20 October 2014Re/insurance

The cutting of coats to suit the cloth

In the months leading up to October, EY presented the findings from its third annual benchmarking survey focused on cost and operational metrics in the specialty insurance and reinsurance sector, to participants. This year’s survey has some 40 participants primarily from Bermuda, London and New York. It segments the market into global specialty composites, pure reinsurers and Lloyd’s managing agents.

The headlines were that:

Substantial cost reductions have been achieved across all segments, with larger composites most able to scale effectively in response to reducing premium rates and gross written premium. Overall cost as a percentage of net earned premium has reduced by 1.3 percent.

Companies that have been focused on operational cost reduction for two or three years are now achieving the most significant efficiencies.

The operational costs associated with claims have increased year on year since the survey was first carried out.

The use of low-cost locations (typically in the Far East and Eastern Europe) through outsourcing or creation of dedicated operational centres remains limited, with greatest prevalence in the composite sector.

Spend on in-house investment management activities is increasing, with one or two reinsurers who have always had a greater focus on this area being joined by some of the larger Lloyd’s managing agents and composites.

Asked to reflect on the findings in the context of the Bermuda market, Pete Cangany, EY Insurance leader for the Bahamas, Bermuda, British Virgin Islands and Cayman Islands, commented that the Bermuda composites had demonstrated the ability to rebalance in the face of a soft reinsurance market, taking advantage of excesses market capacity to reduce retention while also exploring new lines of business, particularly on the insurance side of their businesses, a trend Cangany expects to continue over the coming year.

“As expected, reinsurers had the lowest IT cost, followed by Lloyd’s managing agents (who leverage market systems), with composites the most costly.” Chris Maiato

Trends in gross and net premium suggest that reinsurers have all been selective in a soft market, although to varying extents, also using capacity in the retrocession market to manage exposure. For the smaller reinsurers further cost reduction is a challenge, but conversely cost containment, in absolute terms if the market hardens, appears achievable leading to reduced cost as a proportion of premium.

Cangany added that for some, there remains the opportunity for savings in areas such as finance and through increased control over legal support on claims, where some experienced notable savings.

Commenting on those who have been most successful in reducing cost, Chris Maiato, EY Advisory leader for the Bahamas, Bermuda, British Virgin Islands and Cayman Islands, explained that typically, the largest overall savings have been where the main focus has been on moving underwriting support activities from underwriters, underwriting assistants and other support functions to lower cost dedicated underwriting support personnel.

As a proportion of total, the combined underwriting functions have increased in FTE terms by 9 percent since 2011 with a corresponding 1.2 percent in cost. So larger scope, more efficient underwriting operations lead to an overall organisational cost-saving, even though as a function it costs more.

Maiato added that the greatest impact on specialty insurance and reinsurance companies’ expense ratios could be made by simplifying organisation models for underwriting operations and support activities. Extrapolating the survey data this could reduce expense ratios by 1 percent, which would save more than $1 billion across the global industry. He cautioned, however, that experience shows that it can take three to five years for benefits to be delivered, although this can be accelerated if the experience of pioneering firms is leveraged.

On the increasing operational costs of managing claims, Craig Russell, senior manager in EY's Advisory practice, said that claims had been an area of focus for many re/insurers over the past few years with investments in claims systems and data analytics to reduce claims leakage. While the quantum of increase was a surprise—6.1 percent of total cost in FY13 vs 3.5 percent in FY11—the rate of increase was lower in FY13 than FY12.

This is an area where the increased operational cost must be balanced with the savings in claims paid. Cangany added that the most recent increases may also reflect the initial costs of entering new lines of business, which would have started to be reflected in FY13 numbers and may be more significant in FY14 numbers, particularly for the composites. A number appear to be looking at lines such as casualty and other longer tail classes as they seek the parts of the market where pricing is less soft.

Asked about the use of low-cost locations, Russell responded that for Bermuda carriers the only significant use is by some of the composites. In the composite survey peer group, roughly 2.7 percent of FTEs are in what are typically referred to as low cost locations and that for those with the most extensive facilities it represents roughly 10 percent of their workforce. He clarified that this excludes outsourced arrangements, but that significant outsourced back-office arrangements are not a significant feature in the Bermuda market.

Maiato added that IT has been a traditional area of outsourcing but that some of the higher cost survey participants from an IT perspective are those in mature IT outsource contracts that could be reconfigured to reduce cost. He added that as expected, reinsurers had the lowest IT cost, followed by Lloyd’s managing agents (who leverage market systems), with composites the most costly (respectively 2.6 percent, 1.6 percent and 1.3 percent of net earned premium).

Maiato commented on the increased focus on internal investment management capabilities, noting that this is a new trend, with more participants joining the few who already had strong internal capabilities. He commented that given the soft market an increased focus on achieving strong investment returns is a natural response. Russell added that where in-house capability is replacing external activities the true cost differential is difficult to quantify due to the structure of investment management fee arrangements. The proof will be in comparing future returns and volatility between those who are focusing more on this area and those who are doing it less.

Cangany drew the link to the hedge fund re/private equity re business model, commenting that while their headline cost base may be half of that of established reinsurers, the increasing barriers to entry, primarily rating-related, for standalone entrants and the resultant fee arrangements with sponsoring reinsurers and business partners were increasing the underlying cost base, perhaps offering hope for an improvement in market conditions.

Maiato summarised that cost control is going well for many and that those who emerge strongest from the current market will be those who have cost-effective, high value teams that support good underwriting, investment and acquisition strategies. Cangany affirmed that view, but his final remark was that ultimately what the sector needs most is a change in the underwriting environment.

Pete Cangany is a senior partner and EY’s Insurance leader for the Bahamas, Bermuda, British Virgin Islands and Cayman Islands. He can be contacted at

Chris Maiato is a principal and EY’s Advisory leader for the Bahamas, Bermuda, British Virgin Islands and Cayman Islands. He can be contacted at

Craig Russell is a senior manager in EY’s Advisory practice. He can be contacted at