Risk Management Ch 5 and 6 terms

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proactive avoidance

rejecting an idea during the planning stage, saying no in advance

reactive avoidance

dropping an existing product line

risk control goals

efficient mechanisms, comply with legal requirements, promote life safety, ensure business continuity

Examples of complying with legal requirements

OSHA (Fed safety code), fire code, building code

loss prevention and loss reduction can have positive and ….. effects

negative effects. Ex) Sprinkles reduce impact of fire, but computers and materials can be ruined by water

COPE

used for property exposures

COPE letters stand for….

construction, occupancy, protection, exposure properties

most important measure to take against net income exposures

Disaster recovery plan

risk financing

risk retention and risk transfer

Risk financing goals

1. pay for losses

2. manage the cost of risk

3. manage cash flow variability (predictability of losses)

4. maintain an appropriate level of liquidity 

5. comply with legal requirements

cost of risk

1. unreimbursed losses

2. cost of loss control

3. cost of insurance premiums

4. salaries and benefits of risk management staff

manage cash flow variability

good idea to have cash on hand, the risk manager should understand this variability

maintain an appropriate level of liquidity

estimate the cost of deductible payments for all claims during a period of time, set aside enough money to cover this

why liability insurance is necessary

businesses won’t work with other businesses without liability coverage/insurance, people often get hurt on the job and file claims

ways of retaining losses

1. current expensing of losses

2. unfunded loss reserve

3. funded loss reserve like worker’s comp

4. Borrowing funds

unfunded loss reserve

used for (eg) auto physical damage, unfunded but accrued on the balance sheet

funded loss reserve

used on (eg) worker’s comp, auto liability, property. loss expenses are payed for by a fund of reserves

borrowing funds

Letter of credit, work very similarly to a credit card

advantages of retention

1. cost savings

2. control of claims administration

3. timing of cash flows

4. incentive for loss control

advantages to risk transfer

1. reduced exposure to large losses

2. Decreases cash flow variability

3. loss control and statistical services that insurance companies do

Do most companies do retention or transfer?

Most do both

waiver

relinquishment of known right

captive insurers

wholly owned subsidiary owned by a parent company that acts as the insurer, a formal way to self-insure risk

Single Parent (Pure) Captive

a captive insurer owned by one company that insures all or part of the loss exposures of that company

group captive

a captive insurer owned by a group of companies, usually operating similar businesses

association captive

a group captive that is sponsored by an association. For example, an association of paint manufacturers might sponsor a captive insurer for the benefit of its members.

Risk retention group

a type of group captive that allows companies with similar risks to pool their resources and provide insurance coverage for those risks. All of its owners must be from the same industry, be insured by the risk retention group, and conversely, each insured must be an owner. 

Major benefit of risk retention groups

this type of captive needs to be licensed in only one state in order to provide liability coverage to group members anywhere in the United States.

Risk Retention Group Legislation

a group captive formed under the requirements of the U.S. Liability Risk Retention Act of 1986 to provide liability coverage (except personal insurance, employers liability, and workers compensation).

agency captive

a captive that is owned by insurance agents or brokers rather than by the organizations insured.

Rent-a-captive

arrangement under which a company rents capital from a captive insurer, to which it pays a premium and receives reimbursement for losses. The organization also receives credit for underwriting profits and investment income 

Protected Cell Company

a group captive in which each member pays a premium and receives reimbursement for its losses from, as well as a credit for, underwriting profits and investment income, similar to a rent-a-captive

insolvency

the state in which a business can no longer pay

adverse selection

refers to any situation where one party in a contract or negotiation, such as a seller, possesses information relevant to the contract or negotiation that the corresponding party, such as a buyer, does not have. Typically, the more knowledgeable party is the seller. This term* occurs when this asymmetric information is exploited, leading the party that lacks relevant knowledge to make decisions that cause it to suffer adverse effects. 

Advantages of protective cell captive

essentially rental captives with a special provision that legally separates the assets and liabilities in each insured's account or "cell" from those of every other participant's "cell." The structure is essentially the same as that for a rental captive with no risk sharing, but PCCs have the additional benefit of statutory protection. PCCs actually guarantee that each cell within the company will be shielded not only from sharing capital and surplus with other cell owners but also from any legal action brought against another participant.