Treisch12e_Ch22

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Trieschmann, Hoyt & Sommer

Risk Management and the Insurance Industry

Chapter 22

2005, ThomsonSouth!"estern


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Chapter #$%ecties

' Indicate the si(e o) the insurance industry' *escri$e ho+ the insurance $usiness is diided $et+een

the priate and pu$ic sectors' -.pain +hy persona insurance has a arger premium

oume than property insurance' Identi)y and e.pain the di))erences $et+een stockcompanies, mutua companies, /oyds associations, andreciproca insurers

' Indicate +hich types o) insurance hae the argest oume

' -.pain ho+ insurance guaranty )unds operate' *escri$e ho+ insurance is distri$uted )rom insurers to

consumers and ist the di))erences $et+een types o)agents and $rokers in insurance

' *escri$ed the go$a nature o) risk management and the

insurance industry


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The ied o) Insurance

' Insurance coerages can $e diided into ariousopposing categories3 4ersona i)e and heath6 s property $uidings,

homes, autos6

3 7oernment )ood insurance6 s priate productia$iity6

3 Inountary Socia Security6 s ountary )ireinsurance6

' The categories are not mutuay e.cusie andthey oerap

' igure 22!8 depicts the ma%or cassi)ications o)insurance and +hat they hae in common +ith

each other


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igure 22!8: Ma%or Cassi)ications

o) Insurance


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4ersona Coerages

' Those reated directy to the indiidua

' The risk they coer is the possi$iity thatsome peri may interrupt the indiiduas

income, such as3 *eath, accidents and sickness,

unempoyment, and od age

3Insurance is +ritten on each' 4riate insurers are actie in proiding insurance

)or death, accidents and sickness, and od age

' 7oernmenta units are actie in a categories


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4roperty Coerages

' *irected against peris that may destroy property' 4roperty insurance is distinguished )rom

persona insurance3 4ersona insurance coers peris that may preent

one )rom earning money +ith +hich to ac


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4riate and 4u$ic Insurance

' 4riate insurance consists o) a types o)coerage +ritten $y priatey organi(edgroups

3 Consists o) associations o) indiiduas,stockhoders, poicyhoders, or somecom$ination o) these

' 4u$ic insurance incudes a types o)coerage +ritten $y goernment $odies oroperated $y priate agencies undergoernment superision


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?ountary and Inountary

Coerages

' Most priate insurance comes under theru$ric o) ountary coerage

' @ ma%or part o) goernment insurance is

inountary coerage3 It is re


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?ountary and Inountary

coerages

' Ta$e 22!8 sho+s the importance o)

priate passenger auto insurance

' Ta$e 22 !2 sho+s that 44@ made up 11B8

percent o) tota premiums in 8A>0

athough there has $een a reatie decine

since 2000

3 *ue to the dramatic increases in commercia

ines insurance premiums during the hard

insurance market


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Ta$e 22 !8: et 4remium "ritten $y /ine

o) 4roperty /ia$iity Insurance32002


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Ta$e 22 !2: 4riate 4assenger @uto

as a 4ercentage o) Tota 4!/ 4remium


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Mutua Companies

' #rgani(ed under the insurance code o) each state as anonpro)it corporation o+ned $y the poicyhoders

' Has no stockhoders

' o pro)its are made

3 Eecause any e.cess income is returned to the poicyhoder!o+nersas diidends

' #r is used to reduce premiums, or retained to )inance )uture gro+th

' The company is managed $y a $oard o) directors eected $ypoicyhoders

' Many types o) mutua organi(ations e.ist and operate underdi))erent a+s and +ith di))erent types o) $usinesses


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Cass Mutuas

' #perate in ony a particuar cass o) insurance3 Such as )arm and property, um$er mis, )actories, or

hard+are risks

' arm mutuas

3 Speciai(e in )arm property insurance3 Insure a arge portion o) )arm property in some states,

primariy $ecause o) the speciai(ed nature o) the risks

' actory mutuas

3 Speciai(e in insuring )actories3 4ace emphasis on oss contro3 7eneray do not soicit sma risks due to the reatiey

high cost o) inspection, engineering serices, sureys,and consutations that are proided $y the organi(ation

in an attempt to preent osses $e)ore they occur


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7enera "riting Mutuas

' #ne that accepts many types o) insureds' Re


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raterna Carriers

' *esigned as a nonpro)it corporation, society, or ountaryassociation, +ithout capita stock, organi(ed and carriedon soey )or the $ene)it o) its mem$ers and their$ene)iciaries

