The fourth RIMS benchmark study on cost of risk showed a decline in the overall cost of risk for organisations based in the US and Canada, though the experience of large corporations masked an increase in certain lines.

In the competitive re/insurance market of recent years, there have been opportunities for the smart risk manager to negotiate better coverages and more attractive terms. At the same time, increased management pressure has meant risk managers have been required to justify their decisions more and more. One way of being able to prove to management that risk management performance is up to par is by benchmarking with a peer group, and the Risk and Insurance Management Society (RIMS), in association with Ernst & Young LLP, has been instrumental in providing that very opportunity.

In its latest RIMS Benchmark Survey, covering 2000, several trends became apparent. Firstly, cost of risk has declined for organisations in the US and Canada. Secondly, the insurance market was showing signs of hardening in 2000. Thirdly, enterprise risk management (ERM) is growing in both interest and application. Fourthly, concern over e-business risk is low. And finally, risk managers are facing numerous challenges.

The survey, undertaken over the course of last year and issued in December, showed that in 2000, the cost of risk fell for the second year in a row, and in fact had fallen to the lowest level for over a decade, from $5.20 per to $1,000 in 1999 to $4.83 per $1,000 for 2000. This was driven by lower premiums, and lower property and workers' compensation losses, the study found. This may, however, have signalled the bottom of the cycle, which appeared to be hardening before the events of September 11.

"In spite of participants reporting a lower cost of risk in the year 2000, we have anecdotal evidence that this trend is reversing in 2001," commented Steve Lawrence, national practice leader with Ernst & Young's insurance risk management practice. "There are indications of the market hardening, including a large percentage of premium increases on renewals in the first and second quarter of 2001. We also know that insurers' results will be significantly impacted by the events of September 11."

Nevertheless, the survey identified that during 2000 risk managers enjoyed the lowest average cost of risk for many years. This apparently flies in the face of reported increases in certain lines, and appears to have been influenced by the increased participation in the survey of very large organisations, which by their very nature have a lower cost of risk. The survey respondents included eight organisations with revenues in excess of $50bn, up from only two such businesses in the previous year. "Without these participants, the overall costs would have increased rather than declined," commented the report.

For the largest organisations, several factors impacted the study. "In fact, the majority of the decrease in the overall cost of risk was driven by a combination of three factors related to our largest respondents - those with revenues exceeding $10bn," explained the report. "First, the number of respondents in this revenue-size category increased from 6.6% to 7.2%. Second, the average revenues of those respondents grew 27% (from $21.7bn to $27.7bn). Finally, the cost of risk for this group dropped 9.4%, from $3.83 to $3.47 per $1,000 of revenues."

Not all revenue groups experienced as benign a situation. For 316 repeat respondents, who responded to the survey in both 1999 and 2000, the cost of risk increased by 3.5%. "This experience reflects an overall 5.7% increase in the cost of insurance premiums and a 2% increase in the cost of retained losses for these repeat respondents," explained the report

Cost movements
It was not just the size of respondent that determined the overall drop, however. Certain lines were showing a marked decline in pricing compared to the previous year. Across the survey respondents in the US, property costs dropped 20% from their 1999 levels, to $0.68 per $1,000 of revenues from $0.85, following a 21% drop in the previous year, from a 1998 cost of $1.07 per $1,000 of revenues. At the same time, workers' compensation dropped 8% year-on-year, falling to $1.86 per $1,000 of revenues from $2.03 in 1999. Bucking that trend, liability costs started to show an upwards trend in 2000, up to $2.24 per $1,000 of revenues, a 19% increase on the 1999 level of $1.88, though this was a significant drop on the 1998 cost of $2.43 per $1,000 of revenues. In addition, the survey showed that administrative costs increased by $0.02 for outside services, and the risk management department budget fell by $0.02 per $1,000 of revenues to $0.19 in 2000.

Canadian respondents experienced a decline in cost in all cost categories surveyed: liability costs fell 35%, from $1.08 to $0.70, though this followed a 42% increase the previous year, from $0.76; property costs dropped 40%, to $0.99 from $1.66, though this nowhere near matched the 131% leap from $0.72 the previous year; and other costs declined 5%, to $0.19 from $0.20.

