Optimizing and balancing corporate agility for insurers

04 Executive summary

06 Addressing strategic uncertainty

07 Structuring assessments of strategic uncertainty

10 Corporate agility in successful execution of strategy

12 Taking action

14 Obtainingbenefitfrominvestmentinothercomponents

16 Practical steps for improving strategic risk management

18 Conclusion

20 Appendix 1: Explanations of strategic risk

22 Appendix 2: Explanation of strategic value - driver model

23 Appendix3:FurtherexplanationofVUCA

24 Appendix4:Value-drivertemplate

Table of contents

Optimizing and balancing corporate agility for insurers4

The speed and ability of a business to identify and react to internal and external events that could and do occur is increasingly foremost on the minds of insurance industry executives.

Optimizing and balancing corporate agility for insurers 5

Linkingformalizedriskmanagementactivitywithstrategycontinuestobeachallengefororganizationsinbothplanningandimplementation.AlthoughSolvencyIIencouragesthelinkageoftheriskmanagementsystemandinternalmodeltostrategicdecision-making,itisourexperiencethatthereisstillnoconsistentapproachbeingusedacrossthemarket.Thereisalsoalackofconsistentinvolvementbyriskmanagementprofessionalsinthoseactivitiesthatdotakeplace.

Ourconversationswithchiefexecutiveofficersandchiefriskofficersincreasinglyturntostrategicuncertaintyandhowitcanbemanagedaseffectivelyaspossible.Thedialoguedealslesswithcomplianceandmorewiththebroaderbenefitsandbusinessvaluethatcanbederived.Itisnosurprisethatthistopiccontinuestogainmomentuminaneconomicenvironmentthatisuncertainduetorecessionarypressures,sovereigndebt,thesituationwiththeeuroandmanyotherfactors.

Inthispaper,wediscusstheimportanceofstrategicuncertaintyandproposeastructuredapproachtoassessmentthatdirectlylinksriskmanagementcomponentstostrategy.Wesuggestpracticalstepsinsurancecompaniescantaketoimproveandoptimizestrategicriskmanagementtoachievetheiroverallgoals.

Executive summary

Clive MartinPartnerPhone#:44(0)2079511850Email:[email protected]


Havingagoodstrategy—andexecutingitproperly—iscriticalforsuccess;however,thatmaynotbeenough.

Theunpredictabilityofthenon-linearsystemsthatpermeatethemarketplaceisakeyreasonwhypeopleandorganizationsbuyinsuranceinthefirstplace.However,italsomeansthatstrategicuncertaintyisguaranteedformostinsurancebusinessesfortheriskstheyunderwriteandothertypesofrisktheyface.Inaworldwherecorporateinterconnectivityandsystemcomplexitycontinuetogrow,thenon-linearnatureofthesystemsinfluencesfrequencyandseverityofknownrisksandemergingrisksthatmaynotyetbewellunderstood.

People and organizations sometimes differentiate between “pure” uncertainty andotherfactorsaffectingtheirawarenessandreadinesstodealwithbusinesschallenges.TheacronymVUCAissometimesusedtorefertothevolatility,uncertainty,complexityandambiguityassociatedwithbusinessconditionsandsituations(Appendix3).ThiscanbeausefulwaytostructurestrategicthinkingarounduncertaintyandotherrelatedtermsandconceptsincludedintheVUCAmodel.Demographicshifts,changesinbeliefsorvalues,geopoliticaltrendsandvulnerabilitytocrisesareallexamplesofforceswhichdriveVUCAcomponents.

Whicheverwayitisaddressed,uncertaintycannotbecompletelyremoved,butitcanbeunderstoodinastrategiccontexttoprovidebetterinformationforthedecision-makingprocess.Moreover,organizationscanoftenimprovetheirabilitytodealwithuncertainty(eithernoworinthefuture),whichisoneofthereasonswhy SolvencyIIintroducesnewrequirementsaroundthistopic.Itmakessenseforinsurancecompaniestoperiodicallyreconsiderthewayinwhichtheydealwithuncertainty:themethodsusedandpeopleinvolved.TheintroductionofSolvencyIImayprovideanexternalstimulusforsomeorganizationstorefreshtheirapproach.

