Pricing Excess Workers Compensation 2003 CAS Ratemaking Seminar Session REI-5 By Natalie J. Rekittke, FCAS, MAAA Midwest Employers Casualty Company

Pricing Excess Workers Compensation n Estimate ultimate ground-up losses n Estimate excess portion of ultimate losses n Consider qualitative information n Apply risk loadings including load for terrorism

Pricing Excess Workers Compensation n Estimating Ultimate Ground-up Losses Loss Ratio (or Loss Cost) Method Experience Modified Loss Cost Method

Pricing Excess Workers Compensation Loss Ratio (or Loss Cost) Method –Estimate on-level premium (or payroll) for historical years –Develop losses to ultimate –Adjust ultimate losses for trend in excess of payroll trend to prospective pricing period –Calculate loss ratio (loss cost) by year and select –Apply selected loss ratio (loss cost) to estimated prospective premium (payroll) to estimate ultimate ground-up losses

Pricing Excess Workers Compensation

Loss Ratio (or Loss Cost) Method –Advantages useful when exposure detail (payroll by class) is not available useful when industry expected loss costs are not available –Disadvantage loss cost method does not contemplate changes in mix of business historically or prospectively

Pricing Excess Workers Compensation Experience Modified Loss Cost Method –Apply industry loss costs by class (trended to historical periods and at historical benefit levels) to historical payroll by class to calculate industry expected losses –Estimate expected reported (or paid) losses as of the current evaluation date –Divide actual reported (or paid) losses by expected to calculate historical experience modification factors –Select experience modification factor (mod) –Apply selected mod to expected prospective losses to estimate ultimate ground-up losses

Pricing Excess Workers Compensation

Experience Modified Loss Cost Method –Advantages reflects changes in mix of business allows for adjustment for potential benefit level changes or changing medical trends –Disadvantages requires payroll by class historically and prospectively - sometimes difficult to obtain development of industry expected losses by class code and incorporation of benefit levels and trends can be time consuming and complex

Pricing Excess Workers Compensation n Estimating excess portion of ultimate losses Industry ELPPFs Entity-Specific Excess Ratios Large Loss Experience Method

Pricing Excess Workers Compensation Industry ELPPFs –Available by state, by hazard group, by limitation –Separate selected ground-up ultimate losses into the four hazard groups –For each hazard group, multiply ground-up ultimate losses by ELPPF at desired loss limitation and add all hazard groups together to derive expected excess losses

Pricing Excess Workers Compensation Industry ELPPFs –Advantages readily available easy to use –Disadvantages not unique to the entity only 4 possible ELPPFs for a given state and loss limitation, and most entities fall in hazard groups 2 and 3

Pricing Excess Workers Compensation Entity-Specific Excess Ratios –Estimate average severity by type of injury (TOI) –Divide the loss limitation (specific retention) by the average severity to calculate an “entry ratio” by TOI –Use the entry ratio as an “index” into the loss distribution (curves available by state benefit characteristics, by TOI from the NCCI) –The portion of claims in excess of the entry ratio (excess ratio) is returned (see Retrospective Rating: Excess Loss Factors by William R. Gillam for technical details on excess ratio derivation) –For each TOI, multiply ground-up ultimate losses by the excess ratio, and sum to derive expected excess losses

Pricing Excess Workers Compensation Entity-Specific Excess Ratios –Advantages unique to the entity, allows for price differentiation among various entities of similar risk levels most responsive to entity experience and risk level if average severities are estimated not only by TOI, but even more refined to the class code level –Disadvantages difficult to estimate average severities and ultimate losses by TOI, much less by class entity experience at this level of detail lacks credibility, and to compile industry statistics of this nature to complement entity experience would be extremely difficult and time consuming

Pricing Excess Workers Compensation Large Loss Experience Method –Use actual large loss experience to select ultimate losses in a working layer –Based on loss distribution curves, estimate the relationship of expected losses in the higher pricing layer to expected losses in the working layer –Apply that relationship to the selected losses in the working layer to price the higher layer

Pricing Excess Workers Compensation Large Loss Experience Method –Advantages May be useful when ground-up loss data is not available, and only large loss experience is provided for pricing Relationship of higher layer to a working layer may be more reliable than relationship of higher layer to ground- up losses –Disadvantages Does not contemplate change in exposure level or mix of business Large loss data lacks credibility

Pricing Excess Workers Compensation Credibility –Credibility of industry and entity data should be considered in all of the methods discussed –In addition to formula driven credibility, qualitative information can lend credibility to and assist the actuary in interpreting the quantitative analysis

Pricing Excess Workers Compensation n Qualitative Considerations –Self-insured’s attitude/commitment regarding its workers compensation program –Quality of third party claim administrator (TPA) –Quality of loss control vendor/program

Pricing Excess Workers Compensation Self-Insured’s Attitude/Commitment Regarding its Workers Compensation Program –Proper use of safety committees –Accountability for safety at appropriate management levels –Timeliness of claim/incident reporting –Supervisor contact with injured employees –Returning injured employees to work (light duty programs) –Frequency of changing TPA and loss control vendors

Pricing Excess Workers Compensation Quality of TPA –Medical management –Lost time claim management –Catastrophic claim management –Case resolution/settlement philosophy –Case reserving practices

Pricing Excess Workers Compensation Quality of Loss Control Vendor/Program –Professional qualifications of vendor personnel –Supervisor/employee safety training –Engineering/loss control analysis –Employee safety incentive programs

Pricing Excess Workers Compensation Issues for Consideration –How much “soft” knowledge can be gathered in a cost efficient manner? –How much knowledge is enough? –How much impact do “best practices” have on retained losses? –Where does the impact occur (e.g., frequency, severity, tail factors,…)? –How can other disciplines help you?

Pricing Excess Workers Compensation n Applying Risk Loadings High Retentions Terrorism

Pricing Excess Workers Compensation Risk Loading for High Retention –Expected losses in high layers are low –Underlying exposure to loss could be very high –If premium is close to expected losses, it could take hundreds of policies to cover one actual loss –A risk load should be used

Pricing Excess Workers Compensation Loading for Terrorism –NCCI filed primary loss cost loadings of around $0.02 per $100 payroll –A terrorism event would be considered a single occurrence  excess insurance would effectively turn into primary insurance –Excess insurance should apply similar $0.02 loading

Pricing Excess Workers Compensation Terrorism loading example Primary Policy –$100M payroll –Average rate of $2  premium of $2M –Terrorism loading of $0.02  total premium of $2,020,000 –Terrorism load is 1% Excess Policy –$100M payroll –Average manual rate of $2  manual premium of $2M –SIR of $300,000 –Excess rate of 5%  excess premium of $100,000 –Terrorism loading of $0.02 (per $100 payroll)  total premium of $120,000 –Terrorism load is 20%

Pricing Excess Workers Compensation Managing Terrorism –Load premium for terrorism –Put specific limits on your policies –Manage your concentration of risk by knowing where your business is number of insured employees within a certain square mile range probable maximum loss within a certain square mile range total loss your company is willing to bear