Assignment
Life Insurance company was founded, they primarily sold life insurance policies through exclusive agents. Afterward, they replaced the agents with online marketing and company websites. They contracted with web hosts to include their rating and quoting information. Due to increasingly fierce competition, Insurance company has decided to abandon the online model and go back to exclusive agents a few years ago. This, however, has resulted in several agent dishonestly problems. Currently, the agents are paid 100% commission with no additional benefits or compensation. The agents sign exclusive employment contracts with company which means they cannot sell for other companies. Agents are rewarded with generous commissions for the sale of life insurance policies. Commissions are 150% of the annualized premium paid upfront after the policy is issued. If the customer stops paying their policy before the end of the first year, the commission is recalled from the agent (charged back). For example:
If Suzie Agent sells a policy with a monthly premium of $55, the total annual premium would be $660. Company will pay $660 x 150% to the agent or a total of $990. This amount will be paid upfront and in one installment to the agent. A few high margin insurance products even pay 200% annualized premium. These commission rates are typical in the industry. Paying less commissions has been determined to not be sufficient to entice agents to sell. Company will accept premium payments by mail, bank draft, or at a handful of regional offices. Agents collect initial premiums upon the sale of the policy. Many of their customers use cash since they do not have checking accounts. Their service area is in the Charlotte/Raleigh/Greensboro/Wilmington metro areas. They have no ability or intention to expand outside of NC.
Unfortunately, there has been a persistent problem with agent dishonesty. Many agents are doing the following:
A. Overselling face amounts to increase premiums (larger commissions). This is unethical, but not illegal.
B. Selling incorrect types of policies to consumers based upon their individual circumstances. For example, selling term policies to older individuals without disclosing the nature of premium increases with age. This is also unethical, but not illegal.
C. Agents are using their own personal money for policy down payments (illegal). This is usually done under the auspices of cash.
D. Agents using their personal money to pay the entire annualized premiums. In this case, the customers believes they are "trying out" a complimentary policy for a year without having to pay. This is illegal.
E. Agents using customer's money (if they pay ahead for the year or possibly two years) and only applying part of the money to the customer's premium, and using the excess to pay for other customer's new polices. This is obviously illegal and is outright theft.
Insurance company has utilized several methods to circumvent these issues including:
A. Issuing disclosures with the policies regarding the type and nature of the coverage.
B. Informing customers in writing and with policy documents that if they did not pay the down payment themselves (the customer) to notify the company.
C. Informing customers through mail and other correspondence there is no such thing as a "complimentary" policy.
D. Providing itemized receipts of money paid to customers detailing what they have paid and what is due and encouraging customers to report discrepancies to the company directly.
E. Terminating and prosecuting agents that are caught acting unethically or illegally.
Insurance company has found they have no choice but to use agents in the sales process. Life insurance sales tend to be a high-pressure sale. Online sales are no longer an economically viable option. The majority of customers tend to be on the lower socio-economic scale. Agents are recruited through normal HR routes and are given criminal background checks. The management of this company is flummoxed regarding this issue.
The textbook suggests using the following method to solve agent/principal issues:
A. To analyze principal-agent problems, begin with the bad decision that is causing the problem,
a. Who is making the (bad) decision?
b. Did agent have enough information to make a good decision?
c. Did agent have the incentive to do so, i.e., how is the employee evaluated and compensated?
B. Answers to these questions generally suggest alternatives for reducing agency costs. You can,
a. Let someone else make the decision, or
b. Change the information flow, or
c. Change the incentives.
You have recently been hired by Company as the new Directly of Compliance and Advancement. Besides enjoying a meaningless and made-up title, you have been tasked to solve these issues.
A. What exactly are the roots of these issues?
B. What are your suggestions to remedy these problems?
C. Make sure to use principal/agent, moral hazard, and adverse selection into your discussion.