Advanced PowerPoint Presentation

Advanced PowerPoint Presentation
©2009 The National Underwriter Company

©2009 The National Underwriter Company
This Advanced PowerPoint Presentation accompanies the “Tools & Techniques of Risk Management & Insurance” textbook. Each of the 28 chapters in the textbook are presented here in the following sections: Outline Key concepts (Key words are italicized) Major sections Chapter summary ©2009 The National Underwriter Company

Contents Techniques of Risk Management & Insurance
Ch 1 Introduction to Traditional Risk Management……………1-5 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism……………….7-1 Ch 8 Overview of Alternative Risk Transfer Techniques……..8-1 Ch 9 Global Risk Management………………………………….9-1 Ch 10 Loss Control Techniques………………………………..10-1 Ch 11 Emergency Response Planning………………………..11-1 Ch 12 Business Continuity Planning…………………………..12-1 Ch 13 Claims Management……………………………………..13-1 Ch 14 Monitoring Claims for Financial Accuracy……………..14-1 Ch 15 Insurance Companies and Risk Management………..15-1 Ch 16 Working with an Agent or Broker……………………….16-1 ©2009 The National Underwriter Company

Contents Tools of Risk Management & Insurance
Ch 17 Commercial General Liability Insurance……………….17-1 Ch 18 The Workers’ Compensation System………………….18-1 Ch 19 Commercial Property Insurance………………………..19-1 Ch 20 Directors and Officers’ Liability Insurance……………..20-1 Ch 21 Employment-Related Practices Liability Insurance…..21-1 Ch 22 Business Automobile Insurance………………………..22-1 Ch 23 Crime Insurance………………………………………….23-1 Ch 24 Capital Markets Risk Transfer Tools…………………..24-1 Ch 25 Loss Control Tools……………………………………….25-1 Ch 26 The Certificate of Insurance…………………………….26-1 Ch 27 Surety Bonds……………………………………………..27-1 Ch 28 Claim Reviews……………………………………………28-1 ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Outline
Understanding the Nature of Risk A Brief History of Risk Management The Risk Management Process Steps in the Process Importance of Risk Management to the Organization The Risk Management Policy Statement Traditional Risk Management vs. Enterprise Risk Management Chapter Summary Glossary: at the end of each chapter – key words to learn ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Understanding the Nature of Risk Risk can be managed and controlled Event risks (fortuitous risks) are insurable risks Business risks (uninsurable) are just another cost of doing business Key point: risk is a type of volatility Risk is independent of who pays for losses. Supplement Objective risk is the variation from an expected outcome over time Objective risk enables the measurement of three key variables: expected outcome variation time ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Understanding the Nature of Risk Risk can be illustrated as the dispersion from the expected outcome at some time. The red risk at time 1 is less risky (volatile) than the blue risk at time 3. ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management A Brief History of Risk Management Risk Management has been a viable discipline since the 1960s Earlier work was in insurance purchasing Insurance companies provided risk transfers capacity and loss control engineering activities Risk management pioneers include Robert Hedges & George Head The centerpiece of their research was to develop a risk management process Today’s emphasis is on Enterprise Risk Management ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management The Risk Management Process The risk management process focuses on the firm’s ability to recognize and correct dangerous occurrences that could lead to catastrophic losses Risk management is proactive – it is a pre-loss exercise, not only post-loss The scope of risk management activities are defined by the firm’s goals. The goals must be clearly understood before moving on. ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management The Risk Management Process Supplement Develop a Risk Management Program Risk Analysis Solution Analysis Decision Process System Administration ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management The Risk Management Process Supplement 1. Develop a Risk Management Program Plan – create and synchronize strategic, operational, and tactical goals Organize – coordinate risk associates with the risk management department. Place the risk function within the organizational chart. Write – articulate the organization’s risk philosophy (tolerance and appetite), and prepare a risk management standard operating procedures manual, update, and adjust. ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management The Risk Management Process Supplement 2. Risk Analysis Identify – all possible risks—speculative and pure Measure – using quantitative and qualitative analysis tools Evaluate – create a portfolio of risks and consider interaction effects (correlations). ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management The Risk Management Process Supplement 3. Solution Analysis Identify – all possible opportunities to modify the risks, including first risk control and then risk financing Measure – using quantitative and qualitative analysis tools Evaluate – the holistic impact of the portfolio of solutions ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management The Risk Management Process Supplement 4. Decision Process Decision models – consider all possible models, including benchmarking, financial analysis, experience, ethics, and multi-attribute models Support – leadership in gaining stakeholder buy-in and participation Implement – allocate resources of people, time, and money; prepare budgets and time allocation charts; including managing and training employees ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management The Risk Management Process Supplement 5. System Administration Monitor – use a modern Enterprise Risk Management Information System Judge – evaluate the success of the solution portfolio using statistical quality control tools (such as six-sigma) Communicate – prepare documents and reports to comply with stakeholder and regulatory demands ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Steps in the Process Step 1. Identify risks Step 2. Quantify and analyze risks Step 3. Evaluate potential treatments Step 4. Implement selected treatments Step 5. Monitor the effectiveness and make adjustments ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Steps in the Process Step 1 - Risk Identification That which cannot be identified cannot be managed The two major sources of risk are: Assets and Operations Most asset risks are first party risks Most operations risks are third party risks Third party risks are generally represent the greatest threat Risks that must be financed or transferred are baseline risks ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Steps in the Process Step 2 – Quantitative Analysis Determine the maximum and expected loss for each risk The maximum should be the probable maximum loss (MPL) For third party risks, ask 2 questions: How much of a loss can we withstand? How much of a loss can we withstand and be financially viable? ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Steps in the Process Step 3 – Evaluating Risk Treatment Options Most risk management plans include a financing & control option Financing options are either on-balance sheet or off-balance sheet On-balance sheet financing options are called retention Off-balance sheet financing options are transfers, such as insurance Active loss retention is also called self-funding Passive loss retention is being uninsured ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Steps in the Process Step 3 – Evaluating Risk Treatment Options Controlling risk means controlling the variation, expected outcome, or timing of losses Financial transfers is not risk control – it only shifts the payment Risk control is the most important risk management activity Risk control can be either prevention and/or reduction Loss prevention decreases the probability of losses Loss reduction decreases the severity of losses ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Steps in the Process Step 4 – Implement To implement – first decide on the portfolio of treatment options Next, get support from all stakeholders Then, get sufficient resources allocated ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Steps in the Process Step 5 – Risk Administration Monitoring and Adjusting Nothing is static – plan on continuous adjustments Continuous monitoring requires a structured approach Monitoring is done with a Risk Management Information System ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Importance of Risk Management to the Organization Risk management is an essential part of overall management Simply transferring all risks is not a viable option (why not?) Excessive use of insurance is expensive and inefficient The primary duty of a risk manager is to design and execute a plan Risk management should be a part of an organization’s culture Risk management should be considered in every major decision Risk management balances sales with growth and stability Risk management must contribute a positive NPV – it is an investment Senior managers should view risk management as a long-term investment ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management The Risk Management Policy Statement Goals and objectives must be clearly defined And communicated A risk management policy statement reflects the organization’s stated values relative to risk The risk management policy statement is a strategic issue Supplement It should articulate its broad risk philosophy risk appetite risk tolerance ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Traditional Risk Management versus Enterprise Risk Management Traditional risk management evolved from the insurance industry Supplement ERM employs three distinct forms of risk management: Strategic risks – the variation to long-term projects, or events that have long-term impacts Operational risks – the variation to short-term projects ; also called business or hazard risk Economic risks – the variation to financial conditions and to other macro-economic conditions e.g., political or regulatory environments ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Traditional Risk Management versus Enterprise Risk Management ERM has created the convergence of Securitization & Insuritization Securitization – A type of structured financing in which the firm separates its credit (sales) and debit (funding) activities e.g., Cash securitization – a bank pools its loans and sells portions (tranches) of the pooled asset Insuritization – A type of hedge in which the firm offers catastrophe bonds or Insurance derivatives to stabilize outcomes e.g., An insurance call option gives the insurer the right to buy reinsurance at a specified price ©2009 The National Underwriter Company

Chapter 1 Introduction to Traditional Risk Management Chapter Summary
Understanding the Nature of Risk Variation from the expected outcome over time A Brief History of Risk Management Insurance  Loss control  RM process  ERM The Risk Management Process Proactive focus on goals and catastrophic events Steps in the Risk Management Process Identify risks Analyze Treatments Implement Monitor Importance of Risk Management to the Organization Risk management contributes to shareholder value The Risk Management Policy Statement Defined, communicated, strategic risk management goals Traditional Risk Management vs. Enterprise Risk Management Hazard risks vs. Strategic+ Operational+Financial risks, managed with securitization and insuritization ©2009 The National Underwriter Company

This Advanced PowerPoint Presentation accompanies the “Tools & Techniques of Risk Management & Insurance” textbook. Each of the 28 chapters in the textbook are presented here in the following sections: Outline Key concepts Major sections Chapter summary ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-5 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism……………….7-1 Ch 8 Overview of Alternative Risk Transfer Techniques……..8-1 Ch 9 Global Risk Management…………………………………9-1 Ch 10 Loss Control Techniques………………………………..10-1 Ch 11 Emergency Response Planning………………………..11-1 Ch 12 Business Continuity Planning…………………………..12-1 Ch 13 Claims Management……………………………………..13-1 Ch 14 Monitoring Claims for Financial Accuracy……………..14-1 Ch 15 Insurance Companies and Risk Management………..15-1 Ch 16 Working with an Agent or Broker……………………….16-1 ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Outline
What is it? Purpose of ERM Risk Classifications in ERM Overlay of Risks Concepts in ERM Why Use ERM in Lieu of Conventional Risk Management? Risk Assessment and Analysis Financial Solutions in an ERM Environment The Chief Risk Officer The Future of the CRO Chapter Summary ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management What is it?
ERM is a framework for managing all an organization’s material risks The discipline is new – there is not a consensus on ERM ideas Risk managers who can embrace ERM will flourish – traditional risk managers may be dinosaurs ERM was first developed to help the financial services industry ERM is being adopted globally – some standards exist: Australia: ANZ Standard 4360:1995, 1999, 2000, 2004 Canada: CSA-Q850-97 Britain: BS :2000 ERM bridges pure risk management with speculative risk management ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Purpose of ERM
ERM is an approach to managing risk – not a product or service ERM has two primary objectives: The reduction of earnings volatility The maintenance and growth of shareholder value Recall Risk is the variation from an expected outcome at some time 1) ERM stabilizes the expected earnings during a fiscal period 2) ERM sustains the desired growth of shareholder equity 1) Reducing Volatility 2) Maintaining Shareholder value ©2009 The National Underwriter Company

Supplement -- Volatility Newer ERM models suggest: Create the desired level of variation From the expected outcome In the intended time horizon Enables the risk manager to broaden the perspective from pure risks to include value-creating speculative risks. ©2009 The National Underwriter Company

Supplement – Shareholder Value Shareholder value vs. stakeholder value Stakeholders are parties that have an interest in the organization’s success (e.g., management and labor, suppliers and customers, owners and boards of directors, government and non-government organizations Stakeholders demand “triple bottom line” concept environmental stewardship social justice values, and economic performance ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Risk Classifications in ERM
There are four main categories: Strategic risks Hazard/event risks Operational risks Financial risks From two primary sources External sources Internal sources ©2009 The National Underwriter Company

Strategic risks Defined – long-term, high-level variations in attaining the business plan. Examples: Compliance risks Planning risks Market risks (demand and supply) Joint venture risk Mergers & acquisitions ©2009 The National Underwriter Company

Hazard/event risks Defined – Variations to traditional risk management exposures in an organization’s operation. Typically risks that occur within one operating period. Hazard/ event risks are generally insured or contractually transferred. Examples: Property exposures (building damage) Third-party legal liability exposures Human resources Net income exposures ©2009 The National Underwriter Company

Operational risks Defined – Variations to an organization’s operations (other than traditional hazard/event risks). Examples: Quality control Hiring practices Customer satisfaction Reputational risks ©2009 The National Underwriter Company

Financial risks Defined – Variations to an organization’s expected financial asset and financial liability values. These values may be expressed in the balance sheet, income statement, statement of cash flows, or notes. All financial risks are externally derived. Examples: Earnings risk Interest rate risk Investment risk Credit risk Liquidity risk ©2009 The National Underwriter Company

Supplement Contemporary and simplifying update – reduces the number of risk classifications to three strategic risks – reputation, compliance, market position operational risks – event/hazard risks economic risks – include traditional finance risks (exchange rate, interest, and credit risks) ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Overlay of Risks
Supplement Overlay of risks (Figure 2.4) is modified: the core strategic risks are surrounded by operational risks, which are then surrounded on the outside by the economic risks Macro – Economic Risks Operational Risks Core Strategic Risks ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Concepts in ERM
ERM’s 3 main concepts (of horizontal integration) Risk interdependencies – interaction effects Correlation / non-correlation – statistical associations Modern Portfolio theory – combining exposures in a balanced portfolio decreases risk Additional ERM concepts Vertical integration – Strategic, Operational, & Tactical risks Positive Mental Attitude – focus on speculative risks and creating shareholder value by taking risks Sophisticated - financial, statistical, & management concepts The CRO is a facilitator – everyone manages their own risks ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Concepts in ERM
Supplement 5 main concepts (differentiating ERM from traditional RM) Traditional RM ERM Horizontal integrations risks quantified separately and distinctly interdependencies and correlations between variables Vertical integrations focus on operational goals focus on goals at all of the organization's levels Facilitation one-person shop doing all risk management functions C-level leader who serves as an internal consultant helping others achieve their risk-sensitive goals. Integrated tools N/A use tools from finance (e.g., portfolio theory), statistics (e.g., six-sigma), decision science, and general management (e.g., behavior modification) Focus on value creation (speculative risks). attempts to minimize silos of risk focuses on enabling and enhancing portfolios’ desired risks so as to achieve the commensurate returns ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Why Use ERM in Lieu of Conventional Risk Management? Increase cost predictability Decrease risk expenses Integrate risk financing plans Improve financial security Improve understanding of risks – better decisions Optimal resource allocation Reduce cash flow and earnings volatility Improve stock performance Decrease cost of capital Build stakeholder (shareholder) confidence ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Risk Assessment and Analysis
Risk Mapping – a graphical analytical tool that allows all material risks to be plotted in one picture – improves understanding. A simple risk map Hi R1 R6 p(L) R4 Lo R2 R3,R5 R7 lo $(L) hi Analysis: Risks in the green cells (R2, R3, & R5) are tolerable probability/severity risks Risks in the yellow cells (R1) are concerns and need risk control Risks in the red cells ( R6) are dangerous and may be catastrophic Risk 1 is becoming more severe over time Risk 2 is becoming more likely over time – a loss prevention program is needed Risks 3, 4, and 5 are stable Risk 6 is become less likely and less severe – perhaps a risk prevention and reduction program is being used on this risk Risk 7 is become less severe over time – perhaps a risk reduction program was used The arrows indicate the risk’s movement over time. ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Risk Assessment and Analysis
Supplement – Risk Mapping Risk maps continue to evolve Now plot all of the organization’s risks – both pure and speculative Show gains in value on right side of the origin and losses on the left Computers allow modern risk maps to plot events on a continuous scale ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Financial Solutions in an ERM Environment Integrated Risk Insurance Structures – non-correlated risks are combined in a portfolio. The result is decreased volatility and more predictable outcomes. This makes a financial transfer cost effective. Figure 2.7 Typical Structure – Integrated Risk The primary policies are non-correlated risks ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Financial Solutions in an ERM Environment Impact of Financial Accounting Standard 133 on IR A directive on the accounting for derivative contracts Derivatives derive their value from an underlying asset E.g., Forward, Futures, Swap, Option contracts Derivatives used for risk management must be hedge instruments A hedge stabilizes the variation from the expected outcome over time Hedge accounting means a derivative’s gains or losses are recorded in the same period as the underlying hedged item’s income effects Hedge instruments are ‘marked to market’ on the balance sheet; gains and losses are recorded on the income statement The event risk and financial risk must not be bifurcatible Bifurcatable means the risks can be separated without the integrated risk program collapsing ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Financial Solutions in an ERM Environment Theoretical Benefits of Integrated Risk Structures The portfolio reduces variability – which allows for lower risk transfer costs Fewer insurers are used – reducing credit risk Reduced administrative costs Decreases potential claims disputes among insurers Improved protection for balance sheet risks Overall risk management is more efficient ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Financial Solutions in an ERM Environment Perceived Disadvantages of Integrated Risk Structures Lack of expertise and experience Multi-line insurers and reinsurers may not support integrated risk - especially in a hard market Corporate treasury personnel may be unwilling to cooperate with risk managers over financial risk issues Integrated risk management is a new and untested area – it may meet resistance ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Financial Solutions in an ERM Environment Types of Integrated Risk Structures Multi-line insurance packages Multi-year insurance policies Multiline-multiyear insurance program (cross-class program) Multiple Trigger Programs Combines (often independent) risks into program that protects against catastrophic combinations of losses e.g., a Dual Trigger program: property loss from climate event + decrease in stock price from financial event ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management The Chief Risk Officer
A staff position reporting directly to the CEO The Goal of the CRO: to protect and enhance shareholder value CRO Skills: Leadership Communication and persuasion Get support and buy-in Manage people and tasks See the big picture (think strategically) Understand all risk solutions (risk control and financial) Sophisticated financial and analytic skills Facilitator of other’s risk management efforts ©2009 The National Underwriter Company

Benefits and Advantages Able to make better decisions Thorough and cost effective treatment of all risks Consistent goals across the entire enterprise Drawbacks and Disadvantages Lack of buy-in Concentrates responsibility in one position Absence of managerial controls Disrupts established business relationships Requires a change in corporate culture ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management The Future of the CRO
Audit committees are proactively enhancing the corporate governance recommendation relative to the management of financial, operational, and strategic risks The CRO must develop sophisticated skills to be capable of this senior management position responsibilities ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Chapter Summary
What is it? a framework for managing all an organization’s material risks Purpose of ERM Reduce earnings volatility & Maintain shareholder value Risk Classifications in ERM Strategic, Operational, Hazard, & Financial Overlay of Risks A portfolio of integrated risks Concepts in ERM Risk interdependencies, Correlation, Portfolio theory ©2009 The National Underwriter Company

