By Pete McPartland
President and COO
General Casualty Insurance Companies
After significantly improved workers' compensation results in 2002, it may be tempting to sit back, relax and wait for continued upward profitability in 2003. Despite the line's improvement, however, workers' compensation remains a volatile line of business that will take continued discipline and foresight to successfully manage and achieve long-term profitability.
Consider, for example, the historic performance of workers' compensation on an industry-wide basis. From 1993 through 1997, workers' compensation generated double-digit returns on equity. This, on the surface, looks good. A closer look, however, reveals that during those years, the calendar year combined ratio (the results of the current accident year plus the effect of prior year reserve activity) was over 100 percent every year except one.
Results during the mid-1990s were carried by investment income fueled by the stock market. In addition, managed care initiatives implemented in the early 1990s helped control medical costs during most of the decade.
Now, the full effect of these measures has been fully realized, and medical costs are rising by double digits each year. Much of the increase has been driven by rapidly rising pharmaceutical costs and physical therapy and chiropractic costs.
One positive development is that claim frequency has improved over the last several years as the workplace has become generally safer. This improved frequency, however, has been more than offset by rising medical costs, an expansion of benefits in many states, and an inability to price the line adequately based on the social and economic impact that fully adopting much needed rate increases would have in many states.
Reserve inadequacy is also a concern. The NCCI estimates that at the end of 2002 the industry was under-reserved by $18 billion. This reserve inadequacy masks the true profit picture, which means the combined ratio is really much higher than 110 percent. Some carriers have stepped up to the challenge by increasing their reserves, but the industry is still woefully under-reserved. All of us in the business must come to grips with this issue in order for the line to generate a profit.
The economy has also affected workers' compensation. In a slow economy the overall exposure base levels off or decreases, which of course results in less available premium. We also tend to see an increase in abuse of the system or outright fraud when the economy is weak. Employees who feel their jobs are threatened may be more likely to file a claim in order to protect their income. And with revenues down some employers may be "creative" in assigning classifications or reporting payrolls in an attempt to reduce their workers' compensation premium.
Despite the 2002 results, the prospect of profits in the short-term are cloudy at best in many states. What do we need to do to improve the situation?
Companies and agencies must work closely together to maintain underwriting discipline and manage claim costs. Producers must provide the information necessary to allow an underwriter to adequately underwrite a risk. They should counsel their customers on fostering a "safety first" atmosphere that encourages employees to report hazards so they can be addressed immediately.
Producers should also encourage immediate reporting of claims so the carrier can investigate, secure evidence, make decisions on compensability, and deploy the appropriate resources to mitigate the cost of claims. Producers must successfully convey to insureds that their own losses will ultimately drive their premium.
Underwriters must use all available tools in evaluating and pricing accounts. Companies should continually search for new methods and tools to improve the risk selection and pricing process.
Maintaining underwriting discipline will not be easy especially when the market softens, which has already begun to happen in some areas. But, if we are to return the workers' compensation line to profitability, it is essential that we focus on the basic principles of managing risk and encouraging safe workplaces. If carriers and agencies can achieve that, they will ensure a solid future for themselves and their workers' compensation customers.
* based on the latest figures from the National Council for Compensation Insurance
About the author: Pete McPartland was named president and COO of General Casualty in May 2003 after holding several executive positions at General Casualty and elsewhere. He has 26 years of insurance industry experience in the areas of commercial underwriting, marketing and field operation management. He is a member of the Workers' Compensation Research Institute and the NCCI National Workers' Compensation Reinsurance Pool Board of Governors.
For more information please contact Anne M. Smith.