Consolidation Creates Difficult Insurance Market for Independent Agents and Consumers

Market consolidation has reduced competition in the insurance industry, leading to increased capacity but limited ability to underwrite policies and pay claims, said Frederick J. Fisher, President of Fisher Consulting Group Inc. As a result, independent agencies face challenges accessing specific markets—specialization and expertise are crucial. In an in-depth interview with the California Business Journal, Fisher dissected this complex market.

The insurance market is becoming more convoluted by the day. The evolution of insurance policies has resulted in more policies focusing on setting expectations in writing and establishing sub-agency relationships for transparency and accountability. As society continues to evolve, policies will expand into new areas, and consumers must clearly define their expectations to ensure they have the best coverage possible, warned Fisher who just published his book Claims-Made Insurance – The Policy That Changed The Industry: A Deep Dive, Review, and History.

Insurance market consolidation is leaving a profound impact on insurance production facilities and independent agencies. The number of competitors is shrinking, which affects competition and pricing.

“When three competitors merge into one, the competition is reduced, but the capacity to write insurance increases due to consolidating capital surplus. This capital surplus, which is exclusively used for underwriting purposes, enhances the ability of the merged entity to write more insurance policies, adhering to the premium-to-surplus ratio—a measure of the company’s ability to cover claims based on its capital surplus,” Fisher said. Capital surplus is critical because it underpins the company’s ability to pay claims, as a business can allocate a portion of its surplus to write various types of insurance.

Consolidation can also lead to increased selectivity in business partnerships. “Some companies might become more exclusive in their dealings post-merger, preferring brokers who can guarantee significant business volumes. Such a shift can make it difficult for independent agencies to access certain insurers, especially if those insurers become more selective about their business partners,” Fisher said.

Independent agencies, which are distinct from tied agents who can only sell policies from one insurer, often have relationships with multiple insurers. They can access a broader range of products by working with wholesale intermediaries specializing in specific lines of insurance and possessing surplus line licenses, allowing them to deal with non-admitted insurers. These wholesalers provide expertise and access to markets that retail brokers might not have, often specializing in niche areas such as medical product liability or directors and officers (D&O) liability insurance.

Challenging Market for Independent Agencies

Market consolidation impacts independent agencies and has made it more challenging for them to thrive. Limited competition potentially reduces the expertise available in the market. It also complicates the landscape for agencies that must navigate newly merged insurance giants’ changing preferences and requirements.

“Access to markets has become more restricted, and the current hard insurance market exacerbates these challenges as many companies reduce their underwriting in certain business classes due to increased claim volumes,” Fisher said.

Additionally, insurance producers are subject to varying standards of care depending on their role and the nature of their relationship with clients. In some states, long-term relationships or specific actions like misrepresentation or risk management reviews can elevate the producer’s duty of care.

Also, as larger organizations merge, many independent agencies are being bought out. Beyond the issue of the shrinking number of competitors, such mergers in the market bring about operational changes within the acquired agencies.

“One notable shift from these acquisitions is the move towards an order-taker model, where brokers are instructed to avoid advising clients to minimize legal liability. This contrasts sharply with the traditional role of brokers, who used to provide detailed guidance to their clients in the past. The order-taker model can leave consumers vulnerable, as they may not receive crucial advice on coverage, leading to significant claims being denied due to lack of appropriate insurance,” Fisher said.

Even consumers with internal risk management departments, such as universities, are not immune to this trend. Despite having dedicated teams, they often end up lacking adequate coverage for significant claims. This trend underscores the complexity and variety of insurance policies needed today, the number of which has increased from a handful to over twenty different types due to evolving risks and regulatory changes.

“Independent agencies, therefore, have an opportunity to distinguish themselves by maintaining a high standard of care and providing expert advice. This involves documenting all advice given and ensuring clients understand the implications of their coverage choices. Additionally, treating renewals as a new business (instead of just automatically renewing contracts) can help identify changes in a client’s needs that might otherwise be missed,” according to Fisher.

Ultimately, independent brokers can still thrive in this competitive market by leveraging their expertise and offering personalized advice, setting themselves apart from larger firms that may provide a different level of service.

