Pointing to data from the Workers' Compensation Insurance Rating Bureau he noted that the rate of the commissions have varied greatly as well as the gross amount of commissions paid.
Brokers were paid about $1.37 billion in 2004 and $941.6 million in 2012.
At the same time, the rate of commissions has varied widely as well – ranging from 7.9% in 1999, to a low of 5% in 2005, maxing out at 8.2% in 2011, and settling at 7.8% in 2012.
So I called up another friend, Don Chambers, CEO of brokerage Colonial Western Insurance Agency in Camarillo, CA (near WorkCompCentral luxuriously appointed world wide headquarters).
Don explained that virtually all carriers distribute their product, insurance, through brokers. The direct model doesn't seem to work for employers with more than just a couple of employees. So, in the first instance, brokers produce the market for carriers - they are a necessary market intermediary to enable the distribution of insurance product to the consumer, i.e. employers.
Brokers analyze the risk and exposure of an employer and then match up those characteristics to certain, appropriate carriers. Don explained that not all carriers will take just any business; the appetite for risk is different between different carriers with the carriers having different expertise in certain risk categories or having certain levels of comfort for expanding into new categories. The broker needs to know the employer's risk and be able to match that risk to the correct carrier.
The broker also analyzes an employer's losses, serving as the advocate for the employer in reviewing individual losses, claim activity, loss payments, return to work processes, etc. as against the carrier's claim management. It is the broker's oversight that helps to ensure a lower experience modification factor, if the broker is doing its job in advocating for the employer during reviews with the carrier claims staff.
The broker, in the same instance, provides an analysis of the flow of losses; i.e. safety controls and loss controls. This is different from what carriers do; while carriers may provide some safety consulting, their services are not focused on changing behavior at the employer level - i.e. analyzing and finding out and implementing strategies to correct the underlying reason for the safety/loss lapses.
Don also explained that brokers review unit statistical filings for employers. While carriers report what's on the books, the broker wants to know why a claim was not closed because the only true way to save an employer money in the long run is to control the experience modification factor.
How about the fluctuations in commissions? Don said that commissions depend heavily on the availability of coverage and the flow of the market. Look at the graphic above and you will note that during the "hard market" in the early 2000s, when California experience a shortage in capacity, commissions shrank in both rates and gross payments. When an insurance market constricts, as it dramatically did during that period of time (i.e. carriers not taking business) then commissions shrink as well - this is because carriers don't want brokers bring them business to write.
On the other side, though, when times are good and carriers want to write more business then commissions are more generous.
Bill noted that the almost $1 billion brokers were paid in 2012 is neutral to the economy. The carriers mark up the premiums to cover the commission. The employer rolls the cost of the premium into the cost of his goods and passes it on to the public. The brokers spend that money in the economy. So, in the long run it is just a re-distribution of wealth – take from one group, give it to another group, who eventually spends it on the first group.
Macro-economics aside, Bill said, it’s important for the public to understand that almost $1 billion (almost 8%) of the cost of work comp premiums are going to a group of people that service the employers as their representative to the insurance carriers.
Bill's take away from his foray into broker commissions are really applicable to nearly any business. They are:
1. Cannibalize your industry before someone else does. Rip out all the costs and return them to the customer – think Charles Schwab, Amazon, and Expedia.
2. Outsource to the customer. Let them perform all the administrative tasks. Not only does this cut administrative costs, it gives the customer more control and satisfaction.
3. Create learning interfaces. Show them how to manage their own accounts.
4. Give away as much information as possible. An educated client is, by far, much easier to handle and profitable to deal with.
So there you go - another little lesson in workers' compensation dynamics. And you thought quantum mechanics was interesting.