Mining profits through program business

THE PACE of business in the insurance industry is quicker than ever, and insurance agents and brokers don't always have the time to craft a sound, all-around insurance solution for the complex needs of their clients. That creates a great opportunity for MGAs, program administrators and wholesalers

Our agency has been administering a program for the coal-mining industry for the past 20 years. The principles we have followed are applicable to any program. In this article, we'll share our experience and discuss the important considerations for an agency thinking about creating a program, how to get the program accepted, and how to make it profitable.

Our background and how we market ourselves

Our program provides coverage for operations that mine sand and gravel, but most of our business is concentrated on coal-mining operations. The program includes CGL, pollution and umbrella coverage for mining operations; inland marine insurance for above-ground and below-ground mining equipment; CGL and products liability coverage for machine shops and manufacturers that are "sister companies" to the mining industry; and truck physical damage, with a focus on coal haulers. We occasionally write EPLI coverage, but we don't include auto or workers comp.

Key to marketing our program is forming strong personal relationships with agents and brokers and with the businesses they insure. Innovations such as e-mail and the Internet enable us to provide faster, more convenient service in many areas. When producers or people in the mining business call, we often direct them to our Web site and walk them through our online documents during the phone call. But we've found that people still want face-to-face contact and "real" relationships.

One of the best ways to form those relationships is to join trade associations. Sometimes it's possible to have an association endorse your program. Whether a national or local association is a better idea for your program will vary according to the industry your program will serve. We also look for prospective partners by exploring Web sites and reviewing trade journals. MGAs and program administrators also can improve programs by networking with peers and companies through their own associations, like NAPSLO, AAMGA and the Target Markets Program Administrators Association.

We've had success in marketing our program to producers and their clients by placing advertisements in magazines, and we carefully assess all the ways we present an image of the agency-our Web site, the look of our letterhead, even our procedures for answering the phone are going to leave an impression. We take the time to make sure that impression is a good one.

Once we have a relationship with a client, we take what we call a "pull through" approach to selling coverage, rather than the "push through" approach many agencies might use. With the "push through" approach, agencies use typical marketing methods-telemarketing, direct-mail campaigns, etc.-to "push" coverages down through the retail distribution channel. We sell our coverages by responding to what agents tell us their clients need. When an agent or broker comes to us needing CGL coverage for a mining operation, we ask questions about the client and help the agent determine what other coverages are needed-"pulling" the client through to other types of coverage.

Important program considerations

Regardless of what industry you target, to create a successful insurance program you must be aware of several important considerations. Some relate to the feasibility of creating a particular program, and others guide you in structuring a program once you've decided to go ahead. These considerations fall into the following categories:

-Specific industry considerations: How many accounts are in your targeted industry? Are most of them large or small? It helped us to learn that the majority of businesses in the coal-mining industry were relatively small, and that the carriers were fairly successful at handling the larger accounts that constituted a smaller portion of the industry. This helped us decide to design a program focused on smaller accounts.

You should also have a good idea of where prospects are located, so that you'll know the spread of risk you'll be dealing with. You'll also need loss data. There are two basic types of data: ISO data and hard data (i.e., data from an actual book of business). In today's market, you'll probably need hard data in your program proposal to gain acceptance from carriers.

An understanding of your targeted industry will help you determine what type of coverage limits you'll need. Individual pieces of heavy equipment involved in coal mining can require $5 million of coverage, and a coal-mining operation may have 20 to 30 such items. Knowing the limits needed will help you accurately structure your underwriting guidelines, which is critical to any program. Sound underwriting guidelines help you determine what is a good account and what is a bad account, and they're also important when carriers come to audit your program.

-Agent and broker considerations: Before you submit a program proposal, you must know whether you're going to be able to identify the agents and brokers writing coverage in your targeted industry. This is especially important if, like ours, your program will serve an industry with a relatively small number of accounts. To get carriers to accept your program, you have to be able to demonstrate that the program will generate a significant amount of premium. Finding and building relationships with the agents and brokers who have the accounts you need is thus vital.

You should also know what level of compensation agents and brokers get from competing programs. If you can't match what agents can earn elsewhere, your program will suffer from adverse selection. The best agents with the best accounts will go elsewhere for the higher compensation, and you'll be left with the accounts that can't get coverage anywhere else.

-Carrier considerations: It's never too early to start communicating with the carrier you hope to have underwrite your program. Give the carrier any information you may need to dispel any false perceptions about your targeted niche. For instance, it might be difficult right now to get a new program for nursing homes accepted, and several recent coal-mining incidents have probably made it harder for anyone to start a new program in our niche. Present the carrier with the facts that overcome adverse publicity and inaccurate perceptions of a niche.

Prepare a pro forma early on. Show your carrier how it will make money with your program and start talking about how you will handle claims and unexpected losses. A few years ago, our truck physical damage claims started to rise higher than expected. Fortunately, we had already discussed with our carrier what we might do in such a situation. Together, we had mapped out a plan that included increasing some rates, raising a deductible and dropping one broker who was bringing us most of our bad business. Within a few months, our loss ratios were acceptable again. We were able to respond this way, instead of worrying about the carrier dropping the program, because we had dealt with this issue ahead of time.

