McKinsey Insurance Practice

McKinsey Insurance Practice
State of the US Industry 2016

10 Questions to reflect on…
CHI-AAA 10 Questions to reflect on… 1 1 Where has the industry been and where are we headed? 2 Are insurance cycles dead? 2 3 Will we see more M&A and consolidation? 3 4 Can carriers avoid becoming commoditized by brokers? 4 5 5 Is the decline of personal auto insurance real or just hype? 6 Will small com-mercial go the way of personal lines auto? 6 7 7 What do alterna-tive sources of capital mean for the future? 8 What are the implications of digital and other disruptors in the industry? 8 9 How can carriers cut the Gordian knot of legacy IT? 9 10 How should the industry restock the talent pipeline? 10

10 Questions to reflect on…
CHI-AAA 10 Questions to reflect on… 1 1 Where has the industry been and where are we headed? 2 2 3 3 4 4 5 5 Are insurance cycles dead? Will we see more M&A and consolidation? Can carriers avoid becoming commoditized by brokers? Is the decline of personal auto insurance real or just hype? 6 Will small com-mercial go the way of personal lines auto? 6 7 7 8 8 9 9 10 10 What do alterna-tive sources of capital mean for the future? What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

The industry still remains largely fragmented
WHERE HAS THE INDUSTRY BEEN AND WHERE ARE WE HEADED? CHI-AAA 1 The industry still remains largely fragmented Top 20 carriers Next 100 carriers Rest of the industry CL 170 CL 120 PL 55 CL 60 PL 35 PL 210 Total premium (2015GWP, $B) Total: $380Billion Size: $5-60 Billion Total: $175Billion Size: $1-5 Billion Total: $95Billion Size: <$1 Billion GWP growth CAGR ( ) PL: 4% CL: 3% PL: 2% CL: 6% PL: 7% CL: 4% Avg. net CR ( , %) 99 101 1071 1 Average for next 200 carriers SOURCE: AM Best, McKinsey Analysis Let’s start by discussing the overall structure of the P&C industry in the US and which carriers are growing faster than others – here we have broken down the market into the Top 20 carriers (GWP >5B, the next 100 (GWP >1B), and the “rest of the industry.” There are a few interesting things to note: The first is that the industry remains highly fragmented, with 40% of premiums coming from carriers outside the top 20. This fragmentation is more pronounced in commercial lines – where only ~50% of GWP is coming from the top 20 carriers, compared to ~70% in PL Smaller carriers also have been growing faster than the Top 20 (5% vs. 3%) – a big part of this is driven by the recent pullback of AIG and the fact that many of the large personal lines writers have a significant percentage of their business in Auto, which has been a slower growing LOB the past few years

WHERE HAS THE INDUSTRY BEEN AND WHERE ARE WE HEADED?
1 In the U.S., combined ratios were better than historical averages for a third consecutive year… U.S. P&C Industry Net Combined Ratio % Net combined Ratio Averages = 99% = 98% = 99% 2006 07 08 09 10 11 12 13 14 15 SOURCE: SNL Regarding profitability, the overall P&C industry had a third straight profitable year in 2015 (these are statutory, calendar year results). While these results are certainly better than the long-term averages, there are a few areas that give cause for concern: The industry has had 3 straight below-avg. years for cat losses, which has been a big driver of these results and may have masked more challenging “underlying” conditions The industry also continued to release reserves, contributing to these results – as reserve redundancies are exhausted, this will impact overall results (as we have seen with large reserve increases at companies like AIG) The low interest rate environment is challenging overall returns – so even though the CRs look good for the industry, overall ROEs are still being pressured due to limited investment income Looking forward, as we return to “normal” cat losses and reserve releases taper down, we’d expect results to revert back to closer to the long-term averages (~100% CR) in the coming years

…with Specialty lines outperforming the rest of the industry
WHERE HAS THE INDUSTRY BEEN AND WHERE ARE WE HEADED? …with Specialty lines outperforming the rest of the industry 1 Average Combined ratio, % Average Combined ratio, % Avg. Net CR, % Home 103% 101% 102 Auto 99% 102% 101 Small Commercial 96% 102% 99 Mid-Market 97% 100% 99 Large Commercial 100% 108% 103 92 Large ex AIG 91% 93% 97 Specialty 100% 96% SOURCE: SNL Next, let’s look at performance across different segments of the P&C market. A few interesting trends can be observed: Most of the segments consistently run above or very near a 100% CR, showcasing the overall challenging conditions in the market Only two segments consistently have produced excellent results over the last 5 years: Large commercial business, excluding AIG – AIG’s poor recent performance actually masks what has been quite solid results for most large commercial carriers over the past 5 years Specialty products, which include lines such as Surety, MedMal, Product Liability, and other specialized products The basic takeaway is that unless you are competing in segments where specialized, niche expertise is differentiated & valued by clients, the environment is currently very challenging for carriers

