Insurers are challenged to critically review and uncover other orthodoxies embedded in their approach to product development, marketing, technology, financial management and other operations. The insurance industry has often been accused of lagging in investment and development of cutting-edge technologies, relying instead on an antiquated patchwork of systems originally created for a very different business environment. This shortcoming makes it difficult to understand changing customer needs and results in significant delay for developing relevant products and services.

Additionally, insurers may be missing opportunities to take advantage of developments such as big data, data visualization, the Internet of Things, as well as predictive and prescriptive analytics. Insurers must invest in the necessary tools to compile and ensure the integrity of data to support these endeavors.

As a heavily regulated industry, insurance also faces special challenges in embracing innovation. For example, consider the significant controversy associated with the use of credit and insurance demand information in the pricing process. Regulators have generally taken a conservative view in limiting the way customer behavior information can influence the price charged for insurance products. While insurers that remain blind to the relevance of this data in their marketing and pricing structures subject themselves to significant competitive disadvantages, they have to contend with regulatory limitations. The key is to educate regulators in how relevant information produces prices that are fair and promote a healthy insurance market.

Meanwhile, insurance customers are dealing with quickly evolving risks, and they expect insurers to help mitigate them. While in some cases traditional insurance products may be slightly modified to accommodate new risks, other situations call for entirely new ways to define, underwrite and price risks. In such situations, new competitors and disrupters can often introduce creative solutions because they are less invested in traditional methods of handling emerging risk.

Often, sophisticated customers can manage the risk transfer and financing issues on their own, but want experts to deliver detailed risk information for guiding their decisions. This environment clearly favors providers who have embraced the key principles of innovation.

Lastly, perhaps the most significant challenge facing insurers seeking to innovate is adopting an urgency mindset. Insurance contracts and regulations have been around for a long time. If the trends noted above are addressed without a high level of urgency, it is probable that new market participants and insurers that have embraced innovation will experience increases in the risk economy's market share.

Capitalizing on insurer expertise

While insurers face significant challenges, they also are well positioned to take advantage of these new opportunities. Insurers have extensive experience in analyzing risk, creating a market to transfer risk, and servicing various aspects of the risk transfer process, including claims handling and facilitating the feedback loop on risk mitigation.

Insurers understand risk because it's their business. They house a blend of risk professionals, including underwriters, actuaries and claims experts, who work together to evaluate exposures and design coverage terms and conditions under which risk can be transferred, or provide advice on other alternatives to manage the risk. Each professional brings an important perspective in dealing with both the quantitative and qualitative aspects of risk.

With years of experience solving risk transfer problems across property and casualty lines, many insights from traditional insurance can be extended to tackle new challenges. For example, terrorism products were created in 2001, and more recently, demand for cyber coverage has increased. Innovation is currently being harnessed by insurers to deal with the introduction of smart technology in automobiles and the advent of driverless cars. While there are not extensive data sets to support traditional actuarial analyses around these emerging risks, insurers are well positioned to bring the right blend of talent together to innovatively address them.

Extensive experience with financial risk has also enabled forward-thinking insurers and reinsurers to take advantage of alternative forms of capital, such as insurance-linked securities. This additional capital, coupled with several years of low catastrophe activity, has strengthened the financial position of insurers. Benign claims inflation has also contributed to relatively strong balance sheets across the industry, which in turn provides a solid foundation for adding new risks that further diversify existing portfolios. Building diversified underwriting portfolios is one of the core strategies that insurers can leverage to manage the changing risk landscape.

Finally, insurers have the infrastructure and experience to service the risk transfer process. With the ability to navigate the regulatory framework, the network to adjust claims, and the relationships with insureds through existing product offerings, insurers are able to provide the service that is required by many risk transfer products.

The industry does need to be careful not to fall into the false belief that this level of service will always be required for every risk transfer product, but there is no doubt that the knowledge amassed by the industry in understanding risk and translating that into tangible risk mitigation advice for insureds will continue to be of value.

Companies must invest in the tools needed to compile and manage data. (Photo: Shutterstock)

Overcoming institutional inertia

For an organization to incorporate a culture of innovation throughout its operations, supply chains, networks and ecosystems, it must begin by anchoring that concept deeply within the top levels of organizational leadership — the C-suite and the board of directors. If innovation does not have the commitment and full support of the organization's leadership, it cannot possibly flourish.

