2005 CAS RATEMAKING SEMINAR Product Development COM-2 Small Commercial Businessowners

1. 2005 CAS RATEMAKING SEMINARProduct Development COM-2 Small CommercialBusinessowners Dan Carr, FCAS, MAAA

2. Notes/Caveats • All data and numbers are fictitious • Class and coverage comparisons are either made up or mixed up, so no company is represented accurately, including my own • We don’t use all of the suggested rating methods, and we may use some others not discussed

3. Background • Proprietary BOP • Mix of composite & divisibly rated • Contributions from St. Paul Travelers Aetna USF&G

4. Product Development Goals • Attract more customers • Improve automation & ease of doing business • Update the product • Core policy form – More adequate/ • Optional coverages competitive prices • Expand product offering • Classes • Coverages • Integrate two companies’ products • Minimize disruption

5. Overview • What starts the process • Players • Steps along the way • Pricing the product changes: Examples • Other considerations

6. The Beginning:Ongoing Product Review • Ease of Doing Business • Agent identified • Internal (actuarial, product, operations, IT) • Competitor Actions • Coverage • Pricing • Split vs. Composite • Coverage Issues • Internal (e.g., claim review) • External (e.g., legislative, court decisions) Product Evolution

7. Ease of Doing Business • Actuarial/Product/Underwriting • Track rating/underwriting criteria • Policy endorsements • Coding claims to appropriate endorsements • Add new functionality • Predictive modeling • Real time geocoding for territorial strategies • IT • Clean up/eliminate/replace/understand legacy coding

8. Ease of Doing Business (cont.) • Operations/Underwriting • Ensure the right product and underwriting/operational process is used based on risk criteria • Customer (Agent and Insured) • Faster, more intuitive agent processing • Clearer policy presentation

9. Competitor Comparison: Class Names changed, companies switched around, some classes made up.

10. Competitor Comparison: Coverage Names changed, companies switched around, no actual St. Paul Travelers information.

11. Product Development Timeline Finalize Product Changes- Coverages, Options, Classes, Rate Structure, Rules Project Team: Product/Underwriting Actuarial Regulatory Operations Claims Risk Control Marketing IT Training Rate Analysis / Rate Formulation / Rate Table Creation / Rating Logic Detailed Business, Operational and System Specifications Finalize Core Forms / Amendatory Forms Drafts Other Forms, Rates, Rules, apps, risk control support and Program Manuals Business, Claim, & Legal Review Filing Approvals Final Materials to Filing/Regulatory Rate & Form Filings Prerenewal Window Systems Support (Program, Testing, Final Implementation) NB and Renewals Effective Training

12. Summarize Core Product Changes • Explain the change • Summarize coverage form changes • Summarize underwriting rule changes • Summarize rating rules & rate structure • Reference point for more detailed specifications, later: • Forms/endorsements • Rating logic, rate application, rate derivation • Programming logic

13. Timeline Finalize Product Changes- Coverages, Options, Classes, Rates, Rules Project Team: Product/Underwriting Actuarial Regulatory Operations Claims Risk Control Marketing IT Training Rate Analysis / Rate Formulation / Rate Table Creation / Rating Logic Detailed Business, Operational and System Specifications Finalize Core Forms / Amendatory Forms Drafts Other Forms, Rates, Rules, apps, risk control support and Program Manuals Business, Claim, & Legal Review Filing Approvals Final Materials to Filing/Regulatory Rate & Form Filings Prerenewal Window Systems Support (Program, Testing, Final Implementation) NB and Renewals Effective Training

14. Rate Development • Expand core coverage limits • Impacts base rates • Impacts pricing for excess optional coverage • Embed current optional coverages • Example • Add new rates for new classes • Examples

15. Rates: Embedding Coverage Example: First $X of Accounts Receivable Background • Currently only offered as optional coverage as Rate x AR Limit • Rate varies by protection & construction • Core BPP coverage will include first $X of AR >> need to convert exposure base • Optional coverage will be on excess basis

16. Rates: Embedding Coverage Example: First $X of Accounts Receivable Steps • Evaluate adequacy of current optional AR rates • Base rate adjustment • Don’t give up lost optional coverage premium • Account for increased utilization • Adjust optional coverage rates (now excess)