Scale to compete - Personal Auto and scale of the “Big 15”
WHERE HAS THE INDUSTRY BEEN AND WHERE ARE WE HEADED? CHI-AAA Scale to compete - Personal Auto and scale of the “Big 15” 1 Personal auto market share of top 15 carriers1 % of total personal auto premium ? 64 58 1970 1980 1990 2000 2015 2022 1 Allstate, The Hartford, Progressive, Mercury, MetLife, AAA, Erie, Nationwide, Farmers, Geico, State Farm, Travelers, USAA, Liberty Mutual, American Family Next, let’s focus on the importance of scale. We discussed earlier that the industry remains highly fragmented – the one exception to this is Personal Auto, where the top 15 carriers have captured significant share over the past ~35 years. A few interesting things to note about this: For the most part, this scale has been driven by organic growth, rather than M&A This growth has largely been fueled by marketing, with carriers with strong brands consistently outperforming others in terms of growth Moving forward, as other segments of the market – such as small commercial – look more similar to personal auto, with stream-lined UW, more direct to consumer engagement, and increasing use of analytics, we expect scale to become even more important in the years ahead.

WHERE HAS THE INDUSTRY BEEN AND WHERE ARE WE HEADED?
CHI-AAA Increasingly, the “Big 15” (in fact the “Big 7”) are growing at the expense of the rest 1 Personal auto market share of top 15 carriers1 Change in market share Big 15 9% 6% 16 to 30 Rest of the industry 1 Allstate, The Hartford, Progressive, Mercury, MetLife, AAA, Erie, Nationwide, Farmers, Geico, State Farm, Travelers, USAA, Liberty Mutual, American Family The chart reinforces the point I made a moment ago, showcasing the change in market share for the top 15 carriers versus everyone else. As you can see on the RHS, only the Big 15 PL carriers have captured share since 2005 Moving forward, we’d expect segments such as small commercial to look very similar to this over the next 10 – 15 years

Today, NAM makes up ~40% of overall global P&C premiums…
WHERE HAS THE INDUSTRY BEEN AND WHERE ARE WE HEADED? CHI-AAA Today, NAM makes up ~40% of overall global P&C premiums… 1 P&C insurance premiums,2013, $ Bn (%) Emerging Mature US and Canada 603 (39%) UK 73 (5%) Eastern Europe 52 (3%) Germany 88 (6%) Other W. Europe1 189 (12%) France 87 (6%) China 99 (6%) Japan 112 (7%) India 12 (1%) Other Mature APAC2 98 (6%) Middle East & Africa 27 (2%) Other Emerging APAC3 18 (1%) Latin America 84 (5%) SOURCE: McKinsey Global Insurance Pools database Now, let’s look at the global landscape and where overall premiums are coming from today. As you can see from this chart, the vast majority of premiums are still coming from “developed markets” – with North America and Europe alone accounting for ~70% of all premiums. Despite the explosive growth of China, India, and other markets recently, the profit pools remain heavily skewed toward developed countries – this is particularly true in Commercial lines, as the lack of legal infrastructure (reducing the need for liability insurance) & limited large scale commercial development in many developing countries has caused the commercial insurance market to be much less penetrated as a % of GDP in developing economies compared to developed markets (2.0% of commercial GWP as % of GDP in N. America vs. ~.8% in Asia)

CHI-AAA 10 Questions 1 Where has the industry been and where are we headed? 2 2 Are insurance cycles dead? 3 Will we see more M&A and consolidation? 1 3 4 4 5 5 Can carriers avoid becoming commoditized by brokers? Is the decline of personal auto insurance real or just hype? 6 Will small com-mercial go the way of personal lines auto? 6 7 What do alterna-tive sources of capital mean for the future? 7 8 8 9 9 10 10 What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

ARE INSURANCE CYCLES DEAD?
CHI-AAA Is the Insurance cycle dead? Cycle amplitude has been modulating over time 2 Total Industry Personal Lines Commercial lines Premium growth rate, Percent 1985 1990 1995 2000 2005 11 2014 Next, let’s focus on insurance cycles. Much has been discussed about whether insurance cycles are “dead”. As you can see in this chart, while their have still been ebbs and flows in market pricing, we have not seen the 20 – 30%+ rate increases of the late 1980s and mid 2000s in quite some time, with the overall magnitudes of rate changes becoming less pronounced

