Slides 3

Question 1

1) Give 5 determinants of the retention decision
2) Give 5 determinants of the retention level

Answer 1

1) Determinants of retention decision include;
i) Frequency and severity of expected losses
ii) No other effective method available
iii) Highly predictable losses
iv) Self confidence / degree of risk aversion
v) Costs and availability of insurance
vi) Health care insurance

2) Determinants of the retention level include;
i) Financial condition
ii) Potential cost/ benefit
iii) Ability to practice retention program cost effectively.
iv) Ability to diversify the retained risk
v) Degree of risk aversion

Question 2

What are some conditions in which retention can be effectively used in a risk management program?

Answer 2

1. When no other methods are available
2. When the worst possible loss is not serious
3. When losses are highly predictable

Question 3

Define Self Insurance
Give 4 advantages and disadvantages

Answer 3

Self insurance refers to self funding by a firm or organization in which losses are paid for using internal funds.

Advantages of self insurance
i) There is less uncertainty
ii) Non-taxable insurance proceeds
iii) Eligible expenses
iv) Loss control services

Disadvantages of self insurance
i) Moral and Morale Hazards
ii) Takes more time and effort
iii) No benefit of loss control
iv) High insurance premium

Question 4

What is non insurance transfer?
Give examples

Answer 4

Non insurance transfer is the transfer of risk from one party to another other than an insurance company. Risks can be transferred by several methods including

1. Transfer of risk by contracts, leases or hold-harmless agreements.
2. Incorporation of the firm. When a firm is incorporated, personal assets of the owner cannot be attacked by creditors in the case of a loss.
3. Hedging

Question 5

Explain hedging

Answer 5

Hedging is the use of financial instruments to offset or transfer the risk of unfavorable price fluctuations to another party.
OR
Hedging is a strategy used to limit risks in financial assets by making a trade in another.

Just like insurance contracts, it is not done to make money.

examples; Commodity, Foreign exchange, Stocks? Swaps

Question 6

Give 4 advantages and disadvantages of non-insurance transfer

Answer 6

Advantages
i) Non insurance transfers may cost less than insurance
ii) May be able to shift the loss to someone who is in a better position to handle it or exercise loss control
iii) May be able to transfer losses that are not commercially insurable.

Disadvantages
i) Transfer may fail for legal reasons
ii) Transferee may be unable to pay for the loss
iii) May not reduce insurance costs if insurer does not give credit for the transferred risk

Question 7

Implementing risk management method chosen

Answer 7

1. A policy statement is necessary to have an effective risk management program
2. Other departments must cooperate with the risk manager
   (finance, marketing, human resource, production, accounting)
3. The risk management program should be periodically evaluated and reviewed.

Question 8

What are some possible risks to businesses?
What are the benefits of risk management?

Answer 8

1. Flood, fire, theft, poor sales, computer failure/data loss, human error, workplace accidents, negative cash flow, bad debt, faulty products, bad reputation
2. Benefits of risk management include;
   i) Competitive advantage
   ii) More informed decisions
   iii) Protection of valuable assets
   iv) Less failures and down time
   v) Protection of reputation or goodwill
   vi) Improved product or service quality
   vii) Protection of revenue, profits or market share

Question 9

What are the key areas to watch out for when choosing insurance to treat loss exposures?

Answer 9

1. Selection of insurance coverage, ie what to insure based on order of importance
2. Selection of an insurer
3. Negotiation of terms with the insurer. ie. agreeing on documents that form the basis of the contract
4. Sharing of information concerning insurance coverage. ie. sharing info with others and other departments in the firm
5. Periodic review of insurance program

Question 10

What are the advantages and disadvantages of insurance?

Answer 10

Advantages
i) Uncertainty is reduced
ii) Firm will be indemnified after a loss occurs
iii) Insurer can provide valuable risk management services.

Disadvantages
i) High cost of insurance premiums
ii) Considerable time and effort is spent on negotiating the insurance coverage
iii) Morale Hazard- The risk manager may have less incentive to follow loss control programs because of the availability of insurance
iv) There is also an opportunity cost