With almost two-thirds of the vast population of Asia-Pacific now using smartphones, insurtech is expected to grow quickly. For example, in Malaysia, the online life platform and startup U for Life allows consumers to purchase life insurance products instantly online. All these factors are laying the foundation for the imminent disruption of the SE Asian insurance market.

See also: Insurtech Ecosystem Emerging in Asia  

True disruption in SE Asia will require a blend of high-tech and high-touch approaches so that insurance companies can keep their relationship with the consumer personal while concurrently ensuring that they optimize the efficiency of the relationship. Technology will continue to develop rapidly, with an increasing use of artificial intelligence, facial recognition and telematics. Winners in the age of disruption will also maximize the use of robotics, process automation and data analytics to make the customer pleasant — or at least not painful.

True disruption will only come when we throw the proverbial book out and leverage technology to reshape insurance. What if you had the ability to purchase insurance, as you needed it, as long as you needed it and at the moment you needed it? Taking it a step further, what if your insurance provider could anticipate your needs and provide you with the opportunity to purchase a temporary policy before you had even thought of it?

Let’s say that you are planning a three-day deep sea fishing trip with your friends. You receive a text from your insurance agent, who has been notified of your trip via social media. He is wishing you a great adventure and for $25 a day suggests an additional $75,000 in accident/life insurance just for added comfort. As you are spending $1,200 on the trip, the extra $75 is a small expense, but the additional comfort is significant.

This is situational insurance, and to get there a number of things will need to happen. First, insurance providers are going to need to develop very robust data sets for the individuals they plan to cover. Providers need to know the basics: age, marital status, income, etc. and then they will need to dive deeper. Providers will need to know people’s hobbies, aspirations, fears, passions and more. Providers then must keep building on the data and keep it timely.

Of course, the devil is in the details! For situational insurance to become a reality, providers will need artificial intelligence, as they must begin to anticipate behavior so that they can begin to develop relevant products and know when a client is going to potentially need them. Getting to this point will take time, as it will require the support of behavioral scientists, statisticians, mathematicians and of course, AI specialists, all working together.

At Soteria, in Hong Kong, we are actively working on this situational model with the support of Mapfre and Allianz. Actuaries like situational insurance products, as the statistical odds of death or a serious accident during a limited period are quite low, even if extreme sports are involved. However, the model will require the support of insurance carriers and regulators, even though continuity and predictability have been thrown out the window.

See also: How to Respond to Industry Disruption  

How close is situational insurance to becoming reality? Five years ago, did anyone really believe driverless cars would exist?

Just don’t be surprised if you get a friendly text before heading out on your next scuba diving adventure.

How to Focus on Emerging Markets: Operational Excellence

Global economic trends will transform the customer base for most industries across the world. Rising per capita incomes, favorable demographics and continuing economic growth are leading to a massive expansion of the emerging middle class.

The World Bank defines the middle class in two brackets based on earnings per day: US$2–US$9 and US$9–US$13. According to the World Bank, 10 times as many people entered the lower versus the higher income bracket between 1990 and 2005— highlighting the success of countries such as India and China that have invested millions in the middle class over the past two decades. For this report, our focus is on 
those earning US$2–US$9 a day, or the “emerging consumer.” We define the “global middle class” as earning an average of US$10–US$100 a day. This level of consumer has more disposable income to buy consumable goods and to invest.

While the remarkable growth of emerging market economies has brought millions out of poverty, fewer people have moved into the global middle class. Over the next two decades, we estimate that the middle class will expand by three billion people, coming almost exclusively from the current low-income segment. Financial inclusion will be important to aid this expansion. The significance of insurance for this low-income customer segment cannot be overstated, particularly given the lack of social health care in these countries. Life insurance supports a family when the breadwinner dies; in-patient hospitalization costs are generally paid for through out-of-pocket expenses and can deplete existing savings. As climate change and natural disasters such as Cyclone Phailin in the Philippines become more prevalent, the importance of asset-backed insurance (e.g., for weather, cattle and livestock) continues to grow.

The importance of insurance

Insurance has clear social value for the emerging consumer. Low-income consumers need to be insulated from risk because they lack the accumulated capital to withstand adverse events. Apart from its advantages as a risk management tool, insurance enables low-income consumers to take calculated risks to emerge from poverty, make wise investments or ensure their families will be provided for in case of an unforeseen event.

