The End of the Current Model

The classical insurance business model, with insurers offering financial compensation or stability to clients through a contract represented by a policy, is under attack.

Today’s customers expect seamlessly-working digital solutions across more and more aspects of their lives, as well as in many of their dealings with insurance companies. Both convenience and relevance are essential in today’s competitive environment, where new business and architectural standards are dictated by rapidly-evolving technologies and rapidly-crumbling industry boundaries.

Insurers struggle to respond to these ever-increasing expectations. Often quoted reasons for this struggle are the increase in regulatory pressures, which is absorbing a large part of available change capacity within incumbent organizations. And, of course, it doesn’t help either that many insurers still run on a myriad of legacy applications. Obviously, these circumstances form important, difficult, and very real obstacles, but there might be a more fundamental reason for the difficulties insurers face with organizational transformation and innovation.

On this more fundamental level – and notwithstanding the drive and energy of the countless insurance professionals I’ve met over the years – it seems that incumbent insurance organizations do not hold all the capabilities needed to effectively design and implement an updated, future-proof business model. The reason for this could be quite straightforward: insurance organizations simply never had to do this before. It is the result of the existing insurance business model being tremendously successful over a long period of time.

By providing a safety net for individuals and businesses alike and through their collection and investing of capital, insurers have contributed on a global level to stable economic growth. But while insurance organizations are equipped to manage a lot of different things, this does not seem to include fast, disruptive change. By and large, organizations lack structure, skills, and experience to transform their business effectively. Now, these incumbents suddenly have to catch up in a short period of time on all those changes affecting the industry. This means that facing disruptive change is going to prove quite difficult. And likewise, this is one of the key reasons why innovation labs are flourishing and why they are positioned at some distance from their parent organizations.

InsurTechs Fill the Gap

InsurTech startups are keen to exploit the growing imbalance between customer expectations and insurance services offered, providing new solutions or improvements for specific aspects in the insurance value chain. A growing range of business concepts offers improved customer interactions, introduces new pricing models based on usage or behaviour, and provides a fully digital claims experience or reorganizes supply and demand in peer-to-peer platforms. These solutions provide clear advantages where they replace old-fashioned, cumbersome, bureaucratic procedures.

Confusing Aims and Means

The real innovation, however, must take place at a much more fundamental level. Remember the great American railroads at the beginning of the twentieth century? The classic railroad companies believed their core business was building railway infrastructure and operating trains.¹ If they had formulated their mission statement differently – e.g. our business is to transport people and freight – then they might have made different choices and invested more in upcoming forms of transportation in order to maintain their relevance, instead of losing the large part of their business to planes and automobiles. Over time, they confused aims and means.

Insurers find themselves in a similar situation. For a long time, insurers have redistributed risks and balanced premium income using the insurance policy as their instrument. Incumbents have developed great capabilities to manage these policies through their life cycle. Product development, pricing models, risk management, and claims processing have evolved over the years, and – to some extent – reflect advancements in technology.

But the key problem here is that a policy is far from an optimal solution for managing risks, the original core business of insurers. Firstly, providing financial compensation to customers after an unforeseen event only covers part of the loss. You will never be able to compensate for stress, trauma, or lost family valuables after a fire, not to mention the tremendous impact of accidents on people’s lives. For businesses, the effects can be similarly severe, with customers turning to other suppliers when a business must shut down temporarily after an incident.

Secondly, a policy doesn’t provide a lot of options for regular, meaningful customer contact. If interaction with customers is limited to policy renewal and premium payments, there is not much opportunity to build a more solid customer relationship.

And lastly – let’s be honest: there is not much attractiveness in an insurance policy. People are not looking for a policy because they want to, but because they must, due to legal requirements, or for lack of alternatives.

A New Paradigm

However, with the rise of the connected world of sensors, big data, and the Internet of Things (IoT), a completely new paradigm arises where offering a policy to manage risks is much like the tail wagging the dog.

The opportunity insurers face is to take a step back from their policy-driven business model and revisit the original reason for their existence: providing solutions for customers to manage their risks.

