U.S.

Role in World Market

U. S. domination of the world insurance market has

declined over the past two decades, as insurers
outside the United States have increased their share
of the world premium volume.
• In 1970, the United States controlled 70
percent of the world premium volume.
• By 1990, it had fallen to 38 percent.
• The three largest insurance companies in the
world are Japanese.

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 U.S. Role in World Market

• A part of the growing percentage of world

premiums written by foreign insurers is simply a
reflection of the growth in the gross national
product of foreign countries relative to the United
States.
• As economic activity increases in a nation, the
premiums written to protect assets against loss
also increases.

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 U.S. Role in World Market

• A point that is sometimes ignored in the

discussion of changing shares in the world
insurance market is the role that the growth of
U.S. corporations abroad has had on the
distribution of insurance expenditures.

• The growth in the investment of U.S. corporations

in international operations has created a
corresponding growth in the international risk
management responsibilities of U.S. risk
managers.

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 Multinational Corporations

• International business enterprises may be

classified as either limited international
corporations or multinational corporations.
• A limited international corporation is a business
whose commitment to the international market is
limited.
• Its major activity in the world economy is
exporting its product to other nations, or, in
some cases, importing the products of foreign
producers.
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 Multinational Corporations

• A multinational corporation (MNC), in contrast,

not only sells, but produces in foreign markets.
• A business usually begins the journey toward
multinationalism as an exporter.
• As the foreign market grows, it eventually
becomes more profitable for the firm to organize
an overseas production operation.
• This means that a MNC will generally have assets
located in foreign countries.

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 International Investment Capital

• MNCs represent a flow of investment capital

internationally. It is this flow of capital that
creates the need for international risk
management.

• U.S. corporations operating overseas customarily

do so through subsidiaries incorporated in the
various countries where they carry on business.

• From our generalized equation on the existence of

risk, the ownership of assets that are subject to
damage or destruction creates financial risk.
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 Multinational Corporations

• How does risk management in a multinational

enterprise differ from that of a domestic firm?
• In principle, the concepts of protecting the
organization against unbearable loss are the
same for both types of companies.
• However, the environment in which these
decisions are made is different.

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 Complications in International Risk
Management

• The international distribution of assets across

national borders complicates the process of risk
management in a number of ways.
• Dr. Norman Baglini has identified the following
factors as those that tend to complicate
international insurance management.

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 Complications in International Risk
Management

• The wide range of insurance regulations from

country to country.
• The prohibition against insurance policies
purchased out of the country where the risk is
located (including severe penalties for
violations).
• The many alternative types and combinations of
insurance coverages from which to choose (U.S.
insurance contracts, foreign language contracts,
and combinations).
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 Complications in International Risk
Management

• The pros and cons of using various brokers,

consultants, insurers, and combinations thereof.
• The potential violation (due to currency
devaluations) of policy clauses requiring
insurance to value.
• The peculiar income tax problems concerning the
non-deductibility of some insurance premiums
and the absorption of loss payments.

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 Complications in International Risk
Management

• The attitude (and sometimes conflict of interest)

of the affiliate manager with respect to insurance
purchasing.
• The many languages involved and legal
interpretations of the various insurance policies.
• The absence of customary insurer services.
• The foreign exchange regulations and the need to
be kept up to date.

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 Centralization Versus Decentralization

An initial risk management policy issue for the MNC

is that of centralization versus decentralization of
the risk management function—the extent to which
decision-making with respect to pure risks should
be delegated to the management of foreign
subsidiaries or affiliates.

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 Argument for Centralization

Dr. Baglini provides the following argument for

centralization:

Since the decision to commit assets to foreign

operations is made by the parent corporation,
the parent corporation should likewise make the
decision regarding the methods best suited for
the protection of those assets and the flow of
earnings emanating therefrom.

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 Decentralization Versus Local Buying

• A second issue--sometimes confused with the

decentralization issue--is whether insurance
should be purchased centrally or at the local
level of the foreign affiliate.
• Centralized risk management is not inconsistent
with decentralized insurance buying.
• The purchase of insurance might be delegated to
the foreign affiliate, but with guidelines and strict
performance standards on how it is to be done.

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 Purchase of Foreign/Admitted Insurance

• There are prohibitions against non-admitted

insurance in a majority of countries in the world.
• In these countries, non-admitted insurance is
illegal because there is a requirement that
insurance covering persons or companies
located in the country be provided by insurers
“admitted” to do business in that country.

