Articles - Next step in the motor insurance evolution

 Could telematics insurance prove a game changer in the evolution of motor insurance products? In this final article in a series of three, Ivan Clarke, Catherine Barton, Chloe Paillot and Sherdin Omar consider the future implications of the technology for insurance product innovation should its potential be realised.

 An insurance company CEO can’t sleep at night...

 In the cutthroat world of motor insurance our company has always made a point of being nimble – quick to embrace new forms of distribution and to differentiate ourselves from our competitors. But margins have been tightening and even today, once expenses are accounted for, it is tough to make an underwriting profit.

 In fact, thanks to intense competition on aggregator websites and claims inflation our margins for making a profit have shrunk and shrunk. In this climate, nobody can boost a poor underwriting performance with investment returns, and ancillary revenue is under pressure. Our customers rarely interact with us, except for when there is a claim, and customer retention is at an all-time low.

 My chief underwriting officer and chief marketing officer insist telematics is the “golden ticket”, a way of swinging the pendulum away from price comparison and back towards product innovation and improved risk selection. But in this climate it seems like a big expense to focus scarce company resources on developing what is still very new technology... particularly when less than half a million customers are currently using it.

 However, my marketing, pricing and underwriting teams are adamant this is the way forward, and we can’t afford to be left behind.

 The path to telematics

 Each phase of evolution of the UK motor insurance market has paved the way towards commoditisation. Originally a broker-led market where levels of customer loyalty were high, purchasing was made face-to-face on the high street and by phone.

 The launch of Direct Line in 1985 revolutionised the market by cutting out the middleman and heralded a sea change in how business was transacted. An increasing number of insurers followed suit, and in the late 90s and early 2000s as the internet gained momentum in the UK, insurers started to move their distribution channels to the internet.

 Then along came aggregators, encouraging customers to shop around to get the best deal. Confused.com launched the first motor insurance price comparison website in 2002 with others such as GoCompare.com, MoneySupermarket.com and ComparetheMarket.com hot on its heels.

 Customers have embraced this new mode of distribution with open arms. Market research indicates over 50% of customers now buy their motor insurance cover online and 40% opt for aggregator websites - with that figure forecast to grow to 60% in the near future.

 Aggregators have assisted open price comparison, driving down prices and resulting in increasingly standardised products, and customers have undoubtedly been the main beneficiary. However, some elements of customer satisfaction and loyalty have been lost along the way and the industry has not helped itself by pursuing a strategy of minimising customer interaction.

 The motor insurance product is mature and has not changed significantly in many decades. Following a period where all the innovation has been around distribution, insurance market players are now considering being innovative with their underlying product. The advent of telematics signals a new phase in the product cycle.

 After a shaky start, telematics products are taking a hold and we anticipate that 12 or more insurers will be offering a telematics product by the end of the year. Norwich Union (now Aviva) blazed the trail, first trialling “pay-as-you-drive” insurance in 2004, but the product was withdrawn less than two years later. Perhaps it was ahead of its time: nearly a decade on there is a growing number of “black box” insurers. At the beginning of 2012 there was a handful of specialist telematics providers such as Insure The Box, Coverbox, i-Kube, ingenie and Young Marmalade. As the year progresses, major household names including Cooperative, The AA, Swiftcover and Direct Line are expected to offer products, while GoCompare and Wunelli are developing a telematics aggregator.

 So, insurers are now embracing the technology, but perhaps the turning point in the opportunity in the telematics market lies in customer acceptance: over half of the British drivers quizzed in a survey by GoCompare said they would switch to a telematics-based policy in the next five years.

 Time for product innovation

 With telematics, insurance companies have been presented with an opportunity to move motor insurance back into the realm of product innovation. Insurers are no longer limited to analysing their customers according to a fixed list of rating factors: instead the telematics data can be sliced and diced in every which way, which supports innovation around the product to match driver needs.

 While the current focus for telematics products is on young drivers, this is expected to broaden as insurers begin to tailor products to different types of customer. From the family with 2.4 children doing the school run every weekday to the 80-year-old driver who only takes their car out twice a month for a big supermarket shop, driving behaviour will begin to dictate how premiums are charged.

 For example, the standard family will have different needs to the casual driver. A family will be more focused on monitoring fuel consumption while a casual driver may be more interested in knowing which routes are more scenic. Due to lower mileage and less traffic density, the latter presents less risk and therefore should benefit from a lower premium.

 Knowing they are being monitored could also have a positive impact on how people drive, reducing the number of accidents. Young drivers who have a telematics box are 20% less likely to be involved in a crash as those that do not, according to the Cooperative.

 Today many customers are warming to the idea of being rewarded for good driving behaviour. Ninety-two percent of drivers in the GoCompare survey think car insurance premiums should be based on how they drive, while 49% thought age and sex were fair rating factors.