' Hae a odge system +ith a rituaistic )orm o) operationand a representatie )orm o) goernment that proides)or the payment o) $ene)its in accordance +ith de)initeproisions in the a+

' @s charita$e, $eneoent associations, they usuay aree.empt )rom ta.ation

' Some o) the argest mutua insurers hae conerted tostock )irms incuding3 Metropoitan, 4rudentia, and Fohn Hancock


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Reciprocas

' Sometimes caed an interinsurance e.change

' /ike a mutua in that $oth are )ormed )or the purpose o)making the insurance contract aaia$e to poicyhodersat cost

' Easic di))erences e.ist $et+een the ega contro andcapita re


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/oyds @ssociations

' @n organi(ation o) indiiduas %oined together tounder+rite risks on a cooperatie $asis

' -ach mem$er assumes risks personay and does not$ind the organi(ation )or these o$igations

' -ach inestor is indiiduay ia$e )or osses on the risksassumed to the )uest e.tent o) persona assets3 Dness the ia$iity is intentionay imited

' Simiar to reciprocas in that each under+riter is an

insurer3 Ho+eer, a reciproca is composed o) indiiduas +ho are $othinsurers and insureds at the same time

' "hereas a /oyds association is a proprietary organi(ationoperated )or pro)it


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/ondon /oyds

' /oyds started in 8;>> in /ondon as an in)ormagroup o) merchants taking marine risks

' Their operations are no+ +ord+ide3 #perate e.tensiey in the Dnited States argey in the

surpus ine market' Consist o) risks that domestic insurers hae re%ected )or one

reason or another

' In 2009 neary ;; under+riting syndicatese.isted3 7roups o) names that com$ine their resources and

empoyee manager' "ho determines +hich risks to insure


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Reatie Importance o) 4riate

Insurers

' Thousands o) insurance companiesoperate in the Dnited States

' Ho+eer, most o) that $usiness is done $y

reatiey )e+ insurers' The eading states )or property!ia$iity

insurers are ?ermont, Te.as, e+ Gork,

and 4ennsyania3 or i)e insurers the eading states are@ri(ona, Te.as, and e+ Gork


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Reatie Importance o) 4riate

Insurers' Stock companies tend to dominate as under+riters o)

arious ines o) property!ia$iity insurance' Mutuas en%oy their greatest markets in the )ieds o)

persona automo$ie and +orkers compensationinsurance

' /oyds and reciprocas account )or ony a sma share o)the tota property!ia$iity insurance market

' In the )ied o) i)e and heath insurance, there are morethan t+ee times the num$er o) stock companies thanmutuas

' In property!ia$iity insurance, mutua companies haegro+n more rapidy than stock insurers3 Mutuas hae tended to speciai(e in types o) insurance )or

+hich the markets hae $een gro+ing most rapidy3 Mutuas hae used cost!cutting methods that generay hae

made the product aaia$e at o+er rates


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Insoency o) Insurers

' Insurance institutions are not $acked $y a)edera agency in the same +ay $ank depositsare protected

' The danger o) oss )rom insoent property!ia$iity insurers has $een recogni(ed $y theesta$ishment in a states o) guaranty )unds3 These )unds must reim$urse the poicyhoders )or any

osses caused $y $ankrupt insurers' Su$%ect to stated deducti$es and ma.imum oss imits that

ary )rom state to state

' The )unds are supported $y assessments against otherinsurers operating in the same state


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Insoency o) Insurers

' ?arious reasons e.ist )or property!ia$iity

insoencies incuding

3 Inade


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-mpoyment in Insurance

' The insurance industry empoyed

appro.imatey 2,222,000 persons in 2002

' Most o) the %o$s are saaried positions' e+er than 81 are in marketing or

distri$ution

3 This contradicts the )re


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#+nership o) Insurance

' *ata )rom the Insurance In)ormation Institute

reeas that the property!ia$iity insurance

industry has $een a$e to reach most DBSB

citi(ens +ho o+n homes or autos' Roughy A5 percent o) homeo+ners indicated

that they had purchased property or ia$iity

insurance on their homes and possessions

' Some type o) i)e insurance is o+ned $y

appro.imatey =5 percent o) @mericans


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*irect *istri$ution in /i)e Insurance