Chapter 2 Enterprise Risk Management Chapter Summary
Why Use ERM in Lieu of Conventional Risk Management? Increase cost predictability Decrease risk expenses Integrate risk financing plans Improve financial security Improve understanding of risks – better decisions Optimal resource allocation Reduce cash flow and earnings volatility Improve stock performance Decrease cost of capital Build stakeholder (shareholder) confidence Risk Assessment and Analysis Risk Mapping Financial Solutions in an ERM Environment Integrated Risk Structures The Chief Risk Officer A leader facilitating the enhancement of shareholder value The Future of the CRO ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management…………..1-5 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism……………….7-1 Ch 8 Overview of Alternative Risk Transfer Techniques……..8-1 Ch 9 Global Risk Management…………………………………9-1 Ch 10 Loss Control Techniques………………………………..10-1 Ch 11 Emergency Response Planning………………………..11-1 Ch 12 Business Continuity Planning…………………………..12-1 Ch 13 Claims Management……………………………………..13-1 Ch 14 Monitoring Claims for Financial Accuracy……………..14-1 Ch 15 Insurance Companies and Risk Management………..15-1 Ch 16 Working with an Agent or Broker……………………….16-1 ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Outline
What is it? Step One: Categorizing Owned and Non-owned Assets Step Two: Identifying Third-Party Liability Step Three: Choosing the Resources Advantages & Disadvantages Where Can I Find Out More About It? Chapter Summary ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification What is it?
Risk assessment has two activities: Risk identification (this chapter) Risk quantification (chapter 4) The ability to assess risks is related to : the quality of management controls the effectiveness of the business plan the culture driving the management philosophy ERM risk assessment requires: a global perspective using risk maps ©2009 The National Underwriter Company

All loss exposures derive from two major sources: Owned and non-owned assets Third party liability Risk Identification has three steps: Categorize owned and non-owned assets Identifying third-party liability Choosing the resources ©2009 The National Underwriter Company

Supplement Current ERM risk assessment now contains three separate and distinct activities: Risk Identification Risk Measurement (quantitative and qualification), and Risk Portfolio Evaluation ©2009 The National Underwriter Company

Supplement Risk Identification using the seven proven methods (see page 25) describing the five attributes that determine the essential quality of the risk Three must be described at this point in the process: description of the subject (the exposure or project) source of the change in value (peril or opportunity) factors that modify the likelihood or impact (hazards or drivers) Descriptive analysis of risk is critical first step: forces risk analyst to clearly explain the three dimensions of the risk enables better understanding of the variation ©2009 The National Underwriter Company

Supplement Risk Measurement (quantitative and qualification) discussed in Chapter 4 Risk Portfolio Evaluation requires risk manager to identify and measure the interaction effects of combining risks into a portfolio risk manager should attempt to express the associations and relationships between risks. interaction between two risks can be beneficial or adverse ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step One: Categorizing Owned and Non-owned Assets Financial assets can be: Financial records Legally negotiable Instruments Intellectual capital Employees are the most important asset Some employees are critical to survival Intangible Assets Goodwill Relationships with vendors Public infrastructure ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step One: Categorizing Owned and Non-owned Assets Assets are categorized into 4 groups: Physical assets, Financial assets, Intellectual capital (people), and Intangible assets Each asset can sustain: Direct losses, and/or Indirect losses (consequential or contingent) Physical assets can be: Real or Personal Owned or Non-owned ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step One: Categorizing Owned and Non-owned Assets Supplement Four categories of traditional (pure) exposures: Assets (real and personal, including financial and intangible assets Third-party liabilities (legal obligations to others) Human resources (including their intellectual capital) Net income (earnings losses, decreased revenues, or increased expenses) ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Two: Identifying Third-Party Liability Five major categories of third-party liability Premises liability Operations liability (off premises) Product liability Professional liability Employee liability From the ownership or use of a premises Visitors to the premises include: Trespassers Licensees Invitees Children ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Two: Identifying Third-Party Liability Operations liability (off premises) Installation Construction Services Product liability Bodily injury or property damage caused by distributing goods to the public Some goods are inherently dangerous e.g., lawn mowers, automobiles, dynamite Does not apply to efficacy or warranty issues ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Two: Identifying Third-Party Liability Professional liability Reasonable person rule not applied A professional is held to a higher standard of care A professional and the public are not equals e.g., A risk manager has specialized knowledge Employee liability In some cases may be third-party liability In most cases this is second-party liability All states (except Texas) usually require workers’ compensation insurance to fund this exposure ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Two: Identifying Third-Party Liability Supplement Additional categories – public liability exposures Statutory obligations, such as compliance and governance or conduct Social obligations and public policy Stakeholder obligations – those owed a higher duty of care ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Three: Choosing the Resources Management realizes it must assume risk to be successful An optimal risk threshold must be determined There are 7 methods to identify risks: Surveys and questionnaires Financial documents Contract analysis Risk management committees Flow charts Company documents Physical inspections ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Three: Choosing the Resources Surveys and questionnaires Surveys can be customized to the operation Surveys are used in two ways: to collect and document risk financing information to collect and document practices and procedures Financial documents Reveals capital allocated to manage risks Identifies assets (and surplus for losses) Identifies financial obligations (debt) Documents may be internal or external Internal eg: 10Q, balance sheet, income statement External eg: D&B report, Yahoo Finance, Bloomberg ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Three: Choosing the Resources Sales and Other Contracts Identifies transfers of liability e.g., contractual liability transfer, hold harmless agreement, additional insured clause Risk Management Committees Key members of staff: finance, legal, human resources operations: logistics, IT, production, sales Risk manager facilitates quarterly meetings ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Three: Choosing the Resources Flow Charts Identifies relationships between key stakeholders e.g., manufacturing and sales, company and suppliers, company and governments Charts may be internal only or for all stakeholders Company Documents Identifies operational liabilities Examples: employee handbook, SOP, sales literature Corporate board minutes, business plans Includes company statistical reports: e.g., loss histories, industry histories, incident reports ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Three: Choosing the Resources Physical Inspections Identifies risks not identified with other methods Allows verification of published materials e.g., Construction materials Operations and procedures Protective devices Environmental exposures Provides opportunity to meet with local managers discuss loss trends discuss safety concerns get feedback enhances cooperation in managing risks ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Step Three: Choosing the Resources Supplement Additional identification techniques Experts – internal and external Loss history reports Job analysis, incident analysis reports Physical inspections, or surveys, audit documents, litigation records Loss control cost evaluations ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Advantages & Disadvantages
Identify risks Get information not readily shared Integrates risk management with operations Disadvantages May require a great deal of time Difficult to physically inspect all locations ©2009 The National Underwriter Company

Chapter 3 Risk Assessment: Identification Chapter Summary
Exposures derive from two major sources: Owned and non-owned assets & Third party liability Risk Identification has three steps: Categorize owned and non-owned assets, Identifying third- party liability, & Choosing the resources Step One: Categorize Owned and Non-owned Assets Physical, financial, intellectual capital, & intangible assets Each asset can sustain: direct and/or Indirect losses Physical assets can be: real, personal, owned or non-owned ©2009 The National Underwriter Company

Step Two: Identifying Third-Party Liability Five liability categories: premises, operations, product, professional, & employee liability Visitors: trespassers, licensees, invitees, & children Operations liability includes installation, construction, & services Product liability is BI or PD caused by distributing goods Some goods are inherently dangerous Does not apply to efficacy or warranty issues Step Three: Choosing the Resources 7 methods to identify risks: Surveys and questionnaires, financial documents, contract analysis, risk management committees, flow charts, company documents, physical inspections Advantages & Disadvantages ©2009 The National Underwriter Company

Advantages & Disadvantages Advantages Identify risks Get information not readily shared Integrates risk management with operations Disadvantages May require a great deal of time Difficult to physically inspect all locations ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Outline
What is it? Step One: Determining Frequency versus Severity Step Two: Quantifying Retained Risk Step Three: Property Exposures Step Four: Considering Other Factors Advantages and Disadvantages Chapter Summary ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification What is it?
Risk assessment includes risk identification and quantification Risk quantification is an extremely inexact science The purpose of risk quantification is to determine the optimal amount of retained losses Optimization assumes: Insurance costs are optimized, and retained loss costs are reasonably predictable The risk quantification process compares exposure values to : loss frequency and loss severity, and the cost of insurance ©2009 The National Underwriter Company

Supplement Two types of risk assessment Quantitative Qualitative Measures exposure’s value expected outcome associated possible changes in value likelihood of each possibility over time ©2009 The National Underwriter Company

Supplement Valuable information obtained Time of the occurrence Length or duration Expected outcome (arithmetic mean) Mode Median Standard deviation from the mean Range Coefficient of variation ©2009 The National Underwriter Company

Supplement Loss triangulation An important tool in forecasting ultimate loss values Different meaning for “terms of art” across disciplines To avoid confusion… Exposures – changing the E in COPE to “”environment” Replacing “guaranteed cost” with “guaranteed rate” Using “self-funding” in place of “self insurance” ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step One: Determining Frequency vs Severity First analyze each exposure’s value Next determine the possible loss costs A general set of rules: retain smaller, frequent losses retain or transfer medium, more frequent losses – depending on the cost of insurance transfer large (catastrophic) losses to an insurer The cost of insurance Don’t risk a lot for a little! Retain only what is cost effective Retention can be using a deductible or self-funding (SIR) The relationship between the premium and deductible is non-linear. The incremental premium savings for a higher deductible may not be worth the risk. ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Two: Quantifying Retained Risk Techniques to determine how much to retain: Loss range analysis (stratification) Loss triangles Projected expected losses Loss Range Analysis An historical analysis of claims falling within ranges Use percent in each range to aid in selecting deductible A company may choose to retain all losses <$200,001 (90% of total claims) ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Two: Quantifying Retained Risk Loss Triangles The purpose is to determine the ultimate loss value (payment) The process is called loss development Historic data is used to determine loss development factors The factors are used to grow historic data to a forecast date ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Two: Quantifying Retained Risk Develop a Loss Triangle - first start with the annual losses and determine cumulative loss values ( see Fig. 4.3) ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Two: Quantifying Retained Risk Loss Triangles - Next we calculate the average growth per year - and then compound to get the ultimate growth factors We assume a simple average is an appropriate way to find the average – other methods exist! ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Two: Quantifying Retained Risk Projected Expected Losses - Finally we adjust for inflation (Inflation factors can be obtained from BLS) We have quantified the ultimate losses for operations in each year. We use this expected loss value in our budgets and for allocating resources Important note: other valid loss triangle development methods exist! ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Three: Property Exposures Property exposure loss quantification uses a different method to quantify the loss values Property losses usually develop to their ultimate value within one operating period Three loss values are estimated: mean value ( E(L), ,  ) (or mode or median loss value from historic data) Maximum possible loss (MPL) (worst case scenario – building burns to the ground!) Probably maximum loss (PML) (realistic worst case scenario –the fire department will respond) Prior to 9/11 the MPL was rarely considered ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Four: Considering Other Factors Three additional factors should be considered in quantifying the risks: Impact of Actuarial Credibility on Insurance Pricing Cash flow Analysis Benchmarking ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Four: Considering Other Factors Impact of Actuarial Credibility on Insurance Pricing Actuaries use confidence intervals to provide a range of outcomes about the mean value. Actuaries have access to industry data to add validity to a company’s historic data They use the confidence level to add a built in swing to create a maximum premium for loss sensitive plans Actuary’s loss probability distribution Mean (Mean+1 std dev) = swing ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Four: Considering Other Factors Cash flow Analysis A CF analysis represents the true long-term value (NPV) An analysis is done on the two main types of risk financing Guaranteed Rate Insurance Self-funded combined with Excess Insurance The rate per exposure unit is guaranteed at the policy inception. At expiration an audit on the exposure basis is done. The guaranteed rate is applied to the actual exposure basis (also called a guaranteed cost). The deposit premium paid at inception has no cash flow benefits. If paid over time the cash flows are discounted to the present value – creating a CF benefit ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Four: Considering Other Factors Cash flow Analysis Guaranteed Rate Insurance example: Inception: Est. Exposure basis ($11M limit) 2000 units Guaranteed rate/exp $200/unit Deposit premium $400,000 Expiration: Audited actual exposure basis 2300 units Final premium $460,000 Additional premium due $ 60,000 Discount rate (cost of capital) % Present value of cash flow $ 55,300 Cash flow benefit $ 4,700 ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Four: Considering Other Factors Cash flow Analysis Self-funded with Excess Insurance A retention of first dollar losses combined with insurance over (excess of) the retained layer. The retention relieves the payment of the first layer premium Example: Self-funded retention, E(L) $1,000,000 Excess insurance $10M limit $ 100,000 Estimated average time to payment mo PV of cash flows (r = 8.5%) -100,000 + {1M/(1.085^.75)} $1,040,649 Cash flow benefit $ 959,351 ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Step Four: Considering Other Factors Cash flow Analysis Benchmarking Comparing one company’s cost of risk to others (industry) A cost of risk includes: Retained loss costs Insurance premiums Risk control costs Administrative costs Cost-of-Risk benchmark studies are available from RIMS Caveats Assumes the industry is at a desired equilibrium Assumes risk financing strategy is to follow others ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Advantages and Disadvantages
Impact of Risk on Financial Health + Good risk financing plans are essential to meet shareholders’ expectations - Excessive risk aversion (excessive insurance) decreases shareholder value - Avoiding risks = avoiding opportunities to create shareholder value + Quantifying the risks helps to understand which risks (and rewards) to accept and which risks to avoid + Quantification aids in retaining the optimal level of risk financing and determining when to transfer to an insurer ©2009 The National Underwriter Company

Chapter 4 Risk Assessment: Quantification Chapter Summary
What is it? Measuring the risks and determining the optimal retention/insurance financing Step One: Determine Frequency versus Severity Plot risks on a frequency:severity map Step Two: Quantifying Retained Risk Use Loss range analysis (stratification), Loss triangles, & Projected expected losses – used in casualty lines Step Three: Property Exposures Short-term cash flow analysis with consideration for the MPL Step Four: Considering Other Factors Actuarial modeling, Cash flow Analysis, & benchmarking Advantages and Disadvantages Proper quantification leads to efficient risk financing and creating shareholder value ©2009 The National Underwriter Company

Chapter 5 Overview of Risk Treatment Alternatives Outline
What is it? The Options Decreasing the Cost of Risk Advantages and Disadvantages Chapter Summary ©2009 The National Underwriter Company

Chapter 5 Overview of Risk Treatment Alternatives† What is it?
There are four fundamental risk financing treatment alternatives: Avoidance Non-insurance Transfer (contractual) Retention Insurance Transfer The above order reflects costs Selecting the best alternative is subjective Consider the risk philosophy Consider available assets † - Chapter 10 Covers Loss Control Alternatives ©2009 The National Underwriter Company

Chapter 5 Overview of Risk Treatment Alternatives The Options
Avoidance Perform a cost/benefit analysis Decide if the risk is worth the reward Non-insurance Transfer Using contracts to shift legal responsibility Examples: Hold Harmless agreement Indemnification agreement Additional Insured provision Lease (Chapter 6 provides details of non-insurance contracts) ©2009 The National Underwriter Company

Retention Appropriate for small, frequent, predictable losses Techniques: Insurance policy deductible Pure captive Risk retention group rent-a-captive Insurance Transfer Consider all other options before using insurance Insurance is expensive – 35% of premium O Overhead Use insurance to cover catastrophic losses (Chapter 7 provides details of insurance contracts) ©2009 The National Underwriter Company

Chapter 5 Overview of Risk Treatment Alternatives Decreasing the Cost of Risk Loss Prevention and Reduction Loss control decreases the cost of risk Retention provides the incentive for loss control Select a portfolio of the four risk financing alternatives First use loss control Then balance the costs of risk financing techniques Use fig. 5.1 to make risk financing decisions ©2009 The National Underwriter Company

Chapter 5 Overview of Risk Treatment Alternatives Advantages and Disadvantages Can create a complete risk management program Prepares for hard market conditions Enables flexible risk financing - Requires time to analyze costs/benefits - Advocating avoidance O loss of credibility ©2009 The National Underwriter Company

Chapter 5 Overview of Risk Treatment Alternatives Chapter Summary
What is it? 4 Techniques to finance risks Consider the risk philosophy and available assets The Options Avoidance. Non-insurance Transfer, Retention, Insurance Transfer, Prevention, and Reduction Decreasing the Cost of Risk Use loss control to decrease risk financing costs Select a portfolio of the four risk financing techniques Advantages and Disadvantages Prepares a complete, flexible, program for any conditions Requires time for analysis, use avoidance prudently ©2009 The National Underwriter Company

Chapter 6 Noninsurance Transfer of Risk Outline
What is it? Before-Loss Transfers After-Loss Transfers Steps to Implement Advantages and Disadvantages Time and Cash Commitment Chapter Summary ©2009 The National Underwriter Company

Chapter 6 Noninsurance Transfer of Risk What is it?
Defined: transferring exposures or the financing of risk to a party other than an insurer Loss may occur at any time Before loss transfers: purpose is loss prevention After loss transfers: purpose is loss reduction Decision to implement a non-insurance transfer of risk should be based on goals and capabilities ©2009 The National Underwriter Company

Chapter 6 Noninsurance Transfer of Risk Before-Loss Transfers
Examples Incorporation Leases Sub-contracts Surety bonds Waivers Maintenance agreements Licensing ©2009 The National Underwriter Company

Incorporation Creating a legal entity to whom the risk is transferred Protects individual assets to the extent invested in the corporation Corporation pays tax for this right of limited personal liability Other forms: Limited Liability Corporation (LLC) Supplement Society is the transferee who accepts the risk from the corporation’s owner ©2009 The National Underwriter Company

Leases Defined: A contract in which one party grants another the right to possess some item Property: In a sale and lease-back, lessee transfers risk to new owner (lessor) Workers: Lessee attempts to transfer workers’ compensation and third party liability risks to lessor. Transfers may fail: depends on strength of contract ©2009 The National Underwriter Company

Sub-contracts Defined: Agreement that transfers the work and risk to a third party Examples of risks: Workers’ compensation risks Public liability risks Owners’ construction risks ©2009 The National Underwriter Company

Surety Bonds Defined Agreement that transfers the risk to a third party for one party’s responsibility to a second party Parties to a surety bond: Principal – party responsible to the obligee Surety – assures that principal will fulfill responsibility Obligee – receives benefits of principal’s and surety’s promise Guaranty – Guarantor assumes risk upon default of principal Examples Bid bonds  Performance bonds Maintenance bond  Completion bond ©2009 The National Underwriter Company

Supplement Bonds not related to financial institution transactions Fidelity bonds – protect the employer from the costs of financials losses caused by the dishonest acts of employees Surety bonds commercial bonds – contract bonds, license, lost securities public bonds – public official, permit, judicial, fiduciary ©2009 The National Underwriter Company

Waivers Defined: Intentional and voluntary relinquishment of a right, especially the right to sue. Purpose: Facilitates business deals by transferring risk from one party to another. Example: Subrogation ©2009 The National Underwriter Company