-Regulatory considerations: You shouldn't start building an insurance program without understanding the legal environment your targeted industry faces. For example, we were encouraged to build our program by the Surface Mining Control and Reclamation Act of 1977, which requires all coal-mining companies to buy general liability insurance, reclamation bonds, and some other coverages to renew their mining permits.

Whether to have an admitted or nonadmitted program is an important issue. Our program is nonadmitted, which gave us the ability to begin marketing it quickly in multiple states-especially important if your prospects are spread over several states. Among other things, running a nonadmitted program means you'll need the administrative capacity to file surplus-lines taxes in these states. The coverage you offer is also affected. One reason we don't offer auto or workers comp coverage is because we would have to have an admitted program to do so.

-Program considerations: Is there a need for your program? The existence of strong competing programs may make it more difficult for yours to succeed. How much premium do you expect your program to generate? You'll find differing estimates of how much premium you need to gain carrier acceptance. Our opinion is that you have to be able to forecast at least $5 million in premium to have any chance of acceptance, and you may need to generate at least $10 million to satisfy many carriers.

Your analysis of the program's cost and feasibility should include loss control costs, claims handling and other administrative costs such as issuing policies. Depending on your niche, you may not be able to use the services of general loss-control professionals-you might need specialists with particular knowledge of an industry, just as you may need the services of experts in handling complex claims unique to an industry. From the beginning of your planning, you should also factor in the time needed to develop the program. Much time and commitment is needed to develop a sound program, and since you're busy every day running your agency, it could take up to one or two years to get your program off the ground.

-Administration and planning: Once you have your program in place, it is vital to stay on top of the administrative work. If you have authority from the carrier to approve risks, you're basically issuing policies. Especially during the first few years of the program, the carrier may send someone to audit the program every few months. The auditor is going to look at the underwriting guidelines under which the carrier approved the program. If you cannot demonstrate that you are strictly following your guidelines, the program may be in trouble.

The importance of data

To get a carrier to accept your program, you'll need loss and premium data to demonstrate that the carrier will make a profit. Carrier's appetites for data vary, but you should have three to five years of loss data. Most carriers prefer accident-year data, which allows you to match the premium and losses for a given year.

Invest in an actuarial study of your program's rates, using historical information from similar programs. This made our program data more credible when we once had to replace a carrier. A potential new carrier told us, "The actuaries don't like your rates." We hired our own actuaries, for about $5,500. They concluded that our rates were in line with others in the industry, and that some of our rates were even higher than they needed to be. We were able to go back to the carrier and say, "Here's our actuarial study. Let's let the actuaries figure out the correct rates."

Share the wealth

Although current market conditions make it less likely, you may be able to structure your program to include a profit-sharing agreement. We have convinced carriers to accept a profit-sharing agreement by structuring it so that we only share in the "extra profit" realized by exceeding certain goals. For example, in a program that had a $5 million earned premium, we assumed a possible loss ratio of 60% and implemented a 27.5% profit-sharing rate if our losses were lower. If we hit a 50% loss ratio, producing an "extra profit" of $500,000, we got to keep 27.5% of it, or $137,000.

A similar arrangement might involve a sliding scale on the commission you receive from a program. Say you assume a reasonable loss ratio of 55%, and your minimum commission is 20%. You might get the carrier to agree that your commission rate will increase a set amount (say, .5%) for a certain decrease in the loss ratio (perhaps 1%), up to a maximum commission rate. So your structure may call for you to make no less than 20% commission, and as much as 25% commission if your loss ratio decreases to 45%.

Risky business

Carriers are just as likely to want you to share some of your program's risk, and your chances of getting your program accepted increase if you have your reinsurance in place before you go to the carrier. One way is by using a captive, which we've done with some of our programs, including one offering a $1 million general liability policy. Rather than funding the captive, we put up a letter of credit to our carrier. The first $350,000 of each loss is the primary layer, and our letter of credit allows us to assume 10% of that-the carrier assumes the other 90%. We secured reinsurance for 100% of the $650,000 per policy over the primary layer.

A structure like this can make your program more attractive to a carrier, because it sees that you have your own money at stake, or "skin in the game." When contemplating such a plan, however, make sure it makes sense for your agency, as well as for the carrier. A carrier we were talking to not too long ago suggested a "loss corridor" approach. We had factored an expected 55% loss ratio into our program plans, and the carrier offered to give us a 10% "cushion" on that. They offered to take losses up to a 65% ratio. The plan called for us to be responsible for losses between a 65% and 68% loss ratio, and the carrier would step back in to cover losses with a ratio of over 68%. We declined this offer for two related reasons. First, we would be assuming the risk for a certain range of losses, but we wouldn't be collecting any of the premium for that risk. Second, we wouldn't be earning any investment income from that risk assumption. It just didn't make sense for us, so we found another arrangement elsewhere.

Building a successful program takes a great deal of time and resources. Developing a strong understanding of a particular industry's needs, finding the agents and brokers with the accounts, and structuring the program so that it works financially for the MGA and the carrier entails more commitment than many agencies are able to give. With the demand for good programs as strong as ever, MGAs and wholesalers who are able to devote the necessary resources to developing a program may find retail agents and brokers beating a path to their door.