An Insurance Industry Giant in a Time of Change -AIG case / Froot / Capital Markets class

(Photo courtesy of American International Group, Inc.)

In all those years, just two men have led AIG, and current chairman Maurice "Hank" Greenberg, who took over from founder C.V. Starr in 1968, shows no signs of slowing down.

The insurance business is, however, very different today than it was 80 or 30 or even five years ago. Capital surpluses, deregulation of financial intermediaries, unprecedented merger and acquisition activity, globalization of markets, and advances in information technology have reshaped the playing field and remade the rules.

Greenberg and company have long gone their own way in the business. But even an industry iconoclast is not immune to the changes sweeping financial services, and Greenberg faces many of the same strategic challenges facing the rest of the industry as he moves AIG into the 21^st century.

Late last fall, Greenberg joined Professor Kenneth A. Froot and a class of Harvard Business School students to introduce a new HBS case that looks at AIG and the insurance industry on the cusp of the new millennium.

Written by second year student Heidi Suzanne Nelson under Froot's supervision, the case – "American International Group, Inc." – looks at AIG's history, operations and strategy and at the state of the worldwide insurance industry, including domestic property and casualty insurance and international life insurance — two principal focuses of AIG's business.

(The full case is available for purchase from the HBS Publishing online catalog. Click here to order.)

As Nelson outlines in the case, consistent application of several strategic principles has long set AIG apart from other insurance firms. These principles include the company's imposition of stringent performance requirements, its focus on a global strategy, its organization of businesses by product-focused profit centers, and its maintenance of a flexible capital structure.  (See the sidebar, A Strategy Apart at AIG).

AIG's strategies have helped place the company in a position where, in the words of a Wall Street analyst, it "continues to stand out as one bright spot in a dull and difficult business."

But "dull and difficult" doesn't mean standing still.  In fact, the insurance industry is undergoing vast changes, and the shifting competitive landscape presents challenges for all — large and small, dull and dynamic — who are a part of it.  The AIG case describes five major interrelated trends that are impacting the industry today.

1. Excess Capital. Until recently, cycles of over — and under— supply of capital characterized the insurance industry as premium rates rose and fell.  But driven by a rising stock market and falling interest rates — and despite a decline in premium rates, capital gains grew from 10% of an average insurer's profits to 25% between 1996 and 1999. And in some observers' views, the impact of the capital markets will keep the cycle from returning.
   
2. Deregulation. A slow progression toward deregulation of the financial services industry culminated in the Financial Services Modernization Act of 1999.  The Act, which removed restrictions that had kept commercial banks, insurance companies, investment banks and securities firms separate since 1933, followed on the heels of several major mergers and legal challenges that had already pushed the boundaries of those restraints.
   
3. Consolidation. 1998 was a record year for merger and acquisition activity in the insurance industry, with 565 deals completed for a total value of $165.4 billion, according to the Insurance Information Institute. (See chart).  Deals, driven by an urge to diversify product capability, to merge specific lines of insurance or to buy access to customers, were made possible by deregulation and excess capital. While large banks positioned themselves for insurance acquisitions, major mutual insurance companies moved to demutualize for access to capital and a place in the reshaped financial industry.
   
4. Globalization. Globalization in the insurance industry, according to the HBS case, has been driven by four major trends: slow growth in the insurance markets of industrialized countries; a decline in protectionism worldwide; privatization of pension plans in many countries; and the need to maintain independence as companies found that "they no longer had a choice simply to stay local." 
   
5. Information Technology. After a slow start, insurance companies have started to follow the lead of other financial institutions in moving to the Internet, with broad implications for distribution, marketing, customer service and other aspects of the business. Information technology makes it possible for insurance companies to sell products directly to the customer, but it also makes it easier for financial service brokers to mix insurance with offerings to customers of other products and services.  "Indeed," writes Nelson, "it was unclear whether change was shifting market power from brokers toward insurers, or vice versa." 

What do these trends represent for a company like AIG, with stringent underwriting policies, innovative products, an AAA credit rating, and a considerable global presence?  Can AIG maintain its position in a new and uncertain environment?  How should it respond to the impact of technology on distribution channels? Does its strategy have to change?  These are some of the questions facing Hank Greenberg in the new millennium.  The insurance industry and those who follow it will no doubt be watching to see how he answers.

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