An Approach to Systems Thinking

De Paul University

School for New Learning

Thomas E. Long – Instructor

Extra Credit Problem

Use the article from the Economist below as a case study. Identify one, key question and use the Basic Modeling Approach as described in class to find insights and answer your question. Note: you do not have to actually run the Stocks and Flows model on a computer and the Testing step should only be a description of how you would test your models.

Basic Modeling Approach:

Clearly define the problem through a concise statement

Brainstorm/Identify key factors

Develop testable hypotheses

Develop causal loop diagrams

Identify stocks(nouns) and flows(verbs)

Develop models and iterate

Validate and verify

Insurance - The state of Allstate

INDEX

TERMS

E-commerce|insurance, Allstate's experience;Financial services|insurance, Allstate's

Internet experience;Internet|insurance, Allstate's experience;Insurance|Internet,

Allstate's experience;

DATE

22-Jul-00

WORDS

1002

The Internet and insurance were made for each other. Allstate is trying to work out how

Insurance

"SLOW death" was the prognosis that Allstate’s chief executive, Edward Liddy, had for

his company, America’s largest publicly traded property and casualty insurer. So last

autumn he embarked on a radical restructuring. But can such an old-style insurer adapt

to the new economy?

Change comes slowly in insurance, if only because its customers usually renew their

policies every year without giving the matter too much thought. And Allstate has more

reason than most to play it safe. It is blessed with one of the few valuable brand names

in financial services, a huge market share, a (rare) record of making money in

underwriting, and a strong balance sheet.

But Mr Liddy was right to see that his company was caught in a bind. Its main

businesses—car and home insurance—are large but mature markets. Allstate has 14m

customers, takes $22 billion a year in premiums, and retains a 12% share in the

American market for car and home insurance, second only to State Farm. But business

has been stagnant for years, and new competitors, especially on the Internet, are

springing up. Allstate can hardly boost profits by raising prices. So it must cut costs.

The obvious place to look for savings is in distribution. Traditionally, Allstate has sold

through a vast network of "captive", or exclusive agents. The better ones radiate a sense

of stability. They dress soberly, talk responsibly, and operate from well-organised

offices in central locations. But they add up to a hugely expensive distribution system.

Agents account for some 60% of the market for basic products such as car insurance.

Their sales have, however, been growing by only 4% a year. The growth of lower-cost

direct (telephone) sales has been faster, at 13% a year, even though they still have only

10% of the market. And the Internet offers a distribution channel that is even cheaper.

Under Mr Liddy’s plan, Allstate has just 18 months in which to transform its distribution

network, to sell through the telephone, Internet, or any other channel. This carries a big

risk: that disgruntled agents will stop selling, but new channels will fail. That seems to be

what investors fear. Allstate’s share price has fallen by half since late 1998.

Slipping through the net

But is Allstate’s plight really terminal? A year ago, the biggest threat to such incumbent

giants appeared to be a slew of Internet-only start-ups, including InsWeb, Quotesmith

and E*Coverage (slogan: "the industry is history"). Insurance seems well-suited to the

Internet. It is, after all, only money and information. A new Internet-based company

could theoretically replace Allstate’s thousands of agents with a single big computer.

This year, however, the share prices of the two publicly traded Internet insurers,

Quotesmith and InsWeb, have crashed. It has sunk in that online insurance faces special

hurdles: notably, that in America the industry is regulated by states. This requires

innumerable separate applications, and vastly complicated rate structures.

But also, given a choice, Internet users prefer transactions that are fun—pornography

and share-trading, for instance. Insurance, in contrast, concerns events that people

prefer not to think about (eg, death and disaster). It tends to be "sold" rather than

"bought". Good agents from a company such as Allstate are pro-active.

When customers do buy online, they need to be sure that the seller will be around when

disaster strikes. So insurance may be an area where an "old-economy" brand is

particularly valuable. As an Allstate advertisement puts it: "Anyone can offer insurance

over the web or phone. Who’s going to be there when you need it?" Another adds to

Allstate’s familiar slogan— "you’re in good hands"—an actual agent, saying "mine".

Use of the Internet is by no means the first attack on insurers’ distribution costs. As long

ago as 1931, Allstate itself was created by the vast catalogue-retailer Sears Roebuck.

Its idea was that selling car insurance by mail order would reduce expenses by as much

as 40%. Sears stuck to this strategy for three years before sensing that selling insurance

required a conversation. Allstate’s network was then built by placing agents in shops.

This worked well as long as the market for cars (and new Sears’s outlets) grew.

By 1982, that era was over and Sears began a ten-year process of moving agents out of

shops and into offices. Because agents were essentially salaried employees, commissions

were low by industry standards, about 6%. Now Allstate’s sales organisation is being

painfully torn apart. Over the past year, some 6,000 salaried agents have been, in

essence, fired and forced to sign contracts as outside distributors. More than half have

sold their business or resigned.

The cost and management issues associated with adding new distribution channels are

huge. Allstate is investing more than $1 billion in its internal revolution. To create an

Internet and telephone operation, it is hiring as many as 6,000 people, and adding

35,000 personal computers and more than 10,000 phone lines. The new employees will

have little in common with those who were hired in the past. Unlike the agents of old,

they will not follow normal office hours, but also work in the evenings and at weekends.

Oregon, where Allstate already insures 280,000 cars, has been the test-bed for the new

system, which began operating in May. There were 13,000 inquiries for quotes in the

first month. The early indications are that people like to window-shop for insurance on

the web, but not necessarily to buy.

If the Internet really is to kill off traditional insurers, then, it may be a long process. But

Mr Liddy is right to make radical changes now. Allstate thinks that within five years the

Internet may account for 20% of its sales. In 1999, that might have seemed ludicrously

low. Now, it sounds reasonable. And even if it is an overestimate, Mr Liddy’s revolution

may still be justified: no business can thrive on a strategy whose time has past.