The era of the traditional European multiline insurer is over. These players have become lumbering conglomerates with clients ranging from individuals to large corporations and products from life insurance through property and casualty to asset management.¹ This breadth could increasingly be a handicap. Different product market segments enjoy very different prospects for growth and profitability, and the skills and business models needed to succeed will vary from one to another (Exhibit 1).

Indeed, multiline executives are already finding it difficult to obtain superior returns and growth across such a range of businesses. Their immediate challenge will be to find ways of managing this diversity. Many European mulitiline insurers will have to change if they are to develop each business on its own merits. They must abandon their customary undifferentiated management approaches and adopt a multibusiness governance model in which management approaches are tailored to the particular challenges facing the various businesses.

In time, many European multiline insurers, in particular the small and medium-sized players, will also have to take the step of focusing their business portfolio on those businesses where they command or can build sustainable advantages. They must develop superior core skills, primarily in specific product market segments but also in selected parts of the business system such as pension administration or claims handling. In addition, they must grow through mergers and acquisitions and achieve focus through divestments, spinoffs to the stock market, or joint ventures.

In the end, only a handful of huge European insurers will manage to achieve excellence in several business segments, and thus earn the right to aspire to become global financial powerhouses. Meanwhile, both smaller poorly performing multiline insurers and large, lumbering conglomerates risk becoming acquisition targets.

Investors are already sending the traditional conglomerates a message to change. In general, the insurance industry in Europe lagged behind domestic stock market indices in most European countries between 1990 and 1998, and found itself under intense competitive pressure (see the boxed insert, "The forces of change"). But there are indications that the market values signals of bold change. Storebrand, Norway’s biggest insurer, saw its stock rise by 50 percent in six months in 1997/98 after an investment banking analysis revealed what its life and property and casualty business would be worth as separate businesses, and after top management publicly acknowledged that breakup was an option.

A few insurers deemed by investors to be on the right track are surging ahead, providing shareholder returns well above stock market indices (Exhibit 2). In Europe, the top 20 value creators in insurance have increased their share of total industry market capitalization from less than 40 percent in 1990 to more than 60 percent in 1997.

In Europe, the value-creation winners include Aegon and Swiss Re; in the United States, SunAmerica and UICI were star performers. These players have two characteristics in common. First, they have achieved profitable growth without increasing their capital base proportionately, leveraging such intangible resources as the people, systems, and skills within their organizations. This is reflected in high ratios of market capitalization to net asset value (price-to-book) (Exhibit 3). Second, the majority possess focused business portfolios, choosing to play in only a few arenas. Yet there are also high performing insurers with broad business scope, such as Travelers and ING, that have succeeded in differentiating their management approaches from one business to the next.

To retain strategic control and avoid becoming takeover targets, the chief executives of European insurance companies that are performing less well must address two challenges simultaneously: size and performance. A strategic control map provides a graphic illustration of these challenges (Exhibit 4). The map is a matrix in which the horizontal axis represents the size of an operation in terms of its net asset value and the vertical axis represents performance in terms of price over net asset value, or market-to-book ratio.

By plotting European insurers on the map, we can see at a glance which companies are in strategic control and which are vulnerable. Many multiline insurers will be faced with a tradeoff between the two dimensions of performance and size, since size often suggests the preservation of broad business scope or even expansion, while performance frequently entails focus. The top performers will be able to manage this tradeoff. However, failure to move in both directions may mean that a company eventually loses control of its destiny.

To add to the challenge, the strategic control map sets moving targets. The minimum size you need gets bigger, and the performance benchmarks get higher. If you stand still, you will fall behind.

The price-to-book ratio achieved by the best performers shows how quickly targets can move. Ten years ago, a ratio of nearly 2 put an insurance company among the top performers in the United States. Since then, the benchmark has more than doubled to almost 4 (Exhibit 5). This raises an uncomfortable question: how does a multiline insurer succeed in highly competitive, mature markets in which the prospects of organic growth are well below what it needs in order to attain sufficient scale and meet performance targets?

