Norwich Union is one of Britain's largest mutually owned insurance companies. When floated it can be expected to command a capitalisation of around pounds 4bn, putting it on a par with Legal & General as joint third-biggest insurance company by value in Britain. It will also be the first of Britain's insurance companies to demutualise via a stock market flotation, extending a trend into insurance that is already a stampede among the building societies.
With yesterday's announcement from Colonial Mutual, an Australian-based mutual, that it too is demutualising and distributing free shares to members, there is every sign that the life companies will be embracing the trend with equal enthusiasm. Already we have seen a number of mutual takeovers. What Norwich and Colonial are doing by floating takes the process a step further. By choosing this route they are certainly in tune with the spirit of the times, but that doesn't necessarily mean that what they are doing is right. Is there any future for the mutual life company, or is this a form of ownership that has had its day?
There are special reasons Norwich should want to float on the stock market. Unlike most other mutuals, it has an extensive and successful general insurance business. As things stand, the company's owners, the policyholders, get no benefit from it. There is no mechanism to allow value from the general insurance business to flow into the life fund.
The idea, therefore, is that the life fund should sell the general insurance arm to a new holding company, which in turn will pay for the business by selling a half of its shares to investors on the stock market. The rest of the shares will be distributed to policy-holders, who thus get a double benefit. The life fund is recapitalised from the proceeds of the general insurance sale and the size of the bonus is increased accordingly. At the same time, policyholders get free shares in the new holding company, enabling those who don't sell to retain a degree of voting control.
This is a neat solution to a particular problem; there's an obvious short- term boost for policyholders and they retain a fair slug of voting control, too. Whether it is also in their longer-term interests is more debatable. Such as it is, the evidence is unambiguously that it is not. The performance record of mutuals is outstandingly better than the proprietary companies.
There are all kinds of reasons why this might be the case. For a start there is the fact that with a proprietary company, a proportion of the profits - usually 10 per cent - goes to shareholders rather than being retained in the fund for the benefit of policyholders. But the most important reason, it has always seemed to me, is the most obvious. A mutual is run solely for the benefit of the with-profits policyholders. There is no one else to serve. If, on the other hand, control is passed to another class of owner, the shareholders, there can be little doubt where the balance of benefit must ultimately lie. Management will be working primarily for the shareholders.
A free market purist would argue that this is irrelevant, that the company that best serves shareholders is the one that also best serves its customers by providing the most attractive product. In practice, however, it often doesn't work this way. Crunching the customer, is in my experience, as powerful a motivation in business as serving him. This is especially the case in financial services where even these days the customer can be quite unaware of the nature of what he is buying.
It is a source of constant amazement to those of us who write about these things that so much time, effort and research can be invested in buying, say, a motor car, but so little when buying an endowment, a pension or a PEP. A generation of life companies has grown up on the simple truth that in financial services customers neither understand fully what they are buying nor how much they are paying for it. Commission disclosure appears to have done little to correct the problem. Some proprietary life companies are in truth no more than straight sales operations, an elaborate way of generating commission and enriching the employees.
There is little likelihood of a company as robust and trustworthy as Norwich Union transforming overnight into a rip-off operation of this type. There is a danger, nonetheless, that the old paternalistic culture of working solely for the policyholder is lost. The benefits of mutual ownership are much more tangible for life companies than building societies. With building societies, they are nebulous and questionable. If they are reflected at all, it is through keener deposit and mortgage rates. These are as likely to be influenced by market pressures as anything else. With a mutual life company, profit is created solely for the purpose of distribution to the policyholder.
A cynic might say that the main purpose of demutualisation is the bigger salaries, share option schemes and long-term incentive plans available to executives in publicly quoted companies. While this is often the effect, it cannot in all seriousness be advanced as the purpose. No, most of the time it is the need for more capital that drives these things. This, however, is usually more symptomatic of a badly run mutual than an indictment of the mutual form of ownership as such. The rules require that the weaker the life fund becomes, the more it has to hold in low-risk investments such as bonds. The fund thus becomes caught in a vicious circle of underperformance.
A life company that expands too rapidly can find itself in the same position. The requirement for more working capital to support this new business restrains the investment strategy that the fund can pursue, eventually sidelining the company. A strong, well-managed mutual should not be running into problems of this sort. For instance, there is no evidence that Standard Life's mutual structure is restricting either its ability to grow or its investment performance.
I don't want to criticise Norwich Union too much but it does seem to me that the argument is being put the wrong way round; mutual life companies shouldn't be having to make the case for staying as they are. Rather, it is those planning to convert that need to demonstrate much more forcibly than they have to date why this is such a good idea.Reuse content