Lloyd's ramps up cost-cutting drive as acquisition expenses rise

It is no surprise “The Future at Lloyd’s” modernisation strategy document issued earlier this month focuses on expense reduction as a key priority for the market. Lloyd’s high expense bill has been a consistent drag on the market’s performance in both good and bad underwriting years.

A glance at the table suggests Lloyd’s is making progress, albeit slowly, in its battle to cut costs, with the market’s operational expense ratio falling 0.3 of a percentage point to 39.2% last year.

The past four years have seen a 0.9-point reduction in expenses, entirely as a result of a fall in administration costs. The drive for efficiency and tight expense monitoring has been under way for some time.

But acquisition expenses are on the rise, climbing 1.3 points over the period, in line with the market’s rapid expansion in the US specialty primary market. As Lloyd’s strategic blueprint points out, acquisition expenses tend to be quite a bit higher for business sourced through managing general agents. Administrative costs for this business are typically a little lower.

Binders now account for about 39% of Lloyd’s total premium, up from 33% as recently as 2014. The share of open market insurance has fallen seven points to 22% over the five years.

Lloyd’s operational expense ratio is about the same today as it was in 1990, a fairly damning statistic given the developments in technology over the period. And expenses actually fell to 32% in 2004 and have shown a worrying increase during the past 15 years.

As tomorrow’s Companies House will show, high expense ratios run throughout the market. Of the 20 largest players in the market, only seven reported ratios of lower than the market average.

Lloyd’s expense ratio compares unfavourably with that of its main international competitors. For the first quarter 2019, ratios for a selection of rivals were as follows: Everest Re 28.2%, Chubb 30.5%, Munich Re (non-life reinsurance) 33.4% and AIG 34.3%.

And as “The Future at Lloyd’s” document fairly points out, insurance generally is a more expensive industry to access than others in the financial sector. The report quotes research from PwC that puts the costs of an equity initial public offering at 4% to 13%.

Lloyd’s aims to cut expenses for less complex risks by a hefty 10 to 20 points, bringing them down to the 30% to 40% range.

That is an ambitious target, according to rating agency Moody’s. Although there is plenty of scope for cost reduction, the challenge and expense of updating IT systems is significant, Moody’s said in a note last week, and other organisations that have undergone similar exercises have succeeded in shaving off only a few points from their expense ratios.

Companies House tomorrow also brings details on agency and active underwriter charges, as well as full analysis of motor business performance by syndicate.