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A day does not go by when I do not talk about the requirements for putting together a risk financing facility (RFF). Oddly enough, while I have written about it in pieces across several platforms, I haven’t talked about it comprehensively in a single place. That is the topic of this piece: who is a truly viable RFF candidate?
Let’s start with attitude – that is, what is the attitude of the parent company’s management towards risk management? It is here that I break down insurance purchasers into two categories: the perfunctory purchaser and the knowledgeable purchaser. The perfunctory purchaser treats the insurance purchase like the three-year-old views eating vegetables: they will do it, but there is a large amount of reluctance on their part. Here is the way I describe the process in my book Captive Insurance in Plain English (You can request a FREE copy on our homepage): Insurance is a grudge purchase. No one wants to buy it, but people know they need it. So once a year they call an insurance agent, get a quote, buy and receive the policy, and then promptly place it in the lower right-hand drawer of their desk, never to be seen again (until they need to file a claim). This describes about 90% of all insurance purchases. These companies are extremely poor candidates for RFFs. They simply do not have the right attitude to start and then maintain a self-funding program. They will not implement risk mitigation strategies; they will not want to attend a yearly meetings; they will not want to file claims. In short, they will not want to do anything required to maintain an insurance program. What we really want are “knowledgeable purchasers.” These are people who had what I call an “aha moment” where they have suddenly become aware of the idea of risk and its management. Four scenarios typically create or cause this attitude.
These people will do what is required to form and run an insurance company. These are the people you want. Second, what size company should do this? Here is an area where reasonable minds will differ. However, I like the company to have a minimum size and “financial girth” because at that level and higher, the company can put together a pure captive, or, a captive that doesn’t need to participate in a risk pool. The minimum is usually about $10 million in gross revenue with 20-25 employees. It’s possible that the amount could be smaller, but it becomes progressively more difficult. So, there you have it: a summary of the requirements of a real RFF candidate. I should stress that the attitude is – by far – the key issue. If they don’t want to do, walk away.
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I've been trying to think of a business that does not have exposure to cyber risk. I can't think of one. At minimum, everybody stores confidential data on a computer, which means they have a valuable commodity subject to data breach. Let's take a higher-level view of this risk by using a fault-tree analysis. Here's what that would look like:  The left side focuses on compromised data. Here's the general process criminal use to get your information:
The right side discusses network breaches. Here are some of the ways hackers will use to infiltrate networks:
A recent story from Bloomberg's Business Week highlights two risks: cyber and supply chain disruption. The story chronicles how the Chinese government inserted a unique microchip on mother boards. The chips allowed the Chinese military to continually monitor all activity processed through the board. Here is how the hack worked:
1. A Chinese military unit designed and manufactured microchips as small as a sharpened pencil tip. Some of the chips were built to look like signal conditioning couplers, and they incorporated memory, networking capability, and sufficient processing power for an attack. 2. The microchips were inserted at Chinese factories that supplied Supermicro, one of the world’s biggest sellers of server motherboards. 3. The compromised motherboards were built into servers assembled by Supermicro. 4. The compromised motherboards were built into servers assembled by Supermicro. 5. When a server was installed and switched on, the microchip altered the operating system’s core so it could accept modifications. The chip could also contact computers controlled by the attackers in search of further instructions and code. That a third party could now monitor an entire computer network clearly highlights cyber liability. Tech companies would now have to shift their supply chains out of China and into the another country, clearly triggering supply chain disruption. Handling both for risks internally through a risk financing facility (RFF) is far more advantageous than utilizing traditional insurance allowing the parent company to process both claims internally and confidentially, keeping key company information away from third parties. Please call us at 832.330.4101 if you'd like to learn more. If you're an accountant, CFP, or Texas insurance agent, please sign-up for our 1-hour captive insurance continuing education course on Friday, October 12 at noon.
