Cash Flow Underwriting
What it is:
In the insurance business, cash flow underwriting is the equivalent of selling below cost.
How it works (Example):
For example, let's assume Insurance Company XYZ decides to engage in cash flow underwriting for its auto insurance policies. If it sells a $100,000 auto policy to a customer for $250 per year for 10 years (for total revenue of $2,500) but knows that the person has a terrible driving record and a DUI and is thereby likely to cause the insurer make payouts of much more than $2,500, Company XYZ is engaging in cash flow underwriting.
Why it Matters:
Cash flow underwriting is usually a tactic to drive sales in the short-term. The insurer takes the capital from the increased sales and invests it in places the insurer believes it will earn a high return. The insurer is betting that the higher return will offset the losses down the road. Occasionally, the insurer engages in cash flow underwriting when a client does not qualify for a particular insurance product.