I am taking a risk starting this article on closed block insurance by drawing an analogy to the accumulation of shoes from my family. The core concept of this blog is that closed products are like old shoes; they have served a purpose but may still hold value to the insurer, thus requiring a product-specific approach in their final disposition.
My family has retained shoes from the mid-‘90s including scattered pairs of kids shoes from when they were babies to last year’s water shoes. This legacy footwear resides deep in various closets in shoe racks, boxes, or are individually unmatched in various locations. Some of these shoes can still be used, requiring maybe new soles or laces. Others have sentimental value while others just seem to linger, forgotten. Outsized, outdated, or worn out, these shoes in total represent legacy rich in history, however, have little or no future value.
These legacy shoes also represent a degree of risk. I once opened a closet door and no less than three pairs of old shoes landed on me. They consume resources, create clutter (think Tote bins, floor space, boxes, and basement space all in different areas), and tie-up human resources (to shuffle boxes, analyze sole wear, ponder the re-use of the shoes and ultimately put them back).
Lastly, decisions of footwear are relegated to SMEs, including making all calls on where they go and whether to fix or replace. This takes a percentage away from other duties and takes mindshare away from shoe shopping. Acting as the chief actuary when it comes to shoes means; setting an evaluation, making sure they are compliant with the need, and determining a final disposition for legacy footwear. It is therefore many times easier to simply leave them alone than to figure out what to do with them.
Closed block life and annuity portfolios are an insurance company’s old shoes. Every life or annuity business is littered with product blocks that have been closed. Like shoes, these blocks pile up and consume precious resources while providing little value. Blocks are acquired through mergers and acquisitions, new products are innovated and perhaps do not hit their sales targets, or simply the company has outgrown the product and there is no longer an active market or distribution channel for them.
Legacy closed product blocks range in purpose, size, and composition, all of which factor into how a company chooses to deal with them. These blocks still need continued actuarial, accounting, and compliance service. To keep costs low, insurers often do as little as possible to these “old shoes.” The reasoning is often simple: the cost to do anything with the block is too prohibitive. However, the “do nothing” approach is expensive too with lingering costs and risk.
Just as it is not realistic to treat all shoes the same, it is inefficient for insurers to look at all their legacy products the same. Rather than trying to convert all old products onto a modern new system, or sent to an outsourcer, or sold off, etc., each product must be evaluated on its own merits to determine the best future to maximize value while diminishing cost. Part of that cost benefit evaluation must include not only the systems and operational expenses, but also the opportunity costs insurers pay to maintain them.
From a financial perspective, renewal premiums are the only incoming stream and there is value in the assets associated to the blocks if they are not outweighed by liabilities. An insurer may hold on to a block if there are high service requirements or to maintain a market perception of steadiness. But just like “soft costs,” these are also “soft benefits.” The only “hard benefit” is the nominal cash flow resulting from renewal and asset investments. If system and operational costs are low, renewal revenue and investment interest can be a positive revenue stream for an insurer. This is rarely the case, however, and typically applies only to specific blocks operating in a system and not to all blocks in a system.
Going back to shoes, these old products take up human resources (actuaries who designed the block or the few people still maintaining the systems that allow the block to be administered), they contain risk in the underlying assets, are under regulatory mandates, and they take up system resources. Like the old shoe boxes piled on a top shelf waiting to fall on the unwary, the antiquated platforms closed blocks reside on are equally risky and vulnerable to high maintenance costs from vendors or specialists.
At NEOS, we have developed the FutureFirst Product Scorecard that considers a number of metrics that create an objective view of the block and its insureds. These metrics and subsequent scoring measures help provide a framework for building an efficient management strategy for existing closed blocks. We have looked at the industry and developed paths for blocks to take if they do not fully realize their potential, that lowers the overall costs at the time the decision to close is made. The intention is that as the product matures and enters each stage of life, the insurer knows how to anticipate costs, reduce risks associated to tying up SMEs, and can even consider less-expensive alternatives to systems based on product sales and service requirements.