' /i)e insurance is distri$uted in t+o main +ays

3 Saaried group insurance representaties

3 Indiidua insurance agents +ho usuay +ork on

commission' /i)e insurance is aso sod $y direct contact +ith

the consumers in adertising, mai order, or the

internet

3 The insurer maintains a one!on!one reationship +iththe insured

' Independent intermediaries usuay are not inoed


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7roup Insurance

' /i)e insurers o))er many o) their productson a group $asis3 Dnder contracts coering groups o) persons

rather than indiiduas' Customers )rom group coerage are

generay $usiness )irms

' 4ersons empoyed to se and serice$usinesses usuay receie a saary and$onus


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Indiidua @gents

' 4oicies sod to indiiduas are usuayhanded $y persons kno+n as agents,under+riters, or )inancia panners

' The agent or under+riter contacts theutimate consumer and reports directy tothe insurer or intermediary +ho in turnreports to the insurer

' The authority o) the under+riter or agent isimited


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Indiidua @gents

' @ genera agent in i)e insurance is an indiiduaempoyed to hire, train, and superise agents ato+er ees3 Sometimes coects premiums and remits them to the

insurers home o))ice3 ot an independent intermediary in the sense that atypica +hoesaer is

' 7enera agent does not e.ercise )ina contro oer theissuance terms o) the contract

3 The company normay is not $ound $y the genera agent inputting a contract in )orce

' The genera agent e.ercises no contro oer the amount o)premium, has no inestment in inentory, does not o+n any$usiness +ritten, and has no ega right to e.ercise anycontro oer poicyhoders once he or she eaes theempoyment o) the company


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Reasons )or *irect *istri$ution in

/i)e Insurance

' The system o) direct distri$ution hasgro+n up in i)e insurance $ecause o)seera $asic )actors

3 The insurers need to maintain cose controoer the poicy product

3 The insurers need to e.ercise contro oersaes promotion and competition

3 The in)re


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The Changing -nironment in the

/i)e Insurance Company' rom the 8A50s to 8A>= indiidua i)e insurance ne+

premiums maintained respecta$e gro+th greater than,or e


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*irect "riting in 4roperty!/ia$iity

Insurance

' In some ines, independent intermediaries

hae $een eiminated

3 Contract is marketed directy )rom the insurer

to the insured through either e.cusie agentsor empoyees +ho +ork on saary and

commission

' They soicit prospects, take care o) paper+ork, and

sere as the insurers direct contact +ith the

insured


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Insurance

' @n e.cusie agent o) a direct +riter represents

ony one insurer

3 *oes not o+n $usiness +ritten and generay does not

hande oss caims or coect premiums3 Receies a commission $ut it is a o+er percentage

than the commissions ao+ed independent agents

3 The main tasks o) the e.cusie agent are to

' Se ne+ $usiness' eep in contact +ith customers

' Sered as a communications ink $et+een the insurer and

the insured


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Insurance

' *irect +riters hae their greatest oume in the

)ied o) automo$ie insurance

' They hae $een a$e to se insurance at o+er

cost to the )ina consumer' Innoations hae occurred in automo$ie

insurance incuding

3 Continuous poicies, o+er agents commissions,

direct $iing )rom the insurer to the customer and

speciai(ed ad%usting o))ices to hande caims


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Indirect *istri$ution @merican

@gency System6' The insurance is not sod directy $y the insured

to the poicyhoder $ut rather is sod through asystem o) intermediaries3 Compara$e to the +hoesaer!retaier system in

tangi$e goods marketing' The independent agent is an autonomous, oca

intermediary in the property insurance $usiness3@s the retaier,J the independent agent deas +ith the

)ina consumer o) insurance

3 The independent agent usuay represents 80 to 10 ormore separate insurers and has authority to $indthese insurers on most o) the contracts +ritten


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Erokers s @gents

' Erokers operate in a manner simiar to ocaagents3 /egay $rokers represent the consumer, not the

insurer

' I) the customer asks a $roker to o$taininsurance, the $roker must contact +ith theinsurer $e)ore coerage is $inding

' @gents may $ind coerage immediatey3 Eecause they are the ega representaties o) the

insurer

3 Many $rokers aso hod agency contracts


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Is the @merican @gency System

