This was sent into me by one of our users, Mike Carli, RPA, of All Seasons Adjusting. It is a little lengthy but worth the read if you are going to be in this business for another 5-10 years.
By: Vanessa Mariga
How the expansion of national adjusting firms, acquisitions, private equity capital, 'big box' shopping and flat-fee adjusting have all combined to form a growing ball that is Canada's increasingly concentrated claims adjusting industry.
The adjusting community is not immune to the shifting sands underpinning the general financial services community at large. Gone are the days of handshake deals and the prevalence of mom-and-pop shops. Instead, the adjusting community is hearing more about the so-called "big box" phenomenon, in which an array of insurance services are all housed under the roof of one parent company -- not unlike the retail equivalent of a Wal-Mart or a Home Depot. Insurers are increasingly putting out requests for proposals (RFPs) and building procurement teams to select their adjusting firms of choice instead of the tradition of relying on past business relationships. Claims, some say, are becoming a commodity, meaning that insurers might award contracts to adjusters based partly on the promise that adjusters will handle a high volume of claims for a flat fee per file. This commoditization of claims first edged into the personal auto lines, but many say this is now common practice across all personal lines.
What's driving these shifts? Are we following in the footsteps of the market across the pond, where insurers with European and U.K.-based parent companies are leading the charge towards claims commoditization? Some suggest venture capital injections are allowing mid-size adjusting firms to become giants, by giving the adjusting firms access to fresh capital for acquisitions. Increasingly, this venture capital is coming from private equity firms, which, in addition to buying up claims adjusting firms, have gathered an array of other insurance services under their umbrella. This is helping to create the so-called "Home Depot" or big box effect now shaping the Canadian insurance industry.
Is this new-found growth responsible for adjusting firms playing the commodity claim game? Some argue yes. Others suggest the claims industry is going to experience some serious growth pains, and a more "back-to-basics" approach -- one less focused on expansions and acquisitions -- will be required for claims adjusters to stay afloat.
Step back and observe and it may appear that the claims adjusting industry is beginning to look a bit like a tangled ball of elastics: as the industry rolls forward, some of its players are amassing into larger entities, expanding and stretching for greater market share. But it remains unclear whether or not all of the elastics may in fact gather into a gigantic, tangled knot. More importantly, is the Canadian insurance industry even large enough to support such a creation?
EMERGENCE OF PRIVATE EQUITY
It is an overstatement to say private equity firm involvement in the Canadian marketplace is rampant, but certainly the influence of such private equity firms is prevalent. Over the past four years, private equity firms have featured in significant partnerships affecting three claims adjusting firms with a Canadian presence. Cunningham Lindsey, for example, teamed up with Stone Point Capital in November 2007. Granite Partners invested capital with McLarens Canada in 2006 and SCM Adjusters Canada Ltd. is in its fourth year of partnership with the private equity firm TriWest.
The presidents of all three adjusting firms listed above agree that the access to venture capital has afforded them opportunities for growth and expansion. Cunningham Lindsey's partnership is still in its infancy, but SCM Adjusters now has more than 60 offices across the country. And thanks to private equity capital, McLarens says, it has managed to satisfy many objectives of its five-year growth plan in only two years (to date, the firm has purchased six adjusting firms).
"As to how we partnered with TriWest, we let it be known in the financial community of our interest in equity," Larry Shumka, the president and CEO of SCM Adjusters Canada Ltd., says. "We were approached by numerous equity firms. We interviewed five and chose TriWest."
Shumka's story is not unique. Michael Holden, president and CEO of McLarens Canada, says his adjusting firm sought out Granite Partners. The opportunities for growth afforded by such a pairing are indisputable he maintains. Adjusting firms are "looking to get into the next level," Holden says, and the equity injection from venture capitalists is just the vehicle to provide it. "The next level is, to a certain degree, the satisfaction that there's a financial security behind you," he says. "We [as an industry] have these five-year cycles and it gets tough at times, so it's nice to have a financial backer behind you to make sure that you're still there."
