For the record: Safeco's chief discusses the company's new appetite for business.

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Paula Rosput Reynolds, president and chief executive officer of Safeco Insurance Cos., took the company's helm about a year-and-a-half ago, jumping into the insurance industry from a career managing utilities.

In an August interview with Best Review', Reynolds candidly addressed many issues, including how Safeco, the 15th largest U.S. property/casualty company anal 13th largest U.S. writer of private passenger auto policies, according to the A.M. Best Co., might have tightened its underwriting too much in 2006. Reynolds also shares her take on the industry's bellyaching about too much regulation.

In 2006, Safeco posted a combined ratio of 88.6, the company's best hi the last five years, and outperformed the five-year-industry average of 93.9. What do you credit for this performance?

It was a combination of things that really dated back to 2002, including the introduction of our automated underwriting, narrowing out the market suite anal the market we were attempting to serve, re-underwriting the book where it was necessary, getting the rate right in a lot of states at the same time, and continuing to work on our methodology with respect to claims. Looking back on 2006, we were probably a little far from our target in terms of underwriting--we did a little better than we intended to across the year. In 2007, we made a very conscious decision to underwrite to a slightly higher combined ratio, at the same time reducing our costs to demonstrate market appetite to our agents. In 2006, we almost had over-calibrated results. This year, we are throttling a little bit.

How are you opening the throttle?

We're trying to take more business, trying to show more appetite to our agents. We pulled back from homeowners in the early part of the decade, but have relaunched homeowners in all states. We've never been a strong nonstandard auto writer, and certainly aren't trying to cultivate that market. About 85% to 90% of our business is preferred auto. We're showing more appetite across more states, but we're not opening ourselves up to inherently riskier types of opportunity.

Safeco's expense ratio has increased somewhat in recent years, due primarily to costs associated with technology development, and exceeded the industry norm on a five-year average basis (according to A.M. Best Co.'s report on Safeco). Is this a concern, or does the profitable underwriting outweigh the higher-than-average expense costs?

Safeco's expense ratio got a little bit away from it during the earlier part of the decade. A.M. Best was right. We had a very high tech-spend to get to automatic underwriting. Since 2006, the first area of focus has been the expense ratio. We needed to move it down to make sure we were competitive. We had a goal of $75 million of run-rate savings in 2006, which we achieved, and for this year, $50 million run-rate savings, which we are on track to reach. A.M. Best is a rear-view mirror. If you look at our progress since 2006, you will see improvement in the expense ratio.

We're trying to save costs [so we can] reinvest in the business, in the form of advertising and marketing; reinvesting in agents in terms of compensation, training and development; and some is IT reinvestment. We're also investing in research and development, and opened Open Seas [Safeco's innovation lab] in July. Open Seas developed our Teensurance product. The key to really prospering is to continue to invest in innovation. We feel good about where the expense ratio is going.

On a side note, our average premium per policy is lower than some of our competitors. That is because we don't tend to insure nonstandard risk, nor do we insure very large risk. Our small-business commercial policy is lower because of the fact that we insure a middle-class home versus a high-end showpiece. At some point, we may be able to service a policy at a far lower absolute dollar than any of our peers, but you will no longer find it in the expense ratio because the policy premium is smaller.

Did the difficult hurricane seasons of 2004 and 2005 impact your underwriting? If so, how?

We had made the decision not to sell homeowners in Florida prior to Hurricane Katrina. It was really off of a broader set of considerations of rate adequacy. Looking at overall cat management, we are more exposed to wildfire than some of our competitors. We have a larger western-facing book. You hardly see wildfire [risk] aggregated. We do proprietary mapping, and we still end up with losses smaller than our market share. Our proprietary mapping is doing what it is supposed to be doing in terms of cat management. We haven't had a lot of coastal exposure.

Safeco's Teensurance project is a new offering that goes beyond traditional car insurance. It is a service that uses a GPS-based device so parents can monitor how their teens are driving. Can you tell me a little about that?

It's our first product that's been design-driven principally by the consumer segment. We did a lot of focus-group work on youthful drivers. [The industry is] always challenged around youthful operators: how to get the pricing right, how to get responsible teens properly priced yet affordable for the family. Insurance is a financial product and financial decision, yet for parents it wasn't a financial decision. It had way more to do with safety than any other factor. Safety was the dominant concern. Affordability was a factor, but safety was more important.