ARE INSURANCE CYCLES DEAD?
CHI-AAA 2 How “big” would a “bad event” need to be? Industry has $690B in capital (historical high), which is $1 of surplus for every $0.72 of premium Policyholder Surplus (capital) US $B Premium to Surplus Ratio Percent 693 156 647 160 590 150 569 551 140 518 501 507 502 140 139 439 130 126 123 402 129 357 120 112 321 111 108 294 291 110 103 105 230 97 100 92 88 88 88 139 90 84 85 85 83 77 77 80 77 72 60 90 00 2005 2010 2014 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 A big driver of this is the sheer amount of capital in the market: Capital levels are at all-time highs, with ~700M of capital supporting the US market Premium growth has not grown in line with capital, as evidenced by Premium to Surplus ratio being at all-time lows (.72:1) at half of the ratios from 25 years ago This increased capital – along with the additional “alternative capital” waiting in the wings if rates harden – is leading to an imbalance b/w supply and demand that is mitigating the market cycles. To illustrate this point, consider this fact: To arrive at the premium to surplus ratios of the last “hard market” in the early 2000s, ~250B of capital would need to exit the industry This means that only a VERY significant event – much larger than the largest cat event on record (Katrina, ~50B in 2015 dollars) – is likely to cause significant hardening

Supply and Demand would indicate Cycles will continue to “flatten”
ARE INSURANCE CYCLES DEAD? BVA GE1-v6 2 Supply and Demand would indicate Cycles will continue to “flatten” Industry is highly capitalized and is now near peak levels Rating agencies and financial analysts are paying increasing attention to capital/reserve adequacies and management discipline Lower frequency is leading to soft “demand” for coverage by companies Companies have better management of Underwriting and Pricing, enabled by technology, resulting in less tolerance for “underpricing” There has been meaningful exit of naïve capacity In addition to the high capital levels, a few other factors are likely to mitigate market cycles: More sophisticated rating agencies & market analysts who will be much more critical of poor mgmt. discipline Softening demand among insureds, who also are likely to be more sensitive to future rate increases The exit of “naïve” capacity – such as AIG – from a number of market segments, which will likely cause fewer wild swings in market pricing

CHI-AAA 10 Questions 3 Will we see more M&A and consolidation? 3 1 1 2 2 4 4 5 5 Where has the industry been and where are we headed? Are insurance cycles dead? Can carriers avoid becoming commoditized by brokers? Is the decline of personal auto insurance real or just hype? 6 6 7 7 8 8 9 9 10 10 Will small com-mercial go the way of personal lines auto? What do alterna-tive sources of capital mean for the future? What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

WILL WE SEE MORE M&A AND CONSOLIDATION?
CHI-AAA 2015 was marked by a wave of M&A as well as Asian capital entering Western markets 3 2013 2014 2015 $X.XB Transaction value Re-insurers/ Specialty $7.5B $1.9B $1.0B $1.7B $6.9B $0.7B $0.7B $1.8B $5.3B $1.4B $0.6B $3.8B $1.0B $2.2B N/A Other P&C $1.1B $0.9B $28.4B $8.7B $0.6B Life $3.8B $1.1B $1.8B $5.6B $0.9B $5.0B $0.7B Note: All reported transactions above $0.6B since 2013, includes US, Bermuda, and Lloyds transactions only SOURCE: SNL Financial, Press Reports 2015 saw a large influx of M&A compared to prior years, across both P&C and Life. Aside from two mega-deals (ACE- Chubb and Towers – Willis), these deals were driven by two factors: Pressure in the reinsurance market – due to the large influx of alternative capital – is leading to a large wave of consolidation amoung reinsurers/ Specialty carriers There was a large influx of Asian capital into the industry – with Asian insurers and fund managers spending ~40B on acquiring “western” assets over the past 3 years. This has been driven by two factors: Japanese carriers having limited growth prospects in their local market, so expanding internationally – such as Tokio’s acquisition of HCC & a number of Japanese life insurers being US assets Chinese insurers and investment funds purchasing Western assets to reduce the volatility from their home market & also access Western carriers’ expertise (such as China Minseng Investment’s acquisitions of White Mountains Re)

CHI-AAA 3 Despite recent M&A, U.S. industry structure for commercial lines has largely stayed the same Share of Commercial P&C market Percent, NWP Top 3 3 - 10 11 to 20 Others 2006 2010 2015 SOURCE: SNL; McKinsey analysis However, despite this M&A, the structure of the commercial lines insurance market is essentially unchanged from 10 years ago, with the top carriers actually having less share than they did in This is due to two factors: The first is that the recent M&A did not actually cause much consolidation – aside from ACE-Chubb. Because it was mainly Asian carriers w/out large existing US books buying carriers, or else reinsurers with small primary books acquiring each other, the vast majority of these deals did not truly consolidate any business The second is that a few large carriers – must notably AIG – have pulled back during this same time period, reducing the overall market share of top carriers

