Subsequent settlements have included significant compensation and agreements to lower policy fees and reduce surrender ‘penalties’ by spreading charges over the lifetime of the contract rather than taking them in the first year.
In addition to the sizeable compensation bill, the insurance industry is being forced to contend with the damaging impact on its reputation. A survey commissioned by the Dutch homeowners’ association in the wake of television and newspaper coverage of the class actions found that eight out of ten respondents believe that the industry needs to take ‘drastic action’ to restore confidence[1].
The recent experience in the Netherlands has had parallels in many other European countries. The savings, pensions, health and risk protection products sold by insurers are essential elements of the economic and social fabric of everyday life. The scrutiny and associated reputational risks faced by insurers are therefore far greater than almost any other industry. Companies selling policies that can run for many years are especially susceptible to retrospective claims in the event of sharp falls in returns and/or changes in customer expectations.
Insurers have made important strides in seeking to ensure that sales literature is intelligible, products are closely matched to the needs of a particular customer and that the potential risks are carefully explained. However, as the Dutch and other recent experiences have highlighted, conventional safeguards against mis-selling may not always be strong enough to endure over the full lifetime of the policy. So how can insurers protect themselves more effectively?
By definition, mis-selling can only occur at the point of sale. However, customer allegations of ‘mis-selling’ can arise from a broader range of areas including product faults, insufficient risk warnings, actual mis-selling and poor post-sale
[1] Metrixlab carried out an online survey of 572 home owners in April 2008. The results were published in a media release issued by the Dutch home-owners association (Vereniging Eigen Huis) on 19.05.08
communications and management of expectations. This article looks at how to strengthen product governance and risk management across all these aspects of alleged mis-selling.
At the design and development stage, a product may be poorly constructed or ‘mis-labelled’ and may therefore fail to match customers’ reasonable needs and expectations. For example, a contract or element of a contract that is described as ‘savings’ might give rise to a claim if the money received at the end of the policy is likely to be less than what was paid in. This might occur if the age or health of the customer resulted in higher than usual deductions being made to cover the cost of the life insurance element of the policy.
At the marketing stage, the sales material may fail to adequately explain crucial factors such as the nature and extent of the risks and charges. One of the key considerations is how the policy is being distributed. In particular, a product that is sold over the internet provides less opportunity for answering queries and,
crucially, judging whether risks and charges have been sufficiently understood by the customer than a policy marketed face-to-face. The sales and marketing process and associated risk assessment should therefore reflect the differences in distribution.
An example of inappropriate marketing and/or selling is where an endowment or other such policy is sold for the purpose of saving and where the policy includes an element of life insurance even though the customer has no need for or little chance of a successful claim. This is an area where a number of customers have felt they have been affected by mis-selling in the past.
If the company has not done enough to profile the requirements, financial circumstances and risk appetite of a particular customer, they may not be in a proper position to judge whether a specific product is suitable. Once the product is in force, the projections of the policy should take account of key changes in its risk and reward profile. The implications of falls in
equity values and interest rates are clear cases in point and should be evaluated and explained in a timely way.
Clearly, there will always be complaints. What matters is whether the company has made a ‘reasonable’ effort to do the right thing. In the UK, for example, ‘…as long as suitability was established at the time of sale, and the required explanation of risk made, then consumer dissatisfaction about investment returns achieved gives no basis for an allegation of mis-selling’[2] .
The different nature of what could go wrong at particular stages of the design, marketing, sales and after-sales cycle underlines the value of instituting risk assessment procedures and regularly evaluated and enhanced safeguards that look at products throughout their lifecycle.
[2] 'Clarifying mis-selling', UK Financial Services Authority, 17.04.03
Design: One of the key aspects of effective design is stress and field testing of the product to identify its target market and ensure it meets their reasonable needs and expectations. As products become more complex and the associated risks increase, we also believe that it is vital that compliance and risk management are actively involved in the design process from the outset, rather than being consulted immediately prior to launch. Our research suggests that while products are routinely reviewed by risk committees, active input from the control functions in the design process is still generally limited.[3]
Marketing: Focus groups can help to refine product targeting and establish any potential for misunderstanding. It may be necessary to bring together separate focus groups to gauge customer understanding for products sold over the internet, over the telephone or by a financial advisor.
Sales: It is important to look beyond whether the customer is ‘happy’ with the policy at the time of sale to whether it is likely to be suitable for them in the longterm. This is the essence of ‘fair’ treatment. The requirement to ‘treat customers fairly’ is specific to UK regulation at present, but the underlying principle of ‘putting yourself in the customer’s shoes’ is universally applicable.
Post-sales support: Companies should look at how the risk and rewards of products are evolving and any potential factors that could affect this profile in the future. They can then follow-up with the client to explain how the profile of the product may have changed since being taken out or could develop in the future and hence ask/discern whether it continues to meet their needs and expectations. Companies should also examine post-sales communications with their customer to ensure that they are timely, accurate, fair and understandable.
These safeguards should be underpinned by extensive and frequently updated scenario analysis for new and existing products. Experience of the financial crisis would suggest that these evaluations should examine a far wider set of adverse risks and correlations and their potential implications than before – thinking the unthinkable. The results can be built into product design and the communications with existing and potential customers. Rather than seeking to fix any problems with a particular policy or class of products in isolation, the best results come from using cases of alleged mis-selling as an opportunity to strengthen governance and risk management. This includes seeking to identify systemic problems, for example design flaws or insufficient input from compliance or risk management, and then feed the results of this analysis into product design and management throughout the enterprise.
[3] 'Does ERM matter? Enterprise risk management in the insurance industry', a study published by PricewaterhouseCoopers on 24.06.08. To download or order a free copy, please visit www.pwc.com/insurance
This approach offers valuable opportunities as well as better safeguards. Better insights into customers’ needs and expectations can help companies to tailor the design and targeting of their different policies to particular clients and open up valuable opportunities for cross-selling. Greater transparency and better understanding of customer needs could also help to enhance satisfaction and build an enduring lifetime relationship with the client. At a time of market downturn, confidence could be just as important a competitive differentiator as returns.
Any product that can run for 20, 30 or even 40 years is subject to market fluctuations and changing stakeholder demands and the associated risk of mis-selling allegations. Trusting to narrow compliance and contractual small print may not be enough when insurers also face the potentially more damning court of public opinion.
If companies make a reasonable effort to do the right things, even where a claim is made, it is unlikely to be successful. ‘Reasonable’ should include:
If allegations of mis-selling do arise, companies should look at this as a valuable way of identifying systemic faults and strengthening their underlying processes and controls.
Those who design, price, sell and administer the policy, including those who assess whether the promises made as part of the sales literature and sales process are delivered, are all an integral part of the required control framework.
Ultimately, the strongest safeguard against mis-selling allegations is an effective framework of product governance, built around close cooperation between sales, marketing, compliance and risk management, and overseen by the senior management of the company. The starting point for all companies is the recognition that while alleged mis-selling is a serious reputational and strategic risk, when dealt with effectively, it can also present a valuable opportunity.