Claims management seems like such an ephemeral concept, doesn't it? Most insureds probably don't even give it a second thought when looking at a carrier, instead assuming it will happen quickly and efficiently. But that's not going to be the case after a major disaster like Hurricane Florence. While insurers "flood the zone" with adjusters, the sheer magnitude of the event can slow the process. And that's before we get to the "3 D's of deny, delay, and defend" which insurers will argue are a myth but which insurance lawyers argue are gospel. A recent article in the Insurance Journal contains some of the standard post-disaster complaints experienced by an insurance company regarding claims:
Taking control of your risk by forming and running a risk financing facility (RFF) eliminates this problem, especially if you run claims in-house. Here, we recommend that at least one person on your staff obtains an Associate in Claims designation from the Institutes. Hazard Coverage Costs are Increasing in Texas. Expect the Same Along Most of the Coastal US10/1/2018 If you're an accountant, CFP, or Texas insurance agent, please sign-up for our 1-hour captive insurance continuing education course on Friday, October 12 at noon.
Two stories from the Insurance Journal highlight the increasing cost of property coverage in Texas. Let's start with this projection of the increasing possibility of 100-year rain incidents in the Lone Star State: Decades of additional weather data have led federal officials to reconsider rainfall totals in Texas that define 100-year weather events and caution that extreme rainstorms will strike the state more frequently. The National Oceanic and Atmospheric Administration on Sept. 27 released a study finding that in the Houston area, for instance, 100-year estimates increased from 13 inches to 18 inches for a 24-hour period. Rainfall previously classified as 100-year events are now more frequent 25-year events. Yet, despite the increased cost of property coverage due to higher rain possibility, Texas lawmakers are asking the Texas Department of Insurance to deny a 10% rate increase: More than 20 state legislators have signed a letter addressed to Texas Insurance Commissioner Kent Sullivan requesting that a 10 percent rate increase filed by the state’s property insurer of last resort for wind and hail along the Texas coast not be approved. The Texas Windstorm Insurance Association in August filed with the Texas Department of Insurance a 10 percent rate increase for residential and commercial properties that would go into effect next year. This shouldn't be surprising; no one (including politicians) like rate increases. This simply highlights that the underlying fundamentals of property coverage are changing, which usually means the increased implementation of risk financing facilities. Will Hurricane Maria Prove to be the Event that Perpetuates Puerto Rico's Problems For a Generation.9/26/2018 If you're an accountant, CFP, or Texas insurance agent, please sign-up for our 1-hour captive insurance continuing education course on Friday, October 12 at noon.
If you have a captive located in Puerto Rico and would like to move to a more structurally sound jurisdiction, please contact us at 832.330.4101 In several blog posts, I've documented Puerto Rico's fundamentally unsound economy (see here, here, and here). To recap, they are in a depression; there is a fundamental problem with the labor market such that it hasn't reached full employment in decades; there is a net capital outflow from the economy. If this were not a U.S. territory, the financial press would probably be using phrases like "currency crisis" and "balance of payment" crisis. It's been one year since Hurricane Maria hit the island. It's starting to look as though this event will negatively impact the island in the medium and long term.
Both stories demonstrate that Maria's impact is far, wide, and extremely negative. Only time will tell, but it could be "the" event that prevents the economy from being anything but a perpetual cycle of poverty and dysfunction. Product Recall is a Prime Example of a Risk That Should be Managed Through a Risk Financing Facility9/22/2018 If you're an accountant, CFP, or Texas insurance agent, please sign-up for our 1-hour captive insurance continuing education course on Friday, October 12 at noon.
