California Reforms Bolster WC Results

Absence of major reserve charges explains much of the loss ratioimprovement

With workers' compensation insurers toiling less on balancesheet repairs last year, individual state reforms–most notably inCalifornia–worked their magic on 2004 loss and combined ratios,bringing both to the lowest levels recorded in years. The industryloss ratio for workers' compensation improved five points toroughly 67 on both a direct and net-of-reinsurance basis.

The loss ratio decline explained most of a seven-point drop inthe combined ratio in 2004, with loss adjustment expense, otherunderwriting expense and dividend ratios each moving less than onepoint.

Workers' comp, with direct written premiums of $42.6 billion in2004 and net written premiums of $36.7 billion, had an estimatednet combined ratio of 105.8 in 2004, compared to 112.4 in 2003.

The figures–derived from premium, loss and expense dataretrieved from the U.S. Insurance product of National UnderwriterInsurance Data Services/Highline Media–exclude results for somestate funds per an agreement with the National Association ofInsurance Commissioners, which is the ultimate source of theinformation. Including the state funds, overall direct premiumswould be at least $10 billion higher, making workers' comp thelargest commercial line.

Individually, the most notable state fund exclusion is the StateCompensation Insurance Fund in California–which, with over $8billion in premiums, is the nation's largest workers' compinsurer.

The second-largest, American International Group, shown at thetop of our countrywide ranking (on page 13) presents a challengewhen calculating industry ratios because of the insurer's financialreporting issues. While industry loss ratios cited in this article(and shown on accompanying charts) include AIG, the 2004 combinedratio estimate of 105.8 does not.

Despite the omissions, it is clear that workers' comp resultsimproved enormously over the six-year period reviewed by NationalUnderwriter, with the net loss ratio coming down from a high of 77in 2001 and combined ratio heights reported at the 120 level foreach year from 1999 to 2001.

Ten Points Of Profit For Some

Several insurers reported underwriting profits in the line in2004. In fact, Woodland Hills, Calif.-based Zenith National,Bermuda-based ACE Ltd., Everest National Insurance Company inLiberty Corners, N.J., and the Lansing, Mich.-based Accident Fund(a subsidiary of Blue Cross Blue Shield of Michigan) each reported2004 combined ratios below 90.

Three of the four wrote the bulk of their workers' comp businessin just a handful of states. And it didn't hurt if one state wasFlorida–which had the second-lowest loss ratio in 2004, coming inat 47.9, compared to 67 for all states combined.

Michigan was also among the states with the lowest loss ratios,where the Accident Fund writes two-thirds of the business.

Zenith National and Everest each reported 86 percent of theirdirect writings in California and Florida, with 69 percent ofZenith's 2004 direct comp premiums from California alone, andEverest drawing 77 percent from the Golden State.

California comp reforms of recent years worked their way intoresults, improving year-to-year comparisons for many insurers.

While the overall direct loss ratio for California (at 64.3) wasnot much lower than the countrywide average (67.0), a 19-pointimprovement in California drove much of the five-point improvementin the national result. In fact, if California's results areremoved from countrywide totals, the adjusted countrywide ratio, at67.7, is just two points better than a ratio similarly adjustedratio for 2003.

Results for our top-25 insurers (ranked by 2004 direct premiums)reveal that a strategy of concentrating businessgeographically–even in California–doesn't guarantee success.Hannover Group, for example, writing 72 percent of its compbusiness in California, reported a countrywide 2004 direct lossratio that was more than 20 points worse than the industry and 30points worse than its 2003 result.

New Jersey Manufacturers and SAIF Corp. (Oregon's competitivestate fund)–with over 95 percent of their writings in two of theworst states, from a loss ratio standpoint–also fared poorly inindustry comparisons. For New Jersey Manufacturers, the 2004 directloss ratio was 89.1, while SAIF Corp. reported 123.3.

While geography had negative impacts on direct results for boththese workers' comp specialists, New Jersey Manufacturers was oneof nine groups in the top 25 to report an underwriting profit on anet basis, with a net combined ratio of 99.5 in 2004.

Several others reported much better net than direct results.Among them was ACE, reporting the lowest net comp combined ratioamong the top 25–actually tying with Everest for the best profitresult at 82.2.

Reserve Issues Behind Them

Back-breaking work that two of the biggest comp writers did in2003 to dig out of loss reserve holes had what adjusters mightrefer to as a "temporary partial" impact on industry results.(Workers' comp claims are categorized by duration and severity ofdisability, with terms like "temporary total" and "permanentpartial" used to determine benefits.)

Boston-based Liberty Mutual strengthened reserves for prior-yearCalifornia workers' comp claims by almost $300 million on a pre-taxbasis in 2003, while Chicago-based CNA reported a net reserve hikefor large-account workers' comp business almost twice as big.

