The EVOLUTION. of the ROOF RISK. A white paper from BuildFax by. HOLLY TACHOVSKY, CEO and JOSEPH MASTERS EMISON, CTO

Transcription

1 A white paper from BuildFax by HOLLY TACHOVSKY, CEO and JOSEPH MASTERS EMISON, CTO

2 The roof! The roof! The roof is on fire! -Rick Master Scott & the Dynamic Three Insured thunderstorm losses are much higher than they have ever been, and there is no sign that they will return to lower levels any time soon. Moreover, the current state insurance industry from the focus on heavy marketing to standard replacement cost coverage on roofs exacerbates these losses, creating a real roof problem. We conducted over 100 hours of interviews to identify the best practices to solving the roof problem. We found that the most adept carriers we interviewed followed a four-step path, which we detail below. However, even after putting initial fixes in place, many carriers have since seen two types of problems with their solutions. In this paper, we describe the current approaches to addressing these new problems in detail, and focus on key takeaways for carriers seeking to fix their roof problem. 1

3 The Roof Problem Insured thunderstorm wind and hail losses topped $27 billion in 2011 and $14 billion in 2012, whereas in the early 2000s, they hovered around $5 billion. 1 This increased cost of thunderstorms boils down to five factors: an increased number of severe thunderstorms, an aging housing stock, an increased cost of roof replacements, replacement cost coverage for roofs, and opportunistic weather chasers. Figure 1 - Roof age by county through the U.S. While it is difficult to get a handle on the number of thunderstorms each year in the U.S., it seems fairly clear that the number of severe storms has gone up. Eberhard Faust, head of climate risk and natural hazards research at MunichRE, recently presented a study showing that inflation-adjusted annual losses due to severe thunderstorms ($250+ million in damage) have doubled since In an effort to explain this, Faust s team has found that storm formation seems to be easier now than it was 40 years ago, although he does not know whether this is natural climate variability or manmade climate change. 3 The median age of a home in the U.S. is steadily increasing, from 25 years old in 1987 to 35 years old in (The boom building years early 2000s only paused this aging). This means that in many parts country, the majority of homes still have their original roof, which makes them particularly susceptible to damage for two reasons: Older roofs are more likely to fail in storms than newer roofs, and older roofs are more likely to be built with less resilient materials than newer roofs (as newer materials did not exist and/or were not generally in use). The price of roof replacements has been increasing for at least two reasons: The cost of asphalt shingles has outpaced inflation for several years now, 5 and building codes and roofing best practices have resulted in more time and materials requirements in a typical roof replacement. The most extreme and perhaps industry-defining state is Florida, which adopted an extremely strict building code after Hurricane Andrew, 6 and which has the most expensive roofs in the U.S. 2

4 Most homeowners insurance policies provide replacement cost coverage on roof damage due to a thunderstorm, according to our interviews. As the number of severe storms has increased, roofs have aged, and the cost of roof replacement has increased, carriers have felt the pain of replacing roofs at a cost that can take more than a tenyear payback period. Finally, our interviews revealed strong anecdotal evidence that storm chasers businesses that go door-to-door in areas hit by storms (both immediately after, and, in slow periods, months after) to do roof repairs and be paid by the carriers have exacerbated the roof problem. The main concerns about storm chasers are that they may be acting fraudulently by actually causing damage to the roof (under the pretext of going up there and checking things out ) and/or by taking the claims check and not actually doing any repairs (or doing a terrible job). Key Takeaway: Increased wind/hail losses aren t going away. The Context Roof Problem Before discussing potential solutions to the roof problem, we find it useful to review the context in which insurance carriers must tackle the problem. We have identified four elements that make solving the roof problem critically important while also showing how incredibly difficult it will be: the current focus on increased marketing, the relatively static set of potential customers, the lack of support from law enforcement, and the worst return on equity in 30 years. Recent years have seen significant increases in property and casualty insurance marketing, 7 which has had an increased focus on price. These trends have been driven by the executive leadership of carriers, who by and large wish to see significant customer growth. Backed by executive sponsorship, the marketing departments within carriers have successfully increased their budgets and have been doing their best to deliver more and more prospects through the door. This momentum toward increased customer acquisition is unlikely to stop any time soon, which means that any writing bad risks problems will be exacerbated. Another difficulty in addressing the roof problem is that the homeowners insurance market has a much more static set of customers than most other markets the number of new customers to the homeowners insurance market is much smaller than the existing set of customers, and the majority of existing customers will be in the market for decades. This makes customer satisfaction absolutely critical, which means that any missteps may take a generation to clear out. 3