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 Advantages of Dealing With
Foreign/Admitted Insurers

• There are several advantages to dealing with a

foreign/admitted insurer, mostly financial and
based on a differential tax treatment of premiums
paid for admitted and nonadmitted insurance.

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 Tax Issues

• In many countries, only premiums paid to

admitted insurers are allowable as tax deductible
expenditures.
• When a loss payment is received from a
nonadmitted insurer by a foreign affiliate, it may
be treated as taxable income.
• The same payment received from a foreign-
admitted insurer would be treated as a
nontaxable reimbursement for the restoration of
the damaged property.
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 Foreign Currency Issues

• When insurance is purchased through a

foreign/admitted insurer, premiums will be paid in
the foreign currency and loss payments will be
received in the foreign currency.
• This provides some protection against
fluctuations in exchange rates and also protects
against currency inconvertibility.

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 Reciprocity

• Often, a foreign affiliate will prefer to deal with a

foreign insurer.
• In some instances, where the foreign affiliate was
acquired by the MNC, the insurance relationship
may be a long and cordial one.
• There are in some instances reciprocal business
advantages to be gained from local purchase of
insurance.

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 Reasons Against Purchase of
Foreign/Admitted Insurance

• The major disadvantage of purchasing insurance

from foreign insurers is that it is a piecemeal
approach to insurance buying.

• A piecemeal approach to the purchase of

insurance may result not only in inadequate
insurance but also the purchase of coverages
which the parent would not consider essential to
its program.

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 Piecemeal Purchasing

• A piecemeal approach to insurance buying is

likely to be more costly in the aggregate than a
centralized program.
• This reflects the fact that, when many exposures
are brought together in a single plan, it is usually
possible to insure them more cheaply than if
each exposure is insured individually with many
different underwriters.

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 Product Differences

• Insurance forms customary in the foreign market

may not meet the multinational corporation’s
needs.
• Differences in the ancillary services available
from U.S. insurers compared with foreign
insurers.

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 Product Differences

• For the MNC that operates in multiple countries

and purchases admitted insurance in each area,
differences in coverage from country to country
can result in inconsistencies in the overall
program.
• Most foreign insurers, for example, usually
require 100 percent coinsurance, as compared
with the 80 percent or 90 percent that is typical in
the U.S.

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 Financial Strength of Foreign Insurers

• Some foreign insurers may not have financial

resources commensurate with the risks they
assume.
• U.S. laws govern the size of a policy that a
company may issue in relation to its capital and
surplus, but, generally speaking, such laws do
not exist overseas.
• Not only may the regulatory requirements differ,
there is likely to be little in the way of assistance
in evaluating the foreign insurer.
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 Difference-in-Conditions

• The MNC with multiple insurance purchases in

different jurisdictions can purchase a difference-
in-conditions (DIC) policy that serves as a wrap-
around and brings the overall level of protection
up to a specified level.

• A DIC property policy typically affords open-peril

protection that covers losses foreign/admitted
named-peril policies do not cover. DIC policies do
more than cover additional perils; they fill other
gaps as well.

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 Balancing Advantages and Disavantages

• With the exception of the issue of economies that

can be achieved by centralized buying, the other
objections to foreign/admitted placement of
insurance seem manageable, especially if the risk
management function remains centralized.
• The question will be whether the financial
penalties from taxation are greater or less than
the economies that are achievable using a
nonadmitted insurer.

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 Excessive Prices

• In countries where a competitive insurance

market does not operate, the MNC may be faced
with excessive prices.
• In this situation, most risk managers attempt to
purchase the minimum permissible amount of
insurance in the foreign country and cover the
bulk of the exposures under the DIC policy.

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 The Global Insurance Program

• A global insurance program is one in which

insurance is purchased centrally, with a master
program that covers all of the organization’s
risks.
• Such programs combine coverage on the MNC’s
exposures in the U.S. with exposures abroad.
• One obvious advantage of this approach is the
potential economy in centralized buying.

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 The Global Insurance Program

• A potential impediment is finding an insurer with

a global network of engineers, adjusters, and
other service personnel who can support the
program.

• A MNC can easily segment its overseas and

domestic exposures, making it relatively easy to
set up an international insurance program that is
separate and distinct from its domestic program.