From breadth to depth

A successful response calls for a shift in perspective. Executives of European insurance companies must adopt a management approach in which each business unit is managed and evaluated individually according to its value-creation potential and capital requirements. They must eschew the usual approach of attempting to optimize all businesses without taking into account the different challenges each faces. In addition, they must ensure that capital is removed from underperforming businesses and allocated to those with high value-creation potential. In the long run, only a few big multiline insurers can credibly aspire to master a range of businesses and achieve strong performance across the board; meanwhile, small and medium-sized insurers with broad portfolios risk being subscale within each of their businesses.

Companies must ask themselves a key question: in which of our businesses will we be able to build true excellence that we can leverage for profitable growth? The answer should lead to a wide-ranging program including improvements in core skills, mergers, acquisitions, and also divestitures, as well as innovation to find profitable new growth opportunities.

Buy to grow

Since companies need both size and performance to retain strategic control and most European multiline insurers find themselves in a vulnerable starting position, M&A has to be a key strategic activity.

So far, domestic consolidation has been the main source of the growth generated by M&A, offering attractive synergies from overlapping functions and markets. Our studies show that cost and revenue synergies from such deals can amount to more than 50 percent of the market capitalization of the acquired company.

Bancassurance can also offer substantial synergies, as seen in the merger between Swedish bank S-E-Banken and insurer Trygg-Hansa in the fall of 1997. Synergies of nearly 40 percent of Trygg-Hansa’s market capitalization flowed from the sale of banking products to insurance customers and vice versa, and from cost synergies derived from overlapping functions. Such domestic value-creation opportunities are relatively simple to capture and seldom require proprietary skills. As a result, there may be many bidders, in which case synergistic value will often accrue to the seller.

However, as domestic opportunities become exhausted and the number of players with international ambitions rises, cross-border M&A activity can be expected to increase in importance. The next generation of M&A-based value creation in European insurance is not synergistic in the traditional sense. Instead, skill-based restructuring will emerge as a new growth opportunity.

This type of restructuring will create value primarily from a platform of strong skills. Excellence in such areas as pricing, claims, distribution, and IT will be needed by any company hoping to add value to an acquisition; so will insights into fundamental market drivers such as customer preferences and market segments. Also important will be the ability to identify targets and partners capable of bolstering the acquirer’s strategic position. Candidate screening, evaluation, and negotiation must become corporate skills in their own right.

Another element in this mix is financial reengineering, or the creation of value through the building of a better capital structure. As there are few "pure play" acquisition candidates (players focused on one or a few niches) in Europe, acquisitions will often entail divestment.

In the United States, a new breed of value creator is already hard at work using operational advantages (in, say, distribution or customer service) and superior M&A skills to restructure and improve underperforming acquisitions (Exhibit 6). Between 1994 and 1996, five of the top 10 value creators in US life insurance were involved in deals accounting for about 50 percent of M&A deal value within the life and pension industry. Conseco exemplifies this trend. It runs an efficient operation: its general expense ratio excluding commissions is considerably better than the industry average. Using this advantage as a basis for growth, it has made several skill-based acquisitions, each time rapidly restructuring the target and usually taking out between 30 and 40 percent of costs (Exhibit 7). Its focus has been not on synergies between the companies, but rather on independent improvements within each one. The acquired companies are kept as separate entities within the portfolio.

The key source of growth for Conseco has been not organic expansion but the constant addition of acquisitions. This strategy has been extraordinarily successful: annual return to shareholders has topped 50 percent for the past 12 years on average, and market capitalization has increased from $25 million in 1986 to more than $8 billion in the first quarter of 1998.

Divest to focus

As well as divesting parts of the companies they acquire, Europe’s insurers will also have to take a hard look at their own businesses and decide which ones to sell. Our analysis of top-performing insurance companies in the United States and Europe confirms that focus can be a means of creating value. The shareholder returns of the 45 major insurers in the United States show that companies focused on life and health insurance or on some niche in the property and casualty market outperformed multiline and generalist companies by a wide margin (Exhibit 8). In Europe, the shareholder returns of focused companies such as Swiss Re and Aegon seem to confirm this pattern.