Maintenance agreements Defined: Agreement to maintain a premises Purpose: Transfers risks surrounding maintenance services Licensing Defined: Allowing one party to engage in an otherwise prohibited activity Purpose: Transfers risk from licensor to licensee Example: Franchise license – transfers risk to fanchisee ©2009 The National Underwriter Company

Chapter 6 Noninsurance Transfer of Risk After-Loss Transfers
Purpose: transfer the costs of paying for losses that occur Examples: hold-harmless, indemnification, loss sharing Hold harmless agreement An contract in which one party agrees not to sue a second party if the first party is sued by a third party. May be limited to vicarious liability May be limited to joint liability Indemnification One party agrees to indemnify a second if the second is held responsible for damages to a third party Loss sharing agreement Losses are shared among signatories to the agreement Examples: condominium associations ©2009 The National Underwriter Company

Chapter 6 Noninsurance Transfer of Risk After-Loss Transfers
Supplement Hold harmless agreements and indemnity clauses Attorneys often combine the two and concepts have blurred Understand subtle but important differences Risk Managers should tailor transfers to their benefit ©2009 The National Underwriter Company

Chapter 6 Noninsurance Transfer of Risk Steps to Implement
Look at all loss exposures Decide which to keep and to transfer Decide on insurance or non-insurance transfer Use attorneys to draft contracts Monitor results of contract ©2009 The National Underwriter Company

Chapter 6 Non-insurance Transfer of Risk Advantages and Disadvantages
+ transfer of worry Retention of resources Certain payment in exchange for uncertain payment No additional cost if loss occurs No additional impact on balance sheet May be seen as prudent business decision in markets Disadvantages Time and effort to identify risks to transfer Lose control over exposure unit Transfers may be deemed invalid by courts ©2009 The National Underwriter Company

Chapter 6 Noninsurance Transfer of Risk Time and Cash Commitment
A commitment of time and cash is necessary to ensure the non-insurance transfer is it legal and enforceable. Every level of management must be committed to the transfer Use an attorney to facilitate these legal documents ©2009 The National Underwriter Company

Chapter 6 Noninsurance Transfer of Risk Chapter Summary
What is it? Transferring before and after loss exposures to another party other than an insurer Before-Loss Transfers Agreements to prevent losses Examples: incorporation, leases, subcontracts, surety bonds, waivers, maintenance agreements, & licensing After-Loss Transfers Agreements to mitigate losses Examples: hold harmless, indemnity, & loss sharing Steps to Implement: identify exposures, decide which to transfer, decide on insurance or non-insurance transfers, let attorneys draft contracts, monitor results Advantages and Disadvantages + transfers worry, retains resources, certain payment, no impact on balance sheet, seen as prudent business decision in markets - Requires time and effort, lose control, court interpretations Time and Cash Commitment ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Outline
What is it? Steps to Implement Step One: Beginning the Process Step Two: Choosing an Intermediary Step Three: Binders of Insurance Step Four: Receiving and Reviewing Policies Advantages Disadvantages Chapter Summary ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism What is it?
Insurance is a transfer of the financing of risk One party agrees to indemnify another for the financial consequences of the other party’s loss An exchange of a known, small amount (the premium) for an uncertain, potentially catastrophic future amount (the loss) Insurance combines a large number of homogeneous, independent exposure units into a pool The losses of a few are shared by the many The law of large numbers enables actuaries to predict an expected outcome, loss distributions, and calculate premiums ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Steps to Implement
Identify the exposures Choose an Intermediary Get Binders of Insurance Receiving and Reviewing Policies ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step One: Beginning the Process Use a risk exposure survey (and other tools) to identify exposures e.g., Property, Liability, Human Resources, Net Income Interview intermediaries (producer, agent, broker) to solicit insurance proposals Give intermediary a broker-of-record letter Mid-term broker-of-record letters may cause the underwriter to cancel, re-underwrite, and re-write coverages Broker-of-record letters may restrict brokers to specified carriers – this enables multiple brokers to go to the market and market an account without approaching the same insurers ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Two: Choosing an Intermediary Types of Intermediaries independent agents exclusive agents employee agents direct-writers brokers surplus lines brokers Independent Agents An independent business person Represents multiple insurers Agent owns the expirations Agent’s legal duty is to insurer Agent may have binding authority Agent usually compensated by commission ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Two: Choosing an Intermediary Exclusive agent An independent business person Represents only one insurer Agent might not own the expirations Agent’s legal duty is to insurer Agent may have binding authority Agent usually compensated by commission Employee agent Licensed agents Employees of an insurer Agent does not own expirations Agents are compensated by salary ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Two: Choosing an Intermediary Direct-writer agent Licensed agents Employees of an insurer Agents solicit by mail, telephone, or internet Agent does not own expirations Agents are compensated by salary Brokers Represents the insured Usually used for large commercial accounts May have a service agreement and be compensated by service fees and/or commissions ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Two: Choosing an Intermediary Surplus Lines agent Licensed with non-admitted insurers Not subject to rate and form regulations Not protected by state guarantee funds Can write custom (manuscript) coverages Write coverage for non-standard exposures Agent paid a commission ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Three: Binders of Insurance Factors in choosing coverage: Level of service Insurance coverage Policy exclusions Insurer’s financial condition Rate credits Total premium Intermediary issues binder of temporary coverage Names of insured, insurer, and intermediary Policy forms that apply Effective and expiration date (30 days) Exposures covered Limits of insurance May be an ACORD form Special coverage must be clearly indicated on the binder ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Three: Binders of Insurance Supplement Additional documents provided by insurer Evidence of insurance Certificate of insurance Supplied at time of binding coverage or to verify renewal or as snapshot of coverage These documents do not provide insurance coverage ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Four: Receiving and Reviewing Policies Receiving the policy The policy is the contract – it overrides any binders, oral agreements, or applications Discrepancies should be immediately addressed Contract of adhesion Standard contracts are offered as take-it-or-leave-it Courts may rule any ambiguous conditions in favor of the personal lines consumer Commercial consumers are expected to read their policies and may not be protected by this precedent Many conditions are established by state statutes Insurance contracts are matters of public policy ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Four: Receiving and Reviewing Policies Reviewing the Insurance Policy Read the policy forms and attachments Check to be sure all policy forms are appropriate Are the right exposures covered? For the desired perils? At the desired limits? Declarations Page The information page (may be an ISO form) Named insured Mailing address Insured locations Forms and endorsements Policy period (inception and expiration – 12:01 a.m.) Intermediary’s name and address Insurer and address Premium ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Four: Receiving and Reviewing Policies Supplement Declarations Page may also indicate: State-specific taxes and fees How to contact regulators to log a complaint Audit or inspection intervals ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Four: Receiving and Reviewing Policies Insurance Policy Coverage Parts Insuring Agreement Definitions Exclusions Conditions Attachments (endorsements or riders) Deductibles Insured retains and pays losses up to a limit; insurer pays after that retention amount to the policy limit. Enables lower premiums Qualified self-insured retention (SIR) for state approved workers’ compensation, excess, or umbrella liability policies Higher deductibles may yield lower premiums ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Four: Receiving and Reviewing Policies Deductibles Types of deductibles: Flat – usually applied per each claim Straight - usually applied per occurrence Percentage - proportion of exposure value Policy Forms Bureau filed form – standard form (e.g., ISO) ISO promulgates insurance forms and rates for insurers to file with state regulators Independently filed form – company designed forms filed with state regulators ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Step Four: Receiving and Reviewing Policies Surplus Lines Market (non-admitted market) A licensed insurer is admitted if the state regulator approves their forms, rate filings, and financial strength and the insurer pays a premium tax to the state guarantee fund. A non-admitted insurer is licensed to sell in the state Used for hard to place exposures FAIR plans State Fair Access to Insurance Requirements For writing property coverage in urban areas where standard market insurers prefer not to write ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Advantages
Exchange of small known cost for potential large cost May satisfy a contractual responsibility May satisfy loan requirements Insurer handles the loss settlement procedures May satisfy statutory or regulatory requirements ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Disadvantages
Opportunity costs – money used for insurance not invested in business operations Not all losses may be covered – exclusions apply Intermediary fees must be paid Insurance contract terms may be challenging to interpret ©2009 The National Underwriter Company

Chapter 7 Insurance as a Risk Transfer Mechanism Chapter Summary
What is insurance: a risk financing tool Steps to Implement Step One: Beginning the Process – identify exposures, broker-of-record letters Step Two: Choosing an Intermediary – independent, exclusive, employee, direct-writer, broker, surplus lines agent Step Three: Binders of Insurance – temporary coverage Step Four: Receiving and Reviewing Policies – contract of adhesion, review the contract, declarations, coverage parts, deductibles, policy forms, surplus lines policies, FAIR plan Advantages – exchanges uncertain large loss for a premium, satisfies obligations, insurer settles claims Disadvantages – opportunity cost, exclusions, fees, terms ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-1 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism………………7-1 Ch 8 Overview of Alternative Risk Transfer Techniques…….8-1 Ch 9 Global Risk Management…………………………………9-1 Ch 10 Loss Control Techniques…………………………….….10-1 Ch 11 Emergency Response Planning…………………….….11-1 Ch 12 Business Continuity Planning……………………….….12-1 Ch 13 Claims Management………………………………….….13-1 Ch 14 Monitoring Claims for Financial Accuracy………….….14-1 Ch 15 Insurance Companies and Risk Management…….….15-1 Ch 16 Working with an Agent or Broker………………………16-1 ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Chapter Outline
What is it? Categories within TEP Steps to Implement The Insurance Option Determining Local Insurance Requirements Identifying Territorial Limits Structuring a Worldwide Insurance Program Other Exposures Global Aspects of the Internet Appendix: Application and coverage forms Chapter Summary ©2009 The National Underwriter Company

Chapter 9 Global Risk Management What is it?
Three types of foreign exposures Temporary exposures Export exposures Permanent multinational exposures Global challenges Physically distant from headquarters Lack of foreign exposure knowledge Limitations in domestic insurance policies Requirements for local admitted insurance Political unrest Differences in healthcare standards Claims management Currency conversions ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Categories within TEP
Specific types of exposures (some examples) Property exposures Liability exposures, including Premises and operations Products Automobile Human resource (employee) Net income, including Political exposures Creating a simple matrix: foreign X specific exposures (fig. 9.1) Temporary Export Permanent multinational Property Buildings Personal Cargo X – portable bldg X – inventory X – shipments X – buildings X – machinery Liability Premises Operations X – rented X – travel X – Vessels X - Shipping X – owned bldgs X - production ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Steps to Implement
Identify Global risks May be most difficult Meet with senior officers Quantify and analyze global risks Evaluate global treatment options Get suggested alternatives from vendors Use legal counsel that specialize in international matters Implement selected options Monitor and adjust ©2009 The National Underwriter Company

Chapter 9 Global Risk Management The Insurance Option
Admitted versus Non-admitted Carriers Standard domestic policies may not provide coverage overseas Admitted insurers are authorized in a domestic market Some jurisdictions require coverage from state-owned insurers Advantages of Admitted Insurers Premiums may be tax deductible Claims handling may be easier Reduced or no fines for non-local insurance Intangible benefits from using local markets Disadvantages of Admitted Insurers Foreign language and laws Values in foreign currencies Difficult to evaluate insurer’s strength Communication with local agent May be more expensive than a world-wide policy Coordinating policy coverages a challenge ©2009 The National Underwriter Company

Chapter 9 Global Risk Management The Insurance Option
Advantages of Non-admitted Insurers Policies written in English and based on US laws Values in US Dollars Easier to evaluate insurer’s financial strength US underwriters and brokers Fewer intermediaries required Disadvantages of Non-admitted Insurers Premiums may not be deductible expenses Uncertain accounting of claims payments Income or transfer of capital May be taxable income to parent Discuss the global insurance options with a tax counsel ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Determining Local Insurance Requirements Some global insurers/brokers can provide country summaries Some countries have unique insurance requirements Historic buildings Employee health benefits ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Identifying Territorial Limits
Property exposures Foreign property may be excluded from ISO forms Political perils – standard forms may exclude global perils Confiscation Currency inconvertibility Expropriation Forced abandonment Nationalization Political violence Transportation of property Imports & exports of goods and equipment Cargo “freight” charges for delays Special packing required Who owns the goods? Shipping terms to know: Ex point of origin, FOB, FAS, C&F, CIF ©2009 The National Underwriter Company

Supplement Types of shipping contracts – both FOB and FAS Point of origin Point of destination Installment or conditional sales contracts Seller maintains ownership rights until the goods are delivered, installed, operating as specified, and final payment has been made ©2009 The National Underwriter Company

General Liability Exposures Coverage may be limited by ISO forms for: Premises, operations, products, employee action Bodily Injury or property damage by an occurrence Occurrences during a policy period Coverage territory International waters or airspace Personal and Advertising injury An International general liability policy may be available Some insurers will endorse their policies for global coverage Is coverage worldwide for occurrences? Will it respond to claims or suits anywhere in the world? Will coverage apply regardless of where products are made? ©2009 The National Underwriter Company

Automobile Exposures Overseas travelers often use or rent cars Foreign jurisdictions have diverse financial responsibility laws An international auto liability policy may cover this exposure Using a local carrier facilitates claims handling Employee Exposures Coverage of standard NCCI workers’ compensation policy unclear for US employees working abroad Temporary not defined in the policy Repatriation expense coverage may be desired Endemic disease coverage may be desired The risk manager must identify available health care sources Supplemental coverages may be available Local hires may require special coverages Third-country nationals may require special coverages Separate Employers’ liability coverage may be desired ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Structuring a Worldwide Insurance Program A basic problem World-wide insurance programs often have multiple policies in different languages admitted and non-admitted carriers gaps in coverages Using a DIC Approach Difference-in-condition policies bridge the above gaps Provide uniform insurance terms and conditions Advantages and disadvantages of a DIC Policy + Fills in coverage and limit gaps + Provides uniform coverage - All policies must be policed - Claims may involve multiple carriers ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Structuring a Worldwide Insurance Program Using a Controlled Master Program May be issued three ways: If admitted, issues local policy If not admitted, my use subsidiary If not admitted and no subsidiary may sub-contract Advantages of a Controlled Master Program Uniform coverages and improved claims handling One insurer handles coverage placements Reduces number of parties in insurance program One insurer issues documents (cert. of ins) ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Other Exposures
Kidnap and Ransom Types Ransom demands from actual or threatened kidnapping Extortion demands from threats of bodily injury Extortion demands from threats of property damage Extortion demands from threats to contaminate property Most K&R policies include access to security services Exchange Rate Risk (exporters) Defined: changes in value of goods sold in other countries Hedge risk with forward contracts with a bank Export Credit Risk Defined: variation in payments of foreign accounts receivable Letters of credit – guarantee payment by bank Credit insurance The EX-IM bank facilitates global trade The OPIC enhances overseas investments ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Global Aspects of the Internet
Wired companies face additional unique hazards Different legal structures or jurisdictions Different privacy requirements Non-standard information security systems Lack of jurisdictional boundaries ©2009 The National Underwriter Company

Chapter 9 Global Risk Management Chapter Summary
What is it? Temporary, export, & permanent multinational exposures Categories within TEP: Property, liability, HR, & NI Steps to Implement: same as a general RM process The Insurance Option: admitted & non-admitted insurers Determining Local Insurance Requirements: Use experts Identifying Territorial Limits: identify exposures in detail Structuring a Worldwide Insurance Program: DIC & Controlled Master Policies Other Exposures: K&R, Exchange rate risk, Export credit risk Global Aspects of the Internet: undefined jurisdictions & laws ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-1 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism………………7-1 Ch 8 Overview of Alternative Risk Transfer Techniques…….8-1 Ch 9 Global Risk Management………………………………...9-1 Ch 10 Loss Control Techniques………………………………..10-1 Ch 11 Emergency Response Planning……………………….11-1 Ch 12 Business Continuity Planning………………………….12-1 Ch 13 Claims Management…………………………………….13-1 Ch 14 Monitoring Claims for Financial Accuracy…………….14-1 Ch 15 Insurance Companies and Risk Management……….15-1 Ch 16 Working with an Agent or Broker………………………16-1 ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques Outline
The Importance of Loss Control What is it? Loss Control Theories Developing a Contemporary Loss Control System The Five-Step Process Advantages Disadvantages Loss Control Regulation Chapter Summary ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques The Importance of Loss Control
Loss control is common sense An ounce of prevention is worth a pound of insurance A stitch in time saves $9M in legal fees Most solutions include a risk financing AND loss control Loss control saves risk financing costs Loss control protects property Loss control protects earnings Loss control protects human resources Loss control creates value ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques What is it?
Defined: Intentional acts to modify the probability and/or severity of losses These acts create the desired amount of risk at a desired time Loss control enables workers to focus on speculative risks and creating value Loss control is done by internal workers and outsourced to experts Certain loss control projects may be mandated by regulations ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques Loss Control Theories
Theories help risk managers be more effective in creating and implementing loss control programs The Domino Theory of Accident Causation - H.W. Heinrich A sequence of five conditions or events resulting in loss Focus on the 3rd: modify the unsafe acts or conditions General Methods of Control – Military research Focus on creating a logical process to modify hazards Engineering Approach – e.g.: Wm. Haddon’s release of energy Focus on modifying physical systems to reduce hazards Technique of Operations Review – Weaver & Petersen Focus on motivating management to create safe environments ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques Loss Control Theories
Theories help risk managers be more effective in creating and implementing loss control programs System Safety Approach – All processes occur within a system. Focus on interaction of people, processes, machines, & mgmt Behavior Modification - The most cost effective tool Supplement System Safety Approach – application of life cycle theory enables viewing hazardous process or condition as part of a larger system system can be the entire enterprise or the society in which the enterprise exists ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques Developing a Loss Control System
The management approach to loss control The system integrates theory and practice for optimal results The loss control system minimizes the agency problem The agents act more in the interest of the principals The loss control system minimizes the silo effect All exposures are managed as a portfolio ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques The Five-step Process
Create a loss control Program Risk (loss) Analysis Loss control Solution Analysis Loss control Decision Process Loss control System Administration  ©2009 The National Underwriter Company

Create a loss control Program a. Planning loss control activities Understanding the organizations goals Determining the desired levels of risk (risk philosophy: risk tolerance, risk appetite) b. Organizing loss control activities Authorizing and empowering internal actors Engaging external vendor specialists c. Writing a standard operating procedures manual for prevention, reduction, and emergency response plans ©2009 The National Underwriter Company

Risk (loss) Analysis Understanding the hazards (factors) that increase the likelihood and/or impact of the losses. 3. Loss control Solution Analysis a. Identify all the options available b. Measure the quantitative impacts of loss control activities Effects on frequency Effects on values (impact) Effect on variability (risk) NPV of the loss control activity (cost:benefit analysis) c. Analyze the qualitative impacts Effect on strategies Effect on stakeholders Effect on culture ©2009 The National Underwriter Company

