Did you ever think that Google Maps could affect how insurance companies view you as a risk and determine your premiums? Read on to see how it does.
With the ever-evolving insurance landscape, understanding how premiums are calculated and risks are assessed is crucial for businesses aiming to manage their insurance costs effectively. The traditional approach of simply obtaining multiple quotes is no longer sufficient in today’s complex insurance marketplace. Pulling excerpts from the best-selling book The 10 Laws of Insurance Attraction, this article delves into the intricacies of insurance pricing, exploring the methodologies insurers use to evaluate risks and set premiums.
The Changing Insurance Landscape
The insurance industry has undergone significant transformations over the past decade, affecting how premiums are set, and risks are assessed. Although these changes seem to have climaxed into a massive storm affecting businesses today, they are driven by factors such as increased catastrophic claims, advancements in data analytics, and shifts in reinsurance availability. As a result, insurers are becoming more selective, using sophisticated underwriting processes and models to evaluate potential clients.
The Betting Game of Insurance
At its core, insurance is a form of risk transfer in which companies bet against the likelihood of paying out claims. In this game, being a “longshot” – a business perceived as unlikely to file claims—is advantageous. Conversely, being seen as a “sure thing” leads to higher premiums or even difficulty obtaining coverage.
The Role of Data Analytics
Advancements in data analytics are driving the evolution of insurance pricing. With the decreasing cost of data storage and increasing processing power, insurance companies can now gather and analyze vast amounts of data. These data sources can be from internal (their own computer systems or provided to them by agents) or multiple third-party data sources. This has led to a more sophisticated risk assessment and premium calculation approach.
Actuarial Impact
Actuaries play a crucial role in this new landscape. They use statistical models to analyze large datasets, identify trends, and calculate the probability of various risks occurring. This data-driven approach helps insurers set premiums that adequately cover potential losses while remaining competitive in the market. In other words, they are constantly building and fine-tuning the better mousetrap and can quickly do so on the fly.
Key Factors in Risk Assessment
Insurance companies now consider hundreds of data points when assessing a business’s risk profile. These factors go well beyond traditional insurance considerations and include:
- Industry-specific risks: Different industries carry varying levels of inherent risk, and just because your business may never have suffered from a claim, insurance companies assess the potential for such an event.
- Operational practices: How a business manages its day-to-day operations is one of the biggest drivers of potential risk that insurance companies gauge.
- Financial stability: A business’s financial health and credit score. Unhealthy financials typically lead to greater risk-taking by a business.
- Location: Geographic factors that may influence risk.
- Environmental: Are the locations exposed to potential significant or catastrophic events?
- Legal Climate: Is the judicial system in the area favorable or unfavorable to businesses and insurance companies regarding jury outcomes and awards?
- Claims history: Past claims are a good indicator of future risk; however, an insurance company’s experiences with other businesses can influence how they analyze a business that may never have had a claim. They will look to see if the factors that led to a claim elsewhere are present in your operations.
- Employee management: Hiring practices, training programs, and safety protocols. Are these programs just on paper, or can the insurance company confirm that they are effective?
- Technology adoption: Use risk-mitigating technologies such as fleet telematics or injury and near-miss tracking.
- Regulatory compliance: Adherence to industry standards and regulations
The Underwriting Process
Underwriting is where the art meets science in insurance pricing. Underwriters use their expertise to interpret actuarial data and make judgment calls on individual cases. They assess unique business characteristics that standard models, such as innovative safety programs or exceptional management practices, might not capture.
Underwriters also look at all data they can get their hands on, such as what a business claims they are and can do on its “embellished” website compared to what the insurance application says it actually does. “Puffed-up” websites have led to more declinations to quote than an underwriter can count. However, one of the most difficult challenges a business may have when touting a “newer” roof and how well they maintain their facilities is when the underwriter, sitting at a desk hundreds of miles away, pulls up Google Maps, looks at the building to see standing pools of water or stains or debris on a roof, or they see trees and vegetation that overhang or encroach on the building making it a storm or wildfire risk. The whiplash from how quickly a declination to quote is issued will surprise a business leader.
Qualitative Assessments
Insurance companies often conduct site visits or interviews with business leaders to gain deeper insights into business operations. This qualitative assessment can influence premium adjustments based on perceived risk management effectiveness
The Impact of External Factors
Beyond individual business characteristics, external factors also impact insurance pricing:
- Economic conditions: Economic downturns can lead to increased claims as businesses cut corners on safety or maintenance.
