Crop Insurers Stable, But Gov't Cuts Could Cause Private Players To Dry Up

Crop insurance buyers are seeing far fewer carriers competing for their business these days, but the 16 remaining private insurers in the market are healthy, as the United States has been spared from nationwide catastrophic farm disasters in recent years, experts in the field say.

However, cuts to federal reimbursements to insurance companies in 2008, combined with further anticipated budget reductions from the Obama administration, are causing some concern, these observers warn.

Aside from some named perils–such as crop hail–coverage for crops is provided under a public/private partnership that was arranged in 1980. Rates are set by the government, risk is shared by the government and private insurers, and insurers are reimbursed for the costs of delivering insurance.

But the percentage of expenses reimbursed by the government has been shrinking–and the amount of risk passed from the government to the private market has been growing–essentially since the mid-1980s.

Paul Horel, president of the Crop Insurance Research Bureau–a Washington-based national trade association made up of insurance providers and related organizations–said that in the mid-80s insurers were reimbursed for about 34 percent of their cost. That number has since shrunk to under 20 percent.

Insurers have done well recently, even with those shrinking numbers, because they have had excellent years with respect to loss experience. There have been no major events of a national scope in recent years, Mr. Horel said.

He noted that in 2008 there were some major regional losses–such as those caused by drought in southern Texas–but the impact was not nationwide. The last real nationwide test for the industry was in 1993, he said.

Bob Parkerson, president of National Crop Insurance Services–a nonprofit industry trade association based in Kansas City–said in 1993, the entire Midwest was flooded.

Another bad year was 1988, in which drought caused a 250 percent loss ratio for farm insurers, according to John Drakeford, divisional director of reinsurance broker BMS Intermediaries Ltd., part of London-based BMS Group.

But lately, weather-related loss experience for crop insurers has been “very good,” according to Mr. Horel, although he said with a high-risk line such as crop insurance, a really bad year can wipe out gains made in good years.

As the government contemplates further cuts to companies' reimbursements under the public/private program, he said it is important for those reimbursements to be kept at a realistic level.

Professionals in the field who spoke with National Underwriter agreed that more cuts could be forthcoming.

Richard L. Shanks, national managing director of Food System, Agribusiness and Beverage Group for Aon Risk Services, said he anticipates further scrutiny on the farm program overall as the government comes under pressure to cut spending and save money.

Mr. Drakeford agreed there will be discussions in this area as well, but said, “I'm not sure how much more the expense reimbursement can be reduced without putting undue pressure on the insurance companies” to cut corners or find savings in other areas.

Mr. Parkerson noted that the 2008 farm bill cut the reimbursement budget over the next 10 years by $6.4 billion. The budget proposed a couple of months ago by President Barack Obama would have cut the industry by another $5.2 billion, he said, but that was rejected by Congress.

“Companies now have their contract due with the federal government [regarding] how much [they're] going to be paid, and that's due in the next year,” he said. “There will be quite a bit of negotiating going on.”

Mr. Parkerson said he believes the government understands that it made sizable cuts to industry reimbursements in the 2008 farm bill.

While companies are still very strong financially, Mr. Parkerson noted–having to prove to the government that they are able to front a two-year, 500 percent loss ratio–he said the government also should understand there are new expenses to consider.

Reporting requirements set by the government mean that companies must make heavy investments in new computer systems, according to Mr. Parkerson.

Additionally, he said new policies that protect farmers' revenue in addition to yield–called a “combo policy”–will require training for both agents and company personnel, resulting in further expenses.

“There are some major changes that will happen in the next two years,” said Mr. Parkerson. “Hopefully it all sinks in as we go to a new SRA,” referring to a standard reinsurance agreement with the government.

Another area mentioned where the government would like to pursue savings is in agent commissions, although Mr. Drakeford noted that this is “a very sensitive issue for the industry.”

Since there is no competition on premium, as rates are set by the government, companies are dependent on agency infrastructure and developing relationships with agents in a given region to develop their business. The competition, he said, is on service.

Mr. Horel said agents are highly compensated because of this, and that the high level of compensation “sticks out in a public program,” But from the companies' perspective, he observed, the marketplace drives commissions.

He noted the government has no control over what agents make in commissions, and a reason companies are seeing their reimbursements under pressure could be that the government hopes insurers will scale back commissions to make up for the loss.

Premium subsidies to farmers is another controversial area where the government may look for savings, Mr. Horel said, although he observed how “politically sensitive” such a move would be. He explained that while no one feels bad for insurers if reimbursements are cut, reducing farmer subsidies could lead to a significant backlash.

Mr. Shanks noted that, with subsidies, farmers currently pay around 65 percent of premiums while the government pays 35 percent.

But Mr. Horel said there may be some willingness among farmer groups to look at the subsidies. The farmers, he said, understand the budget situation the government is in, and that the pain needs to be spread around for everyone.

For insurers, they are seeing the number of players shrinking as providing crop insurance becomes more expensive and complex with increased demands on systems, Mr. Horel said. “Basically, you have to get bigger,” he noted, and that has led to players exiting the marketplace or consolidating.

The complexity of the business and demands on systems comes largely from government reporting requirements, Mr. Horel said, noting that “it's very difficult to do business with the federal government.”

At one time, he said, there were around 55 private insurance companies writing crop insurance–there are now 16. Mr. Horel said that number fluctuates, but it's trending down. New companies that do enter the marketplace, Mr. Horel said, are usually not national writers, but niche players in a certain geographical zone.

Even as the number of players shrinks, the amount of risk assumed by the private market has been increasing.

Mr. Horel noted that 30 years ago, almost all of the risk was borne by the government. Now, he said, the majority of the risk is most likely assumed by the private sector.

With every SRA negotiation, he said there are attempts to make adjustments so the companies take on more risk–which the companies cover by going to the private reinsurance market.

There will probably be a push to see even more risk ceded to the private sector, Mr. Horel predicted.

The government still assumes the vast majority of the highest-risk business, Mr. Parkerson explained.

He said risks are essentially put into three buckets:

o Assigned risk, which contains policies in high-risk areas of the country that are mostly written by the government.

o The Commercial fund, which consists of policies in areas where the risks are well-known, such as Illinois, Iowa, Nebraska, Kansas, etc., and are written mostly by insurers.

o Developmental, which contains risks split between the government and private sector.

Mr. Parkerson said companies hold the majority of risk across the United States, while not being allowed to underwrite–as the government sets prices.

With a decreasing number of private players and an increasing amount of risk, Mr. Horel said he is still not concerned that a major nationwide drought or flood could cripple the market.

The reinsurance market is solid right now, he said, and the government has put safeguards in place to prevent companies from folding and not paying losses.

Furthermore, he said the remaining players are strong and committed to the market, at least for now.

“I don't think you'll see a great deal of market disruption” from a significant loss, he predicted.

But if the market continues to contract to the point where there are only two-to-four players left, there could be problems, Mr. Horel added.

The declining number of companies should send a message about profitability, he noted. “If business was as profitable as critics say, there'd be more writers,” he said.

Looking forward, Mr. Horel said 2009 is shaping up to be another favorable year for crop insurers. Crops were delayed because of cool, wet weather, he said, but the crops themselves look good, he noted.

A concern is that crops will have to be harvested later this year, and might be more at risk to a frost that could cause significant losses, he pointed out.