The list of US companies making tough portfolio decisions and divesting non-core businesses is growing. Chubb divested its life insurance business to focus on corporate property and casualty insurance. Lincoln National shed its property and casualty business to focus on life insurance and annuities. Aetna divested its property and casualty insurance to Travelers in 1996 and its life insurance business to Lincoln National in 1998 to concentrate on the health insurance market.

Examples of focus in European insurance are rare as yet. Swiss Re has divested its life and property and casualty businesses to focus on reinsurance. UK insurer Prudential has left corporate property and casualty to concentrate on life. In April 1998, S-E-Banken/Trygg-Hansa divested its corporate property and casualty unit to focus on mass-market business.

The issue for most European insurers, however, will be how to manage the balance between size and performance in the interim to avoid losing strategic control. Starting off with divestments can make a company vulnerable, so these are more likely to follow successful acquisition-based growth. Consequently, we may well see more acquisitions and mergers in European insurance before a divestment trend sets in.

Grow by leveraging intangible assets

The strategic control map demonstrates the need for capital-efficient growth. Capturing the potential of improvements in core operations and structural efforts such as mergers and acquisitions will take insurers in the right direction. But how, in a business that requires substantial capital, where margins are under pressure, and where major industry segments are maturing, can they improve their performance in terms of price to net asset value so as to move further up the vertical axis of the map?

More than anything, this next wave calls for innovation: for a company to nurture and take advantage of its intangible assets. Intangible assets come in three main forms: non-physical assets such as brand and reputation or proprietary databases and software; distinctive competencies in areas such as distribution, marketing, and M&A; and special relationships such as customer franchises and partnerships. Companies should seek to identify and commercialize the intangible capital latent in their organizations, and in this way also develop new businesses for the marketplace.

To do this, insurers need to rethink their value chains. The conventional view is to regard each business line—corporate property and casualty, private property and casualty, and so on—as a large integrated value chain complete with all the necessary functions: product development, distribution, and investment management, say. But such a perspective disguises the wealth of opportunities that can reside within the functions of a high-performing business.

Claims handling in property and casualty could emerge as a separate business, for example, opening up new profit opportunities for top practitioners in the field. Companies that handle claims poorly could then improve their performance by outsourcing to a best-practice claims operation. The same could happen with, say, distribution and asset management. Similarly, privileged customer relationships and non-physical assets such as brands could be leveraged and expanded into new areas as sources of growth.

Several developments illustrate how intangible assets can be translated into business opportunities. Investment management is fast becoming a business in its own right. A growing number of banks and insurance companies are abandoning their traditional stance and developing this field as a distinct third-party service line.

Property and casualty claims is another area where innovation is taking place. Through their claims operations, some insurance companies have become large purchasers of everything from jewelry to roadside assistance services. This gives them clout with suppliers and opens up a number of business opportunities: partnerships between insurance companies and body repair shops, say, or the development of third-party businesses to act as an intermediary between claimants and insurers. A market for third-party claims services is emerging as such companies as Crawford and Co. and PRISM in the United States, Dekra in Germany, and Motorcare in the United Kingdom offer services like damage assessment, repair management, purchasing, and other services for a fee.

Skandia, the largest Nordic insurer, is another player that has pursued business opportunities based on intangible assets. It has enjoyed international success by focusing its life and annuities activities on selected business system elements such as product packaging, customer services, and marketing, while outsourcing others including investment management and distribution.

To achieve size and performance simultaneously, top executives face a complex management undertaking. In addition to their traditional task of restructuring operations in order to build core skills, they must also act as the architect of strategy in order to grow their company through mergers and acquisitions and by deploying intangible assets more effectively. At the same time, they must restructure their company’s finances, optimizing its use of capital and divesting non-core businesses.

This is a leadership challenge of epic proportions. Those who fail to rise to it will soon see their companies become attractive acquisition targets, ripe for restructuring. Confronted by such a prospect, many European multiline insurers will conclude that they have no option but to embrace radical change.