MGAs In Jeopardy In Troubled Program Business Market

Some fear that all MGA business is fraught with financial peril and should be avoided

The insurance industry has experienced a reduction in program markets and capacity for the MGA distribution business model over the last few years.

Failed carriers litter the roadside as a direct result of conducting business through the managing general agency distribution system. Currently, some insurance company senior managers, rating agencies, analysts and regulators perceive that all MGA business is fraught with financial peril and therefore should be eschewed.

Consequently, in the last few years, we have seen all of the following:

o A reduction of markets.

o Companies in runoff.

o The demise of the “fronting company” model.

o Fewer reinsurers fueling the capacity fires for fronting arrangements.

o Increased rates and more restrictive terms.

In short, we have a challenge to the viability of the MGA model itself.

In contrast, there have also been many successful long-term relationships between insurers and MGAs predicated on a few simple rules, which generally boil down to fair dealing between competent partners.

MGAs must abide by underwriting and pricing guidelines, and insurers must dedicate human and financial resources to monitor and control their books of business.

It is the responsibility of the insurer to have the sophistication and controls in place to continually underwrite and review pricing levels in order to properly manage their MGA relationships. The insurance companies must conduct underwriting audits, claims audits and financial audits to ensure that standards are met or exceeded.

An insurance company writing program business through the MGA model is presented with, on average, over 200 program opportunities per year. It is therefore imperative that the MGA's program submission or presentation not only provide complete quantifiable statistical information, but also that the presentation should immediately highlight the demonstrable competitive advantage that the MGA provides to the marketplace and to the carrier.

There must be a reason for successa demonstrable differentiation that will generate superior financial results.

These presentations may be received directly from the MGA, through a reinsurance intermediary or via a program broker. The carrier should apply the 50/50 rule in program analysis. This means that 50 percent of the due diligence process must focus on the integrity and history of the MGA, and the other 50 percent on textbook analysis of the program itself, including actuarial analysis as well as analysis of pricing, risk selection, claims and systems.

Whenever an insurance company decides to distribute its products through the MGA distribution model, it is allowing a third party to issue policies and control pricing. The insurer must have complete confidence in the personnel and business integrity of its MGAs.

The due diligence process must include extensive background checks keying in on prior relationships with other carriers, reinsurers, reinsurance intermediaries, competitors and state regulators. Once the background checks are competed and determined to be acceptable, then the traditional analysis takes place.

The insurance company should demand, and the MGA accept, a compensation model in which the MGA receives the lions share of their compensation in the form of profit sharing. Some carriers require the MGA to have “skin in the game” a reference that means no one gets rich unless everyone gets rich. This can be in the form of a sliding-scale commission or an alternative risk captive arrangement in which the MGA must capitalize its own captive facility and participate on the downside by paying losses from its captive.

An insurance company must serve many masters and report financial data to different constituencies such as upper management, state regulators, stockholders, public accountants and consulting actuaries. Each constituency has a specific focus, individual needs and unique demands. As such, the MGA must have the capability to report all necessary information to its carrier.

To this end, a program submission or presentation should include, at the very least, the following:

o An executive summary describing the program, the class of business, a description of the MGAs competitive advantage and a summary of the financial results.

o A biographical description of the key executives and personnel.

o Quantifiable statistical information on premiums and claims.

o Actual claims reports showing named insureds and claimants.

o A description of the systems capabilities to quote, bind and issue, as well as to report premiums and losses by state and by annual statement line.

o Actuarial analysis showing incurred loss ratios before IBNR (reserves for incurred-but-not-reported losses) and ultimate loss ratios including IBNR.

o Underwriting and pricing guidelines.

o Reinsurance support listing individual reinsurers, and terms if available.

o Agency financial statements.

o Profit contingent commission statements from the prior carrier.

o Background regarding claims management.

There have been many relationships between MGAs and carriers lasting less than three years. However, there have also been long-term relationships between MGAs and carriers lasting up to 30 years. The longevity of an MGA contract is in direct relationship to the profitability of the program and the competitive advantage forged over the years by the MGA distinguishing its program from the competition.

MGAs with integrity and specialized expertise in their given underwriting discipline will always have an edge in developing a stable relationship with a reliable carrier, even when the market contracts and participants dwindle.

Robert J. Broomall, CPCU, is senior vice president of the Program and Alternative Markets Division for Arch Insurance Group. He is the co-author of “Partners in Profits: The Managing General Agency System Under Fire,” published by the Society of CPCU.

Reproduced from National Underwriter Edition, May 14, 2004. Copyright 2004 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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MGAs In Jeopardy In Troubled Program Business Market

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