5 Figure 2 - An indoor hailstorm in the IBHS Research Center Insurance carriers also can t count on any significant help from law enforcement, according to our interviews. While states would like to shut down storm chasers in theory, in reality they only crack down when contractors either fail to do any repairs at all, or if they are caught actually damaging the roof. At best, storm chaser laws create some consumer protections (e.g., allowing customers to cancel contracts if insurance doesn t cover all work) and codify some good business practices (e.g., requiring contractors to provide contact information), 8 while doing almost nothing substantive to prevent the practice. Finally, the roof problem might not have come at a worse time: As has been said many times, a 100% combined ratio is hard enough. Specifically, Bob Hartwig Insurance Information Institute frequently points out that a combined ratio of 100 in 1979 yielded a return on equity of 16%, whereas a combined ratio of 100 in the past few years has yielded a return on equity around 7.5%. 9 At the same time that the industry needs more profitable products, the roof problem is making homeowners products much less profitable. Key Takeaway: Existing conditions (in insurance and more generally) exacerbate the roof problem. Fixing the Problem The most adept carriers we interviewed revealed a four-step path that they have followed to solve problems like the rising cost of roofs, and that many are following in solving the roof problem: (1) Identify the characteristics that differentiate the good risks from the bad risks, (2) Investigate those characteristics through inspections, (3) Develop products and underwriting rules to limit exposure to bad risks, and (4) Ultimately rate on each characteristic so that all risks can be underwritten at the right price. 4

6 The first step in solving the roof problem for many carriers started with understanding that the risk of roof loss is not a monolithic problem, but rather one that consists of many different parts: roof age, roof material, roof pitch, and roof shape, at the very least. Leading this research for many was the Insurance Institute for Business & Home Safety (IBHS), which started by analyzing how different roof materials affect the roof s ability to survive various weather events. 10 And determining the best roof characteristics is not a simple task IBHS continues to do this research, recently testing an indoor hailstorm in the IBHS Research Center. 11 Figure 3 - According to our interviews, the most common current solution to the roof problem The second step for the most innovative carriers we interviewed after identifying the important component pieces roof was to adjust their inspection requirements to gather information on those components. While there were potentially other options for getting the data, like asking homeowners or using tax assessor data, many carriers opted to start with inspections because they believed it would be more reliable. However, the need for additional data in inspections resulted in different requirements for inspectors, going from more generalized inspections to more specialized and trained roof inspections. Some carriers even began to certify inspectors as roof specialists, and started ordering very specialized inspections based upon a location s likely exposure to various hazards, and started requiring evidence, like photographs. For some carriers, this change from having an inspection program to having an inspection strategy had significant power in reducing loss: We heard everything from a 5:1 return to a 14:1 return on the cost of properly targeted inspections from those carriers who were enthusiastic about their inspection strategy. But these new requirements on inspections have also made them more expensive, which has resulted in many carriers being unable to use them as the only source of roof characteristic information. In addition, liability concerns have made carriers more wary of having inspectors walk the roof to get roof characteristic information (although not all carriers worry about this, and some point out that most characteristics can usually be verified from the ground or by using a small remote-controlled helicopter). This has led to an increased focus on how to supplement an inspection strategy with other data, from advanced aerial imagery to new data sources. As a third step, carriers armed with useful data on the impact of various roof characteristics on likely future loss were able to make underwriting rules to address the roof problem. Two most common initial categories of insurance eligibility rules 5

