Risk Management and Insurance Project, Fall 2002
By Sven Siylak

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Executive Summary
This paper deals with the origins and success of the Insurance Office, also known as Fire Office, later Phoenix Insurance Company, the world's first insurance firm that was specifically engaged in insurance business and the original "inventor" of the modern fire insurance policy. Its' founder, Nicholas Barbon, introduced the very term "fire insurance" into the modern English usage, which then migrated to other European languages. The original firm may have been restructured after 1710, when it became Phoenix Insurance or Phoenix Assurance. 1710 is the year when today's oldest surviving insurance company, the Royal & SunAlliance Insurance Company, PLC, was founded. A development, which was possible thanks to accumulated expertise of the original Insurance Office. This company, Royal & SunAlliance is now ranked within first 25 largest property and casualty insurance companies in the United States and, with 50,000 employees working in 130 countries, it is also the world's 7th biggest insurer. The early years of the London Insurance Office present the ultimate example of entrepreneurial and financial innovation. Its creation had been a remarkable development from which all latter property and casualty insurance companies in Europe and North America have sprung. This early invention of the modern insurance business as a financial enterprise as well as a complex set of methods of managing risks can only be compared in their significance on the further course of human history with such revolutionary innovations as the development of mobile artillery in 15 century France, steam engine and railroads in England, the invention of the automobile with the internal combustion engine in Germany, of radio, penicillin (Britain) or, most recently, of the world wide web (by British scientist Tim Berners-Lee at the European Laboratory for Particle Physics, CERN, in Switzerland in 1989). The emergence of the Insurance Office in London was a development of such profound revolutionary nature. The fact that the Insurance Office was almost immediately copied, and that its business model has survived almost intact until today, is a testimony to the robustness of the original idea.

Introduction
Almost any human endeavor contains elements of risks. Some commercial undertakings, such as transportation of goods over long distances by land or by sea, and potential loss of cargo in the course of the journey, destructive fires, or such unavoidable but usually unpredictably sudden events as the death of the business's principal (or the head of the household) can result in catastrophic consequences to those who have a stake in the common venture, be these overseas transportation, ownership of real estate or some direct association through familial ties. Attempts to manage such risks or to provide some "assurance" against them can be traced back to ancient Babylon where merchants were first encouraged and then legally required under the Code of Hammurabi to assume financial risks of a caravan until its goods have safely reached its' intended destination. In the case if the entire caravan or some of its cargo were lost in transit, no claims could have been made against the organizers of the caravan. Romans introduced an element of mutual life insurance by creating burial clubs. Members of those clubs paid regular fees to a common pool of funds, which functioned pretty much like a mutual insurance company of today, by paying for burial expenses of the "club's" members and providing cash payments to the survivors. The Chinese used to share out cargoes of different merchants aboard numerous vessels instead of sending the entire consignment of one merchant's commodities aboard a single ship, thus spreading risks. In this case, the loss of one vessel would not be catastrophic to any participant of the shipping arrangement. . Ancient Greeks, merchants of Medieval and Renaissance cities of Italy, tradesmen of Northern European Hanseatic League, which was founded by Baltic and North Sea German municipalities and extended from medieval Russian republic of Novgorod to royal London used similar arrangements. The oldest Italian marine insurance contract dates back to 20.2.1343, insurance was a side-business for merchants, but by the early 1400s practically no cargo left European ports in Mediterranean, North Sea or Baltic uninsured. Insurance policies became pre-printed as they are today in late 16th century (the first printed marine insurance policy was issued in an official form in Spain in the year 1552). What might strike us as an incredible fact (but it is a fact nonetheless), no serious, known attempt was made to insure conventional risks posed to immovable property, such as hazard of fires to business, which plagued human settlements throughout the millennia, until Nicholas Barbon founded the Insurance Office in London. The apparent catalyst for the Barbon's "invention" was the Great Fire of London, that happened on September 2, 1666. One year later the first actual insurance company was born.

