After another tough year in the California workers’ comp market, State Compensation Insurance Fund (SCIF) officials revealed that the carrier continued to lose business in 2010. Overall, net premiums earned came in at $1.136 billion for the year, down 9% from last year and off budget by 11%. And its policy count is now down to approximately 161,000 — an 11% drop from last year and off budget by 4%.

Despite SCIF allowing brokers to take direct business on broker letters, it appears that they chose to place business with other markets.

Yet against this backdrop, the carrier reports an improved combined ratio, with the still-high rate of 157.2%. Is that much-debated employee relocation plan already cutting costs even before it’s implemented? That’s expected to save some $200 million, but the changes aren’t being felt yet. Instead, the difference comes from a change State Fund is making to bring the calculation it uses to compute its combined ratio in line with the industry’s standard methodology.  A math trick, if you will.

 …It’s not really the industry standard that most companies use for reporting themselves.”
—Dan Sevilla, SCIF Chief Financial Officer

State Fund Chief Financial Officer Dan Sevilla notes that the carrier has always included “other expenses” along with its underwriting and loss and loss adjustment expenses when it calculated its combined ratio — something the rest of the industry excludes from the formula. For State Fund, other expenses are primarily uncollectible premiums.

“That methodology is something that State Fund has been doing and is consistent with the annual statement reporting, but it’s not really the industry standard that most companies use for reporting themselves,” Sevilla told State Fund’s board of directors, noting that this will make the measure a true reflection of its underwriting experience.”This is the measure we’re going to be using going forward.

With the old management having been out for more than four years, the relevant question is why now? And why not then?

In 2010, State Fund had $80 million in other expenses that, when included, pushed its expense ratio to 90% and its combined ratio to 164.9%, up from 161.3% last year and a budget of 161.5%. But with the change, State Fund reports a significant reduction when compared to last year. State Fund’s 2009 combined ratio using this formula was 157.8%.

State Fund President Tom Rowe says the move will help the carrier compete on more even footing with private-sector carriers when brokers and others review carriers’ combined ratios with their clients. “It simply creates a more accurate comparison as the industry — brokers, competitors, regulators — look at our combined ratio,” he maintains.

But even with a more accurate comparison, the divide still looms large. The Workers’ Compensation Insurance Rating Bureau estimates the industry’s combined ratio is at 127%, so even with the change in methodology, State Fund’s ratio is still way out of line with the rest of the industry in California.

That SCIF had an $80 million charge-off for uncollectible premium is notable as well, but the total is inflated by one large workers’ comp fraud case. Sevilla notes that the total includes a $33 million write-off for just one fraud case — the case of Orange County roofing contractor Michael Petronella. After that scheme was uncovered, Sevilla says State Fund booked what it should have earned in premium but then wrote it off as uncollectible.

Beyond the loss of business, the uncollectible premiums and the changes in its combined ratio, State Fund still came out ahead for the year, with net income of $171 million. The total was helped along by an increase in net investment income to $861 million.

 Bleeding Continues, Competition Changes

Noting the losses in 2010 due to California’s competitive market, Rowe warned the carrier’s board that the pressure is continuing into 2011. “What we are starting to see is a change in the complexion of competition,” he noted. “We began to see a change in 2010, and that change has accelerated and clarified itself in January as we analyzed the results.”

“It simply creates a more accurate comparison as the industry — brokers, competitors, regulators — look at our combined ratio.”
—Tom Rowe, SCIF President

Rowe says the historical workers’ comp specialists in the California market and the large national carriers continued to take some business from State Fund in January, “but we actually lost very little. We lost less than we had been losing and at price differentials that are rapidly narrowing.” He says State Fund’s main competition is now from smaller, more recent entrants in the California market — primarily carriers that entered just before or just after the reforms — which are taking business away at prices completely out of State Fund’s ballpark.

“For the most part, we lost that business at pricing differentials that exceeds our filed ability to compete. So even if we wanted to match price, we would violate our filings if we in fact did match prices,” Rowe says. “While in some respects we celebrate capital willing to subsidize employers by lowering comp costs below a reasonable rate of return, our discipline is focused on maintaining what we think is a fair price to cover our expected loss costs and cover a reasonable level of expense.”

Rowe characterized this change in the character of the competition as a leading sign of the market beginning to shift from a soft market to a “hardening and more disciplined environment.” 

(Filed by Brad Cain in San Francisco)