Insurtech opportunities exist, despite funding gaps: Centana's Sarah Kim

August 15, 2023 6:35 AM

Homes stand in San Francisco, California, U.S., on Thursday, July 2, 2020. Rents for San Francisco and Silicon Valley hubs such as Mountain View and Palo Alto have seen rents plunge -- a sign residents of the tech-heavy region are taking advantage of remote work arrangements to flee to cheaper areas. Photographer: David Paul Morris/Bloomberg — Homes stand in San Francisco, California on July 2, 2020

Though venture capital has been tough to come by of late, insurtechs should not give up hope, according to one prominent fintech backer.

Digital Insurance recently spoke with Sarah Kim, a partner at Centana Growth Partners, a growth equity fund that focuses on financial services, about recent funding gaps within the insurtech market, how the climate crisis is impacting digital solutions, as well as what startups need to grow in the space.

Kim has two decades of experience in investing and operations within technology and financial services. She previously worked as the chief financial and business officer of Archipelago Analytics, an insurtech platform. She serves on the board of Corsair, a computer hardware company, and previously served on the board for ABR Re, a Bermuda-based insurance carrier.

Centana is currently investing out of a $375 million fund. Last year, the firm led a $33 million funding round for Zesty.ai, a property risk analytics firm that partners with property and casualty insurance carriers.

Responses have been lightly edited for clarity.

What is happening in the insurtech space right now and how do you see emerging technologies, such as AI, influencing the evolution of insurtech products and services?

There are huge opportunities in the insurance industry. Right now, there are some funding gaps happening with lower funding for new technologies.

We're seeing great innovation still and the market really has to continue to adjust, adapt and adopt those technologies. I think we're seeing things around parametric insurance, AI, and understanding new risks like cyber, fire and hail. There's lots of opportunity to continue to innovate and leverage new datasets to transform the industry.

If you look at the data from 2018 to 2021, venture capital funding was really flowing into the industry, particularly in 2020 and 2021. The latest data from PitchBook shows that in Q1 of this year, only 113 deals and a $1.1 billion of value went into the market. That is significantly down. We've had seven straight quarters of declining investment. That's not great news. But it's not all bad news. We always see new investments coming in. Even better, the specialists who truly understand this industry have a great opportunity to partner with those innovators that are still working in the market. Now it does mean that those startups need to let their dollars go further, be a little more leaner and optimize their business models sooner.

There's a lot of complexity there but there's still capital flowing in, similar to the 2017, 2018 levels, just not as great as the 2020, 2021 levels.

As interest rates froze, capital pulled back and it really impacted valuations.

I'd say some investors didn't really understand the risk profile for the insurtech industry. When that interest rate environment changed, investors slowed their funding, you see a cycle of everyone pulling back. But innovation and digitalization is happening regardless. Incumbents need to streamline their processes. They need help with that change management. They need to leverage their large datasets. They're often unstructured. And they can leverage AI and other data and analytics tools to help make that happen.

In what ways is climate change affecting the demand for innovative insurance solutions, and how are insurtech companies responding to these challenges?

Overall, it's a hard market, meaning there's not enough capital out there to back the risks. And what we're seeing with climate change is more volatile weather or catastrophes, particularly fire, hail and hurricanes. Our legacy models don't live up to that. Zesty.ai is really leaning in on that front. Creating new models, leveraging new data, to understand fire and hail risk and help carriers model that more accurately and price it more accurately. We see a lot of innovation on that front.

This is a highly regulated environment. And it's basically a public private partnership with those regulators. They want capacity in their states, they want insurance, reinsurance. But the carriers also have to be able to price it right and understand that risk. And so that's a very evolving landscape still, particularly here in California. The data needs to get out there so people can understand the risk, get it into the hands of consumers and the regulators.

Still, another element that can be helpful on some of these fronts is parametric insurance, where we get not only the traditional insurance markets to play where risk is beyond current market capacities, but get capital markets and alternative capital sources [involved]. Parametric insurance is one way to do that as well.

What potential do parametric products hold for attracting alternative sources of capital, and what are the key advantages they offer over traditional insurance products?

Having uncorrelated risk as your portfolio diversifies helps your overall return profile. A lot of asset managers want to add these types of event risks like a hurricane, or a fire, or an earthquake, because they're not correlated with the capital markets. There is demand on the capital market side to invest into these businesses. Parametric insurance is one way to do that, similar to catastrophe (cat) bonds in the past, but parametric allows you to actually really fine tune and customize that risk more accurately, and it creates a broader market and use case for it. You've created a marketplace here, you've got the insurance companies, but you're bringing in hedge funds, asset managers, portfolio managers to take the risk on the other side. And they like it because it's not correlated with the other risks, like interest rate, and then equity beta in the portfolios.