Successful leaders understand the importance of culture and setting the right tone for an organization. Innovation, when truly part of that culture, should be seen as a seamless and impactful contributor to the business, not an afterthought. Stakeholders such as investors, analysts, media, customers and supply chain partners are perceptive and will see through insincere efforts, so innovation must permeate thoroughly in order to be most effective.

Integrating innovation into the intangibles of the organization's culture can be difficult. It's far easier to build an innovation process and structure into more tangible areas like research & development, product development, and even marketing and sales. It is far more difficult to strategically bind it to the organization's belief system, its core values and reason for being.

"For innovation to become fully embraced and strategically applied, it must become a part of the organization's culture and supported by leadership," said Kevin Bingham, co-chairman of the Arlington, Virginia-based Casualty Actuarial Society's Innovation Counsel. "Everyone must believe and engage in the cause to apply innovative thinking to their work."

In fact, given the complexities of conducting insurance business globally today, the pressures to differentiate and get ahead of the chaotic intersection of technological, regulatory, demographic, economic, societal and competitive forces to be a sector leader are tremendous. A culture of innovation is a powerful tool to help organizations become leaders in their fields. In fact, Apple's Steve Jobs once said, "Innovation distinguishes between a leader and a follower." It's the strategic approach that helps set organizations apart.

Operationalizing innovation — moving it from theory to practice — is replete with challenges. After all, it's one thing to talk about how innovation may help the organization; it's something else to actually live it and reap the rewards.

Innovation is a structured process that works best when teams of people, drawing upon their multiple experiences, collaborate to solve challenges and find new solutions. Traditional silo models with functional divisions that do not share information, ideas or resources to solve problems still plague insurance and other businesses today. Without a collaborative culture, an organization cannot effectively build an infrastructure around the process of innovation and expect it to function seamlessly and produce good results.

Insurers can take advantage of their network of risk professionals, including underwriters, actuaries and claims experts. Imagine the innovation capability that emerges when these professionals seamlessly collaborate as a team with marketing, data scientists, technology and finance.

American author Steven Johnson wrote, "If you look at history, innovation doesn't come just from giving people incentives; it comes from creating environments where their ideas can connect." This is an essential requirement for innovation to work.

While a collaborative culture may be less tangible, innovation can also be made concrete through an innovation laboratory or similar structure within the organization to support and drive innovation along a development life cycle.

A lab could be structured to be nimble — failing early and fast on ideas, and running quickly through rapid prototyping to develop and launch ideas that work. Teams of people would be tasked to take ideas submitted by employees, customers or other stakeholders for consideration by the lab through a structured process to quickly determine viability and potential for success. This process will include failures, and that's okay. Truly innovative organizations embrace failure as simply a step along the path to success, learning from those failures and applying lessons on successive efforts.

Another myth about innovation is that it is always about something new or totally disruptive. While these kinds of solutions have strong track records of success in product and service innovation (remember books and music before Apple and Amazon?), disruption is not a requirement for innovation to work. Finding an innovative approach to how an insurance company internally handles claims or prices risk has the potential to bring success to the company as much as an innovative new consumer-facing product. Innovation can be incremental as well as disruptive, but it must be part of the culture before it can bring success.

There are huge incentives for insurers to embrace innovation from both a cultural and strategic perspective. Insurers willing to try something new can leverage existing resources to unlock their competitive advantage. But first they must fully understand the innovation mindset and see the opportunities from that perspective.

Challenges to insurance innovation

1. Critically review and uncover orthodoxies that are embedded in their approach to product development, marketing, technology, financial management and other operations.

2. Invest in the tools necessary to optimally compile data and information needed to support cutting-edge analytical approaches.

3. Be open to new ways to define, underwrite and price risks.

4. Educate regulators while you innovate.

Innovation strategies

1. Integrate innovation into the organization's culture.

2. Innovation is a structured process, working best with diverse teams brought together to solve challenges and find new solutions.

3. An innovation laboratory can support and drive innovation and ideas along a development life cycle.

4. Disruption is not a requirement for innovation to work, particularly if that innovation is benefitting internal process and operations.

Susan Cross is a fellow of the Arlington, Virginia-based Casualty Actuarial Society and the executive vice president and group chief actuary at XL Catlin. Aaron Halpert is an associate of the Casualty Actuarial Society and principal at AMHAdvisory LLC, an actuarial consulting practice. Brad Monterio is a managing director for Colcomgroup Inc. and serves on the board of directors of the Casualty Actuarial Society.

Related: 6 keys to optimizing claims performance