CHI-AAA The realistic universe of carriers that could be viable for M&A activity is limited (Commercial lines example) 3 Breakdown of Carriers < $1B NWP Number of carriers US P&C carriers by size (NWP ‘14) % of Total Breakdown of Carriers >$1B NWP Number of carriers >3B 1B to 3B Others 1,013 71 Remaining Carriers 30 100% = 1,084 Carriers 29 Remaining Carriers ownership (>$15B) ownership1 Mutuals1 283 3 3 94 Mutuals 250M NWP 671 1 Includes companies owned by holding companies (e.g., Geico/Berkshire), large Foreign Carriers unlikely to sell (e.g., Philadelphia/Tokio, HSB/ Munich Re, QBE), and unique ownership structures (e.g., USAA, State Compensation Fund) SOURCE: SNL Looking forward, despite the industry being overcapitalized, we do not expect significant M&A for one simple fact: there are not many realistic targets available: When analyzing all carriers in the market, there are only ~50 carriers with greater than $250M NWP and only 20 carriers with >1B NWP that legitimately may be targets This is largely due to the significant number of mutual in the market, who have little impetus to sell Thus, while a few high profile carriers have been rumored as targets (e.g., Hartford), the simple fact is that there are very few companies that actually would consider selling

CHI-AAA 3 Deal multiples also are increasing in both P&C and Life transactions, making M&A more expensive Average Price to Book Value in P&C Mergers1, % # # of Deals 2005 06 07 08 09 10 11 12 13 14 2015 1 1 7 4 2 2 5 1 2 3 8 Defined of deals of >US$500m involving US and British Carriers and holding companies, includes only those deals where PTB is available SOURCE: SNL Another factor that may limit future M&A is that deals are becoming much more expensive, with PTB ratios up 2x compared to This is driven by two factors: The Asian capital coming into the industry that I mentioned earlier is driving up prices Potential sellers are aware of the lack of good targets on the market, and will only sell for a significant premium

CHI-AAA 10 Questions 4 4 Can carriers avoid becoming commoditized by brokers? 5 Is the decline of personal auto insurance real or just hype? 1 1 2 2 3 3 5 Where has the industry been and where are we headed? Are insurance cycles dead? Will we see more M&A and consolidation? 6 6 7 7 8 8 9 9 10 10 Will small com-mercial go the way of personal lines auto? What do alterna-tive sources of capital mean for the future? What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

Distributors continue to capture most of the economic value
CAN CARRIERS AVOID BECOMING COMMODITIZED BY BROKERS? CHI-AAA Distributors continue to capture most of the economic value 4 Average Industry Total Return to Shareholders SNL TRS Index, % Volatility Std Dev, % Brokers 4 Insurers 6 Reinsurance 3 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Note: If you include Global Reinsurers (Munich, Swiss, Hannover, SCOR), value capture for Re is higher, but still smaller relative to brokers Brokers continue to capture the lion’s share of return in the market, with TRS growth well above both primary insurers and reinsurers Average operating margin for top 5 brokers continues to be around 18-25%, with organic growth between 1-5% Brokers = Aon, Marsh, Willis, AJG, Brown & Brown, eHealth, Fortegra…and other small brokers Re = Everest Re, Partner Re, RGA, RenRe, AXIS, Validus, Aspen, Enstar, Patinum, Montpelier Re, Maiden, EMC, ThirdPointe, and other small re players This includes their global business not just their NAM business

CAN CARRIERS AVOID BECOMING COMMODITIZED BY BROKERS?
CHI-AAA As brokers continue to consolidate and add more services, they will likely capture even more of the industry’s economic returns 4 Percent, $ Billions Share of US commercial premium 1-10 11-50 7% All other 5 years ago Today This has been largely due to the significant recent consolidation in the broker market, with many large brokers relying heavily on M&A for growth. For instance, over since 2011: Willis & Aon have both acquired ~20 companies Marsh and Brown & Brown both have acquired 57 companies Hub has acquired 146 companies AJ Gallagher has acquired 164 companies This consolidation is likely to only continue in the years ahead – as evidenced by the recent large Towers – Willis merger

CAN CARRIERS AVOID BECOMING COMMODITIZED BY BROKERS?
CHI-AAA Some brokers are creating “facilities” that increase commission expenses and reduce carriers’ control over underwriting 4 Broker “Facilities” Establishes “lead” vs. “following” markets “Following” carriers participate with little or no underwriting Higher commissions paid to brokers Facilities have been launched by all major brokers – largest is Aon’s “Market Treaty” in Lloyds (~500M annual premium) Brokers are using this new power to exert pressure on carriers. The most notable example is the rise of broker facilities, which: Establish clear “lead” and “following“ markets and signficantly reduce the underwriting authority of carriers - particularly for “following” market Require higher commission paid to brokers – typically 2 – 5% percentage points higher Nearly all major brokers have launched these facilities, with Aon’s “Market Treaty” in Lloyds (launched last year) being the largest ever announced The facilities are a big risk to carriers – both in terms of paying higher commissions but also risking “commoditization” because they become simply providers of capital with limited “value add” to the insured Given limited growth prospects elsewhere – and the sheer amount of business controlled by these brokers, it is hard for carriers to avoid participating on these facilities if they want to maintain their volume