With Liberty ranked as the second-largest comp private insurer,and CNA just a few places lower, the charges had an impact onbroader industry results. Removing premiums and losses for the twofrom direct Top-25 loss ratio calculations lowers the 2003 directworkers' comp loss ratio to 65.8–five points below the Top-25result with the two included. The 2004 Top-25 loss ratio is also65.8 without Liberty and CNA, suggesting that absence of reservecharges in 2004 explained all the improvement for the largestinsurers as a group.

Eyes On Premiums–And California

Turning from losses to premiums, workers' comp direct writtenpremiums increased more than 8 percent in 2004.

Taking advantage of the sunnier comp climate in California lastyear, insurers reported a 14 percent increase in direct premiums inCalifornia, and the top-25 insurers in the state saw a 23 percentjump. But even those figures don't reveal how competitive the WestCoast has become, since premium changes reflect both changes inrates and exposures written.

Rate-cut figures released by California Insurance CommissionerJohn Garamendi earlier this month suggest that insurers easily put25-to-30 percent more business on the books last year. He announcedthat comp insurers filed for rate cuts averaging 26.8 percent sincereforms were enacted, with cuts averaging 14.6 percent for policiesincepting after July 1, 2005. Assuming, then, that insurers reducedrates roughly 10- or 15 percent in 2004, the 14 percent premiumgrowth figure from annual statement data implies a 25-30 percentjump in exposures.

"It's a market that's changing quite rapidly," said JosephTaranto, Everest's chief executive, during an earnings conferencecall last month. "The market has gone from what was a terrificmarket to an okay market. We're thrilled we had a share of the lasttwo or three years of California premium, [but] the rest of theworld [also recognized the opportunity]," he added.

He also said that while legislative reforms worked–reducingcosts enough to justify large rate cuts–insurers writing the samebusiness in 2005 would see a 30 percent premium drop on rate alone,adding that Everest would write less California comp business in2005 and 2006.

Everest was one of only a handful of insurers to report comppremium declines in 2004. Last year, in June, Everest announced thetermination of its contract with the agency that produced themajority of its California comp business (when the agency hooked upwith a competitor), and a shift in focus from writing onlylarge-account business to include smaller accounts.

This year, Commissioner Garamendi has called for more rate cuts.He said reductions filed to date (26.8 percent) lag behind cutshe's recommended (some 36.5 percent) since 2003 and 2004 reformstook effect.

Nationally, rates are also falling, according to reports fromthe Council of Insurance Agents & Brokers. Figures included inthe group's latest report reveal that workers' comp rates lastshowed an increase in second-quarter 2004–and then rose only 1percent, compared to second-quarter 2003.

Since then, CIAB's quarterly reports, which are based on surveysof agents and brokers, show year-over-year workers' comp ratedeclines growing steadily larger in each successive quarter.According to CIAB, rates fell 2.7 percent in third-quarter 2004compared to the prior-year third-quarter, 3.1 percent infourth-quarter 2004, 5.3 percent in first-quarter 2005, and 7.3percent in second-quarter 2005.

Overall premiums still grew for many workers' comp insurers in2004, with eight of the top 25 reporting premium jumps in excess of20 percent. Employers Insurance Group==a Reno, Nev.-based compspecialist that nearly doubled its writings==made its debut in thetop-25 ranking, with 76 percent of its business coming fromCalifornia and another 23 percent from Nevada.

Infographic:

Head: Worth Noting!

States with the lowest 2004 workers' comp loss ratios were:

o Hawaii: 41.6

o Florida: 47.9

o Texas: 51.8

States with highest 2004 workers' comp loss ratios were:

o Oregon: 105.1

o Kentucky: 96.7

o New Jersey: 82.3

Combined Ratio Graph:

Flag: Net Results Improve

Even financial reporting problems at the national's largestprivate comp insurer, AIG, failed to mar an improving picture ofworker's comp underwriting results.

Line/Bar Graph:

Flag: Losses Grow More Slowly

Higher premiums weren't the only reason for declining lossratios in 2004, as net incurred losses grew at a slower rate thanin 2003.

Top 25

Flag: Who's In; Who'sOut

Overall, the names appearing in NU's rankings have not changedmuch since last year. But as some exited the list–most notablyPennsylvania Manufacturers, ranked 15th last year–others debuted,including comp specialist Employers Insurance Group in Reno, Nev.(writing 99 percent of its business in California and Nevada),State Farm and Fairfax Financial.

California Chart

Flag: Results Reformed

Even with prices falling, insurers reported improved loss ratiosin 2004, as reforms of 2003 and 2004 and smaller prior-year reservecharges impacted results. Seattle-based SeaBright, a specialty compinsurer for maritime employers and organized employers requiringcollectively bargained workers' comp, made its first appearance,taking the 24th spot.

Florida Chart

Flag: Still Among TheBest

It was hard to lose money on underwriting in the Florida compmarket where loss ratios average 47.9. Nationally, loss expenseratios average about 14 and underwriting expense ratios around 24,keeping combined ratios for the state well below the breakeven100-mark.