Greg Smith, vice president of national programs for Crawford & Company (Canada), believes private equity involvement in the industry is driven by the sheer volume of investment that insurance adjusters must make for their firms to be able to compete in a changing business environment. "If you go back 20 or 30 years ago, it was a fairly low capital industry to be involved in," Smith says. Nowadays, independent firms need to invest millions into technology infrastructure and compliance with governance and regulatory oversight. "Even things like errors and omissions insurance -- and we all need to carry those premium increases year-over-year -- is becoming a more significant cost to doing business." What used to be a viable business for a small enterprise with 10 or 20 employees, for example, with little overhead, is becoming more and more complicated and expensive.
Doug Buchanan, the managing director of Toronto-based Granite Partners, says once an organization like an adjusting firm is purchased by Granite Partners, it can simply "snap into the infrastructure into which they've invested millions of dollars, and then simply leverage off of that." Examples of such "infrastructure" projects could be a new IT system, a human resources department or E&O coverage. But surely, the benefits are not one-sided.
Buchanan says that after Holden approached him, he took a close look at the adjusting industry and drew the conclusion that "it's an industry ripe for consolidation." Buchanan added: "We have more capital than good places to put it. And we think this is an excellent industry in which to be involved because there are growth opportunities and there are consolidation opportunities."
WHAT PRICE, VENTURE CAPITAL?
Some observe there are there risks attached to relying on private equity backers that have the overall objective to gain a suitable return on investment within a specified period of time. As Shumka himself notes, fundamentally, private equity firms have one financial imperative: "to realize a substantial gain on their investment in a limited amount of time." Theoretically, that could lead to a situation in which capital support for the insurance services industry is fickle: if private equity firms see their gains coming from outside the insurance industry, then they might just as easily yank their money out of the industry than invest in it.
As a result, the revamping of an adjusting firm's business culture is one primary risk of partnering with private equity firms. "You now have a partner that will require extensive financial reporting," Shumka says. "In addition, private equity will be involved in certain elements of business decisions."
Operational risk represents a further consideration. "Entrepreneurial, longstanding companies are typically debt-adverse," Shumka says. "Private equity will drive aggressive debt leverage, given that senior debt is still the least expensive capital for which management is responsible."
Fred Plant, president of Plant Hope Adjusters and president of the Canadian Independent Adjusters' Association (CIAA), believes pluses and minuses should be considered when toying with the idea of courting third-party capital. At a time when the industry is struggling to attract and retain new talent, Plant says, "these large companies may prove to be a saviour of our profession if they are successful in creating an environment in which today's experienced professional can work and be paid appropriately for his or her experience and ability, and if they can create an environment that entices new people." But, Plant cautions, if the growth afforded to these adjusters allows them to swell to the point that they can start taking on national contracts at lower fees, they will need to be wary of under-pricing their services, lest they are no longer able to reinvest in the firm to promote internal growth.
Growth through acquisition is not the only name of the game: for Holden, the opportunity to pair up with Granite means McLarens can expand "horizontally" as well. He explains that McLarens, under Granite Partner's umbrella, "is putting together a group of insurance-related service companies, all individually known and based professionally in Canada, and we'll have mutual ownership by the same company." Holden supports the "Home Depot approach," but he acknowledges the one-call-for-claims-settlement-services may not be for everyone.
"The concept of multi-product services from one vendor will have traction with the clients that demand aligned operational governance, service delivery continuity and an integrated single IT platform," says Shumka. "The only risk is: will the vendor be able to deliver consistently on all products?"
Smith says Crawford's long-term strategy involves diversifying services, and the approach has served the firm well. He notes the strategy has the additional bonus of convenience for the insurer, but it also benefits Crawford to have different revenue streams "that help us to deal with some of those peaks and valleys in our industry." Sometimes weather-related catastrophes and storms affect the bulk of the adjusting firm's business, he adds. "Having these other divisions, which are less dependent on weather, has helped us to stabilize where we are able to earn our money from."