Remember when you were a kid traveling by car with your family and the issue of "clean bathrooms" was of prime importance when looking for a place to stop? Buc-ee's solved that problem. If you are ever driving between Texas cities (which Texans do regularly), Buc-ee's has become the stopping place because of their attention to cleanliness. Buc-ee's is also a great store. They use the Costco HR strategy -- pay your people well, thoroughly develop their talent, and they will actually work more efficiently. Trust me -- it pays off in spades. I feel the personal need to begin this blog post with a thorough defense of the chain because Buc-ee's recently had to recall a product, which is never a good development. However, it's part-and-parcel of running a retail store. Let's look at the the potential costs associated with this event:
This is a complicated risk. Not only should a company develop a customized plan for dealing with it (because it's not a matter of if but when it will happen) but it should also develop a specialized plan to deal with it. And that's where a customized risk financing facility comes into play. It allows the company to have a good idea up front how to pay for this eventuality. Higher Losses and More Events Mean It's Time to Consider Establishing a Risk Financing Facility9/22/2018 If you're an accountant, CFP, or Texas insurance agent, please sign-up for our 1-hour captive insurance continuing education course on Friday, October 12 at noon.
When should a company consider establishing a risk financing facility (RFF)? Being a good lawyer, I would say, "It depends." But 1.) an increase in the number of individual events, along with 2.) a rise in the total claim amount per event, are two factors that would support a decision to establish and maintain an RFF. The reason is simple: higher probability of a claim along with a higher claims amount per event means taking control of risk will help to lower the total bill from an event. And that is exactly what occurs when a company established an RFF. A recent study from MunichRe indicates the number of events and total amounts per event are rising: Both overall and insured losses from natural disasters in 2017 were significantly higher than the corresponding averages for the last ten years, which, after adjustment for inflation, amount to US$ 170bn and US$ 49bn respectively. The hurricane season in the North Atlantic proved particularly costly, accounting for US$ 215bn in overall losses, of which US$ 92bn is expected to be insured. There were also two earthquakes in Mexico with a combined loss of over US$ 8bn, and widespread flooding in China which caused losses of more than US$ 6bn. Severe wildfires were raging in the USA until the end of the year. Losses from the October fires alone exceeded US$ 10bn, with the bulk of this amount – more than US$ 8bn – insured. By the end of the year therefore, losses from wildfires are likely to be substantially higher. On Wednesday, September 26, we're giving a webinar on converting from a pool-based captive to a stand-alone pure captive. The webinar is at 10AM. You can sign up here.
According to Merriam-Webster, the word enterprise means, "a project or undertaking that is especially difficult, complicated, or risky." This implies that the phrase ERM -- Enterprise Risk Management -- is about managing the risk for an entire operation or endeavor. But to be effective, all decision makers in the organization have to buy into the plan. How do we do that?
I wish I could say that I came up with these four points on my own. It comes from this profile in Risk and Insurance, which contains this key nugget of wisdom: Mostly, he listened: “I needed to understand their challenges. That’s huge to getting buy-in,” he said. In a change-resistant organization, buy-in from the top was essential to implementing his plans. Under the previous risk manager, the insurance program was isolated. The process of meeting key people within in the organization helped to integrate risk management with other departments, helping to create a unified whole. Read the whole article; it will be well worth your time. On Wednesday, September 26, we're giving a webinar on converting from a pool-based captive to a stand-alone pure captive. The webinar is at 10AM. You can sign up here.
Several weeks ago, I noted that the changing nature of hurricanes and tropical storms is altering risk management along the Eastern seaboard. A story in today's NY Times sheds further light on the ever-changing nature of risk management [emphasis added]: Mr. Sears and many others here are well aware that hurricanes have long been a fact of life in North and South Carolina, with nearly 500 miles of coastline between them. But the last four years have been particularly punishing. An unnamed weather system that drew moisture from a hurricane in the Atlantic paralyzed much of South Carolina in 2015. Hurricane Matthew arrived the next year, drenching the Carolinas and leaving dozens dead. And now, Florence, which has dropped more than 8 trillion gallons of rain on North Carolina alone. ..... “When you have two 500-year floods within two years of each other, it’s pretty clear it’s not a 500-year flood,” the governor said at a news conference this week. “So as we approach recovery, both short-term and long-term, we will have to look at flooded property, work on mitigation and buyouts, and being smart about how we recover and make sure that we’re involving local, state and federal officials.” A risk manager must continually alter and change his program as the types of risks change. Programs have to be continually analyzed, re-evaluated, and probably repriced |
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