17. Accounts Receivable Embedding Example: Base Rate Adjustment Total core coverage premium: $1,000,000 Current AR optional coverage premium: $50,000 In 1st $X layer : $30,000 Base Rate Adjustment – Not Lose Premium +3% Core coverage premium, policies w/o AR $900,000 Frequency adjustment: 0.15 Add’l. Rate needed for policies w/o coverage today: +0.45% Compared to total core coverage premium: + 0.27% Total base rate adjustment needed: + 3.27%

18. Accounts Receivable Embedding Example: Base Rate Adjustment Issues • Rate adequacy of optional coverage • Core coverage rate adequacy • Utilization: • What will frequency/severity be on customers who did not purchase the coverage previously? • How to measure?

19. Rates: New Rates for New Classes How to Develop New Rates? • Adapt rates from other products • Competition • ISO Considerations • New business only? • Disruption? • Competitor comparison

20. Example 1: New Split GL/Prop Rates Adapt from Composite BOP Rate Composite BOP Rate $50.00 per $100 TIV Property % of Total Losses 60% Implied Split Rate Property $30.00 per $100 TIV GL $20.00 per $100 TIV GL Exposure Base Sales (per $1,000) Sales / TIV Ratio 2 : 1 ($1 million sales per $500K Prop. values) GL Rate on Sales Exposure Base $10.00 (20 ÷ 2)

21. Example 1: New Split GL/Prop Rates Adapt from Composite BOP Rate (cont.) Issues/Considerations • Adequacy of current composite rates • Source for GL Exposure Base / Property Exposure Base (e.g., Sales / TIV) ratio • Variance of Sales / TIV ratio across insureds • Definition of GL Exposure base (e.g., How to define Sales?)

22. Example 2: New Split GL/Prop Rates Based on ISO Commercial Package Policy Composite GL Rate: (ISO Prem/Ops Loss Cost x Prem/Ops ILF + ISO Products Loss Cost x Products ILF) x ISO Package Mod x Coverage Adjustment Factor vs. ISO x Loss Cost Multiplier

23. Example 2: New Split GL/Prop Rates Based on ISO Commercial Package Policy Composite [ (ISO Group I Loss Cost Building Rate x ISO Territory Multiplier x ISO Protection Type Multiplier x ISO $250 Deductible Factor) + (ISO Group II Loss Cost x ISO Protection Type Multiplier x ISO $250 Deductible Factor) + (ISO SCOL Loss Cost x ISO Protection Type Multiplier) ] x (1 + Theft Factor + Coverage Adjustment Factor vs. ISO) x Loss Cost Multiplier x ISO Package Mod (Composite BPP rate can be calculated similarly. BII is a different animal.)

24. Example 2: New Split GL/Prop Rates Base on ISO Commercial Package Policy Issues/Considerations • Some are same as using ISO loss costs in general (e.g., ULAE provision) • Coverage differences • Rate basis differences (GL limit, Property base deductible, etc.) • “a” rates • Specific rates • Territory definition differences • Class definition differences • Exposure base differences • Ability to mimic ISO rating

25. Timeline Finalize Core Product Changes- Coverages, Options, Classes, Rates, Rules Finalize Product Expansion Classes, Exposure Base and Product Design Project Team: Product/Underwriting Actuarial Regulatory Operations Claims Risk Control Marketing IT Training Rate Analysis / Rate Formulation / Rate Table Creation / Rating Logic Detailed Business, Operational and System Specifications Finalize Core Forms / Amendatory Forms Drafts Other Forms, Rates, Rules, apps, risk control support and Program Manuals Business, Claim, & Legal Review Filing Approvals Final Materials to Filing/Regulatory Rate & Form Filings Prerenewal Window Systems Support (Program, Testing, Final Implementation) NB and Renewals Effective Training

26. Rates: Other Considerations • Competitive analysis • Rating Specifications for IT • Rate/Rule/Form Filings • Systems testing

27. Other Considerations • Field input • Coverage Forms • Marketing materials • Agent manuals • Claim department impacts • Legal review • Training • Field office marketing & underwriting staff • Service centers • Agents

28. End of Presentation Dan Carr, FCAS, MAAA 2nd Vice President & Actuary St. Paul Travelers dgcarr@spt.com

29. Discussion & Questions