Recentdevelopmentsrelatedtoscenarioplanninghavehighlightedthat,forsomeinsurers,smarterapproachescanbetakenindealingwithmuchoftheriskanduncertaintythatcandeterthesuccessofeventhebestlaidplans.Agoodexampleistheactiontakeninrelationtoscenariosinvolvingsovereigndefault.Theimpactofaneventwasnotonlyconsideredinadirectway,butalsointhecontextofwhatelsemighthappenthatwouldlimittheavailabilityofadditionalfunds.

Addressing strategic uncertainty


Mostcompaniesfacestrategicuncertainty,however,definitionsrelatingtothetermcanbelooseandinconsistent.“Strategicrisk”isarelatedphrasesometimesused,butoftenwithadifferentmeaning.SomeexamplesareincludedinthediagrambelowandexplainedfurtherinAppendix1:

Structuring assessments of strategic uncertainty

...riskisnotproperly considered

whendefiningstrategy?

...riskmanagementactivities are

not focused on drivers of strategy?

...managementactivity does not

keepupwithchangesinstrategy?

...strategyisnot“good” or well

enoughthoughtthrough?

...thestrategymightneedtochange?

...consequencesofnon-achievement

of strategy?

...uncertaintysurrounding

achievementofstrategy?

...incompatibility of strategic

goals, strategies, resources,qualityof

implementationandthemarket economics?

What is strategic risk?


Fromarisk-managementperspective(nomatterhowstrategicuncertaintyisdefined),itisbeneficialtouseastructuredapproachtoassessmentwhichdirectlylinksriskmanagementcomponentstostrategy.

Strategicriskassessment(andotheraspectsofstrategicriskmanagement)canbecomplexandsophisticatedinpractice.Weagreethatitshouldbe,althoughsubjecttoaneconomiclimit(i.e.,donotspendtoomuchtimeassessingriskthatdoesnotposemuchofathreat).Nonetheless,simpleapproachescanbeusedtodemonstratehowsuchassessmentscanbestructured.

Thefollowingdiagramillustrateshowaclassicstrategicvaluedrivermodel(explainedinAppendix2)canbeusedtoidentifykeyareasofuncertaintythatcouldhaveapositiveornegativeeffectonachievingoverallstrategy.

Organizationsthatundertakethisapproachhaveanunderstandingofsomeofthemaindriversofstrategicuncertainty.Managingandexecutingstrategywithdueregardtotheseuncertaintiesiscriticalandwouldappeartobeanimportantpartofincreasingthechancesofstrategicsuccess.


Consider the key strategic uncertainties

Value drivers (thingsweneedtogetrighttoachievestrategicgoals)

Key uncertainties (thatcouldpositively or adversely affect performance of eachlever)

Value levers (tangibleitemssupporting eachdriver)

Strategic goals


Some organizations do not need to be agile to successfully implement strategies becauseriskanduncertaintyissuchthatdistractingevents(internalorexternal)donotalwaysoccur.Someinsurancecompaniesarearguablysetuptooperateinanon-agileway.Theirbusinessmodelsarenotparticularlycomplex(i.e.,fewclasses,focusedonaveryclearandspecificmarketsegment).Principaluncertaintyisbasedonexternalinsuredeventsthatarebeyondthecontrolofthebusiness(althoughtheextentoftheirexposureiswellwithintheircontrol).

However,largerinsurancecompanieswithmorecomplexbusinessmodelscanbesubjecttogreateruncertainty.Asastrategic,andinsomecasestactical,responsetothatissue,theymayhaveadesiretobemoreagileintheproductsandservicestheyoffer.Overall,levelsofuncertaintydonotnecessarilycorrelatetoscaleandbusinessmodelcomplexity.However,theeffectofnon-linearsystemsinlargercompanieswithmorepeople,productsandcustomersmeansthatuncertaintyneedstobemanagedwell—especiallyduringperiodsofchangewhenitcanbemoredifficulttoachieveresults.

Ifcorporateagilitycanbedescribedasthespeedandabilityofabusinesstoidentifyandreacttointernalandexternaleventsthatcouldanddooccur,thenthesetwoseparatetalents(“identify”and“react”)canbeappliedinastrategiccontextandattachedtothestrategicdrivermodelhighlightedearlier.