- Regulatory changes: New regulations can introduce additional compliance costs or alter industry standards. They can also increase the potential for new legal actions.
- Catastrophic events: Natural disasters or large-scale incidents can lead insurers to reevaluate their exposure in certain regions or industries.
- Reinsurance: The frequency and impact of large claims can drive up the cost insurance companies have to pay to offload risk to reinsurers that they cannot keep internally. Reinsurers may also dictate that certain types of business or risks are now prohibited due to the claims they have paid out on.
The Concept of Maximum Probable Loss
Insurance companies use the concept of Maximum Probable Loss to determine if they can or cannot quote/write insurance for a business. This involves adding up the total value of buildings, contents, business income, equipment coverage limits, and everything else on the property policy. An insurance company may be able to insure a $10,000,000 block and steel building that is not sprinklered as a fire may not result in a total loss. However, suppose in this example we swap the steel roof deck with wood trusses; insurance companies will view that risk as a potential total loss and may decline to quote.
This concept also extends to liability from a business’s products, completed operations, and auto; insurance companies can only afford to pay out a certain amount for a claim before it is too costly to their bottom line.
In order to avoid paying out too large a claim, insurance companies buy reinsurance from other insurance companies—just like any business, they transfer their risk. Reinsurance helps insurance companies predict with certainty the most they might have to pay out in a catastrophic loss scenario.
The analysis of data has led reinsurers to look at the concept of maximum probable loss as well, leading to them restricting how much risk they are willing to accept. Therefore, they have reduced how much risk they will take on your business and are forcing your insurance company to take on more of your risk. This leads to your insurance company wanting more premiums to insure you and greater reinsurance costs, both of these costs are passed onto you.
The Importance of First Impressions
It is crucial to make a strong first impression on insurance underwriters. Businesses should present themselves professionally and comprehensively from the outset. This initial assessment can significantly impact premiums and even determine whether an insurer will offer coverage at all.
The Long-Term Memory of Insurance Companies
Insurance companies have long memories facilitated by extensive databases. Every interaction, claim, prior submission for a quote, and piece of information about a business is recorded and can influence future underwriting decisions. This underscores the importance of consistently maintaining good practices and open communication with insurers. Oh, by the way, that Google Map picture of the pooled water on your roof is now permanently in your file…
Strategies for Managing Insurance Costs
Understanding how insurers calculate premiums empowers businesses to take proactive steps in managing their insurance costs:
- Enhance risk management practices: Implement comprehensive safety programs and regularly review them for effectiveness.
- Maintain detailed records: Thoroughly document all safety measures, training programs, and incident reports. Don’t just have a manual; have proof that these trainings are happening.
- Engage with your insurer: Build a strong relationship with your insurer by maintaining open communication about changes in your operations or risk management strategies.
- Consider higher deductibles: Opting for higher deductibles can lower premium costs by reducing the insurer’s exposure to minor claims.
- Consider Alternate Financing Programs: Looking at Retrospectively Rated, High-Deductible, Group or Individual Captive, or Self-Insurance can dramatically reduce how much your insurance costs you in the long run.
- Invest in technology: Leverage technology to enhance risk management efforts and improve your risk profile.
The Role of Insurance Agents
Choosing the right insurance agent is crucial in navigating the complex insurance marketplace. A knowledgeable agent can help businesses understand their risk profile, implement effective risk management strategies, and advocate on their behalf with insurers. This partnership can lead to more favorable premium rates and better coverage options. You should endeavor to treat the process of identifying the best agent to advise you as if you were hiring the next executive of your business, as they too can dramatically impact your operations and bottom line.
Conclusion
Understanding insurance pricing in today’s market requires a deep dive into how insurers assess risk and calculate premiums. By grasping these concepts, businesses can better navigate the complexities of insurance procurement and manage their costs effectively. The key lies in presenting an attractive risk profile through robust management practices, financial stability, and proactive communication with insurers.
In this high-stakes game of insurance, knowledge is power. Understanding how insurers think allows businesses to position themselves strategically, ensuring they receive the best possible coverage at competitive rates while maintaining operational resilience against potential risks. By mastering these principles and working closely with a knowledgeable insurance agent, businesses can not only control their insurance costs but also enhance their overall operational excellence and competitiveness in the market.