Profitability trumps growth, right? Indeed, after declining forsix straight years, average property and casualty rates have beenon the rise since late 2011, according to MarketScout Corporation'sresearch. The traditional approach to increasing loss costs andimproving market conditions is for P&C carriers to raise ratesacross their book of business—even if that makes them lesscompetitive.

But what if carriers could be more sophisticated and selectiveabout rate increases in a hardening market—thereby retaining acompetitive edge? Moreover, what if there are serious pitfalls toyour traditional approach of across-the-board rate increases? AaronMayfield, director of commercial solutions for Marshall &Swift/Boeckh (MSB), proposes an alternative approach that balancesrate increases with insurance-to-value (ITV) initiatives.

“In a hardening market, insurance carriers should move beyondensuring 'rate adequacy' and actually assess their 'premiumadequacy,'” Mayfield explained during a recent PropertyCasualty360web seminar on “Insurance-to-Value: Optimizing your underwritingstrategy and rate sophistication in a changing commercial market.”Instead of uniformly increasing rates, he said, “Carriers shouldbalance rate increases with more proactive management of theinsurance-to-value baseline in their books of commercialbusiness.”

Mayfield cited a number of pitfalls to traditionalacross-the-board rate increases. First, he pointed out, book ofbusiness ITV is inadequate to maximum possible loss (MPL).Increasing rates also increases rate subsidization—and thelikelihood of adverse selection. And—no surprise—newly developedrates reduce carriers' ability to compete for new business in themarketplace.

Moreover, MSB has extensive data showing that base ratesdeveloped with historical loss indicators do not fully account forhidden undervaluation exposure. The firm's annual ITV index, forinstance, reveals that 30 percent of buildings are undervalued by50 percent—and fully 50 percent of contents are unvalued by 50percent.

Optimize the Opportunity
In contrast to these pitfalls, Mayfield's presentation emphasizedfour key benefits of a more balanced approach—what he called“optimizing the opportunity” in a hardening market:

1. Book of business ITV is adequate to cover MPL–ensuring properpremium and rate coverage for catastrophic as well as large partiallosses.
2. Premium increases are aligned to exposure, and therefore maynot require rate adjustments.
3. Premium deficiency and rate subsidization is addressed andadverse selection is minimized.
4. Addressing premium deficiency better aligns changes to rate andmakes you more competitive for the new business coming tomarket.

Mayfield's presentation delved into the impact ofundervaluation, pointing out that while broad rate increases dogenerate increased premium, they don't target premium deficiency.Moreover, modifying rates to account for increased losses stillfails to address ITV. Focused ITV initiatives identify premiumdeficiency within the current rate structure to help recoverpremium while ensuring each risk is being evaluated equally. As aresult, rates are only adjusted when premium is deficient accordingto predicted loss models.

Balanced Return on Investment
The potential return on investment (ROI) for this balanced approachis compelling. Mayfield provided an example compared an ITVbaseline the return made possible by when ITV initiatives aredeployed. With $500 million in total commercial non-liabilitypremium and 100,000 policies, the baseline example resulted in 57percent undervalued contents and 65 percent undervalued buildingcoverage, with an average policy premium of $4,750 and averagepolicy coverage of $2 million. Deploying a balanced approach, withboth rate increases and ITV initiatives, average policy premiumsincrease to $5,000, coverage expands to $2.25 million, andcommercial coverage opportunity reaches $33.75 billion. Theresulting premium opportunity: $67.5 million.

Mayfield also pointed out other benefits to the balancedapproach.

“MSB has indications from all major catastrophe models thatundervalued input can have a nearly dollar-for-dollar effect onmodeled loss outputs,” he explained. Using the balanced approachand employing MSB's book-of-business valuation can reduce rates 10to 15 percent, making them dramatically more competitive. A morecompetitive rating structure retains existing insureds andincreases new business—including increasing capacity to take on newprofitable business opportunities. Finally, he said, “You canensure your book is aligned to your underwriting strategy.”

Getting Started
To get started with ITV initiatives, insurance carriers often haveto overcome the perception that “my book is fine”—as well asresistance to change and concerns about implementation time for thebalanced approach. The first step to take is to develop the correctTIV baseline for the entire book of business and base rates.

“New business should be written at the correct TIV and ITV,”Mayfield said. “Renewal business should be shifted to TIV with anew rating structure. This way, carriers can focus rate increasesby correcting ITV and addressing premium deficiencies.”

View the web seminar here.