Vital distinction: Occurrence-based vs. claims-made policies

Occurrence-based and claims-made policies represent two distinct approaches in liability insurance, each with its implications and requirements. An occurrence policy hinges on when the incident causing harm or damage happens within the policy period. This straightforward model is similar to a car accident where immediate injury results from running a red light—a clear cause-and-effect scenario. However, not every occurrence immediately leads to injury, which poses challenges, especially in cases involving product defects or professional errors that may manifest much later.

“Consider a scenario where a manufacturer creates bicycles with a design flaw. The defect occurs during a policy period, but injuries from the flaw might not surface until years later. Under an occurrence policy, the policy active during the defect’s discovery could be liable, necessitating records retention by insurers beyond policy expiration to cover potential future claims.

“In contrast, claims-made policies require that the claim be first made against the insured and be reported during the policy period, originally,  regardless of when the incident or error occurred. Now,  Claims must be first made against the Insured, but the error must now be after a specified date called the Prior Act date (usually the first date the insured bought their first claims made policy which could be years ago). This approach aims for more straightforward closure after policy expiration, theoretically avoiding long-tail liabilities. It also allows for potentially lower premiums, as insurers can better predict and limit their future liabilities,” Fisher said.

However, claims-made policies are complex. They require insured parties to report claims promptly within the policy period, regardless of when the incident actually occurred. This can lead to challenges in understanding coverage limitations and exclusions. Over time, these policies have evolved significantly, with an increasing number of exclusions due to specialized policies emerging to cover specific risks like pollution or cyber liability exposures.

In addition to the fundamental differences between occurrence-based and claims-made policies, understanding the impact of exclusions is crucial. Exclusions in insurance policies specify what risks or scenarios will not be covered under the policy, highlighting the limitations of coverage despite the general protection provided.

Occurrence-based policies typically have exclusions that are straightforward and relate directly to the nature of the incident triggering coverage. For instance, a liability policy covering a manufacturing defect might exclude coverage for intentional acts or certain types of damages not directly resulting from the incident during the policy period. However, these policies historically had fewer exclusions because they were designed to respond to specific incidents occurring within their active policy term.

On the other hand, claims-made policies tend to include more exclusions due to their narrower focus on when claims are reported rather than when incidents occur. These policies are structured to cover only claims made and reported during the policy period, necessitating extensive exclusions to avoid overlapping coverage with other specialized policies. For example, a claims-made malpractice policy might exclude coverage for events that could be covered under a separate director and officer liability policy or environmental liability policy.

“The proliferation of exclusions in claims-made policies reflects the insurance industry’s response to emerging risks and the need for specialized coverage. Insurers aim to clearly define the scope of coverage to minimize ambiguity and effectively manage risk. This approach benefits insurers by reducing their exposure to claims outside the intended scope of the policy, potentially leading to more competitive pricing for insured parties,” Fisher said.

However, for policyholders, navigating these exclusions requires careful attention to detail and often requires supplementing their coverage with additional policies tailored to specific risks. Understanding these exclusions is crucial for ensuring adequate protection against potential liabilities and avoiding unexpected coverage gaps that could expose them to financial risk.

Occurrence policies hinge on when an incident occurs, while claims-made policies center around when claims are reported. Each type offers distinct advantages and pitfalls, requiring thoughtful evaluation based on the specific risks and potential liabilities involved. Additionally, the extent and implications of exclusions within these policies are pivotal in assessing their suitability and ensuring comprehensive insurance coverage for businesses and individuals.

Advice for consumers to ensure coverage

What can consumers do in such a market to make sure they are adequately insured? Consumers must proactively define their expectations and authorize brokers to use intermediaries if necessary. Due to perceived weaknesses, many retail brokers hesitate to admit when they need to consult a wholesaler. However, intermediaries often have access to specialized markets and expertise that can be critical for comprehensive coverage.

“The relationship between brokers and consumers is complex and has been influenced by legal standards that have evolved over time. For example, the landmark case of Jones v. Grewe in the 1980s established that brokers have no duty to advise clients on limits, pushing the responsibility onto consumers to understand their insurance needs. This legal backdrop has reinforced the order-taker model, creating challenges for consumers who lack the expertise to navigate the intricacies of insurance policies,” Fisher said.