CHI-AAA 10 Questions 5 5 Is the decline of personal auto insurance real or just hype? 1 1 2 2 3 3 4 4 Where has the industry been and where are we headed? Are insurance cycles dead? Will we see more M&A and consolidation? Can carriers avoid becoming commoditized by brokers? 6 6 7 7 8 8 9 9 10 10 Will small com-mercial go the way of personal lines auto? What do alterna-tive sources of capital mean for the future? What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

IS THE DECLINE OF PERSONAL AUTO INSURANCE REAL OR JUST HYPE?
5 Personal auto is being disrupted by new technology that could drastically reduce the frequency and severity of accidents Fatalities in the U.S. per 100 million vehicle miles travelled1 Number -39% By 2030, ADAS2 has the potential to eliminate the up to 99% of fatalities caused by accidents 1994 95 96 97 98 99 2000 01 02 03 04 05 06 07 08 09 10 11 12 13 Highway warning tracks Front air bags Anti-lock brakes Traction control system Accident warning systems Telematics Autono-mous driving Widespread use of 1 Number of licensed drivers increased 17% over the period 2 Advanced Driver Assistance System As we are likely all aware, accident reduction technology is having a huge impact on auto safety, with fatalities per 100 miles driven dropping ~40% since 1994. This drop has accelerated since 2007 with the large scale adoption of accident warning systems As technology continues to evolve – including the rise of autonomous cars – this trend will only continue, with some projecting as many as 99% of fatalities may be eliminated by 2030 SOURCE: Third party consulting firm analysis; NHTSA; Press search; Expert interviews; Preparing a Nation for Autonomous Vehicles, 2013, National Transportation Safety Board

IS THE DECLINE OF PERSONAL AUTO INSURANCE REAL OR JUST HYPE?
The impact of self-driving cars: premiums peak in 2032, with adoption ultimately forecast for 90% of all vehicles by 2052 5 Impact on premium from the adoption trajectory of self-driving cars $ DWP 450 Base case 400 Assumes fully self-driving cars are introduced in 2022 350 300 250 200 Industry premium falls 61% (or $260B) to $165B by 2052 Self driving 150 100 50 Clearly, this drop is likely to have a significant impact on auto prmiums, with auto insurance growth potentially falling 60% over base case growth as self-driving cars are adopted. key assumptions: Base DWP grows at its 2.3% historic annual growth rate through 2050 Adoption of self- driving cars follows a similar trajectory as other auto safety features Frequency of self-driving car accidents falls 70% and physical damage severity rises 30% In real dollars (assuming no inflation) Given that 40% of global insurance premiums are from Auto, this is obviously a huge deal for the industry Most analysts are expecting this drop to occur over man years, given the slow adoption rate of these cars and long time it takes for cars to turnover. However, there is one “x-factor” that may lead to much faster impact: the potential impact of partnerships between ride-sharing companies (Uber, Lyft) and self-driving cars: Drivers are the largest expense for Uber, meaning prices may fall dramatically if Uber adopts self-driving cars Our MGI research has indicated that under this scenario it would cheaper for as many as 90% of people who live in cities to not own cars and simply take Uber everywhere Activity is already happening in this space, such as the recent partnership between Lyft and GM to test self-driving taxis (May 2016), Uber’s investments in self-driving technology, and Google’s announcement that they plan to launch their own Uber-like taxi service Year

CHI-AAA 10 Questions 1 1 2 2 3 3 4 4 5 5 Where has the industry been and where are we headed? Are insurance cycles dead? Will we see more M&A and consolidation? Can carriers avoid becoming commoditized by brokers? Is the decline of personal auto insurance real or just hype? 6 Will small com-mercial go the way of personal lines auto? 6 7 7 8 8 9 9 10 10 What do alterna-tive sources of capital mean for the future? What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

WILL SMALL COMMERCIAL GO THE WAY OF PERSONAL LINES AUTO?
CHI-AAA 6 Small commercial represents over a third of total U.S. commercial premiums 2015, Gross Written Premiums USD billion Total personal lines 299 <50 employees <$15M turnover Small commercial 132 Total commercial lines1 354 Total P&C 653 SOURCE: Conning, A.M. Best, McKinsey Insurance Practice Small commercial is a large and growing segment: ~35% of total Commercial lines premium Has been among fastest growing segments, with small business rebounding as part of the broader economic recovery

