Insurance digital transformation myths vs. reality: McKinsey
Modernization of technology can make a significant impact across many parts of the insurance industry, including underwriting, policy administration, and claims. McKinsey research shows that the potential benefits of modernization include a 40 percent reduction in IT cost, a 40 percent increase in operations productivity, more accurate claims handling, and, in some cases, increased gross written premiums and reduced churn.
Technology modernization is vital, but—given the significant value at stake and the size of the investment—it should be approached with a healthy dose of caution. Indeed, many insurers miss out on the full benefits of the program for three reasons: First, they don’t have a clear view of what sort of actions are needed or the impact such actions could have, which may lead them to undersell both the business value at stake and what is needed to capture it. Second, many organizations have assumed that a “digital overlay” is all that is needed, only to find that some capabilities require modernization of core systems. Last, insurers that do embark on modernization may falsely assume that a platform replacement will be a magic bullet that will solve all their efficiency and data-conversion problems.
To help insurers dispel these misconceptions, we explore three myths of tech modernization and provide guidance on how to successfully navigate them. Understanding the thinking behind each will help business and technology sponsors ask their teams the right questions rather than blindly following the latest “shiny object” trend or allowing suboptimal decisions to be made in business or technology silos.
Myth 1: The business impact of technology modernization is underwhelming
The reality: There are two broad reasons why the business impact of technology modernization may appear insignificant. First, insurers may not aim high enough, embarking on partial or incremental programs that do not tap into the considerable promise of modernization. Consider that numerous duplicate systems within a company’s technology infrastructure are the single biggest source of cost differentials, compared with similar products and operations organizations. In fact, our review of policy and workflow-system consolidations reveals that the operating expenses for companies with many duplicate systems can be three to four times higher than those with just one or two systems. This massive variance is often underestimated in business cases for technology-consolidation programs, which are often approved at a breakeven of five years (the average amount of time that leaders are willing to wait for a positive return on investment).
Second, business growth, retention, and productivity benefits may not be not fully factored into the business case during the planning phases of modernization. This is true even when a primary goal of modernizing systems is to enable a competitive customer experience or target new customers through the use of advanced analytics. Although revenue benefits are harder to quantify than changes in operational costs, even a directional estimate of benefits is useful to build buy-in.
How to navigate: To realize the considerable value at stake, insurers need to recognize—and commit to—a wide and transformative program of technology modernization. To justify the expense at the outset, insurers need to articulate the considerable gains in productivity and business impact that technology modernization programs can offer, and their business case should include an attractive ROI. This sets the right tone for the program and will ultimately yield a program that delivers meaningful impact.
Myth 2: Modernization simply means replacing the core platform with the best-in-class option
The reality: Core-platform replacements often have higher up-front investment costs than in-place IT modernization, as they require both software and hardware, experts’ time, and extensive testing. Furthermore, migrating existing policies and their implicit contracts to a new platform is often expensive—these additional costs need to be factored into any decision—and time consuming.
One big reason for high modernization costs is the age and quality of the policy data and rules—poorly maintained policies are expensive to refresh and modernize to work in a new system. Product types and geographic context are also considerations. For instance, US personal property and casualty (P&C) policies are generally issued annually and thus have up-to-date policy data and rules; this makes migration efforts more straightforward. By contrast, in countries such as Austria or Germany, policies are refreshed annually to adjust premiums for inflation, but policy data, rules, and terms only change when a customer switches to a new policy—which may not happen for many years. Therefore, policy rules need to be carried over to the target system or customers need to switch to a new policy during modernization, rendering it time consuming.
Life insurance policies are issued for longer periods (often decades) and tend to present even greater legacy-data challenges.
How to navigate: To mitigate the risk of disruption, some organizations might choose to take a hybrid approach: issuing new policies on the new core platform while maintaining existing policies on the legacy platform. However, this can create a period of inefficiency as both platforms will need maintenance and training for operations staff. Technology leaders will need to factor this cost bubble (the increased cost of maintaining assets across two platforms) into their business plan and have a set time frame to either migrate, minimize, or off-load the legacy policies.
In many cases, in-place modernization is significantly less risky than a core-platform replacement—and just as powerful. This is particularly true in the many situations in which existing products and policies are not well documented. The existing system can be divided into similar blocks of policies, with each block updated to deliver the most valuable benefits, with much less risk.
Myth 3: Using a vendor platform will guarantee access to the latest cloud-based technology
The reality: Many vendor platforms are from the prior generation (such as on-premise, monolithic, or two- or three-tiered client-server architectures) and may be outdated by the time they are implemented. Indeed, many industry-leading vendors must satisfy the needs of large customers with custom solutions. Doing so can force these vendors to invest in bespoke platform solutions rather than pursuing the R&D investments that would otherwise allow them to offer innovations to their customers.
How to navigate: Insurers will need to decide if the latest cloud-based technology matters to them. Is access to innovations such as the latest data analytics and AI services the motivating factor, or is it sufficient to be a fast follower—that is, adopt technology once it has been proven, and stay updated on security patches? Once organizations are clear on their own priorities, they will need to understand the strengths of each vendor’s architecture. How, for example, does the vendor handle multitenancy and automatic software updates? Can it integrate into the broader ecosystem of traditional and cloud-based services?
Insurers need to understand whether the system was designed for the cloud or whether it was a lift-and-shift approach to an older platform; that is, the platform was moved to a new system without any accommodating redesign or changes. If vendors did use a lift-and-shift strategy, companies will need to ensure that the system will meet their future business requirements. The frequency of new update releases will also give a sense of the pace of innovation.
For instance, insurers may decide to conduct functional proof-of-concept demos and architecture proofs-of-concepts during vendor selection for a core insurance solution. During such a process, insurers could test the integration of a vendor’s application programming interface (API) with the customer front end to ensure feasibility and highlight possible challenges. In cases where complications arise—such as when the integration requires building effort-intensive API translation services in an enterprise service bus (ESB) —the process can be evaluated and the findings used to develop a much more robust and realistic implementation plan.
It is a business imperative that insurers get technology modernization right, but both the value at stake and the risk of failure are commonly underappreciated or misunderstood. By understanding these myths, insurers can start (or reset) their programs with a solid, realistic understanding of how and where technology can add real value.