REDUCING TOTAL COST OF RISK THROUGH ANALYTICS Jessica Wacek, Senior Vice President, Marsh Jaci Mennenga, Risk Manager, COUNTRY Financial W W W. C H I C A G O L A N D R I S K F O R U M. O R G
Risk Has a Cost Whether or Not You Buy Insurance Volatility Portfolio of risk Claims Management Total Cost of Risk Retained Losses All of these costs are variable depend on frequency and severity of claims and particular risk issue 2
Reducing Cost of Risk Requires Understanding Nature of Risks Mitigate These Accept These Avoid These (Ideally) Transfer These High likelihood and low financial impact Implement controls to reduce cuts Low likelihood and high financial impact Transfer risk via insurance, hedging, outsourcing etc. High likelihood and high financial impact Avoid if possible or mitigate and transfer Low likelihood and low financial impact Cost to mitigate or transfer may be higher than cost to retain 3
Risk Mitigation is Most Powerful for Reducing Costs Volatility Portfolio of risk Claims Management Total Cost of Risk Retained Losses Retained Losses = f(severity, Frequency) Cost to manage claims increases with number of claims Volatility can be more claims or bigger claims than expected Cost reduction benefits flow through to risk transfer costs too 4
Analyze Historical Claims Trends to Identify Opportunity $450M $400M $350M $300M $250M $200M $150M $100M $50M $0M Evaluate trends in frequency and severity $450M $400M $350M $300M $250M $200M $150M $100M $50M $0M Severity Projections 2009 2010 2011 2012 2013 2014 2015 Trended Exposure Frequency Projections Severity 2009 2010 2011 2012 2013 2014 2015 Trended Exposure Frequency 20,000 15,000 10,000 5,000 0 1.500 1.000 0.500 0.000 Ergonomic Related $800M $700M $600M $500M $400M $300M $200M $100M Top Five Causes of Loss Caught In, Under or Between Burn $0M Evaluate causes 12000of loss and reporting 10000 lags Fall/Slip/Trip Struck By or Against All Other 16000 14000 8000 6000 4000 2000 0 Selected Losses for Products/Premises Liability Average Incurred by Reporting Lag <1 Day 1-3 Days 4-7 Days 7-30 Days >30 Days Evaluate severe losses in the industry 25.0% 50.0% 75.0% 90.0% 95.0% 99.0% 99.5% 99.9% 5
Reducing Loss and Volatility With Pre- and Post-Loss Solutions Loss Mitigation Strategies Pre-Loss Auto safety programs Ergonomics programs Limits of liability Emergency response planning Fire warning systems Employee training Post-Loss Claims handling procedures Litigation support Claims handling vendors Fire protection systems Predictive modeling 6
Reducing Claims Costs Through Program Design and Management Claim Cost Reduction Strategies Vendor selection Program Design Industry standard unit pricing New model outcome-based Bundled vs. unbundled managed care Internal structure and management approach Process improvements Triage Predictive modeling Program Management Legacy management Disability duration return-to-work Medical management Audits Best practices/reserving Performance guarantees/incentive Managed care Leakage audits 7
Buying Insurance Introduces Two New Cost Categories Premium is a known amount paid to an insurer to transfer unknown amount of loss and volatility Applies to all insurance Premium Collateral Collateral is security required by insurers for deductible programs to protect insurers from credit risk of insured Applies only to certain types of insurance We should see a reduction in Retained Losses, Claims Management Expenses and Volatility in exchange Volatility Portfolio of risk Claims Management Total Cost of Risk Retained Losses 8
Risk Transfer is More About Reducing Cost Variance than Reducing Cost ANNUAL EXPECTED LOSSES RISK APPETITE RISK BEARING CAPACITY LOW IMPACT VISIBLE IMPACT ON KPIs EQUITY AT RISK ANNUAL OVER-PERFORMANCE Losses lower than expected AVERAGE SEVERITY Affordable variance HIGH SEVERITY Unaffordable cost variance 9
Assessing Risk Bearing Capacity Earnings Miss Rating Agency Debt Coverage Liquidity Key Performance Indicators (KPIs) Fund/Budget Operating Expense 10
Premiums Are Easy Targets For Cost Reduction But May Ignore Other Costs Expected Retained Losses Insurance Program Fictional Company Risk Tolerance What about this? 11
Incorporating Volatility Puts Various Risk Treatment Options on a Level Playing Field Traditional View of TCOR How We Should View TCOR
Assess Efficiency of Insurance Purchase Relative to Expected Loss and Volatility What impact do unexpected losses have on your earnings? On your balance sheet? Consider insurance as a source of capital, not just an expense to be minimized
Optimizing Total Cost of Risk Requires Comprehensive Understanding of Cost Components for Each Risk Total Cost of Risk Retained Losses Claims Management Risk Transfer Premium Collateral Volatility Savings Opportunity Optimized Total Cost of Risk Prioritize Cost Savings Opportunities Fleet Safety Vendor Analysis and Selection Benchmarking Collateral Modeling Risk Transfer Ergonomics Litigation Support Program Structure Review Alternative Collateral Solutions Pre-Loss Engineering Claim Advocacy Risk Financing Optimization Aggressive Claim Closure Predictive Models Procedures and Controls
In Practice: Using Analytics for Risk Transfer Decision Making
In Practice: Using Analytics for Decision Making Option 1 Option 2 There may be non-financial considerations that rule out an option $40M $40M $40M The remaining options might have trade-offs Select option that best aligns with corporate objectives $3.5M $5M $10M Analysis might identify other considerations Economic Cost of Risk Efficiency of Risk Transfer Payoff Probability Limit Adequacy Coverage Adequacy Option 1 Option 1 Option 1 Option 1 Option 1 Is $40M the right limit? Option 2 Option 2 Option 2 Option 2 Option 2
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