Property
The 20% decline in property costs in the US was influenced by two factors: premiums fell to $0.43 per $1,000 in revenues from $0.52 in 1999, while retained losses dropped to $0.25 in 2000 from $0.33 in 1999, continuing the trend indicated by the $0.53 level in 1998. "Self-assumed property losses often are driven by catastrophes that affect individual respondents," commented the report. "For this reason, the decrease in self-assumed losses can be attributed to the fact that fewer major losses affected respondents in 2000."

For Canadian respondents, the impact of retained losses was even greater, resulting in an overall decline in cost of more than 40%. Retained losses for property decreased 57% in 2000 from 1999's level, though the largest respondents experienced more modest retentions in 2000 than they had in 1999. The survey also identified that premiums dropped 8% in 2000 compared to their 1999 levels.

Looking at the figures for the repeat respondents from both Canada and the US, this drop in property premiums was not a universal phenomenon. In fact, although total property costs per $1,000 of revenues fell by over 10% in 2000 compared to 1999, this decline was solely due to a massive 32% fall in self-assumed losses; premiums increased by about 5% over the period. "While the decrease in retained losses is directionally consistent with the overall respondent group, the increase in premium rates reflects a different trend," noted the report.

Workers' compensation
The 8% drop in US workers' compensation costs between 2000 and 1999 was mainly due to a reduction in retained losses. These fell from $1.56 per $1,000 in revenues to $1.40, while workers' compensation premiums edged slightly down, to $0.46 per $1,000 in revenues from $0.47 in 1999. "It should be noted that this decrease in retained losses erased the increases that took place over the prior two years," commented the report. Again, the downward trend was driven by the presence of more large organisations in the survey sample. Removing the eight largest respondents' workers' compensation costs from the results changed the trend; the weighted average cost changed from $1.86 per $1,000 of revenues to $2.39, reflecting a 15% increase for the rest of the survey respondents.

Repeat respondents displayed a 13% increase in overall workers' compensation costs, broken down into an 11% increase in losses, and a 20% increase in premiums.

Liability
US respondents demonstrated a 19% increase in liability costs, up to $2.24 per $1,000 of revenues in 2000 compared to $1.88 in 1999. Retained losses increased in 2000, while average liability premiums fell 7% to $0.64 per $1,000 of revenues. The fall in average premiums, a continuation of the previous year's trend when they fell to $0.69 from $0.79, is a reflection of the change in industry demographics, according to the report.

By contrast, Canadian respondents reported a 31% drop in liability costs, reflecting a 31% fall in premiums and in self-assumed losses. This brought the Canadian experience in 2000 close to the 1998 cost.

Repeat respondents in both countries show a different trend, however. For the combined group, liability costs increased 9%, including a 12% increase in retained liability losses. Repeat respondents reported an overall increase in liability premiums of 5%.

Challenges ahead
Although the general trend during the period covered by the survey appeared to be one of falling cost of risk, there were definite signs that the market was beginning to turn.

In particular, data from the repeat respondent group showed an overall increase in premiums, and there were signs that some lines were increasingly showing premium hikes over the course of the year.

Risk managers responding to the survey said this hardening market was a significant challenge, and it was leading them to investigate alternative and innovative ways to lower the costs of their insurance programs. "Captives and other alternative risk-financing vehicles, as well as loss control and disaster recovery programs, are definitely gaining attention," commented the report. Respondents noted several other areas as providing challenges.

These included:

  • the mitigation of technology risks;

  • the development of an ERM program;

  • claims management, in particular for D&O and workers' compensation business;

  • integrating risk management programs following merger or acquisition;

  • human resource issues such as staffing; and

  • dealing with organisational change.

    The RIMS 2001 Benchmark Survey is available through www.rims.org, priced at $395 for RIMS members and $495 for non-members.

    By Sarah Goddard
    Sarah Goddard is the editor of Global Reinsurance.