But are the insurers biting?
Irene Bianchi, claims manager at Royal & SunAlliance, says she sees the appeal in the approach. "From our perspective, it's quite appealing simply because it gives us a lot quicker access to services for clients and it also gives us a little bit of buying power," She says. "The only issue that I can see with having a one-stop-shop is when you have claims that are outside the norm, or you have large or very specialized claims. That would really take you outside of the big box environment."
Colin Simpson, president and CEO of York Fire and Casualty Insurance Company, says it is not a black-or-white issue. The main reason why insurance companies invest in the supply chain [i.e. the suppliers of claims services] is because it provides for the predictability and stability of two important things: pricing and service levels.
"They [one-stop shops] can offer particular services to their customers that maybe some of the other guys cannot provide, but the bulk of it comes down to pricing," Simpson says. "The better you are at controlling your supply chain and your claims costs, then the easier it is to become predictable in the pricing of your products," which in turn leads to stability in the marketplace.
Simpson says the challenge York Fire has experienced with national providers of insurance services is inconsistency between franchises. He says insurers will typically consult with brokers -- who are on the front line of the insurance transaction, and are therefore the first to hear policyholder complaints -- in various communities to make sure policyholders are getting the very best service, be it from a national provider with a local franchise or a locally-owned independent. "The brokers may be very supportive of using a national provider, but you, as an insurer, really need to rely on [the brokers] to flag areas where one particular shop or service provider in a particular territory may not be the best."
As adjusting firms attempt to leverage various services, some insurance companies are moving towards the request for proposal [RFP] and procurement process in an attempt to flex their purchasing muscle. Smith believes this is a trickle-down effect of the actions of insurers with U.K.-based parent companies. "We see some of the different things that Canadian insurers are doing [now] being similar to what happened in the U.K. about three or four years ago," he says. "If you talk about the way a U.K. company handles a claim, they're at the point where they are doing complete outsourcing of commodity claims." In other words, insurers are asking adjusting firms to develop programs that will help insurers to process large numbers of claims. The adjusters will thus serve as a "pressure relief valve" when the internal adjusting staff of insurance companies become too busy to handle the claims. "We have a number of files where, because it's a large number of claims that are each worth a small amount of money from an indemnity standpoint, we will actually work inside the insurance company's computer systems," Smith says. "We're acting like their employees, but they don't have us on their payrolls and they can call us when they need us."
Bianchi says R&SA in 2005 developed a formal procurement strategy including a team that negotiates contracts with vendors from a national and provincial perspective. Vendors are invited to bid on business based on service, quality and price, she says. "In the past, it was all about which firms we had relationships with. By formalizing the process, we are able to better negotiate a pricing program and service level agreements that are built into our contracts." She adds procurement programs are crucial in "hot markets" such as those in Western Canada in order to "lock in" vendors.
But adjusting firms that strive for big growth, and reach the point where they are able to offer insurance companies national, flat-fee adjusting contracts, may be under-pricing their services, not allowing them to properly invest in its staff, Plant warns. "The fact is," he says, "you can't pay people well, so you can't attract and hold onto the experienced adjusters and [therefore] you can't commit resources to education and professional development for the long haul."
Dave Cernak, president of PCA Adjusters in Ottawa, agrees. The commoditization of claims, he says, has created a "production line" type of environment in which the focus is simply on fulfilling the volume. Although this may result in initial cost-savings for the insurer, insurers run the very real risk of "not matching the claims to people with the appropriate expertise," Cernak says. "I think what happens is you get into a large funnel effect: all of the claims come in and you're the next adjuster in line, so you're handling the claim. Does that person have the expertise or the knowledge to handle it? At the end of the day, the company may be saving expense dollars, but will they be losing it in settlement dollars, and is the customer really receiving the service and peace of mind they paid for when they purchased their contract of insurance?"
