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FIN3040 - Risk and Insurance > Chapter 3 > Flashcards

Chapter 3 Flashcards

1
Q

How do you define risk management?

A

A process that identifies loss exposures faced by an organization and selects the most appropriate techniques for treating such exposures

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2
Q

What is a loss exposure?

A

Any situation or circumstance in which a loss is possible, regardless of whether a loss occurs
E.g., a plant that may be damaged by an earthquake, or an automobile that may be damaged in a collision

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3
Q

What are the pre-loss objectives of risk management?

A
  • Prepare for potential losses in the most economical way
  • Reduce anxiety
  • Meet any legal obligations
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4
Q

What are the post-loss objectives of risk management?

A
  • Survival of the firm
  • Continue operating
  • Stability of earnings
  • Continued growth of the firm
  • Minimize the effects that a loss will have on other persons and on society
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5
Q

What are the 4 steps of the risk management process?

A
  1. Identify potential losses
  2. Measure and analyze the loss exposures
  3. Select the appropriate combination of techniques for treating the loss exposures
    4.Implement and monitor the risk management program
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6
Q

What are the 2 subsets of step 3 of the loss management process?

A
  1. Risk control
  2. Risk financing
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7
Q

Important loss exposures include:

A
  • Property loss exposures
  • Liability loss exposures
  • Business income loss exposures
  • Human resources loss exposures
  • Crime loss exposures
  • Employee benefit loss exposures
  • Foreign loss exposures
  • Intangible property loss exposures
  • Failure to comply with government rules and regulations
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8
Q

Risk managers have several sources of information to identify loss exposures, those being:

A
  • Risk analysis questionnaires and checklists
  • Physical inspection
  • Flowcharts
  • Financial statements
  • Historical loss data
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9
Q

Industry trends and market changes tend to…

A

create new loss exposures
Ex: Acts of terrorism

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10
Q

What two types of loss exposure are estimated for?

A
  • Loss frequency
  • Loss severity
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11
Q

Define loss frequency

A

Loss frequency refers to the probable number of losses that may occur during some time period

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12
Q

Define loss severity

A

Loss severity refers to the probable size of the losses that may occur

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13
Q

Loss severity is _____ than loss frequency.

A

More important

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14
Q

What is maximum possible loss?

A

The worst loss that could happen to the firm during its lifetime

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15
Q

What is maximum probable loss?

A

The worst loss that is likely to happen

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16
Q

Step 1 in the risk management process:

A

Identify potential losses, Risk Managers have several sources of information to identify loss exposures

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17
Q

Step 2 in the risk management process:

A

Measure and Analyze Loss Exposures, Estimate for each type of loss exposure, Rank exposures by importance

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18
Q

Step 3 in the risk management process:

A

Methods for Treating the Loss Exposure, Select the appropriate combination of techniques for treating the loss exposures

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19
Q

Risk control refers to:

A

Techniques that reduce the frequency and severity of losses

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20
Q

Methods of risk control include:

A
  • Avoidance
  • Loss prevention
  • Loss reduction
  • Duplication
  • Separation
  • Diversification
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21
Q

What is avoidance?

A
  • Certain loss exposure is never acquired or undertaken, or an existing loss exposure is abandoned
  • The chance of loss is reduced to zero
  • It is not always possible, or practical, to avoid all losses
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22
Q

What is loss prevention?

A

Loss prevention refers to measures that reduce the frequency of a particular loss
e.g., installing safety features on hazardous products

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23
Q

What does loss reduction refer to?

A

Loss reduction refers to measures that reduce the severity of a loss after it occurs
e.g., installing an automatic sprinkler system

24
Q

What does duplication mean?

A

Refers to having back-ups or copies of important documents or property available in case a loss occurs

25
Q

What does seperation mean?

A

Dividing the assets exposed to loss to minimize the harm from a single event

26
Q

What does diversification mean?

