Changes In The Wind For Inland Marine

Somewhat sheltered, if not immune, from the volatility of underwriting cycles, inland marine has remained an oasis of stability in a turbulent and at times super-competitive insurance arena, consistently contributing about 2 percent of the industry's total property-casualty premium base.

But this profitable line, which has consistently outperformed the p-c business as a whole, is changing. This market has begun to shrink as companies seek to extend their share of a mature business and achieve savings through mergers and acquisitions.

In 1992, a total of 582 insurer groups representing 1,215 insurers wrote inland marine on a direct basis. By 2002, only 429 groups representing 1,128 inland marine writers were left.

What's more, inland marine writers face uncertainties that will challenge the most able managers in the business to produce healthy operating results and maintain strong balance sheets.

Looking back over a span from 1993 to 2002 (the last year for which full information is available), the combined ratio for inland marine (personal and commercial lines combined) was consistently better than it was for the industry as a whole.

The combined ratio for inland marine averaged a profitable 96.311.3 percentage points better than the 107.6 average combined ratio for all lines.

However, during the same 10-year span, inland marine's growth reflected the unspectacular growth of the p-c industry as a whole. From 1993 to 2002, net written premiums for inland marine rose 64.7 percent, while premiums for the p-c industry overall rose 62.3 percent.

Despite a record of stability and strong results, no one should take the future of the inland marine industry for granted. Underwriters, brokers, agents, insureds and marketers face five critical challenges:

Growing theft of contractor equipment

Increasing claims fraud

Computer security and EDP threats

Regulation

Terrorism

Growing Contractor Equipment Theft

According to ISO statistical data, the contractor equipment class accounts for 10-to-15 percent of inland marine's written premium, and theft is the single greatest cause of loss for this risk. Theft accounted for more than 28 percent of the dollars of loss associated with heavy equipment and more than 50 percent of all contractor equipment claims.

Moreover, theft-driven losses have been increasing in this class. A published report by the National Equipment Register, a database service set up to track and recover stolen heavy equipment, cited ISO data showing heavy-equipment thefts insured under inland marine policies increased 64 percent between 1995 and 2001.

The NER report, titled “Who Steals How Much of What, From Where, How, Why and Where Does It Go?” noted its statistics do not include losses from business interruption, such as short-term rental costs, project delay penalties, and wasted management and workforce time. NER, an ISO subsidiary, notes as little as 10 percent of stolen equipment is recovered.

And it could get worse for insurers of loaders, bulldozers, backhoes, excavators, tractors, construction cranes, harvesters and the like. The NER report notes heavy equipment is relatively easy to steal and can be resold for high cash values. The risk of detection is low, and so are the penalties for the relatively few who are prosecuted. As contractors continue to cut costs, physical security on equipment will decline.

But the most serious problem may be that equipment theft creates a self-perpetuating market in which each theft fuels another. As an executive at a Midwestern brokerage observed in an interview with National Underwriter several years ago, “If someone has stolen your generator, you're in the market for another one, thus fueling the stolen-equipment trend.”

Rigorous risk management is critical in this line of business, including encouraging insureds to adopt significant loss-prevention measures.

Increasing Claims Fraud

Inland marine, which also insures valuables, including gems, fine art, furs, and rare coins and stamps, on both commercial forms and “floater” personal articles policies, is highly susceptible to claims fraud. While statistics on fraud losses for inland marine alone are not available, the P-C industry as a whole suffers annual fraud losses of about $30 billion.

To detect and prevent claims fraud and apprehend increasingly savvy criminals, forward-looking insurers are using the industry's online all-claims database, cross-checking each claim against the universe of claims and claimants in the system to identify claims histories and patterns of claims on equipment and other blanket scheduled property.

The industry's all-claims database contains more than 360 million claims in all lines of business, including autos, trucks, heavy equipment, fixed and mobile property for all perils of loss or damage. Insurers report saving an average $50 for every dollar they invest in fraud-prevention databases.

Criminal convictions for all types of claims fraud obtained by state insurance fraud bureaus almost tripled between 1995 and 2002, when more than 2,550 perpetrators were found guilty. Prosecutions by state insurance fraud bureaus also increased dramatically over the same period, from about 1,600 to more than 5,200.

