This week marks the opening of ITC InsurTech Connect which will include three days of meetings, presentations, and technology demonstrations. The Inside P&C Research team will be represented by Amit Kumar, and the news team will be represented by Farhin Lilywala. Email us if you are at ITC as well.
At last year’s conference, we saw a marked shift from “growth at all costs” to “flight to quality” as investors were seeking a more disciplined approach.
Will this year be the same, or will we see the InsurTech space bounce back in the direction of 2021 optimism?
Here are three questions to consider.
1. How has the changing cost of capital impacted funding?
Earlier this year, sources canvassed by this publication opined that InsurTechs are still facing a tough road to raise capital, especially those that need to secure investments in the near term.
The first question on everyone’s lips will be how to navigate this road, with interest rates rising, more investor discipline and dwindling valuations. The consensus is that there are two camps of InsurTechs raising capital: the ones who need it and may not get it, and the ones who have it and want more of it.
The InsurTechs that have enough capital to sustain their cash burn are using this time to secure that runway. That said, fundraising is taking much longer than in years past, as some companies have attempted to raise for longer than a year.
As the “flight to quality” mantra increasingly becomes the order of the day, investors are drilling down on diligence and analyzing profitability, the management team’s record and the company’s niche in the marketplace.
At the Inside P&C conference in New York last month, venture capital specialist Adrian Jones emphasized that the InsurTech industry is back to 2018 to 2019 levels of funding. He noted that, while this is not a historical high, neither is it a historical low.
Jones said that in 2020 to 2021, investors were not "discriminatory enough” in choosing which ventures to support. Now, they are deploying their capital more deliberately.
As a result, many InsurTechs have been forced to drastically cut their workforce, with about half laying off an average of 31%, he added.
“Barriers to entry are low in this business. Barriers to success are high. Barriers to success at scale are even higher,” Jones said.
2. Are we headed for a sales spree, a stretch of wind-downs, or both?
As things stand, the InsurTechs that are struggling to raise capital at past valuations have three options: raise a down round with meaningful dilution, wind down or sell.
Several investors said that for some InsurTechs, keeping their former valuation and raising a flat round may be the best-case option, with a down round being the more likely and accepted scenario by investors.
Sources said that often what they’re seeing now is companies raising a “synthetic flat round”, or a flat round with investor-friendly structural caveats, which some investors said would be worse than a down round, as it has the potential to benefit only key investors and wipe out other participants.
The sources noted that InsurTech executives are letting their egos get in the way of keeping their companies afloat. They don’t want to admit that the start-ups may have been overvalued when they started and they don’t want to let valuations fall.
That leaves them with only two options: a sale or winding down.
At the end of Q4 2022, many InsurTech market observers – both enthusiasts and skeptics – shared the prediction that a long-expected M&A wave was just about to overtake the sector. However, M&A activity in the space has been sparse so far this year.
Sources expect more activity in the next six to 12 months, adding that the market could see consolidation via distressed sales.
Investors especially noted that the service provider space is over-saturated at the moment and primed for consolidation.
That said, there is something of a standstill as potential buyers and sellers are not sure how to price these businesses.
Potential buyers are also wondering when interest rates will peak, given the Fed’s hawkish stance and attempts to tame inflation. There are still questions around the cost of financing an acquisition – which makes the idea of buying a cash-burn business at this point even less palatable to buyers.
3. What’s the next iteration of the InsurTech product/delivery mechanism?
Since the inception of InsurTechs, the promise was that using technology, data analysis, new APIs and closely tailored products would enable these players to gain market share in the insurance space.
We're still waiting for tangible proof that this has worked. We anticipate that InsurTechs will talk about how their next step is going to focus on helping incumbents with processes including claims, underwriting, marketing, actuarial, legal etc.
More InsurTechs are now asking, “Where can we fit into the existing ecosystem?” as opposed to displacing incumbents.
The Inside P&C Research team has shown that the first well-funded assault came on personal lines, and specifically on the personal auto space, due to its low barrier to entry. Some carriers IPOed, some de-SPACed, and some chose to remain private. The next iteration of the product was in commercial lines.
In the past few years, the companies’ valuation problems have intersected with an unstable loss cost environment, volatility from natural catastrophe activity, social inflation and attorney involvement trends.
As a result of internal (company-related) and external (wider cycle and macro-related) forces, InsurTechs have broadly failed to deliver compared to the initial expectation of disrupting the marketplace.
There was no toppling of Goliath here since David’s slingshots barely registered in the marketplace. Then, some members of the cohort either threw in the towel or pivoted to an embedded product.
What’s next? This week’s ITC should provide some answers.
