LTD Market Rich Clement GUAA – Amelia Island November 14, 2007

OutlineOutline  My Perspective on the LTD market  LTD manual rate comparisons  Underwriting in a slumping economy  Keys to success  Questions and discussion

Why is LTD Difficult?  Loss Experience is Volatile -Many time-dependent external influences -Hard to distinguish random from systematic  Loss Takes a Long Time to Develop -Reserving Issues may cloud risk dynamics  High Product Complexity - Many Plan Options - Many Plan Options - Contract differences across carriers - Contract differences across carriers

Why is LTD Difficult? (Cont)  High level of Underwriter Discretion -May provide subjective underwriter intelligence, but leads to loss of control and poor tracking.  Irrational Marketplace: Some Companies … - are buying market share - are subject to underwriting cycles - have poor underwriting control - lead with other products (dental, life, etc) - lead with other products (dental, life, etc) - have old and/or invalid rates

Smith Group LTD Manual Rate System  Database of 12 Top LTD Carriers  Manual Rates calculated as publicly filed  Batch Rates on over 20,000 actual LTD Cases

LTD Manual Rate Observations Several Main Characteristics determine how your rates function in the marketplace 1.Rate Level 2.Rate Volatility (variance of your rates to those charged by other carriers) 3.Rate Structure (are you high or low in the right spots?) 4.Discount Authority

SG LTD Manual Rate Distributions The average of the three highest rates is more than 60% higher than the average of the three lowest rates on 85% of cases

Actual Manual Rates Rate Level Distributions Percent of Cases “In the Hunt”: Within 10% of the average of the lowest three Carriers “Tough Sell”: Between 10% and 30% above the lowest three “Embarrassed to Quote”: More than 30% above the lowest three A B C D E F Average In the Hunt9% 5%13%16%30%15% Tough Sell16%19%16%21%20%29%20% Embarrassed to Quote76%72%79%65%64%41%65% A B C D E FAverage In the Hunt8%19%22%26%13%16% Tough Sell14%23%26%24%19%27%21% Embarrassed to Quote78%58%52%50%67%57%64% Raw Manual Rates: No Discounting Raw Manual Rates: With Discounting

Rate Level Distributions Volatile Rates Produce “Best Ball Effect”: (average sold rate much lower than average manual rate) (average sold rate much lower than average manual rate) Sales/Underwriting Loses faith in the Manual At the Extremes Raw Manual Rates: No Discounting A B C DE FAverage Lowest Rate5%4%2%7%8%16%8% Rate > 60% above Min43%44%45%36%35%16%36% Raw Manual Rates: With Discounting A B C D E FAverage Lowest Rate4%9%11%15%7% 8% Rate > 60% above Min47%32%21%25%38%25%35%

Sample LTD Industry Factors

Causes of Manual Rate Volatility 1.Product complexity with a large number of rating variables 2.Random variations baked into rating factors 3.Product growth strategy executed through rate adjustments 4.Significant risk and process impacts not captured in the rating a)External trends b)Changes in underwriting and sales practices c) Changes in claims processing

Best Practices for Today and Tomorrow What Do Underwriters Really Do? What Do Underwriters Really Do? Study Data – If they have it. Study Data – If they have it. Renewals should be complete picture. Renewals should be complete picture. Assess Risk Assess Risk Attempt to Predict the Future Attempt to Predict the Future Interpret Assumptions Interpret Assumptions Assign a Cost Assign a Cost Negotiate with Sales Reps and Account Mgmt. Negotiate with Sales Reps and Account Mgmt. Partner with Actuaries Partner with Actuaries Collaborate with Claims Collaborate with Claims

What if the Economy Turned? Planning and Preparation :  Can the past help us understand the future?  What has happened in the past?  Provides empirical boundaries  Within the last 20 years we have had two economic slow downs:  ’91-’92 impacted white-collar employees  Exacerbated by liberal plan designs  Many new claim diagnosis – CFS, Carpal Tunnel  ’01-’02 impacted financial sector and telecommunications  Smaller employers  Many changes have occurred, i.e. claims practices, contract rewrite

Diversity of Book  Pursue Industries that may not follow the traditional economic cycle  Municipalities  Health-care  Education  Other industries  Plan design  Conscious of replacement ratios  Avoid liberal salary definitions that depend on large bonuses  Real Estate  24 month M&N/Substance Abuse Limitation  Subjective condition limit – understand value from claims

Impact on Smaller Employers  Smaller groups can be more of a concern  Less likely to have surplus – rainy day fund  Harder to borrow needed cash – limited collateral  Less RTW opportunities and capabilities  Trickle down effect  Small consulting firms, housing market

Financial Underwriting Pay greater attention to financial underwriting Pay greater attention to financial underwriting Look for signs of weak financials Look for signs of weak financials Avoid the mistake Avoid the mistake Underwriters should keep up to date on economic outlook Underwriters should keep up to date on economic outlook Industry experts to communicate positive and negative outlooks Industry experts to communicate positive and negative outlooks Evaluate business segments for known concentrations Evaluate business segments for known concentrations

Why is Financial Underwriting Important?  Helps to determine a client’s ability to pay their insurance premium.  An employer’s financial condition can have a major impact on claim incidence rates, the worse the financial condition, the expectation the higher the claim incidence level.  You may find that a company’s positive or improving financial condition could point to an improved claims trend going forward, may be a situation where you can discount your quote rate (track decisions).