Insurers are also aggressively pursuing civil lawsuits against major perpetrators and winning significant judgments. Unfortunately, the number prosecuted, found guilty or sued in civil court represents just the tip of the iceberg.

Computer Security

Computer security is another major concern for insurers, but it also presents opportunities. Policies for electronic data processing equipment have been written as an inland marine class since 1976, covering four major interests: hardware, software, extra expense and business interruption. Premiums in this area have remained relatively flat.

In its 2003 annual report, the IMUA shows premiums for the EDP class grew only 13.5 percent, from $169.3 million in 1993 to $192.2 million in 2001. Losses grew even less, 5 percent?from $81 million in 1993 to $85 million in 1998, before declining 23 percent in 1999 and 38 percent in 2000.

Theft, burglary and robbery were the major causes of loss during this eight-year period. But that changed abruptly with the terrorist attack of Sept. 11, 2001, when fire and implosion sent EDP losses soaring to almost $153 million nearly three times greater than the prior year.

The EDP class of inland marine does not begin to address the vast scope of insurance needs and opportunities in today's wired world. We work and play in the shadow of a particularly nasty threat that comes in many guises. “Melissa,” “Love Bug,” “Slammer” and “So Big” are some familiar examples of computer viruses that can attack corporate systems and cause financial havoc.

An estimated $8.75 billion in data productivity was lost because of the “Love Bug” in 2000, for instance, and the worldwide financial impact of major virus attacks for 2003 is projected to be $12.5 billion. Experts believe U.S. businesses are largely unprepared for computer-related risks?risks not yet fully addressed by traditional insurance. Clearly, new specialized coverage's are needed for protection against data loss, cyber extortion and terrorism, and identity theft.

Regulation

A cornerstone of inland marine insurance is its ability to insure unusual or unique risks under tailor-made policies at rates for which there are no guiding precedents. About three-fourths of all inland marine premiums are from such nonstandardized business. That unique ability could be threatened by expanding state regulation requiring companies to make filings for classes traditionally exempt from rate and form regulation.

Besides its tradition for disciplined underwriting, the inland marine business succeeds because of its ability to respond quickly to emerging marketplace issues. The predominantly nonfiled classes in inland marine enable underwriters to tailor coverage decisions on an account-by-account basis an important benefit to insurance buyers who need extremely broad and customized policies.

To preserve the benefits of operating efficiency and customer responsiveness resulting from the nonfiled status of this unique line, insurers should be wary of regulatory incursions.

Terrorism

Sept. 11, 2001, overshadowed even the most severe hurricanes and earthquakes of the industry's catastrophe-plagued history. Final industry losses for all lines from 9/11 have not yet been tallied, but inland marine losses from that tragic event were heavy, and the line's exposure to potential acts of future terrorism remains great.

The Terrorism Risk Insurance Act of 2002 provides a federal reinsurance backstop to cover losses from future outsized terrorism events. Insurers, however, still face considerable terrorism risk because of their high deductibles under TRIA, and there is great concern about what will happen after 2005 when the federal reinsurance backstop sunsets.

Computer modelers have launched terrorism models to help underwriters assess risk potential of structures throughout the country. To safeguard against horrific terrorism losses, inland marine writers need to pay particular attention to their concentration of risk near what modelers call “trophy” sites that may be highly prone to terrorist attacks.

Looking to the future of inland marine, we see a line of business increasingly buffeted by many of the same uncertainties challenging the rest of the industry worsening losses, fraud, computer security, regulation and terrorism.

As a result, players will be operating in a changing environment. Those who adapt will survive and thrive. Winners will find new business opportunities within each challenge. They will seek the right analytic and decisioning information solutions to gain competitive advantage in this complex market, mindful that adherence to fundamentals assessing risk, pricing coverages and adjudicating claims remains the key to sustainable profitability.

Kevin Thompson, FCAS, MAAA, is senior vice president of Jersey City, N.J.-based ISO?s Insurance Services Department.

Reproduced from National Underwriter Property & Casualty/Risk & Benefits Management Edition, March 19, 2004. Copyright 2004 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.