4. Loss Control Decision Process a. Use all available Decision models NPV, benchmarking, professional judgment, ethics, and combinations b. Get Support from all relevant stakeholders Senior Executives, Divisional managers, Operations managers, and workers c. Implement the decision Allocate resources Prepare budgets Proforma financial PERT and Gantt time charts Resource charts ©2009 The National Underwriter Company

5. Loss Control System Administration a. Monitor your progress formal RMIS informal grapevines b. Judge the success of the program c. Communicate the system’s success Annual report Interim reports ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques Advantages
Decrease worry  better morale & production Improved efficiency Decreased loss costs (proactive costs are less than reactive costs) Improved planning – more realistic & cost effective Improved likelihood of achieving goals – fewer surprises Corporate returns (EPS, ROA, ROA, NPV, shareholder value) Earnings stability (net working capital, cash flows) Service efficiency (faster, better, consistent service and quality) Dividend growth (increases shareholder value, and plowback) Social responsibility (protect workers and the environment) ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques Disadvantages
Competes for scarce resources (people, materials, money, time) The Invisible Improvement problem (unrecognized benefits) The Profit Center problem (proving a negative, “but for”) The Geek problem (money is sexy, loss control is nerdy) Creates new risks Public relations issues (zero tolerance for losses versus a more realistic acceptable tolerance for losses) ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques Loss Control Regulation
A highly regulated discipline Protects the public trust, workers, and reduces social costs OSHA Property Fire Safety Human resource Life Safety Environmental Protection Agency Transportation many others ©2009 The National Underwriter Company

Chapter 10 Loss Control Techniques Chapter Summary
The Importance of Loss Control – a common sense approach to creating value What is it? - modifying hazards to acceptable levels Loss Control Theories - Domino, general methods of control, engineering, technique of operations review, system safety, behavior modification Developing a Loss Control System – a management approach The Five-Step Process - Program, loss analysis, solution analysis, decision process, system administration Advantages - Protects assets & creates value Disadvantages- requires resources and may create new risks Loss control regulation- many, to protect the public trust ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-1 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism………………7-1 Ch 8 Overview of Alternative Risk Transfer Techniques…….8-1 Ch 9 Global Risk Management………………………………..9-1 Ch 10 Loss Control Techniques……………………………….10-1 Ch 11 Emergency Response Planning……………………….11-1 Ch 12 Business Continuity Planning………………………….12-1 Ch 13 Claims Management…………………………………….13-1 Ch 14 Monitoring Claims for Financial Accuracy…………….14-1 Ch 15 Insurance Companies and Risk Management……….15-1 Ch 16 Working with an Agent or Broker………………………16-1 ©2009 The National Underwriter Company

Chapter 11 Emergency Response Planning Outline
What is it? Steps to Implement Advantages Disadvantages Implementing Change when Necessary Chapter Summary ©2009 The National Underwriter Company

Chapter 11 Emergency Response Planning What is it?
Defined: Actions to stabilize an incident that could injure people, damage property, interrupt operations, and contaminate the environment. Policies, procedures, and teams designed to stabilize the situation Foremost goal is to safeguard the health and safety of people Prompt responses are most effective responses ERPs also protect profits, market share, and reputation Supplement ERP is part of a larger field including three phases of an emergency: disaster preparation planning emergency action plan business continuity plan Prudent loss control to develop and practice all three ©2009 The National Underwriter Company

Chapter 11 Emergency Response Planning Steps to Implement
Write a management policy statement Organize a planning committee Risk assessment Identify and evaluate public and private resources for emergency responses Decide on appropriate level of response Organize emergency response teams Write the emergency response plan Train personnel Exercise the plan ©2009 The National Underwriter Company

Write a management policy statement The foundation of an ERP Senior management MUST support and participate in ERP Organize a planning committee May contain representatives from all stakeholder groups Roles and responsibilities are clearly spelled out Solicit input from public emergency services 3. Risk assessment Identify and quantify threats, hazards, and perils Measure both the probability and severity of losses Include direct and indirect costs ©2009 The National Underwriter Company

Assess Available Resources Public emergency services, public works, contractors, in-house staff, physical systems, and equipment and supplies Assess primary and secondary responsibilities Capability Assessment – are the resources sufficient? Decide on appropriate level of response Match response to probability/severity conditions (risk matrix) Assess response times Assess number and capabilities of employees on ERP team Determine senior management’s commitment to training Understand regulatory requirements Observe insurer recommendations ©2009 The National Underwriter Company

Organize emergency response teams Develop teams by function, hazard, or peril Create a command system (hierarchy) Determine leaders’ roles, authority, and responsibilities Include senior management Write down the command structure and get top approval The incident commander is the critical member of the team Team members should be trained in their specialties An Incident Command System coordinates the multiple teams Write the emergency response plan Train personnel Exercise the plan ©2009 The National Underwriter Company

Write the emergency response plan The plan must be easy to use The plan must be adaptable for changes The plan must be available ERP team members 8. Train personnel Instructors should be qualified Specialists should become certified Refresher courses are essential Document all training ERP Format Introduction Emergency Organization Emergency Operations Center Communications Emergency Procedures See also figure 11.6 ©2009 The National Underwriter Company

9. Exercise the plan a. Practice makes perfect Practice drills should be mandatory Often drills are required by law b. Types: orientation – walk & talk-through table top A scripted scenario functional - involve internal and external teams full-scale - realistic simulation of an emergency ©2009 The National Underwriter Company

Chapter 11 Emergency Response Planning Advantages
Faster response to actual emergencies Public services know about the organization’s hazards Public services know exactly how to respond to the organization’s emergencies Satisfies compliance issues with regulations ©2009 The National Underwriter Company

Chapter 11 Emergency Response Planning Disadvantages
Some catastrophic events may overwhelm public services ERPs require a very large Time commitment Senior management must participate Planning committee activities erode S-T production ERP leaders must coordinate with external team members Writing policies and procedures is a continuous effort Training must be continuous ERPs require a Cash commitment Training costs can be significant Life and fire safety equipment can be expensive Communication equipment is essential ©2009 The National Underwriter Company

Chapter 11 Emergency Response Planning Implementing Change when Necessary ERPs are site-specific and hazard-specific When either changes the plan must be modified. Both change continuously! Public emergency services availability and capability also changes continually  ERP plan changes Employee turnover  ERP plan changes Regulation changes  ERP plan changes Each actual emergency is an opportunity to review the ERP and make ERP plan changes and improvements ©2009 The National Underwriter Company

Chapter 11 Emergency Response Planning Chapter Summary
What is it? Actions to protect people and assets from emergencies Steps to Implement: 9 steps Write a management policy statement Organize a planning committee Risk assessment Identify and evaluate public and private resources for emergency responses Decide on appropriate level of response Organize emergency response teams Write the emergency response plan Train personnel Exercise the plan Advantages: Knowledge that enables a fast response that also complies with regulations Disadvantages: Requires time and cash and may overwhelm available public services Implementing Change when Necessary: Dynamic environments are an opportunity to improve the ERP system ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-1 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism………………7-1 Ch 8 Overview of Alternative Risk Transfer Techniques…….8-1 Ch 9 Global Risk Management………………………………...9-1 Ch 10 Loss Control Techniques……………………………….10-1 Ch 11 Emergency Response Planning……………………….11-1 Ch 12 Business Continuity Planning………………………….12-1 Ch 13 Claims Management…………………………………….13-1 Ch 14 Monitoring Claims for Financial Accuracy…………….14-1 Ch 15 Insurance Companies and Risk Management……….15-1 Ch 16 Working with an Agent or Broker………………………16-1 ©2009 The National Underwriter Company

Chapter 12 Business Continuity Planning Outline
What is it? Steps to Implement Advantages and Disadvantages Time and Cash Commitment Implementing Change When Necessary Chapter Summary ©2009 The National Underwriter Company

Chapter 12 Business Continuity Planning What is It?
Defined: A process and resources to sustain critical functions after a disruption Required: identify the required processes to maintain operations Perils: Natural or manmade resulting in a critical system breakdown BCP system: Emergency response plan + Disaster recovery plan (respond + recover) BCP Process: Project initiation + management support Risk assessment Business impact analysis Recovery strategy selection Recovery plan development Implementation, training, testing, and audit ©2009 The National Underwriter Company

Chapter 12 Business Continuity Planning Steps to Implement
Step One: Project Initiation and Management Senior management support and participation is Critical The best way to gain support is by effective communication of the need for Business Continuity Planning (BCP) Business survival depends on the BCP BCPs are essential components of business governance Customer, profit, market share stability Failure to plan may incur fines or penalties Stock prices may fall, derivative lawsuits Often required by regulations Protects and enhances reputation ©2009 The National Underwriter Company

Step One: Project Initiation and Management Step one details: Begin the BCP by articulating the mission statement Next, organize a steering committee Appoint the BCP Leader Recruit teams and define roles and responsibilities Prepare an outline of the BCP major activities & dates Develop budgets for time, people, money, & materials Present to senior management for approval ©2009 The National Underwriter Company

Step Two: Risk Assessment Goal: Identify vulnerable exposures and processes and the threats to them Threat examples: Loss of supplier Regulatory changes Political risks Loss of information Loss of key employee Utility outage Describe precisely why these are threats to the exposures ©2009 The National Underwriter Company

Step Three: Business Impact Analysis Goal: Measure the impact of the threats on exposure values Impact examples: Change in sales, revenues, cash flow, market share Change in reputation Change in third party liability or environments Quantify the impact in terms impact on: Time horizons for operations or projects Human resources and efficiency Assets and cash flows Define critical functions as exposures for which a loss would have a material impact on the operation’s goals Define recovery time objectives for each critical function (maximum down time) Present analysis to the BCP steering committee for approval ©2009 The National Underwriter Company

Step Four: Recovery Strategy Selection Goal: Choose mitigations to enable operation continuity Mitigation examples: Reciprocal agreements Alternative site selection Outsourcing services Assess each strategy for dependability, practicality, cost, effort, capacity, and ability to meet objectives Present strategies to BCP steering committee for approval ©2009 The National Underwriter Company

Step Five: Business Recovery Plan Development Goal: Document the BCP Include: Definitions of a disaster, material losses, critical functions Disaster notification procedures Business recovery teams Assessment team and their procedures Schedule of approved BRP strategies Critical information, records, and data Schedules of systems, equipment, and supplies Locations of primary and secondary operations centers ©2009 The National Underwriter Company

Step Six: Plan Implementation, Training, Testing, & Audits Goal: Assure the plan will be ready Implementation Distribute copies of the plan to relevant stakeholders Place documents in emergency operations centers Provide plan security and restrictions Obtain redundant power, networks, and equipment Training Make sure all BCP teams understand their roles Formally train team members Provide leaders additional training on complex issues ©2009 The National Underwriter Company

Step Six: Plan Implementation, Training, Testing, & Audits Testing Exercise simulations to be sure the plan works Conduct tests so teams are confident in their roles Use observers to monitor the tests Perform tests annually or when conditions change Audits An independent audit of the BCP identifies weaknesses Qualified personnel should perform the audit The scope of the audit should include: Completeness of the assessment Business impact analysis Identification process Organization of BCP teams Management awareness and participation Proper document preparation and storage Implementation, training, and testing procedures ©2009 The National Underwriter Company

Chapter 12 Business Continuity Planning Advantages and Disadvantages
+ The ability to restore critical functions before significant loss occurs The time and cost to develop, implement, and maintain the BCP (but consider the time and cost of recovery without a BCP) Costs to implement recovery strategies (but consider the cost of not having a recovery strategy!) ©2009 The National Underwriter Company

Chapter 12 Business Continuity Planning Time and Cash Commitment
The time and cash needed for a BCP depends on: The business size and number of departments or functions Firms with no tolerance for down-time The type and construction of the facilities Regulations Customer or supplier mandates Use of outside consultants or company-wide plans reduces costs Adequate time and cash must be allocated to the BCP for optimal results ©2009 The National Underwriter Company

Chapter 12 Business Continuity Planning Implementing Change When Necessary BCPs must be updated when there are changes in: physical conditions business operations personnel regulations or when tests reveal deficiencies Validate changes to critical functions and recovery timeframes Update and backup vital documents and records Conduct post-incident reviews after losses to critique the BCP ©2009 The National Underwriter Company

Chapter 12 Business Continuity Planning Chapter Summary
What is it? A process and resources to sustain critical functions after a disruption. BCP system = Emergency response plan + Disaster recovery plan. Steps to Implement: Project initiation + management support Risk assessment Business impact analysis Recovery strategy selection Recovery plan development Implementation, training, testing, and audit Advantages and Disadvantages: + continuity of operations – time and cash Time and Cash Commitment – depends of many factors, inadequate time and cash results in sub-optimal BCPs Implementing Change When Necessary When there are material changes in operations or losses Validate changes to critical functions and recovery timeframes Update and backup vital documents and records ©2009 The National Underwriter Company

Chapter 13 Claims Management Outline
What is it? Why Claims Management is Important The Parties in a Claim Steps in the Claims Management Process Advantages of Claims Management Disadvantages of Claims Management Chapter Summary ©2009 The National Underwriter Company

Chapter 13 Claims Management What is it?
Defined: Techniques used to decrease the financial impact of claims Claims Management is a proactive step Claims have a direct, indirect, and intangible costs: Direct costs include adjusting and settlement costs Indirect costs include lost productivity from damaged assets or personnel Intangible costs include loss of morale or reputation Claim histories (loss experiences) are compiled by insurers Loss experience is an important factor in underwriting Coverage Premiums ©2009 The National Underwriter Company

Elements of Loss Experience: Paid Losses: the amount an insurer pays in settlements Reserves: expected costs for future claims (insurer debt) Incurred Losses: the sum of paid losses and reserves Expenses: costs for adjusting, office expenses, & data management Unallocated – cannot be assigned to a specific loss Allocated (ALAE) – specific to a claim The Importance of Reserves Insurers estimate their total claim costs, then put this estimated obligation on their balance sheet. Insurers lower this cost through subrogation Reserves are maintained until the claim is closed ©2009 The National Underwriter Company

Supplement Clarification – contrasting claims management and loss control Loss control is broader discipline that includes prevention (pre- loss) and reduction (post-loss) Claims management is just one type of reduction valuable reduction tool system to process and monitor losses through a risk financing scheme—such as insurance ©2009 The National Underwriter Company

Chapter 13 Claims Management Why Claims Management is Important
Claims management may: prevent lawsuits reduce future premiums result in favorable underwriting Shared risk financing plans create vested interests to manage claims (e.g., retrospectively rated plans, large deductible plans) The insurer usually has the right to adjust and settle claims ©2009 The National Underwriter Company

Chapter 13 Claims Management The Parties in a Claim
The Claimant – the harmed party The Insured – the party against whom the claim is made The Insurer - the party indemnifying the insured The Adjuster – the party investigating the claim The Intermediary – the broker or agent Types of Claims First-party claims Claims for injury or damage to owned assets Third-party claims Claims for bodily injury or property damage to others Statutory responsibilities Claims for alleged breaches of laws and regulations ©2009 The National Underwriter Company

Chapter 13 Claims Management Steps in the Claims Management Process
Step One: Incident occurs Step Two: Claim is made Step Three: Claim is denied, accepted, or conditionally investigated Step Four: Claim is adjusted Step Five: Claim is settled or closed ©2009 The National Underwriter Company

Step One: Incident occurs May be an accident or occurrence (important definitions) Not all incidents result in claims - but all should be monitored Step Two: Claim is made A claim may be filed after an occurrence A claim includes a written demand for indemnification or equitable action Notify the insurer of the claim Occurrence means an accident, including continuous or repeated exposures to substantially the same general harmful conditions. ©2009 The National Underwriter Company

Step Three: An adjuster is assigned to investigate and review the claim Claim is denied Insurer states reasons for denial Insured accepts or challenges denial Claim is accepted The adjuster establishes a claim reserve An initial payment may be offered Claim is conditionally investigated Adjuster issues a reservation of rights letter Adjuster continues investigation without admitting liability keeps insured informed of claim status avoids bad-faith claims against insurer Insured may challenge conditional investigation by appealing to intermediary ©2009 The National Underwriter Company

Step Four: Claim is adjusted Adjuster works with risk manager to adjust claims Requires open communication Requires prompt cooperation Long-tail claims require accurate valuations and time horizon estimates Short-tail claims are usually first party claims Statutory & third-party claims are usually long-tail claims First-party claims require a signed, sworn proof of loss Indirect loss claims are expedited by using the CFO, CPA, or consultants Third-party claims (e.g., Auto or GL) are usually long-tail Statutory claims (e.g., WC) can be long-tail and affect the experience rating Long-tail claims and reserves should be monitored and reviewed frequently ©2009 The National Underwriter Company

Step Five: Claim is settled or closed When adjudicated and/or settled the claim is paid The risk manager signs a claim release The risk manager should make sure the claim reserve falls to zero when closed ©2009 The National Underwriter Company

Chapter 13 Claims Management Advantages of Claim Management
Good claims management: creates efficient risk financing payments preserves customer loyalty enables rapid resumption of operations averts litigation conserves assets increases employee productivity ©2009 The National Underwriter Company

Chapter 13 Claims Management Disadvantages of Claims Management
Time and Cash Commitment Large companies may require a full time staff of claims administrators Cash for salaries and overhead Coordination of functions Many organizations have WC claims in HR department Indirect claims involve finance department First party claims involve accounting or CPA Third party claims involve legal Claim cost allocation may be a challenge ©2009 The National Underwriter Company

Chapter 13 Claims Management Chapter Summary
What is it? Techniques to decrease the impact of losses (paid losses, reserves, incurred losses, and expenses). Why Claims Management is Important prevent lawsuits, reduce future premiums, results in favorable underwriting The Parties in a Claim Claimant, Insured, Insurer, Adjuster, and Intermediary Steps in the Claims Management Process 1) Incident occurs, 2) Claim is made, 3) Claim is denied, accepted, or conditionally investigated, 4) Claim is adjusted, and 5) Claim is settled or closed Advantages of Claims Management Efficient risk financing, preserves customer loyalty, enables rapid resumption of operations, averts litigation, conserves assets, increases employee productivity Disadvantages of Claims Management – Time and Cash Commitment & coordination ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-1 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives……………….5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism………………7-1 Ch 8 Overview of Alternative Risk Transfer Techniques…….8-1 Ch 9 Global Risk Management………………………………...9-1 Ch 10 Loss Control Techniques……………………………….10-1 Ch 11 Emergency Response Planning……………………….11-1 Ch 12 Business Continuity Planning………………………….12-1 Ch 13 Claims Management…………………………………….13-1 Ch 14 Monitoring Claims for Financial Accuracy…………….14-1 Ch 15 Insurance Companies and Risk Management……….15-1 Ch 16 Working with an Agent or Broker………………………16-1 ©2009 The National Underwriter Company

