Firm Strategy

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Firm Strategy

• RMI 4700
• Management of Insurance Institutions
• Robert Klein

4/11/09
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Objectives of an Insurer

• Primary Objectives
• maximize profits firm value?
• maximize policyholder value?
• other primary objectives?
• Secondary Objectives
• short-term or long-term profits?
• growth?
• sales or revenues?
• managing or limiting risk earnings volatility?
• geographic or product scope?
• longevity?
• employee welfare?
• other?

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Profits and Firm Value

• In theory, for-profit insurers should be seeking
  to maximize profits firm value in the
  long-term.
• However, for other reasons, an insurer may place
  greater emphasis on short-term profits.
• income to owners
• stock price may be driven by short-term profits
• Firm Value
• book value
• market value
• franchise value ? profits that will be earned
  in the future if firm stays in business
• Insurers also must send positive financial
  signals.

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Non-Profit Insurers

• In theory, non-profit insurers owned by their
  policyholders should seek to maximize
  policyholder value.
• Policyholder Value
• policy coverage, benefits costs
• dividends to policyholders
• retained earnings surplus (owned by
  policyholders)
• When mutual insurers de-mutualize, current
  policyholders are paid value of insurer.
• Other Objectives?
• solvency longevity ability to pay future
  claims
• other missions of the insurer

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Strategy and Business Plan (Klein)

• Establish goals objectives of firm
• Identify constraints or other factors that affect
  what the firm seeks to do and can do internal
  external environment.
• Identify assess firm resources its
  comparative advantages where how can it best
  offer value to customers for which the firm can
  earn profits.
• Develop strategy business plan to accomplish
  objectives under a set of constraints.
• Continual monitoring assessment of firm
  performance and revision of strategies as
  warranted.

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The Allstate Story

• Allstate was originally owned by Sears sold
  auto/home insurance through Sears retail stores.
• Allstate was spun-off in IPO became a
  publicly-traded insurer.
• Over time, Allstate has increasingly concentrated
  on profitability firm value, i.e., running a
  tight ship an efficient business.
• Its overall goal is to sell a variety of
  insurance products to households.
• It has extended its distribution network beyond
  exclusive agents.

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The Progressive Story

• Progressive began as small auto insurance company
  based in Ohio.
• It initiated a strategy to make substantial
  inroads into the non-standard auto insurance
  market by more accurate underwriting/pricing of
  high-risk insureds
• It has used its growth in the non-standard market
  to extend its penetration to the broader auto
  insurance market.
• It continues to experiment/innovate in
  underwriting, pricing and services.
• It has grown to become the 3rd largest auto
  insurer.
• Its efforts to expand into other personal lines,
  e.g., homeowners insurance, have not be highly
  successful but its not clear that it abandoned
  such ambitions.

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Analyzing External Environment
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Situational Analysis (SWOT)

• Managerial Expertise
• Available Product Lines
• Skill Levels/Competencies of Staff
• Current Strategies
• Customer Loyalty
• Growth Levels
• Organizational Structure
• Distribution Channels

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Strategies at Different Levels

• Corporate Level
• Single Business
• Vertical Integration
• Diversification
• Declining Business Model
• Business Level
• Cost Leadership
• Differentiation
• Focus
• Function Level

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Organizational Structures
Functional Structure
Multidivisional Structure
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Organizational Control

• Establish Standards
• Create and Apply Measurements
• Compare Results to Standards
• Evaluate Implement Corrections

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Global Operations

• Global Environment
• Culture
• Language
• Regulations
• Laws
• Economic Considerations
• Political Risks

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Global Market Entry

• Exporting
• International Licensing
• Franchising
• Foreign Direct Investment
• Strategic Alliances
• Joint Ventures
• Wholly-Owned Subsidiaries

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Key Decisions in Business Plan

• Target markets products
• Objectives in target market
• market leader, follower, or niche player
• Firm investments return period ? how much will
  the firm invest how long is it willing to wait
  for positive earnings.
• How much risk is the firm willing to assume how
  will it manage its risk to meet that constraint?
• Further configuration of firm structure
  operations to fulfill other elements of business
  plan.

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Products, Markets Value

• Where does a firm have a comparative advantage
  that it can exploit to earn good profits?
• Bundling unbundling services.
• Bundling packaging multiple services in 1
  product.
• Unbundling separating selling service that is
  of greatest value to a customer.
• Bundling Example
• Combining auto insurance with auto repair
  services.
• Unbundling Example
• Separating claims administration from risk
  transfer
• Vulnerability to competition ? how long can firm
  earn profits before competitors replicate
  advantage?

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Firm Structure

• Organization of business units their
  management, coordination integration.
• Use of centralized or decentralized management
  structure
• Organization of companies within a holding
  company structure ? why do many insurers have
  multiple companies what determines their
  configuration of companies?

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Possible Reasons for Multiple Companies

• Business Focus ? creating a company for a certain
  market, product or other function to focus people
  in that company assess their performance.
• Limitation of Risk ? holding or parent company
  may not be liable for failure of subsidiary.
• Many insurers have set up run-off units or
  companies for discontinued or bad business.
• Regulatory Factors
• May require separation of preferred, standard,
  non-std cos
• State International Markets
• Some states may encourage state subsidiary.
• Operations in other countries are often conducted
  through branch or company in that country

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Allstate Group Structure
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Firm Investments Sunk Costs

• Many investments in new venture may be
  irretrievable if firm pulls out these become
  sunk costs.
• Higher sunk costs can create greater risk for
  firm.
• Owners/investors will expect greater return for
  greater investment higher risk.
• Owners/investors also will have a limit to their
  patience in terms of seeing positive returns.
• Entry, growth, retrenchment exit
• Decision to enter grow
• Decision to retrench or exit

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Managing Risk

• Insurers should established risk tolerance ?
  maximum level of risk it will assume.
• Owners/investors expect returns to match risk
  level ? higher risk requires higher return.
• Higher earnings volatility indicates higher risk
  will be viewed negatively by other
  stakeholders, all other things equal.
• Insurers will tend to set certain risk
  constraints
• risk of default or insolvency (e.g., 1)
• variance skewness of actual expected earnings
• Objective maximize return relative to risk.

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Specific Issues

• Conglomerate strategy versus focus on core
  competencies.
• Financial supermarket strategy has failed many
  firms.
• Still, some insurers still pursue multi-product
  strategies.
• Big vs. small ? how big do you want/need to be?
• How to grow ? mergers/acquisitions v. internal
  growth
• International Expansion
• Some countries (e.g., China) offer significant
  growth opportunities.
• Many challenges to international expansion.
• Regulation government policies
• Shifting risk uncertainty in some markets.