In his 1999 book "Business @ The Speed of Thought: Using a Digital Nervous System", Bill Gates predicted the end of middlemen:
" ...the Internet's promise of cheaper prices and faster service can disintermediate you, eliminate your role of assisting the transaction between the producer and the consumer."
Reality has played out differently. Between 1999 and 2010, just as the Internet was transforming our world, middlemen's share of GDP in the U.S. grew from 25% to 34%. Instead of shutting doors, the Internet opened up new ones that middlemen have entered through1. Nowhere is this more apparent than in commercial insurance, with its middlemen, the MGA (Managing General Agent).
Rather than disappearing from commercial insurance, MGAs have risen in prominence. In our hyper-competitive Darwinian Economy, everyone wants to move closer to the customer – and the MGAs is already there. With deep underwriting expertise in niche markets and the agent networks to serve them, MGAs have a unique and trusted relationship with their customers. Meanwhile, others further back in the chain are maneuvering to leapfrog the MGA. It’s a scenario we call The Value Chain Wars.
Value Chain War Beginnings
To understand the Value Chain Wars, it’s worth going back in time. The insurance value chain was, for the most part, steady for years. There were few external forces causing any real disruption. That started to change a decade ago when capital started flowing into the industry.
Investors burned by the dot-com bubble of the 1990s and the Great Recession of 2008 flocked to the insurance industry, attracted by its long-term stability and the positive outlooks of many insurance carriers. Starting with the reinsurance market, capital from hedge funds and other capital asset managers2 entered as alternative capacity which increased from 8 to 15 percent between 2008 to 2015(Guy Carpenter). Capital also flowed into the industry in the form of InsurTech funding, which reached $3 billion in 2015 (CBInsights).
This influx of capital fostered intense competition as insurance rates fell and policyholder surplus rose (reaching $742 billion by the end of 2018). Margins fell, too, as the industry segued into what many called a “permanent soft market”.
Carriers responded by seeking to retain more of the premium through expense reductions. Commissions were a prime target. Carriers began to bring all pieces of the value chain in-house, either by acquiring or building out MGA insurance capabilities. (Berkshire Hathaway was one of the first to do this). By doing business directly with insureds, carriers could bypass MGAs and eliminate commission expense3.
In other examples, reinsurers partnered with MGAs to bypass the carrier, or with fronting carriers to bypass both. According to Dennis Chookaszian, University of Chicago President and the former CEO of CNA, the profitability of an insurance transaction started shifting from underwriting to distribution4.
The MGAs Respond
Facing competition from carriers and reinsurers, MGAs drew on their expertise in niche markets (the program business), their strong relationships with insureds, and value-add services to fight back. Larger MGAs took advantage of abundant capital to acquire smaller MGAs, creating super MGAs (over $1 billion in premium) that were simply too big to attack directly5. MGAs also began to purchase carrier- class systems to control the power of the pen as carriers unbundled underwriting and policy administration (Figure 1).
The financial markets embraced the MGA strategy, with the average acquisition price for distributors averaging 10.86 times EBITDA in the first quarter of 20196. Specialty distributors with higher margin books of business commanded even more.
The Carrier Strategy Hits a Bump
As the Value Chain Wars unfolded, carriers faced a critical issue that hampered the execution of their strategies. Earlier in the decade, carriers began selecting suites for core system replacements. Suite vendors provided a one stop shop for policy administration, claims, and billing. Promising a fully integrated data model and “one throat to choke”, suites required complex, multiyear projects with million-dollar budgets7. This approach was fine in a relatively stagnant market but was ill-suited for the dynamic environment carriers now faced.
In the commercial market, carriers saw their most profitable business erode as more agile carriers and MGAs moved into their space with products more responsive to the customer, and the ability to change rates quickly to match pricing trends. This required carriers to change their technology strategies.
The Value Chain Wars Today
The Value Chain Wars have produced four major changes in the approach to systems:
As the Value Chain Wars continue, it’s still unclear who will emerge as a clear winner. Meanwhile, the various combatants are pursuing strategies to solidify their positions. One such strategy we’ve encountered more frequently is the carrier refresh of multi-line product with systems such as Instec Policy9. These are the projects we call Complex Commercial and will be the subject of a future post.
 For an in-depth analysis of this topic, I highly recommend Marina Krakovsky’s book The Middleman Economy
 Capital increased in the world as companies like Google and Facebook generated billions of dollars of value with very little capital investment, capitalism without capital as it is called. This money has piled up in pension fund assets waiting for investment; $36 trillion by end of 2018.
 This was not the only strategy carriers used. They also attempted to reduce claims and general administrative expenses via business engineering processes. Commissions were attractive because they were seen as low hanging fruit.
 This move also helped MGAs fend off assaults from the other direction as large retail agencies started acquiring or building MGA operations as a way to enter the space
 It was common for projects to have 5 to 10-year time frames with actual costs exceeding $50 million.
 This is one of the drivers behind Instec’s enormous success over the last 3 years. Very often we work side by side with suite vendors, each serving a different business need.
 Instec has completed several of these projects successfully, encompassing product refreshes of 7-10 lines in as little as two years.
Kevin Mason has worked in many aspects of software development since 1981, including roles as product strategist, software development methodologist, project manager, and technology architect for companies such as Cincinnati Bell Information Systems, SHL Systemhouse (now part of EDS), AGENCY.COM, and GENECA. He joined Instec in 2008 and is responsible for development associated with all products. He holds a BA in Political Science, from the University of Iowa and an AS in Computer Science.