Combining existing internal data with new data sources, real-time sensor information, and their deep understanding of risk, insurers now have the option to dramatically increase their relevance with each one of their customer segments.

Taking customer risk as a starting point, insurers can build analytical capabilities to refine and personalize customer risk assessments. These data offer new ways for getting to know your customers, including their tolerance for risk and their preferences for handling these risks.

Once they understand your individual customer’s risk profile and preferences, insurers can use these insights to position themselves as expert risk managers offering a range of solutions that fit individual customer situations. Depending on lifestyle and risk appetite these solutions may include accepting a certain amount of risk. Or they might include solutions or services reducing the probability or impact of risks. Risk reduction measures may range from applying sensor technologies (smart homes, self-driving vehicles, IoT) to maintenance services, training, and education. Of course, leveraging new technologies may themselves introduce new risk types, such as cyber and privacy risks, which should be considered by all insurers. Once insurer and customer have identified, reduced, neutralized, or accepted the full set of risks that affect them, a policy might only come in to cover any residual risks, e.g. the risk that remains after applying technologies or services that reduce or eliminate the risk.

This new approach offers several key benefits over the traditional policy-driven approach. Firstly, it makes more sense to support your customers to improve their safety – prevention is always better than cure, particularly if that cure is only partial.

Secondly, using real-time sensor data and IoT technologies provides the basis for regular and relevant customer contacts. Insurers can design frequent customer touchpoints and become an integral part of daily customer life in a positive way.

Lastly, over time the revised risk profiles may result in substantial reductions in both claims frequencies and amounts as risk management measures in larger populations gain effect. Estimated reductions in home claims range from 40 to 60%.²

Making it Happen

Enhancing policies with relevant services offers clear opportunities across different insurance lines. There is a growing number of initiatives where insurers partner with suppliers of smart devices to offer home automation in combination with a modest discount on policy premium. With connected sensors for water, fire, or intrusion to prevent damage in your home an instantaneous response is possible when the need arises.

In life and health insurance, we see the rise of connected wellness devices, reducing premium costs and providing incentives to customers to become more active. Policy-holders are collecting rewards through their activity trackers and earning discounts on their life insurance. A fall detection sensor provides seniors with a virtual safety net.

Safer driving can be induced by rewarding the right behaviour, measuring speed and g-force, enabling emergency assistance when needed.

In business-to-business insurance the same principles apply. While businesses may already be subject to mandatory safety measures and inspections, there is a world to be gained by improving awareness and changing behaviour at work. Next to their policy offering we see the first insurers starting to offer services through a subscription model. Businesses sign up for a set of services (e.g. checking electrical installations or expert risk analyses), security systems, or sensors on a subscription basis, eliminating large investments in equipment upfront.

Many of these examples are in a proof of concept stage, providing a point solution for a specific risk using connected technology as an add-on to an insurance policy. Soon, we’ll see a turning point where this is going to be the other way around: technology as the primary solution with an insurance policy to manage the residual risk. Developments in this area may go quickly as more and more consumers are expected to take up smart devices in the coming years.

Conclusion – The Way Forward

Insurers need to evolve into organizations offering a much broader set of risk management solutions. Asking the right questions internally is critical. Instead of answering the question “How do we sell more policies?” this is the time to ask “In which business are we?”

InsurTech, as a theme, will be a critical component in this by integrating itself into a larger ecosystem of capabilities and by enhancing or replacing traditional policy offerings. Companies that excel at analysing risk patterns and translating these into attractive customer value propositions, whether business-to-consumer or business-to-business, will become dominant.

A key capability required for insurers will be to develop and manage cross-industry partnerships with technology providers or service suppliers. By building these strategic alliances insurers may be able to maintain a competitive edge over new entrants. An insurance company knows about risk like no other. The future playing field will be dominated by insurers contributing to their customers’ safety, wellbeing, and peace of mind. Traditional policies will not disappear, but they will not remain a decisive factor for competitive strength and company value anymore.