CUSTOMER PROFITABILITY.

To ensure profitable growth and sustain revenues, insurance organizations have redefined their operations with a customer focus as their driving force.

The insurance industry has undergone substantial structural changes since the end of the 1990s -- in large part due to market globalization, changes in sales networks, market deregulation, and the demutualization of mutual insurance companies in Canada. Converting from mutual status to a public company has a direct impact on management style as well as the criteria used to assess performance. Public companies are assessed on a daily basis by capital markets, with financial analysts carefully scrutinizing every little management decision. Senior management also has to prepare and release operating plans showing substantial savings, along with income growth plans to attract investors. Detailed knowledge of costs thus becomes a vital component of growth.

With the deregulation of the insurance market occurring simultaneously with demutualization, a fiercely competitive situation has emerged, which is conducive to even further market consolidation. Banks are currently positioning themselves for an even greater role in the insurance sector. Insurance companies will have to be kept abreast of new players on the market. They will have no choice but to seek acquisitions to decrease their direct costs through written premiums (which would require integrating insurance policy management systems, not just support functions), and they will have to increase their revenues in today's fairly stable market. They will also have to be creative in offering products that will appeal to a more educated, better-informed clientele.

The emergence of new methods of distributing insurance products, specifically e-commerce, has completely altered the industry's cost structure. With today's call centres and Web sites, the once variable acquisition costs have become more fixed. The use of electronic distribution networks will lead to a significant drop in transaction costs. To survive on the Internet, brokers have to prove that they can add value to customer services and that they are more effective and efficient than other sales networks.

Changing needs

Customer needs and product knowledge have evolved considerably over the years. Government finances (federal and provincial) have resulted in drastic cuts to health care expenses, and quality health care is now provided in partnership with the private sector. Consumer needs have also changed.

Market globalization is a direct consequence of the growth explosion of the Internet and call centres. The more consumers catch on to electronic networks as a vehicle for acquiring goods and services, the more open the market will become for foreign companies. Consumers' acceptance of electronic networks will depend largely on the security of Net transactions. The standardization of taxation systems across many countries will allow world competition to flourish. The high cost of establishing physical distribution networks constitutes one of the main economic barriers to entry for new competitors. Consequently, insurance companies will experience many changes, as noted in the diagram below.

To ensure profitable growth and sustained revenues, insurance organizations have redefined their operations with a customer focus as their driving force. Understanding individual profitability is key to implementing a customer relations management strategy. To provide appropriate services consistently at all customer contact points, insurance companies need to have a precise understanding of the customer's contribution. Organizations that are able to set up a system for calculating customer profitability could use that system to build a model for determining the value of the relationship with the customer. The value of this relationship will be based on the lifetime value of the consumer, and not driven by single transactions. This information can then be used to develop a strategy for selling higher margin and complementary products, in addition to increasing the length of the relationship with the customer.

One of the main challenges in establishing customer profitability is determining all the operations carried out with a customer. A data warehouse system is often needed to build a complete customer profile (insurance policy management systems are oriented toward policyholders, not customers). Using the principles of activity-based costing, accurate, precise information can be produced in support of the strategic decision process. The result can then be used to build an analytical grid to identify action needed to modify customer, product, and network profitability.

Considerable effort is required to implement a customer profitability system. Senior management support prior to start-up is paramount. Establishing a solid business case will help pinpoint decisions to be made, as well as users, frequency and distribution of results. This will help determine the required level of detail, which will have a direct impact on the system selected as well as implementation costs.

In short, if you don't make the effort to understand the value of your relationship with your customers, someone else will and will use this knowledge to their advantage.

Yvon Rousseau, CMA, is a senior consultant with PricewaterhouseCoopers LRP in charge of Management Consulting Services in the financial services industry in Quebec.

                    The Changing Insurance Environment
Yesterday's Company                   Tomorrow's Leading Insurer
Thinks insurance                      Recognizes that the business operates
                                      in the retail financial marketplace and
                                      chooses how to respond
Concern is with sales volume          Focuses on the Lifetime value of the
                                      consumer and is not driven by single
                                      transactions
Thinks about policies                 Thinks about the customer
Intermediary/agent has the reputation Has a strong brand name and values
and power with the consumer           that are recognized by the consumer
Few delivery channels                 Maximizes delivery channels to enable
                                      the consumer to access at all times
                                      through multiple channels