Fail of Executive Life Insurance Company - Essay Example

? Why do Businesses Fail? A case study of Executive Life Insurance Company March Why do businesses fail? This paper attempted to identify reasons for failure of a company. The case of Executive Life Insurance Co., a failed company was taken as an example for discussion. Reasons why businesses fail are taken into consideration. In our case study, grounds for failure of the Executive Life Insurance are not purely economic, but some go beyond. Sources of information used are both primary and secondary. The transcriptions from the Committee Hearing of the House of Representative, for instance is used as a primary source, and news publications are secondary. Why do Businesses fail? Several businesses that started strong close only after many years of operations. This is confirmed by several studies that business startups fail after two years. Campbell, Anita (2002 ) cited the research from the U.S. Bureau of Statistics that said most failures of American start-ups occur two years after its existence. Chart below shows survival of businesses arranged by industry. It will be observed that those longest surviving businesses come from the education and health services, and natural resources and mining. Many people say that business failures are due to economic reasons. But I argue that there are reasons other than that. I will take up the case of Executive Life Insurance Co. as a case study of failure (“A tangled web.”) Apparently, this company belongs to the category of financial services that do not last long. Source: Campbell, Anita (2002) Background In 1991, The Executive Life Insurance Co. was once one of the largest insurance companies in the United States. At that time, it had over 300,000 policyholders and $10.5 billion in assets. According to the Committee on Government Reform of the House of Representatives who heard this case in 2002, the company had most of its investments in high risk, high-yield “junk bonds”. When junk bonds market collapsed in 1990, the operations of Executive Life got affected that eventually left it insolvent. The measures done by the Insurance Commission to prevent a run of policy holders were not sufficient as they complained benefits they used to receive monthly were insufficient as they are thoroughly reduced by half or even more. Further, same Committee said discovery of fraud in sale of assets of the company aggravated the loss of the company. Policy holders believed they were robbed of their settlement payments. The case still continues today, but settlements are taking too long. Discussions With too many financial scandals, like Enron, WorldCom, Tycoon, Arthur Anderson, and others, the reputation of the financial market is heavily affected. It also hurt the lives of many people as they lost their investments, security, and trusts to investments. In the light of the above, what economic concepts could be ascribed; or what are other reasons that could generate a worthy explanation for business failure? The economic concepts that Investopedia (May 05, 2001) identified that are attributed in this fallacy are scarcity, supply and demand, and costs and benefit. a. First, the concept of scarcity is defined by Boyes, W. and Melvin, M. (2002, pp. 4 - 6) as “there is not enough of that item to satisfy everyone who wants it”. Primarily policy holders used their resources (capital) to produce an income. For instance, Anne Dixon, a policy holder, according to testimony in the hearing of the Committee on Government Reforms, entrusted her annuity to the company on the belief that it is a safe haven or her money. She is performing an economic concept of allocating her scarce resources to best satisfy her wants. Resources and income flow between the policyholder and the firm. b. Next, is the concept of supply and demand. Our market system is driven by supply and demand. People demanded more of the junk bonds offered by the Executive Life before the market collapsed. The company had a steady supply of policy at specified terms. The supply was lost and the demands diminished at a certain point when the junk bonds market collapsed because people lost confidence at the company. A graph below explains supply and demand curve at given points. We have here an equilibrium price where there is a balance of supply, demand and price. The equilibrium price gives a desired quantity Qe. Due to unfortunate events in the company, demand declines leading to closure. A very little demand or no sale at all will not cover for all the costs of operations, so the company ends with closure or bankruptcy. Demand 1. 2. New Quantity of demand c. Costs and benefits. The concept of costs and benefits are more concerned with rational choices. Investopedia (n.d.) explains this concept covers a large area of economics that has a lot to do with rational expectations and rational choices. Under this situation, people have to make a choice that gives them the most benefits than it costs. Going back to Executive Life they chose to put most of their funds in junk bonds hoping it would give the company higher pay. They probably thought that it was the best way to earn income from the resources invested and thought it would last long. Similarly, policyholders invested in the company because of the promise of high yields it held. 2. Other reasons for business failures Other than economic crisis and concepts, business fails due to lack of proper management and leadership. Myatt, Mike (2012), a writer about leadership, pointed out that businesses don’t fail, but leaders do. He wrote of several terms, but the concepts related to my topic are lack of execution, flawed strategy, poor management and lack of vision. a. Flawed strategy. This implies a weak leadership since company succeeded by design but failed by default. The company did not see warning signals of the risks of the failing junk markets. b. Lack of vision. Company’s vision, I think, is the image or the future the company wants to create. The Executive Life Insurance Co. has a flawed vision as it was unable to communicate the lapses on their strategies to their consumers, and for this, the executive leadership has to be blamed. Management was unable to plan ahead or make alternative strategies in case their junk bonds fail. c. Poor management. It is the job of management to deploy the necessary talents and resources to ensure that risks are well managed. Economist magazine (Nov. 27, 2003) viewed the failure of the Executive Life Ins. From its gross mismanagement as the company lent irresponsibly and went into an investing spree. Conclusion It has become clear that business failure is not merely because of recession or economic crisis. The case of Executive Life Insurance is a combination of economic crisis and management inefficiencies. Investment in high risk bonds tempted the executives to jeopardize investments entrusted to the company. The company was caught unprepared and lacked contingency plan. It was greed in the first place that turned the success to a failure. References “A Tangled Web The Executive Life Affair.” 27 November 2003. The Economist. Retrieved from www.economist.com/node/2245155 Boyes, W. and Melvin, M. (2002) Scarcity. Economics: The World around You. Microeconomics, 5th ed. (pp. 4-6) Boston, New York. Campbell. Anita. (July 7, 2005) Business Failure Rates Highest in First Two Years. Small Business Trends. Retrieved from House of Representatives Committee on Government Reforms (October 10, 2002). The Collapse of Executive Life Insurance Co. and its Impact on Policyholders, pdf. Investopedia (05 May 200l). 5 Economic Concepts Consumers Need to Know. Retrieved from Myatt, Mike (12 January 2012). Businesses don’t fail: Leaders do. Forbes. Retrieved from Read More