7 Industry Innovations were (a) excluding certain roof characteristics from coverage (e.g., T-Lock shingles, which cannot be repaired), and (b) excluding roofs of a certain age (e.g., no roofs older than 15 years). We have also seen a significant increase in the number of carriers offering Actual Cash Value (ACV) cost on the roof, including offering policies that provide replacement cost coverage up until the roof is a certain age (e.g., 10 years old), and then providing ACV after that. Carriers have also been exploring having a separate roof deductible and having cosmetic exclusions, 12 as well as increasing their focus on partial roof repairs as opposed to full roof replacements. The fourth step and an increasingly common sight is carriers rating on roof characteristics. Many people with whom we spoke (not just the actuaries!) see rating on roof characteristics as ultimately the best option, if it is possible to obtain good enough data. However, given the difficulties of finding good roof characteristic data and the regulatory hurdles in getting rate plans approved, surcharges and discounts are more common pricing tactics at the moment. The most common surcharges we heard about were based upon material (e.g., tile, T-Lock), and the most common discounts we heard about were either state-sponsored (e.g., wind mitigation credits) or were based on age (e.g., less than six years old). We do expect to see more of a shift from surcharges and discounts to rating on roof characteristics, based upon some interviews we conducted. A small number of leading carriers have been running loss analyses against the best data they have found to show that certain characteristics like roof age and roof material can be used reliably to price the roof risk, and expect to expand their roof rating efforts. Key Takeaway: Most carriers we spoke to with effective solutions to the roof problem cited one or more vendor solutions on which they have relied, listed here with brief explanations: BuildFax provides accurate, on-demand roof age and roof repair follow-up confirmation. Eagleview provides roof measurement reports and associated imagery. ITEL provides roof material matching services so that it is easier to repair instead of replace. LexisNexis provides marketing solutions that make it easy to target homes with new roofs. MSB provides roof age, material, and shape information through a waterfall pre-fill. Nexxus SG is a vetted contractor network which includes licensed and insured roofers. RiskMeter provides roof characteristics for pre-fill to carriers of all sizes. Symbility provides a cloud-based claims platform handling all aspects of roof claims workflow. 6 The most common solution is ACV on the roof.

8 Roof Components SHAPE Six main shapes: Gable Hip Mansard Flat Shed Gambrel MATERIAL Five major materials: clay or concrete tile Asphalt composition shingles slate shingles wood shakes/shingles metal roofing PITCH Calculation of rise over run: 1/12 3/12 5/12 9/12 15/12 AGE 15 Nationally, BuildFax calculates the average roof age to be around 15 years BuildFax

9 The Problem with the Solutions The most insightful interviews we conducted identified two different categories of issues with the above strategies that threaten their viability as ways to solve the roof problem: ACV-specific problems and data validation problems. The main concerns we heard about offering ACV coverage on the roof revolve around customer satisfaction and verifying roof repairs. The customer satisfaction issue made more important due to the static nature homeowners insurance market is that customers will not properly understand that they may have to pay significant amounts of money out of pocket to properly repair their roof after damage. Given the aging housing (and roof) stock in the U.S., a very likely scenario is that a customer will need $10,000 for a new roof, but will only get $4,000 from her carrier after depreciation and deductible. Most consumers may not know what ACV is, and some interviewees were concerned that insurance agents may not be explaining it properly to their customers. The second concern we heard about ACV coverage was a concern that where the cost of a repaired roof significantly exceeded the loss payment, customers would take the money and run and leave the roof unrepaired or partially repaired by an unlicensed contractor ( Uncle Bob ). This problem is made worse by the storm chasers, who will have even less incentive to do any significant repairs on the roof with a partial payment. There is a potential for ACV coverage on roofs to open carriers up to significant future risk by insuring roofs that are damaged, where future events may compromise the roof and significantly damage the rest structure and the contents. The other category of problems with the above solutions is data validation: When a carrier is underwriting and/or rating on roof characteristics, the underwriters need to be able to verify that a particular claimed roof characteristic is in fact the accurate roof characteristic. We heard from our interviews that 60% of Florida s wind mitigation credits were unwarranted. This problem is compounded by the fact that homeowners do not provide reliably accurate information, and that agents are very good at figuring out which carriers are lax on validation and how to get questionable roofs through validation. For example, we heard from several agents who talked about which carriers blocked certain zip codes, certain ages of home, and certain roof ages. This means that an underwriting policy that carriers put in place to address 90% of current roof problems may end up only addressing 30% of future problems as agents find that 10% hole and make it much bigger. Key Takeaway: ACV is not a panacea and verifying that roof repairs are done properly is essential. 8