The insurers' movement towards the RFP process is creating a squeeze, agrees Malcolm Scott, senior vice president of CGI's insurance businesses services. "As the industry has consolidated, the companies tend to leverage that by using the existing skilled base of staff adjusters. But these people are getting older and leaving the workforce. This means it's becoming increasingly competitive to find these people. It's pushing costs up, and is it's in direct conflict with the way that some companies buying our services are changing the way that they're operating." As insurers leverage their buying power through centralized processes, RFPs and flat-rate files, he goes on to explain, it's in contrast with the premise that there are fewer company claims adjusters.
Shumka says a flat-fee, national contract with specified volumes gives the adjuster control over costs and the knowledge that resources will be available to the firm. The benefits and challenges of such an arrangement are interrelated, he continues. On the plus side, "committed, long-term sustainable volumes allows for the formation of committed units of resources and thereby creates the delivery of aligned and integrated efficiencies." Without a committed volume, he adds, such "efficiencies are difficult to achieve."
Rob Seal, president and CEO of Cunningham Lindsey, suggests the idea of "a small loss" is changing and the value of a "commodity claim" is increasing. Once $25,000 in value, a commodity claim may now include up to $100,000 claims. These are increasingly handled over the telephone, in flat-fee types of arrangements, he says.
Although this undoubtedly helps to control insurers' costs, Seal points to the recent flooding in the United Kingdom as an example of how the industry might ultimately revert back to the traditional way of adjusting claims. "I guess we're still in the people business," Seal says. "When insurers sell a piece of paper, that is a promise that if you have something happen at your residence or to your car, you will be taken care of. During times of stress, such as during a major storm, people, quite frankly, want to see an individual. They're not so enamoured with talking with someone over the telephone."
Wilfred Tioh, regional claims manager of The Sovereign General Insurance Company, agrees the emphasis needs to remain on delivering service, not quantity. For an adjuster, that means one-on-one time with the policyholder. If the adjuster is paid a flat-fee, he continues, the motivation to go the extra mile with the policy holder is lost.
Cernak agrees. "You need some of the large multinationals or networks of adjusting firms, because they can and do respond in cat emergencies across the country. If you get a catastrophic loss out in B.C., they team up and they work well together and you have the people power there when you need it. But you also need the expertise." He says, adding, "unfortunately, it sometimes appears that the human element to adjusting is being lost, which will eventually be reflected in unsatisfactory claims service."
Tioh suggests a blended fee, in which the insurer stipulates an hourly rate and the adjuster bills for the hours spent adjusting and investigating the claim. Scott adds that by improving the efficiency of the adjuster through the use of improved technology, and by making a concerted effort to bring in fresh blood, the adjusting profession will be able to continue delivering fast and effective service without expanding the costs of such service.
Plant remains optimistic that insurers that "are in it for the long haul," know that "low pricing is a short-term response to a cost-cutting mandate but that it has significant long-term consequences."
It remains to be seen what long-term effect all of these interlinked dynamics will have on the claims adjusting industry. Many experts suggest the huge ball that is consolidation, fuelled by private equity capital, is just beginning to roll across the landscape of Canada's adjusting industry. In five years, people say, Canada's insurance claims industry will look similar to that of the United Kingdom's, where the players in the industry are fewer in numbers, but larger in size with rampant commodization.
Others are not so quick to make the comparison, saying the Canadian experience is unique. Although there will likely be fewer players on the Canadian adjusting field (and those players will be larger), they predict, there will always be a need for independent adjusters to handle niche, high-end markets.
And even in personal lines, the insured will always want to deal with an adjuster in the flesh, they add. "In five years, I see the Canadian industry somewhere between the United States and the United Kingdom," says Seal. The U.S. is further down the claims-handling modernization path than Canada, he adds, but it's still not where the U.K. is currently. "I would suggest there will be a need for commodity, low-end stuff. There will be a need for the high-end, niche stuff. But it remains to be seen who's going to fill the gap in the middle for the mid-sized claim."