Digital risk mitigation will put pressure on insurers' bottom lines
It's official: For insurers, “digital technology destroys value.” At least, that's the assertion in a new McKinsey report, “Time for insurance companies to face digital reality.”
If that sounds a bit odd to you, the writers agree. They explain, however, that insurance is facing more disruption than ever in its history, and although the push has been for digital as the enabler to improved processes and outcomes, its effects go farther than that.
Authors Tanguy Catlin, Johannes-Tobias Lorenz, Christopher Morrison, and Holger Wilms explain that digital will not only change how traditional insurance products and services are delivered, but it will also change the essence of these products and services, and eventually even the business model itself.
Auto insurance is presented as a case in point. McKinsey claims that over the past five years, U.S. auto insurers have lost, on average, $4.2 billion in underwriting profit, largely due to expenses and losses outweighing premiums. They should expect further annual profit declines of up to 1% if they fail to use digital technology to improve efficiency and effectiveness.
Insurers, especially the larger incumbents that use digital to improve business operations, may actually double their profits over the next five years as a result. But all insurers need to recognize that those same digital technologies are also powering the sensors that reduce the types of risk exposure that is expected to generate profits in the first place.
Following our auto insurance example, with manufacturers now making forward-collision avoidance, adaptive cruise control, lane-changing alerts and other safety features standard, insurers are already forced to deal with reduced premiums. “Already, 20 percent of vehicles globally are expected to come with safety systems by 2020, reducing the number of accidents and thus the value of personal auto insurance policies,” note the authors.
As the reality of self-driving cars approaches, the authors expect liability to shift from individual drivers to the auto manufacturers. “In the United States, we estimate auto insurance premiums could decline by as much as 25 percent by 2035 (18 years from now) due to the proliferation of safety systems and semi- and fully-autonomous vehicles,” the report continues. In 15 years, profits for traditional personal lines auto may possibly fall by 40 percent or more from their peak, they add. The same theory can apply to personal and commercial lines property insurance, where water damage becomes a more manageable risk when sensors are employed.
What does this all mean? It means the typical insurer’s competitive set is no longer other insurance companies, aggregators or interlopers —it’s the digital world that powers it. It also means that, against digital’s perceived ability to reduce the value of traditional insurance cover, insurers will have to find a balance in knowing when to pull the trigger on risk management reinvention efforts and the ability to quickly anticipate, transform and replace those products and services that become obsolete as a result of their digital prowess.