While the end of the assigned risks pool may encourage more insurers into the market, professional indemnity insurance for law firms is as competitively priced as ever.
As law firms experience constant pressure to rein in costs, the pricing of professional indemnity insurance (PII) is high on the agenda. As PII is typically law firms’ third-largest expense, after staff and premises, that 76% of respondents said that they found PII generally to be reasonably priced (a marginal increase on 71% last year) is good news for firms generally. But despite widespread reports of an increasingly soft market, the number of respondents saying their insurance is over-inflated has increased from 7% to 17%.
‘I think it was a soft market this year so prices have gone down slightly,’ says Roger Butterworth, GC and compliance officer for legal practice (COLP) at Bird & Bird. ‘Insurers are becoming more sophisticated in choosing between good risk firms and poorer risk firms. Therefore, those who have seen premiums go up need to reduce their risks internally.’
Sandra Neilson-Moore, European practice leader for law firms’ professional indemnity at Marsh, shares a similar view: ‘The market was very soft last year. Lots of competition. Firms really only had a problem if they had a poor claims record causing lack of competition. Or, if they had an inferior broker, of course.’
‘Risk, in itself, can be impossible to value because
the thing you warned against, by definition, didn’t happen.’
Tony Cherry, DAC Beachcroft
Tony Cherry, head of the risk function at DAC Beachcroft, says that it is difficult to gauge whether PII is fairly priced, as this depends on each individual law firm and its circumstances. He says: ‘Risk, in itself, can be impossible to value because the thing you warned against, by definition, didn’t happen. You have to be a masochist to do the job.’
Farewell to the pool
The PII market will undergo its biggest structural change in a decade with the abolition of the assigned risks pool (ARP) and the end of a single renewal date in October. The ARP will be replaced with a system where insurers can offer a three-month extended policy to law firms who cannot obtain PII for the following year – after that period they will face closure if they cannot obtain cover. The insurers and larger, insured law firms will share the cost burden of this follow-on period.
Many risk managers believe the phasing out of the ARP may lead to the opening up of the PII market, further increasing competition and reducing rates for the largest firms and sole practitioners. Cherry says that the abolition of the ARP is good news for law firms: ‘Ignoring social considerations for a moment, I would say “and a good thing too”. If they are not insurable, they shouldn’t be in practice.’
Many law firms would agree as they were frustrated with a regime which required them to pay extra in their premiums to provide a safety net for firms that cannot get qualifying insurance. Insurers were also exasperated that they were effectively insuring firms that had taken refuge in the ARP as an ‘insurer of last resort’.
However, Cherry warns that the ARP needs to be phased out carefully over the next few months. ‘We welcome a reduction in the size of the ARP and are prepared to play our part in an ordered restructure of this part of the market,’ he says. ‘But the sudden collapse of a large number of small firms would not be in anyone’s interests.’
‘Insurers are becoming more sophisticated in choosing
between good risk firms and poorer risk firms.’
Roger Butterworth, Bird & Bird
The ARP has long been a drain on the insurance market. Since moving to the open PII market in 2000, law firms have endured premium price hikes and the introduction of ARP caused more consternation. In 2011 the Solicitors Regulation Authority (SRA) decided to scrap ARP when it found that the cost of funding had risen year on year (it accounted for 15% of all PII premiums for law firms last year). This is despite a drop in firms applying to the ARP (only 28 firms in 2012, as opposed to 53 in 2011, and 411 in 2010).
One senior risk manager hopes that next year will be better for the legal profession. ‘Ultimately, we say we are sharing with the insurers but we’re paying for it, really,’ they say. ‘We may be sharing, but they’ll just charge us for it the following year. There’s sharing and there’s sharing, isn’t there?’
In last year’s report Neilson-Moore said that abolition of the ARP and the single renewal date should not affect premiums, but that it could result in more insurers coming into the market and bring more competition into play.
So far, her predictions have been accurate. As the deadline is not until October, Richard Harrison, a partner who heads up the lawyers’ professional liability sub-group at Clyde & Co, says he does not expect any material change to premiums this year because of the abolition of the ARP. ‘At present the cost of the ARP is spread throughout the market for qualifying insurers pro rata to the amount of business they write,’ he says. ‘So whereas the insurers have to date been paying their ARP contributions and charging them back to the law firms by way of an uplift to their premiums, in future they will instead be pricing in the anticipated cost of providing run-off cover to firms which cease to practice when on their books.’
