When it comes to IT spending this year in the insurance industry, it's déjà vu all over again. In general, industry analysts concur that U.S. insurance companies will increase IT spending only slightly this year-between 1% and 4%. Last year, they predicted cautious increases of 2.5% all the way up to 6.7%.Similarly, carriers' priorities for IT spending in 2005 will focus on projects that ranked high on the list last year as well. Namely, their attention will focus on IT projects with the potential to increase revenues by improving distribution and customer service, and those that cut costs by streamlining business processes and workflow. Also like last year, insurance executives remain resolute about making sure their technology investments align with business strategy. IT governance is key.
This year, however, there is a wild card in the IT spending deck: the expanding investigations into insurance sales practices-kicked off by New York Attorney General Eliot Spitzer in October when his office filed a lawsuit against insurance brokerage firm Marsh & McLennan for bid-rigging and unfair sales practices. Just how these investigations-which now include several states and multiple carriers and brokers-will affect IT spending this year is still a big unknown.
"We see spending in 2005 as fairly consistent with 2004, but the wild card is the regulatory issue," says Cynthia Saccocia, senior analyst in the insurance practice at TowerGroup Inc., Needham, Mass. Insurance brokerage firms under the microscope will likely spend much less on technology this year, she notes, while insurance carriers may be forced to reallocate IT dollars to projects aimed at tightening processes related to commissions and distribution-or at mitigating risk.
"With this level of uncertainty, our concern is that insurers may hold back on IT budgets," Saccocia says. They may have to allot more to their legal or public relations budgets, or hire consultants to evaluate their business practices.
"CEOs may be saying, 'We need to make sure we have some money earmarked for this.' But no one knows how much," she says.
Consternation
To be sure, the investigations are causing consternation among insurance executives-concern that may already be affecting their IT spending plans.
Between June and November, when Forrester Research Inc. surveyed financial services firms for its 2005 IT spending forecast-the responses of insurance carriers turned decidedly negative, according to Andrew Bartels, vice president and research analyst at the Cambridge, Mass.-based research and advisory firm.
"In June, insurers were expecting to see a moderate increase in IT spending in 2005-about 2.2%," Bartels says. "But when we surveyed the group again in November, insurers' expectations had shrunk to almost nothing-0.3%. And I think that's because of Spitzer."
There are market forces at work too, he concedes. Similar to other sectors in the financial services arena, insurers are experiencing a revenue slowdown-and profits are flattening out. "So Spitzer came on top of a situation that was already looking a little dicey," he says. "After all, even a 2.2% increase is not very strong."
Despite the fears, analysts' forecasts for IT spending in insurance aren't all that bleak. Companies typically spend more on technology than they've budgeted, Bartels says.
A year ago, financial services firms surveyed by Forrester were only expecting a 1% or 1.5% increase in their IT budgets, he says. "In reality, their IT spending increased by about 5%. We're expecting the same this year."
In addition, Hurricane Eliot may push IT spending higher in some areas, such as compliance and outsourcing, according to industry experts.
"In the investment sector of the industry, we've seen that any kind of compliance finding has led to increased interest in IT at the operational level," says Susan Cournoyer, principal analyst at Stamford, Conn.-based Gartner Inc.
While it's not at all clear that producers or people at the operational level contributed in a material way to the allegations of wrongdoing, companies under investigation often take defensive action by investing in compliance, workflow, content management and business process management technologies, she says.
"They try to tighten things up generally, and regain public trust. It's the reputational risk that is most dangerous with these types of allegations, not the financial risk of fines levied on the company."
The proverbial straw
When industries are under regulatory scrutiny, companies tend to show an interest in good governance and good spending, she adds. As a result, carriers may also turn to outsourcing for both IT infrastructure and business processes-in part to lessen their risks.
"Even though, at the end of the day, the insurer itself retains the risk, at least with an outsourcer, the company has another party looking at its processes to see if there's anything they've missed," Cournoyer says. Gartner had expected business process outsourcing (BPO) among insurers to take off much faster than it actually has. "But this could be the proverbial straw that broke the camel's back."
Overall, North American insurers will reduce internal IT spending-from $12.8 billion in 2004 to $12.4 billion this year, Gartner predicts-a trend that may be fueled by increased outsourcing. "Insurers are not spending a tremendous amount on outsourcing, but a material amount is starting to impact the percentage of IT dollars they're spending on internal IT," Cournoyer says.
Outsourcing, coupled with continued cost constraints, will put pressure on insurers' internal budgets, she says. "Frankly, that may lead to some layoffs. And with the (Spitzer) allegations, we'll see more trimming of internal staff."
Certainly companies under legal attack will pull back on all kinds of spending, including IT spending, but it won't be an industrywide phenomenon, says Matthew Josefowicz, manager of the insurance practice at Boston-based Celent Communications Inc.
Celent predicts overall insurance IT spending will grow in tandem with premium, holding steady at 1.5% to 3% of premium.
"A lot of insurance companies set their IT budgets based on a percentage of projected premium, whether that's the optimal strategy or not," says Josefowicz. "We see insurance IT spending keeping pace with premium, but not consuming a larger portion of premium than previously."
What's more, carriers will continue to focus on issues that hit their radar screens last year, such as compliance and Web services, he adds. "For both compliance and business reasons, data quality and transparency will continue to be the focal point of a lot of activity," he says. "And Web services and services-oriented architecture will also continue to expand."
With the ongoing proliferation of rules and regulations, such as Sarbanes Oxley (SOX) and Basel II, financial services firms are reckoning with the limitations of legacy systems and legacy databases, says Marc Zimmerman, managing partner with global financial services, in the global insurance practice of Unisys, Blue Bell, Pa.