The Setting

Every business is built around the idea of opportunity, whether genuine of imaginary one. In order to succeed a business needs customers willing to buy goods or services at an acceptable price (at which a profit could hopefully be made). Selling snow cannon to Eskimos or Siberians in winter is a poor business idea for these people usually have plenty of snow. Insurance is no exception. In order to sell insurance there must be an opportunity, a market, i.e., a considerable pool of people sufficiently concerned or even frightened, who would pay money to protect them against odds of a possible loss in the case of some future event, which may or may not happen. Interesting is semantics of the word insurance in European languages - from English insurance to French l'assurance to German Versicherung (which means "encertaining") to Russian strahovanie (which roughly means "enfearing," i.e., paying for one's fear, and that's what insurance business is primarily about). In addition to fear mongering, the business of insurance is a gamble. The insurer gambles on the chance that nothing will happen to the insured (and in some cases vice-versa, the insured party wouldn't mind if some terrible catastrophe actually happened). Nicholas Barbon, knew a lot of about fear, economics, gamble, chance and business, so he founded the first actual insurance company. London was the setting for Nicholas Barbon's experiment. In 1666 the city of London was devastated by a great fire of the magnitude no large European city experienced from 1666 at least until the great fire of Moscow in 1812 (which occurred during Napoleon's occupation of the city), the London fire started in a bakery on a clear September day. London had some serious problems with fires throughout its history. The Duke of Normandy, William the Conqueror, when he took London in 11th century after defeating the English was horror-struck by the sight of fires burning "here and there" all over London. Duke's Norman administration ordered fires in houses to be covered with a big bowl-shaped lids, or covers for fire (or couvre-feu, feu is fire in French and couvre is a cover); at certain hour in the evening all fires had to be covered with couvre-feu, that's where the word curfew originates from. Norman couvre-feu did not save London from its first "Great Fire" in the 11th century, in which 3000 people perished. The fire that erupted in baker's shop in Pudding Lane in the morning on September 2, 1666, quickly spread throughout the city. Its first victim was a giant water mill (with a huge wheel inside) that supplied water to Londoners. The fire ranged for days, the King Charles II called in Duke of York, commander of the Royal Navy, to put out the conflagration. Buildings and entire city blocks were demolished with gunpowder charges to deprive the expanding blaze of fuel. This tactic probably worked: the fire died out in the end. At the time no city in Europe or the known world (and London was certainly not an exception) had an organized firefighting force. The authorities had no fire contingency plans. Fire or immovable property insurance did not exist in principle, so a large number of property owners were ruined. How many exactly is unknown, but over 13000 buildings were destroyed in London in the course of the Great Fire of 1666. Nicholas Barbon saw an incredible business opportunity in the fiery disaster.

The Founder
By the time Nicholas Barbon founded the Insurance Office, or the world's first actual insurance company, he was quite wealthy. Barbon's definition of being wealthy is probably as valid today as it was when he wrote it in 1685: "...for be well fed, well clothed, and well lodged without labour either of body or mind, is the true definition of a rich man." It is a quite rare occurrence that a successful businessman is also a writer of some merit, or when an economist, a theoretician of economics, is also a successful businessman in "the real life." Nicholas Barbon was both. During the time of Commonwealth, Cromwell's parliament had been dubbed "the Barebone's Parliament," "thanks" to the influence of one especially infamous member, - Isaac Praise-God Barebon (his name is sometimes written as Praisegod Barebone without the "dash"). Praise-God Barebone was a fanatical preacher, and he gave his son, born in 1640, one very odd name: Hath Christ Not Died for Thee Thou Wouldst Be Damned Barebone. His son, quite naturally, later changed his name to something more conventional sounding. He became Nicholas Barbon. He emigrated early from England and traveled through Low Countries and France. Then he studied medicine at Leyden, in Holland, and became a medical doctor at Utrecht, also in Holland. In the 1664 he became a member of the Honorary College of Physicians back in England, where he practiced medicine and saved some capital until the Great Fire struck London on September 2, 1666. I couldn't find much references on how good a physician Nicholas Barbon was, but it seems that he was a brilliant entrepreneur, a prolific writer, a bright economist of international repute and, in addition, an extremely eccentric individual. Although by the time of his death 1698 he accumulated a considerable fortune, he also had some debts, and he made sure in his will and through other financial arrangements that NONE of his debts would ever be repaid to his creditors. After the smoke of the Great Fire of London has cleared, it became apparent that vast areas of the city have turned to wasteland. Nicholas Barbon invested his money into acquisition of now immensely cheapened urban land. He resold his acquisitions several times over, and became known as one of the most successful land speculators and re-builders of London. By the end of 1667 Barbon acquired large real estate holdings in London, and an striking thought occurred to him, - he came to his wealth "thanks" to the Great Fire, which enabled him to purchase distressed property or simply land at extremely low cost and then resell it "as is" or with new buildings constructed on it at a great profit. However, were a similar fire to occur again, he would lose most of his wealth as fast as he gained it. So would most new property owners. The commercial idea of fire insurance was born, and so was the world's first real insurance company.

