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3/28/2012

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Associate in Risk Management

ARM 54 - Chapter 2

Presented by:

Lynne Lovell RHU CLU ChFC CIC CRM

ARM CPCU AFSB ASLI AINS MLIS CRIS

Understanding the RM Process

• Educational Objectives

1. Identify the steps in the RM process

2. Describe the four types of loss exposures

3. Describe the methods of identifying loss

exposures

4. Explain how to analyze loss exposures along

dimension of loss frequency, loss severity,

total dollar losses, time and data

credibility

5. Describe various risk control techniques

Understanding the RM Process

6. Describe the risk financing techniques of

transfer and retention

7. Explain how to select appropriate risk

management techniques

8. Describe the technical and managerial

decisions that must be made to implement

the selected risk management techniques.

9. Identify reasons why a risk management

program may need to be revised.

10. Describe concept of Enterprise Risk Mgmt

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#1 Identify the Steps in the RM Process

RISK MANAGEMENT PROCESS

Systematic approach to assess and

treat accidental loss exposures


LOSS EXPOSURE

Any condition that presents a possibility of loss, whether or not an actual loss occurs

Potential financial

consequences of that

loss

Three Elements:

Financial value

exposed to lossCause of loss (peril)


• Six Steps

Identifying loss exposures

Analyzing loss exposures

Examining feasibility of RM techniques

Selecting appropriate RM techniques

Implementing selected RM techniques

Monitoring results & revising RM program

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#2 Four Types of Loss Exposures

• Step 1: Identifying Loss

Exposures

– Risk Manager needs to identify

loss exposures interfering with

organization achieving its goals

• Categorize all possible loss

exposures


• Four Types of loss exposures

1. Property loss exposures

• Possibility of financial loss resulting from damage, destruction, taking or loss of use

• Financial interest

–Ownership, use or revenue production association with property


• Tangible – physical form

–Real property

–Tangible personal property – other than

real property

• Intangible personal property

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2. Liability loss exposures

• Conditions that presents

possibilities of allegations of

legal responsibility for

property damage or bodily

injury

• Can be sued for having

breached a legal duty

• Breach of contract


3. Personnel loss exposures

• Key personnel

–Death

–Disability

–Retirement

–Unemployment

• Obligation to pay employee

benefits


4. Net income loss exposures

• Due to a reduction in income

• Results from

–Reduction in revenue

– Increase in expenses

–Both

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#3 Identifying Loss Exposures

• Risk assessment questionnaires

– General questions

• Strength

• Weakness


• Loss histories

– Looks at past losses

• What happened in past may

happen in future

• Identify & analyze

–Quality?

0

5

10

15

2011

2010

2009


• Financial statements &

underlying accounting records

– Balance sheet

• Snapshot in time

–Assets

–Liabilities

–Equity

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– Income statement/Profit & loss

statement

• Shows revenue and expenses

• Shows profit or loss for a

period of time


– Statement of cash flows

• Cash inflows

–Sources of income

»Operations

»Financing

» Investments


• Cash outflows

–Payments during the same

period

»Operating expenses

» Investing expenses

»Financing expenses

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– Other records and documents

• Any document can help

identify loss exposures

–Minutes/memorandums

–Contracts

–Plans/drawings

–External sources

»Associations


–Flowcharts

• Diagram depicting activities of

an organization or process

• Winery flowchart p 2.10 Exhibit 2-1

• Strength

• Weakness

–Organizational charts• Management structure

• Key employees


– Personal inspections

• First-hand assessment of operations

• Identify loss exposures

• Opportunities to use loss control

• Talk with employees

– Experts within and beyond the

organization

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#4 Analyze Loss Exposures

• Step 2: Analyzing Loss Exposures

– Five dimensions used to analyze losses

1. Loss Frequency – number of losses within a

specified period

• Relative frequency

2. Loss Severity - amount of the loss

• MPL – estimate of the largest possible loss that might

occur

• PML – value of largest loss likely to occur

• Loss frequency & loss severity interaction

PROUTY APPROACH

Lo

ss S

ev

er

ity Almost Nil Slight Moderate Definite

Severe Transfer Reduce or

Prevent

Reduce or

Prevent

Avoid

Significant Retain Transfer Reduce or

Prevent

Avoid

Slight Retain Transfer Prevent Prevent

PROUTY APPROACH EXERCISE

. Assign the following losses to the most appropriate place on the chart:

1.Bodily injury and property damage from a collision involving a tractor trailer

2.Slip and fall of grocery store customers

3.Shoplifting in a men’s clothing store

4.Meteor striking a building

5.Display window cracking or shattering

Loss Frequency

Almost Nil Slight Moderate Definite

Loss

Severity Severe

Significant

Slight

Loss Frequency

Almost Nil Slight Moderate Definite

Loss Severity Severe Meteor Tractor Trailer

Significant Slip & Fall

Slight Display

Window

Shoplifting

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#4 Analyze Loss Exposures

3. Total Dollar Losses – dollar amount of all losses

for all occurrence during a specified period

4. Timing - needed to analyze losses

• Property losses paid quicker

• Liability

• Disability claims

• Environmental/health claims

5. Data Credibility – level of confidence that the

data represents accurate indicators of future

losses

• Exhibits 2-3 2-4 (p 2.17)

Five dimensions continued:

