Informed Christmas Story: Tis the season for making sure you have enough insurance coverage for your home, so I have some special holiday insurance news to share! I have written a sequel to last year’s Home Alone article (where I looked at how big an insurance claim would be caused by all the damage in the movie).

This year, I took a look at A Christmas Story in light of the news that the house where the movie was filmed is up for sale.

There are special challenges to insuring a legacy home like this that one should understand before putting a bid in, so check out the Informed take here for what you need to know.

While a lot of people are focused on how Elon Musk’s forays in social media will distract him from operating Tesla, there is another distraction just as big and just as risky…Tesla Insurance!

A lot of insurance observers spend a lot of time thinking about how Tesla’s move into insurance will change the industry. What will it mean for the other auto insurers? What does it portend for embedded? How long before Tesla dominates the insurance market?

It all misses one really big thing – why is this good for Tesla? Today’s essay suggests that, for a number of reasons, it’s not.

That’s right, even if Tesla proves to be good at insurance, there are reasons why it should avoid the business altogether. It has much more downside than upside.

I will provide the spoilers first. There are three reasons Tesla should exit insurance:

  1. It increases operational and financial risk as it is not financially diversifying.
  2. If it doesn’t go well, it hurts Tesla’s reputation and thus sales of its cars.
  3. It won’t make enough money in the good times to offset #1 and #2.

Let’s examine these claims in more detail…

Compounding of Risks

It’s nice that Tesla wants to help their customers by selling them insurance, but what happens when things don’t go as planned?

The biggest risk Tesla has in its core business is something going wrong on the manufacturing side, whether it be a quality problem or increasing costs.

The problem is any event like this correlates with increased insurance losses. When someone independent is providing the insurance, not your problem. When you sell it yourself, it could be a big problem.

For example, let’s assume the cost to produce batteries goes up. That is bad for Tesla’s profits. It is also bad for Tesla insurance profits (if a new battery is needed after an accident). Oops.

Let’s say manufacturing quality goes down because Elon takes his eye off the ball while attending to Twitter. That is bad for Tesla’s profits, especially if they have high recall expenses.

Note, if quality gets worse, this can also, in some cases, lead directly to accidents. It certainly increases repair costs (for example, repair times will likely grow). Again, insurance losses and manufacturing losses correlate.

Now, let’s throw out the big one. Self driving goes awry and leads to rampant litigation. At the same time as the companies is facing billions in lawsuits, the insurer is paying liability claims for all the accidents. I guess it could subrogate against itself, but that doesn’t really help much, does it?

You get the point. This would be like Boeing selling airlines insurance against plane crashes. It’s bad enough Boeing is paying for the Max crashes. They don’t need to pay twice for insurance liability.

So yeah strategically it’s a potential disaster to add insurance risk to manufacturing risk.

Creating Reputational Risk

In the scenarios above, Tesla is facing reputational risk to its core operations that are exacerbated by insurance losses. But there is another risk Tesla should consider.

The auto business may be doing just dandy. Even still, the insurance business brings risk. What if I love Tesla, so I buy the insurance. Then, I have an accident and my claim isn’t handled well.

Am I just mad at Tesla insurance or am I mad at all of Tesla? We know some claims will be handled poorly. That’s how insurance goes.

Now, each time you have one of those, you risk losing a repeat buyer of your cars! Why would you risk that?

Certainly, a good claim and saving a few bucks on premium doesn’t make you more likely to buy a Tesla, but it’s pretty clear the reverse can happen. Therefore, it’s straight stupid to be in the business of selling insurance to your very loyal customers.

The Profit Is Too Small

Now, maybe if Tesla was making giants amount of money on insurance it could justify taking these big risks. Why don’t we check the math to see if this is possible?

Most auto insurers barely make money from underwriting, maybe a couple of pennies on the dollar. If you were to run a world class insurer maybe, just maybe you could get to a 90 CR.

In that case, if you were charging $2,000/yr (which is a lot and inevitably will come down over time), you’re making $200/yr best, best case. Realistically, you’re hoping to make $100/yr.

Why would you take all this risk of financial harm and potential lost sales just to make possibly $100 extra a year? It isn’t logical. You would never do it if you were thinking rationally.

California Dreamin’

So, even if you can somehow get past all that, we have to come back to a more basic question which is: can they make any money at this or will they be more like a typical auto insurer with a 98ish CR?

There is one big consideration most analysts overlook. Tesla is today largely a regional car company. Roughly half of all Tesla’s are in California. Then, there is a sizable presence in Texas and Florida = other warm weather states where the batteries last longer.

The problem with being mostly in California, of course, is it means you’re dealing with California insurance regulation! Do you know what California dreaming is? It’s when you imagine the state insurance department will let you make a fair profit!

If Tesla does prove to be profitable, they will never get a price increase and, most likely, will be forced to cut rates until they’re barely profitable. If they struggle and need to raise rates, it is unlikely California will let them (and, even then, by no more than 6.9%).

So do we even think Tesla can make the $100/car/year? Seems unlikely.

Worse, if they do end up in that situation where Tesla specific problems hurt auto and insurance profits at the same time, Tesla Insurance will have a hard time extricating itself through price increases. They will be stuck in profit purgatory.

Sell Data, Not Policies

The best thing Tesla can do is shut down the insurance business before it becomes a headache. If they think their internal data on driver behavior is valuable, sell it to someone like Cambridge Mobile and let them sell it to other insurers.

But being in the risk business is a giant mistake, even if they can operate it profitably.

You wouldn’t suggest Apple sell health insurance, just because the watch can (sort of) track your vitals. You wouldn’t suggest the Weather Channel write cat reinsurance just because they know something about predicting storms.

Tesla needs to exit the insurance business, while it still can.