A

Spreading the loss exposure across different parties, securities, or transactions, to reduce the chance of loss

27
Q

Define risk financing:

A

Techniques that provide for the payment of losses after they occur

28
Q

3 Methods of risk financing are:

A
  • Retention
  • Non-insurance Transfers
  • Commercial Insurance
29
Q

Define retention in regards to handling risk:

A

The firm retains part or all of the losses that can result from a given loss

30
Q

Retention is effectively used when:

A
  • No other method of treatment is available
  • The worst possible loss is not serious
  • Losses are highly predictable
31
Q

The retention level is:

A

The dollar amount of losses that the firm will retain

32
Q

When handling risk via retention, risk managers can pay for retained losses by these ways:

A
  • Current net income: losses are treated as current expenses
  • Unfunded reserve: losses are deducted from a bookkeeping account
  • Funded reserve: losses are deducted from a liquid fund
  • Credit line: funds are borrowed to pay losses as they occur
33
Q

What is a captive insurer and its two types?

A

Is an insurer owned by a parent firm for the purpose of insuring the parent firm’s loss exposures
- Single-parent captive
- An association or group captive

34
Q

A single-parent captive:

A

A single-parent captive is owned by only one parent

35
Q

An association or group captive:

A

An association or group captive is an insurer owned by several parents

36
Q

What are reasons that a firm may form a captive insurer?

A
  • The parent firm may have difficulty obtaining insurance
  • To take advantage of a favorable regulatory environment
  • Costs may be lower than purchasing commercial insurance
  • A captive insurer has easier access to a reinsurer
  • A captive insurer can become a source of profit
37
Q

Premiums paid to a single parent (pure) captive are generally not income-tax deductible, unless:

A
  • The transaction is a bona fide insurance transaction
  • A brother-sister relationship exists
  • The captive insurer writes a substantial amount of unrelated business
  • The insureds are not the same as the shareholders of the captive
38
Q

Premiums paid to a group captive are usually:

A

Income-tax deductible

39
Q

Self-insurance or self-funding is:

A

a special form of planned retention by which part or all of a given loss exposure is retained by the firm

40
Q

A risk retention group (R R G) is:

A

-A group captive that can write any type of liability coverage except employers’ liability, workers compensation, and personal lines
- They are exempt from many state insurance laws

41
Q

What are some advantages of retention?

A
  • Save on loss costs
  • Save on expenses
  • Encourage loss prevention
  • Increase cash flow
42
Q

What are some disadvantages of retention?

A
  • Possible higher losses
  • Possible higher expenses
  • Possible higher taxes
43
Q

Define non-insurance transfer:

A

Methods other than insurance by which a pure risk and its potential financial consequences are transferred to another party
Ex: contracts, leases, hold-harmless agreements

44
Q

What are advantages of non-insurance transfers?

A
  • Can transfer some losses that are not insurable
  • Less expensive
  • Can transfer loss to someone who is in a better position to control losses
45
Q

What are disadvantages of non-insurance transfers?

A
  • Contract language may be ambiguous, so transfer may fail
  • If the other party fails to pay, firm is still responsible for the loss
  • Insurers may not give credit for transfers
46
Q

Insurance is appropriate for ______, _______ loss exposures.

A

low-probability, high severity loss exposures

47
Q

The risk manager:

A

Selects the coverages needed, and policy provisions

48
Q

A deductible is:

A

A specified amount subtracted from the loss payment otherwise payable to the insured

49
Q

In an excess insurance policy:

A

The insurer pays only if the actual loss exceeds the amount a firm has decided to retain

50
Q

Step 4 in the risk management process:

A

Implement and monitor the risk management program

51
Q

Implementation of a risk management program begins with a:

A

risk management policy statement that:
- Outlines the firm’s objectives and policies
- Educates top-level executives
- Gives the risk manager greater authority
- Provides standards for judging the risk manager’s performance

52
Q

A risk management manual may be used to:

A
  • Describe the risk management program
  • Train new employees
53
Q

A successful risk management program requires:

A

Active cooperation from other departments in the firm

54
Q

The risk management program should be:

A

-Periodically reviewed and evaluated to determine whether the objectives are being attained
- The risk manager should compare the costs and benefits of all risk management activities

55
Q

What are the benefits of risk management?

A
  • Enables firm to attain its pre-loss and post-loss objectives more easily
  • A risk management program can reduce a firm’s cost of risk
  • Reduction in pure loss exposures allows a firm to enact an enterprise risk management program to treat both pure and speculative loss exposures
  • Society benefits because both direct and indirect losses are reduced
56
Q

Personal risk management refers to:

A

The identification and analysis of pure risks faced by an individual or family, and to the selection of the most appropriate technique(s) for treating such risks

FIN3040 - Risk and Insurance (12 decks)

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