Insurers fear State Farm ruling

OUTLOOK

10% to 15% increase in premiums feared from auto-parts award

October 10, 1999|By June Arney

LAST WEEK an Illinois jury ordered State Farm Mutual Automobile Insurance Co., the nation's largest auto insurer, to pay $456 million for requiring auto-body shops to use generic replacement parts. The class action lawsuit, representing 4.7 million State Farm policyholders, claimed that the parts were made without factory specifications and did not provide the same level of fit, finish, corrosion resistance and, in some cases, safety, as automakers' parts.

During the six-week trial, State Farm portrayed itself as a champion for consumers by tackling what it described as the auto manufacturers' monopoly on auto-body parts. In 1998, generic parts saved policyholders more than $233 million in premiums, State Farm lawyers said.

And the insurance industry warned that if the verdict stands, costs -- and premiums -- will rise.

But critics point to restructuring in the parts industry -- General Motors' spinoff of Delphi Automotive and Ford's efforts to divest its Visteon Automotive unit -- as automakers look to cut costs by increasing competition.

Critics also argue that the generic parts suffer more damage in accidents.

Assuming the verdict stands, what is likely to be the impact? Will costs -- and premiums -- jump? Or is the insurance industry crying wolf?

Robert E. Hoyt

Professor of risk management and insurance, Terry College of Business, University of Georgia

The verdict clearly has implications beyond State Farm. It wouldn't be surprising to me that if people perceive this as a verdict that will be upheld, that they will proceed against other insurers.

There's not a real conclusive set of evidence that generic parts are inferior. What are we willing to pay for? Are we willing to pay for an insurance policy that says only manufacturer's replacement parts will be used?

How much competition does General Motors have if we tell the insurance companies that they may not use aftermarket parts? It would signal to the manufacturers that you used to have a little competition, but you don't any more. If we forced insurance companies to only utilize original manufacturer's parts, premiums would cost 10 or 15 percent more.

The important thing to be learned here is that the consumer ought to ask, are you using the replacement parts that my body shop would recommend?

The soonest you'd likely see premium increases would be at the next renewal, which could be within months to half a year. But it depends an awful lot on the expectations in the insurance industry on this being upheld and other lawsuits. The costs are there, so it has to be translated then through the system fairly quickly.

I would rather see an open, competitive insurance market operating to determine the services a consumer wants than huge, class action lawsuits like this.

The broader implications of a decision like this are where does it stop? What other kinds of claims handling or business decisions are going to be impacted through court dictum?

Would insurance companies be free to make the decisions that they think are in the best interest of their consumers, if they constantly worried about what else about their business is open to court interpretation?

Maitland Lammert

Analyst, Edward Jones LP, St. Louis

It's a concern that you're going to see other suits come along. The entire industry uses nonstandard replacement parts. Some companies, like Allstate, provide a choice to customers. They all tend to use them to keep down costs.

The auto insurers have been under a lot of competitive pressure. We have seen rates stagnant or down. This quarter we have seen eroding earnings. That can only go on for so long -- maybe a year or two. It can't go on much longer or people are just going to get out of the business. We've already seen consolidation.

I don't know if you'll see an increase in rates right away. State Farm is going to try to fight the verdict. It's too early to assign a number to any possible premium increases.

Adam Klauber

Analyst, Cochran, Caronia Securities LLC, Chicago

The insurance industry is experiencing deteriorating margins now, apart from that verdict. If there are massive lawsuits and the awards do grow, it's another pressure at a time when the industry can ill afford it. They want to raise the prices anyway, and this would be another reason.

Costs have been held down recently in part by safer cars and air bags, but this year they are rising.

As a business practice, did it make sense? Will these lawsuits proliferate? It's possible. The insurance companies are always a target. In the insurance world, you've got the perception that it's the big bad insurance companies against the poor consumer.

Pub Date: 10/10/99

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