Innovation and the future of captive insurance

The Global Financial Crisis of 2008 sent shockwaves around the world and brought about a sea change, with countless lessons having been learned at all levels of the financial services industry. 2020, the year of the fated coronavirus pandemic, will prove similarly transformative for the captive insurance industry. While 2020 was clearly a time of turmoil for most countries around the world, history will look back on the year as one in which development in the captive industry rapidly accelerated.

Amid the hardening market and the onset of the pandemic, organisations started to re-evaluate their captives. A simple case of ‘needs be’ in the face of great disruption and adversity (the pandemic having only added to the challenges in the marketplace caused by the hard market cycle) put a spring in the collective step of the industry.

Captives in the spotlight

More than ever, boards of directors wanted to know: what else can our captive do for us? What else can I use it for? As the saying goes, a crisis should never go to waste, and opportunities abound for the industry to undergo an ideological refresh.

“Captives had been on the rise well before the ‘official’ onset of the pandemic in March 2020, because we were in a hard market and companies were looking for more insurance flexibility and capacity,” co-leader of EY’s Americas Captive Insurance Services practice Mikhail Raybshteyn said.

“And every time the insurance market’s capacity is impacted, captive insurance structures have an opportunity to dive into new business, which creates innovation in and of itself.”

Andy Hulme, director of underwriting at Strategic Risk Solutions (SRS), explained that “a captive is no longer being looked at as an expansion of the commercial market, but more as a strategic risk tool”.

When Covid-19 made its way westward around March 2020, it caused major disruption to supply chains and shutdown travel practically overnight. Suddenly all eyes were on the captives, in various forms.

“The pandemic brought out certain considerations and surfaced certain other risks exist that previously were not thought of as ones which you would put in your captive,” Raybshteyn explained.

In need of rapid solutions to unanticipated losses, captives readily became more than risk bearing entities and rather tools that should be a part of every decision an organisation makes. “Some of the companies that had somewhat of a dormant captive structure in place immediately started to look at how to use their captive more strategically,” he said.

“It’s no longer a company that just sits there and provides you with access to reinsurance or enables better capital management and possibly some tax efficiencies. Instead of looking at the captive as a singular entity, companies have come to view the captive as a critical component at the core of their operations and risk management.”

The drive to innovate

If the hardening market has driven the uptick in captive interest over the past two years, the pandemic has revealed further organisational blind spots and that other risks exist that were previously not thought of as ones which could be placed in your captive.

Since nobody really expected that the world in the 22nd century could be this resoundingly shuttered because of a pandemic, the very meaning of what a captive could be used for came into sharp focus. Further, the magnitude of disruption the pandemic caused, prompted organisations to reassess what could be done with their captive, or they scrambled to set one up; given its speed to market, the sharp uptick in cell captives in the past year, as seen in Captive Review’s World Domicile Update, is likely due in no small part to the pandemic.

“Innovation and market uptick really took two distinct roads: one road was mechanical, a move towards innovating in terms of gaining an understanding of what the current risks are, along with what previously potentially uninsurable risks can be included in a captive,” Raybshteyn explained.

“The more strategic innovation is truly looking beyond the actual risk you have and truly looking forward to cover your blind spots. A lot of companies, for instance, were left out in the cold when the pandemic hit and they didn’t have, for example, detailed and all-encompassing business interruption or supply chain coverage.

“Some of the Insurtech innovation has also permeated into the captive space for companies that are on the forefront of technology as foundational support of their operations.”

Throughout times as captives became an add-on, and less of an extension of the traditional market, it has become far more of a tool, one which can be thought about more creatively. Previously the use-case of a captive was well-defined. The pandemic, however, has served to tip the ideological scales of change around how a captive can be utilised.

“I think the biggest innovation that I’ve seen in the last 15 to 24 months is people thinking outside the box of policy design,” Raybshteyn said. “Can you appropriately design a policy that addresses particular business concerns without relying on the ‘off-the-shelf’ policies in existence?”

The future of insurance?

Reassessing coverages and looking at what other risks can be covered in a captive is one thing; but now it increasingly seems that Insurtech startups are poised to supplant the outmoded traditions which have prevailed throughout the industry.

Insurtechs can be more agile, offering a more digitised present which will realise greater efficiencies than ever before and ultimately connect the captive in-step with other platforms and automated processes an organisation already has in place.

“What Insurtech will facilitate over the next decade is going to go beyond where I think most people even thought about, and the pandemic only has only accelerated that,” said Zach Finn, risk manager, Henriott Group.

Insurtechs are a viable development for the industry and one that has risen in importance because of the pandemic and the way in which so many processes necessarily became digitised. A move which is long overdue for likes of the insurance industry, which is largely built on legacy systems. Insurtech and the digitisation of what were once lengthy manual processes is now more prominent than ever.

And the global shift towards a far more digital ecosystem begs the questions: why not the insurance industry?

Finn points out that Insurtechs are enabling new competition and risk financing solutions. The test moving forward for captives is going to reside in finding coherent ways of solving the challenges companies have faced during this pandemic or at least coming up with coherent ways of insuring the next one.

“Until they do that the market is so muddied and scrambled I think a lot of businesses are going to be looking for alternative forms of financing and we’re going to see traditional players losing out,” said Finn.

Whether a captive or what Finn refers to as ‘hybrid insurance models’, it seems clear that the insurance space is going to evolve in the future, plainly because this period of time has given people pause for thought about the pre-existing structures they have in place to cover their risks.

While in its infancy, another concept Captive Review understands is being discussed throughout the industry, is whether a captive can be its own insurer.

For smaller organisations with hard to place risks that might be too expensive to cover in the commercial market, the Insurtech is rising to meet the demand in the current challenging market environment. While interest in traditional captives remains stronger than ever, hybridised, innovative Insurtech solutions for captives are an area Finn expects to continue growing.

“Insurtech has lowered the bar for captives,” he said. “One could go to an Insurtech nowadays and build an end to end software solution for a brand new greenfield insurance company that’s substantially more cost effective than a C&A or bluechip.”

Beyond enterprise risk management, Finn suggests a level beyond that: namely ‘monetised risk management’ which new technology is playing a role in.

To illustrate this, Finn points towards Tesla. As cars become increasingly autonomous, you have this argument in the moments before an accident: who was responsible for the accident; the driver or the car? If Elon self-insured for product liability in a captive, and he’s selling auto insurance to the drivers of Tesla to a captive, it’s all Tesla money,” he said.

Finn concludes that with all new Inturtech technology, [Musk] he can step in and do what a nationwide or a state farm does for a fraction of the cost and with completely different motivations.”

By insuring themselves, organisation won’t have to go to court or face litigation; in essence, this proposition could eliminate entirely the very potential of legal entanglements.

Post-pandemic

The curtains are lifting, the children are going back to school; the pandemic is receding and life is gradually, for the most part, returning to normal. However, the changes for the captive industry are likely to continue unfolding for years to come as the industry sets its sights on what it will be in the future.

Serving as an eye-opening year for all industries, revealing new risks and hitherto unforeseen blind spots, 2020 has undoubtedly shifted ideologies around what risk coverage can and will mean. Moving forward, changes which streamline efficiencies, pave the way for new ways of doing things, and reveal ever more strategic solutions for captives in combination with ever more sophisticated, canny tech solutions, will be incalculable.

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