Policyholders Lose Out As Mutuals Change Shape

Some 70 million Americans own an asset they probably rarely think about - and are in danger of losing. As policyholders with a mutual insurance company, they possess not just the life, home, or car insurance itself: They collectively own the company 100 percent.

That asset is highly valuable. Mutual insurance companies in the United States own a total of about $1.1 trillion in assets. Most of these assets are needed to pay out claims on policies and other expenses. But policyholders have "a contingent economic interest in the equity, or 'surplus,' of each company," as an insurance industry statement puts it.

That surplus from past profits amounts to about $250 billion, estimates Jason Adkins, executive director of the Center for Insurance Research, in Cambridge, Mass. It could be as much as $500 billion, if the value of goodwill, networks of sales people, and other less visible assets are included.

On average, that means each policyholder has an asset worth at least $3,500. But in state after state, mutuals are pressing for legislation permitting them to reorganize into mutual holding companies that, in essence, will leave policyholders without their share of this asset (although individual policy cash values and insurance coverage would not be affected).

The industry denies this, in a bewildering explanation that probably too few state legislators are equipped to analyze. The new mutual structure has already been adopted in 15 states and the District of Columbia, often with little debate.

The industry arguments are financial sophistry. In states where old law still governs, when a mutual company wants to convert to a stock company, it must in effect divide up the company's accumulated profits, or surplus, among its policyholders by giving them 100 percent of the stock in the new company. Those shares reap stock dividends and can appreciate in value. Policyholders will continue to receive dividends on their insurance that in effect reduces its cost.

When State Mutual Life Assurance Co. in western Massachusetts demutualized in 1995, its 108,000 policyholders got 100 percent of the stock. Based on a surplus of $700 million, the stock was valued at $21 a share. Months later, the company, renamed Allmerica Financial, raised $200 million of fresh capital with the sale of 24 percent of additional stock. The stock is now selling at $48. Policyholders have seen their asset double in value.

Under the holding company law, policyholders own a non-insurance holding company and receive no compensation. It can sell to investors up to 49 percent of voting stock in a subsidiary insurance firm or other companies. The holding company retains at least 51 percent of voting stock, but not other stock. So, the industry says, "Policyholders' rights and interests are completely preserved and protected."

That's nonsense. Policyholders of the holding company get no benefit from any dividends paid by subsidiaries on their stock. Nor can they reap any appreciation in the value of that stock.

The new system primarily protects the prerogatives of top executives. Policyholders are unlikely to combine to challenge the powers of those bosses to make decisions, including hiring the board that ultimately determines their salaries. It is "nirvana" for executives, since they in effect control 51 percent of the stock. They can't even be touched by public shareholders, including the institutional shareholders that on occasion trouble executives of other firms.

At Allmerica, chief executive John O'Brien got a $2 million pay boost to $3.4 million a year after guiding through the conversion.

Though mutual holding company laws usually include some limits on executives reaping stock options, these aren't worth much. A proposed New York bill would permit up to 18 percent management ownership. For a mutual the size of, say, Metropolitan Life Insurance Co. with $163 billion in assets, the limit would, shall we say, leave some room for executives to prosper.

The mutuals argue that the legislation is needed to compete at a time when size is important, new technology expensive, and financial conglomerates are invading the field of insurance.

But, if seen necessary, mutuals can still convert to stockholding companies the old-fashioned way that benefits policyholders. And is it really necessary that every insurance company be huge? Some smaller mutuals offer policyholders the best prices. Surely they can still compete on that basis.

This issue is hot. A bill before the Illinois legislature was exposed and blocked last week until early spring. The House in Massachusetts passed a bill this month, nudged along by a host of high-priced lobbyists. The Senate likely will consider it next month. The New York State Assembly had hearings on legislation last month.

Mutual policyholders shouldn't be robbed of often unrecognized assets as were many depositors in thrifts in the recent past.

* David R. Francis is senior economics correspondent of the Monitor.