Small commercial has performed favorably relative to the industry
WILL SMALL COMMERCIAL GO THE WAY OF PERSONAL LINES AUTO? Small commercial has performed favorably relative to the industry 6 Average Combined Ratio, by Segment % 2006 – 2015 (Statutory Results) 103 102 101 99 99 97 Auto Home Small CommercialSmall Commercial1 Mid-Market2 Large CommercialLarge Commercial3 Specialty4 Small Commercial includes CMP results for Travelers, Liberty, Nationwide, Hartford, Philadelphia, State Farm, Farmers, Cincinnati Mid-Market includes Auto, Other Liab. Occ., Property, Work. Comp. results for Travelers, Liberty, CNA, Chubb, Hartford, Philadelphia, Cincinnati, Hanover Large Commercial includes Auto, Other Liab. Occ., Property, Work. Comp. results for AIG, ACE, XL Catlin, FM Global, Allianz, Zurich, Swiss Re, Munich Re, Berkshire Specialty industry results from specialized products (e.g., Marine & Aviation, Specialty Liability, Agriculture, Financial Products, Specialty Property) SOURCE: SNL, McKinsey Analysis SME has also been among most profitable segments of market, as discussed previously, and one of only two segments to produce CRs below 100% over the last 10 years

WILL SMALL COMMERCIAL GO THE WAY OF PERSONAL LINES AUTO?
CHI-AAA Small Commercial Distribution will undergo significant change, ~65% of customers interested in direct / virtual agencies 6 ~2/3rd of decision makers interested in direct or virtual models Percent 100% = 1,518 Virtual and direct Only virtual 4 Only direct Neither concept SOURCE: McKinsey Small Commercial Insurance Buyer Survey, 2015 We believe the market is ripe for disruption, particularly by carriers willing to implement Direct or “Virtual” models. We surveyed 1,500+ consumers last year, and results were very interesting: ~60% of small business owner are open to using online or “virtual” channels when purchasing insurance 44% of these consumers are interested in both “Virtual” or “Direct” models We think Direct models are poised for significant growth – the current lack of penetration in Direct is likely more of a “supply” issue than a “demand” issue

CHI-AAA 10 Questions 1 1 2 2 3 3 4 4 5 5 Where has the industry been and where are we headed? Are insurance cycles dead? Will we see more M&A and consolidation? Can carriers avoid becoming commoditized by brokers? Is the decline of personal auto insurance real or just hype? 6 Will small com-mercial go the way of personal lines auto? 6 7 7 What do alterna-tive sources of capital mean for the future? 8 8 9 9 10 10 What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

WHAT DO ALTERNATIVE SOURCES OF CAPITAL MEAN FOR THE FUTURE?
CHI-AAA 7 “Alternative” capital has grown considerably in the Property Cat reinsurance market Total Alternative Capital $B x % of Total Cat Limit +20% p.a. 39 24 2008 09 10 11 12 13 14 15 8 9 11 12 14 15 18 18 SOURCE: Aon Benfield, Guy Carpenter Alternative capital has continued its expansion into the reinsurance market As many of you likely know, there has been a massive influx of capital from Pension Funds, Sovereign Wealth Funds, and High Net Worth individuals into the property catastrophe reinsurance market over the last ~10 years This growth continued last year, with nearly 70B of capital now invested in this market The growth moderated last year – growing closer to 10% rather than the 20% long-term CAGR – however this still indicates significant demand for investors to access a non-correlated asset class by investing directly in insurance risk

CHI-AAA “New” capital supports 18% of property Cat capacity, will continue to expand in reinsurance, and is poised for growth in the primary market 7 C B Entrance into North American primary insurance market given strong investor demand A Extension into additional reinsu-rance LOBs (e.g., Hedge Fund Re) Expansion into reinsurance pro-perty cat market Today1 ~18% ~2% 0% Potential 3-5 year penetration1 ~40% ~5% ~5% 1 Percentages shown represent the following: reinsurance property cat = % of total limit, additional reinsurance LOBS = % of total capital from “Hedge Fund Reinsurers”, NA primary insurance market = % of DWP SOURCE: Guy Carpenter, S&P, McKinsey analysis We expect this capital to continue its growth in the property cat reinsurance market, although it is unlikely to peak at 40% of the cat market because: Insurers are unlikely to place significantly more of their reinsurance programs with alternative capital providers because they remain worried about the “staying power” of this capital post-event, and Investors will be hesitant to expand their coverage outside of the developed economies with reliable loss estimates (North America, Europe) given the lack of reliable catastrophe models in these regions Alternative capital is also growing into risks beyond property cat in reinsurance, and increasingly is expanding into the primary market as well: The launch of a number of “hedge fund reinsurers” – which aim to primarily make their returns with aggressive investment strategies while absorbing less volatile insurance risks – has expanded alternative capital beyond property cat into other reinsurance lines. Over time, we expect these models to continue to be launched – as evidenced by Ace-Blackrock launching ABR Re and Axis’ current efforts to fundraise for ”Harrington Re” - however the poor recent results of publically-traded carriers (Greenlight Re, Third Point Re) may temper its growth into this area Alternative capital providers also are increasingly entering the primary market. The most notable example of this is Nephila – the world’s largest cat fund with ~10B in AUM – which has established partnerships with MGAs to access primary business and also is growing its FL homeowners book by assuming risks that used to be written by the insurer of last resort (FL Citizens). We expect this trend to continue moving forward – although in the near-term we believe investor appetite will remain focused on short-term LOBs (particularly property)