Byestimatingtheeffectofcorporateagility,thecompanycanconsideritsappetiteforvariabilityagainstitsstrategy,andmakedecisionsregardingwhatactionshouldbetakentoaddressthelevelofstrategicvariability.

Corporate agility in successful execution of strategy


Assess ability to detect/anticipate/react to things that could make an impact

Agility factors (assessmentofthingswhichgiveuscapabilityto....)

Value drivers (thingsweneedtogetright)



Strategic goals

Detect/anticipate

React

Detect/anticipate

React

Detect/anticipate

React

Detect/anticipate

React


Successfulidentificationandevaluationoftheseuncertaintiescancreatemorework.Whenanaspectofuncertaintymayhaveadirecteffectonstrategicsuccess,businessestendtowanttodosomethingaboutit.

Whetherthoseactionsrelatetoabetterassessmentoftherisk,animproveddetectioncapabilityoranincreasedabilitytoreact,opportunitieswillarise.Theseactionscantaketimeandcostmoney.Therefore,theeconomicsofimprovementsshouldalwaysbeconsideredevenifthenatureoftheuncertaintycouldmakethisdifficulttodoinpractice.

Proposedactionsforotherriskmanagementactivitycanalsobeconsidered.Ontheonehand,lackofdataandmodelssupportingthelevelsofuncertaintymightmeanthatsomeorganizationswouldratherspendmoneyonrisksthatareeasiertoquantifyormodel.Alternatively,theabilitytodemonstratewhyandhowcertainrisksdoorcoulddirectlyinfluencetheachievementofstrategycanbeapowerfuldirectorofresources.Therationaleformakingthisapriorityandthepotentialimpactonthestrategicsuccessofthebusinesscanbeaddressedatthehighestlevelintheorganization.

Inunderstandingcorporateagility,itisimportanttorememberthatsometimes(especiallyfor“blackswan”scenarios)decisionswillneedtobemadeandactionstakenagainstabackdropofchaos,ambiguityandheightenedstakeholderscrutinyandtension.

Somemightarguethat,atfirstglance,theinsuranceindustryisnotonethatmovesatafastpaceandthattheneedforstrongcorporateagilityisnotparticularlyhigh.Atamoremicrolevelthough,therearemanyexamples(suchasHurricaneKatrina,andinthefirst12monthsofthefinancialcrisesandbeyond)wherebusinesseswouldliketohavebeenabletorespondfastertoavoidissuesortoexploitsituations.Insomecases,thevalueofbettercorporateagilityisonlyrecognizedinretrospectbutitcanbeidentifiedinreal-timeorinadvance.Althoughinsurancecompaniesmaynotneedtobeasagileassomeindustries,thereisopportunityforprogressandanappetiteforgreateragilityinsomeorganizations.

Taking action


Theattachmentofuncertaintyorvariabilitycomponentstoastrategicvalue-lever-modelcanbeusefulandprovidesagoodunderstandingofhowkeyuncertaintiesinfluencetheachievementofstrategicgoals.However,furtherbenefitcanbeobtainedthroughthelinkagebetweenthisanalysisandotherriskmanagementframeworkcomponents.

In our paper, Measuring up: effective risk management in insurance companies (June2011),weprovidedamechanismforunderstandingandnavigatingfactorswhichinfluenceriskmanagementeffectiveness.Thisappliestoriskmanagementinabroadersense:people,applicationsandinsurancecompanyprocesses,suchasunderwriting,claimsmanagementandpurchasingreinsurance.

Forcorporateagilitypurposes,insurerswillbeinterestedintheextenttowhichtheframeworkcomponentsmaybeusedtoimprovethespeedorqualityofacompany’sdetectionof/orresponsetoevents(sometimesthroughtheuseofformalizedkey riskindicators).

Stress and scenario testing, reverse stress testing and contingency planning are examplesofexistingriskmanagementactivitiesthatcanprovideusefulinputtotheassessmentofacompany’sagility.Therefore,whethertheinterestrelatestostrategicuncertaintyormoreday-to-dayuncertainty,theframeworkprovidesa goodmapofriskmanagementactivitythatcanbeconsideredforitsabilitytoimproveagility.

