The Business Model of Insurance Industry

The insurance industry business model can be further categorized into two types of main activities, service domain, and support domain. Service domain activities make up the company's value chain and the support domain provides the infrastructure and support to sustain the value chain. Support activities may include corporate services, finance, human resources, or information systems, and technology.

Insurance Value Chain:

A value chain provides a functional model for an organization. It constitutes the service domain, technological domain, and the organizational domain and models the various functions an organization must perform to deliver. It is through the act of defining these domains that roles and responsibilities are defined, and organizational structure comes into view. A value chain describes the company's product offering from start to finish. A value chain is a chain of activities that a firm operating in a specific industry performs in order to deliver something valuable (product or service). A business unit is an appropriate level for the construction of a value chain, not divisional or corporate level. Products pass through activities of a chain in order, and at each activity, the product gains some value. The chain of activities gives the product more added value than some of the independent activities.

The following seven primary activities depict the insurance sector's value chain as an end-to-end process:

Value Chain Step1: Marketing:

Marketing plays a vital role in the insurance industry. It is the first step in the value chain process for insurance providers. At this point, a business must determine which policies it will offer. It is used to increase sales and sustain marketplace positions for major companies and by smaller companies to build and grow their businesses. Regardless of size, marketing tactics and strategies are developed by all in the industry to target consumers and prospects to cover their insurance needs for home, health, life, and commercial coverage.

Value Chain Step2: Risk Modeling:

As part of marketing, a business must determine the policy mix and pricing strategy. To determine how premiums will be calculated for each policy, the business must also perform risk modeling. Risk management is very important for the insurance industry. Insurance means that insurance companies take over risks from customers. Insurers consider every available quantifiable factor to develop profiles of high and low insurance risk. The level of risk determines insurance premiums. Generally, insurance policies involving factors with greater risk of claims are charged at a higher rate. With much information at hand, insurers can evaluate the risk of insurance policies at much higher accuracy. To this end, insurers collect a vast amount of information about policyholders and insured objects. Statistical methods and tools based on data mining techniques can be used to analyze or to determine insurance policy risk levels.

Insurance products are priced, or rated, according to a complicated algorithm that matches risk characteristics to the possibility of a claim. Rate adequacy ultimately plays a vital role in achieving an underwriting profit. Using the information gathered from risk modeling, the business can then determine the actual prices for each policy.

Value Chain Step3: Sales:

Once the marketing and risk modeling is achieved, the insurance business player is now in a position to begin selling its insurance policies to customers. In the old days, most insurance buyers worked exclusively with insurance agents to determine and address their insurance needs. The agent was the primary source of information, education, and advice. However, today’s buyers are demanding more choices and insurance companies are trying out more varied sales strategies to reach a much broader base of potential clients. Insurance carriers are experimenting with orchestrating a mix of diverse distribution channels - including the internet, call centers, social media, and/or agents – to meet the changing needs of the market. Selling involves quotations, proposals, risk assessments, and commission calculations. Commissions are paid to all parties involved in the distribution channel.

Value Chain Step4: Policy Administration:

Having sold a policy, the next step is to write the policy. Most life insurance providers use policy administration systems to handle their applications, policy changes, anniversary processing, and other business-critical functions. This step involves keeping full records and providing support for all policy lifecycle transactions - from policy issues, billing, collections, and policy processing to claims.

A typical insurance company produces millions of printed insurance policies each year. These policies are created with the help of technology, with clerks and support staff responsible for the accuracy and timely delivery of the documents. An army of staff oversee the assembly, printing, and mailing of each policy, as well as the filing or archiving of all documents for future reference.

Value Chain Step5: Billing:

Every issued policy and insurance company sells is a financial transaction that must be booked, tracked, and supported. Billing departments produce invoices, accept payments, and coordinate monthly payment plans for each policy. The billing department is also responsible for providing customer support on all issues related to billing. Customers can be billed once their policies have been written.

Value Chain Step6: Claims:

Customers who have paid their premiums may at some point make a claim. Efficient claims management is vital to the success of both large and small companies working within the insurance industry. Major components of the claims handling process include developing strategies to cut costs and reduce fraud while keeping customers satisfied. The company claim department and/or the intermediary (if applicable) need to be made accessible for the claimant. If an intermediary is an initial contact for claimants, claims should be sent to the company claim department within an appropriate time period. The insurance company contacts the policyholder or sends an acknowledgment of receipt as soon as the claim is received. This activity is optional, however, as customers may never make a claim. Once a claim has been filed and, when applicable, after any additional documents that are required to process the claim have been received, claimants should be informed of the acceptance or denial of the claim within a reasonable amount of time after the receipt of the notification.

The insurance company contacts any other company that is involved in the claim within a reasonable amount of time and resolves inter-company claim disputes as quickly as possible. The insurance company endeavors to settle the claim as soon as possible and advises in writing the policyholder on the reasons for any delay. Quick claims settlement as well as high-quality and punctual information provided to the policyholder are key competition features for insurance companies. After an agreement has been reached between the company and the policyholder on the amount of compensation, the payment is effected within a reasonable amount of time.

Value Chain Step7: Customer Service:

Customer service activity involves serving the needs of customers until their policies expire. Customer service is clearly very important for winning new customers and retaining existing ones. Customer service traditionally has fallen into one of three major categories; advisory services, informational services, or transactional services. Each category focuses on achieving specific goals or outcomes and generally is associated with a service channel through which services are delivered. Advisory services are the most interactive category and generally focus on longer-term relationships, ensuring that customer needs are satisfied with appropriate insurance products or services. Such services are a critical component of long term value since customer insurance needs change over time.

Information services provide accurate and timely information in response to customer inquiries. Examples include requests for payment address or status, claims or contract status, and financial and rating information. Transactional services are specific requests that initiate or trigger actions or changes and tend to take the form of material changes to a policy, administrative changes, or fulfillment. Examples include the first notice of loss, the addition of a vehicle or coverage to an existing policy, coverage changes, address changes, and requests for ID cards and forms.

How money is made in Insurance Business:

The major income sources for Insurance companies are Earned Premium and Investment Income. The expenses are Incurred Loss/Claims and Underwriting and Other Expenses. Earned premium, a source of income, is the total of all the premium payments received by an insurer for the current coverage period. Premiums are not considered "earned" until the policy period they cover is over. Investment income is the residual income generated as a result of investing premiums in the capital markets. Investment income also includes annuity considerations and asset earnings.

Incurred loss is the sum of all claims paid, adjusted by the change in claims reserve and related claim expenses for the same accounting period. Underwriting expenses include all the costs associated with a policy, including commissions and the portion of administrative, general, and other expenses attributable to underwriting. Clubbed with other expenses the profit for the Insurance company is calculated by subtracting from the total revenue.