"For a company to respond to a SOX audit, for example, they need to get at, aggregate, analyze and effectively share the information contained in systems that don't typically talk to each other," he says. In a few insurance companies-particularly those with high-profile, aggressive CIOs who have come from outside the firm and who have a good relationship with their CEOs-IT groups are actually gaining control over some part of the IT budget for enterprise projects that are not billed back to a business unit, Celent's Josefowicz says.
"We're starting to see some discretionary budgets for infrastructure-level improvements, where the CIO doesn't have to sell the value of data quality or enterprise architecture improvement to the businesses," he says.
"That doesn't mean that such projects don't have to have a clear business benefit, but the case the CIO is making is for enterprise business value directly to the CEO."
For the most part, however, IT projects will continue to be driven by the business units, and CIOs and CFOs are beholden to demanding internal customers, Josefowicz explains.
In the best cases, IT is reacting to their demands by trying to form tighter partnerships. In the worst cases, IT is dealing with very informed, potentially hostile, internal customers, he says. "The only way for IT to survive and add business value is to work as closely as possible with the business side."
Indeed, alignment between business and IT is still a major concern in insurance companies. "Most of my (insurance) clients are not looking to reduce or increase IT spending this year, but to change the proportion of spending to higher-value projects," says Steve Discher, director at The Robert E. Nolan Co. Inc., a Simsbury, Conn.-based management consulting firm.
"In previous years, there was a trend to cut to the bone," he says. "That has stabilized. Right now, our clients are trying to get the biggest bang for their IT buck."
On average, Nolan's insurance customers are planning to spend between 3.3% and 3.5% of written premium on technology this year, Discher says. "And they are asking: How do we spend it on the most valuable projects? We're helping them tighten up the prioritization process, tighten the alignment of IT and business, and determine where they will get the highest ROI."
The highest ROI is often attained by investing in legacy extension projects, he says.
"Business process management (BPM) is a technology viewed as high value. If you look at what you can do to optimize operational processes using BPM-versus replacing your core transaction system-you can get a lot of bang for your buck."
Legacy extension
Other high value initiatives include data analysis, business intelligence and data warehousing, Discher says. "Insurers are really leveraging what they have today with better analytics for better decision-making," he says.
"This is where business alignment is so important-because if a business already has a data warehouse available, it may simply need to layer in some additional information into the warehouse, for example. We're seeing a lot of that these days."
Insurance has been open to the idea of enterprise application integration, says Gartner's Cournoyer. "That led to their acceptance of Web services. They essentially built a foundation to extend their legacy systems by creating a common infrastructure. Along with that, we see insurers investing in workflow and BPM to exploit their legacy systems and to more effectively reach their producers."
Investing in distribution
Carriers are investing in distribution, says Unisys' Zimmerman. "We're finding a lot of activity there as companies realize they have to take business away from competitors-as opposed to having an enlarging market opportunity." Therefore, distribution becomes more critical and it's supported by removal of excess cost from day-to-day activities, he says.
TowerGroup predicts an increase of about 3% to 4% in IT spending by property/casualty insurers this year, especially on projects designed to optimize business processes and retain agents. In fact, according to its research, operations and distribution are the strongest business drivers for IT development spending in 2005 (see chart, left).
In the life/annuity sector, on the other hand, spending will be flat, says TowerGroup's Saccocia. "We see the need for consolidating technology and leveraging those technologies they've already purchased."
Many life and annuity firms have invested in advanced policy administration systems, she notes. "At this point, they need to determine: Can we re-engineer and consolidate onto a handful of platforms? They need to do that to support the front office."
Property/casualty insurers have been more active investors in IT over the past couple of years, Gartner's Cournoyer concurs. But life insurance may be waking up.
"Life insurance has been slow to adapt to using external providers," she says. "This sleeping giant of the life insurance industry could change that landscape."
While U.S. life insurers have been slower to engage in outsourcing, they have been investing in policy administration systems, while property/casualty insurers have been investing in claims systems over the past year, according to industry sources.
Those operational areas continue to be receiving IT dollars, but with a different emphasis, says Ed Blomquist, senior analyst at London-based Datamonitor Inc. "Based on what we've seen in our survey of the industry, the core areas of investment are the same as last year," he says.
"The difference is the driver behind it. Insurers seem to be focusing on efficiency-as opposed to cost cutting, which we saw in last year's survey."
Datamonitor's research shows carriers increasing IT budgets by about 4% in 2005.
Many insurers have consolidated their legacy systems, Blomquist says. As a result, their attention is shifting to architecture transformation-to enable Web services. For P&C insurers, that focus will be on claim-and for life, on policy administration, he says.
As the soft market returns
Indeed, claims continues to be important to the property/casualty industry, but P&C carriers are also placing a renewed emphasis on rating and product flexibility, says Celent's Josefowicz.
"As the soft market starts to come back--which it already has for several lines of business--insurers will need accurate pricing and flexible pricing models," he says. "They need the ability to micro rate-to use a very fine tooth comb to evaluate risk-and also to change rates easily."
Carriers are also viewing underwriting efficiency as a potential competitive advantage, according to Gartner's Cournoyer. "They see underwriting as a differentiator. If they can underwrite more quickly, then-as the market becomes more competitive-customers will prefer them because they respond more quickly." In fact, Gartner is seeing a lot of interest in technologies that can streamline processes related to revenue generation.
Workflow technology, for instance, can help an insurer get a policy to an applicant faster, she says. "Workflow tracks where a process has stopped. So, if there is a stall in the process, you can identify it and resolve it more quickly."
This kind of investment is a nod to the future by insurers, she says. "They're thinking about how to be more competitive-as their competitors start to squeeze time out of these processes."