The Company
1. When it was originally founded?
The Insurance Office was founded in late 1667 (although some sources used put the date of the first insurance company at 1680 and 1681, the most recent research shows that the company was originally founded in 1667). The Insurance Office was located in a small office behind London Royal Exchange.
2. How many investors formed the firm?
Originally, the company was probably founded by Nicholas Barbon and he "took" some investors "onboard" later on. The original number of investors was rarely very big in those days, and most likely, in addition to Nicholas Barbon, who was the first one, the figure had not been greater than the number of investors who formed the Royal and SunAlliance Company in 1710. In that case, 24 gentlemen "of quality" became the first shareholders. Naturally in the instance of Royal and SunAlliance Company, founded in 1710, its ownership of 24 original investors had been "diluted" to tens of thousands institutional and individual investors all over the modern world: Royal & SunAlliance is the seventh largest property and casualty insurance company; its' shares are traded on London and New York Stock exchanges (under symbol RSA)
3. The development and expansion of this insurance firm:
The London Insurance Office expanded dramatically, primarily for the reason that its' services were wanted (property owners feared fire) and because, at first, it was de facto monopoly. It fact considering that no insurance business save for marine assurance existed in the world at the time of Barbon's commercial innovation, the London Insurance Office had 100% share of both London and, in theory, of the contemporary world's insurance market. Although competition sprung up almost immediately and the monopolistic position could not be maintained for long, Nicholas Barbon made enough money in the insurance trade he pioneered to expand to other areas of commercial activity, - he co-founded the National Land Bank of England shortly before his own death.
4. How did they secure a short-term and long-term success by strategic innovation?
One of the first steps of the Insurance Office was to assign grades of risk to different kinds of property. This was a fundamental innovation (besides the fact that the very business the Insurance Office ventured upon can be only defined as pure innovation). Thus a different premiums were assigned to different grades of risk (this form of risk management was also a major innovation), for example a brick building in an area of low fire risk was insured at the price of 6 pence for each pound (sterling) of value whilst premiums for wooden buildings would go up to 1 shilling for a pound (sterling) of insured value.
The second most incredible innovation introduced by the Insurance Office was creation of a private fire fighting service, which led to emergence of professional firefighting services throughout Europe and then the world. The goal of an insurer is to win the gamble, i.e. to collect the premium without having to pay out the award. Nicholas Barbon thought that the best way to do it in case of fire insurance business is to extinguish fires before they destroy the property. After the Great Fire of London of 1666 several royal ordinances were passed to prevent fires both from happening and to build some sort of defense against then if or rather when they do happen, - each quarter of the city had to be provided with 50 ladders and 800 leather buckets, but firefighting remained a responsibility of the inhabitants since no organized fire fighting force was in place. The Insurance Office created its own firefighting force. The duty of this private firefighting brigade was to extinguish fires only in buildings insured by the Insurance Office. Since Insurance Office did not retain monopoly on its own invention - property insurance - for too long, other competitors followed suit. Insurance companies with names like Amicable, Friendly Society and Hand-in-Hand sprung up and, in order to compete with the Insurance Office, these late comers had to establish their own private fire departments.
G. Barry Klein writes in his article "The World's First Insurance Company" - "these company-owned brigades were not there for the protection of the public, they were specifically employed by their respective insurance companies. When a fire occurred, all the nearby fire brigades would rush to the fire, just in case it was their company that insured the building. If it wasn't, they'd either leave or, more likely, stay to watch as observers." These first private fire brigades were probably not too efficient, but they represented a major innovation by trying to strategically change the nature of risk, and at that they were quite successful. In fact their efforts lead to creation of public fire fighting departments, which altered the business of fire fighting forever. To help