Chapter 14 Monitoring Claims for Financial Accuracy Outline
What is it? Steps to Implement Advantages & Disadvantages Chapter Summary ©2009 The National Underwriter Company

Chapter 14 Monitoring Claims for Financial Accuracy What is it?
Loss management is one of the most important financial functions of risk managers because of the impact on the organization’s success Individual claims have three financial elements to manage: Paid amounts Reserve amounts Expenses Risk managers must monitor loss histories (loss experience) to: understand claims frequency understand claim types identify large impact claims target high frequency claims identify claim problem areas Claims histories produce loss ratios = Incurred losses/premiums ©2009 The National Underwriter Company

Chapter 14 Monitoring Claims for Financial Accuracy Steps to Implement
Step One: setting up and obtaining the data Step Two: reviewing the data Step Three: make inquiries Step Four: methods to reduce the financial impact of losses Step One: setting up and obtaining the data Use a claims management information system – or a comprehensive risk management information system (RMIS) Either system is available as in-house or from a third party vendor – such as an insurer Data is compiled by code, department, claim type, location, date, policy year, or other variable to assist in sorting and interpreting loss histories ©2009 The National Underwriter Company

Step Two: reviewing the data Purposes: understand losses, decrease reserves, and risk control First, be sure claim belongs to the insured business Identify changes or trends in losses Be sure reserve for each claim is an appropriate estimate Initial estimate Aging reserves Obtain supplemental claim data from broker or insurer Prepare management reports for claims: above a certain incurred dollar amount with changes in incurred loss amounts with changes in loss reserves in litigation ©2009 The National Underwriter Company

Step Three: make inquiries Open lines of communication with adjusts is critical Adjusters should explain reserves, changes in reserves, or problem cases With retrospectively rated or large deductible plans the risk manager should work with the adjuster to manage reserves A formal and regularly scheduled claim review process is important ©2009 The National Underwriter Company

Step Four: methods to reduce the financial impact of losses Institute investigation immediately after claim Pay med pay expenses to prevent litigation Use return-to-work initiatives Let injured employees know the company cares about them Cooperate with adjusters ©2009 The National Underwriter Company

Chapter 14 Monitoring Claims for Financial Accuracy Advantages & Disadvantages + Helps generate accurate loss reserves + Helps reduce ultimate financial impact of claims + Facilitates claim resolution - Requires time and resources - Requires senior management commitment ©2009 The National Underwriter Company

Chapter 14 Monitoring Claims for Financial Accuracy Chapter Summary
What is it? Three financial elements to manage: Paid amounts, Reserve amounts, Expenses Helps to: understand claims frequency understand claim types identify large impact claims target high frequency claims identify claim problem areas Claims history loss ratios = Incurred losses/premiums Steps to Implement Step One: setting up and obtaining the data Step Two: reviewing the data Step Three: make inquiries Step Four: methods to reduce the financial impact of losses Advantages: accurate reserves, smaller claims, faster resolution Disadvantages: time, resources, senior management commitment ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Outline
What is it? Regulation Choosing an Insurance Arrangement Reinsurance Financial Services Reform Premium and Pricing of Insurance Appendix United States Code, Title 15. Commerce and Trade, Liability and Risk Retention National Conference of Insurance Guarantee Funds Tables Insurance Company Rating Definitions Chapter Summary ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management What is it?
Defined: Insurance is a risk financing transfer Types of property-casualty insurers: Stock, mutual, reciprocal exchanges, & Lloyd’s associations Risk retention groups are a form of risk pooling and retention Stock insurers Owned by stockholders Usually for-profit organizations Most common type of insurer Mutual insurers Owned by policyholders Excess premiums returned as policy dividends to policyholders Current trends include demutualization and mergers ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management What is it?
Reciprocal exchange Owned by policyholders An attorney-in-fact to manage the unincorporated organization Lloyd’s association A facility (not an insurer) to for Lloyd’s brokers and syndicates A room for underwriting unique or unusual exposures Names have unlimited personal (or corporate) liability Risk retention group Authorized by congress for specified liability exposures May be exempt from some insurance laws & regulations Risk purchasing groups (RPG) authorized to buy as group ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Regulation
Jurisdiction Most is regulated by the State insurance department’s insurance commissioner Responsibility consumer protection through monitoring insurers for solvency monitoring policy wording and structure monitoring insurer conduct licensing and admitting insurers National Association of Insurance Commissioners (NAIC) coordinates regulation of multi-state insurers facilitates uniform policies and practices monitors insurer financial strength ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Choosing an Insurance Arrangement Insurer quality factors: organizational structure admitted status financial strength size claims paying philosophy support services Organizational structure Certain types may specialize in locations or lines Admitted status licensed insurers may operate in the jurisdiction admitted insurers participate in state guarantee associations Domestic insurers are headquartered in the state Foreign insurers have headquarters in another state Alien insurers have headquarters in another country Non-admitted insurers use surplus lines brokers ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Choosing an Insurance Arrangement Financial strength Private companies evaluate insurer financial strength A.M. Best Fitch Moody’s Standard & Poor’s Weiss Trade publications report on insurer activities Insurance departments and the NAIC may analyze insurers The analysis is not a guarantee of solvency ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Choosing an Insurance Arrangement Financial Strength State guarantee funds Post-assessment funds for paying insolvent insurer claims Pre-assessment funds (NY) for accumulating funds Risk managers should not rely on guarantee fund for indemnity Usually only partial indemnity Limited coverage Risk-based Capital Purpose: benchmark for analyzing insurers’ capital needs P/C RBC ratio types: asset risk – investment portfolio, capital budgeting credit risk – premium & reinsurance debt management underwriting risk – reserve management business risk – off-balance sheet management ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Choosing an Insurance Arrangement Financial Strength Insurance Regulatory Information System (IRIS) NAIC system of ratio analysis Complements other financial strength analyses Size – Assets available to pay claims Claims paying Philosophy Subjective assessments shared by risk managers and brokers Claim reserving practices: Conservative insurers will overstate incurred but not reported (IBNR) reserves Growing insurers may understate IBNR to increase surplus ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Choosing an Insurance Arrangement Support services Loss control engineering boiler inspection safety training fire protection inspections Risk management information systems (claims systems) Claims support services Reserve policy coordination ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Reinsurance
Defined: insurance for insurers, transfers of all or part of an exposure Purposes: stabilize loss ratios and underwriting results catastrophe protection increase policyholders’ surplus (increase underwriting capacity) exit a line of business Parties: Cedant – the primary insurer transferring risks to the reinsurer Reinsurer – the company accepting (assuming) the risks Types: Treaty – an automatic contract for defined risks Facultative – a one-off contract for unique/high value risks ©2009 The National Underwriter Company

Transfers: Pro-rata: Cedant & reinsurer share proportional insurance, premium, and losses Quota-share – fixed proportions (percentages) Surplus-share – transfers fixed proportions after a line retention Excess-of-Loss: non-proportional transfers after a retention Per risk – each claim applies the retention Per occurrence – one retention applies for all claims from a catastrophic event (e.g., property claims from hurricane) Aggregate (stop-loss) – retention applies for all claims in the policy period – effectively protects loss ratio ©2009 The National Underwriter Company

Reinsurance pools: Primary insurers combine exposures to share risk Areas of impact: Primary insurer’s reinsurance costs are an operating expense reflected in policyholders’ premiums Reinsurer’s surplus impacted by catastrophe losses Inflation impacts reinsurer’s investment income Changes in exchange rates impact reinsurer’s asset values Reinsurers change coverage availability & rates to primary insurers ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Financial Services Reform 1916 Federal Reserve Act prohibited state banks from selling insurance 1946 Public Act 15 gave rights to states to regulate insurance 2000 Gramm-Leach Bliley Act enables Financial Holding Companies (FHC) and convergence of securities, banking, and insurance sales includes antitying provision restricting offering credit on the condition of buying insurance from FHC includes consumer privacy provision requiring FHC to disclose policies on release of consumer information Future reforms may include federal insurance charters ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Premium and Pricing of Insurance Rate requirements Adequate – sufficient to protect against insolvency Reasonable – premium reflects expected value and is affordable Not unfairly discriminatory – based on actuarial data & social policy Rate approval Prior approval – insurer files rate with insurance department, department must approve before insurer can use rates File-and-Use – insurer files and uses rates while insurance department reviews rates Flex-rating - insurer files a range of rates Open competition - regulators allow market to determine price ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Premium and Pricing of Insurance Rating methods Class rates – Manual rates for group of similar exposure units based on industry data (guaranteed rate per exposure unit, may be subject to audit of actual exposures in policy period) Experience rates – based on insured’s actual loss history; credibility tables assist underwriter in evaluating application Experience Modification (EM) factor applied to class rate Retrospective Rates – rates based on current year losses Deposit (standard) premium Subject to minimum and maximum premiums Final premium based on loss audit Used when better than average or much worse than average Simple EM factor: EM= (A-E)/E * C A = actual losses E = expected losses C = credibility factor ©2009 The National Underwriter Company

Chapter 15 Insurance Companies and Risk Management Chapter Summary
What is it? Transfer of risk financing to stock, mutual, reciprocal exchange, or Lloyd’s association (or risk retention group) Regulation State insurance department (commissioner) protects industry by monitoring insurer’s solvency, policy wording and structure, conduct, and licensing and admitting insurers Choosing an Insurance Arrangement – Insurer quality factors: organizational structure, admitted status, financial strength, size, claims paying philosophy, & support services Reinsurance – cedant stabilizes loss ratios, gets catastrophe protection, increases surplus, or exits a line of business using a treaty or facultative, pro-rata or excess-of-loss contract Financial Services Reform – convergence of banking & insurance Premium and Pricing of Insurance – Insurance departments approve adequate, reasonable, and not unfairly discriminatory rate filings for guaranteed, experience, or retrospective rates. ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-1 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism………………7-1 Ch 8 Overview of Alternative Risk Transfer Techniques…….8-1 Ch 9 Global Risk Management…………………………………9-1 Ch 10 Loss Control Techniques……………………………….10-1 Ch 11 Emergency Response Planning……………………….11-1 Ch 12 Business Continuity Planning………………………….12-1 Ch 13 Claims Management…………………………………….13-1 Ch 14 Monitoring Claims for Financial Accuracy…………….14-1 Ch 15 Insurance Companies and Risk Management……….15-1 Ch 16 Working with an Agent or Broker………………………16-1 ©2009 The National Underwriter Company

Chapter 16 Working with an Agent or Broker Outline
What is it? Steps to Implement Advantages and Disadvantages Time and Cash Commitment Chapter Summary ©2009 The National Underwriter Company

Chapter 16 Working with an Agent or Broker What is It?
Intermediary services: risk assessment drafting coverage specifications marketing insurance coverage interpreting coverages advising clients about the insurance marketplace issuing Insurance documents billing and processing invoices ordering and processing endorsements analyzing losses researching coverages and technical issues managing other vendors offering innovative ways to manage risk ©2009 The National Underwriter Company

Chapter 16 Working with an Agent or Broker What is It?
Intermediary relationship: high value professionals requires utmost good faith and trust a long-term relationship a financial partner ©2009 The National Underwriter Company

Chapter 16 Working with an Agent or Broker Steps to Implement
Evaluate the intermediary Select the intermediary Issue requests for insurance (RFP) Hear presentations by intermediaries Place coverages Insurance policies issued Intermediary performance evaluation Compensation Commission – paid by insurers to agents Service fees – paid by insured to broker or agent ©2009 The National Underwriter Company

Chapter 16 Working with an Agent or Broker Advantages and Disadvantages Advantages and Disadvantages A good relationship is the key to advantages & disadvantages Time and Cash Commitment Time to gather and submit information Information must be timely and accurate Costs for intermediary compensation (commissions & fees) Allocate time to do an annual performance review ©2009 The National Underwriter Company

Chapter 16 Working with an Agent or Broker Chapter Summary
What is it? A long-term partnership based on trust to: assess risk, draft coverage specifications, market coverage, interpret coverages, advise on the insurance marketplace, issue insurance documents, bill and process invoices, order and process endorsements, analyze losses, research coverages and technical issues, manage other vendors, and offer innovative ways to manage risk Steps to Implement: evaluate intermediary, select the intermediary, issue requests for insurance (RFP), hear intermediary presentations, place coverages, issue insurance policies, evaluate intermediary performance Advantages and Disadvantages – a good relationship Time and Cash Commitment Time to gather and submit information, information must be timely and accurate, costs for intermediary compensation. allocate time to do an annual performance review ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Outline
What is it? Business Uses Design Features Other Business Uses Advantages Disadvantages Chapter Summary ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance What is it?
An indemnity contract to pay the insured’s legal obligations up to the policy limits and within the contractual conditions Commercial because the entity is a business organization General liability because it provides coverage for overall liability exposures, including: premises operations products completed operations Liability because it is for third-party claims ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Business Uses
Duty to Defend – pays defense costs if sued. Often in addition to (outside of) policy limits. Coverage Limitations – coverage applies only to: Bodily injury – injury, sickness, disease, death Property damage – tangible loss of value to a physical asset Personal and advertising injury – injury from intentional actions such as malicious prosecution, false arrest, libel, or slander. Deciding When Damage Occurs – Claim must be in the coverage territory Occurrence must be during the policy period. Triggers may be based upon: the exposure theory – first exposed to hazard the manifestation theory – date of diagnosis the injurious process theory (triple trigger) - continuous the injury-in-fact theory – at date of actual injury ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Business Uses
The Application of Limits of Liability Types: each occurrence limit personal and advertising injury limit general aggregate limit products/completed operations aggregate limit sub-limits for special exposures such as: fire legal medical payments Occurrence versus Claims-made Forms Occurrence form: event happens during policy period, claim at any time. Claims-made form: event and claim must be during policy term Extended reporting periods – basic and supplemental ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Design Features (Policy Structure) Insuring agreement: “we promise to pay….” Coverage A: BI/PD occurrences Coverage B: PI/AI offenses Coverage C: MedPay without fault (goodwill) Exclusions: removes coverage for hazards the insurer does not want to cover or provides for elsewhere E.g., A:- Workers’ compensation or auto claims B – Criminal acts where result was intended C – injury to the insured Supplemental Payments - additional payments for investigating claims, bail bonds, bonds for release attachments, reasonable expenses, costs of lawsuits, prejudgment interest, interest on accrued settlements ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Design Features (Policy Structure) Who is an Insured: Named insured – Individual, partners, trusts, or officers, shareholders, and employees acting within the scope of employment Additional insured – added by endorsement, “but only with respect to liability arising out of the named insured’s operations,” e.g., vendors, contractors, lessees, or owners Limits of Insurance The amounts the insurer will pay Types: general aggregate, premises & operations, products & completed operations, AI/PI, medpay, fire legal, etc. ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Design Features (Policy Structure) Conditions Legally binding requirements for insurer and insured Claim duties following a loss - notify insurer & cooperate Representations clause – insured agrees statements made in the declarations page are accurate and complete Other insurance clause – defines payment as primary or secondary Separation of insureds – each insured parties claim is separate, but subject to aggregate limits Subrogation clause – rights of recovery transferred to insurer Non-renewal clause – terms under which insurer may non- renew the policy ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Design Features (Policy Structure) Definitions Some italicized policy terms are defined within the policy Examples You is defined as the named insured Coverage territory is the US, Puerto Rico, & Canada Employees include leased workers but not temporary Mobile equipment non-road use Products-completed operations hazard Defined terms are subject to varying judicial interpretation ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Other Business Uses
A CGL form should be analyzed to see if it is appropriate Appropriate for many premises, operations, products, and completed operations hazards. Typical consumers include retailers, offices, hoteliers, and services Policy endorsements are used to broaden or limit the coverage scope Specialty liability policies are available for other hazards/occupations: professional liability pollution liability employment related liability owners and contractors’ protective liability underground storage tanks warehouseman’s legal liability and many others ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Other Business Uses
Premiums must be reasonable (close to the expected value) must be feasible (within an affordable range) Monitoring Results Is the coverage applicable to the hazards? Are the limits adequate? Is the premium cost effective? Are there new hazards after the effective date? Is the insurer properly handling claims? ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Advantages
Transfers the financing of risk to the insurer Decreases worry Frees money and time for other opportunities Pays for loss and defense costs Insurer handles the legal and claim paper work Insurer provides loss control services ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Disadvantages
The insurance premium is an operating expense Cash is used for premiums instead of other opportunities Insured relies on insurer to properly manage claims (reputation) Insured gives up (most) control over claim management Risk of insurer insolvency (failed risk financing transfer) Coverage limited by many exclusions Finite policy limits subjects insured to catastrophic loss financing ©2009 The National Underwriter Company

