Salvage Mission Under Way.

State Farm vows to appeal $1 billion crash-parts verdict, but industry observers say that even if the ruling stands, the industry won't be hurt too badly.

State Farm lost its appeal of a $1.05 billion judgment over the use of nonoriginal equipment manufacturer (non-OEM) parts in auto repairs, but the company vows to appeal the decision, insisting it has done nothing wrong.

The largest auto insurer in the United States was rebuffed by the Illinois Court of Appeal, which upheld the $1.05 billion award for consumer fraud and breach of contract involving State Farm's alleged practice of specifying non-OEM crash parts in auto repairs.

"There will be no impact to State Farm's financial strength rating," said Anthony Diodato, managing senior financial analyst in the property/casualty division of A.M. Best Co. "Although the $1.05 billion verdict is sizable, it is not significant relative to State Farm's overall level of capitalization." State Farm Mutual Automobile Insurance Co. is rated A++ (Superior) by A.M. Best.

"We have heard anecdotal stories from insurers that they have seen a marked increase in use of OEM parts, which means the costs associated with these parts will be passed along to the consumer," Diodato said. "Companies are limiting the use of non-OEM parts."

According to published Department of Labor statistics, the cost of repairing a car in 2000 increased at triple the rate of 1999. (Review/Preview, 2001 Property/Casualty Edition).

Adam Klauber, an analyst with Cochran, Caronia Securities, said the loss of State Farm's appeal would have a "muted negative" effect on the industry. Klauber said most of the damage to the industry from lost cost savings was already done after the original 1999 jury verdict against State Farm.

Robert Hartwig, chief economist at the Insurance Information Institute, disagreed, saying State Farm's saga will have a "chilling effect" on the rest of the auto insurance industry and will inevitably lead to higher prices for policyholders.

Hartwig, who wrote a research paper on the use of generic--or aftermarket--auto parts, estimates the use of such parts saves consumers in the United States roughly $3 billion to $5 billion a year.

Like State Farm, the industry is resting its hopes on the Illinois Supreme Court, but this case won't necessarily end in that court. "There are federal constitutional issues here. The Illinois decision presumes to determine the rights and responsibilities in states that allow the use of aftermarket parts. Hopefully, it will be heard in the U.S. Supreme Court," said David Snyder, an attorney with the American Insurance Association.

One concern for the industry is that a court decision such as this might spur legislative activity.

At least 17 states have bills in their 2001 legislative sessions that would have some effect on insurers' use of aftermarket parts, according to the National Association of Independent Insurers.

But not all the bills are considered to be bad for the industry, said Kirk Hansen, director of claims for the Alliance. Bills in West Virginia, New York and California would presume that certified aftermarket parts were of like or equal quality to OEM parts, he said.

And a committee of Georgia legislators last year defeated a bill that would have placed restrictions on insurers' use of generic auto parts to repair autos damaged in collisions.

The reinsurance industry, however, is not worried about the impact of the verdict. Mark Lescault, head of Swiss Re America's divisional underwriting office, noted that the use of higher-cost auto parts is a relatively small expense compared with medical bills and other claims for injured or killed motorists.

"It will impact the primary auto insurers, because they'll have to use more expensive repair parts. That will eventually lead to rate increases" Lescault said. "But for reinsurers, there will be a minimum impact. Physicaldamage claims are normally retained within the primary insurance company's retention. The bulk of reinsurers' claims are larger, bodily injury claims."

He said it might affect reinsurers that have a quota-share program with the primary company, an arrangement where both are sharing risk equally. But quota-share arrangements are rare, and most reinsurers write auto coverage on an excess-of-loss basis, meaning the reinsurance is triggered after the claims reach a set dollar cap.

State Farm Suspends Writing New Auto Business in New Jersey

State Farm Indemnity Co., saying it is hamstrung by regulatory constraints, will not write new private-passenger auto policies in New Jersey until Dec. 31 at the earliest.

State Farm filed a waiver, approved by the Department of Banking and Insurance Commissioner Karen L. Suter, as a result of New Jersey's "take all-corners" law, which requires insurers to write coverage for anyone with a New Jersey driver's license, said Chris Neal, assistant regional public affairs manager for State Farm.

A review of State Farm's financials indicated that a large influx of new members is "straining" the company s capital and surplus, the department said in a statement. Although State Farm is "viable," more growth could lead to further deterioration of its financial position and threaten cover-for New Jersey policyholders.