Only a handful of UK life insurers will emerge as winners if two important sets of regulatory changes, depolarisation of product distribution and Sandler style charge caps, come into effect. The question is, which ones?

We predict that the new regulations will reset the playing field in favour of the largest life companies: Standard Life, Norwich Union, Prudential and Legal & General. The changes will force smaller players to either dominate a niche or close to new business. Indeed, we believe that, by 2008, the top five insurers could account for 60-70 percent of the life, pensions and unit trust markets. So why is this?

The first set of changes, stemming from a regulation known as 'depolarisation,' should come into effect next year, creating a channel that favours full-range providers. The rule will bridge the divide between agents currently tied to one product provider and independent financial advisers (IFAs), who offer products from all providers. It will introduce a new type of distributor, multi-tied agents, who will offer products from a panel of providers.

Over time, we would expect about two-thirds of IFAs and most tied agents, including banks to convert to multi-tied status. Eventually, multi-tied agents will account for 60-70 percent of distribution. IFAs serving wealthier clients will account for around 20 percent of the market, with the remaining 10-20 percent served by direct distribution.

Providers with strong brands and consistent investment performance will have an advantage in the multi-tied channel. We expect ten groups of distributors to control this channel: the six major banks, two former IFA networks—Bankhall and Misys, and two former direct sales forces, Zurich and CIS. Indeed manufacturers are already moving to strengthen relationships with these players: many life insurers have already taken equity stakes in IFAs or in networks. In addition, Legal & General, Norwich Union and Prudential have secured distribution agreements with Barclays, the Royal Bank of Scotland Group and Abbey National respectively.

These groups of distributors will select small panels, typically of three or four providers. Providers with trusted brands and a full range of life and pension products, stand the best chance of selection to these panels.

A similar trend will affect the retail asset management market. Among asset managers, subsidiaries of major life insurers such as Morley (owned by Aviva, parent of Norwich Union) will benefit from their parents' preferred relationship with distributors. They will provide unit trusts, OEICs and ISAs alongside life and pension products from the life offices. On the other hand, independent asset managers will struggle to stay on panels unless they have strong brand names like Fidelity or outstanding investment performance.

Sandler issues

A second set of trends will spring from the government-commissioned Sandler report. Sandler's recommendations are currently the subject of a Treasury review but could be implemented as early as 2005. The recommendations could place stringent requirements on the way products are structured.

First of all, Sandler's recommended one percent charging cap on life and savings products would reduce margins on new business for insurers. When stakeholder pensions were introduced, the revenues from new pension business dropped by 15 to 25 percent across the board. In life insurance, we expect revenues to drop 20 to 30 percent. For some asset managers, the one percent charge cap could eliminate their profit entirely.

A number of strong representations has been made to the Treasury, arguing that a one percent cap would discourage providers from selling products and therefore reduce the money channelled into savings. We expect any charging cap to be set above the one percent figure.

Secondly, Sandler aims to improve consumers' choices. League tables comparing products and charges will encourage consumers to swap out of old-style products into new, low-cost ones, as well as making it difficult for insurers to sell high-charge products. In turn, this trend will squeeze margins on existing business put on the books pre-Sandler.

Effect on savings market

If both depolarisation and charging caps take effect, the savings market will concentrate among a few major players, primarily life insurers. This concentration will primarily occur as more weak insurers close their books to new business, as Royal & SunAlliance, Britannic and Pearl Assurance (part of AMP) have already done.

Ahead of the changes some insurers may introduce low-priced products—just as Legal & General did before the government formally launched stakeholder pensions. Any large insurer that so anticipates new regulation could set in motion the trends forecast above.

Today, almost all insurers and asset managers are aiming to reduce administration costs, so they can still be profitable in a charge-capped environment. Some businesses may transfer back-office functions to countries where wage rates are lower. Others may consider outsourcing in order to gain economies of scale.

Cutting costs, though, will not ensure the survival of smaller life companies and asset managers. They face two real options. On the one hand, they can identify niches to develop strong competitive positions. For example, Friends Provident is building its offshore life insurance business. Alternatively, they can focus on selling products through IFAs to up-market customers willing to pay for advice. But this opportunity is limited: if, as we predict, IFA sales shrink to 20 percent of the market by 2008, this channel will sustain only a handful of the savings product providers in the market today.

Companies that enter the coming period of turbulence with a weak hand and no niche strategy are unlikely to survive. Books will close, smaller players may be forced to merge and some forms of distribution-tied agents, for example—may become extinct.

It is ironic that, after the troubles of the last fifteen years, the future looks brightest for the major life insurers. Having weathered mis-selling scandals, the collapse of Equitable Life and the tumbling stockmarket, the lucky few may be breathing easier. For others, acting now could ensure survival.

Christopher Hopton and Paul Wilson, based in London, are partners in Bain & Company's global financial services practice.