Chapter 3 Flashcards
what is risk management?
process that identifies loss exposures faced by an organization and selects the most appropriate techniques for treating such exposures
what is under pre loss?
efficient cost of risk
permits better decision making
meet legal obligations
what is under post loss?
survival of firm
business continuity, earnings, growth
societal
what are the steps in the risk management process?
- identify loss exposures
- measure and analyze the loss exposures
- consider and select the appropriate risk management techniques
- implement and monitor chose techniques
what questions do you ask when identifying loss exposures?
- what assets need to be protected?
- what perils are those assets exposed?
what are some important exposures?
property, liability, business income, Human Resources, crime
what are some sources for identifying loss exposures?
meeting with management including risk manager
financial statements
other firms/competitors
what do you do to measure and analyze the loss exposures?
estimate the frequency and severity of loss exposures
rank loss exposures according to relative importance
what is maximum possible loss? (MPL)
the worst loss that could happen to the firm during its lifetime
what is probable maximum loss? (PML)
the worst loss that is likely to happen
what are the techniques that reduce the frequency and severity of losses?
- avoidance
- loss prevention
- loss reduction
- duplication
- separation
- diversification
what is avoidance?
a certain loss exposure is never acquired or an existing loss exposure is abandoned
what is the advantage of avoidance?
frequency is reduced to 0
what are the disadvantages of avoidance?
may not be possible
usually has an opportunity cost
avoiding one loss exposure may create another
what is loss prevention?
measures that reduce the frequency of a particular loss
what is loss reduction?
measures that reduce the severity of a loss
what is duplication?
having back ups or copies of important documents or property available in case a loss occurs
what is separation?
dividing assets exposed to loss to minimize the harm from a single event
what is diversification?
reducing the change of loss by spreading the loss exposure across different parties, securities, or transactions
what is risk financing?
techniques that provide for the funding of losses
what are the techniques that provide for the funding of losses?
retention
non insurance transfer
commercial insurance
what is the retention level?
the dollar amount of losses that the individual/firm will retain
what is active retention?
deliberately retaining risk
what is passive retention?
unknowingly retaining risk
when should risk be retained ?
- no other option more attractive or available
- worst possible losses are not serious (low severity)
- losses are predictable (high frequency; not catastrophic)
what are the retention types?
- unfunded; cash flow
- funded reserve
- deductible
- captive insurer
- self insurance plan
-risk retention group/ group captive
what is a captive insurer?
an insurer owned by a parent firm for the purpose of insuring the parent firm’s loss exposures
how many people own a single parent captive?
one parent
how many parents own an associate or group captive?
several parents
what are the advantages to a captive insurer?
- can help a firm when insurance is too expensive or difficult to obtain
- lower costs
- easier to access to reinsurance market
- possibility tax advantages
- possibility of favorable regulatory environment
why do captive insurers have lower costs?
- no agent or broker commissions
- interest earned on invested premium
what is a self insurance plan?
a special form of planned retention by which part or all of given loss exposure is retained by the firm
who can write any type of liability coverage except employers liability, workers compensation and personal liens?
risk retention/ captive group
what type of retention is exempt from many state insurance laws?
risk retention group / group captive
what are the advantages of retention ?
- save on loss costs
- save on expenses
- encourage loss prevention
- increase cash flow
what are the disadvantages of retention?
- possible higher losses
- possible higher expenses
- possible higher taxes
what are the advantages of non insurance transfer?
- can transfer losses that are not insurable
- less expensive
- can transfer loss to someone who is in a better position to control
what are the disadvantages of non insurance transfer ?
- contract language may be ambiguous, so transfer may fail
- if the other party fails to pay, firm is still responsible for loss
- insurers may not give credit for transfer
what type of risk financing is appropriate for low frequency, and high severity loss exposures?
insurance
loss reduction
what areas must be emphasized for commercial insurance ?
- selection of insurance coverages
- selections of an insurer
- negotiation of terms and services
- dissemination of information concerning insurance coverages
- periodic review of insurance program
what are the advantages for commercial insurance?
- firms is indemnified for losses; can continue to operate
- uncertainty is reduced
- firm may receive valuable risk management services
- premiums are income- tax deductible
what are the disadvantages of commercial insurance?
- premiums may be more costly
- negotiation of polices takes time and effort
- most policies are annual
- the risk manager may become lax in exercising loss control
which techniques should be used for high frequency, low severity ?
- funded reserve
- loss prevention
what techniques should be used for high frequency, high severity ?
- captive or risk retention group
- loss prevention/reduction
-avoidance
which techniques should be used for low frequency, low severity?
- unfunded retention
which techniques should be used for low frequency, high severity?
- insurance
- loss reduction
what are the underwriting cycles?
- hard and soft insurance market
what is a hard insurance market?
insurer profitability is declining, underwriting standards are tightened, premiums increase, and insurance is hard to obtain
what is a soft insurance market?
- insurer profitability is improving, standards are loosened, premiums decline and insurance becomes easier to obtain
how might the underwriting cycle affect the decision of a risk manager?
might decide in a tougher market, go to a different insurance company
what is under step 4 under the risk management steps?
risk management policy statement
what does the risk management policy statement outline?
- the risk management objective of the firm
- the company policy with respect to treatment of loss exposures
what does the risk management policy statement provide?
provides standards for judging the risk manager’s performance
what are the benefits of risk management?
- Enables a firm to attain its pre-loss and post-loss objectives more easily
- Society benefits because both direct and indirect losses are reduced
- Can reduce a firm’s total cost of risk
