Isn't ERM just another buzzword? Another management fad dreamt up to make us tick more boxes and to impose yet another level of bureaucracy on companies already diverting precious man-hours to deal with regulatory compliance, rating agency demands, best practice tools, corporate governance, accounting protocols etc. Believe that and you're really going to struggle.
So important has ERM become that it is starting to have an impact on rating decisions. On 28 November, Standard & Poor's changed its group outlook for Aspen to “stable” from “negative” citing “enhancements made to enterprise risk management”. According to S&P: “Any insurance organisation without effective risk management faces losing its competitive position or, worse, exposing itself to unacceptable losses.”
ERM is “explicit, organised decision-making under uncertainty,” according to Thomas Hettinger, managing director of EMB America. And nothing makes an environment more uncertain than a major catastrophe. Hurricane Katrina, catastrophe model changes and more stringent rating agency requirements are just some of the forces that have seen ERM evolve from a “nice-to-have” into a “must-have” for the industry. “ERM has been developing for many years but it needs a certain amount of momentum behind it to really take off,” explains Prakash Shimpi, Tillinghast's practice leader with global responsibility for ERM. “Then all of a sudden it's on everyone's radar.”
According to Tillinghast's most recent survey of risk and capital management practices among insurers, 60% of respondents explicitly factor risk management considerations into their decision-making, almost half employ a chief risk officer (CRO) and an impressive 92% report risk to their board of directors on at least a yearly basis (up from 84% in 2004).
ERM took off much earlier in banking than insurance, and a major boost there were high-profile corporate scandals, including Enron and Worldcom. Suddenly, every organisation had to have a CRO and effective risk evaluation practices became the order of the day in the face of increased scrutiny. “It was a cultural shift”, explains Shimpi. He argues that Katrina was a major driver of a cultural shift within the insurance industry. “Katrina certainly was a wake-up call. It showed that those companies that really looked at their exposures were in a better position.”
But impending regulation is also a great motivator. In Europe, anticipation of Solvency II has led many insurers and reinsurers to make significant improvements to their risk management capabilities. Says Shimpi: “Solvency II speaks to all of the issues we're talking about.” To discover more, Global Reinsurance invited 12 industry experts – including rating agency analysts, regulators, CROs, actuaries and consultants – to a roundtable to discuss how ERM techniques can help companies achieve compliance with the proposed Solvency II regime. The transcript of the discussion will be sent out to readers as a special supplement with the February edition of GR.
So is ERM a panacea that holds all the answers? Yes it provides valuable insight into your business, will help you comply with the next onslaught of directives and prepare you better for the next big catastrophe. But it's not magic – it's just good business sense. “The philosophy is: ‘if I can understand my business better, have my finger on the pulse, know what risks I'm taking on and get everyone in the organisation involved, I should be able to succeed on the basis of making better decisions,'” clarifies Shimpi.
Ten years from now there will be a new set of challenges facing the industry. And according to our special focus on emerging risks we will also be dealing with a much riskier world. Climate change, bird flu and the potential harmful effects of nanotechnology are just some of the perils likely to challenge the industry in the years to come. If insurers and reinsurers can master their own internal risks today, surely they will be better placed to take on their clients' risks tomorrow.