Why do companies with financial problems exhibit poor disability experience?   Financial pressures often lead to layoffs/downsizing which increases claim incidence levels.  Remaining employees face higher stress levels and may be required to work longer hours leading to an increased number of claims.  Fear of the unknown, is there going to be another round of layoffs?  Employees on claim have less motivation to return to work

Why do companies with financial problems exhibit poor disability experience?   Threat of downsizing may affect those employees who continue to work with medical conditions. When faced with potential unemployment, they may file a disability claim citing these latent medical conditions  Employer may not be as willing to accept disabled employees back to work.  Demographics of remaining employees could be worse. Often the younger, less experienced workers are the first to go.

Administration/Execution   Limit (try to) Rate guarantees for STD and LTD   Aging population   Monitor premium payment   Variance Reports for both premium and lives   Change in lives kicker   Review census after sale of core/buy-up, voluntary, contributory case   Renewal   Know concentration of risk   Monitor reserving assumptions   Claims support & feedback   Renewal Strategy

Best Practices for Today and Tomorrow Invest in the Right Opportunities Who is the competition? What have they done and what will they do? What do we need to do to write the case (without leaving money on the table?) What do we need to do to write the case (without leaving money on the table?) Are we comfortable with our decision? Are we comfortable with our decision? Know when to walk away. Know when to walk away. Emotionally invested. Emotionally invested.

Best Practices for Today and Tomorrow Invest in the Right Opportunities Avoid the pitfalls Don’t back into your formula rate based on competitive positioning. Don’t back into your formula rate based on competitive positioning. Do your analysis first Do your analysis first Don’t overvalue the inforce and /or competitor rates Don’t overvalue the inforce and /or competitor rates Trust yourself. Trust yourself.

Best Practices for Today and Tomorrow Invest in the Right Opportunities Avoid the pitfalls Overly aggressive approach to weighing credibility, shock claims: Overly aggressive approach to weighing credibility, shock claims: Does experience reflect high end exposure? Does experience reflect high end exposure? Pooling works two ways. Pooling works two ways. Exercise caution when reviewing recent experience periods. Exercise caution when reviewing recent experience periods. Is data fully revealed? Is standard claim lag appropriate? Is data fully revealed? Is standard claim lag appropriate? Are all claims approved? Are all claims approved? What is likely claim termination rate? What is likely claim termination rate? We need to honor any rate put on the table. We need to honor any rate put on the table. Be careful of shadow pricing. Be careful of shadow pricing. No such thing as “illustrative quote.” No such thing as “illustrative quote.”

Best Practices for Today and Tomorrow Invest in the Right Opportunities Avoid the pitfalls Avoid the disaster! Avoid the disaster! Look for the warning signs: Look for the warning signs: Financials: Financials: Mergers, Acquisitions, Management Changes, Filings Mergers, Acquisitions, Management Changes, Filings Experience and Industry Trends Experience and Industry Trends Data Quality Data Quality Carrier Hopping Carrier Hopping

Best Practices for Today and Tomorrow Invest in the Right Opportunities Invest in the Right Opportunities “In today’s economy, there are no experts, no ‘best and brightest’ with all the answers. It’s up to each one of us. The only way to screw up is to not try anything. “In today’s economy, there are no experts, no ‘best and brightest’ with all the answers. It’s up to each one of us. The only way to screw up is to not try anything. Tom Peters Tom Peters

Best Practices for Today and Tomorrow Making the Call It’s Your Investment It’s Your Investment Common Sense Common Sense Not Based On One Reason Alone Not Based On One Reason Alone Pure Business Decision Pure Business Decision Balance; it works both ways Balance; it works both ways Communicate Communicate Get It Back Into The Process: Document Get It Back Into The Process: Document

Best Practices for Today and Tomorrow Successful Case Reviews 1. Sound underwriting risk selection. 2. Include narrative and financial summaries Allows the underwriter to walk through the process Allows the underwriter to walk through the process 3. Highlights include: Customer, Producer, Case History, Opportunity Customer, Producer, Case History, Opportunity Data quality Data quality Underwriting Adjustments Underwriting Adjustments Sales Strategy, competitors, etc. Sales Strategy, competitors, etc. Underwriting investment Underwriting investment Financial Summaries Financial Summaries

Best Practices for Today and Tomorrow Future Lunch and Learn Sessions Topics, Timing and Distribution Suggested Timing Suggested Timing One hour sessions, (90 minutes if with lunch) One hour sessions, (90 minutes if with lunch) Bi-Weekly Bi-Weekly Suggested Distribution of Lunch and Learn Suggested Distribution of Lunch and Learn Underwriting Team meetings Underwriting Team meetings Held within 2 weeks of initial lunch and learn information session. Held within 2 weeks of initial lunch and learn information session. Lunch is optional (non, brown bag, other) Lunch is optional (non, brown bag, other)

Actual Manual Rates Opinion: Keys to Success You need to learn to sell something other than price Key: Good Salesmanship Allow subjective risk decisions, but make sure underwriters learn from their decisions Key: underwriter discipline, thorough documentation and tracking Account management needs to understand service model Key: Pro-activity, keep yourself in front of the customer Understand market dynamics: price elasticity on prospects and renewals: How do rate changes impact the sales process? Key: Become a student of the group insurance market You need a detailed knowledge of other carriers’ pricing strategy. Sales should gather and track as much quote rate information as possible Key: Good Broker relationships

Questions Thank you for your time.