A key development in the managing general agent (MGA) market has been the growing willingness of delegated authority platforms to participate in the establishment of various reinsurance vehicles. This often times means participating in underwriting risk themselves (or via affiliated capital providers), although usually not materially. MGAs participating in underwriting risk is not a new concept. Reinsurers have been encouraging this behavior for as long as delegating authority was a “thing.”
Sometimes risk participation has more of an indirect mechanism, such as sliding scale commissions or profit share arrangements. Other times, there is more direct involvement such as reinsurance captives, sidecars, and other risk-bearing structures. As of late, the latter have become more common as private equity-backed (PE-backed) delegated authority platforms are finding ways to leverage their capital resources to fund these reinsurance vehicles, at least partially. The delegated authority platform often times is the beneficiary of commissions and fees generated from the reinsurance vehicles, while their affiliated capital partners demonstrate “skin-in-the-game” to insurance-linked securities (ILS), hedge fund, and reinsurance markets by supporting the establishment of these reinsurance mechanisms.
Evolving risks in an evolving sector
The increasing interest of MGAs to participate in establishing reinsurance vehicles and underwriting risk reflects the continued maturation of the specialty intermediary sector. The narrative around sidecars, reinsurance vehicles, profit participation structures, and alternative capital sometimes creates the impression that the MGA model is being reinvented. In reality, many of the activities attracting attention today are not new to high-performing MGAs.
Delegated authority, underwriting specialization, distribution leverage, and capital efficiency have been foundational elements of the MGA model for decades. The best MGAs have long generated value by combining deep underwriting expertise with efficient access to specialized markets and distribution channels. But there have been changes related to the scale, visibility, and institutional support surrounding the sector.
A driver of this change has been private capital investment, which has provided access to capital that was previously unavailable to some firms, enabling the establishment of large-scale platforms. Furthermore, technology and analytics have enhanced underwriting capabilities and operational efficiency. These reinsurance structures have created new avenues for MGAs to participate in and around the risk-taking model without becoming traditional carriers.
In many ways, these developments have amplified the importance of underwriting quality of these MGAs as there is now more at risk, which plays well into the alignment most reinsurance carriers seek. As a result, one may argue the industry’s current evolution has been less about reinvention and more about acceleration.
That distinction is important because it helps explain why underwriting risk participation is increasingly common among large MGA platforms. These organizations have achieved the scale, diversification, and capital resources necessary to utilize underwriting participation as part of a broader strategic framework, while benefiting from the commissions and fees of the reinsurance vehicle.
Challenges for monoline MGAs
The establishment of reinsurance vehicles may make sense for diversified delegated authority platforms, however it is often a less feasible proposition for most independent MGAs. This is primarily due to concentration risk. Most independent MGAs are built around a specific product, coverage, niche, geography, or distribution channel. This is a double-edged sword in that the MGA adds value due to their deep specialization, however most independent MGAs have challenges broadening to non-adjacent risks. This inherent concentration is challenging for (alternative) capital support to sponsor most reinsurance vehicles as size is often limited and all the proverbial underwriting risk “eggs” are in one basket.
Taking on underwriting risk may backfire on a single product, single capacity provider MGA if unintended exposures result in unforeseen losses. In this scenario, the smaller MGA takes a financial hit on its renewal book AND is saddled with unintended losses for which there are reduced premiums going forward to pay claims. Furthermore, when an independent MGA retains underwriting risk, it doubles down on the same exposure that already drives its revenue and enterprise value. If losses emerge or market conditions deteriorate, the impact extends beyond lower commissions to direct balance sheet exposure. This weighs heavily on both valuation and ability in closing a potential capital raise or M&A transaction due to the complexities (e.g., regulatory and reserve development exposures) that come with underwriting risk.
This contrasts with the experience of larger platforms, as many operate multiple programs across several classes of business. These firms also tend to benefit from institutional capital and sophisticated actuarial/analytics. For them, risk participation is part of a diversified portfolio strategy rather than a more concentrated focus.
Monoline MGAs also face the challenge of tail risk, specifically on casualty policies. As the market has seen, due to litigation funding and nuclear verdicts, claims on these types of policies may materially adversely develop. Making what appears to be a profitable underwriting year today look very different in the out years. Larger delegated authority platforms starting risk-taking vehicles may have the resources to absorb underwriting volatility, but just as important is that these new vehicles generally are limited in their life span and therefore do not carry the potential underwriting “baggage” of many years of policy placements as may be seen in a captive setup, which often times is the preferred risk-taking vehicle of independent MGAs.
Importantly, retained risk will likely complicate a potential merger and acquisition transaction and may negatively impact valuation. Buyers are attracted to the MGA model because it combines underwriting expertise, distribution access, and recurring revenue with limited balance sheet exposure. Introducing balance sheet exposure in the form of underwriting risk raises questions around reserves, claims development, collateral (specifically with long-tail liabilities) and reinsurance support. This often creates transaction complexity, rather than valuation enhancement.
Conclusion
For diversified platforms, risk assumption can be a strategic tool. For monoline (typically independent) MGAs, it often creates more exposure than opportunity. As a result, risk participation often introduces concentration risk that outweighs the potential economic upside.
The industry’s maturation has created more strategic options. Successful MGAs must remain disciplined around their core functions, which often times involves underwriting and delivering acceptable returns to their risk taking partners.
The proliferation of establishing risk taking vehicles reflects the continued maturation of the specialty insurance market. Delegated authority, underwriting specialization, distribution leverage, and capital efficiency have long defined successful MGAs. What has changed is the scale, visibility, and institutional support surrounding the sector. PE, technology, and structures such as sidecars and reinsurance vehicles have amplified what the best MGAs were already doing. This “amplification” may be thought of as a two-way street in that it has the potential to enhance both the positive and the negative.