The demise of the ARP has also attracted speculation from insurers competing in the PII market. The cost of the ARP is likely to have a positive effect on insurers due to the reduced number of ARP firms and the reduced claims position.
The abolition of the single renewal date is also positive news for larger law firms in 2013, according to Simon Callander, GC and COLP at Olswang. He says that going forward it will bring significant changes. ‘It will allow firms to better align their PII arrangements with their other financial arrangements,’ he says. ‘If people start to move those periods it will reduce the stress on the market, because everything currently has to go through one funnel at one point in time.’
1) What is the annual cost in pounds sterling for each £1m of insurance purchased, within the first £10m of the firm’s coverage?
2) What is the annual cost in pounds sterling for each £1m of insurance purchased, in respect of the total limits of the firm’s coverage?
3) Average total insurance cover for the Top 100 UK firms
Exactly how these two key changes will affect law firms’ PII arrangements is not yet known, but there are some variables that can be certain: under the new regime, insurers and the insured can agree to a different policy length, as long as firms can demonstrate to the SRA that they have a policy of insurance in place as part of the practising certificate renewal process.
The consequences of both these scenarios is the increased appetite for newcomers to enter the market. The Law Society said recently that it hopes that more rated insurers will enter the market in 2013 once the ARP is abolished. Three new entrants are predicted for 2013 – Axis, Elite and AmTrust – and that some insurers might return to the market following a prolonged absence.
Certainly although the majority of law firms say that their PII is fairly priced, feelings about whether the insurance market is competitive are more mixed. Just over half (57%) of survey respondents feel there is adequate competition in the insurance market, while a third feel there definitely is not. One respondent in particular commented: ‘Competition among rated insurers is getting thin. We would not consider a non-rated insurer.’
Despite most risk specialists welcoming increased competition in the market, most are sceptical that the abolition of the ARP and the arrival of new insurers will have a material effect on premiums. Martin Bakes, GC at Herbert Smith Freehills, says that a raft of new insurers should drive down premiums but this might not necessarily materialise in reality. He says: ‘If you are getting more entrants into the market, there will be more competition, and you would expect the market to soften further, rather than harden, but the general sense is that there isn’t going to be a lot of room for the market to soften. I would be very surprised if the market changes rapidly.’ He also suggests that firms should be cautious of newcomers making an entrance. ‘Some, on the face of it, do damage to the market and underwrite for cash, and seem to be very cheap and don’t last long. Personally, I am looking for able underwriters.’
1) Is there adequate competition in the solicitors’ PI market?
2) Do you think your firm’s PI insurance is reasonably priced?
3) How has the cost of the first £10m of the firm’s coverage changed, compared to last year?
4) How has the cost of the total limits of the firm’s indemnity changed, compared to last year?
Source: Marsh/Legal Business RM Survey
In light of the anticipated changes over the next year, costs remain at the forefront of law firms’ minds. In our survey we asked firms to reveal whether the costs of the first £10m of the firms’ cover had changed compared to last year. 32% said it had increased, while over half said it had decreased. Bakes says that this is because there are relatively few rated insurers competing to underwrite the first £10m for firms in the LB100. He added that in the scrum for clients, insurers are willing to undercut each other to win the business.
Other heads of risk believe that this decrease could be down to factors specific to the firm. One says that it could be because the risk profile of the firm had changed, due to a combination of a better claims profile and reduced turnover, meaning that its rating had changed.
In a soft market, the causes of premium fluctuations are clear. ‘The ones with decreases were likely ones with flat or reducing revenues or, ones who changed insurers to get a better deal,’ says Neilson-Moore. ‘The ones with increases probably either grew substantially (through merger or otherwise) or had increases imposed upon them because of a poor claims experience.’
Changes in size or turnover will have a material and inevitable effect on PII premiums but for those that are unchanged structurally or financially and are still unhappy with their insurance costs, targeting the risk profile is key. As Julia Graham, chief risk officer at DLA Piper, says: ‘If firms fail to invest in risk and can’t evidence their commitment, this may have an impact on price.’ LB
miriam.fahey@legalease.co.uk
Legal Business would like to thank Marsh for its sponsorship of this survey.