Chapter 17 Commercial General Liability Insurance Chapter Summary
What is it? - An indemnity contract to pay the insured’s legal obligations Business Uses – Pays defense & indemnity for 3rd party BI, PD, AI & PI Up to the policy limits, Claims-made or Occurrence forms Design Features – Insuring agreement, exclusions, supplemental payments, “insured,” limits, conditions, & definitions Other Business Uses – many other forms available, monitor the hazards Advantages - transfers risk financing, decreases worry, enables opportunities, pays defense and indemnity costs, claims management services, loss control services Disadvantages - premium expense, lost opportunities, reliance on insurer to properly manage claims (reputation), loss of claim control, insurer insolvency, limited coverage, exclusions, finite limits. ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-1 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism………………7-1 Ch 8 Overview of Alternative Risk Transfer Techniques…….8-1 Ch 9 Global Risk Management…………………………………9-1 Ch 10 Loss Control Techniques……………………………….10-1 Ch 11 Emergency Response Planning……………………….11-1 Ch 12 Business Continuity Planning………………………….12-1 Ch 13 Claims Management…………………………………….13-1 Ch 14 Monitoring Claims for Financial Accuracy…………….14-1 Ch 15 Insurance Companies and Risk Management……….15-1 Ch 16 Working with an Agent or Broker………………………16-1 ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Outline
What is it? Business Uses Advantages Disadvantages Design Features Experience Rating Schedule Rating Financial Plans Chapter Summary ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System What is it?
Defined: A statutory system providing for specified employee benefits for employment related injuries and illnesses Unique: 50+ state laws with varying benefits Benefits: medical treatment, death benefit, rehabilitation, loss of earnings Forms: compulsory or elective (Texas, common law applies) Insurer: Commercial insurer, state fund, qualified self-insured Penalties: The failure to provide appropriate insurance may result in penalties (fees, fines, imprisonment, injunctions) and the payment of all benefits. Common Law Defenses Assumption of Risk Contributory Negligence Fellow Employee Negligence (voluntary acceptance) (participated in fault) (employee at fault - not employer) ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System What is it?
Qualified Self-Insurer: Only permitted (approved) in some states if: Sufficient financial ability Sufficient size (volume) Sufficient loss experience Sufficient safety initiatives Sufficient claims management ability Sufficient ability to manage a self-funded program Supplement Quid-pro-quo of workers’ compensation laws Employer gives up legal right of defense in certain incidents Employer receives the certainty of amounts paid for damages Employee gives up the legal right to sue employer Employee receives the assurance of indemnification ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Business Uses
Loss must occur out of and in the course of employment (defined by statute) and must be a causal relationship Exclusive remedy: (quid pro quo) exchange of rights for guarantee of benefit. Employee: usually cannot sue, gets certain benefits Employer: cannot defend self, certainty of costs (premium) Exceptions: dual capacity – employee acting as a member of the public intentional tort – employer intended action third party over – suit by third party against employer Excluded employments: Fewer than a specified number of employees casual, domestic, farm labor Partners in a partnership volunteers specified corporate officers ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Business Uses
Injury by Disease Occupational disease losses, subject to state statutes Mental Injury Physical trauma resulting in mental injury Mental stress or stimulus resulting in physical injury Mental stress or stimulus resulting in mental injury ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Advantages
Employee Advantages medical treatment and lost-wage benefit broader benefits than standard health insurance rehabilitation therapy retraining services continuing income Employer Advantages shielded from lawsuits for work-related injuries ability to purchase insurance to fund statutory obligation available state fund or assigned risk pool avoid fines and penalties for failing to comply with state laws affordable loss control and safety training and inspectors Societal Advantages equitable treatment of injured employees employees return to workforce (if seniority system permits) ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Disadvantages
Employee Disadvantages give up right to sue employer may be forced to use medical providers selected by employer may be required to submit to independent medical examinations lost wages calculated on the average wage a waiting period deductible may apply Employer Disadvantages usually must purchase insurance or be a qualified self-insurer subject to experience rating may have to use a claims manager process is highly regulated and paper intensive system may promote malingering Societal Disadvantages debated “proper” level of benefits, regulations, and premiums tends to polarize labor and management ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Design Features
The Insurance Policy Most WC policies are identical NCCI forms Five monopolistic states – must by from the state Coverage parts Part 1: Workers’ Compensation Part 2: Employers’ Liability Part 3: Other States Insurance Other sections: Part 4: Duties Part 5: Premiums 5 monopolistic states are: North Dakota, Ohio, Washington, West Virginia, & Wyoming ©2009 The National Underwriter Company

Part One: Workers’ Compensation Insurance Statutory benefits only Any excess payments borne by the employer Part Two: Employers’ Liability Insurance Defined: liability imposed by law for injury to employees in the course of employment that is not compensable under part one. Example: third-party over action – permitted lawsuit when an on-the-job injury is not compensable Part Three: Other States Insurance Coverage for states not listed on the declarations page item 3A e.g., operations started in states not listed on declarations page Does not include the five monopolistic states Does include temporary workers in states not listed in item 3A Insured must notify insurer of any operations in new states The underwriter may wish to inspect the new location ©2009 The National Underwriter Company

Part Four: Your Duties if Injury Occurs Provide prompt medical attention Report names and addresses of injured workers and witnesses Cooperate with insurer – provide all legal notices Not interfere with insurer’s rights to recover Not voluntarily make payments (preservation of rights) Part Five: Premiums Determined by insurer’s filed manual of rules, rates, plans, and classifications Classifying the operation – NCCI classes used to gauge risk Each business has a governing classification Secondary classifications used to rate certain employees Premium basis is remuneration – including payroll, salary, meals, bonuses, store merchandise, etc. Payroll limitations: most states include executive salaries, subject to minimum and maximum executive payroll Classification Examples: 8058 Store employees 8385 Garage employees 4717 Butter substitute mfg ©2009 The National Underwriter Company

Part Five: Premiums Rates Two basic types: Manual and advisory loss cost rates Credits or debits may apply to the manual rate Financial plans (dividend or retrospectively-rated) available Other factors: Expense constant minimum premium premium discounts experience modification increased employers’ liability limits of liability Final premium subject to audit of actual exposure basis (actual classifications and actual remuneration). The insured is billed an additional premium or sent a return premium Standard employers’ liability limits: BI by accident $100,000 each accident BI by disease $500,000 policy limit BI by disease $100,000 each employee Increased limits are available ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Experience Rating
Purpose: encourage safe working conditions Experience rating is mandatory for all insureds General points: Previous loss data is used to adjust future premiums Experience mods are developed on an annual basis The mod applies to all of the insured’s operations The insured’s losses are compared to all others in the same class May significantly affect the total premium The experience mod: =1 means an average risk <1 means a good risk, a credit applies >1 means a high risk, a debit applies Three years of loss experience normally is used An anniversary rating date is the day when the mod takes effect ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Experience Rating
The Mod Formula: Unit statistical reports: The insurer files the insureds actual loss history The insured should review claims prior the report date Making the Calculation: the NCCI calculates and issues the mod The standard (manual) premium times the experience mod yields the modified standard premium Recalculation and Revision: a change in operations may cause a reclassification and/or revision of the mod. The insured may request a recalculation for certain conditions. One Risk or Two? Mergers and acquisitions have special rules. Usually the acquiring company’s mod applies to the new operation. ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Schedule Rating
Purpose: reflect characteristics of a company not reflected in the experience modification factor May be used in addition to experience rating Maximum credit or debit is 25% Example: management cooperation, safety plans or committees, on premises medical facilities, or special training programs ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Financial Plans
Some WC programs have front ends and back ends The front end is the deposit premium at the start of the policy term The back end is the adjustment at the end of the policy term Plans without back ends are called guaranteed rate plans – the total cost is subject only to the audit. Availability based on market conditions, account size, & claims history Types of Financial Plans Available Guaranteed rate Standard dividend Sliding scale dividend Incurred loss retrospective rating Paid loss retrospective rating Deductible ©2009 The National Underwriter Company

Choosing a Plan Experts use premium size guidelines to decide on type Small premiums – guaranteed rate or dividend plans Large premiums – retros or large deductible plans Other factors include: amount of insurance desired, cash flow needs, preferred fixed cost, preferred risk, and collateral required ©2009 The National Underwriter Company

Guaranteed Rate Plan The simplest and most stable plan The premium varies only with the classifications, payroll, and experience modification factor. Premiums are not directly affected by current loss experience The premium is the (rate X exposure basis) X experience mod Final cost is not guaranteed (subject to audit) – only rate Standard Dividend Plan (standard flat dividend) Rewards groups of companies with good loss control Used with Affinity or group workers’ compensation policies The dividend is based on the group’s experience Sliding Scale Dividend Plan For individual companies with good loss control The dividend slides with the loss ratio Dividend = savings factor x (expected loss ratio – actual loss ratio) x premium ©2009 The National Underwriter Company

Retrospective Rating Plan The audited exposure basis is subject to actual losses in the current policy period Return (additional) premium if losses are less (more) than expected WC policy claims may have long tails – the plan settlement may therefore take a long time Two types of retro plans: incurred-loss and paid-loss (plus hybrids) Collateral is required to assure payment of adjustments Incurred-loss plans use incurred losses as basis for premium Paid-loss plans use paid losses as basis for premium Two types of costs in the plan: Fixed Costs - underwriting, insurance, agent costs Variable Costs - adjustments, settlements, legal costs ©2009 The National Underwriter Company

Retrospective Rating Plan Premium Adjustments: Starting at 6 months after inception – claims are reviewed. If total costs are different than expected the bill is adjusted Claims are reviewed every 12 months thereafter until closed Retrospective Rating Formula The basic factor (BF) is the percentage of the standard premium The standard premium (SP) is used to issue the policy The basic factor x the standard premium = the basic premium (BP) The loss conversion factor (LCF) is a charge to adjust claims The LCF x the losses = converted losses (CL) Allocated loss adjusting expenses (ALAE) are added to the CL A tax multiplier (TM) is applied to the sum Retrospective premium = [(BF x SP) + (LCF x Losses) + ALAE] x TM = [ BP + CL + ALAE ] x TM ©2009 The National Underwriter Company

Retrospective Rating Formula The retrospective premium is limited by a minimum and maximum Excess Loss Premium (loss limit or loss limitation) Available if the standard premium > $100,000 Coverage caps the maximum loss included in the retro premium calculation Audit versus Retro Calculation Premium audits – precede the retro adjustments. Audits review the classifications and exposure bases; then modifies the standard premium Retro Policy Cancellations The insured may pay a penalty if canceling before expiration Retrospective Rating Forms The insured signs an election form recognizing the retro plan ©2009 The National Underwriter Company

Deductible Plans The insurer pays claims and then seek reimbursement The insured pays a deductible premium This premium sets up an escrow account The insured is billed monthly for actual claim payments Deductibles usually range from 100,000 to 1 million Purposes of deductible plans eliminate nuisance claims transfers large claim handling to insurer There are state specific guidelines for deductible programs Qualified Self-Insured Plans Defined: a retention plan approved by the state Usually only for very large worker groups May not qualify for state funds ©2009 The National Underwriter Company

Chapter 18 The Workers’ Compensation System Chapter Summary
What is it? A statutory system providing for specified employee benefits for employment related injuries and illnesses Business Uses: exclusive remedy for indemnifying employee harm Advantages: employee is assured of benefits, employer is assured of cost control, society is assured of full employment Disadvantages: employee gives up right to sue, employer’s cost subject to experience mod, society gets polarized labor and management Design Features: most states use NCCI form: Part 1: Workers’ Compensation, Part 2: Employers’ Liability, Part 3: Other States Insurance, Part 4: Duties, Part 5: Premiums Experience Rating: to encourage and reward safety Schedule Rating: reflect company’s unique characteristics Financial Plans: Guaranteed rate, Standard dividend, Sliding scale dividend, Incurred loss retrospective rating, Paid loss retrospective rating, Deductible plans. ©2009 The National Underwriter Company

Ch 1 Introduction to Traditional Risk Management……………1-1 Ch 2 Enterprise Risk Management…………………………….2-1 Ch 3 Risk Assessment: Identification…………………………..3-1 Ch 4 Risk Assessment: Quantification…………………………4-1 Ch 5 Overview of Risk Treatment Alternatives………………. 5-1 Ch 6 Non-insurance Transfer of Risk…………………………. 6-1 Ch 7 Insurance as a Risk Transfer Mechanism……………….7-1 Ch 8 Overview of Alternative Risk Transfer Techniques……..8-1 Ch 9 Global Risk Management………………………………..9-1 Ch 10 Loss Control Techniques……………………………….10-1 Ch 11 Emergency Response Planning……………………….11-1 Ch 12 Business Continuity Planning………………………….12-1 Ch 13 Claims Management…………………………………….13-1 Ch 14 Monitoring Claims for Financial Accuracy…………….14-1 Ch 15 Insurance Companies and Risk Management……….15-1 Ch 16 Working with an Agent or Broker………………………16-1 ©2009 The National Underwriter Company

Chapter 19 Property Insurance Outline
What is it? Business Uses Advantages and Disadvantages Design Features Chapter Summary ©2009 The National Underwriter Company

Chapter 19 Property Insurance What is It?
A contract to indemnify the insured for loss of property Many types of property policy forms exist buildings personal property boiler & machinery business income crime inland marine builders risk. ©2009 The National Underwriter Company

Chapter 19 Property Insurance Business Uses
Pays to repair or replace damaged property Usually pays on an Actual Cash Value basis (RCN - RM depr) Property insurance is first party coverage Purposes: Protect the business’s property Protect the business’s cash flows Used as collateral for mortgages and loans Insurers offer property loss control services ©2009 The National Underwriter Company

Chapter 19 Property Insurance Advantages and Disadvantages
Peace of mind and sense of security Loss control services Standardized coverage forms Pay small premiums for catastrophic coverages Take advantage of insurer’s financial resources Eliminate loss of revenues Maintain property values after damage Regulated by state insurance departments ©2009 The National Underwriter Company

Chapter 19 Property Insurance Advantages and Disadvantages
Premiums use up available assets Desired coverage may not be available Difficult to establish property values Loss may exceed insurance limits Insurer may become insolvent Loss may not be covered because of exclusions or limitations Policy may be cancelled or nonrenewed Expensive for certain property exposures ©2009 The National Underwriter Company

Chapter 19 Property Insurance Design Features
Building and Personal Property Common coverage forms available from ISO – Insurance Services Office AAIS – American Association of Insurance Services Property policy may be combined to form a package policy Businessowners’ package policies are for smaller companies Methods of Insuring Commercial Property Specific Insurance – schedule of property, each with a limit Blanket Insurance – one limit for all property Policy Structure Declarations – the information page Cause of Loss Form – perils insured against Conditions – terms that each party must adhere to Coverage Form - What property is covered ©2009 The National Underwriter Company

What’s Covered Buildings Defined in the policy, includes and limited coverage for fixtures, outdoor fixtures, machinery, and personal property used to maintain the buildings Business Personal Property Includes furniture non-permanent fixtures, certain machinery, leased property, improvements and betterments, use interest in property of others, stock, and limited personal property of others Property Not Covered Autos, land, contraband, bills & currency, bridges, roads, underground pipes, foundations, and others ©2009 The National Underwriter Company

Additional Coverages Debris removal Fire department service charges Limited pollution cleanup expenses Repair or replacement required by ordinance or law Limited electronic data restoration Coverage Extensions Newly acquired buildings Buildings in the course of construction($250,00) Newly acquired business personal property ($100,000) ©2009 The National Underwriter Company

How Losses Are Settled Limits of insurance: per occurrence subject to aggregates Coinsurance: the insured must purchase limits that reflect a specified percentage of the property’s value. Deductibles: an amount the insured pays before the insurer pays. Types: flat, franchise Valuation Replacement Cost – cost to replace with like kind & quality Actual Cash Value – replacement cost – depreciation Agreed Value – cost the insurer and insured concur upon Others: glass, stock, valuable papers & records use special valuation methods Payment = _Did x Loss – Deductible Should ©2009 The National Underwriter Company

Supplement Additional Valuation Methods Valued policy clause – pays policy face amount for total losses Pair or set clause – pays the difference in set value before & after Specified value (or stated amount) – amount provided prior to loss, but subject to adjusting Market value – pays the fair price in an open market Economic value – pays the value an asset contributes to organization’s income statement or balance sheet Abandonment value – pays the salvage value of an asset that will not be repaired or replaced. ©2009 The National Underwriter Company

Perils Insured Against The Cause of Loss form specifies the covered perils Property is covered for direct physical loss (rather than consequential loss of use) Cause of Loss forms: Basic, Broad, and Special Additional Coverages: limited fungus & collapse ©2009 The National Underwriter Company

Coverage Limitations and Exclusions Reasons: 1) Many insureds do not need coverages 2) Insureds may not be willing to pay for coverages 3) Some perils are uninsurable 4) Perils may be better insured elsewhere Examples: Ordinance or law – part is uninsurable, part covered elsewhere Earth movement - covered elsewhere Government action – uninsurable Nuclear – uninsurable Utility service – covered elsewhere War & Military action – uninsurable ©2009 The National Underwriter Company

Doctrine of Concurrent Causation Defined: if any covered peril contributes to an otherwise excluded peril, the entire loss is covered. Examples: Basic form: Vandalism + water damage covers both Controversial: basic form: hurricane + flood  ? Other Exclusions (subject to concurrent causation) Artificially generated electric current – surges Explosion of steam boilers, pipes, or engines Mechanical breakdown Neglect ©2009 The National Underwriter Company

Business Income Coverage Many questions arise: Should the company continue following a total loss? How long will it take to restore operations? Is there a business recovery plan? The coverage limits should be sufficient to reestablish the business Many insurance policy forms are used: Insurer filed forms ISO business income w/o extra expense ISO business income with extra expense ISO extra expense Covers net profit or loss before income taxes that would have been earned with no loss, plus continuing operating expenses. ©2009 The National Underwriter Company

Business Income Coverage Time deductibles usually apply A coinsurance clause usually applies Several coverage endorsements available: Dependent property – non-owned property upon which the insured relies Off-premises utility outages Ordinance or law Loss of tuition and fees Common Commercial Property Endorsements Interruption to utility service Ordinance or law Mechanical breakdown Earthquake Spoilage Flood ©2009 The National Underwriter Company

Boiler and Machinery Covers direct loss or damage to the covered equipment plus consequential loss (spoilage or business income) Examples: furnaces, air conditioners, computers Builders’ Risk Covers the building, materials, and supplies used in construction May be written as a property form or inland marine form Condominium Association Covers buildings owned in common, fixtures, and improvements Flood Insurance Available from governments or some private insurers The federal government reinsures most flood policies Three forms: dwelling from, general property form, and residential condominium building association policy form Substantial variation in coverages and exclusions ©2009 The National Underwriter Company

Inland Marine Many classes of coverage Examples of classes: property in transit, musical instruments, cameras, signs, film, mail, physicians’ and dentists’ equipment, and jewelry, transportation exposures Coverage is extremely broad Businessowners Generally used for smaller businesses Smaller depends on company specific underwriting e.g., annual gross sales, total floor area Eligible classes include: apartments, offices, wholesale, retail Package policy - may include property, liability, business income, accounts receivable. ©2009 The National Underwriter Company

Chapter 19 Property Insurance Chapter Summary
What is it? A contract to indemnify the insured for loss of property Business Uses: Protect the business’s property, cash flows, and used as collateral, obtain insurer’s loss control services Advantages: Peace of mind, loss control services, standardized coverage, small premiums for catastrophic coverages, eliminate loss of revenues, maintain property values, and regulated by state insurance departments Disadvantages: Premiums, coverage may not be available, difficult to establish property values, loss may exceed insurance limits, insurer may become insolvent, exclusions or limitations, cancelled or nonrenewed policy, may be expensive ©2009 The National Underwriter Company

Chapter 19 Property Insurance Chapter Summary
Design Features: ISO coverage provides specific or blanket coverage of property valued at RCN, ACV, or agreed value. Policy includes declarations, cause of loss form, conditions, and coverage form. Loss settlements subject to policy limits, coinsurance, and deductibles. Cause of losses include basic, broad, and special. Many exclusions & conditions. Coverage available for buildings, business personal property, business income, boiler & machinery, builders’ risk, condominium, flood, inland marine, and businessowners’ ©2009 The National Underwriter Company

Chapter 20 Directors and Officers’ Liability Insurance Outline
What is it? Business Uses Advantages Disadvantages Advantages and Disadvantages Design Features Chapter Summary ©2009 The National Underwriter Company

