Zurich CEO: Banking and Insurance Don't Mix

April 8, 2003 12:52pm

CHICAGO (BestWire) - Months after reporting a $3.4 billion year-end2002 loss, the largest foreign-based insurer in the United States said it plans to exit the banking industry to focus more on underwriting profitable property/casualty business.

"We will be an insurance company," Zurich Financial Services Group Chief Executive Officer James J. Schiro said during a media conference at the 41stRIMS Annual Conference & Exhibition in Chicago. "We will exit the banking businesses, by in large. I'll do that in an orderly way in an effort to maximize shareholder value. This is not a fire sale. That means we may run some of those businesses because the tradeoff in value may be such that we have to."

Schiro stopped short of saying that Gramm-Leach-Bliley, the federal act that allowed insurers to operate banks, represented a dream of convergence that never materialized. Even Citigroup Inc. (NYSE: C), the most prominent example of a bank and insurer merger under the act, has since spun off its Travelers property/casualty operations.

"What's good about this country is as long as you have dreams, you have progress," Schiro said. "It sounds good. It sounds like a good model, but it has proven to be difficult to operate."

Many insurers, like Zurich Financial, lost their focus when they entered banking, Schiro said.

"We thought, particularly with technology and e-commerce, you can control people and distribution--you can pretty much cram it through the pipe line," Schiro said. "I've come to believe more and more that people do want interaction, they do want choice, especially in times of crisis. They don’t want to talk to a machine when they see their money burning up.

"People were looking at how do you take our business, and said you are better off managing that cash flow through a combination of an insurance/banking environment and you can maximize your return. That's where, particularly in the down market, this business loses its foresight. I've never seen an...that doesn't try to make money in the core business."

From unprofitable underwriting to troubles with the life products, Schiro touched on a myriad of challenges facing Zurich Financial and the rest of the industry.

On the life side, the industry hasn't accepted it needs to develop new products, Schiro said.

"There's an enterprise need for a new model, new products... Products in the life business were developed during boom times to compete with asset gathers," Schiro said. "We will not commit capital to the life business. Our focus there is to improve bottom-line profitability."

Zurich is increasing its focus on cost management, he said. "I think the recovery in the life side of the business will be longer than most people in the industry are thinking."

About 88% of Zurich Financial's total premium volume comes from its three key markets: North America, the United Kingdom, and Continental Europe. Zurich Financial is the fourth largest life writer in Germany and third largest life insurer in Switzerland. Schiro said an academic market research study might suggest now is the time to expand on the life side--due to low savings rates and big gaps in pension funding--but he'd disagree. Traditional products aren’t working today, Schiro said. "We are managing an expectation gap on the part of the customer and on the part of ourselves. The customers are looking to regain the 50% they lost in the equity markets and they want life products to help do that. That's just not reality. And we're not going to play that game."

Some of Zurich Financial's life business in Switzerland is under pressure from required guaranteed rates that are too high to maintain, and the company will exit that business unless the legislature amends the laws, Schiro said. "That's not threatening. Look at our shareholder base: 45% of our shareholders are Swiss--10% to 15% of them are pension funds. They don't want me to lose money; why would they want me to price business to lose money?"

Personal lines business is strong, Schiro said. "We've repriced business some of our books in Europe. We're seeing the same kind of indications we are seeing in commercial business, with strong good pricing. I wish the whole industry was the P/C business. That's where we are banking our capital."

While Zurich Financial has a combined ratio goal, Schiro said he doesn’t believe in making that public. He did say the company has a targeted 12% return on equity for 2003, which means keeping a combined ratio below 100. He said the life side isn't turning a 12% ROE, so the P/C side must be hitting a target somewhere higher.

"We look at individual lines and say, 'Are we maximizing the use of capital with the given line?' I think that makes for better relationships between ourselves and our customers. When we make money, our customers make money in the sense that we can bring better ideas, more focus in terms of helping them manage their risk problems," Schiro said.

The company's North American P/C business had a combined ratio of 97.6 at year-end 2002, which means the company only paid out 97.6 cents in expenses and claims for every $1 of premium. "I always think we can do better," Schiro said. "But you don't have to have a combined ratio in that range for the personal lines business, because it's a different kind of business. But you look at where we are in the Farmers group, and we're heading in the same direction."

Good underwriting is paramount to reaching those goals, Schiro said. "I want us to be there in the soft markets and hard markets, but we are going to make money. We are budgeting underwriting profit in these businesses. Some businesses haven't for a long time budgeted an underwriting profit."

To encourage strong underwriting, Zurich has redesigned its compensation system so underwriters are rewarded if the entire company performs well. "The worst thing is to write business just for market share. That's not our game. Our game is to be top in our market, the markets we choose, to be profitable, and to partner with our clients," Schiro said.

Underwriters should not be influenced by the business unit leaders, and the decisions of underwriters should not be overturned by the CEOs who run the business units, "including myself," Schiro said. He said the underwriters are just as important as actuaries, who set reserves. Neither should be pressured to set prices or reserves too low just so the company can meet short-term goals, Schiro said.

"If we are weak because of poor pricing and poor management of business, we aren’t going to be there when people need us to pay claims," Schiro said. “Sometimes the best piece of business you deal with is the one you don’t write."

Schiro, who was named CEO of Zurich Financial in May said he enjoys his job. "I wake up passionate and excited about what I do every day because it's a great company, a great brand, and I'm having fun."

In February, Zurich Financial posted a $3.4 billion at year-end 2002 losses strong premium growth and cost savings were offset by $3.5 billion in special provisions related to a previously announced realignment program.

In 2001, Zurich Financial posted a $387 million loss. Gross premium written, policy fees and deposits rose 11% to $62.2 billion in 2002. Excluding the U.S. operations of the Farmers property/casualty group, gross premium written and policy fees rose 19% to $41.1 billion.

As anticipated, 2002 year-end results were affected by the write-off of$950 million of intangible assets and a $1.8 billion reserve strengthening, as well as asset impairments and restructuring charges announced in September (BestWire, Feb. 27, 2003).

At that time, Zurich Financial unveiled a set of strategic initiatives designed to cut costs and boost the bottom line as it reported a $2.03 billion net loss for the first six months of 2002 (BestWire, Sept. 17, 2002). Those initiatives involved a $5 billion capital program, including a rights offering to shareholders worth $2 billion to $2.5 billion. Zurich also said it would reduce exposure to equities in its investment portfolio, be more selective in its use of cost-effective reinsurance and revise its dividend policy--all under the name of risk-based capital savings, which it estimated would total $2.5billion to $2.7 billion. Cost-cutting initiatives include cutting about 4,500jobs.

(By Meg Green, senior associate editor, Best's Review:Meg.Green@ambest.com)