Making Sense of Your Loss Ratios – Is it the Dealer, the Rates or Just Luck?

1. To insert your company logo on this slide • From the Insert Menu • Select “Picture” • Locate your logo file • Click OK • To resize the logo • Click anywhere inside the logo. The boxes that appear outside the logo are known as “resize handles.” • Use these to resize the object. • If you hold down the shift key before using the resize handles, you will maintain the proportions of the object you wish to resize. Making Sense of Your Loss Ratios – Is it the Dealer, the Rates or Just Luck? Lee Bowron, ACAS, MAAA John Kerper, FSA, MAAA

2. Bumper to Bumper Coverage

3. Loss Ratio • Financial Measure • Incurred Claims / Earned Premium

4. Loss Ratio • Predictive Measure • Ultimate Claims / Written Premium

5. Loss Ratio – Sources of Deviation • Earnings Pattern • Customer Adverse Selection • Mix / Pricing • Dealer • Credibility

6. Earnings Pattern • Predetermined amounts of earnings for system reports • Rule-of-thumb curves (pro-rata, reverse rule of 78s) should be avoided in most cases

7. Earnings Pattern • Match earnings to claims pattern • The most common method is to estimate loss costs per contract by month, using loss triangles • Loss costs are then trended to the evaluation date

8. Earnings Pattern:Issues with Method • Data may not be available at later durations for long-term contracts • Older data may not be appropriate • Subdividing data will likely decrease credibility

9. Earnings Pattern:Issues with Method • Types of programs with problems • Manufacturer warranty changed • Underlying mix has shifted • New vehicle program with limited experience

10. Earnings Pattern:An Alternative Approach • Instead of claims as a function of time, claims as a function of miles driven • Claims = Miles Driven * Cost per Mile * Trend Factor

11. Earnings Pattern:An Alternative Approach • Exposure is miles driven while covered by VSC and past manufacturer warranty • Calculate claims per mile driven • Project future miles driven and use cost per mile to determine earned percent and estimate future claims

12. Earnings Pattern:Recommended Reading “An Exposure Based Approach to Automobile Warranty Ratemaking and Reserving” Authors:John Kerper & Lee M. Bowron www.kerper-bowron.com

13. Customer Adverse Selection • Excess early claims • Common in direct market, service bay and high mileage programs • Can adjust earnings pattern

14. Mix / Pricing • If every possible rate priced to same loss ratio, no impact • If not, incurred loss ratio will change over time (faster earning products may be performing better or worse) • Ultimate loss ratio should not change much

15. Dealer • Service writers look for services in addition to customer complaint • Labor rates • Reinsurance / profit participation • Dealer competitively rates multiple service contracts

16. Credibility • High frequency / low severity line • To an actuary, that means the claim volume needed to develop accurate models is relatively low • Credibility issues when exposure is limited (modeling the “miles driven” increases credibility)

17. Making the determination • Develop cost factors that take all factors into account • Make / model • Coverage • Initial mileage / Age of vehicle • Term • Deductible • Region

18. Making the determination • Estimate claims for past 12-24 months for each dealer • Calculate ratio of actual claims to estimated claims • Ratios close to 100% indicate that dealer performance is average

19. Making the determination • Determine credibility from amount of exposure miles during study period • Project future claims (adjusted for dealer performance) • Calculate Ultimate loss ratio • (Incurred claims + Projected claims)/ Written Premium

20. Making the determination • When dealer ultimate loss ratio varies dramatically from target: • If credibility is low – results are random (luck), unless extremely bad • If credible and dealer ratio is close to 100%, then pricing is the cause • Otherwise, the dealer is impacting the results directly