 While telematics-based premiums are currently only price competitive for those facing the highest premiums in the conventional market, the picture will change as more products enter the market. According to figures from tiger.co.uk, in the three months to February 2012 almost 14% of all policies sold were telematics-based and three quarters of those were sold to drivers aged 25 to 54, indicating the green shoots of the product entering the mass market.

 Better underwriting profits?

 The first insurers to embrace telematics will inevitably enjoy a “first mover” advantage and healthy profits, especially if they are able to secure a telematics renewal book. Even as the market becomes more competitive it should be easier to maintain good margins. By analysing the wealth of driver behaviour data on offer, underwriters will be able to price individual risks more accurately, sorting the good drivers from the bad.

 In addition, telematics is expected to reduce the level of claims and associated costs. Thanks to more information at the point of an incident, claims handlers will be able to immediately identify when an accident has occurred, reducing the notification delay potentially to a matter of minutes. Key details of the accident should also help reduce settled claim amounts, help to produce accurate case estimates and ultimately reduce claim settlement times.

 Some insurers are concerned that telematics products could cannibalise their traditionally-underwritten motor books. They argue telematics will largely appeal to individuals who think they are good drivers and therefore that they will benefit from premium discounts based on their good driving behaviour. The individuals who shun the technology will be risk-takers who believe their reckless driving would be heavily penalised if they were being watched. Insurers who fail to embrace the technology therefore risk being left with a portfolio of poor drivers in the long run.

 We would expect increased anti-selection against those that do not have a telematics offering as the concept takes off. The telematics-based products will attract the “good risks” and the number of “bad risks” will become increasingly concentrated in the traditionally-underwritten portfolios. There is, therefore, a compelling argument that insurers will need to offer telematics products in order to retain the good drivers in a bid to balance their risk exposure on the traditional books of business.

 EU mandate lends a helping hand

 The cost of the technology is reducing thanks to the EU legislation that has mandated all new cars must be fitted with a box from 2014. Part of a pan-European initiative called e-Call, the legislation also has the potential to upset the applecart for existing telematics insurers: it gives the potential for a range of insurers to access customers using a common technology platform. This would enable telematics products to become a mainstream rather than a niche choice for the customer.

 The main obstacle that remains before telematics can be a solution for the mass market is the lack of a data hub, to enable customers to switch between insurers. That would require a change in mindset for telematics insurers who currently can benefit from the unique insights they have into their customers’ driving experience.

 Update from the CEO

 Our original plan with telematics was to dip our toe in the water and see what response we got. To start with we aimed our product at young drivers, a demographic where the premiums were high enough to justify the expense of installing black boxes. Once that trial ran its course we began to get more creative.

 Telematics quickly became popular and more pervasive, thanks to the fact that most new cars automatically come with the technology. This has lowered our costs while the data we’ve managed to collect has told a compelling story.

 Using what we learnt about driver behaviour we rolled out products with features tailored to other groups of driver, with the average age of our telematics customer steadily rising. Embracing new technology and designing new products for our customers has changed our KPI traffic lights from red to green, seemingly overnight. Performance has improved along with customer satisfaction and retention.

 Moreover, these days it is far easier for me as CEO of a motor business in a challenging market to enjoy a good night’s sleep.

 In a box:

 How else could telematics change our lives?

 A greater integration between satellite navigation systems, mobile phones and insurance products. TomTom have just launched Fair Pay Insurance and telematics applications are being developed for smartphones, initiatives that could increase dependency on key technology and encourage the take-up of telematics.

 Traffic management systems. Telematics boxes could help prevent congestion on major roads during rush hour but the need to adhere to variable speed limits should lead to improved flow of traffic. But a potential side affect that this could lead to more accidents on the small ancillary roads as drivers are directed through them, or large vehicles travel down roads unsuitable for their size.

 Reduction in car theft. Multiple functionalities including sound horn, preventing an engine from re-starting and limiting speed can help reduce theft. And thanks to tracker systems stolen cars can be quickly recovered.

 Reduced environmental impact. With all new European cars fitted with a telematics box this could become an added incentive to buy newer, more fuel-efficient cars. By the same token, older cars will become obsolete as having a telematics device becomes standard. In addition, better driving behaviour – as encouraged by telematics – helps to cut exhaust emissions. Linking driving style, such as hard acceleration and braking, to premiums should encourage drivers to drive at slower speeds and ensure greater fuel efficiency

 Reduction of accidents. Being tracked encourages better driving behaviour as slower, safer drivers will inevitably enjoy lower premiums. In addition, some telematics-based products for younger drivers impose curfews, preventing drivers from getting behind the wheel at times when accidents are more likely. When accidents do occur, telematics will help improve emergency and breakdown response times as the exact location of the incident is known.

 Catherine Barton is a partner, Chloe Paillot is a senior manager and Sherdin Omar is a manager with Ernst & Young’s European Actuarial Service practice.