private firefighters to identify the buildings their employer (the insurance company they worked for) was responsible for, a third interesting innovation was introduced. This was the firemark, or the equivalent of an outdoor proof of insurance policy, made of brightly painted tin (at least in England), which owners of the property would mount on the facade of their building. Who is the insurer of the building could then easily be determined by just looking at the sign, the firemark, mounted under the eaves in front of the house. Interesting enough, those old firemarks can still be seen on old buildings in London. The reason why firemarks survived far longer than private fire departments is because insurance companies continued to patronize publicly-run fire departments later in 18 and 19 centuries, and "award" fire fighters for saving they insured. Which is of course also a way of indirectly affecting risk. In the same article - "Given the choice of buildings to save, the firefighters would always attempt to save an insured building before an uninsured one. It was customary for insurance companies to pay for ale at the local pub for any firefighters who attempted to save their insured property and to provide bonuses for those who were successful at it."

5. The organizational structure of this insurance firm.
The structure of the London Insurance Office was somewhat similar to that of modern insurance companies. It included the financial arm that set and collected the premiums, as well as paid out against claims of losses; appraisal branch that appraised the property to be insured; a loss prevention unit, which unlike any modern insurance company, included own firefighting force as well as hired firefighting contractors; and investigative branch tasked with examining suspicious fires and dubious claims.

Key ingredient to Success
Innovation, in fact the invention of an entirely new financial product (property insurance) has been the key to the success of London Insurance Office. Modern insurance companies operate in tight regulatory environments under conditions of an established marketplace, however the main lasting lesson of Barbon's Insurance Office is the fact that if one attempts to innovate and look at familiar problems from unusual angles, he (or she) may achieve spectacular business results.

The Conclusion
The story of the world's first insurance company, the Insurance Office in London is illustrative of two divergent patterns of any new business development, these developmental patterns are not restricted to insurance. Since the business was founded on an entirely new concept (which was selling fire insurance at a profit and managing risk of real estate loss), that proved to be extremely profitable even in the short run, it inevitably attracted new entrants to the market. This proves that if anyone creates a successful business model (in this case the entire insurance industry was born), he (or she) is bound to be emulated. While advantages of being "first comer" can be substantial and long lasting (the first pattern), there are no guarantees that the success can last indefinitely (the second patter: the Insurance Office in London eventually ceased to exist) and that no company, no matter how entrepreneurial and innovative, can forever maintain an effective monopoly on innovation.

Bibliography/Selected sources:

International Risk Management Institute
http://www.irmi.com
A very interesting website about insurance and risk management. The site contains material on Nicholas Barbon, the Insurance Office and the Great Fire of London.

Royal &SunAlliance Insurance Company
http://www.royalsunalliance.com

Royal & SunAlliance Insurance Company (USA)
ttp://www.royalsunalliance-usa.com

Royal & SunAlliance Insurance Company (Canada)
http://www.royalsunalliance.ca

http://www.adelpha.com/~davidco/History/fire1.htm - the Great Fire of London, the scan of original London Gazette, "published by Authority", dated from September 3 to September 10, 1666.

http://www.pickeringchatto.com/insurance.htm

History of Insurance (Summary)

http://www.infoplease.com/ce6/bus/A0858849.html
The History of Insurance at Info Please

http://info.web.cern.ch
CERN

http://www.fire-uk.org/Fire_Service_Structure.htm - History of British fire service

http://www.socsci.mcmaster.ca/~econ/ugcm/3ll3/barbon/barbon.html
Biography of Nicholas Barbon

http://www.insur.ru/history.htm
Istoria strahovanija v Rossii (The history of insurance in Russia and the world, in Russian), online museum of insurance (also in Russian)