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The art of the reinsurance deal means drawing up a partnership between insurers and reinsurers.
Ceding companies aren't much interested in just laying off risk. They want a close working relationship with financially stable and creative reinsurers that will bring value to the transaction.
"We deal with reinsurers who partner with us and share our discipline for underwriting," said John K. Latham, president and chief executive officer of Colony Insurance Co. in Richmond, Va. "That eliminates some people."
"We try and stay away from transactional" relationships, noted Stephen J. Vaccaro Jr., president and CEO of Essex Insurance Co. in Glen Allen, Va. That means that in the "vast majority of cases," the insurer is maintaining long-term relationships with its reinsurers.
"We cede so much business that it is important that we have good relationships with reinsurers and that they are financially stable," said Robert Cohen, senior vp at United National Insurance Co. in Bala Cynwyd, Pa.
United National and other insurers emphasize that their reinsurers have to be much more than places to cede business. Insurers want a partner that can help put a profitable deal together and that has the financial wherewithal to stay the course.
When picking a reinsurance partner, insurers take a close look at their potential partners' financials.
"The No. 1 thing is the quality of the paper," stressed David Graham, vp-reinsurance officer at Royal Insurance Group in Charlotte, N.C. "Reinsurance is a promise to pay. The better the security, the better our comfort level."
Michael J. Snead, chairman of Admiral Insurance Co. in Cherry Hill, N.J., said: "We have a lot of long-tail business, and we want to make sure that the reinsurer is going to be there" when claims develop years from now. "We want to be sure they give us the best security possible."
Mr. Vaccaro and other insurers emphasized that their security requirements and financial analyses of reinsurers are much more complicated than simply requiring specific capital and surplus amounts or A.M. Best Co. ratings.
While he would not disclose the particular criteria Essex uses to grade reinsurers, Mr. Vaccaro called the process "an elaborate analysis" that continues to evaluate the reinsurer during the years of the partnership.
Financial stability, while critical, is only one criterion, insurers insist. It is also important to pair up with a reinsurer that brings product knowledge to the transaction.
"Reinsurers bring a wide range of knowledge" that can be valuable to a primary company, said Mr. Graham of Royal Insurance. Because many reinsurers serve a global marketplace and a diversified client list, their market knowledge can be broad, he added.
"They can provide expertise in certain niche markets that we don't have," Mr. Graham said.
Reinsurers are quick to point out that "the quality of their paper is only one of the dynamics that they bring," he added. "If that was the only thing, there would be very little to differentiate one from the other."
Large reinsurers tout their underwriting expertise and consulting, actuarial and claims services as extras that add value to reinsurance transactions, Mr. Graham said.
Partnerships make sense in the competitive market, where insurers and reinsurers are fighting to distinguish themselves. Program business is one way insurers are carving out specialities, and they are calling on reinsurers to help complete the deals.
United National, one of the largest writers of program business, looks to structure programs that will make money for it and its reinsurers, Mr. Cohen pointed out.
"Our long-term goal is to bring business to the table where we feel at the end of the day there will be money left over for an underwriting profit," he said. "We are not interested in growing at the expense of an underwriting profit. With that we are in total agreement with our reinsurers."
What insurers don't agree with is the trend by some reinsurers to write increasing amounts of primary business, particularly program accounts (see story, page 26). With soft market conditions lingering, some reinsurers have decided to go straight to the policyholder.
Ceding companies aren't happy about having to compete with their reinsurers.
"Years ago we actually knew who our competitors were and who our supporters were," said Mr. Snead. "Today, some of our supporters are our competitors. We are competing against our own reinsurers. Who ever heard of that?"
Consolidations among reinsurers or reinsurance brokers, while causing some concerns over shrinking competition, have been good for many insurers. For others, there has been little difference in how business is handled in the merged entities.
"We think there is good and bad with that," Mr. Cohen said of consolidations. While the merged company generally is a more financially stable entity, there usually is some turnover of personnel that could be disruptive, he explained.
"You can gain new relationships, but you can also lose some old relationships," Mr. Cohen noted.
Smaller insurers such as Colony realize little benefit when reinsurers or brokers merge, because the insurers' needs already were being met, Mr. Latham pointed out. "We've been getting what we needed" even before mergers swept the industry, he said.
When four of Royal's reinsurers became two, it made little difference, said Mr. Graham. "Separately, the four provided strong capacity and support. That hasn't changed."
He acknowledged, however, that "at some point you worry that if you have continued consolidation how it will affect the competitive environment. Right now, we're enjoying favorable pricing and terms. As a buyer, you would like to see that continue."
While some reinsurance buyers are taking advantage of lower costs in the competitive market to purchase additional coverage, many prefer to keep retention levels consistent regardless of market conditions.
Mr. Latham said his impression is that "ceding companies are retaining more and buying less" despite cheap reinsurance prices.
"Companies are trying to retain more net dollars and show it as growth," he said. "By keeping higher retentions, they can project more attractive numbers."
However, those projections could be illusory for insurers that are keeping more business but underpricing it, he remarked.
Because Essex values its long-term relationships with reinsurers, the insurer doesn't make big adjustments according to market conditions, Mr. Vaccaro noted. "We don't set our terms and conditions in the reinsurance market in terms of what we are able to get."
Essex wants such consideration in return, he said. "What we do expect from reinsurers is that they don't throw us in the same bucket with everyone else. If our treaties are profitable, we want to be judged on that."
Mr. Cohen said United National also bases decisions about retention levels on the coverage deal and not market conditions. "We are not blanket cutting retentions in the soft market."
United National does "a lot of due diligence on the front end" whether the market is hard or soft, Mr. Cohen explained. That examination of the risk is what determines the retention. "The level of retention is simply dependent on our comfort with the deal" and knowledge of the risk.
At times, he added, low retentions may be arranged when the reinsurer is more knowledgeable than United National about a particular exposure.
Of course, the soft market benefits more than just the ceding company. When insurers pay less for reinsurance, they can charge less for primary coverages.
"The policyholder wins in the marketplace today," Mr. Cohen said. "Except for a few selective lines, most are very soft today."
"The reinsurance market is willing to look at a lot more things," noted Steve Franke, vp-property/casualty underwriting at Nautilus Insurance Co. in Scottsdale, Ariz. "There are fewer restrictions in treaties than 10 years ago. The prohibit lists have become much shorter."
"The competitive nature benefits the policyholder," Mr. Latham agreed.
Ultimately, he added, policyholders benefit from an insurer's diligence in selecting stable reinsurers. That means money will be available to pay claims.
Looking ahead, ceding companies likely can expect from reinsurers the same treatment insurers deliver to their policyholders, according to Mr. Snead.
"Reinsurers are facing the same problems we are facing," he explained. "It's a very soft market, and it's hard to get business at adequate prices."
"They are doing what we have to do," Mr. Snead said, including broadening coverages and making available additional limits.
Like the insurers they serve, responsible reinsurers are trying to select the best risks, he added.
For reinsurers, that means dealing with insurers that have "some semblance of sanity in their rating structure," Mr. Snead said.