Insurance as Capital

Corporations find success treating insurance as more than a commodity

October 2011 Lockton Companies, LLC

The governments response to the risks posed by the countrys fiscal situation holds some hard lessons for the private sector. Business-as-usual resulted in a last-minute plan and little time to thoroughly analyze the solution. Private sector companies that take the same tack risk finding themselves in a similarly unenviable position. Now is the time to rethink the standard approach to risk. Riskand its primary antidote, insurancerequire the same critical assessment typically associated with capital deployment. In fact, modern insurance buying is better characterized as risk finance. Risk finance leverages the balance sheets of both companies and their insurers while contemplating probability, present value and a number of other factors. Risk finances complexity demands analytic appraisal and performance criteria on par with purchasing a new piece of equipment or developing a next-generation product. Companies that successfully manage risk combine these analytics with a strategic approach and often exhibit the following characteristics:

Jesse olsen Financial Solutions Advisory Team 816.960.9274 jolsen@lockton.com

Vision. Are buying decisions focused solely on todays prices? Or, is insurance purchased with long-term goals in mind? An organization consumed with cost-cutting for short-term gain will fail to plan for the one-in-ten-year event that stands to completely debilitate the company.

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October 2011 Lockton Companies, LLC

Riskand its primary antidote, insurancerequire the same critical assessment typically associated with capital deployment.

Coordinated Disciplines. Is the Risk Management team coordinating with Treasury, Legal, Tax, Financial Planning and Analysis, Human Resources and Business Development? Open communication leads to a harmonized risk finance program that can positively impact a variety of departments, while a silo mentality will produce inferior results. Superior Partnerships. Are insurers (and their reinsurers) financially strong and fiscally prudent? Do risk management service and data providers effectively use information and analytics to craft solutions and identify new exposures? The best partners strategically align themselves with customers while always keeping in mind fiduciary responsibilities. Those that push a self-interested agenda are doomed to lose business.

Making it Work

When combined, these approaches produce powerful results. For instance, a professional services firm assessed a one-in-five chance of a large liability exposure after seven consecutive years without a loss. The companys risk management team pulled together a number of internal departments to formulate a response in the eventuality of a loss. Working with its insurance broker, actuarial consultant and accounting firm, the company employed a captive structure to place a tax-efficient, multiyear insurance policy with a highly rated insurer. Shortly thereafter, the firm experienced substantial liabilities in the midst of the recession, but the firms balance sheet was protected as a result of the risk management teams foresight.
Thinking Ahead

consultants that can effectively negotiate the actuarial and credit components of this issue. They use stateof-the-art analytics, deploying a variety of methods to refine liability estimates and produce in-depth credit analysis. The company deploys people from several departments to support its service providers as they leverage relationships with insurance carriers, achieving superior results cutting straight through to the decision makers. The firms partners understand the scarcity and expense of capital, keeping in mind the companys revolver capacity and letter of credit fees. These allies explore alternative collateral instruments, bringing the firm options. Without this vision, the company would be pigeonholed in collateral jail, a buildup of collateral with one carrier to such a level that changing insurers is too onerous to consider. However, thanks to this thoughtful process, the company builds an exit strategy, de-levering from its insurance carrier and freely marketing its insurance program when the time is right. Companies that elevate their insurance purchasing decisions to risk finance, and devote the commensurate level of analysis and operating metrics, stand to benefit far more than those that view insurance as a commodity. How does your firm approach this important topic?
Jesse Olsen is a Vice President and Risk Finance Specialist on Lockton Companies Financial Solutions Advisory Team. He and his group work with clients to create strategies that manage capital more efficiently. His six years in the insurance industry have all been with Lockton. Prior to joining the firm, he worked in fixed income for a Wall Street investment bank. Jesse holds an economics degree from Yale.

Another example is a company that efficiently manages its insurance-related collateral. It chooses

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