Chapter 3: Risk Management

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

Risk Management
What is Risk Management (RM)? Making pre-loss arrangements for post-loss

resources The logical approach to financing and controlling loss exposures

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

The RM Function
The staff varies based on size and responsibility All firms and people engage in risk management Career opportunities in profit and non-profit

organizations Occupation is professionally recognized RIMS Risk and Insurance Management Society

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

RM Statement of Objectives and Principles

Distinguish between pre-loss and post-loss

objectives Pre-loss objectives

Survival and growth Compliance with government regulations Efficiency Procedures and principles are implemented and followed
2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

RM Statement of Objectives and Principles

Post-loss objectives

Survive the loss Provide a foundation to grow and prosper Behave responsibly as a good corporate citizen
Risk Management Manual

Written to articulate goals, standards, how to measure results and provide benchmarks
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

Steps in the Pre-loss Risk Management Process

Identify & Measure (evaluate) Choose most efficient tool(s) for

Loss Control Loss Financing

Implement and review

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

Step 1 - Identify
What to identify: How to identify

Direct losses Indirect losses Key personnel Operations

Balance sheet Income statement Other records Checklists Flow charts Questionnaires
2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

Measure (evaluation)
Maximum possible loss The absolute maximum dollar amount of damage Maximum probable loss
A conservative estimate of what is likely to occur in a worst case loss

Relative Frequency An estimate (numerical or verbal) as to the number of times the loss will occur

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

Valuing Property
Replacement value versus book value

versus actual cash value versus market value International operations and exchange rate problems The impact of inflation on values
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

Loss of Income
Definition Sources of Loss Problems

Can be seasonal in nature Difficult to measure Best measurement still can only be an estimate
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

10

Liability Losses
Examples of loss sources

Bodily injury or personal injury Property damage to real or personal property Intentional damage to reputation Wrongful hiring, firing, sexual harassment, invasion of privacy, age discrimination Vicarious liability Products, environmental, workers compensation
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

11

Losses to Key or other Personnel

Death Disability physical (medical) or mental Short or long term Permanent or temporary Loss of health Unplanned retirement Results in loss of income, business continuation

problems, replacement and training issues

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

12

Step 2 -Decide How to Handle

A --- R --- T ----

Avoid Retain Transfer

Insurance Non-insurance

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

13

Selecting the Risk Management Technique

Low Lo S w
e v e r i t y Frequency

High

Assume loss prevention loss reduction Insure risk transfer loss reduction loss prevention

Loss Prevention loss reduction assume risk Avoid loss prevention loss reduction

H i g h

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

14

Loss Control - Prevention

Always engage in, if beneficial
Loss Prevention

Take various steps to reduce the probability of losses occurring

How do you value the loss of life in the cost

/ benefit equation?
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

15

Government and Loss Prevention

Occupational Safety and Health Act of 1970

(OSHA) Consumer Product Safety Act of 1972 (CPSA) Comprehensive Environmental Response, Compensation Liability Act of 1980 (CERCLA) (Superfund) Food and Drug Administration (FDA) The Clean Air Act The Water Pollution Control Act
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

16

Loss Control - Reduction

Always engage in, if beneficial
Loss Reduction Steps designed to reduce the severity Take steps to reduce the damage before and after a loss

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman

2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

17

Self-insurance - loss financing

What is self-insurance?

Why do companies self-insure?

Save money Better control
Loss prevention incentives Improved claims settlement Profitability and investment earnings

Difference between self-insurance and risk assumption

Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

18

Captive Insurance Companies

A method of self-insuring A company formed to write insurance for a

parent company Motives for starting a captive

Save the overhead and profits of the insurance company Earn investment income on the premium Tax advantages
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

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Other Risk Management Concepts

Finite risk programs

Multiple year insurance contract Premiums equal to the aggregate policy limit paid in installments over the contracts years. If losses exceed aggregate limit, loans are made for excess and future premiums repay loans If losses are less than aggregate, there is a refund.
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

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Other Risk Management Tools

Risk Transfer Hold harmless agreements - transfer of risk through a contract Hedging - take equal but opposite position on an even based on chance Financial risk management - techniques to deal with interest rate, currency value, and crop price changes Leases - transfers risk of obsolescence
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

21

Step 3 Review and Update

Regularly review and update the process New assets or disposal of assets Valuation changes New products and processes, materials New personnel Law changes Currency fluctuations New contractual relationships
Instructors Manual with Transparency Masters to Accompany Introduction to Risk Management and Insurance, 9E - Dorfman 2008 by Pearson Prentice Hall. Upper Saddle, NJ 07458

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