Obtainingbenefitfrominvestmentinothercomponents


Align risk management framework components to agility factors

Supporting risk management components (whichcontributetothequalityoftheagilityfactors)





Strategic goals

Detect/anticipate

React

Detect/anticipate

React

Detect/anticipate

React

Detect/anticipate

React


Whichcomesfirst:thestrategyorthestrategicriskassessment?Theoretically,howcanonesetstrategywithoutproperlyunderstandingtheassociatedrisks?Wewouldsuggestthatmorecompanieshaveastrategythanaformalizedstrategicriskassessment.Mostinsurersundertakingassessmentsarelikelytobeattachingtheassessmenttotheexistingstrategy,withtheopportunitytorevisittheissueatthenextreview.

Thereisapragmaticwaytooptimizethemanagementofstrategicuncertainty.Priordiscussionswithseniorexecutivesonthistopicsuggestthefollowingsteps:

• Ensurethevalue-driverleversfortheexistingstrategyareclear—individuallyandcollectively

• Identifyandevaluate,usingscenarios,uncertaintiesthatcouldmakeiteasier(ormoredifficult) tooperatethevalueleverseffectively;andconsiderthelikelyimpactofhowthoseuncertainties are managed

• Analyzethecompany’sabilitytodetectandanticipateinternalorexternaleventsthatwouldimpactthevaluedrivers

• Evaluatethecompany’sabilitytorespondattheappropriatepacetopotentialeventsthatmightoccur

• Understandriskmanagementcapabilitiesandthecontributionmadetothecorporate agility factors

• Prioritize improvements and optimize corporate agility in relation to strategic risk and uncertainty

Practical steps for improving strategic risk management


Optimizing strategic risk management

1. Usepositiveandnegative scenarios to identify and evaluate uncertainties surrounding thevaluelevers

2. Assess ability to detect/anticipate/respond to internal andexternaleventsthatcould occur

3. Identify and assess thecontributionmadetocorporate agility by risk management framework components

4. Prioritize improvement basedonlinktoachievementof strategy

Improvements being considered here have a direct link to achievement of strategy

Practical steps for improving strategic risk management






Strategic goals

Detect/anticipate

React

Detect/anticipate

React

Detect/anticipate

React

Detect/anticipate

React


CorporateagilityfordealingwithstrategicuncertaintycanbebetterunderstoodandenhancedasriskmanagementcollaborationbetweenCEOsandCROsbecomesmoresophisticated.Nodoubt,strategicuncertaintycontinuestobeachallengeformanyinsurancecompanies,particularlygiventhecurrentinternationaleconomicclimate.

Asorganizationsincreasinglyformalizetheirapproachtodealingwiththischallenge,more consistent market practice and involvement of specialist risk professionals couldwellemerge.Theapproachoutlinedaboveprovidessomeusefulideasforinsurersdealingwiththisimportanttopic.

Conclusion


Strategicriskisatermoftenusedthathasdifferentmeaningsforvariouspeopleandgroups.Thefollowingtableprovidessomefurtherexplanationoftheexamplesgivenintheearlierdiagram:

Examples of strategic risk definitions

Explanation of what people often mean when they use this term

Risk is not properly considered whendefiningstrategy?

Workdoneinrelationtostrategicplanningcancovergoalsandmajorfactorsthatarecriticaltotheirachievement.Riskofnon-achievementisconsidered, but not necessarily in a detailed or structuredway.Thus,strategyissetwithouttheabilitytodemonstrateafullunderstandingoftherisksinvolved.

Risk management activities are not focused on drivers of strategy?

Theriskmanagementsystemanditscomponentsmightbewelldeveloped,appropriatefortheorganizationandembeddedintothebusiness.However,thesystem(orframework)isnotexplicitlyappliedtothedriversofstrategicvalueandtherefore,theirimportancetospecificvaluedriversisnotdirectlyestablished.

Strategy is not “good” or well-thoughtthrough?

Thequalityofstrategicthinkingislacking—evenbeforetheintroductionofvolatilityandstrategicriskconsiderations.

Appendix 1 — explanations of strategic risk

Optimizing and balancing corporate agility for insurers Optimizing and balancing corporate agility for insurers 21

Examples of strategic risk definitions

Explanation of what people often mean when they use this term

Managementactivity doesnotkeepupwith changesinstrategy?