CAT risk is non-correlated with other major asset classes…
WHAT DO ALTERNATIVE SOURCES OF CAPITAL MEAN FOR THE FUTURE? CHI-AAA 7 CAT risk is non-correlated with other major asset classes… Swiss Re Cat Bond Total Return Index Dow Jones Corporate Bond Index S&P 500 Index S&P GSCI Total Return Index (commodities) Cat Bond index maintained steady performance during financial crisis, as other asset classes struggled 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 What is driving these investors’ interest is the fact that insurance risk – particularly catastrophe risk is almost completely uncorrelated with other asset classes. In short, when stock, bond, and commodities markets start to struggle, the earth does not begin shaking and the wind does not begin blowing. In the past 10 years have offered higher returns with lower volatility than most investment types

CHI-AAA 7 Capital markets’ involvement in Re is only a fraction of global AUM (.1%) with significant room for growth Global Assets $60 Trillion $5B - $9B Premium Equivalent $68 Billion Total Global AUM Third Party Capital in Reinsurance SOURCE: S&P; McKinsey ReInsurance market model, McKinsey Global Insurance Pools, Guy Carpenter The room for growth is also very large, given how small the current investments in 3rd party capital are as a % of total AUM. Globally, there are about $60 Trillion in AUM. Thus, it takes only a small fraction of these investable assets to absorb significant chunks of the (re)insurance market. The entire property cat reinsurance market, for instance – is ~350B in limit, which represent only .6% of the global AUM

CHI-AAA 10 Questions 3 Will we see more M&A and consolidation? 4 Can carriers avoid becoming commoditized by brokers? 5 Is the decline of personal auto insurance real or just hype? 1 1 2 2 3 4 5 Where has the industry been and where are we headed? Are insurance cycles dead? 6 6 7 7 8 What are the implications of digital and other disruptors in the industry? 8 9 How can carriers cut the Gordian knot of legacy IT? 9 10 How should the industry restock the talent pipeline? 10 Will small com-mercial go the way of personal lines auto? What do alterna-tive sources of capital mean for the future?

WHAT ARE THE IMPLICATIONS OF DIGITAL AND OTHER DISRUPTORS IN THE INDUSTRY?
8 The insurance industry is close to approaching the "tipping point" of going digital – Digital Business Building can be a differentiator Phases Digitally nascent Emerging or on the adoption curve Tipping point New normal with different customer needs, additional competitors, big data, etc. Effective ability to innovate makes the difference Laggards Industries (exemplary) Automotive Insurance "Web giants" and start-ups Chemicals Retail banking Travel booking Oil and Gas Telecom Media SOURCE: Digital Business Building team

As an industry, P&C tends to lag other sectors in its overall Digital proficiency, though several carriers are quite advanced 8 Digital Quotient score, points out of 100 (North America) Digital scores by industry (median) Digital scores by P&C carrier Lagging industry Lagging carrier P&C 30 Leading industry Leading carrier North American industry average: 32 North American P&C average: 29 SOURCE: McKinsey DQ data as of August 2015

Improving digital quotient matters! Correlates with better financial performance 8 3 year annual TRS, in % DQTM score 5 year revenue growth CAGR >55 34-55 <34 SOURCE: McKinsey Digital Quotient analysis of 46 publicly-traded companies SOURCE: MIT Center for Digital Business, CapGemini, McKinsey analysis

8 More-Digital carriers outperform their competitors in both growth and profitability Revenue growth CAGR, (P&C) Combined ratio Percent, (P&C) 6.2% 102% 96% -6% ratio +1.8X P&C industry: 4.2% 3.5% ratio Top quartile digital insurersTop quartile digital insurersTop quartile digital insurers1 Rest Top quartile digital insurersTop quartile digital insurersTop quartile digital insurers1 Rest 1 P&C carriers in the top quartile of all North American companies (across sectors) by total McKinsey Digital Quotient SOURCE: SNL, McKinsey DQ