There are funds out there that invest in these types of risks and they're doing it because they're pulling together a group of events and a risk profile that people want to invest in. If someone wants to invest in it, then it's providing a differentiated return profile and risk profile. We think about the insurance markets so holistically, but alternative risk transfer has been around for decades and people talk about getting capital markets into it. So it's out there, I'd say it needs to be more broadly broadcasted. Because to get the capital in there, we have to help people understand what the risk is that they want to buy on the other side of the company, or the individual that's putting up the risk, wanting to offload that risk.

In my prior company, we were able to help companies understand what their overall risk profile was. And alternative capital markets, parametric and cat bonds are just another tool to add on to your normal insurance or self insure capacity that a company takes on.

How is Centana Growth Partners adapting to the current VC turbulence in the insurtech industry, and what factors contribute to the changing venture capital volumes?

We always see opportunities in this market. I think a lot of the dollars that pulled out of the market were less focused and specialized. They come in when they see there's a short term opportunity. We're in for the long term. We know how to navigate these complex markets, the regulatory environment, the types of business models and the valuation of public and private markets placed on these types of businesses.

What we really appreciate is that we're getting time with founders now to demonstrate that value and focus on the long-term sustainability of their business models and the strategic direction and then bring value to the network. That's how we continue to stay focused on our business.

What are the most significant challenges and opportunities for insurtech companies looking to modernize their tech stacks, and how does this impact their competitiveness in the market?

First and foremost, everyone needs to focus on making each dollar go further. People need to show more progress before they're going to be able to raise their next round. That means they can't just spend money to acquire customers that are profitable, they need to think about profitability from day one. And think about how to optimize their business model. And keep a close eye on that cash efficiency overall.

When you think about different business models, if you're an managing general agent (MGA) as an insurtech, you should be focusing on making sure your underwriting performance is stellar. You want to be well above market returns to show that additional value add. If you're a software or data analytics company focused on customer stickiness, another thing that they can do is think about land and expand. These are long sales cycles in this market. How do you get your foot in the door? Show a proof of concept with a smaller contract with one division. How do you really add ROI from day one, whether it's money or time? Then go from there and show your value add and get internal advocates, and then grow your business once you're in the door.

Don't try to go in and take over the whole company. Change management is particularly slow in these complex large carriers. On the broker side, you often have very influential brokers within their businesses. And if you can find one where you're transforming their day to day life, you'd be amazed at how it can take off. I've seen that personally, where we were able to sell business to one specific broker, who was a big advocate who saw the value. That rumor mill inside of a company is an amazing viral way to grow. Then you can grow to an enterprise scale contract.

What trends do you foresee in the development of data and underwriting tools, and how are these advancements reshaping the insurance landscape?

Everyone's talking about AI. We've been using AI in the insurance industry for a really long time but the computing capacity that's now in the market is amazing. It can be transformational. Part of that is how do you buy clean data? How do you bring together all your unstructured data sources across the business and harness that. That's an exciting, new adventure we're going on here, but we've been using AI in the market for a long time.

One trend we're all really focused on is conversational AI and large language models that can help with customer service, particularly where there's people having a hard time recruiting talent into companies. This gives your talent more leverage and more efficiency. But it can also be used to detect fraud and to help settle claims. And on the underwriting side, improve your modeling by bringing in more tail events, and understand trending in those underwriting models. We're excited about all those types of applications.

There's a lot of data inside these insurance companies, a lot of data is highly sensitive, and we want to make sure that models have the best quality data, that they're always being questioned, and perhaps even tested by the regulators to make sure that there's no bias being introduced.

We're seeing both internal data sources that are proprietary, augmented with public data sources out there. There's a lot of complexity created by that. Transparency is important, frameworks are important, and reporting back to the regulators is going to be important. Training those models to make sure there's no bias and drift is managed is going to be critically important there.

From your perspective, what are the key areas where insurtech startups should focus their efforts to stay competitive and drive long-term growth in the industry?

One is obviously the distribution models. We've seen a really vast array of MGA insurtechs over the past few years. Those MGAs are really focused on new underwriting as well as distribution. I think that's an important aspect of combining strong underwriting and risk selection with core distribution and efficiencies.

When you look inside traditional insurance carriers, harnessing that data is where insurtechs can definitely add value. Cleansing that data, creating those models, but also helping to understand change management within insurance companies is important where you are ready to slot into a current system and help upgrade or augment those core systems that are already in place. It doesn't happen overnight. That's why I think tackling the carriers is a unique kind of business. But if you've got strong land and expand and recurring revenue you're going to see steady, slow, strong growth over time.