*oomedK' Those insurers and their agents committed to the

traditiona ong channe o) distri$ution hae $ecomeconcerned oer the )uture o) their $usiness3 Since direct +riters hae $een gro+ing in market share unti

recenty

' Ta$e 22!1 sho+s that +hie direct +riters hae taken asigni)icant portion o) the persona ines market3 Insurers using independent agents hae maintained their

dominance in commercia insurance ines

' @though the oume o) $usiness undertaken $y ocaindependent agents is usuay reatiey sma this is notthe case )or nationa $rokers3 Ta$e 22!9 sho+s the name and si(e o) the )ie argest $rokers


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Ta$e 22!1: Market Share L6 $y

*istri$ution System


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Ta$e 22!9: ie /argest Erokers

in the "ord, 2002


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#utook )or the @gency System and

*irect "riting' *irect +riting has gro+n )astest in ines )or +hich there is

a mass market )or a standardi(ed product that re


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*irect Response

' Some insurance is sod +ithout agents or otherintermediaries through the direct responsetechni


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Mass Merchandising

' @ method o) distri$uting property!ia$iity insurancedirecty to consumers through empoyer payrodeduction

' 4remiums are usuay cheaper $ecause o) ariouseconomies in mass merchandising

' -mpoyers do not normay contri$ute to the premium on$eha) o) empoyees

' They hae not $ecome e.tremey popuar3 Independent agents hae generay opposed the adoption o)

such pans

' Eecause many agents depend on indiiduay issued persona!ines$usiness )or their ieihood

3 The eement o) aderse seection e.ists' "hich has o)ten produced poor under+riting e.periences


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7o$ai(ation o) Risk Management

and the Insurance Industry' @ go$ai(ation o) $usiness has occurred due to

3@dances in technoogy and improement intransportation

3 Reduced trade $arriers in many countries

' irms and organi(ations that do $usinessinternationay )ace di))erences in their osse.posure and in the risk!handing methods theyuse

'7o$ai(ation and di))erences in )uture gro+thpotentia hae ed many insurers to reeauatethe )ocus o) their $usiness and to considere.pansion oerseas


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7o$a Risk Management

' @most a organi(ations hae some empoyees

+ho trae oerseas

' These actiities can gie rise to uni


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7o$a Risk -.posure

' Some kinds o) risk e.posure )aced $y internationa )irmsare the same as those )aced $y )irms that do $usinessony in their home country3 or e.ampe, )ire, natura disasters, or damage to goods in

transit

' Many o) these e.posures can $e atered in $oth)re


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7o$a Risk -.posure

' 7o$a )irms aso )ace uni


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7o$a Insurance 4rograms

' @ go$a )irm can rey primariy on nonadmitted

insurance on a +ord+ide $asis

3 Euy insurance in their home country and arrange )or

coerage +hereer they do $usiness' -asy to administer and eaes the decision!making in the homecountry

' *isadantages incude

3 It may $e iega in some countries

3 aored ta. treatment o) insurance premiums and oss paymentsmay $e ost

3 The insured does not hae a oca insurer to proide caims and

other serices oerseas


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' @ go$a )irm can eae the insurance programdesign and the purchase o) insurance to the)irms management in each o) the countries in+hich it does $usiness3 Has the adantage o) meeting any oca a+s

regarding admitted insurance and compusorycoerage re


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' @ go$a )irm can use a go$a controed masterprogram3@ go$a insurer +orks through its o+n su$sidiaries or

partner insurers in each o) the countries in +hich the

insured corporation does $usiness to proide uni)iedcoerage

3 "i inoe ocay admitted su$sidiaries or partners+hich assures that the program meets the a+s andre


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7o$ai(ation o) the Insurance

Eusiness' Ta$e 22!5 proides market share data )or the si. argest

insurance markets in the +ord

' 4erhaps the $iggest drier o) the increasing internationa)ocus o) the insurance $usiness is

3 The go$ai(ation o) the )irms that $uy insurance and purchaserisk management serices )rom insurers

' Mutinationa )irms are $ecoming increasingysophisticated regarding risk management practices3 They demand the a$iity to com$ine and integrate their risk

management programs on a go$a $asis3 They increasingy demand high


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Ta$e 22!5: 4ercentage Share o)

"ord Insurance Market, 2002

7 $ i ti ) th I


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7o$ai(ation o) the Insurance

Eusiness

' @n additiona important )actor in the

e.pansion o) DBSB and -uropean insurers

oerseas

3 The recognition that insurance markets inindustria countries do not o))er the same

opportunities )or gro+th in the ne.t ten years

3 The emerging economies in eastern -uropeand the 4aci)ic Rim o))er dou$e!digit gro+th

potentia in insurance demand

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