In practical terms, consumers can apply several key strategies to ensure their insurance aligns with their specific needs.

“It’s essential to engage with brokers who actively encourage questions and provide thorough answers rather than merely acting as order takers. A broker’s use of comprehensive checklists for coverage assessments can indicate their commitment to diligent service. Professional designations such as Certified Insurance Counselor (CIC) or Chartered Property Casualty Underwriter (CPCU) indicate a higher standard of expertise and care in commercial insurance.” Fisher said.

Access to resources like the International Risk Management Institute’s extensive checklists can further enhance a broker’s capability to tailor coverage effectively. Opting for an independent broker with broad market access, rather than agents limited to specific insurers, can provide greater flexibility in finding suitable policies.

“Explicitly authorizing brokers in writing to utilize intermediaries when necessary not only facilitates obtaining multiple quotes but also establishes a sub-agency relationship that holds them accountable beyond the typical ‘order-taker’ role. This approach helps mitigate risks and ensures comprehensive coverage, which is particularly crucial for businesses. It’s a reminder that even suppliers themselves can face significant liabilities if their insurance coverage falls short, as seen in recent cases involving major institutions like pharmacy companies and universities,” Fisher added. He went on to recommend that “clients  should make their specific needs known to their brokers in a precise and specific manner. Simply saying one wants the “best coverage is too broad to  have nay meaning. Specificity is required. ”

Constantly changing market

Insurance producers must adapt to changes to meet shifting client needs in this dynamic landscape. “It’s of critical importance that agencies keep abreast of legal developments by subscribing to various legal feeds such as JD Supra, Lexology, and updates from prominent insurance law firms. These sources provide crucial insights into recent court rulings and legislative changes that could dramatically impact liability coverage and exclusions,” Fisher said.

The insurance veteran also voiced concern about the growing influence of private equity firms and hedge funds in the insurance industry. “These entities prioritize profit maximization above all else, often leading to internal cost-cutting measures that compromise service quality and increase the likelihood of coverage disputes. This trend is seen as particularly troubling by regulatory bodies like the National Association of Insurance Commissioners, who fear it may erode consumer protections and the overall stability of the insurance market,” Fisher said.

Fisher also mentioned a significant shift in judicial interpretations of insurance contracts. “Traditionally, insurance policies were construed favorably towards policyholders, with insuring agreements broadly interpreted and exclusions narrowly interpreted. However, recent court decisions have increasingly favored ‘clear and unambiguous language’ in policies, leading to broader interpretations of exclusions and stricter enforcement of contract terms. This legal evolution poses challenges for businesses and individuals who may not fully grasp the implications of seemingly straightforward policy language until a claim is denied,” Fisher said.

As an example, it is not unusual for many businesses to buy excess coverage, and traditionally, such policies were “following form policies”. This meant that they followed exactly what the underlying insurers provided. Now however, due to clever lawyers, what used to be a following form policy is a following form policy “except where this policy language differs”. What the heck does that mean?

In addition, some excess policies now require not only that all underlying limits be extinguished, which one would expect, but that the insurer’s providing the underlying layers of coverage “admit liability”. Such a condition in a sixth layer of excess coverage caused a major multinational corporation at least $87 million in out-of-pocket expenses  respects a $207 million settlement. These kinds of clever exclusions are intentional as many law firms now are advising their insurer clients to slip in “clear and unambiguous” language to be able to deny claims.

Responding to these challenges, the insurance professional urged stakeholders to approach insurance policies with the same diligence as a legal contract. This involves understanding the terms and conditions and proactively seeking legal counsel to ensure comprehensive coverage that aligns with their specific needs and exposures. Such proactive risk management is seen as essential to mitigating potential disputes and financial losses arising from inadequate or misunderstood coverage.

“Both insurance producers and policyholders must navigate these complexities with vigilance and foresight. By staying informed, engaging in thorough policy reviews, and seeking expert guidance when necessary, businesses and individuals can better protect themselves against evolving risks and legal uncertainties in today’s insurance landscape,” Fisher concluded.

Copyright © 2024 California Business Journal. All Rights Reserved.