Through novel technologies and partnerships, microinsurance (MI)has made plenty of news in recent years addressing risk management needs of thedisadvantaged and impoverished.

But have these innovative and often high-minded effortssucceeded? Given that success isn't measured in headlines alone, itremains difficult to tell how many of these fledgling programs havefulfilled their dual mission of generating profits while positivelyaffecting a community.

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In considering guidelines by which microinsurance results may bemeasured, a paradigm emerges with potential to gauge the success ofinsurance in any market.

Any insurance program, micro or macro, typically aspires to makepolicyholders whole after unfortunate events. The high stakes ofsuch events can be particularly devastating for the impoverished,making it critical to deliver strong value relative to cost. In aprogram's design phase, this may start with a PACE (product,access, cost, experience) analysis to quantify value provided toprospective clients compared with other risk management options.But this is only where the journey begins.

Faith in MI programs

A recent study of MI programs in Africa showed that nearly halfexperienced loss ratios of 20% or lower. While intriguing, suchnumbers suggest that coverage may be poorly aligned with risksfaced by target populations or that confusion may exist about howto file claims, thereby potentially undermining faith in MIprograms. Loss ratios closer to 60% or 70% are more likely tobe indicative of a sustainable program.

Many providers experiencing lower loss ratios may considerenhancing benefits. While expanded payout possibilities can improvethe policyholder experience, providers may also consider monitoringand addressing other key performance indicators (KPIs) — such asrenewal, complaint, and claim rejection ratios — to help improvefaith in their programs.

Sustainability

High loss ratios may achieve short-term social impact but don'tnecessarily contribute to sustainability. Factors such as donor orgovernment subsidization make discounting MI premiums a temptingway to gain traction with target populations. And yet doing sopresents risks down the road if subsidies are reduced oreliminated.

An example of this occurred with a project in Nigeria initiatedby a Dutch not-for-profit organization dedicated to improvingaccess to quality healthcare in Sub-Saharan Africa. Theorganization gained market penetration with heavily subsidizedrates, only to meet policyholder resistance when later phasing outdiscounts.

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Subsidies may be more effectively focused on marketing ortechnological efficiencies, as opposed to offsetting underwritinglosses. High social investment can help facilitate adoption ofproducts by educating a target population in principles of riskmanagement, which include not only education on the mechanics of MI(to help providers' top line) but also loss prevention (to help thebottom line).

Making a bigger impact

Scale is the next challenge for many providers wishing to strikethe difficult balance between value and viability. A program thatoperates profitably but fails to scale is at risk of beinginsufficiently diversified. For example, one MI program in Senegalmanaged to scale to only 400 policyholders and was renderedinsolvent by a single claim.

Many property MI programs often face particular challenges toexpand and diversify because of natural hazards such as droughts,which can affect the entire population of a region. Many considerprograms uninsurable when more than 40% of risks are exposed to thesame hazard.

Ceding a greater portion of risk to reinsurers, governmentagencies, or nongovernment organizations (NGOs) can effectivelyreduce concentration, because the entity providing the backstop maybe more diversified. NGOs, for example, may already be involved inthe distribution of MI. Even so, given the thin margins sometimesinitially associated with MI, sharing profits with others mayreduce incentives for many providers to grow.

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There are few hard and fast rules for an acceptable growthratio, since it is often dependent on factors such as strategy,size, and age of the program. At a minimum, positive growth ratiossuggest that policyholders that are dropping out be replaced, whichis critical because higher-risk policyholders may be more likely torenew than lower-risk ones.

Where to tighten the belt

It's estimated by some that the property/casualty industry inthe United States spends hundreds of dollars per second onadvertising. By contrast, effective MI administration oftenrequires an austerity commensurate with that of the targetpopulation. Expense ratios of approximately 20% (of already micropremiums) are viewed as best practice. When combined with the lossratio recommendations above, this estimate implies combined ratiosof approximately 90%.

As with many traditional products, a large portion of MIexpenditure may prove to be acquisition costs. This is particularlychallenging for target populations that are unfamiliar with orskeptical of insurance, may be in remote or areas difficult toreach, or may not have agents experienced in selling. Commonmethods of expense management include leveraging partnerrelationships and technology for distribution, bundling withfinancial (a loan) or other (e.g., airtime) products, andautomating evaluation and payment of claims (indices).