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 The Global Insurance Program

In practice, some U.S. MNCs do actually maintain

what, in effect, is two separate insurance programs;
one for U.S. operations and a separate program for
foreign operations.

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 International Captives

• Some MNCs have found that they can exercise

greater control over their insurance program
through the use of a captive.

• One approach is to use a foreign admitted insurer

as a fronting company which issues admitted
coverage, and then reinsures the risks with the
MNC’s captive.

• This allows the MNC to comply with the foreign

insurance regulations and at the same time self-
fund the exposures.
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 Placing the Insurance

1. Insurance may be placed in the various local

markets where the corporation's exposures are
located
2. The major British companies have an overseas
branch office and agency network but Lloyd's is
primarily a non-admitted market.
3. Coverage can be written by U.S. insurers that
have established a foreign presence.

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 U.S. Insurers Abroad

• Although less than 5 percent of the U.S.

insurance industry’s premium writings is
generated in foreign countries, there are 60 to 70
U.S. insurers that have established a significant
presence abroad.

• Leading U.S. insurers with a significant presence

in the overseas and international market include
AIG, Cigna, Chubb, and Reliance National
Insurance Company.

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Agents & Brokers in the International Market

• Many of the problems in dealing with the foreign

admitted insurance market are addressed
through domestic brokers that have established
an international network.
• Major U.S. brokerage firms have established a
presence in many foreign counties, and have
contracts with the foreign insurers.

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 Foreign Exchange Risks

• Several of the risks facing an MNC relate to

foreign exchange rates.

• An exchange rate represents the number of units

of currency of one country that can be exchanged
for another.

• When a currency declines in value relative to the

dollar, the U.S. company suffers a loss on the
currency and on the assets payable in currency it
holds.

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 Approaches to Dealing With Foreign
Exchange Risks

• Minimize holding of foreign currency

• Retention
• Hedging in the futures market for foreign
currencies

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 Managing Political Risks

Political risks are those risks sometimes

encountered in international operations that stem
from the actions of government or other political
organizations or from the political acts by business
or terrorists.

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 Major Political Risks

• Expropriation or confiscation of assets of the

foreign subsidiary without compensation,
• Damage to property or personnel by anti-
government activity,
• Kidnapping and murder of the firm’s employees,
• Restrictions on convertibility of currency.

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 Mild Forms of Political Risk

Mild interferences of lesser severity include:

• The requirement that the MNC employ some
minimum percentage of nationals.
• The requirement that the MNC invest in local
social and economic projects.
• Discriminatory practices such as higher taxes,
higher utility charges/
• Requirements to pay higher wages than a
national company are examples.

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 Political Risk Loss Control

• The initial risk control measure should be a

thoughtful and thorough consideration of the
political risk potential in the project.
• Essentially, this is a job of forecasting political
instability.
• Important considerations include the stability of
the government, the existence of resistance or
opposition to the government, and an estimate of
any new government’s view of foreign
investments.
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 Avoidance

• The review of the political environment of the

foreign country in which operations are
contemplated may indicate that the most prudent
approach is risk avoidance.
• Although measures can be taken to protect an
investment once it is made, there are many
instances in which, once a political change has
occurred, there is little that can be done.
• The time to look hardest at political risk is before
the investment is made.
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 Controlling Political Risks

• Once a company decides to invest in a foreign

company or in foreign assets, it should take
steps to protect itself.
• One of the most common is to enter into a joint
venture with local investors to establish local
support for the firm and to provide better
information on the country’s political and
economic conditions.
• Shared ownership reduces both the likelihood
and the potential severity of loss.
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 Reduction

• Another approach is to limit the amount of capital

invested in the foreign venture (and thereby the
amount that could be lost through political risks).

• Borrowing funds locally will lessen the

investment exposure should nationalization
occur.
• Keeping fixed investments and assets to a
minimum by leasing whenever possible and by
keeping research and development activities in
the U.S. reduces the exposure.
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 Political Risk Insurance

• Political risk insurance provides protection

against three broad types of political risks:
seizure of assets, currency inconvertibility, and
interference with contractual performance.
• The sources of political risk insurance are
extremely limited. Political risk insurance is
available from three types of insurers:
U.S. government agencies,
a limited number of U.S. insurers, and
Lloyds of London.