If you talk to teens, teens have a very unrealistic view of the risks of driving. In one part of [a video of a focus group of teens], I crack up. One teen ventures the opinion that she is a better driver than her mom. The facilitator asks: How many of you think you are a better driver than your parents? They all raise their hands.

This product doesn't have a huge near-term market. If nothing else, we feel we want to be part of the change of how the insurance carrier is perceived. Allstate has taken full-page ads out around teens to try to put some ownership on the issue, but I think actions might speak louder than words.

What do you think of the criticism that the program is like "Big Brother" watching?

A kid doesn't have all that experience and judgment that has them thinking twice. This equipment is going to report on excessive speed or other issues, so they will think twice. We are trying to let the equipment trigger them making a judgment that they would not make in the absence of the equipment.

Are there plans to offer additional non-insurance-related products? Why?

There are some things the industry will see out of the R&D. We have a lot going on behind the scenes. Our goal is to try to introduce a second product this year. We have some products in quiet pilots right now. I hope that out of a variety of pilots, a couple of materially good products will emerge. But, I don't want to publicize to our competitors. This is a business full of copycats.

Moving on to homeowners insurance for a moment, do you think the current problems with the subprime mortgage market will ultimately impact homeowners insurers?

Of course it will, but it's a matter of degree. Fewer people are buying and selling houses this year, so there's a smaller amount of origination [for new homeowners policies]. We're a nation of movers and people won't move as much this year for now. We're more of a Main Street carrier with a preferred customer base, so I don't expect to lose many policies. We may see not as many second homes, and that one might affect us, because preferred customers often have a second home.

What are the big trends for 2008?

One of them is clearly less mobility of Americans, less originations of loans, higher default rates. It's going to have an effect. Even though home values are very soft right now, replacement costs are still robust, because material and labor costs are high. Could the labor component change, raw material change? They could, but they haven't yet. I do not see an immediate decline in insured-to-value.

Wall Street's [jury] is out right now on P/C insurers, which traded materially off this last quarter [as people wondered] how much the subprime market impacts top-line revenue, how much exposure is in the portfolio, and how much overall exposure do you have to the volatility in the marketplace. It all has to be sorted out.

Is the fact that it's hurricane season also impacting the P/C industry's stock prices?

We're seeing more than the normal seasonality. It's a combination of factors. We were already seeing a depressing effect because of the soft market cycle. Add this whole subprime issue--equity/debt volatility--and you have a big jump ball. The jury is just out on the sector right now, and rightly so. I can feel good about our portfolio, but can't speak to anyone else's. Next quarter, if [insurers] have to take unrealized losses, how that all plays out will be interesting to see.

You've been at the helm of Safeco for a year and a half now, coming in from the utilities industry. With the fresh perspective of an industry outsider, what do you think the strengths of the insurance industry are? What do you think the weaknesses are?

While this industry is very cyclical, in general, it's a very high-margin business compared to the business I came over from. There, we made a lot of long-term capital investments, and had to hope it worked out. Here, if I make a judgment on price, I can fix it any time I want. I am not locked in for 30 years on decisions I make. There's a lot of opportunity for increasing the execution excellence of the business. You don't have to be as targeted in insurance. There's more forgiveness in this business.

In the energy business, people wake up every day knowing they are comprehensively regulated. One of the things I see here, because the industry thinks of itself as financial services, we tend to understate how comprehensive the regulators' framework is. We should have more respect for regulation, because it yields better business results. There's a little too much of Tm going to go file a rate increase' and 'what's wrong with the regulator?' if it's not approved immediately. They think the regulator doesn't understand my problem.

I think a little empathy--in the whole world, we can all stand to have a little more empathy--could be beneficial. The regulators are assuring access for the public.

Safeco in a Nutshell 

Founded: 1923

Headquarters: Seattle

Stock Symbol: NYSE: SAF 

Employees: 7,600

2006 NPW: $5.6 billion

Ranking: 15th largest U.S. Property/Casualty Writer; 13th largest U.S. Private Passenger Auto Writer (2006 DPW)

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Safeco Insurance Cos. A.M. Best Company # 00078 Distribution: Independent agents

For ratings and other financial strength information visit www.ambest.com.