30-60% of profits may be at stake
WHAT ARE THE IMPLICATIONS OF DIGITAL AND OTHER DISRUPTORS IN THE INDUSTRY? 8 30-60% of profits may be at stake Five years out run-rate P&C INSURANCE EXAMPLE Opportunities % of net profit Threats % of net profit Initiatives Marketing and product development Improved customer experience Higher Marketing ROI from digital channels Innovative products/pay as you go 9-11 4-6 Sales and distribution Coverage of underserved segments Technology enabled agents/brokers Cross-sell using deeper customer insights 14-16 12-15 Core operations Increased straight through processing Customer self-service Rapid product configuration 4-6 2-3 IT Cloud, agile development, and modular design 3-4 5-7 Other Employee collaboration through virtual conferencing/internal social networks, etc. 1 Total 31-38 25-33

8 Digital attackers are entering the market, starting to disrupt the value chain NOT EXHAUSTIVE Type Companies Offering Threat Digital brokers/ insurers Simple digital solutions to manage & buy insurances and to get advice Disruption along the whole value chain Marketing & product development Asset management Risk & underwriting Operations Distribution & customer engagement Aggregators Digital platforms to compare and get informed about insurances Non-insurance Digital natives Unique customer acquisition capabilities Potential product extension to insurance? Friend or foe? Full digital wealth management and advice delivery

CHI-AAA 10 Questions 1 1 2 2 3 3 4 4 5 5 Where has the industry been and where are we headed? Are insurance cycles dead? Will we see more M&A and consolidation? Can carriers avoid becoming commoditized by brokers? Is the decline of personal auto insurance real or just hype? 6 6 7 7 8 8 9 9 10 10 Will small com-mercial go the way of personal lines auto? What do alterna-tive sources of capital mean for the future? What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

HOW DO CARRIERS CUT THE GORDIAN KNOW OF LEGACY IT?
CHI-AAA Carriers attempt to mitigate challenges from legacy IT with several different approaches 9 Band-aid Bolt-on enhancements Carriers vary in their response to legacy IT complexity Shiny new object Swap out legacy, proprietary applications and platforms with off the shelf packages Glue Use BPA platforms to add “glue layer” across existing legacy systems Digitize & isolate Surgically digitize highest value journeys with most of the cost and complexity; no platform replacement

CHI-AAA 10 Questions 1 1 2 2 3 3 4 4 5 5 Where has the industry been and where are we headed? Are insurance cycles dead? Will we see more M&A and consolidation? Can carriers avoid becoming commoditized by brokers? Is the decline of personal auto insurance real or just hype? 6 6 7 7 8 8 9 9 10 10 Will small com-mercial go the way of personal lines auto? What do alterna-tive sources of capital mean for the future? What are the implications of digital and other disruptors in the industry? How can carriers cut the Gordian knot of legacy IT? How should the industry restock the talent pipeline?

HOW SHOULD THE INDUSTRY RESTOCK THE TALENT PIPELINE?
10 The Challenge: Insurers are facing several considerable talent head winds The existing insurance workforce is aging Young people are not interested in working in insurance Age ranges of insurance industry employees, Percent Millenial interest in working in insurance, Percent Retirement age range 21-30 Very interested 31-40 interested 41-50 51-60 interested 61-70 interested 70< SOURCE: Ward Group Industry trends analysis, Ideal Employer Rankings Universum, Griffith Insurance Education Foundation survey (millennial participant n = 634) As we all know, given the headwinds facing the industry – and the new skills required to “win” (e.g., analytics, digital), winning the battle for talent will be critical. And given the new skills, insurance increasingly will be competing for talent with other industries However, the industry faces a number of headwinds in this battle: ~40% of employees are over age of 50, and median age of insurers (~45) is 3 years older than all industry average (42) Only 9% of millennials are interested in insurance – the number is even lower among business students, at 3%. This is well below industries such as banks (~15%) and consumer goods (~15%) Large established workforces that will need to be “upskilled” to new sources of value (e.g. analytics) in addition to bringing in new talent

HOW SHOULD THE INDUSTRY RESTOCK THE TALENT PIPELINE?
CHI-AAA 10 The path forward: Invest to attract, retain and develop high-priority segments Institutions can take a multi-pronged approach to managing high-priority talent Attraction & recruiting Identify specific populations Tailor messaging Use “next gen” approaches Retention & development Offer truly compelling careers Use robust predictive analytics Deliver targeted incentives for at-risk talent

CHI-AAA

CHI-AAA THE END Thank you

McKinsey Insurance Practice

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