Products that initially bundle complementary MI with otherservices, such as airtime, efficiently typically achievepenetration. But they can face challenges later on when up-sellingmore profitable paid services to customers.

One service provider that works with local insurers and otherstakeholders in the agricultural insurance space bundled a simplebenefit with Zimbabwe's Seed Co. that reimbursed the cost of theseeds if no rain fell within 21 days. Even with this incentive,less than 5% of buyers registered for the coverage due to acombination of factors, including illiteracy, confusion and/orsuperstition.

Climate indices and other automated triggers are often used toimprove efficiency of MI payouts. This can give rise to basis risk,or misalignment between the index and actual policyholder losses. A2012 study of 318 weather-insurance products in India showed anegative 13% correlation between an area's average yields andindexed claim payouts.

Improvements in drone and satellite imagery aswell as sensor technology may heighten the relevance of indexproducts but may also increase program expenses. Quantification ofbasis risk has been characterized as “a fundamental problem ofindex insurance and yet [is] underexplored in literature,” makingit ripe for future research.

Word of mouth sells

Overcoming the distributional and claims-handling austerity thatcan be associated with MI often involves development of anexcellent product. Consider how in developed markets, “InsurTech” companies incorporate communal elementsinto offerings such as “peer to peer,” where relatively smallaffinity groups can share profits. Some of these start-ups could beviewed as more efficiently addressing well-served markets thanaffecting underserved ones, but the basic approaches aren'tdissimilar from how the impoverished may traditionally manage riskor rely on the kindness of relatives and friends after unforeseenevents.

Anecdotal examples of MI programs may miss this mark. Health MIproducts with pricing and coverage based on the cost and nature ofcare at traditional hospitals (rather than the informal medicalpractices commonly used in underserved communities) is one example.Such products may be unaffordable or impractical for those with thegreatest need for coverage, and therefore, may not beconventionally “micro.”

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KPIs that measure how well a product connects with theunderserved include poverty and rural outreach ratios, whichconsider the percentage of a program's clientele that meets desiredcriteria in targeted population segments.

Quality of life

Ideally, the purest methods to quantify MI's impact would focuson a target population's quality of life. Unfortunately, it can bedifficult to measure improvement in associated factors, includingeducational opportunities, entrepreneurship, or resiliency, due tolong return periods, insufficient data, or conflating exogenousfactors.

Several studies have been conducted — although a recent “studyof studies” deemed most of them insufficiently robust to draw firmconclusions. Promisingly, analysis of the 21 strongest studiessuggests positive returns for MI in a number of areas of importanceto the underserved.

KPIs reflecting transparency may serve as a leading indicator ofimpact. High ratios of transparent sales, where the consumer isfully informed at time of purchase, may indicate a product thataligns with insureds' needs. Moreover, value-added services madeavailable in connection with MI products — such as complementaryphone consultations with medical professionals — present anopportunity for policyholders to better understand not only theproduct but their own risk. This may in turn help prevent the typesof unfortunate events that (should they occur) will likely look tobe indemnified.

It pays to do the right thing

It's sometimes easy to forget that behind insurer numbers arereal people experiencing hardships for which insurance may bring asaving grace. As such, subjective analysis likely holds a moreprominent place in MI than a dogmatic reliance on metrics.Actuaries in mature markets crunch profitability and retentionnumbers in Excel and R, but to achieve success in MI, insuranceprofessionals often must evolve their skills into new areas such asproduct design and rollout.

By becoming involved in MI or bringing a “micro mindset” totheir own work, many insurers have an opportunity to measure andinfluence impact and in turn create exceptional products andexperiences for consumers. When all is said and done, developing asocial conscience and concern for insureds may be a reliable roadto ROI.

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Jim Weiss, FCAS, MAAA, CPCU, is director of analyticsolutions at ISO, a Verisk Analytics (Nasdaq:VRSK) business. Thisarticle was written as part of a Casualty Actuarial Society workingparty on microinsurance.