#5 Risk Control Techniques

• Step 3: Examining Feasibility of Risk

Management Techniques – Exhibit 2-5 p2.19

RISK CONTROL

Conscious act or decision not to act that

reduces the frequency and severity of losses

or makes losses more predictable

RM TECHNIQUES

RM Techniques

Risk Control

Avoidance

Loss Prevention

Loss Reduction

Separation

Duplication

Diversification

Risk Financing

Transfer

Insurance

Noninsurance Risk transfer

Hold-Harmless Indemnity

Agreements

HedgingRetention

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#5 Risk Control Techniques

• Loss Control Techniques:

* Separation, Duplication

And Diversification increase

the number of loss exposures

but decrease loss severity

Avoidance

Loss Prevention

Loss Reduction

Separation

Duplication

Diversification

#6 Risk Financing – Transfer/Retention

RISK FINANCING

Conscious act or decision not to act that

generates the funds to pay for losses or offset

the variability in cash flow that may occur.

Can be classified into two groups:

transfer and retention.

RM TECHNIQUES

RM Techniques

Risk Control

Avoidance

Loss Prevention

Loss Reduction

Separation

Duplication

Diversification

Risk Financing

Transfer

Insurance

Noninsurance Risk transfer

Hold-Harmless Indemnity

Agreements

HedgingRetention

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Transfer

Includes insurance and noninsurance

techniques to shift financial consequences of

loss to another party.

Retention

Involves absorbing loss by generating funds

within the organization to pay for the loss.


• Transfer

– Insurance – certain specified loss exposures

transferred from insured to insurer

– Noninsurance risk transfer – all or part of

financial consequences transferred


Retention – pay for losses with funds generated within

Types of retention

Plannedretention

Unplannedretention

Complete retention

Partialretention

Fundedretention

Unfundedretention

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• Methods to pay/fund for retention

– Pre-loss funding

– Current-loss funding

– Post-loss funding

BREAK TIME

10 minutes –

silent break

this time!

You can submit

questions and we

will answer them

after the break.

#7 Selecting Appropriate RM Techniques

• Select appropriate risk management

techniques that support organization’s

goals

– Quantitative financial considerations

– Qualitative nonfinancial considerations

– Involves two processes

• Forecasting effectiveness on ability to fulfill goals &

costs of techniques

• Define & apply selection criteria to measure

financial & nonfinancial contributions to goals

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• First process

– Forecasting effects of RM techniques – need to

understand loss exposures to be managed &

benefits & costs of each RM technique

• Three forecasts

– Frequency & severity of future losses

– Effects on frequency, severity, & predictability of future

losses

– Costs of these techniques


• Second process

– Review forecasts against other RM techniques

by applying selection criteria in terms of

financial & nonfinancial considerations

• Selected based on least expensive, effectiveness &

practicality


• Financial considerations

– Greatest positive (least negative) effect on

organization’s value or rate of return

– Cash outflows & cash inflows

• Nonfinancial considerations

– RM techniques not generating least rate of

return but support organizations nonfinancial

goals

» Stability of earnings over time

» Legal & social responsibility

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#8 Technical/Managerial Decisions

• Risk Management program

– Must be planned & implemented using every

technique chosen

– Decision that will support given techniques

• Technical decisions

• Managerial decisions

#9 Why RM Program May Be Revised

• Last step in RM decision making process is

monitoring results & revising RM program

– Reasons for revising

• New loss exposures

• Existing loss exposures more significant

• Different RM techniques now more appropriate

#10 Describe Concept of ERM

• ERM – unique, holistic approach to risk

management

– Enhancement to traditional RM

• Traditional RM looks at activities or business lines

in isolation (silos)

• ERM looks across business lines and activities

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COSO –Committee of Sponsoring Organizations

of the Treadway Commission

Framework of 8 interrelated

components to build ERM program



• Theoretical concepts why ERM works

– Interdependency –

• No assumption that risks are unrelated

• Inflation effect

– Correlation – proposition that all risks facing an

organization are either associated to some

degree with each other or they are not

associated


– Portfolio theory – combination of risks having

less volatility (risk) than the sum of the

individual components’ volatility (risk)

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• Reasons to make ERM work

– Help achieve compliance with Sarbanes-Oxley

(SOX)

– New York Stock Exchange & Securities and

Exchange commission

– Rating agencies (S&P or AM Best) use ERM as

criteria to grade an organization

– High correlation between compliance with

government & rating agency requirements &

improved management accountability &

financial transparency


• Competitive Advantage

– Exploit opportunities not identified by

competitors

– More efficient risk management program

STRATEGIC AND ENTERPRISE RISK PRACTICE

• RIMS increased its focus on the evolving role of risk management with the creation of a Strategic and Enterprise Risk Practice in 2010.

• RIMS has created a Strategic Risk Management Development Council.

• RIMS defines SRM as a business discipline that drives deliberation and action regarding uncertainties and untapped opportunities that affect an organization’s strategy and strategy execution.

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• Not fully embraced outside financial

services industry

– Impediments to applying ERM

• Inability to quantify economic benefits

• Corporate culture & turf wars

• Technological deficiency

"The chains of habit are too weak to be

felt until they are too strong to be

broken." - - Samuel Johnson

This quote is also attributed to Warren Buffett – “The chains of habit are

too ‘light’ to be felt until they are too ‘heavy’ to be broken.”

Thank you!

Now it’s time for “Open Mic” Q&A

arm 54 chapter 2 - prepademyprepademy.com › wp-content › uploads › downloads › 2012 › 08...

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