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 The Foreign Credit Insurance Association

• The Foreign Credit Insurance Association (FCIA)

is an association of roughly 50 U.S. insurance
companies which was organized in 1961 to assist
U.S. exporters in international trade by writing
export credit insurance.
• The political risk insurance written by the FCIA is
reinsured by the Export-Import Bank, a U.S.
government agency.

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 The Foreign Credit Insurance Association

The FCIA offers two versions of coverage.

• Comprehensive coverage includes all risks
including insolvency of the debtor.
• Political risk only coverage protects against war,
revolution, insurrection, confiscation, and
currency inconvertibility.

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 The Export-Import Bank

• The Export-Import Bank (EXIM) of the U.S., which

reinsures the credit insurance contracts issued
by the FCIA, also provides credit insurace and
reinsurance to U.S. exporters and financial
institutions.
• The credit insurance sold by EXIM guarantees a
seller or a bank financing the seller against
default on the credit obligation by a foreign
buyer, and includes political risk default.

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 The Export-Import Bank

EXIM provides two types of coverage:

• commercial risk of default, which covers the
buyer’s inability to pay the receivable due to
financial difficulties, and
• political risk of default, which covers defaults
beyond the control of the buyer, such as those
resulting from government intervention,
cancellation of an export of import license,
political violence, or currency inconvertibility.

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 Overseas Private Investment Corporation

• The FICA and EXIM provide political risk

insurance only in connection with the extension
of credit to foreign buyers.
• They do not provide coverage to protect the
assets located in a foreign country.
• Coverage for this exposure may be available from
another U.S. government agency, the Overseas
Private Investment Corporation (OPIC).

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 Overseas Private Investment Corporation

• OPIC was created in 1969 to stimulate investment

by U.S. corporations in lesser developed nations.

• OPIC provides loans and guarantees to banks as

financial assistance for proposed overseas
projects.

• A second function of the agency is to provide

insurance for private investments abroad.

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 Overseas Private Investment Corporation

• Coverage is available only in developing

countries whose governments agree to recognize
subrogation rights of the U.S. government when
payment is made under a policy.

• Because OPIC was created to encourage

investment in lesser developed nations, it does
not insure existing installations.

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 Kidnapping and Ransom Losses

Kidnapping threats to the organization’s employees

can be divided into two broad classes:
• criminal acts, in which the objective is to obtain
ransom for the release of the victim, and
• political acts, in which the objective is not
financial, but ideological.

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 Kidnapping and Ransom Losses

• Political kidnapping tends to be a greater

exposure outside the country, while criminal
kidnapping can occur both at home and abroad.
• Sometimes criminal and political kidnapping
merge when a political group seizes upon
kidnapping as a means of obtaining funds.
• Governments usually refuse to pay ransom, but
corporations may be willing to do so.

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 Insurance for Kidnapping/Ransom

• Commercial crime insurance policies exclude

kidnapping and ransom losses.

• Specialty underwriters in the U.S. and the Lloyd’s

market have developed forms to cover potential
situations where business corporations might
suffer kidnap ransom losses.

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 Insurance for Kidnapping/Ransom

• One of the standard features of kidnap/ransom

insurance is the requirement imposed on the
insured that the existence of the insurance not be
revealed.
• This requirement is based on the assumption that
if criminals know that kidnap/ransom insurance
exists, they may be encouraged to kidnap the
individual whose kidnapping will trigger the
coverage.

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 Post-Event Control Measures

• When kidnapping occurs abroad, it is often the

act of a group whose goals are political rather
than financial.
• In these cases, the demands are not for ransom,
but for the release of political prisoners or some
similar demand.
• When the demands are political, the decision as
to whether or not they will be met rest with the
host government (or other government upon
which the demands are made).
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 Post-Event Control Measures

• For kidnapping losses, the recommended

procedures are first, to verify that the individual
has actually been kidnapped.
• Many abductions are actually hoaxes, in which
the supposed victim is found—after ransom has
been paid—not to have been in the custody of the
kidnappers at all.

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 Post-Event Control Measures

• Kidnappers will often instruct that law

enforcement agencies not be notified, but the
conventional wisdom is that appropriate law
enforcement officials be notified.
• In the case of political demands, the decision to
meet demands will usually rest with the host
country (or the other organization upon which the
demands are made).

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