mitsutaka goto's List: Insurance

• What counts in the insurance business is the amount of float generated (money  held but not owned) and the cost of it. There is float because premiums are  always paid upfront and it takes time to resolve claims.

   

  Usually, the premiums that an insurer takes in will not cover the losses and  expenses that it must pay. This is called an “unwriting loss” and reflects the  cost of float.

   

  If this cost of float is lower than market rates for money, then that insurance company is profitable.

• The downside of it is that the premiums are usually not sufficient to cover the  expenses and insurance coverage 

  

  that the insurer must eventually pay. This is the  “underwriting loss”, which is the cost of the float.

• Calculating float
  Here's how float is calculated. Ready  for this?

   

   

  unpaid losses
  + loss adjustment expense
  + unearned premium
  + other  policyholder liabilities
  - premium balance receivable
  - loss recoverable  from reinsurance ceded
  - deferred  policy acquisition costs
  - deferred charges on reinsurance
  - related  deferred income tax

   

  This sounds like a handful, but we can simplify it to say that float is  simply cash received from customers that hasn't been paid out yet for claims and  expenses.
• The more float a company has, the more investment income it can generate

• Float is wonderful - if it doesn't come at a high price. Its cost is determined  by underwriting results, meaning how the expenses and losses we will ultimately  pay compare with the premiums we have received.
• received.  When an underwriting  profit is achieved - as has been the case at Berkshire in about half of the 38  years we have been in the insurance business - float is better than free.
• than free.  In such years, we are  actually paid for holding other people's money
• For most insurers, however, life has been far more difficult: In aggregate, the  property-casualty industry almost invariably operates at an underwriting loss.  When that loss is large, float becomes expensive, sometimes devastatingly so.

• Insurers have generally earned poor returns for a simple reason: They sell a  commodity-like product. Policy forms are standard, and the product is available  from many suppliers, some of whom are mutual companies ("owned" by policyholders  rather than stockholders) with profit goals that are limited.
• Moreover, most insureds don't care from whom they buy.
• It can't live, however, with underpriced business and the breakdown in  underwriting discipline that accompanies it. An insurance organization that  doesn't care deeply about underwriting at a profit this year is unlikely to care  next year either.

5 more annotations...