Chapter 20 Directors and Officers’ Liability Insurance What is it?
Purpose: Responds to losses arising from wrongful acts of directors & officers Insures personal liabilities Insures claims against the entity Policies differ significantly for each insurer Types of Entities Needing D&O Coverage: Publicly traded companies Privately or closely held companies Not-for-profit organizations Responsibilities of Directors and Officers (fiduciary duties) Govern the entity – due diligence (care) No conflicts of interest – loyalty (by agents to principals) Transparency – disclosure of material facts ©2009 The National Underwriter Company

General Categories of Perils Derivative suits - claims by shareholders Minority shareholder suits – a risk in privately held corporations Third party suits – from customers, competitors, governments Varieties of Shareholder and Corporate Claims Breach of fiduciary duties of care, loyalty, and disclosure Negligence – subject to the business judgment rule (good faith) Bad faith – unauthorized conduct or fraud Employee – unfair discrimination against a protected group (based on race, gender, religion, creed, national origin, age, or disability) wrongful discharge employment related practices liability ©2009 The National Underwriter Company

Claims from Those Outside the Organization Customers, vendors, and competitors Government agencies (e.g., ERISA or waste violations) Deepening Insolvency – failure to pursue bankruptcy (regulators) ©2009 The National Underwriter Company

Chapter 20 Directors and Officers’ Liability Insurance Business Uses
Corporate Indemnification Encourages individuals to serve on corporate boards Types of indemnification: Mandatory –statutory requirement that corporations indemnify Directors & Officers Permissive – corporation may indemnify D&Os So why buy D&O Insurance? The organization may have insufficient funds Other liability policies specifically exclude coverage Supplement Changes in D&O market—pay attention to Definition of who is an insured and what is a wrongful act? Whether defense expenses are considered as within limits Which jurisdiction will the case be decided? ©2009 The National Underwriter Company

Chapter 20 Directors and Officers’ Liability Insurance Advantages
Facilitates recruiting directors May be the only protection for D&Os Protects the corporate assets Provides funds to defend and indemnify insureds Premiums are small compared to defense and settlement costs Insurers provide D&O loss control advice ©2009 The National Underwriter Company

Chapter 20 Directors and Officers’ Liability Insurance Disadvantages
The insurance policy is “infrequently” used Application is extensive Signing application is a warrant of correct information No standard D&O coverage form Requires an experienced intermediary The defense costs may be inside the policy limits Some insureds misunderstand the scope of coverage ©2009 The National Underwriter Company

Chapter 20 Directors and Officers’ Liability Insurance Advantages and Disadvantages Some features are both advantages and disadvantages The insured may control the defense of claims + protects professional reputation - ties up resources Lengthy application + discovers D&O hazards requires time ©2009 The National Underwriter Company

Chapter 20 Directors and Officers’ Liability Insurance Design Features
Three types (among many) reviewed in this chapter: Closely held, not-for-profit, and publicly traded corporations All have some common attributes Many policy variations exist Policies differ between insurers General Attributes of Most D&O Policies Coverage Grants Insuring agreements: Coverage A (side A): reimburses D&Os not indemnified by corporation Coverage B (side B): reimburses corporation for defending and indemnifying D&Os per corporate by-laws Deductibles Side A – usually none Side B – usually significant ($1,000 +) ©2009 The National Underwriter Company

Aggregate Limit of Liability – usually applies to defense + settlements Rates – vary widely between insurers and coverage options Claims-made Coverage Almost always written on a claims-made basis Discovery period – time after policy period to report incidents Extended discovery periods are available: Claim-reporting Requirements The policy’s Notice or Claim Reporting requirements are important The discovery period is usually 30 days to report incidents Circumstances that may result in a claim must also be reported Definitions The definitions section is very important e.g., claim, director or officer, insured, loss, wrongful act ©2009 The National Underwriter Company

Exclusions Imperative for insured to read exclusions section Exclusions may also be in other policy parts Two basic exclusion types: corporate governance uninsurable or insured elsewhere Limits of Liability – may include defense, subject to aggregate Control of Defense Insured usually controls the claim defense The insurer has no duty to defend the insured (but indemnifies) Panel Counsel Some insurers require choosing attorneys from panel counsel (pre-approved attorneys with D&O expertise) ©2009 The National Underwriter Company

Discovery Provisions A built-in provision to extend period for reporting incidents Two types of discovery clauses: unilateral discovery – when insurer non-renews the extended reporting period must be offered to the insured bilateral discovery – when insured non-renews the insurer is not required to offer the extended reporting period Changing Carriers If the insured changes carriers, the risk manager should request prior acts coverage – extends coverage to acts in earlier policies Retroactive date – the date the coverage begins The risk manager must be careful with retroactive dates, discovery periods, and extended reporting periods to eliminate coverage gaps ©2009 The National Underwriter Company

Changes in the Organization The policy may be invalidated by mergers or acquisitions Automatic coverage for new subsidiaries may be available The insured should notify the carrier when considering M&As, consolidation, sales, or other material changes in the exposure Other Insuring Agreements Coverage C (side C), Organizational Entity Coverage Not-for-profits use side C because may lack financial assets to defend insurer may advance defense costs Publicly traded entities use side C for securities claims only e.g., drop in stock value, misleading information Forms differ on handling administrative or regulatory proceedings ©2009 The National Underwriter Company

The Allocation Issue The defense cost must be allocated between covered and non-covered claims. Two types of situations: claims involving covered and uncovered parties claims involving covered and uncovered allegations Other Enhancements Many endorsements available Outside directorship – extends coverage to directors serving on other boards Spousal Extensions – covers director’s spouse if named in suit ©2009 The National Underwriter Company

Coverage for Claims Arising from Initial Public Offerings (IPOs) Covers claims for disappointing stock price performance or non-disclosure of material facts. The Application The application is attached to and a part of the D&O policy The application representations form the basis for coverage Material misrepresentations may void coverage A duly authorized corporate officer must sign the application ©2009 The National Underwriter Company

Chapter 20 Directors and Officers’ Liability Insurance Chapter Summary
What is it? Responds to losses arising from wrongful acts of directors & officers Business Uses: Corporate indemnification & encourages individuals to serve on corporate boards Advantages: Facilitates recruiting directors, may be the only protection for D&Os, protects corporate assets, provides funds to defend and indemnify, small premiums compared to defense & settlement costs, and insurers provide D&O loss control Disadvantages: The policy is “infrequently” used, extensive application, application is a warrant, no standard D&O form, requires an experienced intermediary, defense costs inside the policy limits, some insureds misunderstand the scope of coverage Advantages and Disadvantages: Insured may control the claim defense & protects reputation and discovery of D&O hazards but, ties up resources and a lengthy application that requires time ©2009 The National Underwriter Company

Design Features: many policy variations policies differ between insurers side A reimburses D&Os not indemnified by corporation side B reimburses corporation per corporate by-laws deductibles (side B) aggregate limit usually applies to defense + settlements rates vary widely claims-made coverage includes a discovery period and extended reporting periods the definitions section is very important imperative to read exclusions insured usually controls defense panel counsel may be required discovery may be unilateral or bilateral ©2009 The National Underwriter Company

Design Features: request prior acts coverage if changing carriers the risk manager must be careful with retroactive dates, discovery periods, and extended reporting periods to eliminate coverage gaps side C - Organizational Entity Coverage available Many endorsements such as outside directorship, spousal extensions, & IPO coverage the application is a part of the policy, forms the basis for coverage, material misrepresentations may void coverage, and a duly authorized corporate officer must sign the application ©2009 The National Underwriter Company

Chapter 21 Employment-Related Practices Liability Insurance Outline
What is it? Business Uses Advantages Disadvantages Design Features Chapter Summary ©2009 The National Underwriter Company

Chapter 21 Employment-Related Practices Liability Insurance What is it? Protects employers from allegations of unfair employment discrimination e.g., discrimination on hiring, firing, promoting, demoting, & wages Protects employees who are members of protected classes e.g., sex age, disability, national origin, race, creed Based on federal statutes e.g., Title VII of the Civil Rights Act, Civil Rights Act, Age Discrimination in Employment Act, Americans with Disabilities Act Many state statutes expand protections e.g., tobacco use, marital status, sexual orientation, size, ancestry The Equal Employment Opportunity Commission (EEOC) Administers Title VII May bring civil action in US District court ©2009 The National Underwriter Company

Chapter 21 Employment-Related Practices Liability Insurance Business Uses To whom laws apply Federal discrimination - businesses with 15 or more employees ADEA – businesses with 20 or more employees State laws may lower thresholds Why a Separate ERPL Policy May be Desired Protects D&O limits from being used (if applicable) More extensive limits than D&O endorsement (if available) The CGL does not respond to ERPL claims Different perils: not a personal injury claim Excluded hazards: claim arises out of employment Specific exclusion: wrongful employment related practices ©2009 The National Underwriter Company

Chapter 21 Employment-Related Practices Liability Insurance Advantages
Designed specifically for employment related practices Insurer provides loss control services Disadvantages No standard ERPL policy Difficult to understand policy benefits Defense costs are inside policy limits (usually) ©2009 The National Underwriter Company

Chapter 21 Employment-Related Practices Liability Insurance Design Features Covered Wrongful Acts Substantial differences in covered perils e.g., wrongful termination, harassment, discrimination, dismissal, retaliation, failure to employ or promote Common Exclusions Unique exclusions for each policy e.g., intentional acts, contractual liability, criminal activity, workers’ compensation benefits Copayments – may include a copayment provision that insured shares in defense and settlement costs Claims-made Structure contains discovery period, extended reporting period options, and retroactive date ©2009 The National Underwriter Company

Chapter 21 Employment-Related Practices Liability Insurance Design Features Who is an Insured May be corporation, executive officers, directors, managers, and supervisors Limits of Insurance limit usually applies to both defense and settlement costs Control issues May require the business enact loss control measures e.g., employee handbook, sexual harassment policy & training ©2009 The National Underwriter Company

Chapter 21 Employment-Related Practices Liability Insurance Chapter Summary What is it? Protects employers from unfair employment discrimination allegations, protects employees who are members of protected classes, based on federal statutes, many state statutes expand protections, the EEOC administers Title VII & may bring civil action in US District court Business Uses: Applies to businesses with >N employees, protects D&O limits, more extensive limits than D&O endorsement, the CGL does not respond to ERPL claims Advantages: Designed specifically for employment related practices, insurer provides loss control services Disadvantages: No standard ERPL policy, difficult to understand policy benefits, defense costs are inside policy limits ©2009 The National Underwriter Company

Chapter 21 Employment-Related Practices Liability Insurance Chapter Summary Design Features: substantial differences in covered perils unique exclusions for each policy may include a copayment provision has a claims-made structure - contains discovery period, extended reporting period options, and retroactive date insured may be corporation, executive officers, directors, managers, and supervisors limits of insurance applies to defense and settlement costs may require the business enact loss control measures ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Outline
What is it? Business Uses Advantages Disadvantages Design Features Legal Aspects Chapter Summary ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance What is it?
Indemnifies insured for losses caused by commercial autos Covers risks associated with vehicles driven on public roads May be for owned, nonowned, and/or hired autos Two types of protection: Liability – third party bodily injury or property damage coverages - includes the duty to defend Physical damage – first party property collision or other than collision coverages ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Business Uses
Form may be a monoline policy or part of a multi-line package policy Allows business to comply with state auto insurance laws Protects business’ assets ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Advantages
Comply with proof of financial responsibility laws Comply with financial institution loan requirements Protects the business’ assets used for defense or settlements Indemnifies settlement and defense costs Insurer handles claims Premiums may be lower than defense + settlement costs Premiums are a tax deductible expense ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Disadvantages
Many exclusions and limitations Finite policy limits Insured loses control of claims ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Design Features
Policy Structure Declarations page Liability coverage Physical damage coverage Conditions Definitions Declarations Form basic information about the contract e.g., named insured, mailing address, policy period, coverage, endorsements, premiums, schedule of covered autos, limits ©2009 The National Underwriter Company

Liability Coverage Sections: Insuring Agreement Description of the Insured Coverage Extensions Exclusions Limit of Insurance What the insurer will cover in the event of a loss Three parts: BI/PD, limited pollution, and defense costs Named insured – owner or anyone with the named insured’s permission to use the auto Supplementary payments – bail bonds, lost wages Out-of-state coverage extensions – for financial requirements of other states ©2009 The National Underwriter Company

Liability Coverage Exclusions: Read the policy carefully e.g., intentional acts, fellow employee (co-worker suits) Limits: The most the insurer will pay Per accident and aggregate limits usually apply Physical Damage Coverage Sections: Coverage agreements Coverage extensions Exclusions Limit of Insurance Deductible provision ©2009 The National Underwriter Company

Physical Damage Coverage: Coverage agreements: Comprehensive coverage – other than collision Specified cause of loss coverage – named perils Collision coverage – with another object or overturn Conditions: Loss conditions – valuation and claim duties General conditions – policy term, other policy coordination Definitions: Words in quotation marks specifically defined in policy Undefined terms subject to court interpretation Endorsements: Modify the BAP e.g., auto medical payments, uninsured/underinsured motorist ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Legal Aspects
Fiscal Responsibility and Compulsory Insurance Laws Purpose: require automobile owners and operators to compensate those they may injure State statues vary considerably Five types of statues: Financial responsibility laws Compulsory automobile liability insurance laws Unsatisfied judgment fund laws Uninsured motorist coverage laws No-fault laws ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Legal Aspects
Fiscal Responsibility and Compulsory Insurance Laws Financial responsibility laws – proof of insurance or other financial responsibility after a driver’s first accident Compulsory automobile liability insurance laws – every person who registers a motor vehicle must have insurance equal to at least the state minimum requirements Unsatisfied judgment fund laws – State funds paid to accident victims from drivers not meeting the financial responsibility requirements Uninsured motorist coverage laws – For when an at-fault driver has no auto liability insurance; state laws vary; Underinsured motorist coverage applies when the insured’s limits are insufficient to pay settlements No-fault laws – Compensation for losses from the insured’s own insurer. May be pure, add-on, or modified plans. Suits permitted only if the damages exceed a threshold ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Chapter Summary
What is it? Indemnifies insured for liability and physical damage losses caused by commercial owned, nonowned, or hired autos Business Uses: A monoline package policy to comply with state auto insurance laws and protects business’ assets Advantages: Comply with proof of financial responsibility laws and financial institution loan requirements, protects business assets, indemnifies settlement and defense costs, insurer handles claims, premiums may be lower than defense + settlement costs, premiums are a tax deductible expense Disadvantages: Many exclusions and limitations, finite policy limits, and insured loses control of claims ©2009 The National Underwriter Company

Chapter 22 Business Automobile Insurance Chapter Summary
Design Features: Policy Structure: declarations page, liability coverage, physical damage coverage, conditions, and definitions Declarations Form is the basic information about the contract Liability Coverage sections are the insuring agreement, insured, coverage extensions, exclusions, & limits. Insuring Agreement - BI/PD, pollution, & defense costs Named insured – auto owner permitted user Physical Damage Coverage sections: coverage agreements, coverage extensions, exclusions, limit of insurance, deductible provided on collision, specified, & comprehensive perils Legal Aspects: Fiscal responsibility and compulsory insurance laws purpose is to require automobile owners and operators to compensate those they may injure, state statues vary considerably, five types of statues: financial responsibility laws, compulsory automobile liability insurance laws, unsatisfied judgment fund laws, uninsured motorist coverage laws, and no-fault laws ©2009 The National Underwriter Company

Chapter 23 Crime Insurance Outline
What is it? Business Uses Advantages and Disadvantages Design Features Chapter Summary ©2009 The National Underwriter Company

Chapter 23 Crime Insurance What is It?
Purpose: cover the risk of losing money and securities because of fraudulent acts Commercial property forms usually exclude or limit crime coverage Dishonest acts typically covered: employee dishonesty or theft forgery or alteration of checks theft of money or securities from inside robbery or safe burglary from inside theft of property from outside computer fraud fraudulent fund transfers counterfeit money orders or currency ©2009 The National Underwriter Company

Chapter 23 Crime Insurance Business Uses
Covers losses from dishonest employees Employee theft Embezzlement Forgery Messenger robbery Employee benefit plan criminal acts Employee bonding ©2009 The National Underwriter Company

Chapter 23 Crime Insurance Advantages and Disadvantages
+ Provides coverage usually excluded on other policies + Flexibility in designing coverages and negotiating premiums - Forces businesses to adopt crime loss control programs - Excludes dishonest acts of partners or members of an LLC ©2009 The National Underwriter Company

Chapter 23 Crime Insurance Design Features
Standardized forms Surety Association of America (SSA) forms, or Insurance Services Office (ISO) forms Policy types include insurance or bonds (fidelity or surety) Two areas of coverage: Dishonest acts of employees e.g., employee dishonesty, theft, or fidelity coverages Dishonest acts of third parties e.g., forgery or alteration, robbery, burglary, counterfeiting Coverage Forms: Loss sustained form – acts that occur and are discovered during the policy period or extended discovery Discovery form - acts that occur at any time but discovered during the policy period or extended discovery ©2009 The National Underwriter Company

Blanket vs. Schedule Coverage Blanket means all employees are covered Scheduled means only individuals named or positions scheduled are covered Endorsements – many available to customize coverage Select Exclusions: Acts committed by the insured, partners, or members Indirect losses Employees who have committed dishonest acts Inventory shortages Voluntary parting with (by third parties) Coverage for financial institutions (special crime coverages) ©2009 The National Underwriter Company

Supplement Crime insurance vs. crime bond Crime bond used as a financial backstop ensuring faithful performance of a prescribed obligation or duty Crime insurance reimburses for the consequences of loss to or damage of property by natural or man-made causes or the result of allegations of negligence Remedies differ ©2009 The National Underwriter Company