Theorganizationchangesitsstrategymidwaythroughaperiodtoreacttointernalorexternalevents.However,thepeople,processesandsystemsarenot/cannotbechangedquicklyenoughtobealignedtotherevisedstrategy.Therefore,thereistemporarymisalignmentofwhattheorganizationdoesversuswhatitwantstoachieve.

Thestrategymight needtochange?

Afterhavingpursuedacertainstrategy,theorganizationmayneedtochangedirection.

Consequencesofnon-achievingstrategy?

Theeffectorimpact(typically,thedownside)ontheorganizationifitfailstomeetstrategicgoals.Examplesinclude:shareholderfundingwithdrawal,ratingagencydowngrades,supervisoryinterventionandlossofkeystaff.

Uncertaintysurroundingachievementofstrategy?

Thevariabilityofoutcomesthatrevolvearoundthestrategy,andthingsthatcouldoccurwhilepursuingaparticularstrategy.

Incompatibility of strategic goals, strategies, resources, qualityofimplementation and market economics?

Thestrategyintendedclashessomehowwiththecomponentsthatareimportanttoitsachievement.Inconsistencybetweenthestrategicintentionandthecurrentbusinessenvironment.


Ourmethodologyforaddressingstrategicuncertaintyisbasedonaclassicvalue-driver-modelapproachwhichsupportseffectivestrategicdecision-makingandplanningbylinkingvaluedriversandoutcomemetricstothedecisionsbeingmade.

Themethodologyusedhelpsdeterminewhichitemsare,individuallyorcollectively,ofgreatestimportancetotheachievementofstrategicgoals.Thisistypicallygenerated by senior management in brainstorming sessions and often supported byexistingstrategymaterialswhichalreadyprovideanindicationoftherelativeimportanceofvariouscomponentstooverallstrategy.Theitemsmightrelatetopeople,systems,customerbehaviororcorporateparentsupport.

Theitems(or“strategicvaluedrivers”)assessedasbeingofgreatestimportancetoachievementofstrategyarelinkedinthediagramtoasingle“achievementofstrategy”anchorpoint.

Eachstrategicvaluedriveristhenaddressedinturninmoredetailtounderstandthesub-itemswhichareofgreatestimportancetoeach.Thesub-itemsarethenlinkedinthediagraminthesamewayasthedrivers.

Thiscanbeiterateduntilthereisasufficientlygranularimageofthelinkagebetweenvaluedriversandachievementofoverallstrategy.Thisisusefulformanagementinunderstandinghowdecisionsmadeinrelationtoasub-itemmightaffectoverallstrategy.

Ourmethodologybuildsuponthispicturebyattachingkeyuncertainties,agilityfactorsandriskmanagementsystemcomponentstothesub-items—thusdemonstratingthelinkagethroughtotheachievementofoverallstrategy.

Appendix 2 — explanation of strategic value-driver model


Appendix3—furtherexplanationofVUCA

Components Definition

V=volatility Thenatureanddynamicsofchangeandthenatureandspeedofchangeforcesandchangecatalysts

U=uncertainty Thelackofpredictability,prospectsforsurprise,andthesenseofawarenessandunderstandingofissues and events

C=complexity Themultiplexofforces,theconfoundingofissuesandthechaosandconfusionthatsurroundanorganization

A=ambiguity Thehazinessofreality,potentialformisreads,andthemixedmeaningsofconditions;cause-and-effect confusion

TheVUCAmodelcanbeusedtonavigatefactorsanddynamicsassociatedwithvolatility,uncertainty,complexityandambiguity.Businessescanusethemodelwhenlookingaheadtounderstandwhatmightcausecorporatevaluetochangeandhowbesttomanagethosefactors.Acommondefinitionofthefourcomponentsappearsbelow.



Key uncertainties (thatcouldpositivelyoradverselyaffectperformanceofeachlever)

Value levers (tangibleitemssupportingeachdriver)

Strategic goals

Appendix 4 — Optimizing strategic risk management




Detect/anticipate

React

Detect/anticipate

React

Detect/anticipate

React

Detect/anticipate

React

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