10 Key Trends to Watch Fixing the Solution We heard about a variety of current and planned fixes to the ACV and validation problems mentioned above. The most agile carriers we spoke with saw the current and future roof problem as an iterative process, where the problems get smaller and smaller as carriers are able to target issues with more granularity and with better data. On the ACV front, forward-leaning carriers are tackling potential customer satisfaction issues by focusing more on soft skills training for agents, inspectors, and adjusters. 13 These soft skills are especially critical with the fine-grained and nuanced ACV determinations that are being made about the roof. Some carriers are also monitoring or validating repairs with inspections, imagery, and/or building permits in order to eliminate the take the money and run problem. And every carrier we spoke to that has been successful in beginning to solve the roof problem also emphasizes the importance claims department working closely with underwriting. Many of our innovative interviewees believe that the future of data validation lies in expanding the inspection strategy to an overall data validation strategy, where, depending upon the data point, location property, coverage details, and other factors, either a specific type of inspection is ordered, or a particular data source is consulted. Additionally, some carriers see a role for adjusters in this data validation strategy, providing data from the field. Key Takeaway: Expand inspection strategy to validation strategy and soft skills are critical. Aggressive Validation Strategies: An inspection program, even a very smart one, will need to be augmented with a broader look at combining data validation checkpoints with in-person inspections. This will mean more data and less reliance on human-sourced information. More Data: The need for more precise property details will necessitate the movement away from people (adjusters, inspectors, agents) toward data (including images). Pricing vs. Eligibility: More and more pricing plans will get approved using roof criteria from discounts to credits to rates. Issues with ACV: As the current trend of ACV begins to age in the market place, we will likely see an ACV backlash from regulators, homeowners, and the larger property industry. Keep Up!: As some carriers fail to aggressively implement validation strategies and rigorous pricing plans, the market will take advantage difference and place sub-par risks with the more lax carriers. We can t all be above average thus, the gap will widen. 9

11 Method and Acknowledgements Lately, it seems that the roof is all that the residential homeowners insurance industry talks about. While we at BuildFax have significant data and knowledge around one aspect roof the age we realized that no single, succinct source existed to detail the comprehensive story around why the roof risk is so omnipresent today, and what the industry is doing about it. So we interviewed as many interested parties as possible from the C-suite to actuaries, underwriters, and adjusters at carriers; from agents and inspectors to data, imagery, and platform vendors. This white paper is the result of more than one hundred hours of interviews and discussions, and we hope it is helpful to you. Thank you to all the individuals who participated in the lengthy interview process. The Continuing Conversation on the Roof Risk If you have any questions, comments, or suggestions on the research and analysis we have outlined in this paper, we would love to hear from you. We have created a web site that will have updated versions paper and information on how you can provide us with your feedback. Please visit or call us at Endnotes 1 MunichRE s NatCatService offers great data and visualizations into losses across the industry. See, e.g., 2012 Natural Catastrophe Year in Review, at (last visited April 1, 2013). 2 Climate Change Brings Stormier Weather to the US, Nature, at (last visited April 2, 2013). 3 Ibid. 4 An Aging Housing Stock, NAHB Eye on Housing, at (last visited April 5, 2013). 5 See, e.g., 2013 Price Increase Announcements, JGA Beacon, at (last visited April 10, 2013). 10

12 Endnotes, cont. 6 Hurricane Andrew Prompted Better Building Code Requirements, Business Insurance, at (last visited April 12, 2013). 7 Auto Insurers Chase Drivers with Big Ad Spending, The Wall Street Journal, at (last visited April 12, 2013). 8 See, e.g., Representative and KRCA Highlight New Law to Chase Storm Chasers, surfky.com news, at (last visited April 12, 2013). 9 Insurance Information Institute Presentations, at (last visited April 12, 2013). 10 See, e.g., IBHS Urges Nebraska Homeowners to Avoid Hail Damage by Selecting the Right Roof Covering, Insurance Institute for Business & Home Safety, (discussing the benefits of shingles with a Class 4 rating in 1999) (last visited April 12, 2013). 11 First-Ever Indoor Hailstorm Created at IBHS Research Center, Insurance Institute for Business & Home Safety, at (The IBHS Research Center is a multi-hazard facility that can produce highly realistic wind, hail, fire, and water events) (last visited April 15, 2013). 12 Will Wind/Hail Cosmetic Damage Exclusion Endorsements Become the Norm? Insurance Journal, at (discussing recent filings by AAIS and ISO for cosmetic damage endorsements) (last visited April 17, 2013). 13 See, e.g., Class: Adjuster Soft-Skill, International Insurance Institute, Inc. at (last visited April 12, 2013). 11