Chapter 23 Crime Insurance Chapter Summary
What is it? Cover the risk of losing money and securities because of fraudulent acts Business Uses: Covers losses from dishonest employees, employee theft, embezzlement, forgery, messenger robbery, employee benefit plan criminal acts, employee bonding Advantages and Disadvantages: Provides coverage usually excluded on other policies, and flexibility in designing coverages and negotiating premiums; but forces businesses to adopt crime loss control programs and excludes dishonest acts of partners or members of an LLC Design Features: Standardized forms by the SSA or ISO, policy types include insurance or bonds (fidelity or surety); covers dishonest acts of employees or dishonest acts of third parties; policies may be the loss sustained or discovery form; blanket or schedule coverages; and many endorsements are available to customize coverage ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Outline
What is it? Design Features of Catastrophe Bonds Advantages and Disadvantages of Catastrophe Bonds Design Features of Insurance Derivatives Advantages and Disadvantages of Insurance Derivatives Chapter Summary ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools What is It?
Definition: Transfer the financing of risk directly to the capital markets Securitization: The use of financial hedges for traditional event risk (catastrophe bonds) Insuritization: Creating insurance based products to replicate the effects of a financial hedge (insurance derivatives) ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Design Features of Catastrophe Bonds Defined: A catastrophe bond is a debt security issued by insurers and reinsurers to transfer catastrophic losses to the capital markets e.g., hurricane catastrophe bonds, earthquake catastrophe bonds Pricing: Cat bonds are priced on a base rate plus a spread e.g., The base may be LIBOR + 2 Placement: Cat bonds are issued as private placements Rating: debt-rating agencies (Moody’s) rate the cat bonds Structure: Many cat bonds are issued in tranches (risk layers) Issuing: requires using a special purpose vehicle – a party (e.g., reinsurer) to handle the instrument ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Design Features of Catastrophe Bonds Loss Triggers: Defined: an event that causes the instrument to respond Types: Indemnification – causes the issuer to payback a dollar-amount to the covered party (e.g., loss >$1,000,000) Parametric – the trigger is a variable event (e.g., hurricane) Special index- a scale upon which a loss is compared (e.g., loss > ISO industry data base) Expected Losses and Loss Modeling There is no credible loss frequency for natural disasters Loss models estimate the loss event probabilities Based on computer simulations ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Advantages and Disadvantages of Catastrophe Bonds + Cat bonds are an important diversification tool + Cat bonds usually offer excellent yields - Cat bonds much more expensive than traditional reinsurance - Not standardized – one-off contracts - Takes about 6 months to create and execute contract ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Design Features of Insurance Derivatives Defined: A derivative gets its value from the value of an underlying asset Purpose: to hedge against price movements in the underlying asset Liquid: Derivatives are traded on organized exchanges e.g., Chicago Board of Trade (CBOT) Example: A foreign exchange derivative hedges changes in the price of foreign currencies (FX – foreign exchange rate risk) Terms: Strike price – the price where the option may be exercised, also called the exercise price Market price – the actual asset price at the time the option is exercised. Spread – the difference between the strike and market prices Premium – the price of the option Option period – the term of the derivative contract ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Design Features of Insurance Derivatives Derivative Types: Swaps, futures, forwards, & options Options: Defined: the right, but not the obligation, to buy or sell an asset at a predetermined (strike) price, during the option period, for a premium Types: Calls – the right to buy an asset Puts – the right to sell an asset Value: A call option is in-the-money if the market price is greater than the strike price A put option is in-the-money if the market price is less than the strike price ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Design Features of Insurance Derivatives Derivative Types: Swaps, futures, forwards, & options Options: Basis risk: the variation in the option’s actual payoff value and the firm’s intrinsic risk; also called underwriting risk. The risk in a hedging strategy that the price of the derivative’s payoff does not exactly match the risk it is hedging Transparency: the ability of all parties to a contract to see all material facts Catastrophe Equity Put Defined: A contract with the right to sell equity Purpose: A type of post-loss financing ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Advantages and Disadvantages of Insurance Derivatives + Catastrophe bonds have been successful + Catastrophe equity puts are customized instruments - No public trading exchange - Basis risk obscures instrument transparency ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Chapter Summary
What is it? Transfer the financing of risk directly to the capital markets using securitization hedges or insuritization products Design Features of Catastrophe Bonds: Issued by insurers to transfer losses to the capital markets, pricing is a base plus a spread, issued as private placements, rated by debt-rating agencies, issued in tranches, often using a special purpose vehicle n event that causes the instrument to respond, triggers may be indemnification, parametric, or special index. loss models estimate based on computer simulations Advantages and Disadvantages of Catastrophe Bonds Cat bonds are an important diversification tool offering excellent yields, but are much more expensive than traditional reinsurance and are not standardized contracts taking about 6 months to create and execute contract ©2009 The National Underwriter Company

Chapter 24 Capital Markets Risk Transfer Tools Chapter Summary
Design Features of Insurance Derivatives: A derivative gets its value from the value of an underlying asset, used to hedge against price movements in the underlying asset, traded on organized exchanges, derivatives include swaps, futures, forwards, & options. Options are the right, but not the obligation, to buy or sell an asset at a predetermined (strike) price, during the option period, for a premium. Option types include calls and puts. The option creates value if it is in-the-money Advantages and Disadvantages of Insurance Derivatives Catastrophe bonds have been successful and catastrophe equity puts are customized instruments but there are no public trading exchanges because basis risk obscures instrument transparency ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Outline
Overview Business Uses Asset Loss Control Liability Loss Control Human Resource Loss Control Chapter Summary ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Overview
Purpose: describe the common loss control tools Three basic approaches Avoidance – to make the probability of loss to zero Prevention – decreases the probability of loss Reduction – decreases the severity of loss Prevention and reduction are not mutually exclusive solutions ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Business Uses
Avoidance is an extreme solution – the potential returns are lost Acceptable only when the return doesn’t justify the risk Types: proactive and reactive Proactive – never accepting a risk Reactive – stopping a behavior/practice such that no further losses are possible. Past exposures may still yield losses Business use dependent on the exposure classes: Assets (property) Liability (third party) Human resources Net income (consequential or contingent) ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Asset Loss Control
Asset Loss Prevention Construction – selecting appropriate building materials Occupancy – modifying activities can decrease probability Protection - adding protective devices Environment – keeping surrounding areas clean Information management – sharing knowledge of hazards Transfers – shifting responsibility to a third party Inspections – personal examinations of hazardous areas Mandates – government regulations and laws Examples – Fleet safety – training, inspections, and mandates Crime – maintenance, lighting, fencing, and guards Intangibles – information management, trademarks and patents ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Asset Loss Control
Asset Loss Reduction Construction – using firewalls and parapets Occupancy – separating hazardous activities Protection - fire detection and suppression devices Environment – removing flammable materials from area Consequential Loss Reduction Having contingency plans Having spare parts (backups) Other Loss Reduction Tools Separation – dividing assets and keeping physically apart Duplication – back up copies and spare parts Contractual transfers – shifting responsibility to others Salvage – including claims management ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Liability Loss Control
Liability Loss Prevention Information Management – prompt and appropriate responses to suits Transfers – hold harmless, exculpatory, and indemnity agreements Fleet Safety - obtain MVRs and driver training Products – labeling, packaging, and instructions Environmental - Maintaining the firm’s reputation and being a good environmental steward ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Liability Loss Control
Liability Loss Reduction Mediation – Using a third party to hear positions and advise Jurisdiction – selecting a friendly venue Legal counsel – proactively working with counsel to prevent losses Political action – lobbying to create favorable conditions Transfers – licensing and exculpatory clauses Legal structure – incorporation and LLPs Exculpatory contracts – two party agreements waiving certain rights - e.g., additional insured clause, subcontractor agreements Medical payments coverage – shows compassion and may decrease suit frequency and severity ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Human Resource Loss Control
Human Resource Loss Prevention Specialization – training and experience reduces losses Organization – creating chains of commands helps workers focus on their jobs Activities – restricting hazardous work to trained workers Physical - using only people physically fit to do certain jobs Human factors – proper interaction between worker and materials or machines Industrial engineering – workplace design, ergonomics Background checks – checking references and qualifications Physical examinations – testing the workers’ abilities Psychological testing – matching worker profiles to jobs Behavior modification – educating and motivating workers Safety training – operating techniques and wellness programs Incentive programs – controversial yet effective ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Human Resource Loss Control
Human Resource Loss Reduction Physical fitness programs – healthy bodies recover faster Separation – keep key employees apart in hazardous situations Duplication – cross training and skill building Loss monitoring tools – claims management Return-to-work tools – enabling injured workers to work and build self-esteem ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Chapter Summary
Overview: Three basic approaches: avoidance, prevention, and reduction. Prevention and reduction are not mutually exclusive solutions Business Uses: Proactive and reactive avoidance is an extreme solutions – the potential returns are lost. Type of loss control is dependent on the exposure classes: assets, liability, human resources, and net income Asset Loss Control: Prevention tools include construction, occupancy, protection, environment, information management, transfers, inspections, and mandates. Reduction tools include construction, occupancy, protection, environment, consequential loss reduction by having contingency plans and spare parts. Other loss reduction tools include separation, duplication, contractual transfers, and salvage. ©2009 The National Underwriter Company

Chapter 25 Loss Control Tools Chapter Summary
Liability Loss Control: Liability loss prevention tools include information management, transfers, fleet safety, products, and environmental. Liability loss reduction tools include mediation, jurisdiction, legal counsel, political action, transfers, legal structure, exculpatory contracts, and medical payments coverage. Human Resource Loss Control: Prevention tools include specialization, organization, activities, physical, human factors, industrial engineering, background checks, physical examinations, psychological testing, behavior modification, safety training, and incentive programs. Reduction tools include physical fitness programs, separation, duplication, loss monitoring, and return-to-work tools ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance Outline
What is it? Business Uses Steps to Implement Advantages Disadvantages Design Chapter Summary ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance What is It?
Defined: Evidence that the financing of loss has been transferred to an insurance company ACORD: Most certificates are of the Association for Cooperative Operations, Research, and Development form Purpose: Businesses (certificate holders) want to know that entities (the insured) have appropriate and adequate insurance ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance Business Uses
Evidence: The certificate is only evidence of a transfer; it is not an insurance contract Time: Certificates show the coverage in place at the time the certificate is issued ACORD: The vast majority of certificates are standard ACORD forms Some organizations may require non-standard, specific certificate forms The insurance certificate does not convey any rights under the insurance policies it represents Examples: volunteer provides auto insurance certificate to charity manufacturer provides product liability insurance certificate to distributor accountant provides property insurance certificate to lessor contractor provides liability insurance certificate to homeowner ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance Steps to Implement
Step One: Drafting Insurance Requirements Risk managers require contractors to have adequate and appropriate insurance Risk managers should adopt a policy that no contractor begin until insurance certificate is received Step Two: Tracking Contracts Are insurance requirements clearly spelled out? Is it clear that certificates be submitted before work begins? Is there a system to review contracts? Step Three: Collecting Insurance Certificates At contract inception, send letter requesting certificate Step Four: Ensuring Compliance Ensure the certificate complies with requirements Step Five: Monitoring Track insurance policy expirations, and depletions of limits ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance Advantages
Peace of mind Reduction of expenses from litigation involving contractors or suppliers Evidence the subcontractor treats its own exposures Compliance with sound risk management principles Reduction in premiums ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance Disadvantages
A certificate is not insurance coverage Requires a trust relationship between certificate holder and insured Limits left may be less than values listed on certificate Insurer’s only obligation is to endeavor to mail cancellation notices to certificate holders Insurers, underwriters, and agents resist modifications to standard ACORD certificates State insurance regulators may not permit modifications to filed certificate forms ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance Design
Three standard ACORD insurance certificate forms: Liability form – ACORD 25 Third party (non-owned) property form – ACORD 24 First party (owned) property form – ACORD 27 ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance Chapter Summary
What is it? Evidence that the financing of loss has been transferred to an insurance company. Most certificates are of the ACORD form. Business Uses: Certificate holders want to know that the insured has appropriate and adequate insurance. The certificate is only evidence of a transfer; it is not an insurance contract. Certificates show the coverage in place at the time the certificate is issued. Some organizations may require non-standard, specific certificate forms. The insurance certificate does not convey any rights under the insurance policies it represents. Steps to Implement: 1) Draft Insurance Requirements, 2) track contracts, 3) collect insurance certificates, 4) ensure compliance, 5) monitor expirations and depletions of limits ©2009 The National Underwriter Company

Chapter 26 The Certificate of Insurance Chapter Summary
Advantages: Peace of mind, reduce litigation expenses, evidence the subcontractor treats its exposures, compliance with sound risk management principles, and reduction in premiums Disadvantages: A certificate is not insurance coverage, requires trust between certificate holder and insured, remaining limits may be less than values listed on certificate, insurer’s only obligation is to endeavor to mail cancellation notices to certificate holders, insurers, underwriters, and agents resist modifications to standard ACORD certificates, regulators may not permit modifications to filed forms Design: Liability form – ACORD 25 Third party (non-owned) property form – ACORD 24 First party (owned) property form – ACORD 27 ©2009 The National Underwriter Company

Chapter 27 Surety Bonds Outline
What is it? Business Uses Advantages Disadvantages Design Features Chapter Summary ©2009 The National Underwriter Company

Chapter 27 Surety Bonds What is It?
Defined: Surety bonds are three-party contracts in which one party (the surety) guarantees the performance of the second party (the principal) to a third party (the obligee) Parties to the surety bond contract: Surety: the party that assures the performance of the principal Principal: the party that promises to perform for the obligee Obligee: the party for whom the work is promised Surety bonds versus Insurance ©2009 The National Underwriter Company

Chapter 27 Surety Bonds Business Uses
Often required on public works projects examples: bid bond – contractor can get a performance bond performance bond – contractor can complete job payment bond – contractor will pay obligees Often required for regulated government regulated professions examples: real estate or insurance agents, vehicle dealers Required of firms that guarantee performance to governments examples: public official bonds, judicial bonds Requested of firms that guarantee performance to private parties examples: banks, real estate developers ©2009 The National Underwriter Company

Chapter 27 Surety Bonds Advantages
Facilitates construction Reduces uncertainty about project completion Careful underwriting (3-C’s) Capital – sufficient funds to finance project Capacity – ability and time to complete project Character – experience to complete project Surety underwriter reviews contracts and advises principal of unusual contract conditions Surety runs credit checks on obligees ©2009 The National Underwriter Company

Chapter 27 Surety Bonds Disadvantages
Bond underwriting requires significant information and time Bonds usually cannot be cancelled Principal must pass stringent underwriting to qualify Bonded individuals, partners, or closely held corporations may be personally liable ©2009 The National Underwriter Company

Chapter 27 Surety Bonds Design Features
Underwriting Submission Information collected Several years of audited financial statements Background information on principal References from associates Copies of bank letters-of-credit Personal financial statement of owners Certificates of insurance Schedule of work in process Business continuity plan On going review – periodic updates of information ©2009 The National Underwriter Company

Chapter 27 Surety Bonds Design Features
Indemnity Agreements The principal must indemnify (often personally) the surety Bond Limit (bond penalty) – the maximum amount the surety will pay on behalf of the principal; surety will subrogate against principal Other Types of Surety Bonds Maintenance bonds – assures obligee of proper work Subdivision bonds – assures installation of infrastructure Supply bonds – assures provision of materials License and permit bonds – assures fees paid to governments Public official bonds – assures security of government monies Fiduciary bonds – assures performance of those entrusted with managing others’ assets ©2009 The National Underwriter Company

Chapter 27 Surety Bonds Chapter Summary
What is it? Surety bonds are three-party contracts in which the surety guarantees the performance of the principal to the obligee Business Uses: Often required on public works projects, for regulated government regulated professions, of firms that guarantee performance to governments, or requested of firms that guarantee performance to private parties Advantages: Facilitates construction, reduces uncertainty about project completion, enhances careful underwriting, reviews contracts for unusual contract conditions, and surety checks obligee’s credit Disadvantages: Underwriting requires significant information and time, usually cannot be cancelled, principal must pass stringent underwriting to qualify, and principal may be personally liable ©2009 The National Underwriter Company

Chapter 27 Surety Bonds Chapter Summary
Design Features: Underwriting information collected and periodically reviewed, the bond is an indemnity agreement, there is a bond Limit (penalty), and surety will subrogate against principal. Other Types of Surety Bonds include maintenance, subdivision, supply, license and permit, public official, and fiduciary bonds. ©2009 The National Underwriter Company

Chapter 28 Claims Reviews Outline
What are they? Business Uses Advantages Disadvantages Design Features Chapter Summary ©2009 The National Underwriter Company

Chapter 28 Claims Reviews What are they?
Defined: formal discussions about claim status Purpose: decrease the severity of losses Participants: Insured: risk manager, safety director, HR director Insurer: underwriter, captive manager Intermediary: agent or broker Adjuster Legal counsel ©2009 The National Underwriter Company

Chapter 28 Claims Reviews Business Uses
Impacts a business’s ability to purchase insurance in the future Used to develop loss control programs Valuable for firms with large workforces System for monitoring claims on a timely basis Claims Management Information Systems Many online CMIS provide real time information to efficiently and effectively manage claims. Most are computer software systems especially helpful in providing statistical analyses. ©2009 The National Underwriter Company

Chapter 28 Claims Reviews Advantages
Encourages communication with adjuster and counsel Facilitates initiatives to reduce claim (indirect) soft costs Enables focus on hazards with high loss frequency or impact Reduces claim loss values Disadvantages Requires time by many parties Insured’s efforts may be resisted by insurers Requires a financial investment in system ©2009 The National Underwriter Company

Chapter 28 Claims Reviews Design Features
Setting up the Process Risk manager decides how often claims are reviewed Risk manager sets up meetings with insurer representatives Risk manager obtains claim information lists of open and closed claims five year history Prepare written claim status reports Discuss what can be done to decrease claim frequency and severity ©2009 The National Underwriter Company

Chapter 28 Claims Reviews Design Features
Legal Aspects Insurers hold the absolute right to settle claims when only their money is at stake Insured has the obligation to work with the insurer Insured has a financial stake with risk-sharing plans (retros) Time Required to Implement Claim reviews require both preparation and participation time by many parties Long-Term Ramifications Claim management has a long-term positive effect on impact Reduces settlement time and therefore soft costs Better cooperation among all parties ©2009 The National Underwriter Company

Chapter 28 Claims Reviews Chapter Summary
What are they? Formal discussions about claim status with a purpose of decreasing the severity of losses. Participants include the insured, insurer, intermediary, adjuster, and legal counsel Business Uses: Impacts a business’s ability to purchase insurance, used to develop loss control programs, valuable for firms with large workforces, and a system for monitoring claims on a timely basis Advantages: Encourages communication with adjuster and counsel, facilitates initiatives to reduce claim soft costs, enables focus on hazards with high loss frequency or impact, and reduces loss values Disadvantages: Requires time by many parties, insured’s efforts may be resisted by insurers, and requires a financial investment in a system ©2009 The National Underwriter Company

Chapter 28 Claims Reviews Chapter Summary
Design Features: Set up the process (how often to review claims, set up meetings, obtain claim information, prepare reports, and discuss) Legal aspects: insurers right to settle claims, insured’s obligation to work with the insurer, and insured’s financial stake with risk-sharing plans Claim reviews require both preparation and participation time Long-term ramifications: positive effect on losses, reduces settlement time and therefore soft costs, better cooperation among all parties ©2009 The National Underwriter Company

Advanced PowerPoint Presentation

Similar presentations

Presentation on theme: "Advanced PowerPoint Presentation"— Presentation transcript:

Similar presentations

About project

Feedback

Log in

Auth with social network:

Advanced PowerPoint Presentation

Similar presentations

Presentation on theme: "Advanced PowerPoint Presentation"— Presentation transcript:

Similar presentations

About project

Feedback