As economists Abhijit Banerjee and Esther Duflo point out in their book, Poor Economics, the poor are not irrational in their spending behavior, but rather hyper-rational, because the value of each money unit is higher than for other consumer segments. Thus, insurers should understand some of the key challenges facing these consumers and align their operating models to service them better:

  • Inconsistent cash flows — These consumers often have irregular pay cycles, making premium payments difficult.
  • Significant dependency on a single source of income — Dependence on one main breadwinner may create a financial burden.
  • A mobile segment — Many jobs require long commutes from rural areas and constant mobility; lack of portability and accessibility may hinder the purchase of insurance.
  • Lack of awareness of the concept of insurance — Risk pooling or premium payment benefits that may not accrue to the customer may be difficult concepts to understand.
  • Lack of trust — For some industries, this may lead to reputational issues; these can be more extreme when purchasing an intangible product like insurance.

Despite these challenges, customers spend sleepless nights worrying about various risks. The vulnerability is much greater for this segment than for others with higher disposable income.

How big is this market?

In 2009, there were approximately 1.5 billion–3 billion people with minimal access to formal insurance services globally, as highlighted by Lloyd’s of London. Today’s audience has not changed significantly, but consumers face different risks — related to life, health and assets. ILO’s Microinsurance Innovation Facility believes that insurance for low-income consumers has evolved differently across geographies — from 200% growth between 2008 and 2012 in Africa to a steady evolution in India and other Asian economies.

India has the largest share of low-income consumers with insurance — the result of strong regulation and government schemes, especially in health insurance. South Africa, Kenya, Ghana and Tanzania have been rapidly increasing coverage and developing microinsurance-focused regulations. Asian economies such as Indonesia, the Philippines, Bangladesh and Pakistan continue to grow in this space, as well.

Emerging markets are unique in terms of demographic and economic segmentation. Countries such as India have a more standard income-based segmentation pyramid, whereas other developing countries such as Ghana and Nigeria have a flatter pyramid, with most potential customers in the low-income segment.

Globally, we observe many insurers and intermediaries expanding their sales focus down the pyramid to reach the emerging consumer. Depending on the specific market, some players are servicing the low-income customer segment through simple insurance offerings and third-party distribution. Nevertheless, the vast majority are conventional insurers targeting the current “top” of the pyramid.

Irrespective of the geography, insurers recognize that today’s low-income customers are tomorrow’s middle class. However, winning this customer segment is not just about creating lower-priced products or selling existing products using a third-party distributor such as a micro-finance institution. Insurers will have to learn from the dynamics of their respective markets and drive innovation by transforming their strategies and operating models to grow with emerging consumers and their developing needs.

But is it profitable?

The foremost challenge for insurers in this market
 is the lack of systems and dedicated performance management tools to track profitability. These are often missing because of a lack of investment or simply lack of focus by senior management. The industry segment is young and lacks tracking tools. Insurers usually do not separate performance reporting between traditional and emerging consumer insurance. Future performance management tools need to capture metrics for both revenue and cost to determine the profitability trends for this segment.

Typically, there is a lack of historical risk data for low-income consumers. Thus, pricing is not very scientific and uses proxies with a constant iterative feedback loop. As historical data quality improves, we expect risk-based pricing for this segment will lead to better-priced products.

Insurers are leveraging various technology-enabled channels, such as mobile phones in Africa, to sell these insurance services, thereby reducing distributor and operating expenses. Insurers are also selling life insurance through retailers reusing rechargeable vouchers, thus eliminating the distributor layer and trimming costs significantly. Various government-sponsored insurance schemes have standardized processes for enrollment of new beneficiaries, post-sale servicing and claims management. However, there are no universal measures to reduce market costs — an important objective because insurers need to demonstrate profitability. Those insurers that can redefine their operating models and generate high operational efficiency will reap the benefits of serving this large, untapped and developing customer segment.

Need for greater investment

Insurance companies in emerging markets have typically found it expensive to cater to the emerging consumer. The high cost of acquisition, lack of trust and inaccessibility make outreach difficult. Moreover, many insurers have failed to develop a sound business case, with a low-cost and differentiated operational strategy, to enter these markets.

Insurance for the emerging consumer is still in a nascent stage. While large insurers may be deploying significant capital to penetrate this market, other initiatives have been part of corporate social responsibility or philanthropic programs. Often these projects target specific concerns related to product development, distribution or customer awareness. Such forms of funding do not appear sustainable or scalable for the long term.

Transformational programs are required to achieve operational excellence. This is where investment from insurers or private equity investors (more specifically, impact investors) can bring true value — not just in 
the form of capital, but also technical knowledge and expertise to develop cost-efficient distribution channels and well-designed products, and to drive organizational change for profitability.

