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Rmin 4000 ch 3

Risk Management Process that identifies loss exposures faced by an organization and selects the most appropriate techniques for treating such exposures
Loss Exposure: Any situation or circumstance in which a loss is possible, regardless of whether a loss actually occurs
Risk Management Process: 1. Identify loss exposures. 2. Measure and analyze the loss exposures. 3. Consider and select the appropriate risk management techniques. 4. Implement and monitor the chosen techniques.
1. Identify loss exposures. What assets need to be protected? What perils are those assets exposed to? Sources: loss history, financial statements, other firms/competitors, risk management consultants, surveys/questionnaires, inspections, contract analysis, flowcharts
2. Measure and analyze the loss exposures. Estimate the frequency and severity of loss exposures. Rank loss exposures according to relative importance. Severity is more important.
Maximum Possible Loss the worst loss that could happen to the firm during its lifetime.
Probable Maximum Loss the worst loss that is likely to happen.
Risk Control: techniques that reduce the frequency or severity of losses. - Avoidance, loss prevention, loss reduction, duplication, separation, diversification
Risk financing: techniques that provide for the funding of losses. - Retention, noninsurance transfer, insurance
4. Implement and monitor the chosen techniques. Risk management policy statement: Outlines: risk management objectives of the firm, company policy with respect to treatment of loss exposures. Provides standards, requires active cooperation from other departments in the firm
Avoidance loss exposure is never acquired (proactive), or an existing loss exposure is abandoned (reactive). Advantage: frequency is reduced to 0. Disadvantage: may not be possible, has an opportunity cost, avoiding one loss exposure may create another
Loss prevention measures that reduce the frequency of a particular loss. Does not completely eliminate risk
Loss reduction measures that reduce the severity of a loss. No effect on the frequency of a loss
Duplication having back-ups or copies of important documents or property available in case a loss occurs. Can affect severity and frequency
Separation physically dividing the assets exposed to loss to minimize the harm from a single event. Ex: firewalls in buildings, companies with multiple warehouses
Diversification reducing the chance of loss by spreading the loss exposure across parties (customers, suppliers), securities (stocks, bonds), or transactions. Ex: Multiple suppliers, sources, products, stocks
Retention (Deductible) a firm or individual retains part or all of losses that can occur from a given risk (keep the loss to yourself)
Retention level the dollar amount of losses that the individual/firm will retain (have to pay)
When should risk be retained? it is difficult to insure, Worst possible losses are not serious (low severity), Losses are predictable (high frequency)
Retention Advantages: Save on loss costs, Save on expenses, Encourage loss prevention, Increase cash flow,
Retention Disadvantages: Possible higher losses, Possible higher expenses, Possible higher taxes
Unfunded Retention: unplanned, low cost and frequency, don’t have money set aside
Funded Reserve insurance, high frequency low severity, have money set aside for it
Captive Insurer: insurer owned by a parent firm for the purpose of insuring the parent firm's loss exposures (only purpose is to insures the main company's loss, keep in-house insurance). Single-parent captive is owned by only one parent.
Captive Insurer Advantages: help when insurance is expensive or difficult to obtain. Lower costs: No agent or broker commissions, Interest earned on invested premium. Easier access to reinsurance market, lower tax rate, favorable regulatory environment
Self-Insurance: a special form of planned retention by which part or all of a given loss exposure is retained by the firm, up to a certain amount (funded reserve)
Risk Retention Group group captive that can write any type of specific liability coverage except employers' liability, workers compensation. Collect money from a group of people, and pays out if someone needs it Ex: medical liability from doctors being sued
Noninsurance Transfer methods other than insurance by which a pure risk and its potential financial consequences are transferred to another party. Ex: contracts, leases, hold-harmless agreements Ex: bungee jumping life waver, housing contracts
Noninsurance Transfer Advantages: Can transfer some losses that are not insurable. Less expensive, Can transfer loss to someone who is in a better position to control losses, Sometimes insurance don't cover certain losses
Noninsurance Transfer Disadvantages: Contract language may be ambiguous, so transfer may fail. If the other party fails to pay, firm is still responsible for the loss. Insurers may not give credit for transfers
Insurance appropriate for low-frequency, high-severity loss exposures. 1. Selection of insurance coverages and an insurer. 2. Negotiation of terms. 3. Dissemination of information concerning insurance coverages. 4. Periodic review of the insurance program
Excess insurance: A plan in which the insurer pays only if the actual loss exceeds the amount a firm has decided to retain (coverage beyond the umbrella max insurance payout)
Manuscript policy A policy specially tailored for the firm
Insurance Advantages: Firm is indemnified for losses; can continue to operate. Uncertainty is reduced. Firm may receive valuable risk management services. Premiums are income-tax deductible
Insurance Disadvantages: Premiums may be costly. Negotiation of contracts take time and effort. The risk manager may become lax in exercising loss control because of the existence of insurance
Hard Market insurer profitability is declining, underwriting standards are tightened, premiums increase, and insurance is hard to obtain. Might have to increase retention, less coverage
Soft Market Profitability is improving, standards are loosened, premiums decline, and insurance become easier to obtain. Extra coverage, more funded reserve, lower retention.
Created by: aychan
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