Corrosive Practices Greater Threat Than Cats

By Lisa S. Howard

International Editor

Dublin

The insurance industry is less under threat from the next financial crisis or manmade or natural disaster than it is from “corrosive” business practices, according to Brian Duperreault, chief executive officer of ACE Limited in Bermuda.

“Companies within the insurance industry dont normally go bust because of a catastrophe,” Mr. Duperreault said. “They go bust from a corrosive approach to the business, a lack of understanding about underwriting discipline, a continuous buildup of poor business over a long period of time, which completely erodes the surplus.”

He admitted there is not a lot of excess surplus in the industry “that could be applied to something disastrous,” so there isnt a lot of room for error.

However, he emphasized, there are protections for catastrophes.

Consequently, he said, another disaster is not as likely to drive out more companies than is the recognition of the poor underwriting, poor risk selection and poor pricing that occurred in the late 1990s. “That may be the next shock [facing the industry],” he added during a question and answer session after a speech he gave at the recent European Insurance Forum.

During the Q&A, Mr. Duperreault was asked to what extent recent reserve strengthening has been driven by requirements of the Sarbanes-Oxley Act of 2002, which addressed accounting and financial practices.

While the requirements certainly focus the attention of insurance executives, Mr. Duperreault thought the reserve increases were forced upon the industry because of bad practices over a long period of time. The reserve increases “were coming in any case,” he said.

Sarbanes-Oxley has simply heightened and accentuated the need to “look at whats going on,” he said.

The new corporate governance requirements mandated by Sarbanes-Oxley are a little like being a teacher, he asserted. A student, may get an “A” on a course, but when you become a teacher, you have to learn many times more about the subject in order to be able to teach it, he said.

He then equated the experience of teaching to the requirements of chief executive officers and chief financial officers under Sarbanes-Oxley. “When you are forced to sign that statement” verifying the accuracy of financial statements, “things you might have understood in part, you need to understand in whole,” he said.

Mr. Duperreault commented that reserving practices of the future will be influenced by new Securities and Exchange Commission rules that require detailed explanations of reserve movements, whether positive or negative.

“I think this requirement to explain is going to probably keep the exaggerations of the movements in reserves down a bit,” he contended.

As the insurance industry is in the business of trying to predict the future, which is an imperfect science, there will always have to be reserve adjustments, positive or negative, he said.

“Thats just the nature of the business. We price expected risk, or perceived risk, and we find out what the actual risk was and we have to adjust,” he said.

Reproduced from National Underwriter Edition, April 7, 2003. Copyright 2003 by The National Underwriter Company in the serial publication. All rights reserved. Copyright in this article as an independent work may be held by the author.

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Corrosive Practices Greater Threat Than Cats

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