As insurers rapidly expand in emerging markets, we see opportunities to help them with specific geographic issues in impact investing, measurement and value generation. We are working together with LeapFrog Investments to reach this virtually untapped market. Their approach is a compelling complement to our broad service lines and global competence.

Effectively targeting emerging consumers

Many insurers have used existing operating models in innovative ways to reach the low-income consumer.
 A large private sector life insurer in India, for example, created a “top-up” life insurance product in 2008, offering low-income consumers pay-as-you-go options. This eliminated scheduled premiums for consumers who typically do not have a steady stream of income.

In addition to our earlier discussion of issues facing consumers, there are three dominant challenges for insurers to consider in developing the emerging consumer market.

  • Awareness — Building customer trust through educational and marketing initiatives; the most convincing way for insurers to build awareness is to deliver on their claims’ promises
  • Affordability — Providing insurance at an affordable price and benefits that the end customer values; this places high importance on product design
  • Accessibility — Ensuring ease in purchasing insurance, servicing and claims handling

These three challenges can be mapped to the following external and internal success factors that will play an important role in developing this market.

External success factors

Regulatory framework

A strong regulatory framework is required to support the industry, and emerging markets have benefited from the regulatory push. India’s insurance regulator was among the world’s first to have quota-based mandates for licensed insurers (requiring them to source a percentage of their business from rural and unorganized markets) and to develop specific regulations for products and distribution. A more principle-based approach is being taken by The National Insurance Commission in Ghana in drafting microinsurance regulations. These enable insurers to innovate with product definitions and distribution tie-ups as they develop affordable and accessible products for the lower-income segment.

Technical and logistical infrastructure

Insurers in emerging markets also face infrastructure-related challenges, requiring local and highly pragmatic business solutions. Typical issues include a lack of options to communicate or interact with customers, no “know your customer” processes and limited payment infrastructure. Leveraging the high mobile penetration, various technology-based solutions
 have emerged. Insurers need flexibility to ensure that insurance sales, post-sale servicing and claims management are quick and efficient.

Intermediaries and partnerships

Distribution is one of the most important concerns. Last-mile connection with customers is a challenge because of a large segment living in inaccessible areas, their constant mobility or simply a lack of access to the same touch points more affluent segments have (e.g., bank branches, financial advisors). Use of traditional distribution channels, such as agents or advisors, can be an expensive proposition because of high commissions and the need to adapt specific requirements for this segment. Furthermore, existing channels are typically not trained to deal with the lower-income consumer. Along with traditional channels that are managed in a lean and cost-efficient manner, there are other successful distribution alternatives in this market that include partner-agent models (e.g., using business correspondents), as well as those created by piggybacking on existing distribution channels (e.g., mobile network operators, retailers).

Internal success factors

Low-cost and efficient operating model

Insurance for low-income consumers is a low-margin business because of lower average premiums per customer and relatively high fixed costs. This makes it more important to run an efficient operating model with simplicity and innovation and to ensure that internal processes are standardized across the organization. Customer interfaces need to be simplified with each customer touch point for consistent communication. The need to leverage technology to achieve these objectives is a given.

Supporting governance structure and performance management framework

Institutional and infrastructural conditions in emerging markets lead to specific requirements in running 
the business, such as decentralized sales or strong interaction with intermediaries. This requires robust governance and risk management structures, which support management steering and enable operational control in critical areas such as quality issues or fraud. In these situations, a well-functioning performance management framework, with operational KPIs and controls, is important to identify issues and react to deviations. This should be embedded across the organizational structure.

Simple and innovative product design

Simple yet innovative product design is critical to increase penetration. Products need to be easily understood by customers, easy for agents or intermediaries to sell and provide real value for the client. Additionally, standardized products will improve operational quality and efficiency, which is critical to running a profitable business in a low-margin segment.

In the next few years, innovative solutions that provide insurance to emerging consumers will include:

  • Selling insurance through a utility company (e.g., Mapfre and Codensa in Colombia)
  • Reaching small businesses for agriculture insurance via mobile phone technology (e.g., Kilimo Salama in East Africa)
  • Integrating products with a telecom provider; outsourcing customer service and premium collection to intermediaries or facilitators (e.g., Bima in Asia and Africa)

Many of these solutions will be independent or integrated services. But insurance companies will drive these innovations, and only those players that are able to develop profitable operating models will succeed. While leveraging third-party providers for various services will be important, insurers still need to focus on their customer relationships and operations to generate maximum value from these third-party relationships.

Customer-centricity, operational efficiency, risk management and performance management will be crucial but will not ensure sustainable success. The most important aspects are corporate culture (change, individual involvement and leadership) and the mindset of people.

For the full report, see: Operational Excellence For Insurers.